Slower consumer spending growth expected to dampen retail profits

Consumers remain cautious with their spending levels, despite positive growth in the U.S. and local economies, according to the July 2015 Consumer Expectations survey completed by the Federal Reserve Bank of New York.
 
The survey results suggest relatively stable expectations about the economy with job growth, unchanged inflation, while household income and earnings that remain largely flat. The one glaring statistic noted in the survey was median household spending growth expectations that have recently sunk to their lowest level since the survey began in 2013. 

The survey found that consumers planned to spend less in 2016 than this year. The one-year ahead household spending growth expectations decreased sharply from 4.3% to 3.5%. The survey said the pessimism is more pronounced for respondents over 40 years old and those with lower education levels.

The most recent Arvest Consumer Sentiment Survey released in June, found 74% of Arkansas respondents did not plan to make a major household purchase in the next six months. At the same time Arkansas consumers were saving on average 11.9% of their incomes. Roughly 20% of Arkansas consumers plan to increase their savings rate in 2016.

While building savings is good for the economy long term, it’s not what retailers like to see, especially when they are sitting on higher than normal inventory levels. Retail inventories grew 1.5% from May to June, according to the Institute of Supply Chain Management.

INVENTORY WOES, CONSUMER CAUTION
Retail inventories are rising faster than sales. Walmart U.S. CEO Greg Foran told analysts late last year that the retailer’s inventory was growing at twice the rate of sales, which is not sustainable. In February of this year he said inventory was an obvious problem that could be easily be felt when walking through supercenters. He compared it to trying to cram four pounds of sugar in a two-pound bag. 

In May, Foran put inventory control on his “urgent agenda list.” In June, he said there is much to do in trying to improve how inventory is booked into the Walmart system and how it’s marked down for quicker sale when necessary.

“Consumers don't seem to be spending much money at retail,” said Ken Perkins president of Retail Metrics. "We're in the summer doldrums."

He recently told Business Investor’s Daily that the aggressive promotions for back-to-school reflect a very competitive season, particularly for apparel. Perkins expects consumers will continue to be very selective on what they buy in the future as they are focusing primarily on buying essentials and not a lot of discretionary items.

Analysts agree that consumers have been deleveraging, saving more and displaying caution when it comes to household spending. Marshal Cohen, chief industry analyst for the NPD Group, says that while consumers are in a "healthy state of mind," there's nothing motivating the consumer to spend much more this year.

RETAIL SALES
This real and projected slowdown in consumer spending is a problem for big box giant Wal-Mart, who outside of groceries, continues to struggle with growing general merchandise sales. 

Retail sales grew a fractional 0.2% in July, according to Research firm Retail Metrics. A year earlier July same-store sales rose 4.5%. Only a small fraction of retailers participate in this retail sales report, but it does provide some insight into which sectors are faring better than others.

Teen apparel retailer’s like Buckle posted an 8.1% decline in same-stores in July, conversely Costco posted a 3% gain, led by food, deli and liquor sales, according to Retail Metrics.

Wells Fargo economists say retail sales have been unpredictable at best this summer, falling 0.3% in June and rising 1% in May. The Commerce Department’s U.S. sales report will be released Wednesday (Aug. 12).

WEAKER DILLARD’S, WAL-MART
Dana Telsey, CEO of the Telsey Advisory Group, also expects Dillard’s will see soft numbers in its upcoming earnings this week which is also attributed to higher-than-optimal inventories. She said sales-tax free holiday traffic will be seen in the next quarter (third quarter) for most retailers.

Telsey’s comments about weaker Dillard’s sales come on the heels of two recent downgrades by Wall Street analysts at J.P. Morgan and Bank of America/Merrill Lynch. J.P. Morgan just downgraded Dillard’s from “neutral” to “underweight” and lowered its target price to $89 from $114. Dillard’s shares were trading at $98.31 on Monday (Aug. 10), the day of this downgrade.

Analysts cited underinvestment in omnichannel sales, negative foot traffic, and regional size and scale, according to the firm. Other challenges include intense mall-based competition. Also, the retailer's same-store-sales have been declining since 2010. 

Analysts with Bank of America made the same downgrade last week, but gives Dillard’s a $95 price target. The reasons cited for the “underperform” rating is sales pressures and compressed margins which could cause the retailer to miss consensus estimates. Bank of America/Merrill Lynch lowered its 2015 earnings per share estimate to $7.54, down from $8.13.

Wall Street expects Dillard’s to report 74 cents per share in net earnings for the quarter ending July 1, compared to the 80 cents earned a year ago. Revenue is expected to increase 0.8% to $1.52 billion.

While Wall Street analysts mostly agree with the strategy Wal-Mart is taking to turn the giant ship around, but consensus is this will take multiple quarters before these changes bear fruit.

Analysts also expect weaker earnings from Wal-Mart Stores when it reports on Tuesday (Aug. 18). The street consensus is $1.13 per share, falling 6.6% from the $1.21 it earned a year ago. Total revenue is also expected to be slightly lower at $119.86 billion.