| Shrinking demand |
| Ram Prasad Sahu / Mumbai March 23, 2009, 0:37 IST |
The slowdown is taking a toll on organised retail as players struggle to balance quick growth without compromising on profitability.
The organised retail sector, with estimated sales of Rs 80,000 crore, is in the midst of a slowdown. A sluggish economy, liquidity crunch and global recession have impacted employment prospects and thus, have severely dented consumer sentiment.
In the middle of massive expansion plans, the downturn caught most retailers off-guard stretching their finances and sending poorly capitalised players to the brink of collapse. We spoke to retailers and analysts about the current downturn, performance of listed players and the prospects for the sector.
The reluctant shopper
The combination of employment uncertainty, decline in income growth and a drop in asset values has translated into lower discretionary spends. All this is reflecting not only in the sales numbers but, also in the number of people that visited retail outlets.
While sales for the largest listed player, Pantaloon, grew by 31 per cent in the H1FY09 (June ending) as compared to a 70 per cent growth a year ago, revenue growth for Shopper’s Stop was 24 per cent in 9MFY09 as compared to 30 per cent a year ago. Footfalls, another indicator of consumer interest, too, have been falling. While Shopper’s Stop has seen its footfalls dip by 30 per cent in Q3, Vishal Retail has seen average walk-ins dip by 7 per cent for the same period.
Adding to the slowdown woes, believes Shubhranshu Pani, managing director-Retail, Jones Lang LaSalle Meghraj were the ambitious expansion plans that did not factor in the possibility of a downturn, high rentals and common area maintenance charges coupled with reduced footfalls.
While all retailers were affected, those selling lifestyle (high value) items were hit the most. Says Hemant Kalbag, partner and vice president, A T Kearney India, “Lifestyle categories depend on discretionary spending and the economic slowdown has meant a slip up in this.” Compounding the problem of a slowing economy has been the ambitious expansion plans of retailers.
Curtailing expansions
Thus far, an increase in disposable income of consumers and low share of organised retailing brought in a shopping frenzy boosting the prospects of sector and delivering 30 per cent growth rates over the last three years. Crisil estimates that the organised retail market (accounts for 8 per cent of total retail market) will more than treble in size from Rs 67,900 crore in FY07 to Rs 2,36,600 crore by FY12, which reflects huge growth potential. So, what went wrong?
Part of the problems, according to Purnendu Kumar, associate VP, Technopak, has been the ambitious growth plans and unviable locations that the retailers picked for expansion. The outcome of this has been that players have had to curtail the scale of their expansions.
It is estimated that of the 25 million square ft (mnsqft) of retail mall space blocked across the top seven cities of India only 12 mnsqft will actually be completed, with the rest getting delayed or shelved. Edelweiss estimates that the biggest drop (due to the scale of operations) as on December 2008 has been for Pantaloon Retail, which has been able to add only 1.2 mnsqft as against a target of 4 mnsqft.
While Shopper’s Stop has been able to reach 0.23 mnsqft (target of 0.4 mnsqft), Vishal Retail was able to add only 1.2 mnsqft (target of 1.6 mnsqft). For retailers, the priority is to turnaround current operations. Says Kumar, “Projected operating profits has not turned out the way they had planned and companies will have to curtail future epansions. The focus has to be on making current stores profitable so that they can pay their debts.”
The funding gap
Analysts estimate that once a brand is established and customers see a value proposition it takes about 12-18 months to breakeven at the store level. Since expansions were planned at a time when rentals and land value were high, projections have not turned out the way they should. This caused a funding gap.
Moreover, with the cost of constructing a mall at Rs 2,000-2,500 per square feet and cash profits at the store level at about Rs 700 per square feet, retailers can only fund one third of their new store expansions from existing cash flows forcing them to look at additional funding. With equity markets in poor shape and balance sheets stretched, funding is becoming a problem.
| NEAR-TERM PAIN | |||||||||
| in Rs crore | Ret space (mn sqft) | Net Sales | % chg (y-o-y) | Op. profit | % chg (y-o-y) | PAT (y-o-y) | % chg (FY08) | Debt/ Equity | FY10 PE (x) |
| Koutons Retail | 1.20 | 1,053 | – | 198 | – | 79 | – | 1.23 | 9.5 |
| Pantaloon Retail | 12.00 | 5,773 | 37.6 | 572 | 66.7 | 134 | 36.1 | 1.21 | 17.5 |
| Shopper's Stop | 1.82 | 1,277 | 25.5 | 35 | -24.4 | -40 | – | – | – |
| Titan Ind | – | 3,759 | 35.8 | 319 | 50 | 192 | 59.6 | 0.66 | 13.4 |
| Trent | 1.60 | 522 | 6.6 | 39 | -21.4 | 23 | -31.8 | 0.13 | – |
| Vishal Retail | 2.90 | 1,107 | – | 139 | – | 27 | – | 1.95 | 3.1 |
| All figures for trailing 12 months (TTM) ended December 2008, Pantaloon year ending is June | |||||||||
Says an analyst, “With the cost of capital at 14-16 per cent and average margins at 20 per cent, there is a small percentage of retained earnings. This indicates a high dependence on external funding during the initial expansion stage, which is likely to strain financials.” Among the major listed players, and based on Q3FY09 results, C LSA estimates that net gearing and interest coverage are the worst for Vishal Retail at 2.37x and 1.5x, while it is the best for Titan at about 0.29x and 10.6, respectively.
Cutting costs
While companies can do little about waning consumer demand, they have been looking at ways to save on costs by shutting down unprofitable stores and renegotiating rental arrangements. Says Pani, “Retailers are responding to the situation by demanding a revenue sharing mechanism or a minimum guarantee model (revenue share plus rentals) rather than a pure rental arrangement with mall developers.” In addition to renegotiation, retailers are also looking at alternative locations.
Says D P S Kohli, chairman, Koutons Retail, “We are looking at more profitable high street stores in Tier II and III cities in the coming fiscal they are more affordable as compared to the ones in the malls.” Dipping rental rates are also helping retailers curb costs. Says Kohli, “We have started negotiating rentals of our outlets and have achieved up to 15-20 per cent reductions for some stores.” A 15 per cent fall in retail rates across the country on an average should ease cost pressures of retailers.
Outlook
The outlook in the near-term for the sector is not favourable. Dun & Bradstreet predicts that aggregate consumption demand as measured by Private Final Consumption Expenditure (PFCE) (see chart) is likely to drop to 6.5 per cent in the current fiscal from 8.1 per cent in FY08. This is expected to improve only slightly in FY10 to about 6.7 per cent on the back of lowering of interest rates (given near zero inflation) and fiscal measures to stimulate demand.
The firm predicts that demand is likely to improve in the second half of FY10. Rating agency Fitch believes that same store sales growth in 2009 will be weaker than in 2008 due to the slowdown in GDP growth. With companies looking at aggressive promotions and discounts (Pantaloon for example) to boost volumes, expect margins to trend down. Contrary to this is Kalbag’s assessment.
“There is a correlation between automotive sales and consumer confidence. The positive numbers in passenger vehicles and two wheelers are an indication that consumers are willing to spend again,” he says. Read on to know more on the prospects of major listed retailers.
Pantaloon Retail
Even though the country’s largest retailer recorded a 30 per cent y-o-y jump in sales in February, same store sales grew marginally, both in the value and lifestyle segments. The problem area for Pantaloon has been the home retail (consumer durables) segment (about 16 per cent of sales), which has reported a decline in sales for the fourth month in a row.
Analysts say that a cut in discretionary spending is responsible for the drop in sales of high value products. The economic slowdown has forced the management to extend the target of achieving 30 mnsqft of space (currently about 12 mnsqft) by two years to 2013.
While debt-to-equity which is expected to be in the region of 1.5x in FY09 and interest coverage at 2.1x is not too comforting, its business model that focuses on the essential consumption needs (Food Bazaar, Big Bazaar) is least affected in the current situation and will ensure consistent revenue growth and gross margins in excess of 30 per cent going ahead. From current levels, expect a 20 per cent return over the next 15 months.
Shopper’s Stop
Since about 60 per cent of the company’s revenues come from apparels, considering the current slowdown and a cut in discretionary spending, revenue growth could be under pressure. The company, which runs five specialty retail formats (books, babycare, cosmetics, fast food chains and home furnishings) in addition to its Shopper’s Stop department stores, had to close down four stores (three ‘Crossword’ and an airport store).
Worsening economic conditions could dent the company’s same store sales growth (which was a negative 4 per cent in the December quarter) further. Given that the company has been unable to raise money through a rights issue and is expected to post a loss for FY09, it will severely limit its expansion plans.
Titan Industries
With over 70 per cent of its sales coming from jewellery and gold demand expected to decline on the back of higher prices, Titan might face volume pressure in the coming quarters. Analysts, however, say that robust wedding demand and the launch of Gold Plus, the mass market jewellery format targeted at tier 2 cities, is likely moderate the fall to an extent.
While the jewellery division grew 44 per cent in revenue terms in 9MFY09, analysts estimate revenue growth in Q4 as well as in FY10 to hover around 20 per cent. The watch business is also likely to be hit in Q4FY09. As compared with 9.6 per cent growth for 9MFY09, sales growth is seen halving to 5 per cent in FY09.
While the high-end of the watches contribute 70 per cent of sales, down-trading to the Sonata range could bring down EBIT m
