Dive Brief:

• S&P Global downgraded Michaels Companies to B+ from BB-, putting the craft retailer's rating closer to C-territory.
• The downgrade follows a third quarter that fell below S&P analysts' expectations, "leading us to believe the company's competitive standing is weakening," S&P said in a press release on Wednesday.
• Michaels sales during Q3 fell 4% year over year to $1.2 billion as comparable sales fell 2.2%. Discounting, tariffs and a change in sales mix hurt the retailer's merchandise margins, and operating income fell by 44.6% to $76 million. S&P said Michaels Q3 numbers "lead us to believe its market share in the arts and crafts industry is eroding."

Dive Insight:

Analysts with S&P said they expect Michaels' business to remain pressured over the next year from industry headwinds, though the retailer could get a traffic bump from the liquidation of fellow craft specialist A.C. Moore's retail footprint.

Michaels capitalized on the opportunity presented from A.C. Moore's wind-down, acquiring the right to lease up to 40 of the company's locations as well as a distribution facility in New Jersey. Michaels expects the stores to reopen under its name next year. "The transaction is intended to expand our presence in strategic markets and better serve our customers both online and in stores," Michaels said in its earnings announcement. 

Michaels CEO Mark Cosby, who stepped in as interim chief in March after Chuck Rubin stepped down and in October became permanent CEO, told analysts earlier in December that "while we are working from a great foundation, we know we must address the challenges that we face as a business and return the company to sustainable long term growth," according to a Seeking Alpha transcript. 

Cosby attributed the decline in Q3 comps to "underlying business trends that our new maker strategy is designed to address," as well as underperforming sales events and product categories, and a choppy seasonal transition. He said his team is working to specifically address all these factors. 

Michaels sales and income went into decline in fiscal 2018, while its comp sales growth has remained below 1% every year after 2015. Although the company has attributed soft performances to industrywide trends, GlobalData Managing Director Neil Saunders said earlier this year that his firm's data shows a 4.6% increase in consumer spending on the crafting category. That means the retailer is losing market share. And Michaels has plenty of competition to lose share to, not just from Hobby Lobby and Joann but also generalists like Amazon and Walmart.

Cosby told analysts this month that the company is working to adapt to market changes with a number of initiatives, among them hosting maker classes with a new online interactive calendar, a digital community platform that is currently in the works and a "maker-centered" test store opened in November.

"We believe this lab store features an easier shopping experience, a curated assortment, an enhanced service experience, full omnichannel capabilities, and it will bring the community experience to life," Cosby said, adding that the company plans to open "a few" more of the lab stores next year.