Mall Store Investors: Keep Track of E-Commerce and the 'S' Curve

 | Jun 01, 2016 | 2:30 PM EDT
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Retailers are supposed to know the trends in the fashion industry, but some missed the larger economic trend: mall stores are seeing less foot traffic and that means less sales. Electronic commerce continues to grow steadily within the retail industry. According to the U.S. Department of Commerce, e-commerce represented 7.8% of seasonally adjusted total retail sales during the first quarter of 2016, growing more than 4% since 2007.

Retail industry expert Jan Kniffen predicts that by 2030, nearly half of all sales will be from online. In an phone interview with Real Money, he said he believes that retail is hitting the technological "S" curve, meaning many companies will see in-store business transfer to online; and mall stores likely could resemble showrooms with distribution centers in the future. For such retailers, the key to surviving the "S" curve will be the adjustments in e-commerce.

One guess as to which company is leading the e-commerce trend: that's right, Amazon (AMZN).

The e-commerce giant -- which is a holding in TheStreet's Growth Seeker portfolio -- reported stellar first-quarter earnings in May. Amazon's net sales for electronics and other general merchandise topped $13.5 billion in North America, which is up from $10.25 billion from the same time last year. Included within general merchandise sales figures are Zappos' sales. The online shoe retailer was acquired in 2009 in a stock exchange valued at $1.2 billion when the deal closed.

So when you look at Amazon's earnings vs. mall stores such as Express (EXPR), Chico's FAS (CHS) and DSW (DSW), it is clear that consumers are increasingly going online for their retail purchases.

DSW's weak first quarter forced the shoe retailer to lower its outlook for the remainder of the year. Chico's poor results led activist investor Barington Capital Group to initiate a proxy fight for spots on the board (which was quickly resolved within a day). Express reported earnings on May 25 that missed on both the top and bottom line, forcing the company to slash its earnings guidance for the remainder of the year to $1.41 to $1.54 per share.

While e-commerce first-quarter sales were not broken down in its latest earnings report, Express detailed its online business in the company's annual report for 2015. E-commerce grew to $392 million for the year, up more than 10% from 2014. Following the first-quarter results, however, WedBush analysts said in a recent report that Express faces some risks, such as inventory overages, price competition from fast fashion and e-commerce retailers and lower mall traffic. But BlueFin analyst Rebecca Duval noted that later this year the apparel retailer would "implement an updated operations and IT system that we think will help better position product for sale and improve margins." Hence, both firms rate Express shares Outperform.

Still, both WedBush and BlueFin, among others, lowered their price target due to the rough first quarter. The former lowered expectations to $18 from $27; BlueFin dropped its target to $24 from $26. Express shares are trading at around $14.76 on the first day of June. 

Chico's also reported disappointing first-quarter earnings, but some analysts saw some upside for the women's apparel retailer. Wolfe Research upgraded Chico's to Peer Perform from Underperform, as analysts believe "shares embed a scenario of negative comps and margin pressure." This came after company's earnings fell $0.06 below Wall Street estimates, coming in at $0.25 per share. Chico's revenue of $643 million was also well short of forecasts of $669 million (the retailer does not separate e-commerce sales from total net sales on either the quarterly or annual filings).

WedBush maintained its Neutral rating on Chico's based on its view that "there is little near-term sales catalyst to generating meaningful EPS upside," adding that future risks include inventory overages, a slowdown in the Soma brand expansion plan and elevated competitor promotions.There is also no clear guidance for future online growth.

Real Money's resident chartist Bruce Kamich offers a strategy for aggressive traders: Go long CHS at current levels, risking a close below $9.50, and closes above $13 and $14 warrant increased exposure. Shares are currently trading near $11. 

Shoe retailer DSW posted earnings that missed expectations in the first quarter. Revenue rose to $681.3 million, but fell short of forecasts of $698.8 million. CEO Roger Rawlins told analysts during the earnings call that online sales grew 23% from the same period last year. Furthermore, DSW is revamping its website and plans to launch a new site later this year. "The website may be easier to navigate," said Rawlins, "it will provide much richer shopper experience. It's no secret that customers are increasingly pre-shopping online and we expect this enhanced digital experience to drive visitor frequency and improved conversion."

Despite the CEO's optimism, analysts at Canaccord rated DSW's shares Hold, saying the "deterioration" in the first-quarter results was due to a decline in traffic and consumer demand with a lack of depth in trending styles. Additionally, the retailer's plan to launch children's footwear in more than 200 stores later this summer is expected to increase the consumer base but will pressure the gross margin. Canaccord ended up lowering its 2016 EPS estimate to $1.35 to $1.48, from $1.54 to $1.64, and price target to $19, down $1. DSW shares are trading around $21.18.

Ascena Retail (ASNA) -- parent of Ann Taylor, Loft, maurices and Justice, among others -- is the latest mall-based retailer to see revenue fall short of forecasts, missing consensus estimates of $1.73 billion and booking comparable-store sales that fell by 4% in the third quarter.

CEO David Jaffe acknowledged pressure from discount retailers that dominate the industry, like TJX Cos. (TJX) and the "value guys," as well as the continued growth of Amazon. He added that Ascena is working with consulting firm Accenture (CAN) to see how the company should change its model to better serve customers.

During a conference call with analysts, Jaffe said the retailer hit an "important milestone" with its strategic omnichannel project. Its Justice and maurices stores are running on the new internal platform; the former is currently testing buy-online/ship-from-store capability. Despite the third-quarter results, Oppenheimer analysts maintain an Outperform rating and price target of $12 on the shares. The firm said Ascena managed inventories tightly, despite continued sales volatility.

So, how will these stores survive the technological "S" curve when sales and profits are down?

Kniffen says retailers will need to find a balance between their online and bricks-and-mortar stores, adding that if a company has more than 700 storefront locations, it is overstored. Of the three companies mentioned here, Chico's is the only one in that category, having more than 1,500 stores. The U.S. is already the most overstored nation in the world, Kniffen says. Retail space in the U.S. is approximately 48 square feet per capita, which is nearly double that of the U.K.'s, which has the second-most retail space per capita.

An abundance of stores, coupled with a significant decline in foot traffic at malls, made many mall retailers' earnings fall short of expectations. Some blamed the weather, as many companies reported in their most recent earnings that foot traffic declined noticeably in April, when the Northeast and the Great Lakes regions experienced record-low temperatures. While there is likely a correlation between the two, foot traffic is down because consumers are going online more often. Thus, consumer behavior is making it a necessity for mall store retailers to focus on e-commerce growth, in order to survive.

 ​--This article has been updated to include recent earnings from Ascena Retail and comments from its CEO.

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