Royal Is Having A Devil Of A Time

Red-hot growth in sales and earnings has been as much a trademark of Royal Appliance Manufacturing Co. as the crimson-colored Dirt Devil Hand-Vac that thrust the company into the appliance industry spotlight. Royal's net income grew 225% from 1989 to 1990, while sales shot up 90%. No wonder investors snapped up $101 million worth of Royal's stock last August, in one of the year's most successful initial public offerings. Six months later, the stock, which was offered at 15 1/2, hit its high of 31.

But the Dirt Devil may be done cleaning up. Royal's second-quarter earn- ings, released on July 23, limped in 78% below year-ago levels. Stunned, Wall Street quickly pulled the plug on the Cleveland company, dumping 8 million shares and sending the price plummeting to 8 3/4. What's more, at least five class actions were filed in U.S. District Court in Cleveland by Royal shareholders. Irate investors charge that Royal CEO John A. Balch had glossed over the company's pending results.

NO CREDIBILITY. Wall Street won't be warming up to the stock anytime soon. Sales for the first half of 1992 grew 46%, yet that rate was well below analysts' projections. "They've lost all credibility," gripes analyst Lisa A. Broadbridge. Her firm, Smith Barney, Harris Upham & Co., underwrote Royal's IPO. Now, she's advising investors to unload the stock.

Ironically, many of Royal's troubles can be traced to the very strategy that turned the company into a marketing success: megaspending on national advertising. From the time he acquired the company in a 1981 leveraged buyout, Balch has spent heavily to make Dirt Devil a brand name sought after by consumers. Thanks to TV and print ads starring Balch, the Dirt Devil has kept grabbing sales in the portable-vacuum market, leaving Black & Decker Corp.'s DustBuster scrambling.

With retail heavyweights Wal-Mart Stores Inc. and Kmart Corp. carrying his products, Balch aimed to boost sales by expanding the Dirt Devil line. In August, 1990, Royal rolled out the first of its uprights for $139 each. Even critics commend Balch for carving a profitable niche in the upright market and broadening Royal's product line. Hoover Co., with its 37% share, still dominates the industry. But sales of Dirt Devil Uprights swelled to $13 million in the second quarter, pushing Royal's share to 7%, compared with 2% in 1990.

In March, Balch introduced a second upright for $99. But the lower-priced machine cannibalized sales of the higher-margin model. "I don't understand it, and neither did a lot of retailers," says a competitor. Still, Balch plans to roll out a $59 upright this year.

The expansion watered down Royal's margins just as the company's upward sales momentum lost steam in the second quarter. Gross margins fell to 34% of sales, compared with 40% a year earlier. Another earnings drag: The company has opened two new assembly shops this year. To support the new models, Balch spent a full $31.6 million in advertising during the first half of 1992, up from $15 million during the same period last year. "It looks like the company tried to spend their way out of weak sales, and it didn't work," says Broadbridge. "They misled the Street."

Balch declined an interview, saying only that he tried to be "as honest as possible" with investors about current earnings. The poor performance may force Balch to abandon his aggressive ad spending plans.

"I believe they will cut back in advertising, and when they do, their sales will fall," predicts Jeffrey M. Bye, director of cleaning-products marketing at Black & Decker Inc. If that happens, Balch will be left with a mess that even the Dirt Devil can't handle.

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