Less Stuff, More Bars for Consumers …

Despite rising employment, an improvement in wages and lower gasoline prices, American consumers are doing something that they have rarely done in the past five decades: They are spending less on stuff.

Instead, consumers are putting their money into paying down debt, buying travel experiences and increasing their devotion to restaurants and bars.

This is the key reason that major retail chains Walmart (WMT), Macys (M), Nordstrom (JWN) and JCPenney (JCP) are reporting such weak earnings this month. They have spent billions of dollars on improving their online shopping sites to compete with Amazon.com (AMZN). Yet e-commerce sales growth at the traditional retailers has actually been slowing, according to a new study by Bloomberg.

Nordstrom has actually been an innovator in online shopping, but last week reported a big slump in earnings — and took a 20% loss to its shares. You can’t accuse the company of ignoring the web. The problem, according to the Bloomberg study, is that it had to take unplanned discounts in response to declining shopper traffic — in store and online. Macy’s felt a similar traffic slowdown: Its number of transactions, including store and online sales, fell 3.6%, reports Bloomberg.

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Total U.S. e-commerce sales still outpace those at brick-and-mortar locations, growing 14.1% in the latest quarter from the year before, compared to 3.7% growth for total retail sales, according to Census Bureau in the Bloomberg article.

But strip out sales that occur on Amazon.com — items sold by Amazon itself, as well as those sold by third parties — and the picture changes drastically: Non-Amazon e-commerce sales grew just 4.5% in the second quarter from the year before, down from 10.5% growth in the second quarter of 2011, according to an analysis by Aram Rubinson of Wolfe Research, reports Bloomberg.

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The past four months’ pairing of Macy’s vs. Amazon.com, shown above, amounts to the classic match-up of our time. Old-line, mall-based retailers are really struggling while Amazon.com continues to soar. Retail is becoming a winner-take-all industry, and the name of that winner so far starts with an A. The old guard apparently cannot change its business model effectively enough to match Amazon despite more than a decade of competition. It’s not even a fair fight anymore.

A key aggravating factor in the Macy’s story has been an increase in its corporate bond default risk as its aggressive stock buyback strategy — spending $900 million in the last quarter at an average price of $53.89 — blows up in its face. At current prices, the buybacks are carrying a loss of around $240 million. Not the kind of off-the-rack value creation shareholders were looking for.

Turning to the macroeconomic side of retail, overall sales for the month of October were weaker than expected with all categories missing consensus expectations except for autos and gasoline for the third straight month. That doesn’t even tell the whole story, though. According to Bespoke Investment Group analysts, there hasn’t been a single retail sales report in 2015 that has been better than expected; nine have missed expectations and two reports have been in-line.

Autos continue to hold on to the largest share of total sales at just under 21%, which is up almost 1 percentage point vs a year ago. Other sectors seeing year-over-year increases in share are Non Store Retail and Bars and Restaurants, according to the Bespoke data.

As for the total share of retail sales that each sector has comprised over time, the most notable is gas stations. Their share dropped to 7.8% in the Bespoke study, taking it to the lowest level since November 2003. One sector benefitting from lower gas prices is Bars and Restaurants: A record 11.7% of total retail sales now go to that sector, the Bespoke data shows. In fact, Bars and Restaurants are now within one percentage point of overtaking Food and Beverage Stores (12.7%) in terms of total share!

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Bloomberg goes on to note in a similar vein that Americans have more money in their wallets these days but the share of their income available for retail spending is steadily dwindling, with a smaller percentage of discretionary dollars going to clothing and food and a bigger percentage going to healthcare, education, dining and travel.

At this point, brick-and-mortar stores appear ready to throw in the towel. Bloomberg notes that this mentality can be seen in Walmart’s decision this holiday season to offer the same Black Friday discounts to customers online that have historically been limited to its stores. Walmart is in this way training its customers to stay away from its stores, the study argues — a move that will come at a substantial cost as those leases still have to be paid.

No wonder shopper traffic at brick and mortar retailers hasn’t posted positive growth since the first quarter of 2012. And as retailers make it more attractive to shop online, the Bloomberg study argues, the decline in store shoppers will continue its free fall.

To combat this trend, some analysts suggest taking a page from the playbook of Netflix (NFLX), and offering unique content that cannot be found elsewhere. JCPenney is trying it with new private-label merchandise and new in-store hair salons co-branded with InStyle magazine, according to Bloomberg. Target has also tried limited-time partnerships with high-end designers to drive shopper interest.

To find the way forward, old-line retailers are going to have to innovate in ways that perhaps we haven’t seen yet because just offering more discounted stuff on websites and mobile apps apparently is not going to cut it. Expect the retailers’ shares to remain under pressure until they figure it out.

Best wishes,

Jon Markman

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