As retailers stash cash, how should suppliers respond?

The COVID-19 pandemic has significantly disrupted all levels of society and directly impacted retailers. Stay-in-place recommendations or government-mandated lockdowns have made shopping in many countries highly unpredictable, while concerns for employee health and safety have created tensions in stores. Extended retail closings have suppressed sales in almost all classes of trade, but especially in nonessential categories like apparel and other department store offerings.

Yet for food, drug, and home improvement retailers that remained open, sales exploded with historic year-over-year increases. Ecommerce in most cases expanded over 100%, putting stress on home delivery and store pickup.

In “Retailers prepare for the downturn”, our analysis of retailer financial results for the first full quarter of 2020 that we conducted in late June, it was clear that most retailers that stayed open greatly benefited from the early stages of the pandemic. But at the same time, their collective financials showed that they were making major changes. We examined a representative sample of 20 publicly traded retailers across North America and found that they have increased their cash on hand by an average of 65% in the past year.

In our recent analysis of second-quarter results, we saw that these changes had accelerated, specifically in these four areas:

1. Operating margins and earnings before income tax: Since shoppers weren’t responding, retailers removed many general promotions and price reductions in loyalty programs, effectively raising prices and margins. Supply chain issues and buying surges focused most purchases on high-margin products, especially in cleaning supplies and home goods. And with employee attendance down due to COVID-19, retailers reduced their labour costs, which further elevated margins. This trend accelerated in the second quarter as retailers also started cycles of SKU optimization that removed low-margin and slow-moving selections.
2. Inventory: The drop in inventory from the first through the second quarter originally reflected supply chain issues, but quickly shifted as retailers rationalised inventory to meet shopper needs shaped by COVID-19 lockdowns and travel limitations. In many cases, stores are starting to show extended bare shelves and sparse displays, but the overall store experience and selection is not a concern for shoppers. In Canada and Mexico, the opposite has been true as retailers catch up on missing import orders and increase key perishable items.
3. Capital expenditures: Throughout the year, capex has declined at most retailers as they redirect funds that would have been used for improving the experience, remodelling stores, and opening some new stores to ecommerce and fulfillment support. The rest has gone to cash on hand. It is instructive to contrast companies making strategic changes to omnichannel like Costco and Lowe’s, both of which are investing in ecommerce, with those like Walmart and Home Depot that have decades of investment and operational experience leading into recessions.
4. Cash on hand: Since they don’t know what the future holds, retailers are still putting aside cash at unheard-of levels. In many cases, they have taken on debt at extremely low interest rates. The industry focus is on creating and holding funds for uncertain times ahead.

Impact on vendors

As we saw during the Great Recession of 2008-2009, retailers will cut inventory to increase productive turns while reducing labour to improve margins. The major difference in this recession is the historically low interest rates for loans and the Federal Reserve’s general support for the markets, which has kept share prices high while limiting investor pressure to increase dividends.

What does this mean for suppliers? Mainly, that their customers are stable and profitable, but will resist increasing their portfolio with new items. In fact, they’ll likely take the opposite approach as they repeatedly analyse which products are critical for these unique times while discarding those that aren’t.

• Be innovative in how you approach this unique market while analysing your own weaker products proactively. Use trade funds that would normally go into promotions to support weaker parts of the portfolio or in larger co-marketing efforts.
• As retailers cut SKUs, they will have more room in stores for new merchandising concepts. Offer larger in-line displays and higher-quality endcap fixtures to retailers that are reducing in-store improvements.
• Instead of doing line-item extensions, evaluate new products critically for innovation and for how they could be used in these times. Buyers will resist the former but may be interested in a new item that fits the unprecedented needs of 2020.

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