By Michael Rudnick
NEW YORK–Wall Street was not a hospitable place for the home furnishings sector last year.
Home goods stocks sank in 2007 and lagged the broader market under the weight of slowed consumer spending due to mounting pressures from the housing slowdown, the subprime mortgage crunch and high fuel prices.
According to HFN’s exclusive report on stock trading in 2007, the HFN Index, composed of 25 retailers and 16 manufacturers, slid 13.88 percent, significantly underperforming the Dow Jones Industrial Average gain of 6.34 percent.
Retailers saw the steepest decline last year with a total average decline of 13.92 percent with only four—Costco, Best Buy, BJ’s Wholesale Club and TJX Cos.—in the black for the year.
The department store sector was hit hardest, as all seven chains surveyed recorded double-digit stock losses with the group’s total average decline at 47.86 percent.
The midsized regional department store chains scraped the bottom of the group. The Bon-Ton Stores suffered the greatest decline among home retailers with a 74.09 percent drop, Gottschalks sunk 70.16 percent and Dillard’s fell 45.38 percent for the year.
“The Street views it [the department store sector] as not having much [store] growth and same-store sales growth potential,” said Carl Steidtmann, chief economist with Deloitte. Department stores, which have seen consolidation and limited store growth, have found it difficult to grow comparable-store sales. “In new stores, it is easier to grow same-store sales than in more mature stores,” he added. This stalled growth, coupled with the slowdown in consumer spending on both home goods and apparel, has hurt this sector, he said.
“With the midsized department stores, the issue is scale—it doesn’t take that much more overhead to run a 500-store chain than a 100-store chain,” Steidtmann said. “If there is any uptick in sales, you don’t get the corresponding profit return on a smaller chain than would a larger chain,” he added.
The midsized department store chains, because of their secondary and tertiary geographic market focus, feel a larger impact from the home refinancing crunch and housing slowdown than their larger peers. “Their markets are more vulnerable—it’s a function of demographics,” Adrianne Shapira, retail analyst with Goldman Sachs, told HFN. “The households they are appealing to are in more of the subprime [lending] category,” she added.
Dillard’s, which has this subprime market issue to contend with, is further pressured geographically due to the entrance of Macy’s into its regions, Shapira said. “Macy’s taking over of May stores in overlapping markets has accelerated pressure [on Dillard’s],” she added.
Geographic location has played a key role in Gottschalks’ slumping performance over the past year. The retailer operates the majority of its stores in California, which has been hit particularly hard by the housing slowdown, said Mark Montagna, retail analyst with CL King & Associates. Gottschalks’ stock was also deflated in the latter part of the year when the retailer called off plans for a potential sale, he said.
Montagna expects Gottschalks’ performance to improve this year on its new “Value Improvement Program,” which includes a more aggressive store opening schedule, a broader store remodeling program, plans to increase credit card revenue, the implementation of new cost-saving technology and the outsourcing of private-label programs. On the home front, the retailer is continuing with efforts to downsize underperforming categories such as fine china, textiles, mattresses and furniture, he said. The retailer hopes to downscale its home category to about 10 percent of its business from a current 16 to 18 percent of its revenue, he said.
The midsize retailers are not the only ones suffering in the department store space: Sears Holdings, which logged a roughly 43 percent stock gain in 2006, fell 38.99 percent last year. “Sears finally started to address their massive inventory build and margins started to fall in the third quarter, and it became readily apparent to more of the market that EBITDA [earnings before interest, taxes, depreciation and amortization] over $3 billion is not sustainable at Sears,” said Gregory Melich, retail analyst with Morgan Stanley.
Industry analysts and observers have partly attributed Sears’ boosted stock value in recent years to its real estate assets. The recent lending crunch has made for difficult financing of large real estate transactions, eliminating Sears’ real estate play. “What changed is that when the credit bubble burst in the summer, liquidity that supported some of the hidden asset value analysis disappeared,” Melich said.
Not all was glum in retail. The wholesale buying club sector was a bright spot among retailers with Costco and BJ’s Wholesale Club recording 32.02 percent and 6.18 percent gains, respectively. James Ragan, retail analyst with Crowell, Weedon & Co., said that Costco’s value focus has helped drive sales during a time of tightened consumer spending.
Costco’s home business saw mixed results with the strongest performance coming from consumer electronics, Ragan said. Furniture, which has been a tough category throughout retail, has not hurt Costco as much as some of its peers due to the retailer’s ability to discontinue poorly performing programs. “They move things in and out quite a bit. If furniture is not selling they will move it out,” he said.
Manufacturers’ stocks were also sucked downward in the housing slowdown vortex, recording a total average decline of 13.88 percent for the year with only two—Culp and Libbey—seeing gains.
The furniture sector took the biggest hit as this group accounted for four of the five biggest losers among home goods manufacturers.
Big-ticket home furnishings items that are tied to new home purchases have felt the pinch as home sales have dried up. “[The furniture slowdown] is attributable to housing. It is viewed as being a business very tied to home sales and home turnover,” Steidtmann said.
Most publicly traded furniture makers are American manufacturers, and while they now do the lion’s share of manufacturing in low-cost overseas plants, they “put a middle-man margin on product,” rendering them “not as competitive as they used to be from a price/value perspective,” said Laura Champine, retail analyst with Morgan Keegan & Co.
Furniture Brands, which saw the fifth-biggest loss among manufacturers at 36.85 percent, is one example of an American company losing out to cheaper overseas competition, Champine said. She added that the couple had also alienated itself from its independent dealers in recent years via a distribution shift to its own branded stores—a strategy from which it is now withdrawing.
Natuzzi SpA suffered the greatest decline among furniture companies as its stock sank 47.57 percent. Jerry Epperson, managing director at Manning, Armistead & Epperson, said that the upholstery company, in addition to having to contend with the furniture sales slowdown, is faced with a somewhat unfavorable pricing structure due to its high-cost Italian manufacturing. “Upholstery imports from China were up nicely [in 2007], imports from Italy were down,” he said. “Even though Natuzzi has factories in China, it is only a portion of their business—they are still perceived by the Street as being an Italian company,” he said. “The Italian upholstery market has nearly disappeared,” he added.
Martha Stewart Living Omnimedia, the fourth-biggest gainer among manufacturers in 2006, went the opposite direction last year with the deepest decline among the group at 58.22 percent. Its stock was sparked in 2006 in part by the deal to launch the Martha Stewart Collection in more than 800 Macy’s stores in 2007. However, this spark has fizzled as Macy’s home business saw tough times during the large part of 2007. “[Martha Stewart] is pretty dependent on major retailers for the success of new initiatives,” said David Kestenbaum, managing director at Morgan Joseph, adding that the slowdown in Macy’s traffic may have hurt the line’s sales.
There were a few bright spots among manufacturers. Culp topped the sector with a 33.85 percent gain for the year. The textiles maker’s stock hit a two-year high in late July. The company has struggled to compete with lower-cost Chinese manufacturers over the past few years, but due to the closure of plants and a shift to more profitable business segments, the company has seen bottom-line improvement of late. One of the more profitable segment is mattress fabrics, which logged a 53 percent sales gain for the second quarter ended Oct. 28 over the year-ago period. “The mattress industry has consistently outperformed other home furnishings categories, even with the recent downturn in the housing market,” stated Frank Saxon, Culp’s chief executive officer.
Libbey yielded a 23.56 percent return on the year, due in part to its international focus and expansion efforts. Libbey in recent years acquired Royal Leerdam, a Dutch glassware company, and Crisal, a Portuguese glassware maker. Libbey last year consolidated its Crisa glassware facilities in Mexico.
Its sales jumped nearly 25 percent for the first three quarters of last year, which it credited to the Crisa consolidation, a jump in export sales and a boost in American and Canadian glass shipments.
Will other home goods manufacturers and retailers share in Libby’s success this year? Analysts and observers say that the housing-driven sales slowdown should continue into 2008. “I don’t see any turnaround in housing in 2008,” Steidtmann said. Champine concurred, noting, “Things are getting worse now—we have got another major raft of mortgage resets coming.”