Mac Frugals Bargains - Closeouts Inc.

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Mac Frugals Bargains - Closeouts Inc.

2430 E. Del Amo Boulevard
Dominguez, California 90220-6306
U.S.A.
(310) 537-9220
Fax: (310) 632-4477

Public Company
Incorporated: 1953 as Freight Outlet
Employees: 8,200
Sales: $704.9 million (1996)
Stock Exchanges: New York

SICs: 5710 Furniture & Homefurnishings Stores; 5331 Variety Stores

When many manufacturers need to unload products—discontinued items, production overruns, canceled orders, inventory liquidations, etc.—they turn to Mac Frugal’s Bargains -Closeouts Inc. to take that stock off their hands quickly, usually quietly, and always cheaply. Mac Frugal’s is California’s—and one of the country’s—largest closeout retailers. Each of the company’s 311 retail stores carry an ever-changing assortment of more than 30,000 items and offer products at 40 to 70 percent below retail price; these prices are generally 25 percent more than Mac Frugal’s pays for them. Unlike discounters such as Kmart and Wai Mart, Mac Frugal stores carry no continuing lines: stores are stocked with whatever bargains Mac Frugal buyers are able to find. This ’ ’treasure hunt’’ experience has built a loyal following among the company’s chiefly middle-class customers, many of whom return several times a month to browse the shelves. Mac Frugal stock is geared toward impulse buying, offering items ranging from books and corkscrews for under a dollar, to vacuum cleaners for $80, to decorator bath sets, health and beauty aids, and outdoor and other furniture. Many of these items feature prominent and national brand names.

The company operates 157 stores under the Pic ’N’ Save name in its core California market; the other stores, known as Mac Frugal’s, operate in Texas, Arizona, Nevada, Florida, Colorado, Utah, Louisiana, and ten other states, including Illinois, Oklahoma, Kentucky, Indiana, and Tennessee. The company reaps additional savings by leasing and subleasing spaces from failed supermarkets and other stores. Mac Frugal stores are generally located in or near working-class and middle-class neighborhoods, and usually avoid low-income areas; average store size is 20,000 square feet. The company also operates a warehouse and distribution center in Los Angeles; a second distribution center in New Orleans was destroyed by fire in March 1996. Mac Frugal’s produced nearly $705 million in revenue in 1995. In the mid-1990s, Mac Frugal’s has made aggressive expansion moves, opening 35 stores in 1995 alone.

Started with World War II Surplus

Long before he opened his first store William Zimmerman had been active in sales. Raised on New York City’s Lower East Side, Zimmerman’s sales career began as early as age nine, just as the country verged on the Depression. Zimmerman would make the 20-minute walk to Chinatown, where he bought stalks of sugarcane. Returning to his neighborhood, Zimmerman cut the stalks into slices, which he sold for two to three cents a piece, netting 50 to 75 cents profit on each stalk. As he moved into his teens, Zimmerman switched to clothing, buying used clothing door-to-door in the morning and selling his purchases from a small store in the afternoon.

Even the Second World War could not interfere with Zimmerman’s sales career. Stationed in the Philippines, Zimmerman began selling costume jewelry—mailed to him from New York—to Filipinos. After the war, Zimmerman moved to Los Angeles. Working as a welder at night, Zimmerman made the rounds of manufacturers by day. As Zimmerman told Forbes, ”Buying and selling was what I knew. So I ran around to see what manufacturers had left over.” These leftovers ranged from shirts, which Zimmerman hawked on the street, in bars, and other places, to plastic household wares, sold directly to grocery stores. Zimmerman soon began selling from the back of a truck; by 1950, he opened his first retail store in Culver City, California, moving his family into an apartment in the back of the store. Called Freight Outlet, the store featured war surplus and other items. Zimmerman’s wife tended the store while he searched for merchandise.

By the mid-1950s, Zimmerman was able to open a second store. Arthur Frankel, a cousin who had been working as a lathe operator in New Jersey while working weekends peddling war surplus hardware at flea markets, flew out to Los Angeles to join Zimmerman’s business. Zimmerman took charge of locating and buying merchandise, usually paying on the spot in cash; Frankel picked up Zimmerman’s purchases, storing them in a warehouse or stocking the stores.

The pair slowly expanded the Freight Outlet chain, primarily in the Los Angeles area, then moving into other areas in California. In the 1960s, Zimmerman changed the name of his stores to Pic ’N’ Save, in part to distance the chain’s image from its army surplus origins as the company moved to sales of new merchandise exclusively. By then, Zimmerman had already begun to build a reputation among manufacturers as the place to unload their overruns, discontinued merchandise, and commercial failures. Sales by the end of the decade topped $10 million.

Public in the 1970s

Lewis Merrifield, who had worked as a law clerk for Supreme Court Justice William O. Douglas, joined the company as corporate counsel in 1971, and led the company into its initial public offering the following year. The IPO, involving 250,000 shares priced at $14.50 per share, quickly sold out. Zimmerman was named chairman; Frankel became the company’s president and chief executive officer. The company continued to expand, although slowly, generally adding only about five stores each year. By the mid-1970s, the company’s chain of Pic ’N’ Save outlet reached 47 stores in California (29 in the Los Angeles area), with its first out-of-state store in Arizona. Between 1972 and 1976, sales more than tripled, to $43.6 million. Earnings grew from less than $1 million in 1972 to nearly $5 million in 1976, a jump attributable to Zimmerman’s desire to keep cash on hand for swift purchasing power instead of investing in more rapid expansion.

By 1976, the company employed more than 1,000 people, and operated its own 35-truck fleet, with warehouse space in four Los Angeles facilities. Almost all of its stores were leased, and about 40 percent were subleased. The company owned only one store outright, as well as its 10-acre corporate headquarters site. More Pic ’N’ Saves were added through the end of the decade, but the company continued on its slow expansion course. By 1981 the company achieved $133 million in revenues at its 78 stores, providing net earnings of over $8 million. Zimmerman’s 31 percent share of the company was already valued at over $100 million.

The company was also valued by thousands of manufacturers across the country. Where Zimmerman once made the rounds of manufacturers, many were now coming to Pic ’N’ Save’s team of buyers. As Frankel told Forbes, ”the fun part of the business is never knowing what merchandise is going to walk through the door next.” The company not only took unwanted merchandise off manufacturer’s hands—one example was Richardson-Vick’s aborted attempt to market a mint-flavored, green-tinted Cepacol to compete with Procter & Gamble’s popular Scope—but also showed a willingness to do so on the manufacturer’s terms, which often included agreements not to advertise the product, or to resell to direct competitors in the manufacturer’s ordinary distribution channels. These arrangements allowed manufacturers to discontinue failed and overstocked items quietly, without damaging the image of their brand names. For its part, Pic ’N’ Save rarely spent more than one percent of revenues on advertising, depending instead on strong word-of-mouth and the loyalty of its customers. Operations expanded into Nevada, Texas, New Mexico, and Utah, raising the number of stores in the chain to 87, with sales of $227 million by 1983. Net earnings were also on the rise, reaching nearly $36.5 million in 1983, up from $27 million in 1982. A two-for-one stock split in 1983 followed on a three-for-one split in 1981. In 1984, the company opened its first store in Colorado, although Pic ’N’ Save continued to resist a more aggressive national expansion.

The company’s rising fortunes soon attracted the interest of outside investors. The Zimmerman family appeared ready to sell. But when a New York-based investment fund offered $23 per share ($3 per share over the current value) to acquire the company, an offer worth about $720 million, Frankel rejected it. Instead, the company agreed to buy back Zimmerman’s five million shares of stock, giving Pic ’N’ Save control of more than 22 percent of its stock. Zimmerman remained on as chairman; however, he retired from the company the following year. Merrifield was named chairman, while Frankel remained as president and CEO. Not long after Zimmerman left Pic ’N’ Save, he joined in a leveraged buyout of the similarly named Pay ’N’ Save, a Seattle-based discount retailer with more than $1 billion per year in sales. Zimmerman, who had taken a number of Pic ’N’ Save buyers with him, attempted to duplicate the Pic formula at Pay ’N’ Save, with disastrous results. By 1988, Pay ’N’ Save was bought up by Pacific Enterprises’ Thrifty Corp.

While Pay ’N’ Save floundered, Merrifield took Pic ’N’ Save on an expansion surge: between 1984 and 1988 the company nearly doubled the number of its stores. Sales at the 136-store chain reached $362 million in 1987, with a net income of over $47 million. When Frankel retired in 1988, Merrifield took over as president and CEO, while remaining chairman of the company.

Slumping in the Nineties

Merrifield abandoned the company’s former slow growth strategy, propelling Pic ’N’ Save into new markets in the South and Southeast. To supply the new stores, the company began construction on a new warehouse-distribution center in New Orleans. With a projected cost of $50 million, and at 1.4 million square feet, it was to be one of the largest warehouse facilities in the country. But the expansion of the chain was placing pressure on the company to find enough merchandise to stock the stores. New competition came from the larger, Midwest-based Consolidated chain of closeout stores, which was also expanding aggressively. And the push to expand into New York and other East Coast Markets slashed at the company’s bottom line. While sales rose to $475 million in 1989, profits dropped to $30.9 million.

This set the stage for a hostile takeover attempt and a bitter proxy battle, led by David Batchelder, former Boone Pickens/ Mesa Petroleum corporate raider partner. Batchelder won that fight, forcing a restructuring that gave him two of eight seats on Pic ’N’ Save’s board. Shortly afterwards, Merrifield was replaced by Len Williams, whose 30-year retailing experience included serving as president of Caldor and CEO of Lion-Nathan’s retail operations. Taking over as chairman was Peter Willmott, formerly chairman of Carson Pirie Scott. The company saw its income shrink, primarily because of $19 million spent fighting the takeover, and was forced to place part of its expansion drive on hold, slowing to a more modest 10 new stores per year, while fixing up many of its aging existing stores. At the same time, the company delayed opening its New Orleans facility. A bloated administration was also hampering profits.

The company faced a new challenge in 1991. Its expansion into the southeast brought the company into conflict with National Merchandise Corp., which had been licensing the nearly identical Pic N’ Save name in the 1950s and had registered it in 1968, a move that Pic ’N’ Save had neglected. The company first tried out a new name in that market, opening stores under“The Wow! Stores” name. But a court fight with National Merchandise led to a more drastic name change. Under a settlement, Pic ’N’ Save was allowed to keep its name for its California stores. All other stores, as well as the corporation itself, were to be given a new name. Instead of hiring outside consultants and market research experts, the company held a contest among its store employees. The winning name was Mac Frugal’s. The corporation formally changed its name to Mac Frugal’s Bargains - Closeouts Inc. in 1992.

The name change and a variety of cost-cutting measures, coupled with merchandising successes—such as selling 90,000 pairs of LA Gear sneakers, normally priced at $65, for $19; and 50,000 pairs of Lady Gitano jeans for $10.99 rather than the going retail price of $18—helped sparked a turnaround. Net income for the year ending February of 1992 doubled over the previous year, to $34 million on sales of $542 million. But the turnaround proved short-lived. Difficulties in finding big name merchandise the following year turned away many customers, ballooning the company’s inventory. The New Orleans center was opened by the end of 1991, but was operating at barely 40 percent of capacity. With the company’s East Coast expansion on hold, the New Orleans facility dragged on the company’s earnings; in late 1992, Mac Frugal’s disposed of the facility in a sale-leaseback arrangement, forcing the company to take a $36.6 million writedown. Income for that year slipped to $11 million; sales, too, were off, dropping to $540 million.

The company responded by once again stepping up expansion of the chain; instead of pushing into new markets, however, the company at first concentrated on its core areas. Between 1993 and 1995, the company opened more than 100 new stores, including an aggressive 1995 push into the Midwest market, adding 17 stores in that region in 1995 alone. Sales rose to $682 million in 1994, with a net income of $38.8 million. But by 1995, the company faced a changing retail environment. The line between discount retailers, such as Kmart, and closeout retailers was becoming blurred, and Mac Frugal’s found it difficult to maintain its traditional 40 to 70 percent pricing edge. As president and CEO Phil Carter, taking over for the retiring Williams in 1995, told HFN: ”It’s not that our pricing has gone up. It’s because competitors are coming down and down over time, and the gap that we used to have ... is in some areas now only 5 to 15 percent off. That’s not enough.” By 1995, revenues had topped $700 million; yet income slumped to $14.5 million, thanks to a $21 million after-tax charge related to inventory liquidation.

Mac Frugal’s moved to cut expenses, including cutting salaried staff, and restructuring benefits. The company also worked on improving its merchandise mix, adding more consumer electronics and other items, while shrinking its apparel goods. The launch of a chain of seasonal stores featuring holiday related goods added to fourth-quarter sales. With its streamlined administration, revitalized merchandise mix, and continued expansion plans, Mac Frugal’s appeared certain to regain its reputation as one of the country’s most profitable retail chains.