Wednesday, January 6, 2010

Retail, Hardlines 2010 Outlook: Up and Down

2010 Outlook: Up and Down

For the first time in years, consensus Retail estimates of 15% EPS growth appear realistic, even if dispersion around the mean is not. Our lead indicators suggest sales up 1% in 2010, a 360bp improvement from 2009’s -2.6%. Operating leverage, inventory control, and share buybacks should allow publicly traded retail to post 15% EPS growth in 2010. However, the dispersion around the mean strikes us as odd - within our coverage of 25 stocks, 100% of consensus EPS are up. That seems unrealistic if retail sales are only up 1%, meaning some will comp down. Those that survived 2009 by cuts in SG&A and gross margin gain may have the highest 2010 hurdle.

EPS may deliver, but will the stocks? The 0% Fed Funds rate can only go one way. Fed timing could prove critical to retail stock performance. We updated our historical retail vs Fed performance tables, which show Retail can perform well ahead of Fed tightening, but once rates move higher Retail struggles to outperform the S&P 500. 2011 also has preprogrammed
“headwinds” from tax increases (income, capital gains, etc) which could impact stocks by 2H10.

2010 opportunities: RSH and AAP are value names with industry and company drivers could take earnings up double digit, while both trade below 13x EPS. BBBY is the last larger cap growth story in Hardlines, while LOW is our way to play a likely turn in Home Improvement
comps in mid-2010. BBY, SHW, and BKS are three sizable retailers where consensus looks high to us.

What would make us more bullish: 2009’s missed opportunity was that a lot of sub-par capacity was not rationalized (think Sears). The quick “unfreezing” of the credit market stopped it. Efforts in 2010 to use financing to repurpose stores could be a positive.

What could make us more bearish:
Mobile Internet acceleration driving faster sales migration from and price disintermediation of brick and mortar retail assets. In macro, anything that discourages employment recovery.
Ultimately, we need jobs for retail growth.

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