Retail stocks have plunged – but they will get cheaper still
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Associate Editor
David Stevenson Nov 28, 2008
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John Lewis sales fell 14% in the week to 15 November
In recessions, companies fold. It's sad, but that's just what happens in downturns. And on the British high street, the failures are starting to stack up as high as the unsold stock in retailers' storerooms.
Yet this week's high profile collapses of Woolworths and MFI may turn out to be more than just a sign of the cyclical times. They could signal the end of the high street as we know it.
The stock market has marked down the price of retail shares by almost two-thirds over the last 18 months. But even that isn't factoring in the full extent of the potential pain. So if you're thinking about having a dabble in the bargain bins of general retail, don't…
Even the shops that are still afloat are feeling the pain
Although recent interest rate cuts may have cheered people up a bit, as Capital Economics puts it: "we doubt that a bumper, or even half-decent, Christmas is on the cards".
Consumption is being crushed by a mix of much tighter credit, crumbling house prices – down 14% year-on-year, said Nationwide yesterday – and now, rising job losses.
Any modest short-term spending bounce has come too late for both Woolworths and MFI. And they're just the tip of the iceberg.
Retailing is a highly 'operationally leveraged' business. In other words, fixed costs are high and firms' profits are finely tuned to turnover. A small fall in sales can leave a big gap in the bottom line.
Already some 30 high street chains have gone bust this year, including the shoe shop Dolcis, the furnishing sellers Ilva, Rosebys, New Heights and SCS, and the fashion firm MK One. There were 356 retail insolvencies in the third quarter of 2008 – that's up 39% on the same period last year – says the Insolvency Service.
And the shops still staying afloat - for now at least - are feeling real pain. DIY retailer Kingfisher (LSE:KGF) describes consumers as "shaken", the Dixons/Currys/PC World owner DSG International (LSE:DSGI) has made a £30m first-half loss and axed its dividend (we covered this in yesterday's Money Morning: Dividend cuts have started – should you sell now?). Even the mighty John Lewis, the so-called high street bellwether, saw sales drop by 14% in the week to 15 November.
Sure, when economies tank, these things happen. But this recession has only just started. And it's likely to continue well into 2010, whatever they've been saying on Planet Darling about a likely healthy upturn in the nation's economic fortunes by then.
As conditions worsen next year, even more companies will fail
But it's not just the recession. The slump comes as town centre stores are under attack like never before from a combination of supermarkets and internet shopping, which although it accounts for just 7% of overall sales, is growing at 15% a year. "What we are witnessing is the survival of the fittest", says Krishan Rama at the British Retail Consortium. "Next year the conditions are going to be worse, so we would expect even more companies to fail".
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"Are we, in fact, witnessing the death of the high street as we know it?" asks the Telegraph's Gordon Rayner. "Will our town centre stores become boarded-up relics of bygone times, while we all stay at home hunting online bargains or drive to shiny, soulless shopping malls with their own motorway junction?"
Too alarmist? "We've just got too much retail space, more than ever before", says Neil Saunders at Verdict. "High street shops are also under attack from the likes of Tesco, which is selling everything from electricals to homewares and taking a much greater share of the market. It's inevitable we'll see a shake-out".
What does this all mean for investors?
The FTSE 350 General Retail index has plunged by 63% over the last 18 months, underperforming the overall market by 25%. To some eyes, that could make it look cheap, and even ripe for takeover talk.
In the glory days of the bull market, shareholders in bombed out, undervalued and 'oversold' stocks could rely on an army of hedge funds and private equity moguls to snap the 'bargains' on offer.
But that was then. Now it's a different story. The safety net of corporate activity beneath the share prices of such companies has been cut away by the credit crunch, as neither of the former opportunists can borrow much from the banks any more.
Further, the demise of the Icelandic entrepreneurs at Baugur, who had assembled a large portfolio of big UK high street names, has taken another major player out of the game.
Potential buyers no longer need to launch takeover bids. They can merely wait until their target goes bust, and then cherry pick the pieces they want from the insolvency wreckage. As we're seeing with Woolies – now that it's failed, the administrator is hoping to sell off bits of the bust business to its rivals, who are apparently now queuing up to rake over Woolies' corpse, reports The Telegraph.
It all means that the further that high street sales slump, the more the risks mount up. So despite those share price cuts to date, the retail sector could still fall much further. And shareholders in some chains could end up losing the lot.
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