With first-quarter earnings season drawing to a close, many retailers have given us a glimpse into their trading over the early months of the year.
The breakout of the Middle East conflict has brought a host of challenges for UK businesses, which largely aren’t yet factored into their recent trading. With inflation back on the rise and expectations of interest rate hikes this year, consumers are likely to come under some pressure.
We’re looking at how retailers have fared, and who looks well-positioned to handle an uncertain future.
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Food retail proving its sales are resilient
With sales tending to hold up relatively well when the economy shows signs of weakness, food retail has long been the more defensive corner of the sector. That’s because consumers still need to eat, regardless of the broader economic picture, so they’re willing to cut back in other areas before drastically reducing the number of items in their weekly shop.
Tesco and Sainsbury’s both recorded total retail sales growth of 4.3% in their latest results. Within that, both businesses also saw food sales grow 5.2% faster, driven by continued investment in keeping prices low. This helped them grow volumes by stealing market share from some competitors.
Tesco continues to benefit from its enormous scale, which helps it negotiate hard with suppliers to offer better all-round pricing than the competition. But low-price schemes like expanded Everyday Low Prices, Clubcard Prices, and the Aldi Price Match mean that profits didn’t grow as fast as the top line.
It was a similar story at Sainsbury’s, which chose not to pass on the full extent of cost inflation to keep prices down. But it’s more exposed to general merchandise than most peers, via Argos. This is more discretionary and often among the first areas where consumers cut back when times get tough. As a result, Argos sales have been weak recently, contributing to a small profit decline in its latest results.
Marks & Spencer (M&S) hasn’t updated markets since its festive season trading update back in January. But in a similar fashion, food sales growth of 5.6% were the driving force behind its 3.3% top-line uplift. This was held back by its Fashion, Home & Beauty (FH&B) segment, which continued to struggle with the long-term impacts of last year’s cyber-attack.
However, we’re cautiously optimistic that performance in FH&B will start to recover in the near term. Taken alongside strong food growth and a relatively undemanding valuation, we see a good amount of upside potential for M&S if it can nail its execution. While the rationale for nominating M&S as one of our Five Shares to Watch for 2026 still stacks up, investors should be aware that the near-term outlook has become more challenging.
Non-food retail – the more volatile area
Outside of food retail, the picture is a little more challenging.
Things like clothing and footwear tend to be more discretionary, and when consumers’ budgets come under pressure, spending here tends to get cut back.
That’s exactly what we’ve seen at JD Sports. While total revenue was up 11.7% last year to £12.7bn, much of that growth was driven by recent acquisitions. Stripping that out, revenue only grew by 2.1%, with growth in all regions except the UK, where there’s a particularly tough consumer backdrop.
While we expect near-term sales and profits to remain under pressure, we’ve been impressed with the business’s underlying performance. The focus is changing from expansion to improving efficiencies and squeezing the most out of its existing store footprint. That’s expected to see free cash flow generation improve further this year, despite the expected dip in profitability. It also means the recently increased dividends and share buybacks look well covered. But as always, no shareholder returns are guaranteed.
ASOS’s sales have continued to struggle, with underlying like-for-like revenue falling 14% over the first half. This decline partly reflects the group’s shift towards a more flexible fulfilment model, under which ASOS only banks its commission as revenue, rather than the full amount on the price tag. But active customer numbers were also trending in the wrong direction, down 9% to 16.5 million.
We’re not overly concerned about the soft sales for now. It's part of the strategic pivot to focus on more profitable customers and products. Ongoing efforts to streamline the business are bearing fruit, with fixed costs falling sharply over the period, helping to improve margins. While the direction of travel is positive, ASOS is still forecast to remain loss-making this year.
Boohoo, which now refers to itself as Debenhams, saw its underlying sales around 5% lower than the prior year as of the end of February. The fast-fashion company is in the midst of its own strategic turnaround, shifting to a marketplace model. This involves allowing third-party brands to sell their goods on Debenham’s online platform, with the group taking a cut of any third-party sales made, and banking just that cut as revenue.
While still in decline, sales trends have been improving for the last three quarters. Fixed costs have also fallen sharply as the group’s been rightsizing its inventory levels and offloading warehouses, freeing up cash to pay down debt and power ahead with the new strategic plan. We see merits in this, and early progress has been positive, but margins are thin, and the company hasn’t always followed best governance practices.
It’s not all doom and gloom though. Some retailers like Next have continued to perform well despite the current challenging climate. The group had a better-than-expected start to the year, with full-price sales rising 6.2% in the first quarter. In the UK, double-digit online growth more than offset a 3.4% decline in its retail stores. Meanwhile, international sales were also strong, up 12.8%.
The Middle East conflict did cause a sharp drop in overseas sales back in March, but the region has since seen a significant recovery, and the broader sales outlook for the group remains positive. With its sales skewed towards middle-class and middle-aged customers, we expect this group to remain relatively resilient even if inflation ramps up through the rest of the year.
Will slower economic growth hit retail stocks?
The conflict in the Middle East has caused a sharp jump in energy prices, which has already pushed UK inflation up from 3.0% to 3.3% in March, and further increases are expected this year. The conflict has also seen interest rate expectations for 2026 flip from cuts to hikes, with markets now expecting rates to rise from 3.75% to 4.5% by the end of the year.
Together, this has dampened the outlook for UK economic growth in 2026, with the Office for Budget Responsibility lowering its forecast from 1.4% to 1.1% growth. This picture of a slowing economy, rising inflation and higher interest rates is all bad news for the retail sector, as it tends to weigh on consumer spending. And if spending dries up, valuations in the sector are likely to come under more pressure.
All in, that means we’re slightly more cautious on the outlook for retailers than we were at the start of the year. But it’s not a one-size-fits-all sector, and we still expect some corners of the sector to perform well.
Food retail stands out as one area where sales should remain broadly resilient. Higher energy prices and inflation are likely to raise their input costs. But as consumers need to eat no matter the economic situation, food retailers should be able to pass on these higher costs through higher prices at the tills. That should help offset potentially weaker volumes as consumers put fewer items in their baskets or choose cheaper alternatives if their budgets get stretched.
Tesco looks well-positioned if times get tougher from here, with its strong market position, huge scale, and broad customer proposition. This should hold it in good standing as higher energy and product costs put pressure on margins. We’re optimistic that the group can offset some of this impact through efficiency gains. But still, Tesco has taken a cautious outlook on profits this year, with the top end of guidance only pointing to slim growth.
In non-food retail, we think companies with wider margins and a strong online and overseas presence are the best place to navigate current market challenges.
Next stands out as one of those companies, with a strong proposition, relatively resilient customer base, and margins that already sit at the top end of its peer group. It also has a big overseas presence, which accounts for nearly 20% of group sales, and helps diversify some risk away from the softer UK market. We think Next looks well-positioned to ride out future uncertainty. However, its declining sales in its retail stores are likely to come under more pressure in the near term.
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