Take a battered and cautious consumer, add in fears of further interest rate rises, a strong Australian dollar and rampant discounting, and mix it all with a slew of technological tools designed to push down prices and crush margins.
Welcome to the Christmas from hell for Australia’s retailers.
Rarely before has the sector been under this sort of pressure. From Harvey Norman and Myer down, retailers are seeing their margins crushed, and their sales eaten away by overseas competitors.
But this is not just the story of a terrible, one-off Christmas.
While many Australians retailers will be hoping the discount cycle will end once the economy hits full speed again, the fact is that the retail downturn has only exacerbated the structural changes that have occurred in the industry in the last few years.
Ecommerce has forced retailers to become more transparent, responsive and accessible. Large global retailers have worked to strip costs – and middlemen – out of their supply chain in a bid to continually reduce their prices. And overseas brands have flocked to the Australian market, adding more competitive pressure to an already hyper-competitive market.
And all these structural changes are aimed at allowing the world’s retail leaders to do one thing – sell at the lowest possible price, all the time.
The result is a new breed of consumer that has been reprogrammed to never pay full price.
“Discounting has become an absolute necessity. You could get away with it before the GFC, but you can’t get away with it now,” says Kevin Moore, chief executive of retail consultancy Crossmark.
‘Twas the week before Christmas
The Christmas period has been dominated by dire warnings from the sector about tumbling sales. Total retail sales are expected to increase a bit over 3% to $39.9 billion, although with inflation running at a similar rate retailers are right to argue they are standing still, or even going backwards.
There are a number of forces driving the weak Christmas spending. Rising interests have spooked already fragile consumers, while the high Australian dollar is driving both price deflation (particularly in areas such as consumer electronics) and some level of shopping on overseas website.
Gary Black, executive director of the National Retail Association, also argues that 2009’s Christmas sales were artificially boosted by stimulus payments handed out by the Federal Government at the height of the GFC, and sales were bound to fall as consumers turned from spending to debt reduction.
“Remember, there was a spate of almost unrestrained consumer spending in 2009 as a result of the stimulus, and even earlier prior to the dark clouds of the GFC,” he says.
Black is more optimistic about the Christmas period, and upbeat about the year ahead. As the job market gets tighter, interest rates peak and workers increase their incomes with extra working hours, consumers will start spending again and the rampant discounting will slowly ease.
“My view is that discounting is cyclical. We are probably at that point in the cycle where this is going to be as good as it gets for consumers.”
Responding to structural change
Certainly, discounting cycles have occurred before and have typically eased when economic growth starts to accelerate and consumer spending rises.
But some retail analysts say a number of structural changes in the retail sector – driven by technology, globalisation and the transformation of the supply chain – mean that discounting, or more accurately continual price reductions, are here to stay.
Kevin Moore says the trend is being led by the world’s retail powerhouses such as Walmart and Aldi, that focus on continually removing cost from their business models to ensure prices keep falling. Every retailer is forced to follow their lead.
“You have to be able to retail items at the lowest shelf price to stay in business,” he says.
Brian Walker of retail consultancy The Retail Doctor sees discounting as necessary as a “tactical response” to the series of structural changes the retail sector is undergoing.
“I have the view that we are essentially living through a revolution in the way we communicate and the way we integrate with society and of course interact with retailers,” argues Walker.
He says that while it’s hard to say how this revolution will play out without the benefit of hindsight, he agrees with Moore’s argument that the changes are making it harder for small and slow moving retailers who fail to get ahead of these structural shifts.
Here are five of the big structural changes Moore and Walker are seeing:
Permanent price reductions
In the last 12 months we’ve seen Australia’s biggest retailers systematically use their considerable muscle to cut shelf prices permanently, by eliminating costs out of their businesses and forcing suppliers to reduce costs. Bunnings, JB Hi-fi and K-Mart use similar strategies.
The strategy creates crushing pressure on smaller rivals, who may be able to discount for a period, but cannot always absorb the margin hit of permanent price cuts. Moore gives the example of a British retail giant ASDA, which recently sold a home-brand DVD for just about $20. It sold out within four days. “They wanted to lead in the market place with lowest price.”
Remaking the supply chain
The old model where retailers purchased goods from a wholesaler, who had previously purchased them from the manufacturer, is dead. Retailers are cutting out the middleman and going straight to the manufacturer, either to buy branded products or to buy white label products that they can sell under their own brands.
Alternatively, wholesalers and manufacturers are looking to sell goods directly to consumers through their own brands or websites – Billabong and Apple, which are growing their own retail networks are great examples. “The classic supply chain is not what many of us grew up with. I think the lines are getting very, very blurry,” Walker says.