Could Consumers Call It Quits?Pallavi Gogoi
Prices at the pump are soaring, interest rates are rising, and home values are stagnating. But even in the face of bad news, the American consumer has demonstrated a surprising willingness to keep spending. That may be changing, however. Recent earnings reports from major retailers suggest that consumers may not be willing, or able, to keep shopping till they drop.
On May 16, the world's largest retailer, Wal-Mart Stores (WMT), and home-improvement giant Home Depot (HD) reported quarterly results that hinted consumer spending could be weakening. Those reports came just a day after Target (TGT) missed analysts' expectations for the quarter, sending its stock down 6% in two days of trading, to $49.33, on May 16. Target saw sales increase 12%, to $11.5 billion, as net income rose 12%, to $494 million.
Wal-Mart reported that first-quarter sales climbed 12%, to $80.47 billion, while net income increased 6.3%, to $2.61 billion. Sales at stores open longer than 13 months rose 3.8%. Wal-Mart's stock barely budged on the news, even though its numbers beat Street expectations. The retailer's shares rose 64 cents on May 16, to close at $48.07. The strong results were tempered by management's observations that consumers are starting to pull back, which could affect sales in the fiscal second quarter, which ends a month later for retailers. "Toward the end of the [first] quarter, we clearly saw the impact of rising fuel costs for our customer," Tom Schoewe, Wal-Mart's chief financial officer said in a conference call to discuss earnings.
At Home Depot, first-quarter sales rose 13%, to $21.5 billion, and profits surged 19%, to $1.5 billion. But sales to retail customers were softer than expected, even as sales to professionals remained strong. The company also announced on May 16 that will stop releasing the sales figure for stores open more than a year, a widely watched barometer in the retail business. Home Depot's stock tumbled 5%, to close at $38.45 on May 16.
A combination of factors is fueling skepticism about the consumer's endurance. There has been a 25% jump in retail gas prices since December. Prices went up 12.3% in April alone, the biggest monthly jump since October, 2004. "If Wal-Mart is already seeing sales affected in April, we can expect that the pressure will only get worse if gas prices continue to move up," says Mark Miller, an analyst at William Blair & Co. in Chicago. At the same time, the U.S. Commerce Dept. reported that the number of new housing projects started in April dropped 7.4%, an indication that the U.S. housing juggernaut is winding down.
When confronted with similar pressures in the past, the American consumer has managed some positive surprises. When gas prices spiked after Hurricane Katrina hit in August, 2005, worried investors pushed retail stocks lower. However, sales didn't fall as much as investors feared they would, according to Matthew Fassler, a retail analyst at Goldman Sachs (GS). But Fassler notes that recent declines in mortgage equity withdrawals are likely to reduce the amount of cash consumers have in their wallets.
OFFICE SUPPLY SIDE.
There are some bright spots on the retail scene, though. Staples (SPLS), the office products retailer, which reported earnings on May 16, posted a 26% gain in its first-quarter profit, to $186.1 million. During the same period, sales rose 9%, to $4.24 billion. Ron Sargent, Staples' CEO, noted in a conference call that despite weaker sales of furniture and computers, more customers bought items like binders and ink cartridges and also used its copy and print services more frequently. Still, shares of Staples dropped 6%, to $24.82, as same-store sales rose a mere 1%, the smallest gain in three years.
Consumers might have been helped by the fact that higher energy costs have not translated into higher prices for most goods. Wholesale prices grew a lower-than-expected 0.1% in April, according to the U.S. Labor Dept. Another plus for consumers: Gasoline now accounts for only 3% of total personal-consumption spending, down from 5% in 1981, according to the U.S. Bureau of Economic Analysis.
Still, Goldman's Fassler believes that under continued pressure, the low-end consumer will be the first to buckle."This was clearly demonstrated in 2005 as dollar-store fundamentals were hit the hardest as gasoline prices rose," he says.
Clearly, pressures on consumers are mounting. And retail executives are wary, as the prospect of consumer spending slowing down seems more likely than ever.