Retailers Learning Their Lesson

Highlights include Saks Inc. (SKS) and Wal-Mart Stores Inc. (WMT).

Retailers Adjusting to Consumer Behavior

While shoppers are currently looking for marked-down spring and summer apparel, retailers are already looking ahead to the 2009 holiday season. The holidays provide specialty retailers with about 40% of sales and the bulk of their annual profits. When those retailers experience a tough holiday season, their entire year suffers.

However, it appears that the lessons of Christmas Past (2008) have not been lost on retailers. Retailers entered the 2008 holiday season with too much inventory and were forced to mark down merchandise by 70%, 80% or even 90% in order to encourage shoppers to spend. No retailer wants a repeat performance in 2009.

It’s early, but there are signs retailers are beginning to accept that consumer behavior has changed. Retailers understand that we are not headed back to the days of debt-fueled retail spending that increased 5% per year. Consumers are saving more, spending less, and trading down to lower-cost alternatives when they do spend.

Retailers such as Saks Inc. (SKS), which plans to cut its inventory by 20% in 2009, are already putting in orders for the 2009 holiday season. Saks is focused on reducing the amount of merchandise it orders and negotiating lower prices on the merchandise it does order. The company notes that full-priced selling is "largely a result of supply and demand." No retailer wants to end the holidays with a glut of inventory on the shelves, because that leads to huge mark-downs and thin profit margins.

For some time, we have said that there is too much retail space, too many stores, and too much inventory. But most retailers have been reducing square footage and reducing inventory levels per store. Those efforts will help bring supply (the amount of retail merchandise available for sale) in line with demand (the amount consumers are willing to spend). What’s more, if more retailers make the decision to sacrifice sales growth in order to maintain profit margins, this will be one of the most positive trends we’ve seen in the last 2 years.

That said, it will not signal the "all-clear" for retailers. After all, total sales won’t be growing year-on-year, and there will be winners and losers in the space. However, it does mean that we can begin to look at retailers beyond Wal-Mart Stores Inc. (WMT) as investments and not simply short-term trading vehicles.

Read the full analyst report on SKS