Data indicates that comparable store sales across all apparel retail industry have decreased in the past 2-3 years primarily due to slowing down store traffic as a result of changes in shopping pattern and changes in macro-economy. The pressure of sales spreads along value chain of apparel industry quickly to wholesalers and branding companies. We see more stores closures in department stores and mall-based stores and shrinking margins due to promotions and markdowns. However, e-commerce of third party market and recently strong consumers’ demand may be helping slow down decline of sales.

Sector’s current, trend, causes behind trend, and future

Current and Trend

• Data indicates that comparable store sales of all cross apparel retail industry have been continuously decreasing since 2014/15 in US market.
• It seems that some categories of apparel such as kids’ apparel or active wear/outdoor wear (average annual decrease of 0-5%) have presented better performance than men & women’s casual/lifestyle apparel and sport wears (average annual decrease 5-15%) probably due to their own e-commerce’ performance.
• Compared with stores sales, e-commerce sales have performed much better and have generally been growing while they usually account for less than 15% for most of retailers. Only a few of categories have benefited from increase in e-commerce sales offsetting decrease in store sales before 2017. However, there are more categories/ companies by third party platform such as Amazon to improve e-commerce sales to grow faster than decrease in in-store comparable sales after entering 2018. At the same time, there has been a sign of increasing traffic for the regular companies’ own websites since 2017.
• Before the second half of 2017, the pressure on sales of retailers has already been spread along the value chain of apparel industry and has caused general decrease in sales of wholesalers and, to lesser extent, the apparel brands management companies. However, since 2017, it seems that the large decline in sales of some chain stores and thus store closure of 2016/17 finally had a significant impact on the related manufacturers/wholesalers/branding companies and caused an apparent decline in their wholesales while another brands’ wholesale were improved due to a stronger customer’s demand.
• Since 2015, the decrease in comparable sales has been shown firstly as less transaction counts and then as smaller transaction size as companies increased promotions and markdowns. However, after entering 2018, it seems, probably due to recovery of traffic and thus companies’ increasing ability to raise price/reduce promotion, comparable sales have been bouncing back all across categories, especially in active wear and sportswear. Benefiting from those new changes in retail (ecommerce mainly), we have also seen signs in improvement in wholesale, which was the most hurt part in the past three years for many companies.
• Apparel industry in Europe and China has performed differently as it is in US market. The continuingly strong growth in Europe and China provided clues about the reasons behind slowing down traffic in US.
• Lowering price has been used as main method for companies to deal with slowing down traffic but it seems that, for most companies, even after the promotions/markdowns significantly hurt their margins they did not see the traffic come back. However, it seems some of companies have already been able to raise price gradually since 2018, which help offset the decrease in traffic and improve merchandize margins of those companies.
• For most of companies whose margins are narrowing, due to no space to lower price the only thing that they can do is to maintain margin and profitability by cutting expenses such as closing unprofitable stores or exiting unprofitable product.
• We will see increasing companies falling into cash flow trouble due to their failure to lower costs to offset deleveraging of continuingly decreasing sales.

 

Causes behind the trend

Changes in shopping pattern

1. General changes in shopping pattern of consumers will not impact demand but stores traffic. Increasing alternative distribution channels such as online sites, massive merchandises and warehouse dilute the traditional stores traffic (specialty/department stores) and cause decline in transaction/sales volume of stores. In this situation, demand for apparels still exists and keeps strong but some of demand inevitably moves away from physical stores to other channels such as e-commerce that is able to provide lower price and bigger availability of choice as the lower barriers to entry for e-commerce attract more small retailers or apparel companies, which would have no chances to compete for demand in traditional shopping pattern with big companies or retail chain due to disadvantage of scale. At the same time, decreased selling price as a reaction to smaller online competitors dragged down sales as well.
2. The result is that, when the stores are impacted by alternative products with cheaper price from online sales, the inflexibility of physical stores in lowering price due to their nature of low margin does not allow them match price of online sales channel.
3. The shifting of consumers’ shopping pattern to online, causing less traffic in the stores, will negatively impact demand because occasional purchasing resulted from temporary decision that consumers used to do when they shop in the stores significantly decreases due to less visits of stores.
4. The recent re-bouncing of sales for some of companies may be a result of shifting to e-commerce, especially third party market place ecommerce, of their resource. Increasingly strong consumers’ purchasing power may also be behind the increasing ability to raise price of those companies.

Changes in monetary policy and pressure of price

Quantitative easing monetary policy has largely boosted inflation in products’ price by increasing consumers’ spending in the past ten years. However, as Fed ended quantitative easing policy and started to raise interest at large pace, there is a strong downward trend on products’ price due to decreasing spending of consumers. In this situation, sales decreased inevitably either due to decreased volume if companies do not lower selling price or due to decreased price when they lower price with no increase in volume.

Increasing consumers’ demand driven by macro-economy/purchasing power or the increasing marketing spending stimulated by money saved from the tax act of 2017 or increasing traffic in third party platform or reduced competition due to massive closure of stores and thus possibility to raise price may be playing the role in rebounding sales in 2018.

Industry Future

Whatever the reason is, this trend of retail industry may continue and may spread from US to all of other markets as consumers increase their online shopping and other governments raise interest rate as a result of Fed’s action.

Given our analysis we may have to wait, until a deeper cutting in price of apparels or increasing population of online purchasing, to see companies’ sales volume coming back to previous level. We think the fast decreasing price will be passed on to compensation of workers and raw materials eventually. However, some of companies will have to face serious cash flow issue before the lost profit can be passed away. Companies with higher margin, especially those owning premium brands, will have better opportunities to survive.

Online sales, due to lower price than in stores, will grab more traffic from in stores sales. The trend in online sales growth is shifting from companies’ own website to third party platform such as Amazon. Stores based business will be shrinking.

 

General Financial Performance of Companies In the Sector

We see the annual decrease of about 2-3% in wholesales or demand from retail customers of US market for outdoor wears and sport apparels in 2016 and early 2017, mainly a reflection of slowing down traffic in retail stores of customers of companies in this sector during the same period of time. However, positively reacting from warming up retail orders after entering 2018, the decline in wholesale of companies in this sector hit the bottom and bounced back. Together with continuing increase in sales from their retail channels (mainly from new opening of stores and e-commerce), which basically offset the decrease in wholesales in the past two years, rebound in wholesale brought those companies a double digits increase in sales in 2018 so far. 

While unfavourable climate in retail industry has certainly been putting huge pressure on the wholesale of those apparel companies, so far this impact has not yet significantly impact companies’ merchandise margin because companies have still not see the need to lower price to deal with decline in wholesale. In fact, companies’ gross margins (average 200 basis points increase) have benefited from the sales’ shifting to higher margin products/sales channels. At the same time, have seen fast growth in ecommerce channel, some companies started to increase spending on those sales channel and thus caused pushing up of SG&A as percentage of sales and decline of operating margin, which are about 12% currently.

According our analysis, companies’ enterprise price/EBI is around 32-38 with interest/EBI ratio of 3%.

Looking for  multiples to help you make decisions in pricing of PE, M&A, or distressed debt transactions?

Please click the button below.