Retail Destruction Comes to the US This Holiday Season

Zero Hedge covers the forthcoming retail storm -

What most people don’t understand is that the mega-retailers’ strategic plans were based upon never ending store growth, 5% comparable store growth for all eternity, a continuous flow of increasing easy credit, the American population staying frozen between the ages of 30 and 50 years old, and a delusional materialistic greed embraced by the masses. Mega retailers without growing comp store sales are like sharks that can’t swim. They will die.

I’ll use Target as an example. Almost everyone would agree they have been one of the best run retailers of the last two decades. They have over 1,700 stores in the US, with annual sales exceeding $65 billion and profits of $2.5 billion. How could a retailer this large and successful ever go bankrupt? They have $16.5 billion of debt and $15.3 billion of equity on their balance sheet for a 52% debt to equity level. This is not a dangerous level, but it is a heavy debt load. The deterioration always begins on the sales side. Comp store sales have been deteriorating since 2005 and were negative in 2008 and 2009.

The impact of this sales deterioration can be seen in their net income over the last five years. It is at the same level as it was in 2005 and $361 million lower than 2007. Target opened 343 new stores between 2005 and 2009 and its net income is the same. Net income per store has dropped from $1.72 million in 2005 to $1.43 million in 2009, a 17% drop per store. In their peak profit year of 2007, they generated $1.79 million profit per store.

What most people don’t know is that Target goosed their profits using the same method that Americans used to get “rich”. EASY CREDIT. When you’ve run out of ideas to grow your business, offer easy credit to your customers. It worked like a charm for Target until it didn’t. They issued millions of credit cards to the delusional masses. Who needed to sell stuff, when you could make so much lending money? In 2007, the Target credit card accounted for $1.06 billion of their $2.85 billion profit, or 37% of total profits. This was up from 22% of their profits in 2004. They’ve been learning a difficult lesson as credit card profits plunged to $400 million in 2009 as they desperately tried to sell their rapidly deteriorating portfolio with no takers to be found.

The beautifully constructed staircase of store growth seen in the chart below has reached the top floor. If Target foolishly continues to build new stores while Americans ratchet up their savings and ratcheting down their spending, they will end up taking an elevator straight to the basement. The credit card fountain of profits is gone. Same store sales growth is gone. New market growth is gone. It’s time to get real. The upper management of every retailer in America better pull out their little models and plug in declining consumer spending for the next decade. This will reveal the stores that won’t cut it. They will need to close them based on profitability. Will this be done? Absolutely not. The hotshot CEOs will think a better advertising campaign will do the trick. Delusions die slowly.