Retailers procure goods in large quantities directly from
manufacturers or wholesalers and sell them in small quantities to
customers through a retail outlet or online. As consumer spending
is the key to the viability of any economy, the health of retail
industry is an important economic indicator.
As a pioneer in the retail business, the United States provides
ample growth opportunities for all types of retail companies.
Retailers of all sizes, including individual direct marketers or
direct sellers, small- to medium-sized franchise unit owners, and
large “big-box” store operators, compete in the U.S., fostering
increased growth opportunities.
From a growth perspective, the retail industry ranks second among
all the U.S. industries, and provides enormous employment
opportunities. Annual sales turnover of the retail industry is more
than 12% of total trade volume of all the U.S.-based businesses.
Additionally, it accounts for over 11% of total employment in the
country.
Recent Industry Trends
Despite beginning the year on a strong note, sales slowed down
during the calendar second quarter (for the period ended June 30,
2012), reflecting a drop in consumer spending. The June sales
results for most U.S. retailers were impacted by unsteady demand.
Gains around Father's Day were offset by weakening sales as bad
weather hit later in the month.
Following the disappointing June sales, retailers seemed to be
doing well with consumers initiating the key back-to-school
shopping season in early July instead of August. Looking at this
encouraging start, we expect the back-to-school season to hold good
for retailers in August and September. The National Retail
Federation projects 'back to school' and 'back to college' spending
to grow compared to last year.
The key data in retail industry analysis is comparable store sales
(comps), as it excludes sales at newly opened stores. July comps
remained solid for most retailers as hot weather and significant
promotions led the role-play for summer clearance sales. Comps
results for apparel retailers like
Limited Brands
(LTD) (up 12%),
The Gap Inc. (GPS) (up 10%),
Ross Stores Inc. (ROST) (up 7%) and
TJX
Co. (TJX) (up 7%) outperformed expectations. Additionally,
discount store operators such as
Costco Wholesale
Corp. (COST) and
Target Corp. (TGT) came
in strong, posting a 7% and 3.1% increase in July comps,
respectively.
On the other hand, department store chains like
Macy’s
Inc. (M),
Kohl’s Corp. (KSS),
Nordstrom Inc. (JWN) and
Saks
Inc. (SKS) continued to show promise with 4.1%, 1.7%, 0.9%
and 3.5% rise, respectively. However, results at the drugstore
chains were not so good with
Walgreen Co. (WAG)
posting a 7% decline in July comps, and
Rite Aid
Corp. (RAD) managed to grow only 0.5%.
Major underperformers in July included, teen apparel retailer
Wet Seal Inc. (WTSLA) (down 15.6%),
Cato
Corp. (CATO) (down 2%), and
The Buckle
Inc. (BKE) (down 0.1%).
Backdrop Still Weak
Uncertain and sluggish economic conditions continue to weigh upon
the retailers, indicating a grim outlook in terms of profitability
and consequent growth. However, continuous efforts on their part to
offer innovative products and value pricing have been paying off in
an economy which is still in the doldrums. It is still a tough time
for retailers, who are using their entire arsenal to combat the
sluggishness.
According to the U.S. Census Bureau, the U.S. retail and food
services sales declined 0.5% from the prior month sales to $401.5
billion in June. The latest domestic retail sales data points to a
third straight month of decline, reminding the days of financial
turmoil in 2008.
Moreover, the Conference Board came out with its reading of the
Consumer Confidence Index -- a barometer of U.S. consumer health --
which fell to 62.0 in June from 64.4 in May.
In addition to the U.S., economic readings have been bleak in
Europe as well as in China, the second largest economy. Consumers
in these regions are gradually becoming more rational about their
spending patterns as well. In addition, dismal unemployment
conditions are also weighing on their discretionary spending,
affecting the growth and profitability of the retailers. The
unemployment rate in the United States was reported at 8.2% in
June.
Store Closings a Common Trend in 2012
The retail industry expansion trend that was witnessed in 2011 in
terms of store openings seemed to fade in 2012 with the
announcement of triple-digit store closing plans by leading retail
chains like
Sears Holdings Corporation (SHLD),
The Gap Inc. (GPS) and
Abercrombie &
Fitch Co. (ANF). However, further analysis on the subject
showed that the increased shuttering of stores was mainly due to
shift in consumer preferences and change in retail shopping trends,
while it had little to do with any alteration in the industry
fundamentals.
A detailed information of store closures for 2012, as announced by
retailers, is as follows: 100 to 120 Kmart and Sears full-line
stores, 950 Gap North America stores (through fiscal 2013), 100
Pacific Sunwear of California Inc. (PSUN) stores
(in 2012), 35 U.S. and about 1 to 2 Mexico stores of
OfficeMax Inc. (OMX) (in fiscal 2012), 22 77kids
stores of
American Eagle Outfitters Inc. (AEO), 50
U.S.
Best Buy Co. Inc. (BBY) big-box stores
(through fiscal 2013) and many more.
Additionally, Abercrombie & Fitch is currently in a remodeling
phase as it plans to close its underperforming U.S. chain stores
over the next few years, while simultaneously speeding up growth at
its Abercrombie Kids and Hollister store concepts. The company
intends to increase its international presence by opening five
Abercrombie & Fitch stores in Hamburg, Hong Kong, Munich,
Dublin and Amsterdam as well as an Abercrombie Kids store in London
in fiscal 2012. In addition, the company plans to open about 40
international Hollister stores in fiscal 2012.
Another reason behind these increased store closure plans by
retailers is the growing demand for new shopping modes, namely thr
Internet and mobile phones. Consumers today prefer to use their
laptops or smart phones to compare prices of things they want to
buy and place orders online, instead of driving to the company’s
stores. This growing trend has guided major U.S. retail chains to
downsize their physical retail operations, and in turn, develop
their e-commerce and m-commerce sites to attract customers.
Overall, we believe such store closing announcements will continue
to rise through the end of 2012.
The "Re" is Back in Retailing
‘Transformation’ is the new mantra among the retailers. Despite
rapid technological advancements which are influencing consumer
behavior, the retail industry continues to reinvent, redesign and
revitalize its physical store formats to maintain their
dominance.
Of late, retail giants including Best Buy Co. Inc., Target Corp.,
J.C. Penney Co. Inc. (JCP) and
Build-A-Bear Workshop Inc. (BBW) are focused on
revisiting and re-evaluating conventionality and traditional
business traits, while also envisioning its brick-and-mortar store
merchandise offerings. Additionally, these companies continue to
actively re-engineer and re-tool various systems and processes.
Moreover, the retail groups are coming up with strategic
initiatives to boost operating efficiencies, drive growth and
enhance shareholder’s value. Most of the retailers are focusing on
abridging costs drastically to ensure competent operating channels.
We believe that such measures are necessary to gain competitive
advantage over peers. However, focus on improving the top line
should be prioritized to gear long-term growth.
Above mentioned traits are made clear seeking the example of J. C.
Penney, which has left no stone unturned to bring the company back
on the growth trajectory. Management has taken up everything from
implementation of new pricing strategy, fresh logo and strategic
merchandise and cost reduction initiatives, while enhancing the
shopping experience of customers. The company targets expenses to
be 27% of sales by the end of the transformation process.
Moreover, the leading specialty retailer of consumer electronic
products -- Best Buy will shutter some stores which are not
contributing to its growth, while modifications of others are also
in the cards. The company plans to transform its big-box format to
a big profit center by redesigning its prototype stores to mimic
Apple Inc’s (AAPL) retail store format. Best Buy
is not the first one to resort to such mimicry as
Microsoft
Corp. (MSFT),
Walt Disney Co. (DIS),
Tesla Motors Inc. (TSLA) and
AT&T
Inc. (T) has already opened stores copying the Apple
format.
Target Corp. is another retail chain that has resorted to a major
redesign by developing the “City Target” format, which aims at
tapping the urban markets, where real estate remains a constraint.
These stores are designed to fit in urban locations, both in terms
of size and store design aesthetic. Recently, the company opened
its first City Target stores in Chicago, Los Angeles and Seattle
with 80,000 square feet, a lustrous urban background, no lawn and
garden department and smaller back rooms.
In a similar move,
Cabela’s Inc. (CAB) -- one of
the leading specialty retailers of hunting, fishing, camping and
related outdoor merchandise -- unveiled its new ‘Outpost’ store
format. The relatively smaller-size store will provide shoppers
with Cabela's retail experience and will facilitate the company to
capitalize on the under-penetrated markets.
Challenges and Some Remedial Measures
The retail industry is highly competitive and has significant
challenges. Although the U.S. economy has started witnessing a
recovery, we still believe that 2012 will not fully mark the return
of the retail market. Consumers are slowly regaining confidence and
cautiously increasing their spending.
Moreover, consumers remain sensitive to macro-economic factors
including interest rate hikes, increase in fuel and energy costs,
credit availability, unemployment levels and high household debt
levels, which may negatively impact their discretionary spending,
and in turn, adversely affect the growth and profitability of
retail companies.
Macroeconomic Conditions: Retail is no different from
other U.S. industries, which remain affected by the slow economic
recovery. While the unemployment rate has decreased considerably
over time, consumers are now beginning to draw out their savings to
spend, hoping for some economic recovery. Though this is a positive
sign, there has been a considerable rise in prices of commodities,
which is making it difficult for consumers to make ends meet. On
the other hand, the retailers are struggling as they are unable to
pass these increased costs to consumers and their employees, given
the already shrinking income levels.
Changes in Consumer Needs, Attitudes and Behavior: The
growth of modern retail is linked to consumer needs, attitudes and
behavior. Adapting to the sluggish economic environment prevalent
over the last few years, consumer behavior has shifted to being
more conservative. This has now become the normal behavior of
consumers as they remain budget conscious, seeking more and more
value. In the process, buyers are swiftly switching to the less
expensive brands and consolidating shopping trips.
Moreover, people today prefer to cook and eat at home against their
prior habits of eating out. This shift in the consumer behavior is
inducing retailers to adopt various strategies to stay in
competition. Retailers are offering trend-right and well-designed
assortments at compelling prices, without compromising on quality,
in order to drive traffic.
Higher Fuel Prices: As a new trend noticed of late,
shoppers are making fewer shopping trips. This has emerged from the
rise in gas prices as well as the hectic lives of consumers, while
incomes are squeezed. Looking ahead, we expect this trend to
continue for the next few years.
Apart from cutting down on the number of trips, shoppers also chalk
out their shopping mission before stepping out. Today, consumers
look for multichannel retail outlets, which offer variety of goods,
rather than making separate visits for paper goods, health and
beauty items, grocery, etc. Thus, retailers now need to understand
the consumers’ shopping missions and get the most out of their
visits by broadening their assortments with the appropriate depth,
breadth and freshness to appeal to their shoppers’ missions.
Staging Stores: The waning popularity of brick-and-mortar
store formats has made it essential for retailers to adopt new
techniques like ‘staging stores’ to woo customers. Staging
basically refers to the act of making the company’s stores
attractive destinations, where people like to spend their time. One
example for this is
Starbucks Corp. (SBUX). The
idea behind this strategy is to make shopping interesting for
consumers, so that they would want to walk-in the stores, rather
than shop online.
Use of Internet and Mobiles in Shopping: With shoppers
becoming more and more tech-savvy these days, a new era of shopping
via internet, smartphones and tablets has taken over. Today,
consumers are increasingly using the tech-media to make purchases,
find coupons and search for the best deals.
The rate of electronic retail shopping is expected to increase
significantly over the next four to five years. To take advantage
of this growing trend, retailers need to identify the best possible
means of benefiting from the use of technology in shopping while
implementing relevant strategies. By integrating the digital mode
into the shopping experience, retailers can earn rewards in the
form of increased shopper demand and greater shopper loyalty.
Shrinking Margins Raise Concerns: In the current strained
economy, retailers are struggling to grow and maintain decent
profit margins due to the inflated input costs, rising inventory
levels, market saturation, the rise of multichannel buying, an
aging population, fewer prosperous shoppers, reduced customer
loyalty and the rise of digital media to influence purchase
decisions.
Further, fashion obsolescence remains the key concern for
retailers as this may lower the comparable-store sales and deplete
margins. Some retail chains which have been struggling with margins
pressures, of late, include Nike Inc. (NKE),
Big Lots Inc. (BIG), Deckers Outdoor
Corporation (DECK), J. C. Penney, Best Buy and
Family Dollar Stores Inc. (FDO).
In the fight against shrinking margins, retailers should work
toward easing pricing pressures through reformulations, innovating
product lines, redefining supply agreements, altering merchandise
mix and boosting distribution channel tie-ups. Further,
well-defined cost reduction programs along with proper
implementation will help gain a competitive advantage and maintain
profitable growth.
Conclusion
Retailers are trying to remain competitive primarily by shifting
focus to the long-term horizon and finding innovative solutions to
create value, reduce operating costs and mitigate risks throughout
the enterprise.
Right sizing inventories, enhancing efficiency and competence and
bringing in technological advancements are the key agendas that the
retailers are focusing on. Moreover, cost containment efforts and
merchandise initiatives to improve margins are also top
priorities.
Further, retailers are largely concentrating on buyers’ needs,
which in turn, will bring in huge potential for growth and is
likely to augment sales in the long run. Additionally, exploring
all possible opportunities to create premium as well as value
products to suit the different income groups should help improve
returns. Considering the current macro-economic environment, this
strategy should be a smart move to better position companies to
attract consumers.
Retail, owing to its huge spectrum, remains a lucrative investment
avenue for investors. The sector reflects consumer spending trends,
an important parameter to gauge the health of the economy (consumer
spending accounts for approximately 2/3rd of the economy). Thus,
identifying future winners from this sector would be a good
investment decision.
We recommend few stocks in the sector at this point, as these
companies are showing significant growth despite the secular
headwinds. Adaptability to the buying habits of the consumers and
strengthening the loyalty base helped these retailers to post
strong results. The stocks in our coverage with a Zacks #1 Rank
(Strong Buy) include Hot Topic Inc. (HOTT),
Zumiez Inc. (ZUMZ), Petsmart Inc.
(PETM), Lululemon Athletica Inc. (LULU) and
Pacific Sunwear of California (PSUN).
Additionally, we like stocks with a Zacks #2 Rank (Buy), namely
American Eagle Outfitters Inc. (AEO),
Costco Wholesale Corp. (COST), Sears
Holdings Corp. (SHLD), The Gap Inc.
(GPS), Wal-mart Stores Inc. (WMT), Kroger Company
(KR), Home Depot Inc. (HD), Ross Stores
Inc. (ROST), Constellation Brands Inc.
(STZ), Bed Bath & Beyond Inc. (BBBY) and
Dick’s Sporting Goods Inc. (DKS).
On the other hand, retailers that we dislike with a Zacks #5 Rank
(Strong Sell) include J. C. Penney (JCP),
Nike Inc. (NKE) and SUPERVALU
Inc. (SVU). Retailers on our Zacks #4 Rank (Sell) list
include Ralph Lauren Corporation (RL),
Abercrombie & Fitch Co. (ANF), Macy's
Inc. (M), Office Depot Inc. (ODP) and
Avon Products Inc. (AVP).
BEST BUY (BBY): Free Stock Analysis Report
CABELAS INC (CAB): Free Stock Analysis Report
COSTCO WHOLE CP (COST): Free Stock Analysis Report
FAMILY DOLLAR (FDO): Free Stock Analysis Report
GAP INC (GPS): Free Stock Analysis Report
PENNEY (JC) INC (JCP): Free Stock Analysis Report
NORDSTROM INC (JWN): Free Stock Analysis Report
KOHLS CORP (KSS): Free Stock Analysis Report
LIMITED BRANDS (LTD): Free Stock Analysis Report
MACYS INC (M): Free Stock Analysis Report
ROSS STORES (ROST): Free Stock Analysis Report
TARGET CORP (TGT): Free Stock Analysis Report
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