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Industry Outlook

Economic Rebound Helping Retailers?

Retailing involves buying large quantities of goods and selling them in smaller quantities to consumers for a profit. The health of the retail industry is an important economic indicator as it is linked directly to consumers and their propensity to spend. Consumer spending is the key to the well-being of the U.S. economy as it accounts for more than two-thirds of economic activity.

The link between consumer spending and the retail industry becomes more relevant as retail sales attract approximately 30% of total consumer spending in the U.S. Also, the retail industry ranks among the top U.S. industries and employs an enormous workforce, contributing to the health of the job market.

Before jumping on to the trends in retail, here’s a peek into the key economic indicators, which suggest where the market is heading.

On the whole, the U.S. economy looks in good shape, with many hoping that the incoming administration of Mr. Trump will help improve the economy’s growth trajectory even further. Growth had improved ahead of the election already, the Q3 GDP report confirmed. The U.S. economy expanded at an annual rate of 2.9% in the third quarter of 2016, much better than the 1.4% and 0.8% increase recorded in the second and first quarters, respectively. The rebound in inventory and strong gains in exports provided the much-needed boost to the economy.

While GDP growth in the first half of the year was on the low side, many key parts of the economy have consistently been on a growth trajectory. The improving labor and housing markets are notable examples in this regard. Wages have started growing lately as well after remaining underwhelming in the earlier part of the recovery. This is helping prop up the household sector’s buying power, which is showing up in the GDP report’s consumer spending numbers and the monthly retail sales data. All of this is raising hopes about spending trends this coming holiday season.

Key Retail Metrics

The key data in the retail industry analysis is comparable-store sales (comps) as it excludes sales at newly opened and closed stores. We observe that sales data for the month of October had a positive tone as most retailers posted better-than-expected comps. Further, most retailers either raised or reiterated their earnings per share guidance for the third quarter following the October sales performance.

The list of gainers in October was led by Washington-based retailer of sports-related teen apparel Zumiez Inc. (ZUMZ - Free Report) that reported a 10.2% increase in comps, with sales climbing 14.4% to $55.9 million from the year-ago period. This marked the company’s second consecutive month of comps growth after negative comps and dismal sales results for 17 straight quarters. Further, the company raised its third-quarter fiscal 2016 earnings outlook backed by greater-than-expected sales in the quarter-to-date period.

This was followed by warehouse retailer Costco Wholesale Corp. (COST - Free Report) that posted a 2% rise in comps, while total sales rose 3% to $20.17 billion. Going down the line, the clothing retail chain L Brands Inc. (LB - Free Report) posted a comps gain of 1% and sales improvement of 3% to $756.7 million. However, comps results for the month were lower than expected. The company reiterated its third-quarter earnings guidance.

On the other hand, The Buckle Inc. (BKE - Free Report) disappointed the most with a 15.5% decline in comps and a 15.1% fall in net sales to $69.1 million for October. It was followed by apparel and accessories retailer Cato Corporation that reported a 6% decline in both comps and sales. Net sales were down to $68.9 million. Nonetheless, the company raised its earnings forecast for the third quarter due to lower markdown sales.

This was followed by discount store operator Fred's Inc. (FRED - Free Report) which saw a 3.4% fall in comps for October.Fred's net sales slipped 4.2% to $157.3 million.

At the bottom of the list was the long distressed teen retailer The Gap Inc. (GPS - Free Report) that reported a 1% decline in comps along with flat sales of $1.20 billion. Though the company’s comps gained from the positive customer response for its Old Navy product assortments and strong merchandise margins, results were impacted by the campus fire that hit its distribution center in Fishkill, NY in August.

Zacks Industry Rank

Within the Zacks Industry classification, Retail/Wholesale (one of 16 Zacks sectors) is divided into two categories -- Nonfood Retail-Wholesale and Food/Drug- Retail/Wholesale under the Medium (M) Industry Group and further sub-divided into 14 industries at the expanded (X) level -- Building Products-Retail/Wholesale, Internet Commerce, Retail/Wholesale Auto/Truck, Retail-Apparel/Shoe, Retail-Consumer Electronics, Retail-Discount, Retail-Drug Store, Retail-Jewelry, Retail-Miscellaneous/Diversified, Retail-Restaurants, Retail-RGN Department, Retail-Supermarket, Retail/Wholesale-Auto Parts and Retail/Wholesale CMP.

We divide the 16 Zacks sectors into 60 M-level industries and 250 X-level industry groups. We rank all the 250 plus industries in the 16 Zacks sectors based on the earnings outlook and fundamental strength of the constituent companies in each industry. To learn more visit: About Zacks Industry Rank.

As a point of reference, the outlook for industries with a Zacks Industry Rank #88 and lower is 'Positive,' between #89 and #176 is 'Neutral' and #177 and higher is 'Negative.'

The Zacks Industry Rank is #103 for Retail-Apparel/Shoe, #107 for Internet Commerce, #107 for Retail-Jewelry, #166 for Retail/Wholesale Auto/Truck, #171 for Retail-Restaurants, #181 for Retail/Wholesale-Auto Parts, #191 for Retail-RGN Department, #201 for Retail-Supermarket,  #210 for Retail-Consumer Electronics, #210 for Retail/Wholesale CMP, #220 for Retail-Miscellaneous/Diversified, #233 for Retail-Discount, #244 for Retail-Drug Store, and #246 for Building Products-Retail/Wholesale.

On analyzing the Zacks Industry Rank for the constituent industries in this space, it is apparent that the overall outlook for the Retail/Wholesale sector is Negative.

Sector Level Earnings Trends

The Q3 earnings season has almost reached its end, with only a considerable number of retailers left to come up with their results. With the focus now shifted to the retail sector, investors remain pleased with the results of department stores that are gaining from tight expense controls and leaner inventories. The low inventory levels also make investors optimistic about the fourth quarter, which mainly encompasses the holiday selling period. However, problems like shift of focus from store sales traffic to online sales pose a concern.

As of Nov 11, we have seen results from 455 S&P 500 members, accounting for 91% of the index’s total membership. Of these, approximately 72.7% posted positive earnings surprises, while 55.4% beat top-line expectations. Total earnings for these index members were up 3.9% from the year-ago quarter, while revenues increased 2.7%.

For  Q3  as  a  whole,  combining  the  actual  results  from  the 455 S&P 500 members with estimates from the yet-to-report 45 companies, total earnings are expected to be up 3.4% on 1.5% increase in revenues. That said, the third quarter is on track to be the first quarter of earnings growth for the index after five quarters of back-to-back declines.

Coming to the retail sector, 24 retailers in the S&P 500 index (out of the 43 total) that combined account for 59.3% of the sector’s total market cap in the index have reported earnings so far. Total Q3 earnings for these 24 members are up 12.7% from the same period last year, on an 8.6% rise in revenues. However, only 54.2% of the members posted earnings beat and about 37.5% surpassed revenue estimates. The proportion of retailers that have beaten Q3 EPS and revenue estimates is the second lowest of all 16 Zacks sectors, behind only Construction.

Combing results on board and upcoming, earnings for the Retail sector are expected to rise 5.9% in Q3, with revenues anticipated to grow nearly 5.2%.

For more details on earnings of this sector and others, please read our ‘Earnings Preview’ report.