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 / Second Quarter 2000 / Issue 19(originally published by Booz & Company)


Toys "R" Us Battles Back

But perhaps the biggest advantage of an established company that Mr. Barbour hopes to tap into is the parent company's deep pockets. Even with its troubles, Toys "R" Us had nearly $1 billion in cash flow in fiscal 1999. By dipping into this money, as well as using proceeds from the impending IPO, could put on an advertising blitz and a marketing campaign aimed at the gargantuan Toys "R" Us mailing list that would dwarf anything the online competition could muster.

"They have brand, money, customers, and systems; it's a shame it took them this long to realize that the same business advantages that work in the real world — that they took so much pride in — are just as important, if not more important, on the Web," says Mr. Moog. (See "Playing the E Game" at the end of this article.)

Optimism about is particularly strong because eToys, its chief online rival, is remarkably weak competition. Unlike the significant head start in books that had when Barnes & Noble belatedly launched its e-commerce venture, the two-and-a-half-year-old eToys has barely made a dent in the toy market: Its sales last year represented about 0.5 percent of the $23 billion U.S. toy market, compared to the roughly 4 percent share that enjoys in the $13 billion book market.

Although eToys has put a lot of money into building a big inventory, it's woefully underfunded and understaffed for a sustained battle of the shelves against — a vulnerability that could hurt eToys badly, because as a retail sector, toys depend for survival on fully stocked inventories of the most popular products anticipated.

As of the beginning of this year — and after selling $150 million of convertible bonds in December — eToys had about $220 million on hand. That may not cover expenses much past the next 12 months. As it is, eToys had $144 million in operating losses in the nine months ended December 31, 1999, and in a recent filing with the Securities and Exchange Commission, it warned, "We anticipate our losses will increase significantly from current levels because we expect to incur additional costs and expenses." Highlighted expenses include brand development, marketing, inventory management systems, the expansion of warehouses and distribution operations, more product offerings, and the development of relationships with suppliers. Many of these, of course, are areas where's parent already has a distinct lead.

Furthermore, eToys won't be able to rely on using its stock as currency for expansion or as a means of raising more money. It has had a disappointing Internet stock history. After going public last May at $20 per share, it traded as high as $86 in October before tumbling to about $15 by February, even as the Nasdaq continued to soar. The shares could drop even lower; the stock is being diluted by, among other things, an increasing number of options being granted to employees as compensation for the falling stock price. Making matters worse, insiders, obviously frightened by the falling value of their investment, have filed to pour 13 million of their shares onto the market. Among them is Idealab, which filed last November to sell more than 13 percent of its 15 million shares.

Some industry observers don't even expect eToys to remain a direct rival of for much longer. The more likely scenario, they say, is for eToys to become an "e-kids" portal — a one-stop-shopping source with parenting information, toy ideas, pediatric health and pregnancy advice, and wholesome children's content. With this approach, some believe eToys could develop multiple revenue streams, including advertising and subscriptions as well as transactions.

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  1. Clayton M. Christensen and Richard S. Tedlow, "Patterns of Disruption in Retailing," Harvard Business Review, January-February 2000
  2. The NPD Group Inc., Port Washington, N.Y.: 
  3. Barnard's Retail Trend Report, Upper Montclair, N.J.:
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