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How hefty debt and falling sales put Tops on financial edge

David Robinson

Pull into a Tops Markets parking lot and you'll see plenty of cars.

Walk inside, and the shelves are full. Shoppers are lined up waiting to check out.

It's not the picture you'd expect at a company that analysts say is stretched to its financial limit and Bloomberg News reports could be on the verge of filing for a bankruptcy reorganization.

How can a seemingly solid business, with a strong market share in the Buffalo Niagara region and a solid presence across upstate New York, be in such financial trouble?

One word: Debt.

Way too much debt.

So much debt – more than $720 million of it – that Tops has to pay more than $80 million a year just in interest, according to filings the company made with the Securities and Exchange Commission as recently as last June.

That's $80 million that comes off the top, even before Tops starts to pay its employees, pay its rent, pay its heat and light bills or pay for the food and other items that go on its shelves.

When Tops CEO Frank Curci led a group to buy the supermarket chain from its private-equity owners four years ago, it already had plenty of debt. Its former owners, Morgan Stanley Private Equity, even piled hundreds of millions of dollars in additional debt on the company so it essentially could pay itself $375 million in dividends. Tops' debt isn't cheap, either. It carries interest rates between 8 and 9 percent.

But Curci and his team had a plan they thought would work: Make a few key acquisitions in new markets. Focus on adding smaller stores in rural communities where it was the only supermarket in town. And keep making modest investments to spruce up its existing stores.

If Curci's plan worked, Tops' sales would rise, making the debt payments easier to handle.

"You're counting on growth," said Edward Hutton, a Niagara University business professor and a former Buffalo banker. "You're always hoping that growth is going to save you."

So far, it hasn't. In fact, the opposite has happened.

In its main markets, like the Buffalo Niagara region, competition has intensified, with new niche players like Trader Joe's and Whole Foods coming into the market and Dash's expanding. Discount grocers like Save-A-Lot and Aldi have gained sway with budget-conscious consumers whose wages have barely kept pace with inflation since the recession ended. And there's the perpetual competition with Wegmans and Walmart.

10 questions about Tops and its financial situation

In a market where the population is stagnant, more competition means the only way to increase market share is to take it away from someone else. For Tops, that meant more sales, more discounts – all things that further cut into revenue.

At the same time, food prices, especially on meat and dairy products, have dropped. That cuts into revenues and squeezing profit margins in an industry where profits usually are measured in pennies on the dollar.

Tops' sales from stores open for at least a year – a key measure of how strong a retailer's business is – dropped for four straight years from 2013 to 2016. We don't know what happened in 2017 because a debt restructuring last year meant that Tops no longer has to report its financial statements. But analysts don't think business got any better last year.

All the while, Tops still had to make its debt payments. Its weakening financial condition made it harder to come up with the money.

"This is almost like buying a house and not being able to make the payments on the house," Hutton said.

What happens next isn't clear.

Tops last month hired an investment firm, Evercore, to help it restructure its suffocating debt. It's possible that Tops will be able to work out a deal with its bond holders. If it can't, it's also possible that Tops will file for bankruptcy to take advantage of provisions in the bankruptcy code that make it easier to void or restructure some of its financial contracts and obligations.

A bankruptcy, Hutton said, "basically cleans the slate."


For Tops, the last few years have been an uphill fight.

To combat the challenging market, Tops ramped up its promotions in late 2016 – a move that Tops CEO Curci said last spring had led to "solid market share gains."

But sales weaken profit margins. So Tops ratcheted down its promotions early last year, only to step them up again when its market share lagged and traffic dropped, company officials said last year.

"A fervent battle for market share has resulted in intense price competition and heightened promotional activity," said Declan Gargan, a credit analyst at Standard & Poor's Corp. in a report last month.

With money tight, Tops scaled back on the expansion plans that had seen it acquire a half-dozen stores in the Hudson Valley and eastern Massachusetts in 2016. The only deal Tops did last year was to buy and rebrand a small grocery store in Angola.

To drive up sales, Tops put more of a focus on its growing line of organic and natural products, which had the added advantage of being more profitable for the company.

Tops also moved to energize its store-brand products, relabeling existing ones and adding hundreds of additional items, including new organic offerings. It was no small undertaking, since Tops gets about 22 percent of its revenue from private-label products.

Those sales are more lucrative, too, with Tops generating an additional 7 cents to 8 cents in gross profit for every dollar of private-label products it sells, compared with national-branded items,  said John Persons, Tops' president, during its last conference call in June 2017.

But in a painful example of how the drop in milk, egg and cheese prices were hurting the business, Tops last spring was selling the same number of private-label items as it had the year before, but because their price had come down, the revenue Tops generated from those sales fell by 1.5 percent.

At the same time, the stiff competition in the region, from its main rival, Wegmans, as well as low-price chains like Walmart and discounters like Aldi and Save-A-Lot, meant that Tops had little flexibility to raise prices.

To make matters worse, the higher minimum wage in New York added about $8 million to Tops' labor costs last year. It absorbed another similar-sized increase in the minimum wage at the beginning of this year.

"Rising labor costs have pushed up operating expense," Gargan said.

Put it all together, and Tops is on the financial brink.

"The company's weak financial position will continue to constrain its ability to compete effectively against its larger, well-capitalized peers," Gargan said.

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