It’s no secret that many national retailers are hurting. Staples, Radio Shack, Macy’s, and Best Buy are all reducing employees or closing stores. In April 2014, Sears closed its flagship Chicago store and reinvested in online sales. Since 2010, the company has closed around 300 locations in the United States.
Just four months after Sears shuttered its State Street store, another retailer—Guitar Center—opened a 28,000-square-foot flagship in New York City’s Times Square. With other national chains reeling, Guitar Center entered a new era by opening the largest of its 267 US stores. The building at 44th and Broadway includes a Platinum Club, recording studios, interactive elements, and a Fender custom shop showroom.
Guitar Center’s senior vice president and general counsel, Mike Pendleton, joined the company in 2005 after starting his career in M&A and securities work at three private firms. He says the rise in online shopping and the financial crisis of 2008 have forced changes in retail. “There’s been a dramatic shake-up in how retailers approach customers, and the whole face of retail has changed since I came to Guitar Center,” he explains.
Guitar Center’s bold decision to open new stores may signal a continued shift from the norm in the retail industry, but the brand is no stranger to change.
The company was born in 1955 when Wayne Mitchell started the Organ Center in Hollywood. Five years later, after selling Vox products, it became the Vox Center and finally took the name Guitar Center by 1970. Mitchell opened stores across the state before selling the company to Ray Scherr, who ran the organization until the mid-1990s.
Since then, Guitar Center has been part of many deals, taking the group from private to public and back again. In the 1980s and ’90s, Guitar Center prospered as private equity firm Weston Presidio helped the growing organization achieve national reach. As the twentieth century ended, Guitar Center went public and became the dominant player in the musical instrument retail industry.
But in the private equity boom of the era, Guitar Center was taken private by Bain Capital. It was done through a Goldman Sachs deal of cash and debt worth $2.1 billion, with $1.56 billion borrowed. “In the mid-2000s, it was typical for a private equity company to acquire a company using a high-debt load, and then to take it public and receive a big return,” Pendleton says.
Bain’s acquisition went heavy on debt through high-interest bonds. However, because a single holder purchased all of the bonds, Guitar Center was able to negotiate not having to file reports with the Securities and Exchange Commission, and it became truly private. And while earlier, similar deals took three to five years to mature and bring profits, Guitar Center’s deal hit an unexpected obstacle—the financial crisis of 2008.
Retailers were hit hard, but Guitar Center was in a unique position to weather the storm. In 2000, the company bought the online outlet, Musician’s Friend and, as a result, operated the largest online retailer in the industry.
By refusing to abandon brick-and-mortar stores, the company has maintained its ability to allow customers to see and feel the products. Throughout its history, Guitar Center has earned a reputation among musicians as a place where they can take the time to test their instruments. “People know they can come in and try out the products,” says Pendleton. “We’re in a passion retail industry, where people often prefer to touch and feel the instruments and shop where they can ask expert salespeople for advice instead of relying on online reviews alone.”
In spring of 2014, Guitar Center had three years left until its debt was due. It had issued $830 million in bonds, a secured term loan of $616 million, and $100 million in revolving debt. Its chief financial officer, Tim Martin, told Music Inc. magazine that, despite appearances, company bonds were trading “above par” and were an “attractive investment.” All Guitar Center and affiliated Music & Arts stores were cash-flow-positive. Together, the stores were generating good income, and Guitar Center was spending just greater than $60 million per year in capital expenditures. “Our single largest debt holder wants us to grow the business,” said Martin.
In April 2014, Guitar Center’s largest bondholder, Ares Management, agreed to swap $535 million in debt for equity to free up additional cash for growth, resulting in a drop in annual interest expense by about $70 million. That maneuver, Pendleton says, puts Guitar Center on solid ground for the future. “It was a major transaction, and now we can focus heavily on business operations instead of worrying so much about the capital structure. We are focused on marketing and operations to get the business where we want it to be.”
This year, Pendleton celebrates 10 years on the job, and he has already led the organization through three significant and complex transactions. He’s pulled it off with a small team ranging between just three and six attorneys. “We have success here because we are involved in every aspect of the business. We answer legal questions, advise on strategic direction, and talk about risk management. Everyone on the team is trusted to speak on any issue that might affect Guitar Center,” he says.
Today, Guitar Center is still the largest retailer of musical instruments and related products. The company is several times larger than its next-biggest direct competitor, Sam Ash Music.
In addition to Guitar Center stores, the company includes the largest school music dealer in the United States (Music & Arts) and some of the largest online retailers in the industry (Musician’s Friend, Woodwind & Brasswind, and Music123). In November 2014, the board of directors announced the hiring of former Jo-Ann Fabric and Sports Authority CEO Darrell Webb, who has placed Guitar Center on an aggressive growth track.
Despite increased competition from online giants, Webb believes the company’s overall position is on strong enough ground to prove that brick-and-mortar music retail is alive and well. Webb has the company poised to open as many as a dozen new stores each year.
To do that, Webb, Martin, Pendleton, and their peers are taking a new approach. About one-third of the stores have lesson space, and they believe most stores should. They also want more recording studios, financing options, and rental programs. Many of the older locations will be retrofitted and remodeled.
“We want our stores and businesses to run in a more efficient and profitable manner, and we want to make sure we are providing our customers with ancillary services beyond just instrument sales,” Pendleton says. “These services enhance both the customer experience and store traffic.” A win-win.
“We also are taking steps to appeal to a wider customer base by providing a more open and less intimidating environment from the historical ‘hard rocker’ shop reputation,” he says. If the plan works, the company sees significant growth potential over the remainder of the decade.
Pendleton, who also plays guitar and bass for TV, commercial, and film scores, says he and his peers know what kind of experience musicians are looking for. “People want to come in, hold and feel an instrument, make comparisons, and talk to other passionate music-lovers,” he says. That’s why Guitar Center is focused on physical stores combined with a strong online presence. Additionally, it’s working with recording artists, labels, and content providers to develop contest, promotional, and sweepstakes deals, including the award-winning GC Sessions program on DirecTV.
“We want to reach fans of all genres to increase the overall health of the industry,” says Pendleton. “We’re increasing the whole pie, not just our piece of it.” As the face of retail continues to change and many big brands are closing locations nationwide, Guitar Center is playing a different tune.