disappointing 4Q16 sales for Target (TGT)

TGT just announced that its 4Q16 sales (the fiscal quarter ends in about two weeks, on January 31st, which is normal retail practice) will fall below its previous estimate of +1/- 1%.  The company now figures that sales will be down by -1.0% to -1.5%.

Online sales grew year-on-year by 30%+ during November/December, while sales in physical stores fell more than -3%.

In its press release, TGT also gives a breakout by major categories.

The company doesn’t say explicitly what the split is between online and physical store sales, but a little arithmetic will will get an approximate figure.  And that’s the core of the company’s sales growth problem, in my view.

The Commerce Department hasn’t yet released its calculation of the percentage of retail sales in the US that occurs online.  We can safely assume, though, that the number–which continues a steady upward march–will be around 9%.  This is the portion of overall retail that’s growing, and carrying the waning physical store business.  The TGT online figure, in contrast, is just slightly over 1%.

the trouble(s) with the luxury goods industry

For most of the past quarter-century, the publicly traded luxury goods industry, both companies based in the EU and in the US, has been a source of almost continual outperformance.

the old pattern

Its appeal rested (and I do mean the past tense) on two major trends:

–the gradual aging of the working population in the US and EU.  A twenty- or thirty-something in either area typically aspires to own a work wardrobe, a car and a house.  A forty- or fifty-something, in contrast, wants to own jewelry and a vacation house, and to go on a cruise.

So the rising affluence of older workers in the US and Europe has meant increasing demand for luxury goods.

–growth in Japan and the development of capitalism in China, beginning with Deng’s turn away from Mao in the late 1970s.  Again, increasing affluence has sparked higher demand for globally recognized luxury goods.  In addition, in China “gifts” (read: bribes) of luxury goods have long greased the wheels of bureaucratic approval of new projects–until the ongoing anti-corruption crackdown there began a few years ago, that is.

What has been less well understood is that the unit profits from selling a given luxury good in either China or Japan has been much, much higher than elsewhere (double would be my first approximation).  This means that if Japan/China accounted for 25% of a company’s sales (and a sales figure would typically be all a luxury goods firm would announce), they would represent half the company’s profits.

the new

–the rise of Millennials (the suit, car, house people) in the US and EU and the gradual retirement–and loss of income–of Boomers are putting a crimp in demand for luxury goods in these areas.

–luxury goods sales in Japan have hit a brick wall in recent years.  This is partly demographics, partly the immense loss in purchasing power that the Abenomics-induced depreciation of the yen has caused.

–the China case is a little more complicated.  The main reason for the falloff in Western luxury goods sales there is, of course, the anti-corruption campaign.  But even before this, there was a clear trend of high-end consumers in China away from foreign luxury brands and toward domestic ones.   It also seems to me that years of economic stagnation in the EU have further undermined the image of European brands as cultural symbols of power and influence.  So my guess is that even as/when the anti-corruption campaign runs its course, the bounceback of traditional European luxury goods sales will be muted.

my bottom line

Studying stock performance patterns of the past twenty or thirty years suggests that major selloffs of luxury goods stocks are always buying opportunities.  I don’t think this will be the case any longer.   This is not to say the stocks won’t go up in market rallies.  They likely will.  Bur they won’t be leaders.   And the best-known names will lag firms that primarily serve Millennials, as well as companies that tap into growing consumption in China.

the holiday retail season: Millennials vs. Boomers

Conventional wisdom in the US has long been that 30-somethings want a house, a car and clothing suitable for work.  Fifty-somethings want a vacation home, jewelry and a cruise.

As the Baby Boom generation became more important, therefore, an investor wanting exposure to consumer spending should have shifted away from homebuilders and carmakers and toward high-end specialty retail, luxury goods and hotels and cruise lines.

Of course, there were other secular forces at work, as well–the move from the cities to the suburbs and the dismembering of the traditional department store by specialty retail, just to name two.

Today we’re in the early days of another significant demographic change.  Millennials now outnumber Boomers in the US.  Millennials only earn about half what Boomers do.  And they were hurt much more severely than the older generation by the recession.  But they’re on the up escalator, while Boomers as a group will see their economic power wane as they retire.

Playing the aging of the Boomer generation had two aspects to it, one positive and one negative.  The positive side was hard–finding the small, relatively obscure companies like the Limited or Toys R Us or Home Depot/Lowes or Target or (later on) Coach that would catch the fancy of the Baby Boom.  The negative side was easier–avoiding the losers who didn’t “get” what was going on.  These included American carmakers and the department stores.

In 3Q15 corporate results, we’re already beginning to see the new generational change begin to play out.  Home improvement stores are doing surprisingly well.  Large retail chains are reporting relatively weak results.  What strikes me about the latter is that the worst-affected seem to be the most heavily style-dependent and the firms that have put the least effort into their online presence.  In contrast, I’m struck by how many small online, even crowdsourcing, alternatives to bricks and mortar there now are to buy apparel.

How to play this emerging trend?

The negative side is easy– avoid the potential losers, that is, firms whose main appeal is to Boomers and companies with a weak online presence.

The positive side is, as usual, harder.  Arguably, many of the winners–Uber, and the sharing economy in general being an example–aren’t yet publicly traded.  Absent a pure play, my best idea is to invest in the winners’ onlineness.  The easiest, and safest, way to do so is through an internet or e-commerce ETF.


One other point:  for many years, economists have tracked the activity of Boomers as a way to estimate the health of the economy.  To the degree that they, too, fail to adjust quickly enough, their assessments, like department store sales, may understate growth momentum.

internet pricing

Just thinking out loud…

Years ago, I was looking at a chain of convenience stores that had free-standing urban outlets as well as suburban/rural ones linked to gasoline stations.  The chain was beginning to implement variable, or dynamic, pricing.  It had installed electronic price signs on its shelves and had a wireless system it could use to change prices from one time to another during the day–either item by item or store by store, or across the entire chain.  The idea was to sell a carton of milk for $2 at noon  $3 at 7 pm and $4 a midnight.

As it turned out, the system never got off the ground.  There were technical legal issues, like whether you could use an electronic sign or whether a price had to be marked on each item.  But the main thing was that customers were outraged by the whole scheme.  They thought it was an incredible ripoff and stopped patronizing the chain.  Chagrined management apologized and shut the whole variable pricing effort down.

My guess is the same thing would happen today.

On the other hand, we all kind of know and accept that airplane seats and hotel rooms have been variable priced for years.  Hotels in college towns may triple room rates on graduation weekend.  Airlines raise their prices around traditional travelling high points.  Both routinely raise prices as the day its space will be used, based on computer analysis of demand and space availability.

No one minds.  In fact, through membership in rewards programs and with affinity credit cards, we flood hotel and airline companies with information about ourselves and our buying habits!

Then there’s e-commerce, ex travel.

For most publicly traded consumer companies this is not a big profit issue yet.  But it will be soon.  And for companies like Staples it already is.

We (sort of) know that websites practice variable intraday pricing.  We know that people in different zip codes get offered different prices, and that the distance to the nearest brick-and-mortar store that likely carries the item counts, too.  We know that if I’m thought to be a potential good customer, I’ll get different prices than if I’m perceived as not worth having.  We know that after browsing and returning to a site, the price we get may depend on whether we’ve closed/reopened our browser or not.  We also know that retailers don’t want to call attention to how much information they have about customers for fear of frightening them away.  (That said, I’ve recently noticed that if I leave an item unbought in a shopping basket, it follows me around in a semi-creepy way in subsequent browsing.)

Two potentially important things we don’t know:

–how much extra profit dynamic pricing brings internet retailers.  I have no idea.  If there were some way to make a small bet with a large payoff, I’d say that for a Wal-Mart or a Staples, it amounts to 5% -10% of internet revenue and 10%  – 20% of internet operating profit.

–when people become more familiar with what’s happening, will they react like the customers of my convenience store chain above, or like frequent fliers/stayers?  My guess is that it will be more the firmer than the latter.

Investment implications?   Two, I think:  for mixed bricks-and-mortar plus internet retailers, the internet business will be surprisingly strong; if I’m correct that consumers will see dynamic pricing as an abuse of trust, the negative reaction could be severs as/when its use is make evident (other than a huge journalistic investigation, I don’t see how).





four reasons retailers are antsy about the upcoming holiday season

The first two are obvious:

1.  Retailers make a disproportionately large shares of their profits during the final quarter of the year.  For some highly seasonal businesses (toys, coats, ski equipment…), they aspire to simply break even during the first nine months of the year and cash in during the last three.

2.  The continuing erosion of bricks-and-mortar market share to online merchants.  Highly seasonal firms are particularly susceptible to online competition, but they have also been battered for decades by general merchants like WMT or TGT, which expand and contract various departments as the seasons change.

The third is very simple, but often overlooked by Wall Streeters:

3.  The holiday selling season runs from Thanksgiving to Christmas.  But the number of selling days can vary considerably from year to year.

Thanksgiving is the fourth Thursday in November.  If November begins on a Thursday, as it did last year, Thanksgiving is on the 22nd.  So the holiday selling season consists of 8 days in November and 24 in December = 32 days.  That’s the longest.

If November begins on Friday, as it does this year, Thanksgiving is on the 28th.  That means the selling season is 26 days long.  That’s the shortest.

Historically, people shop until December 24th–and spend more when the selling season is longer.  So revenue and earnings comparisons are the toughest possible this year.

4.  In the post-Great Recession world, retailers hold another belief as firmly as they hold #3.  It’s that consumers have firmer budgets than they previously have had.  Therefore, if a retailer isn’t the first place a consumer goes to, it runs the risk that the potential customer will have run through his budget already–and (contrary to pre-Great Recession behavior) won’t purchase, no matter how attractive the merchandise is.

So this year there’s immense pressure both to get off to a good start and to move the starting line forward, to Thanksgiving Day or even earlier, if at all possible.

my take

My guess is that the holiday season will be more successful for retailers in general than Wall Street currently expects–despite the shortest possible selling season.  Why?   …strengthening employment and lower gasoline prices.

The more interesting question, to my mind, is who the relative winners and losers will be.  In particular, will AMZN’s agreement to collect state sales tax on its online transactions affect its business negatively?  My guess is that it will.  I think the beneficiaries won’t be the bricks-and-mortar stores that lobbied heavily for this, but instead smaller online merchants who still sell tax-free–including (maybe especially) the ones AMZN displays on its site but only fulfills for.

Also, will BBY’s decision to match online prices in its stores and to rent out space to third parties like Samsung and MSFT have a positive impact on sales?  I say yes.  What about profits?  I think they have to be lower.  But my instinct is also to say they’ll be better than the consensus expects.  I’m not about to bet the farm that this will be so, however.