Continuing high unemployment, slumping consumer confidence and further curtailment of consumer credit do not bode well for the struggling retail sector. But for the purveyors of so-called discretionary items, these negative trends have pushed some of them to the brink.
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Middle Class Job Blues Hurting Mall-Based Jewelers
Case in point: mall-based jewelery vendors. Bling has not been on the minds of average folks and that has put a dent in the fortunes of one-time kings of bling such as Zale Corp. (NYSE:ZLC) and Blue Nile (Nasdaq:NILE). Disappointing 2009 holiday sales have pushed Zale's to the point of nearly breaching its debt covenants and prompted the shares of Blue Nile to decrease by 4.4% following its fourth-quarter results. Valentines Day sales helped Zale realize a profit, but the sustainability of needed revenue increases is.

Hard-pressed consumers have drifted away from the malls in search of bargains at big box outlets like Walmart (NYSE:WMT) and that shift to the lower end has also included jewelery. It's a dramatic contrast to the goings on in the higher end of the jewelery market where tony vendors like Tiffany (NYSE:TIF) have benefited from the continued strong demand from their high-end clientèle. Tiffany recently reported expectations-beating results and increased its dividend.

Zale's Shares Up on Buy-In Hopes
The 50% run-up in Zale's shares in recent days has investors believing that the company may have found a way out of its woes. Hope now floats on the dual possibilities that the company is on the cusp of securing new sources of funds to steady its shaky cash position, as well as being the target of major private equity player Apollo Management, which may be considering taking a stake in Zale. A better-than-expected earnings report by the company has raised the odds that these deals can be closed. (This investment vehicle attracts wealthy investors to increase the value of portfolio companies. To read more about private equity, check out What Is Private Equity?)

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Zale's Creditors May Oppose Apollo Stake Move
If Apollo proceeds with taking a stake in Zale, it won't be its first foray into retail jewelery. It previously acquired Claire's, a mall-based accessories and jewelery chain, but so far, that investment hasn't worked out. Recently, Apollo stopped paying cash interest to Claire's bond holders, opting to "pay-in-kind" by issuing more debt to them. It's a prospect that Zale's creditors are unlikely to be happy with should Apollo be considering a similar maneuver as part of its buy-in move. Any opposition on their part could be a show stopper.


The Bottom Line
With one underperforming retail jewelery investment in their portfolio, it's hard to see why Apollo would want to be saddled with a second one, unless it's planning a massive amalgamation of the two entities sometime down the road. But any turnaround in the mid-market jewelery space is at least two years away according to analysts. An amalgamation would be a huge undertaking involving a lot of give and take with existing debt holders. It's far from certain whether equity holders would be better off at the end of such a process. (For more related reading, see Learn The Lingo Of Private Equity Investing.)

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