Canadian toy retailer Mastermind Toys has been granted protection from its creditors and plans to close some stores and liquidate inventory, while it explores “strategic alternatives” to keep some of its stores afloat under a new owner.
The Toronto-based Mastermind LP, which operates 66 stores across Canada, had been losing money for several years, according to court documents filed this week. The company is owned by Canadian private equity firm Birch Hill Equity Partners Management Inc. A potential deal to sell the business recently fell through, and Mastermind has now run out of cash to pay its vendors.
“Over the past several years, Mastermind LP has incurred substantial operating losses as a result of declining sales and gross margins, increased competition, commoditization of the toy category and other macroeconomic trends generally affecting many Canadian retailers, all of which were exacerbated by the impacts resulting from the COVID-19 pandemic,” stated an affidavit sworn by Lucio Milanovich, a Birch Hill employee who has been acting as interim chief financial officer of Mastermind since October, 2022.
Those economic trends have only worsened recently, as consumers feeling the pinch of higher prices and soaring interest rates have pulled back on non-essential spending. Retailers that were already on shaky ground have been particularly affected by the downturn. Mastermind has been cutting costs, and recently conducted a strategic review of the business, but the challenges “have become too significant to overcome,” according to a news release the company issued on Friday.
Mastermind GP Inc. – which acts as general partner of Mastermind LP, the company that operates the stores – obtained an initial order under the Companies’ Creditors Arrangement Act (CCAA) on Thursday. It will seek court approval for an initial round of store closings and liquidations, though the company has not stated how many stores it will close at the outset. It will also explore “certain strategic alternatives” for the rest of Mastermind’s stores, according to the news release.
The company has been losing money since 2018, as “input costs continued to rise and revenue stagnated,” according to the affidavit, which said that Mastermind’s profitability peaked in 2017 and then declined sharply.
In the first 10 months of this year, Mastermind had $65.5-million in revenue and recorded a net loss of $18.1-million. The company has total liabilities of $62.1-million.
Mastermind has already closed two stores in Ontario this year, and has cut back significantly on inventory purchases and delayed payments to suppliers. The company is “suffering from a liquidity crisis,” according to the affidavit, and Mastermind is “currently operating on a week-to-week basis from a cash-flow perspective.”
Mastermind had been looking for new owners to buy the chain, a sale process that began in April and attracted initial interest from 32 potential buyers. All but four of those buyers dropped out as the company’s financial position continued to deteriorate, according to Mr. Milanovich’s affidavit. Two parties were identified as qualified bidders, but both also withdrew as the company’s finances worsened.
Then, in September, Mastermind struck a deal with an unnamed “strategic bidder,” with a deadline to complete the deal by Nov. 24, “so that Mastermind LP would receive the capital and liquidity that it critically needed to fund its obligations through the Holiday Period … and stave off insolvency,” the affidavit stated.
The parties notified the federal Competition Bureau of the planned merger, and received requests for more information from the Commissioner of Competition. Facing delays, uncertainty about regulatory approval and growing financial pressure, the deal fell apart on Nov. 8.
The affidavit does not name any of the potential buyers for Mastermind, but the Competition Bureau’s website lists two recent merger reviews involving the company. One involved Hilco Capital Ltd., a British private equity firm that specializes in turning around distressed companies. That review concluded in August, according to the Bureau’s site. The second review involved Toys “R” Us (Canada Ltd.) and Everest Toys, both owned by retailer Doug Putman, who also owns the Sunrise Records and HMV store chains. That review is listed as “ongoing.”
Mastermind continues to seek a buyer while in creditor protection, and is in talks for a potential deal to sell a “large number” of stores and some of its assets, according to the affidavit. The firm appointed as monitor of the Mastermind CCAA process, Alvarez & Marsal Canada Inc., is currently in talks with that “potential going concern purchaser.”
Meanwhile, Mastermind is also liquidating underperforming stores, “and may have to liquidate all of their stores if the Potential CCAA Transaction is unsuccessful,” the affidavit stated.
Mastermind has roughly 800 employees, who are not unionized – 625 of them part-time store staff and 175 full-time employees. It expects to cut some jobs, but has not specified how many.
The development comes during a crucial season for retailers. Mastermind’s stores and e-commerce site remain open for holiday shopping, and this busy season typically accounts for more than 25 per cent of Mastermind’s annual sales.
Some of its operations are paring back, however. Mastermind will stop accepting returns from customers while under creditor protection. And the company plans to honour existing gift cards only until Dec. 24. It will not sell more gift cards.
Mastermind is a very small company in Canada’s toy retail market. The industry generated roughly $2.39-billion in total sales in 2022 according to research firm NPD. But it is highly competitive, with retailers including Toys “R” Us, Indigo, Walmart, Amazon, Costco and Canadian Tire all fighting for customers. Mastermind holds just 3 per cent market share, according to the affidavit. While it has expanded its e-commerce business in recent years, it has also faced an uphill battle to compete online.
“E-commerce businesses require significant scale to be profitable, which Mastermind LP has not yet achieved, making it difficult to compete against online behemoths such as Amazon and Walmart,” the affidavit stated.
Mastermind was founded in 1984 by brothers Andy and Jon Levy. During the 1990s, the business grew to 10 stores. In 2010, the company sold a stake to Birch Hill, and Andy Levy retired. Jon Levy remained as chief executive officer as the company expanded, opening 57 new stores, before he retired in 2019.
In early 2020, the company went through a leadership transition focused on improving Mastermind’s digital presence and expanding into private-label products to boost customer loyalty. The company hired Sarah Jordan as CEO in January, 2020. She left the company in May of this year.
Frank Zita, a former senior director of product management for Loblaw Cos. Ltd., has been leading the company as president and chief merchant for six months.
With a report from Andrew Willis