NEW YORK — Fashion just might have to wait another year to run with the bulls.

The least optimistic in the financial markets consider a turnaround in apparel a long shot even by year’s end, although some are hoping that fourth-quarter profits among apparel retailers and wholesalers will provide a pleasant surprise that lifts stocks early in the year. Failing that, some consider “easy same-store sales comparisons in the back end of the year” to be the best hope for a fashion stock rebound.

This story first appeared in the January 8, 2003 issue of WWD. Subscribe Today.

Last year, for the first time since before World War II, the equity markets weathered their third consecutive year of declines as economic anemia and political uncertainty battled for headlines with tales of corporate malfeasance. What many considered the worst holiday season in three decades depleted fashion stocks further.

In 2002, the 30 stocks that make up the Dow Jones Industrial Average fell by 16.8 percent while shares in the broader Standard & Poor’s 500 index retreated 23.4 percent. Although its composition was altered in June, the S&P retail index slid a slightly steeper 23.7 percent, according to calculations provided by Goldman, Sachs & Co. Archrival department store groups Federated and May Co. limped across the finish line with negative comparable-store sales results and declines of 29.7 and 35.9 percent, respectively, in their stock prices.

Still, some managed a good year. Among them were apparel vendors including Liz Claiborne Inc. (up 20.1 percent for the year) and Jones Apparel Group Inc. (up 6.8 percent) and certain retailers that had struggled operationally, such as Saks Inc. (up 25.7 percent) and Gap Inc. (up 12.1 percent). Two lifestyle brands, Quiksilver and Fossil, had the biggest gains of the companies covered — 55 and 45.3 percent, respectively.

Looking out over the equity markets’ prospects in 2003, David Wyss, chief economist at S&P, noted, “There are just so many question marks out there.”

The decline in the markets that started in 2000, the economist said, came in three tiers: technology’s tailspin in 2000; manufacturing’s mauling in 2001, and last year’s most dramatic declines in market capitalization spurred by corporate scandals, a stagnant economy and fears of a war with Iraq.

Since stock traders abhor uncertainty above all else, a resolution, military or otherwise, with Iraq in 2003 could also remove a weight from the markets by the end of the year.

Apparel vendors comprised one group that largely outperformed the markets last year and might do so again this year.

“Because they had less inventory, they enjoyed higher gross margins” and the favor of investors, said Wells Fargo Securities analyst Jennifer Black. Inventory discipline also helped them maintain margins in their own stores and limit their need to sell to off-price outlets.

Suppliers could repeat that trick in 2003, but retailers are in a different boat. “The market is overstored in every channel of distribution,” said Black. “We think it’s really going to be a stock picker’s market for the retailers.”

Retail stocks generally peak early in the economic up cycle and then start to drop, partially in anticipation of rising interest rates. So retail issues started to rally in 2000 when concerns about the economy were growing among investors and lower interest rates were seen on the horizon. And drop interest rates did: 11 times in 2001 and once in November last year, leaving the federal funds interest rate at 1.25 percent, its lowest level in more than four decades.

Retail shares may be in some kind of limbo for a while, but S&P’s Wyss asserted that, going forward, “The overall economic picture is not that muddy. We’ve gotten out of reverse, but we’re still only in second gear.”

Wedbush Morgan Securities analyst Elizabeth Pierce noted, “I don’t think we can make a macro call in this environment. It boils down to the company.”

Pierce, who covers specialty retail issues, said investors for now would focus on fourth-quarter earnings that will begin to trickle in next month. She’s not looking for significant across-the-board profit misses, though. There will be some slight revisions, she said, but not a “massive slaughter.”

Part of this stems from the West Coast dock lockout — a lemon from which the industry managed to make a little bit of lemonade when anticipated sales levels didn’t materialize. With inventory exposure limited and Wall Street’s expectations reduced, the lockout “probably made it so that it’s not going to be quite the disappointing bottom line that it might have been,” Pierce stated.

In January, she said, specialty retail shares are going to “ping-pong back and forth. These stocks will be volatile. I absolutely think this will be a market where people have to be on their toes.”

The year started out last week with a stock rally that saw the overall market rise more than 3 percent with retail issues close behind. “If there was some really great fashion trend, I would say these stocks are cheap,” Pierce noted. “I’m nervous because last year there was such a compelling reason to buy.” While the bohemian look last year drove sales, this season has yet to produce a follow-up.

Lazard Freres & Co. analyst Todd Slater said retail shares should finish 2003 above where they started, but wouldn’t follow a straight line and would be marked by underperformance in the first half and overperformance in the second. He expects stocks will be “unable to break out of a range until easier comparisons in the back half.”

The bar isn’t set very high for 2003, since last year was, as Slater described it, “the gloomiest year for retail stocks in a long time. As we approached the end of 2002, the disparity between the strong retailers and the secondary and tertiary retailers widened,” he noted. “The spread will become more clear when fourth-quarter earnings are reported.”

Goldman, Sachs specialty retail analyst Thomas Filandro noted that investors generally recoil from retail issues in the autumn with the back-to-school and holiday seasons creating uncertainty. Usually, he said, Christmas works itself out sooner or later and investors come back to retail after New Year’s.

Spirit was lacking this past holiday season, however, and that’s going to contribute to “a very squirrely spring season for these stocks,” said Filandro, who expects comparable-store sales trends to be decisive in determining retail stock performance.

Investors, he said, should be on the lookout for down-and-out value plays and growth opportunities, which are fewer and farther in between.

Even as the prospect of improving conditions exists, 2002 proved that sometimes it was better to be struggling back into growth mode than on top of the heap in the minds of investors.

The turnaround standout last year was Gap, which significantly outperformed the broader market. The firm endured 30 consecutive months of comp declines, a trend finally broken in October.

By comparison, Wal-Mart Stores, the undisputed retail heavyweight champion, saw its stock fall 12.2 percent in 2002 while shares of fast-growing Kohl’s Corp. were off 20.6 percent.

Even against results severely depressed by the terrorist attacks of 2001, top-line growth was scarce for most retailers in late 2002, but severe restraints on spending insulated many stores against major profit declines. Should sales pick up in late 2003, it’s hoped that leaner, meaner cost structures will result in hefty bottom-line gains.

“Provided consumer spending remains robust, 2003 could be a comeback year for apparel if the economy were to stabilize,” declared Moody’s Investors Service in a recent industry outlook. “However, improvements in the economic climate may not translate into higher sales, earnings and cash flow for all apparel retailers.”

Same-store sales have generally slid over the past two years, noted the report, as consumers, “sated from binge shopping in the late Nineties and nervous about their futures,” cut back on apparel and other noncritical purchases. “Sales could show a noticeable rise in 2003 simply because closets are finally getting some room as apparel wears out. The question is where consumers will go to fulfill their needs when they become apparel-hungry.”

Angela Selden, North American managing partner for Accenture’s retail industry group, stated that compelling products could translate into a turnaround, as they did in home improvement in 2002: “People are willing to spend when they have something interesting to buy. The apparel manufacturers have a unique opportunity to capture. If the product is not interesting and the price points don’t have a value orientation attached to them, it’s going to be an opportunity missed.”

She worries that, in trying to preserve their capital, they’ll cut muscle instead of fat. “The first place they start to conserve is in the most interesting offerings to the customers,” noted Selden, adding that an “investment in excitement” would allow retailers to move more quickly into a growth mode once the economy again turns upward.

Philip Zahn, fixed income analyst with Fitch Ratings, was cautious in his view of 2003, expecting more of the same. “Maybe things will start to turn later in the year, but we’ve been saying that for a couple of years. We think it will be another difficult year for the industry.”

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