Retailers Go Easy on Expansion as Slowing Consumption Bites

Retailers Slow Down Store Expansion Amidst Weaker Consumption

Source and Citation: Article published in ET Bureau on January 24, 2024 titled “Retailers Go Easy on Expansion as Slowing Consumption Bites”

Analysis for Layman

The article highlights that major Indian retail chains like Reliance Retail, Titan Company, DMart, V-Mart, and Shoppers Stop have significantly reduced the pace of opening new stores in the current financial year (April 2022 – March 2023). This slowdown in retail expansion follows a period of rapid store openings in the previous financial year. For instance, Reliance Retail added 1,276 stores from April to December 2022, compared to 2,376 stores in the same period in 2021. Similarly, Titan opened 239 new stores in the same period in 2022, down from 359 in 2021. The primary reason for this deceleration in expansion is lower consumer spending and demand. Companies are now focusing more on improving profitability from existing stores. Industry leaders believe that most potential markets have already been tapped in recent years, leaving limited room for opening new profitable outlets, especially given the current weaker consumption sentiment, particularly in rural and mass-market segments.

Impact on Retail Investors

For retail investors in retail stocks, the scaled-back expansion plans suggest that the sector anticipates uncertainty in near-term consumer demand. However, the focus on enhancing profitability from existing stores reflects a mature approach to long-term value creation rather than reckless expansion. Nevertheless, markets may react negatively to the slowdown in network expansion in the short term. Stocks like Trent and V-Mart, which are purely retail-focused, could experience higher volatility. Investors should assess whether current valuations adequately account for the risks associated with a prolonged demand slowdown. Retailers targeting premium segments, such as Shoppers Stop, may be better positioned, as high-income consumers tend to be more resilient. For conglomerates like Reliance, the subdued retail sector may not significantly impact their overall valuation. However, retail investors with holdings in related sectors like real estate and consumer goods may also be affected due to cuts in discretionary spending. By making prudent stock selections and avoiding speculative investments, long-term investors could discover value as retail stocks correct from their peak.

Impact on Industries

The pullback in retail expansion plans has a negative ripple effect across various industries. Commercial real estate experiences reduced leasing by retail brands for new stores, affecting developers and mall owners. This compounds the challenges faced by the real estate sector, which is already grappling with sluggish housing sales. Suppliers of store fit-out materials and importers may witness a decline in orders for setting up new outlets. The reduction in retail footprint expansion directly affects consumer industries’ ability to reach untapped rural and semi-urban demand centers, which were essential for volume growth in the past. Sectors like consumer appliances, lifestyle retail, and food & beverages (through stores/outlets) suffer as discretionary spending declines. However, e-commerce logistics and warehousing may benefit as brands shift their focus toward digital retail, which requires investments in backend infrastructure. Banking, which is exposed to funding retail loans for inventory and working capital needs, could see some assets under stress if consumption lags persistently.

Long Term Benefits & Negatives

In the long term, the current restraint by retailers regarding expansion promotes sustainability as household incomes gradually improve over the next five years. Retailers can avoid the hasty expansion of physical stores seen in metros and tier-1 regions in the past, where the focus was on gaining market share rather than ensuring viability. Prioritizing profitability demonstrates an understanding of the changing dynamics between online and offline retail. Leveraging digital channels better will enhance resilience. Once consumption returns to previous levels, the current capacity constraints will support multi-year double-digit sales growth. Currently, the risk of excess capacity build-up is reduced. Modern retail still has ample room to grow, considering India’s demographics and the rising middle class. Hence, the long-term consumption outlook remains intact. Patient investors could benefit from the current pressure, potentially leading to re-rating from a lower base. However, the short-term pain for listed companies cannot be ignored, given the link between retail sector performance and the broader economy.

Short Term Benefits & Negatives

In the short term, the slowdown in retail expansion negatively impacts investor sentiment, signaling a decline in consumer demand. Listed retail stocks may underperform broader indices in the next two quarters. Earnings forecasts for FY2024 are also at risk, with margin pressure if operating leverage becomes unfavorable. Some brokerages anticipate a demand revival in H2 FY2024, potentially leading to a sequential improvement from current levels. For now, better inventory management resulting from curbed store growth helps working capital cycles. Retailers also gain improved pricing power as they reduce the need for heavy discounting, given that buyers are now less likely to delay non-essential spending, as observed in the earlier phases of the pandemic. E-commerce partnerships supplement market reach. However, macroeconomic factors such as rural income sentiment and urban job/income stability will determine discretionary spending power. If these factors become more favorable in the second half of the year, the current lull may set the stage for renewed store expansion, supporting above-average medium-term earnings growth. Therefore, investors need to monitor leading indicators of consumption while awaiting potential consolidation in the retail sector.

Companies Impacted by Slowing Retail Expansion in India

Indian Companies Likely to be Impacted:

1. Brick-and-Mortar Retailers:

   • Reason: Reliance Retail, Titan Company, DMart (Avenue Supermarts), V-Mart, Shoppers Stop – all significantly reduced store expansion due to slower consumption.
   • Impact: Negative. Lower store growth could lead to lower revenue and profitability, potentially impacting stock prices. Investors might be concerned about the future prospects of brick-and-mortar retail in India.

2. Shopping Mall Operators:

   • Reason: Slower retail expansion could lead to lower occupancy rates and rental income for mall operators.
   • Impact: Negative. Companies like Phoenix Mills, DLF Retail, Oberoi Realty might be negatively impacted if retailers continue to prioritize profitability over expansion.

3. Real Estate Developers:

   • Reason: Reduced demand for retail space due to slower expansion could impact developers focusing on commercial properties.
   • Impact: Moderately negative. The impact might be limited as developers can cater to other sectors like office space or residential. However, overall demand for commercial real estate could soften.

4. Fast-Moving Consumer Goods (FMCG) Companies:

   • Reason: Slower retail expansion could limit shelf space and product visibility for FMCG companies.
   • Impact: Moderately negative. FMCG companies reliant on traditional brick-and-mortar distribution might be affected, but those adapting to e-commerce and modern trade channels could be less impacted.

5. Consumer Durable Companies:

   • Reason: Slower retail expansion could impact sales of discretionary items like electronics and appliances.
   • Impact: Moderately negative. Consumer durable companies might see lower demand if overall consumer spending weakens due to slower economic growth.

Indian Companies Likely to Gain:

1. E-commerce Companies:

   • Reason: Slower brick-and-mortar expansion could benefit e-commerce companies as consumers shift online for shopping.
   • Impact: Positive. Companies like Amazon India, Flipkart, Myntra might see accelerated growth as online retail penetration increases.

2. Logistics & Delivery Companies:

   • Reason: Growth of e-commerce will drive demand for logistics and delivery services.
   • Impact: Positive. Companies like Blue Dart, Delhivery, Ecom Express could benefit from the increasing volume of online orders and need for efficient delivery networks.

3. Payment Gateway Providers:

   • Reason: Growth of online retail will lead to more digital transactions, benefiting payment gateway providers.
   • Impact: Positive. Companies like Paytm, Razorpay, PhonePe could see increased transaction volumes and fees as online payments grow.

Global Companies Likely to be Impacted:

1. Multinational FMCG & Consumer Durable Companies:

   • Reason: Slower growth in the Indian retail market could impact sales of global brands.
   • Impact: Moderately negative. Companies like Unilever, Nestle, Samsung, LG might see lower sales growth in India if the slowdown persists.

2. Global Retail Chains:

   • Reason: Slower Indian retail market growth could delay or limit expansion plans of global retailers.
   • Impact: Negative. Companies like Walmart, Carrefour, H&M might have to reconsider their India entry or expansion strategies.

Global Companies Likely to Gain:

1. Technology Companies Supporting E-commerce:
   • Reason: Growth of e-commerce in India will create opportunities for companies providing cloud computing, software, and other e-commerce related technologies.
   • Impact: Positive. Companies like Amazon Web Services, Microsoft Azure, Shopify could benefit from the growing demand for e-commerce infrastructure and solutions in India.