Analysts believe apparel retailers are fighting an uphill battle

Analysts believe apparel retailers are fighting an uphill battle

First quarterly earnings from US department stores and specialty chains suggests the sector is off to a rocky start to the year as consumers increasingly choose to spend less on clothing and more on health and leisure. Analysts have their own take on why US apparel retailers are fighting an uphill battle.

The adjectives have been coming through thick and fast all week as US retailers have continued to release their quarterly earnings: "gloomy," "tough," "difficult" are how most analysts have described the dire results and lower outlooks.

"It's ugly out there," says Ken Perkins, president at research firm Retail Metrics, as department stores Kohl's, Macy's, Dillard's and Nordstrom became the latest to file their results, adding: "It's clearly a tough time to be a retailer right now."

More specifically, perhaps, it's a tough time to be an apparel retailer.

According to a Retail Metrics analysis of the first 44 retailers to report their first-quarter performance, 25 or just shy of 57%, have turned in lower year-on-year operating incomes. "Retailers are beating expectations by just 0.6% in the early going, which is well below the long-term 15 year average of 2.8%," it says.

Of the 16 companies included in just-style's first-quarter results roundup, ten – or 63% – reported lower earnings during the period.

US Q1 in brief: JC Penney, Nordstrom, Dillard's, Kohl's

"Apparel is fighting an uphill battle," agree analysts at Cowen & Company. "Retail is in the midst of a transition. Apparel seems starved for a new trend, and consumers have more interest in experiences [like travel], restaurants and health/wellness versus [new] clothing."

Sales have also been battered by unseasonably cold spring weather, and more cautious consumers who are increasingly unwilling to buy at full price and, when they do make purchases, use online more and physical stores less.

"Simply put, traffic has been sluggish; consumers are not acting with much urgency, and this has been reflected in soft results," the Cowen team adds. "Retailers have been running down mid-single digits below last year, with the last few weeks showing slight improvements, but only marginally better, and not enough to make up for what has been lost from the beginning of March and onwards."

The US political landscape could be causing some consumer jitters, they add, making it tough for retailers to gain momentum in the current environment. But another concern is that even promotional events haven't been generating the spike in traffic and sales that they would have achieved historically.

Retail performance

Retailers themselves seem at a loss to explain what's going wrong.

At department store group Macy's, where earnings fell 40% to US$116m as sales slipped 7.4% to 5.77bn and comparable sales tumbled 6.1%, executives are struggling to reconcile the retailer's performance in the face of a still-growing US economy.

"We're frankly scratching our heads," says chief financial officer Karen Hoguet.

Economic data "would point to a customer that would be spending more," she said on a call with analysts last week. "Employment is steady and wages continue to rise. The consumer savings rate remains high and most macroeconomic indicators are better than flat. So it's reasonable to conclude that the consumer will return to more aggressive discretionary spending at some point, hopefully sooner than later."

And at rival Kohl's Corp, which posted a 55% drop in earnings to $58m from $127m, and an unexpected 4% decline in sales, chief financial officer Wes McDonald said consumers are simply "not buying apparel. They're spending money on restaurants and experiences. Until we get more excitement in apparel there – it's going to remain in my opinion a replenishment market."

Neil Saunders, CEO at retail analyst Conlumino, notes that many of the retailers posting their quarterly results have lost out because their strategies, positioning, or appeal is wrong, and are not necessarily representative of retail as a whole.  

Indeed, performance elsewhere is more solid. "Furniture and home furnishings continues to grow well, as does the home improvement category. These things are underpinned by a good run for the housing market, although early data from the first quarter suggests that housing activity may now be starting to slow.

"Away from home, health and beauty has been another strong performer, with consumers continuing to indulge themselves with small treats, especially from beauty specialists.

"On the negative side of the equation, electricals is performing badly – mostly thanks to a relatively weak release cycle for new technology."

Internet threat

While some of the current retail performance is down to short-term trends in consumer confidence and spending, some is also undoubtedly due to changes in the way consumers shop: namely the rise of the internet.

Anne-Charlotte Windal, senior analyst at Bernstein, believes that rather than hinting at a broader consumer slowdown, the flow of negative data for US retail reflects ongoing secular trends: "declining mall traffic, challenged department stores, share gains by value and online players."

Not only are there too many physical stores chasing too few shoppers, but consumers "visit stores less as they feel less urgency to visit the mall and instead shop and buy online. However, they are not buying enough to offset the falling store sales," Stifel analyst Richard Jaffe said last week, as Gap Inc warned of slumping sales in its first quarter and steps to streamline its business.

Gap downgraded to junk status as mulls streamlining

"We are convinced that stores remain an important component of apparel retailing but recognise that an equilibrium must be found between stores and online."

Analysts at Morgan Stanley point to the rise of Amazon, which has made an aggressive push into apparel and fashion, as an example of the change taking place in the retail landscape. They calculate the online behemoth is already the US's second-largest retailer after Wal-Mart, and they believe it could account for 19% of the overall US apparel market by 2020, up from around 7% today.

While Amazon is not solely to blame, of course, the Cowen analysts allude to its threat by suggesting the retailers most likely to win in apparel are those who are 'Un-Amzon-able' – meaning either their product cannot be bought on Amazon, the brand/category offers high emotional content, or the store experience is a unique destination or offers compelling service options.

Again they note consumers are "choosing to spend [their] money on experiences, restaurants etc versus a new piece of apparel. This speaks to the fact that they are craving newness, and there isn't enough in the market to compel [them] to shell out [their] discretionary dollars."

"Consumers are now more cautious about spending than they were at the start of the year," agrees Conlumino's Saunders.

"Ultimately, this means that while Americans are still spending they are doing so more selectively: choosing which products to buy and which retailers to visit and paying much more attention to things like price and value for money. This is the type of environment where growth is not sufficient to keep all boats afloat."