Credit

The Credit Time Bomb

Amazon's woes raise a critical question: When do suppliers stop shipping products to cash-strapped companies?
Joseph RadiganMarch 2, 2001

Should credit managers at suppliers continue to ship products to a company as its financial picture, and the economy, worsens? At what point should suppliers cut off shipping goods?

These were the big questions debated at a forum earlier this week at the New York Society of Security Analysts, moderated by Gary Lutin, a New York investment banker who is co-chair of the NYSSA’s Committee for Corporate Governance and Shareholder Rights.

While the attendees convened to discuss the viability of Amazon.com, the issue actually haunts most cash-strapped retailers, especially those that operate on the Internet.

Generally, suppliers feel tremendous pressure to set aside their concerns about a retailer’s financial health, at least for the short term, according to Jerry Flum, chairman and CEO of CreditRiskMonitor.com, a Web site that provides news, real-time financial data, and credit histories on public and private companies.

Flum told the audience that credit managers who supply traditional retailers tend to continue selling to companies even as they slip ever closer toward bankruptcy.

“With a brick-and-mortar retailer, there’s still a store that’s going to stock its shelves even after a bankruptcy filing,” Flum said. It’s common for the purchasing managers at a troubled retailer to threaten suppliers with the loss of precious shelf space if they don’t continue to ship their goods despite the retailer’s financial problems.

The wild card is whether that reasoning will compel suppliers to keep the lines of distribution open to a troubled Internet retailer, which has no physical stores and only shelf space. The logic hasn’t worked for some E-tailers like eToys.com, which filed for bankruptcy in February.

After a bankruptcy, “we know there’s a residual business with a retail store, we don’t know if there’s a residual business with an online retailer,” Flum said.

Still, Amazon may be able to put off its day of reckoning for some time. Credit managers often have to take a back seat to sales executives who have quotas to meet and will pressure both the credit manager and the senior executives to keep products flowing to a big account.

That said, no credit manager wants to be the last one to send a shipment to a troubled retailer just before it makes the trip to bankruptcy court. After all, credit managers read the same newspapers as everyone else and have the same concerns about a weakening economy, Flum noted.

At this point, there’s no evidence that any key suppliers have cut back their shipments to Amazon, although Flum said a high percentage of the traffic at his Web site is for managers reviewing Amazon’s financial statements, which suggests that the concern about the company’s health is building.

Michael Glick, director of corporate credit for CreditRiskMonitor.com said that so far, Amazon’s traditional practice of keeping bankers, analysts, and investors informed about its financial condition is serving it well. Another company in a similar position might find itself cut off from suppliers and lenders if it were not working so hard at keeping the communications open.

The wild card for Amazon is that as the economy continues to weaken, suppliers will feel pressure from their lenders. That risks creating a chain reaction that ultimately cuts off the company’s access to goods for its Web site.

Flum said he was speaking from personal experience. A 60-year-old former securities analyst and hedge fund manager on Wall Street, Flum once ran a consumer electronics company that failed.

Flum said Amazon is in a position that no retailer ever wants to be in: As the working capital continues to erode, control of the company’s day- to-day access to inventory and business credit is shifting from management to external suppliers. The instant that suppliers sense their own financial health is at risk, they’ll stop extending credit to Amazon.

The pro-Amazon argument was presented by Holly Gustafson, a securities analyst at Legg Mason Wood Walker.

Gustafson said Amazon’s business was still growing according to plan, and that some steps the company had taken in the past year, such as the creation of the Amazon Commerce Network, had helped it reduce its exposure to excess inventory. In the Commerce Network, which was launched with a partnership with Toys R Us, Amazon features products on its Web site that are stocked in its partners’ warehouses.

Unfortunately, none of this prevents Amazon’s financial condition from worsening if the economy continues to sour.

Doubts about the firm’s soundness are almost as old as Amazon itself. But through bull tech stock market of 1999, Amazon seemed to have ready access to the capital markets to offset its cash burn rate. But everything has changed in the last 12 months, and the company’s working capital position has weakened.

At the end of December, the company had $386 million in working capital, down from $504 million at the end of September, according to Ravi Suria, the Lehman Brothers bond analyst who has been the firm’s most visible critic since last June.

In a Feb. 5 report, Suria wrote that, “We believe that the low levels of working capital could trigger a creditor squeeze in the second half of the year.”

Until Amazon’s working capital picture improves, the concerns about its prospects will hang over the company.