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“Everybody talks about it all being about digital – it’s not all about digital,” says Nick Williams, HMV Canada’s chief executive officer.Fred Lum/The Globe and Mail

Nick Williams is striding on ground where others have stumbled.

The chief executive officer of music chain HMV Canada is embracing bricks and mortar even as other major specialty retailers have been squeezed out by low-cost digital alternatives and big-box stores.

This holiday season, a crucial period when HMV generates about one third of its annual revenue, it has added six pop-up shops to its 113-outlet chain after having closed eight stores and downsized others in the past year or so. It's counting on the temporary locations to catch a seasonal burst of sales and act as a laboratory for future growth in a fading music industry.

"Everybody talks about it all being about digital – it's not all about digital," said Mr. Williams, whose chain was sold by struggling British-based parent HMV Group PLC to restructuring and private equity firm Hilco for $3.2-million last year. "There's still a strong appetite for physical product, both music and film."

HMV is betting that appetite still has a healthy run ahead.

To differentiate itself, HMV is stocking a rich offering of back-catalogue music and movies that aren't carried at discount rivals. And beyond CDs and DVDs, HMV is also branching out into higher-margin merchandise – gifts, collectibles, clothing and headphones. Think Justin Bieber posters and Batman cookie jars.

HMV generates about 50 per cent of its sales from movies and 30 per cent from music. Sales of related items like clothing and collectibles, which currently make up about 20 per cent of sales, will rise to about 35 per cent of overall revenue in 2014 as movies and music sales drift lower, Mr. Williams expects.

The company has improved profit margins by working closely with suppliers, scaling back its permanent real estate portfolio, and dropping low-margin video games and tech products while shifting to items such as T-shirts.

But as HMV rushes to become the go-to entertainment retailer, it risks getting caught in the crosshairs of discount players – another one, U.S.-based Target Corp., arrives next year.

"Consumers are migrating to digital slowly but surely and it's a one-way trip," said Kaan Yigit, president of Solutions Research Group. "So ultimately these retailers will wake up some day and be competing with Wal-Mart and Target."

For now, industry insiders are relieved that Hilco is intent on breathing new life into a profitable HMV rather than shutting and selling its stores to raise money.

"We think there's a healthy five-plus years remaining in physical music," said Randy Lennox, chief executive officer of leading supplier Universal Music Canada, which is upgrading record packaging and materials. "Its demise has been predicted far too soon."

HMV is benefiting from the demise of video chain Blockbuster Canada, betting that landlords and suppliers need at least one national specialist as a retail entertainment destination in malls to help fight off Internet pressures.

Ron Wratschko, an executive vice-president at Cadillac Fairview Corp., one of the chain's biggest landlords, said HMV serves as a counterbalance to its centres' preponderance of fashion retailers. "The consumer is voting for them."

Even so, HMV feels the digital pinch. In Canada this year, estimated digital sales will rise to more than 42 per cent of the $430-million music market, from 17 per cent in 2008, according to record-company advocacy group Music Canada. A much smaller proportion of film sales, roughly 10 per cent, are digital, Mr. Yigit said.

In Britain, HMV Group suffers from the strains of tougher online competition and a strategy of sticking with low-margin video games and computers, which the Canadian division ditched under Mr. Williams. This month, the British chain warned that weak market conditions had created "material uncertainties" for the business, exacerbated by a worse-than-expected start to holiday selling.

Still, many of today's music hits, including Michael Buble's Christmas album, are sold in their physical form, said Larry LeBlanc, senior editor at U.S.-based trade publication CelebrityAccess. Physical album sales are "staggering for a configuration that should have died years ago."

In Canada, even specialty music store competitors are rooting for HMV as they grapple to gain clout with foreign-based suppliers. "We need HMV to stick around," said Tim Baker, head buyer for Toronto-based Sunrise Records. "If you've got the only national chain going down the tubes, then we don't have a strong enough independent retail group here in Canada."

Sunrise, which has sliced its number of stores in half to 14 over the past decade, is now looking at expanding again after having broken new ground in stocking vinyl records, DVDs and even $100 talking plush TED bears, a spinoff from the film of the same name.

HMV is on target to reach its $270-million sales goal in 2012, said Mr. Williams. That's down from about $360-million two years ago but closer to its outlook for $300-million-plus in sales by the end of 2014.

HMV hasn't completely dismissed digital. With a nod to the Internet, HMV introduced this month its own digital subscription-based streaming service.

"We need to evolve and adapt," Mr. Williams said.

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