Survival of the fittest or omni-channel omnishambles? Finding deep value in the most adaptive brick-and-mortar retailers

Survival of the fittest or omni-channel omnishambles? Finding deep value in the most adaptive brick-and-mortar retailers

Suburban malls and main street stores have become ghost towns. Even with the U.S. economy hovering near full employment with still-strong consumer sentiment, dozens of large-cap. marquee retailers have been guiding down sharply on foot traffic and EPS for 2017, to the point where Wells Fargo recently dismissed the sector as “uninvestable” in January.

As Amazon matures and as millions of shoppers flock to e-commerce, traditional store operators are under pressure to add convenience, relevance, and local curation while they spruce up their environments, train staff, and adapt to Millennial mores.

Some have had to learn the hard way. Sears is in the process of shuttering 150 stores, Macy’s is closing over 68 stores nationwide, and The Galleria at Pittsburgh Mills — a sprawling center of commerce in western Pennsylvania once valued at $200 million — recently sold for the peppercorn sum of $100 after Wells Fargo foreclosed on the mall. With mall REITS under pressure, with leases being renegotiated nationwide, and with $47 billion in retail real estate linked debt set to mature over the next 18 months, the stakes are high. Coleman’s analyst team recently organized a discussion of these troubling trends with a Florida-based big box real estate broker.

In contrast to the shopping centers, a small handful of retail incumbents have adapted and remained resilient. Many savvy asset managers have been looking for these individual outperformers, arguing against wholesale generalizations lest the market throw the retail baby out with the bathwater.

Arguably the strongest-performing channel within brick-and-mortar retail remains the off-price segment which includes Burlington Stores Inc (BURL), Ross Stores, Inc (ROST), TJX Companies Inc (TJX), and Nordstrom Rack, which collectively started off the year up about 5%, with strong upward guidance as more and more value-oriented consumers come in for the treasure hunt, which until recently included Ivanka Trump merchandise. Within the category, T.J. Maxx has been making a concerted effort to break out of the pack, and according to CEO Ernie Herrman, TJX is getting ready to launch a new off-price housewares chain to cover TJX’s HomeGoods flank and to take on the flailing department stores as well as furniture retailers. In addition, Burlington is now expanding into under-penetrated categories such as beauty, home goods, and ladies apparel as it looks to extend its torrid growth. Burlington’s pack-and-hold inventory strategy has helped the company drive sales and reduce markdowns, thereby optimizing margins, topics that Coleman’s analyst team recently explored with a newly-recruited former Vice President of TJX who provided detailed commentary during a recent fireside chat call.

Another retail category still firing on all cylinders is beauty and cosmetics, where Sephora and Ulta continue to enjoy some of the most enviable turnover in the entire business. With ULTA shares up some 67% since March 2016, the company’s ability to capitalize on in-store experience, full-service salon offerings, and its Ultamate Rewards loyalty program has driven growth in ticket, traffic, comparable store sales, and earnings. Although Ulta has grown margins and taken its in-store beauty bar experience to the next level to hold its own against Sephora, some investors worry that the market may be getting oversaturated, a topic we examined with Ulta’s former CFO during a previous discussion.

In parallel, another major bright spot has been smart shelving and connected retail in the form of IoT, RFID, beacons, shopper smartwatches, and integrated inventory management, which is expected to surge to $94 billion by 2025 from the $14 billion per year level currently. Coleman’s analyst team recently dissected these various retailer response strategies qualitatively on a related conference call with a Colorado-based connected retail strategist.

Looking beyond omni-channel, Target is investing heavily in store improvements and beleaguered behemoth Macy’s is pursuing a combination of Connect@Macy’s kiosks for one-on-one service, a data-driven, localized curation model called My Macy’s, iBeacons, and other personalized targeting tools, topics which Coleman’s analyst team explored with the newly-recruited former Chief Marketing Officer of Macy’s.

Overall, while the retail category is certainly down, certain individual retailers are not out. Ulta, Sephora, TJX, ROST, REI, and Apple Retail prove that those who can stay fresh on merchandising, value and localization, execute on omni-channel, and deliver consistently positive in-store experience will not only survive, but thrive.