Zany Brainy

1991 – 1996 · A bookseller’s toy store

Carpets, low shelves and nothing violent

David Schlessinger had founded Encore Books, a bookstore chain, in 1973. In 1991 he founded Zany Brainy and opened the first store in Wynnewood, Pennsylvania, outside Philadelphia.³²⁷

The idea, as the company later put it to investors, was “a different kind of toy store.” It sold toys, games, books, software and craft kits for children up to 12, chosen because they were meant to help a child develop. It did not sell toys that it thought encouraged violence or reinforced gender stereotypes, and it generally did not carry toys promoted on television. The stores were fully carpeted, with low shelving so that children could reach the products, a reading area, computers for trying software and a small theatre that showed films. There was a free event every day.¹

In 1994 the company “embarked on an aggressive store opening strategy”: 11 stores that year, 15 in 1995 and 12 in 1996. In its own word the results were “disappointing.” It lost $6.7M, $7.8M and $6.0M in those three years. New managers found that large stores cost more without selling more, that stores clustered in one market took sales from each other, and that shoppers thought the chain was expensive.¹

Thomas G. Vellios arrived from the discount chain Caldor in November 1995 to run merchandising. Keith C. Spurgeon, who had spent more than ten years at Toys “R” Us, became chief executive in June 1996. Schlessinger was chief executive until 1996 and chairman until 1998.¹²⁷

1997 – 1999 · The fix and the IPO

Smaller stores, a first profit and $10.00 a share

The new team cut the prototype store to 10,600 square feet, spread new stores across more markets, changed the merchandise more often and built a mailing list. Only nine stores opened in 1997. Sales per square foot rose from $183 in 1996 to $227 in 1998.¹

In fiscal 1998 Zany Brainy made a profit for the first time: $9.0M on sales of $168.5M, of which $6.2M was a one-time tax benefit. It ended that year with 75 stores.¹

On June 3, 1999 it went public on Nasdaq under the symbol ZANY. It sold 6.1 million shares at $10.00, the bottom of its expected range; 3.8 million were sold by the company and the rest by existing shareholders. The company’s share of the proceeds, before expenses, was $35.4M. The stock closed its first day at $11.44.¹¹⁹

Fiscal 1999 was the best year the company had on its own: 103 stores in 26 states, sales of $241.2M and net income of $6.9M. Two crazes helped. Pokémon products were about 7% of that year’s sales and Beanie Babies about 4%.²

Oct 1999 – Sep 2000 · Three bets

A website, a merger and 27 new stores

In October 1999 Zany Brainy formed a joint venture with Online Retail Partners to run zanybrainy.com. Each side put in $5.0M at the start, and the partner added $10.0M a month later. In March 2000 the two agreed to put in another $12.0M, of which Zany Brainy’s share was about $6.8M.²

In April 2000 it agreed to merge with Noodle Kidoodle, a chain with the same idea and 59 stores. The trade press valued the all-stock deal at about $40M: 1.233 Zany Brainy shares for each Noodle Kidoodle share. Spurgeon called it “a natural fit.”²⁰ The merger took effect on July 26, 2000. About 9.4 million new shares went to Noodle Kidoodle’s holders, 60 stores came across, and every one of them was to be renamed Zany Brainy.³

In the same fiscal year the company opened 27 stores, changed its merchandising software, and replaced both companies’ bank lines with one $115M credit facility secured on inventory.³

Spurgeon resigned in September 2000, two months after the merger closed. Vellios became acting chief executive.³

Both companies were marginally profitable in fiscal 2000, and the economies of scale resulting from the merger should boost the combined company’s bottom line.

Oct 2000 – May 2001 · The default

A Christmas without a hit toy

Sales at stores open more than a year fell 10.0% in fiscal 2000. The company blamed fewer customers and the lack of a “hot” product. Sales at the former Noodle Kidoodle stores declined too, which the company put down partly to the change of name, and the software conversion left stores with the wrong mix of stock. Gross margin fell from 28.8% of sales to 22.0%.³

In December 2000 the internet venture was dissolved and Zany Brainy took over the website and its debts. Its share of the venture’s losses for the year was $11.5M.³

The year ended with a net loss of $80.7M on sales of $400.5M. The loss included $29.4M of charges tied to the Noodle Kidoodle deal and a $33.9M write-off of tax assets the company no longer expected to use.³

The credit line was tied to the appraised value of the inventory. In January 2001 the bank’s appraiser lowered that value, and with it the amount the company could borrow. On February 28 the bank said the company was in default. On March 15 the largest suppliers formed an informal committee and agreed not to press for payment for two weeks. The standstill was extended repeatedly, the last time through May 14.⁴³⁰³⁵

On May 8 the company stopped selling on its website. On May 15, 2001 Zany Brainy and five subsidiaries filed for Chapter 11 in Delaware, with 187 stores and a $115M bankruptcy loan from Wells Fargo Retail Finance. The stock closed that day at 33 cents. Nasdaq delisted it on June 1.³⁵⁶

Our rapid growth this past year, which included the acquisition of 60 Noodle Kidoodle stores, the opening of 27 new Zany Brainy stores and substantial investment in our Internet strategy presented significant operational challenges.

Jul 2001 – Dec 2003 · Sold, merged, liquidated

From 187 stores to 89, then none

On July 10, 2001 Zany Brainy said it would sell itself to Waterton Management, a Los Angeles investment firm, in a deal that was expected to pay unsecured creditors 15 to 20 cents on the dollar.⁸²² On August 16 the bankruptcy court instead approved a competing offer from The Right Start, a California chain of 68 stores selling products for infants and toddlers. Waterton agreed to invest $20M in The Right Start.⁹²³

The sale closed in the first week of September 2001. The Right Start took 187 stores in 34 states for consideration of about $100M, most of it borrowed from the same lender that had financed the bankruptcy. Zany Brainy’s shareholders received nothing, and the shares were cancelled under a liquidating plan confirmed on March 6, 2002.¹⁰¹¹²⁹

In January 2002 The Right Start also bought FAO Schwarz and renamed itself FAO Inc.¹²²⁴ It closed 18 Zany Brainy stores (derived), put Right Start shops inside others and re-merchandised all 169 that were left. Zany Brainy’s same-store sales fell 17.9% in the year to February 1, 2003.¹²¹⁴

FAO Inc. filed for Chapter 11 on January 13, 2003, closed 80 Zany Brainy stores and emerged on April 23 with 89.¹³¹⁴ On November 7 it said holiday sales were “disappointing and significantly below expectations.” Its lenders sent a notice of default the same afternoon.¹⁵¹⁶ On December 2 it announced that it would file again, sell FAO Schwarz and The Right Start, and liquidate Zany Brainy.¹⁷ The date the last store closed is not in our sources.

Over time, we would have further differentiated ourselves by creating a more unique merchandise offering and improving our customer service, but we simply ran out of time.