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Canadian Retailers Pressured by U.S. Players, Debt at Home

Moody’s expects sales gains of between 1.5 and 2 percent for year.

Moody’s Investors Service expects growing competition from U.S. retailers and attempts to control household debt to limit Canadian retailers’ potential for sales and profit gains this year.

Moody’s projected retail sales growth in Canada, excluding automotive and gasoline, of between 1.5 and 2 percent in 2014 compared with growth of 1.6 percent in 2013. Among a group of nine Canadian-based retailers — including supermarket operators Loblaw, Sobeys and Metro and general merchandise retailer Canadian Tire — operating income is expected to expand between 2 and 2.5 percent, lower than the 2013 pace of 3 percent.

With U.S.-based mass merchants Wal-Mart Stores Inc., Costco Wholesale Corp. and Target Corp. expanding their presence in Canada, even ahead of the arrival of upscale department stores such as Nordstrom and Saks Fifth Avenue, Canadian discounters are likely to be hard-pressed to find growth opportunities, according to Moody’s analyst Peter Adu. This could lead operators such as Jean Coutu and Metro to use their strong balance sheets “to make meaningful acquisitions to enhance their scale and market positions,” he said.

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The analyst sees opportunity in the dollar store segment, with room for over 1,000 additional units of this type of retailer before they reach the saturation level already attained in the U.S. With 847 units located throughout Canada, Dollarama is considered well positioned in this market.

“Besides competition from U.S. players, Canada’s high ratio of household debt to disposable income also contributes to the modest operating income and retail sales growth forecast,” Adu noted. “In 2014, we expect consumers to spend less as they focus on repaying their household debt.”

Last week, Canada’s central bank reported that the ratio of household debt to income in the country felt to 164 percent in the fourth quarter of 2013 from a record level of 164.2 percent in the third quarter. With interest rates low, Canadians’ debt load has grown, increasing the chance of a housing bubble like the one that burst in the U.S. in 2007 and contributed to the Great Recession south of the Canadian border.

However, uncertainty in the housing market might have abated after mortgage borrowing grew by 13 billion Canadian dollars, or $11.7 billion at current exchange, in the fourth quarter, well below the increase of 21 billion Canadian dollars, or $19 billion, registered in the third quarter of last year.