This week, the market will absorb a plethora of retailing earnings reports. And as usual, investors will look at the retailing data for insight into the health of the U.S. consumer. Although gauging consumer health and sentiment from retailing data is certainly a meaningful exercise, doing so in the usual way may no longer be so meaningful. The recession changed all that, and those changes go beyond consumers embracing frugality.
To be sure, frugality is here to stay. Grocers such as Kroger (KR) continue to report a growing proportion of sales coming from private-label products, and that cannot be good for Kellogg (K) and other brand-name consumer product companies. This suggests that buying patterns brought about by the recession have shifted from being a temporary response to an economic crisis to a permanent part of life. It's not a coincidence that deep discounter Dollar General (DG) sees a good chunk of its future growth coming from comfortably employed middle-class working Americans.
Aside from frugality, innovation will have a profound effect on the future of retailing. By all accounts, entertainment spending has remained resilient throughout the past several years. What better way to forget about the world's problems than by going to see a movie or watching a sporting event? Yet brick-and-mortar movie rental stores are all but extinct. Netflix (NFLX) is not only a technology company, it's a retailer.
Coinstar (CSTR), which started off as supplier of its famous green coin-counting machines, developed the hugely successful Redbox, a bookshelf-size video-rental structure that can offer the same services as an 8,000-square-foot store. Coinstar's next trick: coffee. The company is confident that it can sell a freshly brewed cup of gourmet coffee quickly and for less. I don't think Starbucks (SBUX) has anything to worry about at the moment, but it's intriguing to think of the consequences that this idea could have.
Ironically, a technology company has given a resurgence to the big-box retailers. Apple's (AAPL) retail division is arguably one of the most profitable operations in the world. If Apple's retailing division were a separate entity, it's scary to think of the type of growth numbers it would generate in comparison with what you would expect from a box retailer.
Looking ahead, I see a new landscape for retailing, in which companies fall into three groups. On one side, you will have those businesses that thrive because they simply win on price. Whether it's Dollar General or TJX (TJX), they sell it for less, and that will be the only thing that counts. Investors will likely do well looking into these companies.
On the other side will be a hodgepodge of names that are merely hoping to outlive the competition and take a bigger share of a declining market. Best Buy (BBY) is a name that comes to mind, as well as many of the non-differentiating apparel names and other specialty retailers. Best Buy has a good shot, since it is the only pure-play electronics retailer with any scale.
Most of the retailers in the third group, the mall-based and shopping-center retailers, are going to have a hard time and are best avoided, absent a highly compelling valuation. This group faces competition from all angles: the Internet, chains such as Target (TGT) and everything in between. This group of retailers includes what I call the brand retailers, which include Apple Stores, and Nordstrom (JWN), which sell brands that are somewhat insensitive to price. People buy iPhone because they want an iPhone; my wife buys Tory Burch because she's sold on the quality and design of that brand. These retailers are likely going to come out of this recovery in excellent shape.
So as the retailing news starts to pour out this week, consider looking at the data from this perspective. Weak economies are tough for retailing, but not all retailers are created equal and thus aren't necessarily going to give you the whole picture of the U.S. consumer.