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Macy's and Kohl's: Crazy Comparison, Adverse Weather, and Inflation Squeezing the Middle-Income Consumers

Thomas Paulson
Nov 18, 2022
Macy's and Kohl's: Crazy Comparison, Adverse Weather, and Inflation Squeezing the Middle-Income Consumers

Macy’s shared that there were three notable contributors to a sales slowdown that hit in the second half of October and into early November. The first was a notable drop in conversion rate, not traffic. They suspect that this is due to consumers checking out what is in the store, but then deferring to purchase as they hope to secure gifts later in the season when deep discounts are sure to be plentiful. This decline in conversion is against 2021’s higher conversion rate and traffic that were provoked last year when the media warned customers that goods were in short supply due to retailer supply chain shortages and the hundreds of container ships backed up at the ports (call this the "Surge Impact"). Second, consumer discretionary spending ability is being pressured due to high inflation in everyday necessities and the savings that were built have been spent. As such, borrowing is up and less affluent consumers are cutting back (visitation and dollars). The third was weather, with unseasonably warm conditions in the Northeast and Midwest. Macy’s noted that sales over the past week have been better.

Kohl’s CFO Jill Timms
corroborated these trends saying, "In recent weeks, the environment has become more unpredictable to forecast. Following fairly stable trends in August and September, sales decelerated in late October with softness continuing into November as compared to last year. We believe this is primarily a function of a later start to holiday shopping as compared to 2021 when customers were concerned about scarcity of inventory." In addition, she shared, "We mentioned on [our 2Q22 update] and now again we're seeing it is our lower-income customers and higher-income customers are growing. We're really seeing that squeeze in who is our core customer, which is the middle income. And that continues into this quarter as well as we watch that customer move." The chart below shows the steep decline in retailer traffic, except for Walmart, that started on Oct. 22 and that stabilized on Nov. 7.

The chart below shows the impact of the Surge Impact on 2021 versus 2019 and what a steep base it created for late October 2022 to climb. Additionally, one can see that the trend in 2022 is now bouncing.

Macy’s CEO Jeff Gennette also shared that the retailer expects higher peaks around Black Friday, Cyber Week, and the two weeks before Christmas. Macy’s expects festive celebrations over the holiday period (i.e., lots of spending on food & beverage) and for early 2023 to be especially soft as consumer spending moves a leg lower. Gennette noted that the company thinks that 1Q23, "may be more pressed and we're thinking through that right now. We're making adjustments in our own ordering, obviously, watching our reserves very carefully on this."  In other words, the retailer is likely cutting 1Q22 receipts.

Key Kohl's Metrics

  • Outgoing Kohl's CEO Michelle Gass was not on the company's 3Q22 update call, nor was the recently announced interim CEO Tom Kingbury. Chairman Peter Boneparth shared an update on the company's CEO search, "The Board and the current management team and Tom are fully aligned that the strategy that we've embarked upon is the right one. We're not looking for a CEO who's coming in to change the strategy that we've embarked on. What we are looking for is a very strong operator, as I said, somebody who can drive sales, somebody who can drive earnings per share, and somebody who understands the basics behind the Kohl's value proposition and the brand strategy."
  • Comparable-store sales declined 7%, which took the trailing-twelve-month (TTM) sales per square foot figure down $3 QoQ to $208. The home and apparel categories were again called out as areas of weakness and CFO Jill Timm shared, "During the quarter, we saw our middle-income customers continue to purchase fewer items per trip and trade down to our value-oriented private brands....Sales of our private brands increased slightly to last year with strong performance in our top private brands including Sonoma, Croft & Barrow." In our view, this tells us that the Kohl’s customer has switched to off-price retail to purchase national brands, which would include brands such as Levi’s and Columbia. Timm also noted that, "Active underperformed driven by softness in active footwear." (Notably, footwear was a category of strength for Ross Dess for Less.)
  • Importantly, management noted that Sephora at Kohl's stores are still outperforming sales by a mid- to high-single-digit level.
  • Profitability declined given higher freight costs, increased shrink (see our earlier comments from Target’s), and fixed cost deleverage on the lower sales. TTM EBITDA declined QoQ from $2.0B to $1.8B and TTM FCF modestly improved from -$930M and $840M.
  • Timm also noted that the company will not engage in a sale lease-back of its real estate at this time "given the market volatility and current rate environment."

Key Macy's Metrics

  • On its 3Q22 update call, Macy’s CEO Jeff Gennette took time to describe the new Macy’s and what it means to be a "modern department store" that has "breadth and diversity of product...that are not tied to just one value bands, category and use or life stage,...where the styles our customers are looking for, the categories they are seeking and how much they are spending can differ dramatically from one season to the next...We are committed to providing quality, fashion newness, timely flows and relevancy through is first, a curation of premium owned and market brands, which we bring to life at Macy's through our owner style platform…A disciplined approach to inventory reflecting conservative buying and a healthy receipt reserve that ensures flexibility when our customer pivots and signals new interests. And third, a modernized supply chain and pricing science tools, which yield higher turnover, gross margin return on investments and higher cash flow."
  • To our ears, this sounds like moving towards becoming a more agile business model and more like off-price. (See our comments about the results from TJX Companies and Ross Stores below.) It also sounds like a lot better tenant as well--one that is a better driver of traffic, newness, and excitement, and with better financial health. It’s also one that offers growth opportunities.
  • On Market by Macy’s and Bloomies, Gennette shared, "Market by Macy's conversion rates are generally higher than that of our full-line stores, and these locations continue to outpace their respective trade areas and acquisition of new customers. Today, we operate eight Market by Macy's. As we evaluate potential new locations, we are looking at areas where we have a strong digital presence, but no physical footprint, where it no longer makes sense for us to keep a full-line store and Market by Macy's can act as a replacement. A good example is the Market by Macy's in St. Louis, Missouri, which opened last week and is a mile away and less than a fifth of the size of its mall-based predecessor.… That emphasis on bridging the past with our future at Macy's also applies to Bloomingdale's, where we are celebrating our 150th anniversary with a series of events and exclusive collaborations with top designers. The collections, along with pop-up shops and events with brands such as Ralph Lauren, Jimmy Choo and Dior speak to our relationships with both established players, as well as the next generation of luxury designers our customers are creating. Following seven quarters of comp-owned plus licensed sales growth, we are excited about the opportunity at Bloomingdale's and the expansion of our off-mall smaller format, Bloomie's, nameplate. Today, in the Chicago land area, we are opening our second Bloomie's. At 50,000 square feet, it serves as a replacement of the 206,000 square foot full-line Old Orchard location…I know that we are in 49 of the top 50 markets on the Macy's side. But I think we're only in 13 of the Bloomingdale side. So really getting the Bloomie's brand into some of those markets is quite interesting to us...If you think about Market by Macy's is let's call it, 30,000 square feet and we have a full line store that's like 180 thereabouts. We're making lots of decisions based on the localized environment about what brands we put in there, what turnover we expect, how quickly we're able to bring things in and get them out. It's a very open palate. We have lots of flexibility in those environments, lots of opportunities for us to make adjustments. We're very dogged about sell-throughs and conversion. That's what the team is very focused on. I think the format and the locations we're picking is quite strong…But as you can imagine, we're looking at that 60% of brick-and-mortar business being done off-mall, lots of opportunities when we get a model this scalable."
  • CFO Adrain Mitchell shared that Macy’s has selected to close less than 10 stores (versus the 51 that were originally slates) as they see the importance of main locations within the best malls as the omnichannel ecosystem is built. As a reminder, Macy’s delivery expense is 15% of delivery revenue, picking & packing is likely close to 5%, for a total of 20% the average ticket. The store model is a lot more profitable for Macy’s.
  • Macy’s comparable-store sales by brand were -4.0% for Macy’s, +4.1% for Bloomingdale’s, and +14.0% for Blue Mercury. These trends are all directionally aligned with our 2022 Holiday Outlook; namely, brands with affluent consumers and beauty brands outperform and the hourglass channel shift. Additionally, physical retail outperformed e-commerce (see the figure below and the consistency of physical over e-commerce). Gennette shared, "During the quarter, Macy's digital traffic remained relatively consistent, but conversion softened, suggesting that while discovery is still occurring online, there has been a shift in in-person transactions." 3Q22 e-commerce sales were down -9% YoY and Macy’s lowered its guidance for e-commerce for the year by -$500M, implying a -9% or greater decline in 4Q22.

  • TTM sales per square foot for Macy’s Inc. were roughly flat QoQ at $221. Stronger categories were tailored sportswear, dresses, and luggage. Weaker categories were active, casual, sleepwear, and soft home.
  • Profitability came down due to higher clearance and promotional activity and expense deleverage due to the lower sales. While clearance and promotional activity was higher, it’s still below 2019’s level.
  • TTM EBITDA and free cash flow moved QoQ from $3.31B and $1.10B, respectively, to $2.99B and $1.16B.

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Thomas Paulson

Director of Research and Business Development, Placer.ai

Thomas Paulson spent 20 years as a Wall Street analyst and a member of asset management teams at AllianceBernstein and Cornerstone Capital, representing top-50 ownership positions including Target, Home Depot, Nike, Amazon, Google, and many more.

He brings consumer related expertise and knowledge of enterprises in retail, CPG, financial services, telecom, and entertainment.

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