Heightened supply risk for 2019. During 3Q18, retailers took a turn for the worse, as inventory increased modestly at a faster rate than sales. With no ability to raise prices to drive comp, retailers must rely on increased unit volume to drive sales growth. Note that this is a snapshot entering 4Q18. Most results, save for a few exceptions (e.g., TGT – PP, COST – PP, covered by Scott Mushkin, and LULU-OP), have missed holiday sales. We expect inventory exiting 4Q18 to show even higher inventory-related business risk.
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The December reading rose for the second consecutive month, suggesting with valuations pulling in short sellers may be derisking. The November reading was 2 out of 10. In December 39.1% of retailers posted a short position >15% (was 42.2% in November). Since we last published this report on 12/17/18, the XRT is up 6% vs. the S&P 500 +2%. We rank Sector Sentiment on a scale of “1” being the most negative sentiment to “10” being the most positive sentiment. The basis for the ranking is based on the number of retailers in the sector with >15% short positions.
We believe 2018 may have been “peak season” for retailers. We continue to believe in the Retail Death Curve phenomenon. The 2018 lift in mall traffic was against easy compares and pent-up demand. Despite clean inventory in 2018, there was no evidence of broad-based pricing power. Retailers were as, if not more, promotional than prior year and “bought the comp.” Tax reform savings were reinvested in store-related wages and deferred capital spending – both contributing to a higher fixed cost infrastructure than before tax reform – adding to greater deleverage risk.
Sector Sentiment 2, on a Scale of 1 (worst) to 10 (best): The November reading rose from the October reading of 1 out of 10 with 42.2% of retailers posting a short position >15% (was 44.4% in October). Since we last published this report on 11/14/18, the XRT is down 11% and therefore investors may have taken some money off the table. We rank Sector Sentiment on a scale of “1” being the most negative sentiment to “10” being the most positive sentiment. The basis for the ranking is based on the number of retailers in the sector with >15% short positions.
3Q18 Consumer Sentiment Poll scores 5. 1 out of 10 (vs 6.2 in 2Q18). Each quarter, we send out a brief survey to gauge investor sentiment prior to earnings, where 1 is “Terrible” and 10 is “Excellent.” Thanks for replying, if you did! Survey results are completely anonymous, and the greater the response rate, the more conclusive the results, so please consider participating next time.
The October reading exceeded the September reading of 2 out of 10 with 44.4% of retailers posting a short position >15% (was 43.5% in September). This is the third straight month of percentage increases. The last time the sector sentiment was a 1 was in July 2018 when 45.7% of retailers posted a short position of >15%. We rank Sector Sentiment on a scale of “1” being the most negative sentiment to “10” being the most positive sentiment. The basis for the ranking is based on the number of retailers in the sector with >15% short positions.
3Q18 Promo Rating: “Flat;” 2Q18 Rating: “Flat.” Our 3Q18 Promo Score was 39 out of 100 (vs 40 out of 100 in 2Q18). Our Promo Score tracks YoY promotional activity as a proxy for merchandise margin direction. We pay particular attention to end-of-quarter changes in promo activity as it is indicative of whether inventory units are on plan. Click here for the Wolfe Promo Tracker excel model.
BMO, KORS reported a sales miss with an EPS beat driven by GM, SG&A and lower taxes. Investors were put off by the negative impact of FX on sales, a lowered outlook for FY3Q19, and what sounds like the beginning of an investment cycle to support the two new brands. Lack of inventory resulted in a miss in full price selling and excess markdowns hurt margins. Despite annual EPS targeted at over $5.00, the stock sold off 15% during trading.
FY2Q19 misses on top line, offset by a slight GM beat. The EPS beat was driven by SGA and ~$0.10 from lower tax rate. Recall, KORS used a lower tax rate to deliver an EPS “beat" last quarter as well. Comp missed at -2.1% versus Cons of -0.9%, with positive comps in the Americas and Asia, offset by negative Europe comps. EPS beat meaningfully at adjusted $1.27 versus Cons at $1.10. Based on our promo checks we believe that any accretive benefit arising from China growth was offset by potential merchandise margin pressure in the Americas. This is a disappointing print, and stock is reacting in kind, off 11% in the premarket.
Our U.S. checks suggest July and August were slightly more promotional than LY (driven by clearance and not full-price), but checks improved as the quarter ended (see Exh. 4). This implies clean inventory to support GM entering FY3Q19. KORS had materially reduced promo activity LY creating tough merch margin compares for 3Q18. Two key catalysts include 1) sustainable positive store comps and 2) operating margin expansion. FY2Q19 earnings on 11/7/18, 8:30am ET; 800-239-9838.
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