Retailers Scale Back Apparel Price Hikes

Shoppers are refusing to accept higher prices.

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Consumers coping with higher fuel and food prices were in no mood to deal with higher apparel prices in February.

This story first appeared in the March 18, 2011 issue of WWD.  Subscribe Today.

Economists and analysts said retailers may have tested the waters with apparel price hikes in January to offset soaring raw materials prices, but met resistance from consumers and pulled back, as evidenced by an unexpected drop in apparel prices in February, according to a closely watched government index released Thursday. This preliminary sign of shoppers’ refusal to accept higher prices currently working their way through the supply chain only adds to the already high pressures on gross margins confronting retailers and wholesalers.

Retail apparel prices fell in February in the men’s and women’s apparel categories compared with a month ago, despite inflationary pressure further down the supply chain from historically high cotton prices, the Labor Department said in its Consumer Price Index.

Apparel brands and textile producers are experiencing inflationary pressures due to soaring cotton prices as well as spikes in other commodity prices, such as wool and synthetic fibers, but retailers appear to have pulled back from a 1 percent increase in apparel prices in January, economists said.

Retail apparel prices fell 0.9 percent in February compared with a month ago, following the increase in January. Both women’s and men’s apparel prices declined 1.3 percent month-to-month and both were down compared with a year earlier. Women’s retail apparel prices in February were down 0.6 percent compared with a year earlier, while men’s apparel prices declined 1.1 percent.

Higher gasoline and food prices drove up the prices for all goods and services in February by 0.5 percent, according to the CPI, and increases in those commodities are undoubtedly taking a toll on consumers’ pocketbooks as well as their willingness to up the ante for more discretionary fashion purchases.

Brian Bethune, chief U.S. economist at IHS Global Insight, expects to see some “margin compression” at retail.

“When you get into a cycle where there are some pressures on costs, not just in apparel, but across all industries, manufacturers try to see what they can do to offset the costs and raise prices by testing the market,” said Bethune. “If they lose market share, they pull back,” adding the February index indicates that that may have been the pattern.

He said discounters such as Wal-Mart Stores Inc. and Target Corp. will face challenges in “sustaining price increases so their margins will be under pressure” from rising cotton prices.

“The bottom line is we remain still in a relatively weak environment in terms of consumer demand and a lot of retailers are finding it difficult to pass along price increases, particularly when they have competitors who they are trying to keep a leg up on,” said Frank Badillo, senior economist at Kantar Retail, part of the Kantar Group, the consulting arm of WPP plc, a London-based marketing and communications firm. “They are looking for ways to minimize the effects [of higher commodity prices and transportation costs]. They are trying to squeeze their suppliers and everyone is taking margin hits.”

Badillo said some of the adjustments retailers are making, such as using more blends in apparel, will “limit the price increases that get passed along to consumers.”

“But I do expect in the longer run, as retailers and suppliers exhaust everything they do in the short term, to see some cost pressure start to trickle down to consumers to a greater extent than in the past,” Badillo said.

Historically, surges in commodity prices have rarely led to inflationary pressure in apparel prices for consumers because retailers and brands have been able to shift their apparel production to new low-cost countries, he said.

Not so today, Badillo added. Retailers and apparel brands have essentially run out of low-cost suppliers to offset spiraling raw materials prices and have to make other adjustments to minimize the impact.

Calling Thursday’s CPI report a “surprise” and “testimony to the resistances by consumers to price hikes,” John Lonski, chief economist at Moody’s Capital Markets Group, said, “For the longest period of time we have been bracing for price hikes in apparel products as a means of compensating for much costlier cotton.”

Lonski said the CPI numbers may be indicating that consumers are not willing to absorb the price increases, as evidenced by the transition from a 1 percent growth in apparel prices in January to the February pullback.

Who is absorbing the higher raw materials costs?

“I wouldn’t be surprised if all parties — from manufacturers to retailers — are bearing the brunt of sharply higher costs for raw materials used in the production of apparel,” Lonski said.

Retailers are “getting hit on both ends — higher costs and less sales as people spend more at the gas tank and at the grocery store,” said Andrew Fitzpatrick, director of investments at Hinsdale Associates.

“I think from a cost structure standpoint, rising prices of raw materials and inputs used to make the goods are really starting to be felt by retailers and the key is can retailers offset them,” Fitzpatrick said. “That is the challenge and that is going to be more on a case-by-case basis and it is going to be difficult.”

He said he expects winners and losers, hinging on how each company manages their product lines, inventories and pricing structures.

Still, Fitzpatrick said the outlook remains good for retailers because consumer spending is “ticking upwards” and “retailers are doing a better job managing inventories.”

The price pressures were evident among fashion retailers and wholesalers checking in with quarterly earnings reports on Thursday.

Lululemon Athletica Inc. reported a 92.5 percent jump in fourth-quarter profits on a 52.8 percent increase in sales, but anticipates gross margin erosion of about 150 basis points during the first half of the new fiscal year, followed by a 200 to 225 basis point decline in the third quarter.

Despite reporting the rise in profits to $54.8 million on sales that rose 52.8 percent to $245.4 million in the quarter, Lululemon Athletica Inc. said it sees margin pressure ahead.

“Material costs, labor and freight increases are all impacting our gross margins,” Lululemon chief executive officer Christine Day told WWD. “Material costs are having the most impact, followed by labor and freight. Due to the highly technical nature of our products, we are not as impacted by cotton’s increase as some of the other specialty retail companies. However, we continue to see increased costs out of Asia along with the rest of our industry.”

Fourth-quarter gross margin was 58.5 percent of sales.

Cato Corp. saw its fourth-quarter profits grow 8.4 percent, it said Thursday, but acknowledged it “expects rising raw material and freight costs to have a negative effect” on 2011 performance, primarily in the back half of the year.

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