Q3 Markdowns Rising, Margins Falling
This week at Walmart, men’s printed shirts are priced at $1.99, and Labor Day savings are being promoted at up to 60 percent off.
Gap is offering women’s skinny jeans for $31, reduced from $79.95, and muscle tank tops for $11, marked down from $29.95. Many other styles are at 50 to 60 percent off.
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Hanky Panky is promoting its “biggest sale of the year” with up to 75 percent off selected styles from Aug. 30 to Sept. 7.
And Aeropostale has low-rise girls “premium air” skater jeans priced at $22, reduced from $64.95.
“It’s markdown city,” said Dana Telsey, chief executive officer and chief research officer of the Telsey Advisory Group. “Deals are all around. Everyone’s inventory levels are high. There was an acceleration of promotions in the second quarter, and it will stay at the same rate and could get even more aggressive in the third quarter.”
“Retailers are very heavily over-inventoried, most notably in apparel and home,” observed Craig Johnson, president of Customer Growth Partners. “There are some individual segments where it’s not as obvious, but when you walk through department stores, there’s all these clearance racks which makes it difficult to navigate across the selling floors.
“It’s been a pig in a python since late winter,” said Johnson. “The excess is slowly getting digested but has not disappeared. Retailers are working through it, though there are some categories where there is a lot of work to be done. It’s at a watershed point.”
“It’s going to be a third-quarter markdown horror show,” said one retail expert who requested anonymity. “Retailers didn’t plan it down accordingly. Last year, when they didn’t get the goods because of supply chain bottlenecks, they ordered 120 percent of what they needed, expecting they would receive 100 percent on time and be OK. But the supply chain eased up, more goods have been coming in than they thought would, and sales are slower.”
The retail landscape is awash in markdowns that continue to build — and that will take a sharp toll on third-quarter profits and margins, especially at apparel specialty chains and department stores catering to low- and middle-income families. Spending is shifting more to essentials and away from nonessentials. At higher income demographics, spending is holding steady, for now at least, yet it’s shifting more toward experiences and less on stuff.
Inventory gluts are acute in casual sportswear, activewear, handbags, jeans and other bottoms, sleepwear and “cozy” stay-at home-type fashion. There are also gluts in certain home and hard goods categories such as outdoor/patio furniture and equipment, and some electronics such as laptops, where spending was plentiful a year ago.
On the other hand, dressier fashions for wear-to-work, special occasions and going out; travel-related goods such as luggage, and footwear, are selling.
With consumer behavior changing fast, retailers’ ability to shed unwanted inventory and “chase” items and categories where demand perks up. This quarter, retailers are promoting with industrial strength, striving to reduce aging inventories to make way for fresh holiday goods. They’re expecting to enter 2023 with clean inventories through their unusually high degree of clearance activity happening now. Normaly, you’d see it during the holiday season.
The retail landscape is also a far cry from 2021 when full price was the name of the game. Business took a precipitous turn for the worse in late June and continued weak through July, though some retailers have cited better sales trends in August.
What to expect going forward? Weak profits and margins in the third quarter, along with moderating inventory levels that get clean by the fourth quarter. Profitability will be better in the fourth quarter, compared to the third quarter and its rash of clearances, though many retail observers see a tough holiday selling season ahead, amid fears of a recession and prices on essentials remaining high. Inflation, particularly in gas and food prices, and stock market declines, are weakening consumer demand and consumer confidence.
Also, look towards retailers adopting or accelerating “pack and hold” tactics. That’s where they warehouse excess basic, more reasonless merchandise such as T-shirts, underwear and jeans, to sell next year. Once under the purview of offpricers, increasingly regular retailers are resorting to pack and hold as well.
“Inventories are up double digits due to over-ordering that occurred last year and earlier this year to compensate for supply chain bottlenecks, but this year, the flow has improved,” said Telsey.
“There’s been a world of a difference in a year, from not having enough merchandise and selling full price last year, to having too much merchandise and miss matches between what merchandise came in and what consumers wanted, and between the seasonal character of the goods and when they came in,” said Telsey.
“We will continue to see margin erosion.”
That outlook is supported by the wave of retailers, including Macy’s, Victoria’s Secret, Nordstrom, Kohl’s, Target and Gap, lowering earnings guidance for the third quarter and the full year.
Expectations of profit declines were exacerbated last week when Jerome H. Powell, chairman of the Federal Reserve, said the central bank will continue to raise interest rates to reign in inflation which could “bring some pain to households and businesses.” Rate increases are expected to be announced next month.
According to Johnson, it’s not all bad. “We are seeing a little bit of a slowdown in Q3. It’s not universal. Back-to-school seems to be coming in at 6.5 percent year over year; 5.5 percent was our forecast. It’s past it’s peak now. A year ago, back-to-school was at 13 percent year-over-year. Consumers are still spending, not as much as a year ago. Apparel unit demand is still up, but because of significant deflation in prices, because of being over inventoried, dollar volume in apparel is down.
“The problem is this pig in the python is stubborn. It hasn’t disappeared,” Johnson added. “If you don’t clear it through, the product on the floor at deep discounts can cannibalize new, in-season merchandise, coming in. You really have to get it off the floor,” to make room.
“What we are seeing are these tiered sales, where if you buy one item you can get 40 percent off, two items 50 percent, and three items 60 percent. We are seeing a lot of tiered offerings to encourage multi unit baskets. We have seen this before, but typically at holiday,” Johnson added.
Another retail expert said, “While markdowns are significant it gets to the issue of the individual retailers. Apparel specialists are not doing so well. Anthropologie has been discounting heavily. others are still selling full price like Lululemon, which has the added benefit of new footwear lines. People like the new, new formats. Target bit the bullet early and won’t have the same pressure in quarters three and four, but companies that didn’t bite the bullet early still have issue of products on heavy promotion or clearance.”
“The focus of is on inventory management, to get clean by end of the year. We have totally pivoted from on year to the next,” said Telsey. “Macro headwinds lead to micro changes. Every business is taking a relook at how it want to be growing what to invest in and what does the margin profile look like.”
As Erik Nordstrom, CEO of Nordstrom Inc., said in his second-quarter report, “While our quarterly results were consistent with our previous outlook, customer traffic and demand decelerated significantly beginning in late June, predominantly at Nordstrom Rack. We are adjusting our plans and taking action to navigate this dynamic in the short term, including aligning inventory and expenses to recent trends…” Nordstrom is now projecting its EBIT (earnings before interest and taxes) margin at 4.5 to 4.9 percent versus its previous forecast of a 5.8 to 6.2 percent EBIT margin. Revenues are now seen increasing 5 to 7 percent for the year, versus the earlier forecast of 6 to 8 percent.
Kohl’s lowered its 2022 operating margin forecast to 4.2 to 4.5 percent, from the earlier guidance of 7 to 7.2 percent. Kohl’s sales for 2022 are expected to decline in the range of 5 to 6 percent.
Macy’s now forecasts 2022 sales in the range of $24.34 billion to $24.58 billion and adjusted earnings per share of $4 to $4.20. That compares to the previous forecast of $24.46 billion to $24.7 billion in sales, and $4.53 to $4.95 in adjusted earnings per share.
Macy’s Inc. chairman and CEO Jeff Gennette told WWD that in Q2, “Inventory was up 7 percent, but down 8 percent versus 2019. It is out of whack in some categories, but in hot categories business is up 8 percent and inventory is up 14 percent. I’m good with that. In 2021, it wasn’t enough.”
Inventory is flowing “faster and more complete than expected,” Gennette added. “Goods are arriving on time or ahead of time, and there’s the right number of boats at different ports. We’re in good shape. There is not much in the way of supply chain issues” anymore.
Abercrombie & Fitch CEO Fran Horowitz told WWD, “Our outlook reflects that at Hollister we have some product to push through and have started to promote. At Abercrombie & Fitch, we have not had to to do that. There’s been lots of nice growth there. Abercrombie has been generating pretty nice numbers.”
Horowitz underscored that 92 percent of the company’s inventory is current, and that there are three components to the 92 percent — goods just set, long-life goods, and most importantly, goods in transit — about $140 million worth — for holiday.
She was adamant A&F Co. didn’t fall into the trap of over-ordering as some retailers did to compensate for supply chain issues. Horowitz said the company just committed to goods earlier so they would arrive as needed.
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