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Red Friday: Coming to a Mall Near You

October 30, 2008 | About:
Andrew Mickey

Andrew Mickey

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It’s become somewhat of an annual tradition. After stuffing one’s self on the fourth Thursday in November, it’s customary to wake up at the same time as newspaper delivery boys, and line up for hours just before the official start of the holiday shopping season as retailers extend huge bargains.

As someone who has lived outside of the United States for a big part of my life, I can easily say there is nothing more American than the rampant consumerism following Thanksgiving Day.

It’s Black Friday and retailers celebrate the part of the year when the real profits are made. But this year Black Friday has all the potential of pushing retailers deeper into the red.

The markets have tanked, credit card lenders have slashed maximum limits, and housing prices continue to set new low after new low. The three great sources of American spending power have all but dried up.

Retailers are expecting to take the brunt of the blow. Most of them have already headed for cover in hopes of surviving.

Already, Starbucks (SBUX) has closed up hundreds of locations. CircuitCity (CC) announced plans to close down 150 of its stores as it teeters on the verge of bankruptcy.

Linens & Things, which has declared bankruptcy, recently hired a realtor to help the company reassign its 371property leases. The company almost proudly proclaims “GOING OUT OF BUSINESS” on its web site. Everything is on sale.

Retailers are going into survival mode. The vacancy rate at malls across the country proves it. As retailers close up shop, the rate of unfilled store space at malls has increased from 6.3% to 6.6% in the past three months. It’s the highest vacancy rate since the 2001 and it’s still on the rise.

It’s ugly out there in retail, but I’m afraid it’s going to get a lot worse. Sure, the economy is in rough shape, unemployment is rising, almost a third of Americans fear they will lose their jobs, and consumer confidence is the lowest it’s been since it was first tracked, but is going to lead to intense competition amongst retailers.

Take a look at the electronics stores. Best Buy (BBY) is the dominant leader in the electronics retail. Normally, it would be a very good sign to see a competitor like Circuit City go through some tough times. The loss of a significant competitor means more market share for Best Buy. In the short run, however, it’s not very good at all.

Think of the average consumer that’s going shopping for the holiday season. He’s already strapped for cash. As we’ve seen, practically no one is buying furniture, cars, or appliances. He might, however, think this is the year he finally gets a new flat panel TV.

So he starts looking for deals. And there are a lot of them.

One of the Circuit City stores in his town is going out of business. Everything must go…at any price. So they’re offering some pretty steep discounts.

Meanwhile, with the ramp up in foreclosures and almost a million Americans who lost their jobs this year, there’s a glut of used TVs on the market. Whether it’s eBay or Craigslist, there are hundreds available to choose at 60% to 70% under what Best Buy is charging.

Then there’s Wal-Mart (WMT). They can beat anyone’s price on practically anything. Is he going to go for the top-of-the-line name-brand model at Best Buy or a similar one at Wal-Mart that’s 30% cheaper?

Exactly. There are still a lot of options for consumers and those with cash will see some of the best deals in years. Right now, strong companies are looking for market share and weaker ones are looking to survive. Either way, margins will get squeezed. Profits will fall even more.

Retail revenues may only be expected to decline 2% compared to last year, but there’s a lot more to the story here. We’re in for a very competitive holiday shopping season. Consumers with cash will get some great deals and retailers’ profit margins will be some of the lowest we’ve seen in a long time.

That’s why I don’t think the real big crunch has really hit home yet in the retail sector.

We’re at a major economic crossroads. No one knows how much cash hoarding will actually be done or how many of the government stimulus checks will go straight to paying off mortgages or credit cards.

The mighty U.S. consumer may not even be able to find the cash (or credit) to bail out the economy one more time. The National Retail Federation (NRF) asked Congress yesterday for another round of stimulus checks for consumers. Any emergency stimulus package will probably do very little to help. According to a recent NRF survey, 46% of the last round of free money tax rebates went to paying off debts.

Top line sales may be flat or only decline slightly, but profits and margins will get crushed. When you’re competition is going out of business, it’s tough to remain competitive price-wise.

Retail stocks are likely to be dead money until all this blows over. A lot of the stocks look cheap right now as the economy faces hard times. But quite a few of the retailers probably won’t even be in business by the time January rolls around. Those that do survive will be badly damaged.

This year it’s going to be a Red Friday for retail and I still don’t think all the potential downside has been priced into retail stocks.

We at the Prosperity Dispatch continue to recommend sticking with high-quality companies with strong balance sheets and sustainable dividend companies that continue to do well even in the worst of economic times. The majority of retail industry stocks don’t come close to footing that bill.

Good Investing,

Andrew Mickey

About the author:

Andrew Mickey
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