A federal monitor in the Hilo Hattie bankruptcy case has suggested that the kama'aina retailer be liquidated.

Hilo Hattie continues to lose money and its turnaround plan focused on opening a flagship store at Royal Hawaiian Center in Waikiki has failed, Curtis Ching, assistant U.S. trustee, said in a court filing.

But the company said it is working on an alternative plan to open several new stores in Hawai'i that would enable the venerable chain to survive.

The Office of the U.S. Trustee, a watchdog for the federal bankruptcy process, filed a motion on Friday to convert Hilo Hattie's seven-month-old Chapter 11 reorganization case to a Chapter 7 liquidation.

The petition cited the Royal Hawaiian Center store plan, which was abandoned in February, plus operating losses of $3.3 million between October, when Hilo Hattie filed for bankruptcy, and February. The retailer also has accumulated an additional $2.2 million in debt over the same period in large part from deferred rent arrangements and terminated leases.

"The debtor's reorganization efforts have failed, and the debtor's financial condition is far worse now than it was at the commencement of the case," said the petition signed by Ching and Tiffany Carroll, acting U.S. Trustee. "The debtor does not appear to have a viable alternative business plan."

Jim Wagner, an attorney representing Hilo Hattie, called the U.S. Trustee's motion premature.

"We think the U.S. Trustee is way out of line, and causing substantial damage to the company," he said.

Liquidating Hilo Hattie would put 200 employees out of work, provide little return to creditors and remove from the economy a large local operation that since October has generated $19.6 million in business, according to the company.

Wagner said Hilo Hattie, which has seven stores in Hawai'i, continues to cut costs to keep the business afloat while it negotiates leases for what it hopes will be two to five new stores in Hawai'i over the next couple of years, including a couple of lease deals in the next 30 to 60 days.

The new stores, Wagner said, are being sought on O'ahu and on the Neighbor Islands.

Significant discussions have been held on leasing space on the mall level of Ala Moana Center, at Aloha Tower Marketplace, Queen's Market Place on the Big Island, Kapaa Center on Kaua'i and one or more hotels in Waikiki owned by Kyo-Ya operated under Sheraton, Westin and Starwood brands, the company said in a court filing.

None of the envisioned new stores necessarily would be on the scale of the 29,000-square-foot flagship previously planned for Royal Hawaiian Center, Wagner said.

"We are fairly far along on this process," he said, adding that finding suitable space and negotiating leases takes considerable time, but that after locations are nailed down the company expects to file a reorganization plan with a financial sponsor to execute the plan for returning the company to profitability and repaying debts.

A hearing on the U.S. Trustee's motion is scheduled for June 22. Wagner said a formal reorganization plan should be filed before then, which will help bankruptcy Judge Robert Faris determine whether Hilo Hattie — established in 1963 and known as the "Store of Hawai'i" — will live on.

FAST EXPANSION

Hilo Hattie filed bankruptcy on Oct. 2 under financial stress that largely stemmed from an aggressive expansion on the Mainland over the past decade followed by an ill-fated effort three years ago to reverse losses by ceasing apparel manufacturing in favor of importing cheaper merchandise that hurt the retailer's reputation and sales.

Company founder Jim Romig sold his ailing company last July for $25,000 plus monthly payments of an undisclosed sum to a California investor group led by Ted Nelson, who through another company owns franchise rights to Fantastic Sams salons in Hawai'i and California.

The sale was followed by changes to management, higher-quality merchandise and an arrangement to pay off $6.5 million in vendor debt over one to four years.

But unforeseen events last year that included double-digit visitor arrival declines and energy price spikes forced the company to file bankruptcy with about $12 million in debts.

The Royal Hawaiian Center flagship store had been planned under Romig's leadership, but became the linchpin for pulling Hilo Hattie out of bankruptcy, company officials told creditors at a meeting in November.

Hilo Hattie renegotiated lease terms with center owner Kamehameha Schools, and hoped to open the store in July above Cheesecake Factory in the recently renovated mall.

But attempts to raise the majority of an estimated $6 million needed to construct the store failed in the debilitated credit market.

"We got hit by a retail smash, and then we got hit by the credit crunch," Wagner said. Hilo Hattie failed to meet a mid-January deadline with Kamehameha Schools and mall manager Festival Cos. to have a construction contract, and the lease deal was terminated.

COMPANY'S PLAN

Wagner said the company will have a viable restructuring plan if it can open more stores in heavily traveled tourist destinations to supplant the presently flawed business model of transporting customers to Hilo Hattie's flagship store in largely industrial Iwilei.

"The debtor believes that the company is a valuable brand, and that clearly there is a market for its goods in Hawai'i," he said, adding that landlords have been receptive to adding Hilo Hattie to their merchant mix amid the contraction in retailing.

Cost reductions since filing bankruptcy have included laying off more than 36 employees and closing a distribution center and the last two Mainland stores in San Diego and Orange, Calif.

A committee of unsecured creditors that includes vendors and former Hilo Hattie CEO Paul deVille two weeks ago questioned the efforts of Hilo Hattie management to turn the company around, and has asked the court to oust current management and install an independent trustee to run the company while in bankruptcy.

The motion by the creditors committee cited some concerns also raised by the U.S. Trustee such as the operating losses and lack of a turnaround plan, and also said inventory has dwindled from about $5.4 million in October to $3 million in February.

Hilo Hattie has objected to the creditors committee motion, and said appointing a trustee would kill its new turnaround plan and likely lead to liquidation.

Wagner emphasized that the company is still able to pay vendors in accordance with payment terms, and that the current owners aim to carry on business until the new plan is executed.