When the Music Stops

          RUMORS OF IMPENDING bankruptcy have dogged the Twin Cities-based Musicland for more than a year now, spurred on by the plummeting value of the company's stocks and bonds. Last week, the nation's largest music retailer dodged another financial bullet when a group of banks agreed to waive existing covenants and allow the beleaguered corporation more time to dig its way out of hundreds of millions of dollars in debt. But unless the nearly 1,500 Musicland retailers produce exceptionally strong sales this holiday season, many analysts believe the new bank agreement will merely postpone a descent into Chapter 11.

          Musicland's money woes stem largely from its faltering response to changes in the marketplace. In the '90s, Musicland's mall outlets have seen customers siphoned away by superstores such as Best Buy and Circuit City, which routinely make deep discounts in new CD and video releases in order to draw people into their stores. Belatedly recognizing the trend, Musicland answered with its own chain of superstores, called Media Play, which sold a wide variety of music, video, book, computer, and electronic products.

          In April 1994, shortly after the successful launch of the first Media Play store in Rockford, Illinois, Wall Street was bullish on Musicland, driving the price of its stock up to $22 a share. What they saw was a large retailer with plenty of cash flow, similar to the bookseller Barnes & Noble, which was profitably making the transition from small mall outlets to large multimedia stores.

          But Media Play rapidly lost momentum and became a disastrous drag on corporate finances, prompting Forbes magazine to call the stores a "megaflop." Of the 96 capital-intensive stores opened thus far, 11 are already closed, with up to two dozen more expected to shut down in 1997. "They tried growing too fast and in some cases didn't pick the best locations," says Tom Emmel, a research analyst for the local brokerage firm John G. Kinnard & Co.

          Craig Bibb, a first vice president and music retailing analyst for Paine Webber in New York, believes Musicland's problems are more fundamental. "They obviously don't know what the hell they are doing outside of the malls," says Bibb. "In terms of driving traffic into the stores, they don't understand the product or the customer." Bibb, who once touted Musicland stock, is now the corporation's most outspoken critic, especially with respect to CEO Jack Eugster and other members of the management team. Among their sins, according to Bibb: failing to see how Minnesota-based Best Buy "taught the industry a new way of selling right in [Musicland's] own backyard"; opening Media Plays in different markets without altering their marketing strategy; and failing to counter the lower prices of stores like Best Buy with vastly superior inventory. "Even if Musicland files Chapter 11," he concludes, "they'll keep sliding if they keep the same management."

          This week, the company's stock began trading at $1.50 a share, far below its initial public offering at $14.50 in February 1992. And despite assurances from Eugster and other officials last month that the corporation was not a candidate for bankruptcy, Musicland's high-yield bonds fell to 30 cents on the dollar in September.

          "There have been six times in the past 14 months when there has been a rumor that we are going Chapter 11 and we are still not in bankruptcy," says Marcia Appel, Musicland's vice president of marketing and communications. Appel says the flexibility gained in last week's agreement with the bankers--which allows the corporation to carry as much as $275 million in debt through March 30, 1997, rather than bringing it down to $25 million for at least one day from December through the middle of February--is just one hopeful sign for the company. The record labels have supported their largest retailer by implementing a minimum pricing policy for their product (which explains the recent price increases at discount outlets like Best Buy). Inventory management is said to be improving with the start-up of a new distribution center in Franklin, Indiana. (The old Minneapolis center will close in January, cutting or displacing 180 jobs.)

          "The industry is going through a consolidation phase that is frighteningly similar to what happened in the late '70s and early '80s--that's how we acquired Sam Goody," Appel says. "With the bank agreement, we can focus our energy on marketing our stores instead of worrying about meeting financial obligations. The effort we want is to be disciplined and bold at the same time, so we can ride this out."

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