The End of Guitar Center

Lambert here. We’ve featured Eric Garland’s past posts on Guitar Center, a case study of how a private equity firm (originally Bain Capital, now Ares Capital as a result of a restructuring when the company was on the verge of failure) runs businesses into the ground for fun and profit. Here Guitar Center, gutted and broken, meets its sad end. However, the karmic wheel always turns, and there is life for music, if not for Guitar Center. “Small and smart will carry the future while big, dumb, complex, and dishonest will bite the dust.” Let us hope for that!

By Eric Garland, a writer and speaker who studies major trends and provides strategic and competitive analysis to executives from business and government agencies. Cross posted from his blog

This is an obituary for Guitar Center, a chain of big box musical instrument stores that was captured and infected by private equity during a national trend of greed and reckless expansionism in the late-1990s and early-2000s. The company started as a Los Angeles organ store, became a successful purveyor of guitars after the Beatles arrived in the United States, evolved into a national competitor over a period of decades, and shall finish, with sad poetry, as the symbol of everything dysfunctional about American corporate finance, management, and retail in the modern age. Its demise is really the end of a generation of business managers, illustrating how they lost their moral compass as well as any ability to lead individual companies or national economies into a stable, rational, prosperous future. This story will focus on the final days of this one company, but it is really about our painful transition to an economic system that obeys objective reality and serves people in a durable, holistic manner.

The original sin, and events leading to collapse

I have been tracking the evolution of this company for over a year now, and the evidence is incontrovertible: the corporate entity known as Guitar Center, Inc. is in the midst of irreversible collapse dynamics and will cease to hold its position as the industry leader in the short-term. In the mid-term, the company may cease to operate as a going concern and will be reduced to a group of trademarks, service marks and patents that will be sold to a buyer with considerably different plans for the company. Its days as the national industry leader are over.

I shall support my thesis with easily accessible public information, though I also possess considerable insights from industry insiders who prefer not to be named. The idea that this is a doomed entity which can only submerge deeper into dysfunction and, ultimately, oblivion is not widely held. The vast majority of the musical instrument industry exhibits what we intelligence analysts call “normalcy bias,” the attraction to a worldview that things are normal and will remain normal, despite considerable evidence to the contrary. People refer to Guitar Center as “too big to fail,” despite the fact that the firm shares absolutely no characteristics with companies that normally acquire that moniker, such as Citibank, ExxonMobil, or General Electric. They assume that another buyer will emerge to make a simple change of ownership behind the scenes without considering the financial complexities that make such a transaction nearly impossible. Most often, stakeholders in the musical instrument industry assume that the mechanics behind Guitar Center are more complex than they can easily grasp, and so they simple ignore the matter despite its potential impact. As a result, when I visited the NAMM Show in Anaheim, California only days ago, I found that the overwhelming majority of industry figures with whom I spoke spent very little time or energy on the critical analysis of a firm which represents 28% of the industry, a total $2.1 billion out of $7 billion. As a result, we can assume that few people will have contingency plans for potentially disruptive scenarios resulting from Guitar Center’s fate, but that is hardly unprecedented in the history of business. Reality does not need our permission to have its way with our destiny.

Moreover, the media which covers the musical instrument industry is deeply uncritical. Nearly everything I have read regarding the current situation has been either a regurgitation of corporate press releases or a subjective analysis riddled with factual errors and shallow knowledge of business in general and finance in particular. I am told that the tight budgets and intimate nature of the industry make some publishers afraid to engage with controversial subjects that might jeopardize a customer relationship. Either way, many industry professionals are basing their assessment of the market on dangerously incomplete information.

I am not going to provide a long-hand analysis of Guitar Center’s capital structure and every gruesome event in the company’s recent history; if you are so inclined, you may review my past work and browse Google.

A quick summary tells the tale of how close we are to the end, but first we should revisit the beginning. Guitar Center grew with the help of private equity firm Weston Presidio to become a national competitor and, eventually, a publicly-traded company. With the leadership of Marty Albertson, Larry Thomas, and others, the company continued to grow and prosper as a public company until leaders enlisted the help of Bain Capital to take the company private through massive leverage just prior to the largest financial crisis in a century. As you consider any of the other events associated with the present, this Original Sin of the past is the very root of the problem.

Private equity firms like Bain take mid-sized companies and pump them full of debt with the express intent of making them industry-dominating competitors, selling them to the stock market as a candidate for massive growth, and cashing in. To make this possible, private equity’s stake in the company is usually represented by “payment in kind” (PIK) notes, a type of bond that pays crushing interest – in this case 14.09% – but requires no cash outlay until the bond’s maturity. So that 14.09% is accruing, but it isn’t due for years, ideally after the company has been sold to what is often charmingly referred to as “the dumb money,” the retail investors who buy a stock without knowing the company’s true financial position. Before any of the company’s real problems are revealed, the private equity firm receives its payback in the form of stock, since PIK notes can be paid back in any medium of exchange. If all goes to plan, the stock price shoots up after the IPO and the PE firm makes a tidy profit – all in about three to five years.

Bain made two critical mistakes from which it cannot recover. First, it attempted to run this playbook on a company that had just done this very thing with Weston Presidio five years prior. Second, it did so just as the housing fraud and financial insanity which characterized the late 1990s and early 2000s nearly destroyed the U.S. dollar and left us with martial law. Every business maneuver that follows this initial error is too little, too late. Compound interest on debt is the strongest force in the universe, and retail has changed too much for any predictable corporate management technique to have a noticeable effect. The rest of this story is details.

To explain how close the company is to collapse, consider the following timeline:

December 2013: My blog post “Guitar Center and the End of Big Box Retail” goes unexpectedly viral just as GC management is negotiating with its creditors to deal with the fact that it does not expect to be able to honor its financial covenants in the near-term. In response, management claims that the firm is stronger than ever, that every single store is profitable, and that the $1.6 billion in debt with short-term liabilities of over $1 billion is manageable. The company has $25 million in cash going into the Christmas season. The Securities and Exchange Commission begins to investigate irregularities in how GC considers the interest on its bonds to be outside of expenses that would impact EBITDA.

March 2014: The company reaches an agreement with its largest bondholder, Ares Management, to exchange the latter’s PIK notes for equity. $401.8 million in PIK notes are retired in exchange for holding company preferred stock. In a statement by Standard & Poors, the agency expects to lower the corporate credit rating to “SD” which is “selective default” and considered tantamount to bankruptcy because it is a “distressed exchange” in which investors receive less than what they are promised.

April 2014: Bain and Ares offer the bond markets two new bonds to pay back existing bondholders, a $615 million offering of Senior Secured notes with a coupon of 6.5% maturing in 2019, and a $325 million offering of Senior Unsecured notes with a coupon of 9.625% maturing in 2020. These securities are purchased by institutional investors such as LeggMason, GoldmanSachs, and Prudential for their high-yield income funds which go to round out the assets of pension funds, ETFs and other, more conservative portfolios. They produce less than $50 million in free capital for Guitar Center and will still require an all-in coupon payment of around $35 million every six months. Guitar Center press officers attempt to portray this as a dramatic improvement of its financial situation in what is probably the best possible example of the Yiddish word “chutzpah.” Moody’s and Standard & Poors assess the company’s family rating as subprime and its unsecured bonds as junk, with outlook negative. Bond covenant analyses note that the restructuring will only produce enough free cash to pay for the interest on these instruments- there would still be little chance that the company could make strategic moves in the industry. This view assumes that business condition will remain the same or improve. If they get worse, all bets are off.

August 2014: Guitar Center secures a lease in the most expense real estate on earth – Times Square, Midtown Manhattan, New York. CFO Tim Martin claims that not only will this not be a drain on finances, they would make “a lot of money.” He also announces that then-CEO Mike Pratt’s “2020 Vision” was to achieve $3 billion in revenue in just five years – a 20% year-over-year growth in a slow-growing industry. The Times Square Guitar Center debut was accompanied by a 36-second video from the grand opening described as “a new gateway to hell,” featuring fifteen metal guitarists and three drummers playing nonsense simultaneously. It received 500,000 views in the first 48 hours.


November 2014: Guitar Center is forced to admit to bondholders that despite its promises to thrive from its new capital structure, its EBIDTA has slipped 35%, same store sales are down, and total revenue is flat. Secondary debt markets double the yield on its bonds overnight. Investors who committed to the bond months before are willing to take a 10-35% loss in a few short weeks rather than commit to the company’s future. CEO Mike Pratt resigns and is replaced by Darrell Webb, a retired executive whose most recent experience is as CEO of JoAnn Fabrics and the Sports Authority, two companies that also answer to private equity.

December 2014: Guitar Center fires Gene Joly, longtime executive and current president of the Musician’s Friend unit, two days before Christmas.

January 2015: Citing a bloated cost structure that keeps the company from achieving historical profitability, new CEO Darrell Webb fires 42 corporate executives, including the last remnant of Mike Pratt’s team, as well as 28 regional managers. Music Trades reports that the company is down to $10 million in available cash after Christmas.

The constant, smarmy mantra of impenetrability and infallibility has finally been dispelled. Their new executives have, at long last, ceased the comedy routine about how Guitar Center’s stores are always profitable no matter how many times Standard & Poor’s declares them technically in default, or that a billion dollar of debt is totally normal and wonderful and manageable. In a recent email, Webb explains the firings with the dry rationale of needing to be profitable, and foreshadowed that the company will “continue to seek efficiencies.” We seem to be hearing much less about that $3 billion in future revenue and much more about the jobs yet to be cut.

After all the noise, we are entering the final phase.

This is the end, my friends

Nobody can manage this situation, much less lead the organization out of chaos. All reports indicate that Darrell Webb is not there to save a thing – he reportedly has less knowledge of the music business than the Canadian who was just warming his chair. You would think that if Ares Management was serious about saving this company, they would choose a younger, more innovative executive able to lead Guitar Center into a disruptive future, but instead they hired a man who wouldn’t know a Marshall Plexi from a nuclear submarine. I submit that Webb is the perfect choice for his likely mission: to lead the company into an orderly bankruptcy. Should the company achieve Chapter 11 reorganization instead of the final, fatal Chapter 7 liquidation, it must be on good terms with vendors and bondholders. They can lie to employees all they want, but accounts must be in order if there is to be value salvaged from this doomed structure. Thus, the new CEO has been chosen based on a cold-blooded ability to shuffle the books for private equity financiers, not for his ability to lead a musical instrument organization into a disruptive future.

I have already read analyses of Webb’s recruitment as a way for Ares to get somebody more capable of achieving “their” vision. This is a mass hallucination that stems from the old PR team’s attempt to recast the financial failure of 2014 as the addition of a smart, valuable partner with expertise in retail based on that company’s recent takeover of Neiman Marcus alongside their partners, the Canada Pension Plan Investment Board. Commenters in the musical instrument industry seem to understand little about Ares Management, a very large, serious firm that has, since taking equity in Guitar Center, gone public and engaged in a strategy that would put it more in the category of the JP MorganChases and GoldmanSachs of the world. There has not been a single public comment from an Ares employee since 2014 about the future vision for Guitar Center and I suspect that one does not exist. Go look through Ares’ quarterly reports and press releases and search for the word “guitar.” Perhaps that will provide a perspective on the relative importance of this transaction to a company with a much larger financial play in the works.

This is pure speculation, but given the size of their investment I imagine they see Guitar Center as a deal they made back in the mid-2000s before the crisis, one that Bain screwed up. They probably took the equity as the best way to perhaps get something instead of pennies on the dollar. These days, they’re more busy reopening factories in Europe along with national partners. They have better things to worry about than this sad scene, but this is a conclusion that will be very uncomfortable for members of the musical instrument industry who will not want to feel quite so unimportant.

The fact is, the die is cast. In a couple of weeks, Guitar Center will need to report its Christmas performance to its bondholders. If things do not look good, its bonds will be ripped apart like Radio Shack’s. Moreover, if I had to guess, the $10 million in Guitar Center’s coffers will not be enough to make the payment to their bondholders due in April 2015. In advance of that, they will need to seek protection under Chapter 11 of the bankruptcy code. Maybe they have another ultra-complex trick to bring out of the private equity playbook, but this whole thing is a waste of time. None of this sells guitars or inspires kids to be better musicians in a world where laptops play the tunes. We’re all analyzing the most mundane details of the terminal symptoms of this sickness that has seized American business culture in the past twenty years. Perhaps we need to heal that disease before we can back to fun things such as playing guitar and running profitable companies.

Here’s what this really means: it’s the end of big box retail, an irrational addiction to growth, and the scourge of unregulated structured finance. For a few years, unwise urban planning and unregulated banks created a new bubble in the American suburbs. People bought homes they could not afford and turned their houses into lines of credit. This swindle eventually brought the economy to its knees and has taken most a decade to regain some state of uneasy equilibrium. Still, it was particularly stimulating to a certain type of retail that also depended on constant growth and financial trickery. The objective truth is that the growth of the last decade was financed by banking fraud, and that financial trickery of this sort only fools people in the short-term. Eventually, you must have a product people demand, sold by competent people who care about the business, financed in a way that makes sense.

This unforgiving reality will work great for local stores and entrepreneurs with a classic, cautious approach to business management. For a while, suspending our disbelief in reality allowed standard-issue corporate financiers to run a pump-and-dump scheme on all kinds of retail, selling risky ventures to “dumb money” and reaping the rewards for a select few. We are all wiser now, and the market conditions simply will not support that behavior.

This is not a moral judgment, merely an assessment of market engineering. Small and smart will carry the future while big, dumb, complex, and dishonest will bite the dust.

These conclusions were my instincts before I conducted research into the example of Guitar Center. I was reasonably sure then, and I am entirely convinced now. The only remaining question is where the industry will go from here. Go ask the good people at Behringer for a preview. Representatives from their company have informed me that since they parted ways with Guitar Center they discovered a network of smaller, more focused retailers who were more than excited to form a stronger relationship with their company, and in turn delight customers even more. This resulted in the company’s greatest annual revenue in history, both in the United States and throughout the world. Behringer seems to think that a world without a single, corporate, banker-driven industry hegemon is not only possible, it’s preferable.

That’s a bright future, if you choose to share that vision. But whether you believe in it or not, this scenario is unavoidable. Guitar Center is finished. Now the musical instrument industry can get back to business.

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About Lambert Strether

Readers, I have had a correspondent characterize my views as realistic cynical. Let me briefly explain them. I believe in universal programs that provide concrete material benefits, especially to the working class. Medicare for All is the prime example, but tuition-free college and a Post Office Bank also fall under this heading. So do a Jobs Guarantee and a Debt Jubilee. Clearly, neither liberal Democrats nor conservative Republicans can deliver on such programs, because the two are different flavors of neoliberalism (“Because markets”). I don’t much care about the “ism” that delivers the benefits, although whichever one does have to put common humanity first, as opposed to markets. Could be a second FDR saving capitalism, democratic socialism leashing and collaring it, or communism razing it. I don’t much care, as long as the benefits are delivered. To me, the key issue — and this is why Medicare for All is always first with me — is the tens of thousands of excess “deaths from despair,” as described by the Case-Deaton study, and other recent studies. That enormous body count makes Medicare for All, at the very least, a moral and strategic imperative. And that level of suffering and organic damage makes the concerns of identity politics — even the worthy fight to help the refugees Bush, Obama, and Clinton’s wars created — bright shiny objects by comparison. Hence my frustration with the news flow — currently in my view the swirling intersection of two, separate Shock Doctrine campaigns, one by the Administration, and the other by out-of-power liberals and their allies in the State and in the press — a news flow that constantly forces me to focus on matters that I regard as of secondary importance to the excess deaths. What kind of political economy is it that halts or even reverses the increases in life expectancy that civilized societies have achieved? I am also very hopeful that the continuing destruction of both party establishments will open the space for voices supporting programs similar to those I have listed; let’s call such voices “the left.” Volatility creates opportunity, especially if the Democrat establishment, which puts markets first and opposes all such programs, isn’t allowed to get back into the saddle. Eyes on the prize! I love the tactical level, and secretly love even the horse race, since I’ve been blogging about it daily for fourteen years, but everything I write has this perspective at the back of it.


    1. Llewelyn Moss

      And image if the Mittster had gotten his hands on the US Treasury. It’s the only reason I voted for Obama in 2012. Mitt had to be stopped even if Obama had proven himself to be a neo-liberal scumbag.

      Damn shame too. I bought a couple guitars from GC over the years.

  1. Jim Haygood

    ‘I don’t know who they think they are
    Smashing a perfectly good guitar [center]’

    — John Hyatt

  2. Horatio Parker

    Scary to think of those amounts of money bandied about by people without a clue about what they’re doing.

    Live music has been declining since the advent of radio. Every musician on the scene knows this. Of course people will still play and still buy instruments. But growth? Please.

  3. Art Eclectic

    Radio Shack missed the opportunity to turn themselves into a Maker headquarters and change their business model. Probably too late now.

    How soon is Best Buy on the chopping block?

    1. NotTimothyGeithner

      “Maker headquarters”? Is that 3d printing? I don’t know. Would the novelty work? I suppose small construction and repair outfits might benefit, but radio shack doesn’t have the floor space for the operation they would need. Bigger operations would just acquire their own machines.

      1. hunkerdown

        The business model of making is almost identical to that of scrapbooking, and thus about halfway between retail and pop art: buy cheap stuff from Asia (assembled, not, or somewhere in between), count it out into kits, and sell at incredible margins. You don’t *have* to buy the Cricut/Thing-o-Matic… but it helps you Make more “consumable” consumer products…

    2. Optimader

      Actully if you’re old enough youd know that is where they started Allied /radioshack heathkit ect… Other than on line, a very challenging retail biz model. Other than the odd eccentric, what Millenial Generation Whateva wants to build speakers or a tube amp, or anthing for that matter? No sustainable brick and mortar retail scale unfortunatly.

  4. RUKidding

    I work in a specialized field that uses a niche software for important aspects of running our organizations. The number of companies offering the software systems (to a range of customers) has declined through various mergers and acquisitions. Those of us using this software continuously shudder & hold our breaths when one software company or another is snapped up by some private equity group. This happened just recently with the software company offering the system that my organization uses.

    Citizens are cottoning onto the dirty tricks of Private Equity, fwiw, and often there are immediate and rather rigorous questions lobbed to the Private Equity company from user groups demanding to know what their intentions are. Just recently the Private Equity squid which ate up “my” company (the one whose software my organization uses) has come out with a “Now Now, don’t worry” message.

    Only time will tell what their intentions are. “My” company was purchased some years ago by a different Private Equity company (before the 08 crash). That prior PE company had some rather grandiose & totally unrealistic plans, which never came to fruition. Fortunately it all ended up ok for those us using the software systems.

    We’ll just have to wait to see what happens this time around and hope that our software system doesn’t get the life/money sucked out of it by these vampires. Good luck to us all.

    1. reslez

      Such a familiar story. The company I work for was also acquired by PE. Following some astonishing ethical lapses (which were well-publicized and directly impacted the bottom line…) it’s now in Chapter 11. All due to management. Greed worshippers who spread their crap theories like Yersina pestis from one company to the next.

  5. Blurtman

    Promising ridiculous future sales and growth is part of the scam. If not for this, it is an obvious scam at day 1. But when it does not happen, hoocoodanode?

  6. JEHR

    As I was reading this article, it occurred to me that we have recently had a private equity firm, 3G Capital, buy up our Tim Horton’s restaurants for $12.5 billion. Of course, our government approved of the purchase as they LOVE private equity. Recently, there have been 350 employees laid off at Tim’s. ( )
    Besides that, Burger King (which supposedly really bought Tims via 3G Capital) profits from tax inversion (i.e., corporate taxes are lower in Canada than the US).

    So you can bet that 3G capital will make hay while the sun shines and Tim Horton’s may go down the drain as Guitar Centre did.

  7. Roquentin

    I just wanted to say this series on Guitar Center has been one of my favorite things ever posted on this blog. It’s been an entertaining and informative read. Even moreso because my financial literacy is not all that great.

  8. MLS

    PE may have played a role in the demise of Guitar Center, but there is nothing about general industry dynamics and trends. Over the last 5 years the retail business for musical instruments has grown overall, but it’s gotten significantly more competitive through other big box retailers (Target, Wal-Mart, etc.) carrying instruments,, a proliferation of smaller niche websites, and the flood of lower-cost imports. As a result, price competition has cut margins industry-wide in half. So the industry has grown but it sounds like GC has been donating share and seen margins compress.

    So yeah, being loaded up with debt by the PE firm doesn’t help things, but let’s not pretend it was the only thing that mattered here.

    1. hunkerdown

      You are of course aware that Guitar Center is also a gorilla among online music retailers. Surely you don’t believe that the gorilla’s own buying policies and pressures had no hand in reshaping what manufacturers are configured to produce for anyone else?

      1. MLS

        Guitar Center’s buying policy has nothing to do with a foreign company producing cheaper, lower quality, but much lower-cost products and selling them at Wal-Mart or online at a lower price point. As the quality gap narrows over time, GC has no choice but to lower their own prices.

    2. Yves Smith

      Oh, come on. There is a huge difference between shrinking a company as its market declines and a bankruptcy. I can think of all sorts of brands that are less visible and profitable than in their heyday but are still plenty viable. And Garland sets forth lots of particulars as to how Ares utterly failed in managing GC. And a declining industry is a terrible target for PE. So they were dumb even going into this deal.

      1. MLS

        I am making no excuses for PE here, they played a role because the capital structure they put in place would never let the company shrink when faced with the industry’s challenges. My point was that it was not PE by itself that caused GC to collapse and the article does not mention any of the other factors. I presented more facts to the story, that’s all.

  9. Lune

    I appreciate the author’s astute analysis, but I’m not sure why he thinks this sort of strip-mining of America’s economy is going to stop.

    Interest rates are going down, while the stock market continues to go up. That is the classic environment for PE’s pump-and-dump schemes to succeed. Indeed, it seems that the *only* demand for credit is from private equity and corporate share buybacks, since the real economy doesn’t have any demand growth to justify actual productive investment.

    Given that Yellen et al keep pushing for more debt to be distributed to keep asset bubbles afloat (to say nothing of their overall capture by the finance industry), I’m pretty sure they support the PE industry lock, stock, and barrel.

  10. ep3

    Yves, I wanted to reply before reading the article in case i get pulled away from the article and do not finish it. A guitar center moved into a shopping plaza in the lansing area about a year ago. This shopping plaza already had a local music store which is the centerpiece of the shopping center (large tall building). So guitar center comes in with it’s lower than cost prices, cheap labor, and inexperienced customer service (young minimum wage local college kids with little music experience versus the local company who employs music teachers) and directly competes with the local company. I actually think that businesses like this purposefully set up a competing business like this to crush the local businesses and then they can clean up whats left as well as have no competition threat.

  11. BearCountry

    Thanks so much for the analysis. I have purchased several items at Guitar Center and found the salespeople to be quite knowledgeable and friendly. The salespeople were always a little tight under Bain capital, but the whole operation became happier when mgmt changed.

    There is a small sister chain called Music and Art: is there any indication of how they will be affected? Music and Art is closer to a mom and pop operation.

    I spoke with a person in a small but higher end guitar store near the Times Square Guitar Center and he felt that it would draw more people to his store because of the greater influx of musicians.

  12. abynormal

    “…assessment of market engineering: Small and smart will carry the future while big, dumb, complex, and dishonest will bite the dust.
    Indeed. me needs somethin ta look forward to this year

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