Why worrywart consumers are a bigger threat to retailers than Amazon

Every day a new ‘Amazon is coming’ headline hits ASX-listed retailers. But is Amazon really why share prices have fallen?

We have one message for Intelligent Investor members about Amazon: Don’t panic*. If you’ve followed our advice, your exposure to specialty retailers – those most likely to be affected by Amazon – will be minimal.

We’ve lacked enthusiasm for the sector for a long time. Retail is a difficult industry at the best of times. It’s ultra-competitive and failures are common. Like building materials – another sector where there are more bad companies than good – you need to tread carefully.

Of course, we have dipped our toe in occasionally. We recommended The Reject Shop (ASX: TRS) in 2014 and Myer (ASX: MYR) in 2015 – but these were special situations. When it became clear the situation wasn’t unfolding as expected, we exited without significant damage.

Most retailers fail our tests – even in the absence of Amazon. Six months ago I published a blog piece titled Don’t you Adairs (ASX ADH). Avoid the worst retailers and you avoid heavy capital losses; Adairs stock has fallen more than 50% since November.

Hyper-competitive

The fact is that retail has always been hyper-competitive. Amazon is just another competitor, albeit one that’s likely to do significant damage to some retailers. New competitors are always emerging, and existing ones must adapt accordingly.

It’s worth keeping Amazon’s entry in perspective too. We’ve seen guess-timates that Amazon’s sales might be $12bn by 2026. Australian retail sales currently total more than $300bn a year.

This is consistent with other international retailers that have entered Australia. They must play a very long game. It took Aldi 15 years to hit $6bn in sales and become a threat to Woolworths (ASX: WOW) and Coles (owned by Wesfarmers, ASX: WES). The international entrants don’t have it all their own way either; witness the recent failure of Topshop Topman Australia despite shoppers queuing round the block in 2011.

So if fears about Amazon’s entry are potentially overblown, at least for some retailers, why have many specialty retail stocks fallen 20-30% in recent months?

Because Amazon isn’t the only cause for concern for retailers. Perhaps the main problem is that retail sales figures have stepped down in recent years. While retail sales for May were up a strong 1%, this follows some extremely weak figures in preceding months.

Beware house prices

Weak retail sales statistics are even more worrying because house prices in many states have been strong. If house prices stop rising – or horror of horrors, shift into reverse – retail sales will step down again. This is not a climate in which retailers will thrive.

So, Amazon or no, specialty retailers have a lot to worry about. It might be that recent price weakness is because investors are factoring in an even tougher environment for retailers.

Lower prices mean we’re a little more interested in the sector. Colleague Alex Hughes is looking in the small company space – see Retailers going cheap – while I’m looking for larger opportunities. But we’re both being very picky, even if value is much better than even a few months ago.

But back to Amazon. We’re planning a multi-part review of how Amazon will affect major listed retailers over the coming month or so. If you’re not already a member, you’ll need to subscribe.

The next time you read a headline that predicts Amazon will be the bane of Australian retailers, remember that it’s just one of several threats. This is a tough industry and, for every success story like JB Hi-Fi (ASX: JBH), there’s a Dick Smith just around the corner.

*Don’t panic, unless you already have significant exposure to specialty retailers. Our forthcoming series will explain which companies are likely to be hardest hit by Amazon.