New York, NY – Last week, Big Lots, a Columbus, Ohio-based discount retailer agreed to drop its lawsuit of independent channel checker, Retail Intelligence Group (RIG). The final settlement won’t involve any monetary compensation, and neither party admitted wrongdoing in the action. While it is clear that the settlement was welcomed for both RIG and Big Lots, it does little to clarify how investors should conduct legitimate channel checking.
The Initial Suit
The lawsuit was initially filed in Hillsborough County, Tampa on November 22, 2010 as Big Lots alleged that RIG’s analysts went beyond standard channel-checking methods, and that they induced the firm’s store managers to disclose trade secrets and confidential or proprietary information about the retail chain’s sales, inventories, and foot traffic to sell them to investors and other third parties who buy RIG’s reports in order to gain an unfair advantage over the general public.
Channel Checking is the process of conducting investment research by doing analysis of a firm’s supply chain. Traditionally, analysts would conduct channel checks by speaking with suppliers, store managers, or customers of a company to determine if the disparate pieces of information would indicate whether the production or sales of a company’s products were likely to be stronger or weaker than anticipated. This type of research has normally been seen to be an appropriate use of the “mosaic theory” of research.
Under the terms of the settlement, Retail Intelligence Group has agreed not to contact or survey Big Lots employees in the future, nor can they use any of the information they compiled previously for future reports. RIG also agreed to turn over certain information about its research methods to Big Lots. The final settlement won’t include any monetary compensation, and neither party admitted any wrongdoing in the matter.
Additional information about the Big Lots settlement can be found in last week’s Wall Street Journal article on the topic (click here). On February 21st, Retail Intelligence Group sent a letter to its customers discussing the settlement. Click here for a copy of this letter (RIG letter to clients Feb21 2011).
Based on Integrity’s regular analysis of the channel check industry, it is hard for us to imagine that Retail Intelligence Group provided a financial incentive to Big Lots’ store managers to induce them to participate in their regular channel checks. In addition, we doubt that RIG was aware of the rather stringent confidentiality agreement that Big Lots’ store managers purportedly had with their employer.
Instead, we suspect that Big Lots management was caught completely off guard by the accuracy of RIG’s rather bearish report on the firm issued on October 20, 2010, and the firm was extremely embarrassed by the fact that RIG told their clients that the firm was going to do worse than expected. In matter of fact, Big Lots subsequently missed its guidance for the 3rd Quarter, and had to lower its earnings estimate for the year. We imagine that Big Lots management thought that a lawsuit would keep RIG from publishing more bearish research on the firm, and hoped that the lawsuit might be able to divert attention from management’s poor financial performance.
Then why did RIG settle the case? In our estimation, Retail Intelligence Group agreed to settle the case because parent, Lebhar-Friedman, Inc. found the Big Lot’s lawsuit to be a distraction that it could not afford at the time.
It is important to note that Lebhar-Friedman is one of the largest independent publishers of trade magazines and journals for the retail and foodservice industries. Unfortunately, Lebhar-Friedman has, like many other traditional print publishers, suffered in recent years due to the impact of the internet.
Consequently, industry sources suggest that Lebhar has been looking to sell off several of its assets to help ease the firm’s financial crunch. In fact, in December 2010, the Lebhar-Friedman sold off its flagship title, Nation’s Restaurant News, and Dowden Health Media to different acquirers. It is clear that no one at Lebhar-Friedman wanted to risk the negative impact the Big Lots case could have on this effort.
No Consequences on Research
Unfortunately, the settlement between Big Lots and Retail Intelligence Group did little to help clarify the confusion that has sprung up in recent months over the legitimate use of channel checking in the research process. As a result, buy-side analysts will have to continue conducting their research as they have in the past, hoping that the SEC and the Manhattan District Attorney’s office doesn’t find a way to change the rules of the game on them.