Zale's New CEO, New Name, Old Address-Has Anything Changed?

Implications: Having lost most of its retail jewelry talent over the last 18 months, Zales's new Chairman hires a non-jewelry Chief Executive to turn the company around.  Whether he's got the 'right stuff' is uncertain.  But one thing is clear, he doesn't know anything about the jewelry business and doesn't have anyone to teach him.  While he learns on the job, here are some of the problems he's got to solve to succeed.

Analysis: News that Zale has hired a new CEO to replace Elizabeth Burton shouldn’t have come as a surprise to investors as they prepare themselves for the news that the company has yet to begin a sustainable turn around. Once the dominate force in US jewelry retailing, Zale slipped to second place as Ms. Burton was appointed interim CEO.  A director since 2003, Zale’s recent problems have not only been her doing, but a consequence of inattention and poor strategy by the board of directors for about a decade.  She like many board members was caught up in the company’s history.  Zale had always been number one; at least since malls began to revolutionize American shopping in the 1960’s. According to Burton, no one was watching the competition.  If true, her comments should have raised more than a few questions about just what the board was doing.  After all, Signet had gained share for more than a decade.  That’s along time for board members to ignore the foot steps of a competitor that emphasized its market share gains in all of its earnings statements for more than 40 straight quarters. 

Now, two years later, Ms Burton’s legacy is that she was the chief architect of a retail strategy that irreparably damaged Zale’s competitiveness.  A review of key operating metrics now shows Zale lags most of its competition in sales growth, margin rate, sales per square foot, sales per employee, and employee retention.  It’s also a company that lacks experienced jewelry retailing leadership.  Since 2006, Zale has either terminated or lost a Chief Operating Officer, Chief Financial Officer, two Zale Division Presidents, Gordon Division President, and a Bailey Banks, and Biddle President.  Add to those leadership losses the severe attrition of middle management executives and countless managers and you have a learning curve challenge nearly equivalent to that of a startup company. 

Most recently, Burton sold off the company’s 75 BB & B fine jewelry stores to department store lease jewelry operator, Finlay Enterprises. This marked the first time in recent history when a viable jewelry chain sold a major competitor a strategic brand as a ‘going concern’ with which it would directly compete. This leaves two overlapping divisions, Zale and Gordon, and Zale Outlet to counter Signet’s Kay Division and its $1 billion store growth program.

That summarizes what new Chairman John Lowe described as “the progress that has already been achieved" when he introduced the new Zale President and CEO Neil Goldberg as having “a unique combination of retail experience, leadership and team-building skills, and talent to move the company forward."  For investors sake lets hope he wasn’t referring to Burton’s achievements.  But, whether Goldberg has what it takes to turn Zale around is problematic at best. 

Any experienced operator knows that several conditions are necessary to turn a company around.  First you need a hands on executive.  Second, the company has to have a product or offer that can differentiate it from the competition and appeal to its core customer base.  Third, the company has to have the financial resources to fund the turn around, and last, but not least, luck plays a role in any company turn around.  Up to now luck hasn’t been in Zale’s favor.  Clearly the mortgage credit mess and higher non-core inflation will depress jewelry sales this year and may extend through out 2008.  That means fiscal year 2010 (Christmas 2009 for Zale) may be the earliest Zale could expect to benefit from better macro economic numbers.

Historically, Zale has generated good cash flow.  But years of low sales growth, in combination with high fixed costs for store rent and sales staff has been a drain on cash.  More recently, higher gold prices in combination with increased work in progress have meant the company has needed more working capital to support inventory levels and component sourcing programs.  Whether Zale has sufficient cash flow to grow its selling space at the same rate as its competition, renovate its current stores, continue its supply chain initiatives, and develop new products is uncertain.  In retrospect, it may turn out to have been a mistake for the board to commit the entire proceeds from the $200 million sale of BB &B buyback shares.  

Declining margins are a strategic problem for Zale, as well as, the entire jewelry industry.  Since about 1994, industry margins have declined from about 55% to 48%.  Now with commodity prices nearly doubling over the last 24 months and higher operating expenses because of increased energy costs, jewelers are faced with stagnant sales while raising prices just to maintain previous year’s margin rates. 

Today Zale needs a strategy to materially increase its margins, while growing its sales. That’s the approach that made the company successful in the past.  For instance,   Zale increased its margins in 1950’s by funding the mass production of jewelry as it opened more stores.  It improved its margins even further in the 1960’s when it became a DTC site holder, becoming one of the largest exporters of polished diamonds from Israel.  In the 1970’s it continued its margin improvement by pioneering the development Hong Kong jewelry manufacturing; further leveraging its loose diamond buying advantage, while producing exclusive product for its stores.  It’s this kind of strategic thinking that Zale needs to apply to its turn around today, but in 21st century terms. 

Unfortunately, Zale’s current approach is to duplicate competitor’s strategies that were in effect copied from Zale 30 years ago.  That’s not progress and it won’t lead to a sustainable turn around.  Whether Goldberg is sufficiently knowledgeable to recognize the difference isn’t certain.  What’s also uncertain is his ability to structure a 21st century retail jewelry strategy for Zale and his willingness to take a, hands on, roll in implementing such a strategy.