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Retail - Taking a breather or down for the count
With two-thirds of Australia's Gross Domestic Product (GDP) accounted for by consumer spending, retail sales is a closely watched economic figure.
Many Australians assume that the economy is powered by sales of raw materials to China and the other developing nations. And while that activity does generate much of the nation's "operating profit" in the form of the terms of trade – the ratio between the prices paid for Australia&'s exports versus the prices it pays for its imports – the fact remains that consumer spending is the backbone of the economy.
And that backbone is under pressure.
A combination of natural disasters, economic uncertainty, rising fuel and utility bills, fears of further interest rate rises and the introduction of a carbon tax, worries over the housing market and the after-effects of the global financial crisis (GFC) has Australian shoppers behaving in the most cautious manner seen in two decades, preferring to save rather than spend.
In the March 2010 quarter, Australia's household saving ratio rose from 9.7 per cent to 11.5 per cent, in seasonally adjusted terms (it was close to zero just five years ago.) According to CommSec research, household saving is at the highest level for 34 years.
This is a paradox for the Australian economy: it is unarguably positive in the long run for households to rebuild savings levels, given the worrying debt levels they carry. But in the short term, money diverted to savings is not spent, which weakens GDP growth.
And that number is already under pressure, having been dragged down in the March quarter by the impact of Cyclone Yasi on Queensland coal exports: the Australian economy contracted by 1.2 per cent in the March quarter, the first contraction in the economy since the December quarter of 2008 and the biggest quarterly slump in exactly 20 years.
In concert, retail trade fell in March, by 0.3 per cent, before recovering to grow by 1.1 per cent in April.
Clearly, Australia's status as the star economy of the OECD – the only one not to have fallen into recession in the Global Financial Crisis, and riding Chinese demand to above-average growth levels – is not enough on its own to keep the tills ringing for Australia's hard-pressed retailers.
Already this year, we have seen the downfall of RED Group Retail and its huge book chains, Borders and Angus & Robertson; footwear and apparel retailer Colorado Group (owner of major high-end brands like JAG, Diana Ferrari, Mathers and Williams) and fragrance retailer Perfume Empire. Even retail businesses considered relatively strong, such as retail fashion chain Noni B, and department store giants David Jones and Myers, have turned in sales and profit numbers well below target.
The high Australian dollar, with quantitative easing having weakened the US$ significantly, and near-zero US interest rates pushing the Australia-US interest rate differential to 4.5 per cent, close to its highest level ever (as back in December 2000, US rates were higher than Australian) is also making it easier for shoppers to head online to buy cheaply, bypassing local retailers and more importantly, their margins. Online sales, the high $A and thin margins can mean a world of pain for discount retailers.
Online sales have now reached 7 per cent of total annual retail sales in Australia, although they are coming from a low base and are dominant in just a few categories such as groceries and travel. Retail consultancy The Retail Doctor says it expects online sales to more than double, to 15 per cent of total sales, by 2015.
Pressure on retailers flows through to rents in shopping centres, where the real estate investment trusts (REITs) that own the properties are looking at – if retail weakness persists – lower rents, higher vacancy rates and higher capitalisation rates, which in turn will place pressure on the property values of the centres. As the asset values of the REITs come under pressure, there is potential for a relapse in the REIT sector on the stock market, a sector that is only just emerging from the turmoil of the GFC.
While change assaults the world of retail at frantic speed, it is clearly not all doom and gloom. If it were, low-price membership-based warehouse operator Costco would not be opening a second warehouse in Sydney, Spanish clothing and accessories retailer Zara would not be opening stores in Sydney and Melbourne, and retailers like Myer would not be unveiling new and refurbished "destination" centres in the CBD retail markets.
However, the consensus among economists points to the likelihood of a weak June retail sales number, which will no doubt spark further gloomy headlines talking of consumer caution and how the internet is killing the retail star.
Australia's retailers must look back with nostalgia to the golden days for retailing, which look to have been in place roughly from 2000 to 2008, when the global economic outlook was benign, credit was easily available, household debt levels and asset prices rose, and this "wealth effect" made Australians keen to spend. As house prices rose, Australians (like Americans) used their houses as ATMs, withdrawing big dollops of equity – which was being readily replaced by ever-upward valuations.
Australia might not have officially joined in the recession wave that swept the developed world, but it is definitely sharing with other countries the decline of the wealth effect, as house prices plateau, and a slump in consumer confidence. This and the new affection for savings have caused the retail industry to stall, and the economy – and the share market – have that extra little bit of lead in the saddlebags as a result.
The interplay of this new frugality with the mooted growth in national income as the next phase of the resources boom kicks off in earnest will be watched closely – and nowhere will it be seen as clearly as on the floors and in the tills of the nation's retailers.
* James Dunn is a financial journalist and media consultant. The views expressed are those of James Dunn, not necessarily those of Vanguard
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