Retail at Christmas – a make or break for the sector?

Christmas is the most important time of year for many retailers. Sales volumes are much higher, and it can be the difference between survival and throwing in the towel.

Tougher restrictions over the festive season were a real sting for a sector already battling challenging conditions. With clothes sales down 25% in 2020, the biggest fall since records began, Christmas has left behind a divided sector.

The end of an industry?

Absolutely not. Retail isn’t dying, it’s changing.

Structural changes in a sector can kick up investment opportunities, but also heighten risk. We haven’t seen the last of the losses in UK retail, but to find the diamonds in the rough we need to look at the lay of the land.

This article isn’t personal advice, if you’re not sure if an investment is right for you, seek advice.

Investing in individual companies isn’t right for everyone. You should make sure you understand the companies you’re investing in, their specific risks, and make sure any shares you own are held as part of a diversified portfolio.

Is online the way forward?

We think some high street classics still offer opportunity.

Next was the first out the gate when it came to reporting Christmas trading numbers. In the nine weeks leading up to Boxing Day, full price sales did dip by 1.1% compared to the same period the year before. But that was streets ahead of the expected 8.0% fall. And if you exclude declines in interest income from Next’s credit business, there was only a 0.5% drop.

Sales performance was steady despite the mass closure of stores in the run up to Christmas, and reflected growth in online sales. That’s not a shift lots of bricks and mortar names have been able to achieve, and highlights Next’s key advantage. Its history as a catalogue company gave the group a big head-start in the shift to online.

Next Online Sales

Source: Next Annual Reports

An online business already at-scale is great news, as coronavirus has only accelerated the shift to digital. In theory, less investment will be needed compared to peers and should help protect medium-term profits.

There are still some challenges ahead though. January’s trading statement showed crashing footfall, which means Next’s written down the value of some of its stores faster than expected. That’s likely to trim full year profit by £40m. This shouldn’t be looked at as a long-term issue, but investors shouldn’t expect skyrocketing profit this year either.

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A lot of us still want to “go” shopping

Pictures of people queuing for Primark when lockdowns lifted last year, told us what we’d suspected. There’s demand for large-format stores, it’s just a case of which ones will thrive after the high street’s had its revolution. There isn’t room for all of them, as we’ve seen by troubles faced by Debenhams and TopShop.

We can’t deny things are tough for Primark, owned by Associated British Food (ABF). The lack of online business means lockdowns had a rough impact, including over Christmas. Sales fell 30% in the first quarter, and Primark’s full year sales and adjusted operating profit are now expected to be "somewhat lower than last year".

But we view this as a blip, not a systemic crisis for the group. The speed at which demand picked up once stores opened is very encouraging. And with a gloomy economic outlook on the horizon, we suspect Primark’s low-price tags could help buoy sales once its doors reopen. As ever though, there are no guarantees and past performance is not a guide to the future.

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Specialised in name and location

Investors should remember retail stretches far beyond the high street.

Retail parks are proving to be more popular with both shoppers and businesses alike, something we suspect will continue. Shops and carparks are bigger, helping with social distancing and making click and collect easier.

They also tend to house specialist retailers which have been allowed to stay open for a lot of lockdown, which is an obvious advantage. It’s worth having a think about companies like Next and Halfords with a strong retail park presence.

Pets at Home is another retail park staple. The group recorded a 19.3% increase in retail like-for-like sales in December, and full year profit is expected to exceed £77m, which is ahead of previous guidance. Not only has the group benefited from being allowed to stay open, but also the puppy boom triggered by the pandemic.

Long-term we think Pets is in a good position. Keep in mind though, the short term will involve ups and downs and a higher than average price/earnings ratio increases the pressure for them to perform well.

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When the going gets tough…

Getting to the top when you’re behind the pack is a huge ask.

Marks & Spencer saw total sales fall 3.6% in December, driven by a dramatic decline in Clothing & Home sales. That was better than the third quarter on the whole, but still weak.

It’s got a lot to do with M&S’ online operation failing to plug the sales gap created by closed shops. Its digital transformation was slow to start, giving it less to work with when the pandemic hit. Unlike Primark, we’re not convinced demand is going to spike when things start to go back to normal. The group was struggling pre-pandemic, and its focus on office and smart-casual wear is unlikely to be very attractive for some time.

M&S divisions by sales (£m)

Clothing & Home - online vs store sales (£m)

Source: Marks & Spencer third quarter results

The food business is in a better spot and boosted by the well-timed launch of the Ocado joint venture. With a long-term shift to online grocery shopping, this is a real opportunity. We see Marks & Spencer’s food offering as a real asset. The question from here is whether the Clothing & Home transformation can pivot quickly enough to compete with rivals.

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The other trend that’s been accelerated this Christmas is the demise of pigeon-holed retailers – businesses that are overly reliant on one type of product.

You’d expect Christmas to be a great time for card shops, but that’s not been the case. Paperchase is close to appointing administrators, after undergoing a financial restructure less than two years ago.

Its peer Card Factory is having a very tough time too. November lockdowns meant festive trade was diverted elsewhere. Customers were picking up their wrapping paper and greetings cards at the supermarket instead.

Card Factory’s store sales were down just over 38% in the eleven months to 31 December 2020. Rolling lockdowns had a huge impact here, but we think it’s also a sign of a longer-term shift.

Card Factory operating profit (£m)

Source: Refinitiv, 21 January 2021

We think a big reason the online business didn’t pick up the slack is because customers crave convenience. If we aren’t on the high street, we won’t go to Card Factory to grab a card. We’re much more likely to pick one up when we’re getting the food shop or go to a specialist online card retailer from the comfort of our home.

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Where does this leave the retail sector?

The all-important Christmas season was a nightmare for bricks and mortar retailers. And, crucially for investors, it highlighted the accelerated changes in the sector brought on by coronavirus.

For those prepared to do their research, we think there’s opportunity in the sector. However, a sector going through change means extra risk, especially for incumbents. Share prices can go down as well as up, and you could get back less than you invest.

This article is not personal advice or a recommendation to buy, sell or hold any investment. If investors are not sure of the suitability of an investment for their circumstances, they should seek advice. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment.

Past performance is not a guide to the future and all investments rise and fall in value so investors could make a loss.

This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing.

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