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Department stores must rethink products, locations after weak holidays: experts

A weak holiday selling season for department stores will add pressure on companies in 2020 to differentiate their product offerings and reconsider their store footprints, experts said.

"These retailers are struggling to even report any positive same-store sales growth, so that makes you think what will happen if the economy slows down considerably. It doesn't exactly give you confidence that their model is really in great shape in the long-term," David Swartz, an equity analyst at Morningstar, said in an interview.

For several years, department stores have tried to address the troubles that have plagued the sector, such as the continued shift to online shopping, and market share loss to off-price retailers such as Ross Stores Inc. and Burlington Stores Inc.. They have responded by closing underperforming stores and testing out new services and initiatives, such as J. C. Penney Co. Inc.'s experiential store format that features a fitness studio and a parent lounge.

They will need to speed up their efforts in 2020 and continue to reevaluate their products, services, and store counts, according to analysts.

"As the sector emerges from a brutal 2019, it is becoming ever clearer that the runway for addressing problems is rapidly shrinking. There are no easy fixes and ultimately, the sector must deliver experience and product that customers want. Otherwise, lackluster sales make it difficult to leverage costs, no matter how disciplined companies are," Moody's Vice President Christina Boni said in a Jan. 15 note to clients.

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Kohl's Corp., J.C. Penney, and Macy's Inc. all reported comparable sales drops for November and December 2019. Sales at department stores fell by 6.4% in November and December 2019 combined, as compared to the same two months in 2018, according to U.S. Census Bureau data.

The retail sector as a whole reported a 4.6% sales gain in November and December combined compared to the previous year, according to an analysis of Census Bureau data. The total includes all types of retailers, in addition to food services and drinking places.

The widespread weakness in holiday sales among department stores was in contrast to analysts' optimistic expectations. Experts hoped that retailers would have benefitted from strong consumer fundamentals including a low unemployment rate and strong consumer spending.

"If they didn't have a great year in 2019, then when would they have a great year? It doesn't appear that it's going to happen this year," Swartz said in an interview.

Macy's, Kohl's and J.C. Penney did not respond to S&P Global Market Intelligence's requests for comment.

Product differentiation

Product differentiation will be vital to a retailer's ability to not only defend its market share but also potentially gain share in a highly competitive environment, experts said.

Department stores have lost share to retailers like Lululemon Athletica Inc., which has successfully created a strong athleisure apparel brand, according to Swartz. Lululemon has beat same-store sales estimates for the last three quarters, according to data compiled by Market Intelligence. The athleisure apparel retailer also raised its fourth-quarter 2019 sales and earnings guidance, citing a strong holiday period, though the company did not provide details on its financial results for the season.

Target Corp.'s continued push into the private label clothing space has also hurt retailers like Macy's and Kohl's, Swartz said. During the holiday season, Target reported a share gain in apparel, while Kohl's reported softness in women's apparel.

"If they have a product at the stores that other people don't have, then that would still bring in the shoppers," Swartz said. "The problem with department stores like Kohl's and Macy's is that people think that they have the same clothing that they can buy anywhere else, and for the most part that's true."

Target, however, also reported softer holiday sales than expected. The company lowered its fourth-quarter 2019 sales outlook after reporting 1.4% same-store sales growth during the holiday season — a slowdown from 2018. Although the results came in below estimates, the sales figures were not "terrible," David Silverman, a senior director at Fitch Ratings, said.

"These results could indicate kind of [a] continued diversion of consumer budgets away from some of the more traditional gift-giving options like toys ... and potentially towards services or other types of items," Silverman said.

Rethinking store portfolio

Experts said a "disappointing" 2019 will force some retailers to reassess their physical footprint in 2020.

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J.C. Penney, which has 846 locations in the U.S., will likely have to significantly shrink its store portfolio, Swartz said. On the heels of its weak holiday sales, analysts expect J.C. Penney's same-store sales for fiscal 2019 to drop 7.8%, according to data compiled by Market Intelligence.

"They have hundreds of stores that they probably don't need, and [the closures] may not even be voluntary because a lot of these malls are closing," Swartz added.

Following its holiday sales report, Macy's said it will close 29 locations in 2020. The retailer, which has 871 U.S. locations, is expected to provide additional details about its plans for its store fleet at its investor day on Feb. 5.

"We expect them to continue to prune their portfolio," Silverman said.

For Kohl's, however, Silverman said the department store chain seems to have the right store count. But there are opportunities for the retailer, which has 1,159 U.S. locations, to right-size some of its stores and repurpose some square footage for new initiatives, Silverman said.

An example of such an initiative is Kohl's return program with Amazon.com Inc.. The partnership, which allows customers to return Amazon purchases to Kohl's stores nationwide, has helped the company find ways to use its stores, Kohl's CEO Michelle Gass said on Jan. 12 at the National Retail Federation's Big Show. Gass added that she is satisfied with the company's current store count.