Toy Stores Fight Extinction in Wal-Mart Age

Americans have always been nostalgic about their childhood trips to the toy store, whether it was to buy a shiny red tricycle, a first set of Hot Wheels or a Nintendo Game Boy.

But like the mom-and-pop toy stores they once swallowed, contemporary toy stores like Toys R Us (TOY), KB Toys and FAO Schwarz are now struggling to survive in a discount megastore world.

“The problem is called Wal-Mart (WMT),” said toy industry analyst Sean McGowan. “They don’t need to make a lot of money; to get traffic, they charge less than they paid for the toys. Wal-Mart is doing to Toys R Us what Toys R Us did to the other stores.”

Indeed, Toys R Us, the number two retailer of toys behind Wal-Mart, posted weak same-store sales for the holiday season last month and lowered its earnings forecast for the year, citing an "intense promotional environment."

“We had a difficult holiday season in part given competition from the discounters,” Ursula Moran, Toys R Us’ vice president of investor relations, told "They lowered their toy prices earlier than in previous years — in early October, rather than the beginning of November. They also took some very, very aggressive price positions on some high profile toys — that certainly was an issue for us."

But Toys R Us did well compared to other toy merchants. KB Toys (search) filed for bankruptcy in January and will close 30 percent of its stores and cut 29 percent of its jobs as it tries to revamp itself in time for the 2004 holiday shopping season.

FAO Inc. (search) filed for bankruptcy for the second time last year in December and is selling its two flagship stores to a unit of investment and technology venture company D.E. Shaw Laminar Portfolios LLC (search). It is also selling its Right Start infant toy stores and its Zany Brainy educational toy stores.

Both KB and FAO cited price competition from discount retailers.

"I think the fact that both FAO and KB wound up in Chapter 11 tells you something about how difficult the environment was," Moran said. "But we remained competitive on pricing with the discounters ... we think we held our own and held our market share on the core toy part of the business, though probably not the video part."

KB Toys did not return calls for comment, nor did D.E. Shaw.

Retail analyst Kurt Barnard said the problem is not just Wal-Mart and other discount megastores like Target — it’s a waning interest in plain, old-fashioned toys — and the lack of a Tickle-Me Elmo (search) or Cabbage Patch Kid (search) craze.

“It’s very simple — what the industry needs is must-have kinds of toys. We haven’t seen any particularly exciting toys. When there’s a lack of excitement and uniqueness then what wins the day is price. And toys have lost some of their popularity because of video games," Barnard said.

Mattel, in fact, saw Barbie (search) brand sales slide 5 percent in the fourth quarter of 2003, and 25 percent domestically.

McGowan agreed that today's 11-year-old girl is not as excited about Barbie as she once was.

“There's slow growth in the toy industry in the U.S.," McGowan said. "It’s a very competitive market. Kids are generally more sophisticated. They're less disposed to buying toys at holiday time that they were in the past."

Barnard and McGowan both said that to survive, toy merchants will need to take a risk and differentiate themselves with unique toys — and hope they catch on.

"All toy stores have the same products. If they were to concentrate on a particular kind of customer, it might be a little different. A company such as Zany Brainy (search) ... tried educational toys. The prices were too high but it was a step in the right direction," Barnard said.

Experts have speculated that D.E. Shaw is following this advice in choosing to buy just the New York and Las Vegas FAO Schwarz stores — ideal targets for wealthy tourists — and not the 13 others.

McGowan says to compete with the everything-under-one-roof megastores, toy stores must give customers a reason to make a special trip.

"Wal-Mart is now the biggest seller of bananas, dog food, sporting goods, almost everything. You can get toys at Wal-Mart while you’re doing your other shopping there," he said.

Such is the case for Bristol, Conn., mom Jessica Dumont, who often purchases toys for her two boys, ages 3 and 8, while she's buying other things.

"The great thing about Wal-Mart is they have the biggest stock of children's clothes, they have diapers  — so you can get many things at one time. The people there are trained very well, and it's a 10-minute drive from my house," Dumont said.

But Wal-Mart is not necessarily around every corner — yet. City dwellers like Brooklyn, N.Y., resident Chris Falcinelli, who has an 18-month-old daughter, still mostly rely on “little neighborhood stores” for toys.

“There's a sense we have that the big stores don’t have the interesting, educational toys that we’re looking for. Wooden toys, Legos (search) — things that remind us of when we were kids," he said. "And convenience is number one for me."

Dumont's first priority, however, is a bargain.

"I hope Wal-Mart doesn’t put the other stores out of business. They need the competition, or their prices will be just as high as everywhere else," she said.