No Spark at Spectrum Brands

The company's core battery business is struggling, and expanding its range of products hasn't thrilled investors. Is a turnaround in sight?

Spectrum Brands (SPC) likes to say that it's "a brand-new 100-year-old company." This means that the Atlanta-based outfit, formerly called Rayovac, is looking to branch out beyond batteries to become a broader consumer-products company. By entering more product areas, the company hopes it can offset the declining performance of its core business, where it has suffered from high material costs and tough competition.

Spectrum's diversification strategy has been underway for several years, but the company's stock price suggests that Wall Street is wary. The stock dropped to a 52-week low of $12.57 before closing at $13.02 on June 15, down from $39.42 last July. As of May 10, more than 18% of the company's outstanding shares were sold short, a bet that the stock would fall.

To expand from batteries to other consumer items, Spectrum acquired United Industries, Tetra Holding, and Jungle Labs in 2005, gaining products in lawn care, pet supplies, and insect repellent. This followed the 2003 purchase of Remington Products, an electric razor brand. These deals left the company with $2.3 billion in debt as of the beginning of April.

During a June 1 conference call, President Kent Hussey said the company planned to pay off about $150 million this year, acknowledging that the debt will prevent further acquisitions for a while. The company did not respond to a call requesting comment.


  In April, Spectrum Brands lowered earnings guidance for the quarter ended Apr. 2, due largely to disappointing battery sales. This followed the company's reduced guidance in September.

Spectrum still gets most of its sales from batteries (41% of total sales in fiscal year 2005), which performed poorly in 2005. Known as a "value" brand, Spectrum's Rayovac is caught between generics and premium competitors like Procter & Gamble's (PG) Duracell. Last year the company got slammed in North America when it eliminated a promotion offering more batteries for the same price, but took too long getting the promotional packaging out of stores, according to the company and analysts. This coincided with soaring zinc prices.

Meanwhile, in Europe, generic batteries have grown more popular as consumers warm to large stores. This has hurt the market share of Spectrum's European battery brand, Varta, which was oriented for sale at small shops. The shift away from brand-name batteries in Europe "caught us somewhat off guard" a company representative said in the conference call.


  The battery problems contributed to a drop in fiscal 2005 net income to $47 million, from $56 million in fiscal 2004, as gross profit margins slipped to 37.5%, from 42.8%.

Spectrum could eventually turn into a worthwhile bet as its other brands expand. For the quarter ended Apr. 2, Spectrum reported net sales of $625.1 million, up from $521 million a year earlier. Sales of acquired brands accounted for $118.6 million, slightly more than the difference.

Still, analysts question the company's game plan. The company aims to take advantage of distribution and logistics to sell a variety of products to mega-retailer customers like Home Depot (HD), Target (TGT), and of course Wal-Mart (WMT). But recent moves by Wal-Mart to reduce inventory could hurt Spectrum more than the competition, says Jason Gere, an analyst with A.G. Edwards.


  Wal-Mart is "trying to shrink shelf space for a lot of categories," and this could hit brands like Rayovac and Remington, which are not market leaders, Gere argues. He rates the stock hold/aggressive, a mark implying high volatility.

Reductions in store space could be especially problematic given that the company is making what Morningstar analyst Lauren DeSanto calls a "synergy, distribution play" to economize the distribution of widely disparate products to the same large customers. To some extent, selling batteries and other Spectrum brands relies on customer impulses. And DeSanto says big retailers won't necessarily give Spectrum advantages, such as prime shelf space, that impulse purchases need to thrive.

Even if it does manage to reduce costs by boosting efficiency, Spectrum "will still be a collection of mediocre brands and products," DeSanto wrote in a recent report. Nonetheless, she says, "There's something to be said for what they're doing," given that fiscal 2005 performance would have been far worse without the acquisitions. "It's going to take a lot for this company to turn around, but [the stock is] pretty cheap right now."

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