July 31, 2017 Consensus

The Weekly Consensus – July 31, 2017 (Volume 9, Number 29)

The Big Story
Amazon Is Taking Tradtional Retailers [Back] to School
Paul Alexander, CFA

 

August doesn’t begin until tomorrow, but it is likely that more parents than ever before are already done shopping for their children’s back-to-school needs. According to the annual National Retail Federation (NRF) back-to-school season survey, 27% of families will begin shopping for back-to-school at least two months before classes begin this year, up from 22% in 2016. The NRF reported a similar shift last year as well, when 73% of families said they would begin shopping at least a month before school, which was up from 62% in 2015. What is behind this curious trend?

Don’t think too hard. This question has the same answer as nearly every other question posed over the last decade by retail’s changing landscape: It’s the internet. And it’s Amazon. Again.

First, as is the case with spending in general, the back-to-school season is increasingly shifting online. eMarketer estimates that back-to-school related ecommerce sales this year will grow 15.8% to $37.6 billion. This compares to only 4% growth for total U.S. retail sales over the same period. Second, Amazon’s impact on the season is becoming easier to see as Prime Day grows. Last year, Cardlytics, a purchasing data tracking firm, reported that Prime Day was the biggest day of the season for back-to-school ecommerce spending. This year, multiple players made the connection between Prime Day and back-to-school. Several media outlets ran stories highlighting the best available back-to-school Prime Deals, and Target specifically featured back-to-school bargains during the week of Prime Day. With Prime Day now becoming the largest day of the year for Amazon, and with more retailers responding to Prime Day with targeted promotions and events, the holiday has and likely will continue to pull forward demand and spending from the balance of the back-to-school season.

Beyond Prime Day, Amazon’s effort to offer convenient, “frictionless” shopping could also be pulling forward back-to-school spending. With Prime’s two-day shipping, and easy one-click purchasing in the app, Amazon invites parents to shop for their children all summer long, whenever an idea strikes. This eliminates the need to amass a shopping list over the summer that gets addressed with one or two trips to department stores or big box retailers in late August.

Just as the mystery of the earlier back-to-school season has a familiar culprit, the phenomenon has a familiar victim. A separate back-to-school survey conducted by Deloitte found that only 28% of respondents expect to do back-to-school shopping at a department store or specialty apparel store this year. This is down sharply from 54% last year. In total, the NRF is predicting a very healthy back-to-school season, with over 10% sales growth from last year, so perhaps the rising tide will lift all boats. But it is hard to imagine that traditional department stores and specialty retailers will fare well this season if they are at risk of losing almost half of their customers. Ultimately, it makes sense that if ecommerce players are pulling forward and capturing more back-to-school spending, it is coming at the expense of department and specialty stores – parents only need to buy a finite number of laptops, backpacks, and jeans.

Some observers argue that the best ways for legacy retailers to respond to the earlier back-to-school shopping season are to follow suit and set key promotions and products earlier, and to court people who may be undecided about when and where they will shop. Retailers would also likely benefit from focusing on things that the internet and Amazon can’t offer, such as exclusive products. Bed Bath & Beyond smartly emphasizes something that ecommerce doesn’t provide: immediacy. At certain stores near colleges, Bed Bath & Beyond physically merchandises groups of products that can be used to outfit a dorm room all together. In this way, customers can buy pillows, sheets, shower caddies, storage bins, and other dorm essentials conveniently, and all in one quick visit, ostensibly on the same day parents drop off their sons and daughters at the nearby campus.

Still, retailers face significant challenges in the evolving back-to-school season, as Amazon and other ecommerce companies influence and attract shoppers, repeating a dynamic that plays out year-round. Back-to-school might feel momentous for students moving up a grade and reaching another milestone in their young lives, but for retail, it’s business – and evolution – as usual.

Headlines of the Week

Michael Kors to Buy Jimmy Choo in $1.2 Billion Deal

Michael Kors has picked out some new shoes to go with its handbags. On Tuesday last week, Michael Kors Holdings said it had agreed to buy the shoe company Jimmy Choo for 896 million pounds, or about $1.2 billion, the latest push by an American high-end fashion house to find new sources of growth and what its chief executive characterized as the first step in building a bigger international luxury group.

KKR’s Internet Brands to Buy WebMD in a $2.8-billion Deal

WebMD has found a remedy for its volatile business: A $2.8-billion sale to El Segundo online media company Internet Brands.  Internet Brands, owned by the private equity firm KKR, affirmed that view Monday in announcing the proposed acquisition. It would take WebMD private for $66.50 a share, or about a 20% premium to the New York company’s Friday close of $55.19. The Internet’s leading destination for information about rashes, coughs and other ailments has gone through mergers and sales multiple times since its founding in the late 1990s.

Apparel & Footwear

Bankruptcy Court Approves Stalking Horse Bid for BCBG Max Azria

Weeks after an offer was made to take BCBG Max Azria out of bankruptcy as a shell of its former self, a U.S. bankruptcy court has approved the $165 million offer. On June 23, the U.S. Bankruptcy Court in New York gave the go-ahead for Marquee Brands and Global Brands Group Holding to take over the intellectual property of BCBG Max Azria as well as operate about 20 stores in the Los Angeles company’s retail fleet.

Teen retailer pulls the plug on U.K. business

Less than three years after opening stores across the pond, American Eagle Outfitters is closing up shop in the United Kingdom. The specialty retailer operates three stores in the U.K. It has already closed one location, and is winding down operations at its remaining two stores, as well as its British e-commerce site, according to the Telegraph.

Athletic & Sporting Goods

Puma to spend after Bolt era

German sportswear company Puma plans to keep spending to sign up top athletes and celebrities after its flagship star Usain Bolt retires, seeking to bolster a brand that lags market leaders Nike and Adidas.  “We are continuing to invest in sports,” chief executive Bjorn Gulden told journalists after the company published full second-quarter results, adding that spending on marketing would remain between 10% and 12% of sales in the longer run.

Trilantic North America to Acquire Majority Stake in OrthoLite

Trilantic North America is to acquire a majority stake in OrthoLite, an Amherst, Massachusetts-based maker of branded open-cell foam insoles and other footwear components.  The seller is Blue Point Capital Partners. Led by founder and CEO Glenn Barrett, COO John Barrett, who will retain significant ownership interests along with and other key members of management following the transaction, OrthoLite is a global manufacturer of branded open-cell foam insoles and other footwear components supplied to over 250 footwear brands such as Nike, Clarks, Adidas, ASICS, New Balance, Vans and Timberland.

Cosmetics & Health

KKR To Acquire Majority Control Of The Nature’s Bounty

The Carlyle Group announced that it is selling majority control of The Nature’s Bounty Co., the manufacturer of health and wellness products, to KKR. Following the transaction, which is expected to close by the end of 2017 and is subject to the receipt of customary regulatory approvals and the satisfaction of other customary closing conditions, KKR will be the majority owner of Nature’s Bounty while Carlyle will retain a significant stake in the company. Financial terms were not disclosed.

Discounters & Department Stores

Exclusive: Nordstrom family offers preferential terms to clinch buyout partner – sources

The group of Nordstrom Inc family members seeking to take the eponymous U.S. department store operator private is offering preferential terms to potential equity partners willing to fund the buyout, people familiar with the matter said. The Nordstrom family’s decision to offer these concessions underscores the apprehension of investors over leveraged buyouts of department store chains, as private equity-owned peer Neiman Marcus Group Inc now struggles with its debt pile amid the rise of internet shopping and changing consumer tastes. The family’s move has been successful in reinvigorating talks with potential partners, five sources said this week. Leonard Green & Partners LP, Apollo Global Management LLC and KKR & Co LLP are among the private equity firms in talks with the Nordstrom family members, according to the sources.

Louis Vuitton’s playbook: more products, fewer stores

The Louis Vuitton approach to today’s finicky luxury customer: More products, fewer stores. Parent company LVMH announced its first-half results for 2017 last Wednesday: Its fashion and leather goods category saw a 17 percent increase in revenue, to $8 billion, and a 34 percent boost in profit, to $2.6 billion. Overall, company revenue rose by 12 percent. LVMH doesn’t break out the financial results of its individual brands, which in the fashion sector include Louis Vuitton, Kenzo, Marc Jacobs, Fendi, Céline and Loewe, as well as Christian Dior Couture, acquired by the group in early July. However, LVMH CEO Bernard Arnault stressed that Louis Vuitton was the standout top performer, citing its high growth, “excellent creative momentum” and “exceptional profitability.”

Neiman Marcus to cut 225 jobs, assess Last Call’s future

Neiman Marcus said Wednesday that a reorganization of its business to reflect changing customer shopping habits will include a reduction of its workforce. The Dallas-based retailer also said it’s assessing its Last Call outlet division. The Dallas-based retailer, struggling with almost $5 billion in leveraged buyout debt, said it will cut 225 employees, including less than 20 in Dallas. Neiman Marcus said it’s committed to being “a leader in high-end luxury retail” and is streamlining its operations to match its focus to provide a personalized shopping experience driven by digital performance and analytics.

Dollar Tree moves to dismiss Sycamore suit

Dollar Tree Stores has filed a motion to dismiss a lawsuit alleging that it purposefully “killed” 330 stores it sold to Sycamore Partners. As previously reported, Dollar Tree and Sycamore sued one another last month, each blaming the other for the failure of Sycamore to turn the stores, which were divested as a condition of the Dollar Tree-Family Dollar merger in 2015, into a viable discount store chain that was to be known as Dollar Express. Sycamore earlier this year sold those units to a third competitor, Dollar General, saying it was unable to make a viable business of them.

Grocery & Restaurants

Chipotle, McDonald’s heading in different directions

Two years ago, McDonald’s Corp. was the restaurant industry’s past, and Chipotle Mexican Grill Inc. was its future. Today, however, investors are betting the opposite. In 2015, Chipotle was the anti-McDonald’s. It was literally changing the restaurant business, inspiring a new generation of fast-casual restaurants all looking to be the “next Chipotle” or the “Chipotle of” whatever they happened to be selling. Its emergence led the entire industry to look for new ways to make its ingredients fresher, more local and more sustainable. McDonald’s, meanwhile, was in the midst of losing 500 million transactions beginning in 2012. The direction of the two chains changed in the fall of 2015.

Starbucks to close all 379 Teavana units

Starbucks Corp. will be closing all 379 of its Teavana retail units over the coming year, the company said Thursday. “Many of the company’s principally mall-based Teavana retail stores have been persistently underperforming,” the Seattle, Wash.-based coffee giant said in releasing third-quarter earnings. Starbucks paid $620 million in cash for Teavana in 2012, bringing the brand into its Starbucks stores as well as at mostly mall-based retail outlets.

PE group Advent buys majority stake in First Watch 

The private equity firm Advent International on Thursday said it has agreed to buy a majority stake in the breakfast-and-lunch chain First Watch from Freeman Spogli & Co. Company management “will retain a meaningful equity stake” in First Watch and will continue to lead the fast-growing University Park, Fla.-based chain, which has grown to more than 300 locations in 26 states.

Home & Road

Furniture Retailer Snubs Interest from Potential Buyers

Rent-A-Center is being selective about potential business opportunities. According to sources, the nation’s largest rent-to-own company brushed off takeover interest from private equity firms HIG Capital and Lone Star Funds. The snub took place prior to turning down an offer of $800 million from buyout firm Vintage Capital earlier this month, according to Reuters.  HIG and Lone Star did not offer a price for the company. However, each said it would pay a premium for the business, sources said in the report.

Rent-A-Center, which struggled in 2016 amid falling sales, has remained on the radar of potential buyers. To reduce the likelihood that an investor gains unsolicited control of the company, the company adopted a stock-holder rights plan, or a so-called poison pill, in March.

Mohawk Inds. Q2 Posts New Record Sales Highs

Mohawk Inds.’ second quarter results benefitted from the ongoing growth of its recycled SmartStrand fiber-made products.  Jeffrey S. Lorberbaum, chairman and CEO, noted the company’s Flooring North America segment, which includes Mohawk Home, experienced a 6% sales increase and a 12% operating margin in the period, ended July 1.  But these increases were driven mainly by the segment’s hard surface sales, which outpaced carpet. Still, residential sales proved stronger than commercial.

Jewelry & Luxury

Sterling Jewelers Wins Latest Round in Ongoing Gender Row

On July 24, the second circuit court of appeals vacated a class certification in the Sterling Jewelers gender discrimination case—a victory for the beleaguered company in the now-nine-year-old legal drama. The question at issue is whether the arbitrator for the case had the authority to certify a nearly 70,000-member class that, like many nonarbitrated class actions, includes members who did not opt-in. While the lower court said that it did, the three-judge panel found that the reasoning behind the decision was faulty and remanded the issue for further consideration. Joseph M. Sellers, a partner at Cohen Milstein, attorney for the plaintiffs, tells JCK that he didn’t consider this a major setback.

GJEPC Calls for DPA Budget Hike to $100M

The Diamond Producers Association (DPA) needs to boost its international marketing budget sharply next year, Praveenshankar Pandya, head of India’s Gem & Jewellery Export Promotion Council (GJEPC), said. “We [the industry] need at least $100 million next year to make an impact on the world market,” Pandya said at the inauguration ceremony of the India International Jewellery Show (IIJS) on Thursday. He said the GJEPC, India’s jewelry-industry umbrella organization, had signed a memorandum of understanding with the DPA this week to support the miner-backed group’s international diamond-jewelry promotion efforts for its “Real is Rare” campaign this year.

Office & Leisure

Barnes & Noble urged to sell itself

Barnes & Noble shares soared last week after an activist investor urged the company to sell itself, predicting that a private equity firm or e-commerce company could revive the beleaguered national bookstore chain. The New York City-based company’s stock ended trading last Tuesday 16.9% higher at $8.30 a share.

Hasbro Shares Take Major Beating As Easy-Bake Oven Sales Cool Off

Hasbro suffered its largest share drop in nearly two years last Monday after the toymaker said sales of its Easy-Bake, Playskool and Super Soaker brands plummeted in the second quarter. The Pawtucket, Rhode Island-based company said that quarterly sales in what it calls its “emerging brands” fell 14% to $62.9 million, dampening what was otherwise a stellar quarter, with revenue in Hasbro’s franchise brands like Transformers, Nerf and Monopoly rising 21% to $545.7 million. The company also saw sluggishness in its group that includes Star Wars and Marvel products, with sales up only 1%.

Technology & Internet

Amazon Sales Rise 25% In Q2 To Reach $38 Billion

Amazon’s net sales increased 25 percent to $38 billion in the second quarter, ended June 30, compared with $30.4 billion in Q2 2016. But profits decreased 51 percent to $628 million in the quarter, compared with $1.3 billion in the prior-year period, as it continues to invest in a series of wide-ranging initiatives. The e-tailer also indicated this trend will continue in Q3, projecting an operating income loss of $300 million to $400 million.

Samsung Rides Chip Sales, Galaxy S8 To Record Profit

Samsung has recovered nicely from last year’s phone debacle. The company reported a record profit of about $12.6 billion in the second quarter, with its mobile business ringing up $3.64 billion in operating profit on the strength of continued sales of its flagship Galaxy S8 and S8+ smartphones.

Finance & Economy

Leading indicators up 0.6% in June, vs. expectations for 0.4% gain

Leading indicators increased in June, beating expectations and pointing to an improving economic outlook.  Leading indicators increased 0.6 percent in June, beating estimates for a 0.4 percent rise according to economists polled by Reuters. This is up from a gain of 0.3 percent in the prior month, according to the Conference Board.  The index is a closely followed indicator for how healthy the U.S. economy is. The Conference Board tracks 10 components, including manufacturers’ new orders, stock prices and average weekly initial claims for unemployment insurance.

Consumers, businesses lift U.S. economic growth in second quarter

The U.S. economy accelerated in the second quarter as consumers ramped up spending and businesses invested more on equipment, confirming that the sluggish performance early in the year was temporary.  Gross domestic product increased at a 2.6 percent annual rate in the April-June period, which included a boost from trade, the Commerce Department said in its advance estimate.  The rebound in growth, together with a tightening labor market, likely leaves the Federal Reserve on course to announce a plan to start reducing its $4.2 trillion portfolio of Treasury bonds and mortgage-backed securities in September as well as raise interest rates for a third time this year.