Amazon and the Aussie hit list - Part 2

When it comes to specialty retail, investors have always needed to tread carefully. Amazon only makes it more difficult – especially for some.

With all the hype around Amazon’s entry, you’d be forgiven for thinking Australia’s $300bn of retail sales were about to immediately evaporate. But consider this: Amazon’s Prime membership – arguably the key driver of the company’s retailing success – launched in the UK in 2007. Last year, Amazon’s UK sales were just over £7.3bn, which compares with total retail sales of about £360bn.

So it will take time for Amazon to achieve significant Australian sales. To achieve an equivalent percentage of Australian retail sales – around $6bn – might take close to a decade. Developing software, building warehouses and setting up a logistics capability takes time. Even the rumoured launch date of the ‘end of 2018’ might be optimistic.

Amazon’s rollout will also be staggered. The product range will initially be limited, as will the cities serviced, as will the fast delivery areas within those cities. Australians expecting the same range, delivery and prices offered to US consumers might initially be disappointed. A word of advice, too: if you want something from Amazon’s US website – at those famously low American prices – you should probably buy it before Amazon geo-blocks your access from Australia.

Key Points

  • Amazon rollout will take time

  • JB Hi-Fi, Premier Investments likely to suffer

  • Super Retail best of a difficult bunch

What does this mean for the ASX-listed specialty retailers we cover? While Amazon is a very impressive company – see Part 1 – the lag involved means Australian retailers have time on their side. There’s time to improve their service and websites, sign exclusive deals with suppliers, and otherwise shift their strategies to compete more effectively. Many overseas retailers have adapted to Amazon, although it’s fair to say that few have thrived.

While Australians still spend less on online shopping per person than many other countries, the reality is that Amazon will have no ‘first mover advantage’ here. Australians already have existing options for subscription video, photo storage and music, so Amazon will need to make Prime attractive (the offer varies by market). Also, the collapse of bookshops and electronics chains that allowed Amazon to get big quickly in the US has already occurred here.

Amazon might even find the going tough. That’s what happened in Canada, a market with many similarities to Australia. After opening its first Canadian warehouse in 2012, Amazon famously lost market share as online and traditional retailers lifted their game and the market itself grew.

Retailers at risk

None of this is to downplay the threat from Amazon. As we said in Part 1, the company shouldn’t be underestimated and has surely learned from its Canadian experience. Australia has a number of specialty retail categories at significant risk of losing sales to Amazon.

Chief among them are books, music, gaming and movies, which are usually the first product categories Amazon rolls out. JB Hi-Fi is the only major ASX-listed retailer with exposure to this category but it’s been in decline for years. Over the past five years JB Hi-Fi’s ‘software’ sales – as it calls music, movies and gaming – have declined from 24% to 13% of the company’s total.

That still represents about $500m of JB Hi-Fi’s sales, though, so it’s significant – particularly as browsing these categories helps attract people to the stores. Assuming Amazon decides to stock physical music or movies (which it may not), these products will almost certainly be cheaper on www.amazon.com.au. JB Hi-Fi should expect the decline in its ‘software’ sales to accelerate.

Consumer electronics is another category that Amazon typically rolls out early. JB Hi-Fi is at risk here too because of the easily comparable nature of electronics. Our analysis suggests the company has lost price leadership and seems to be relying on its brand – as well as risky acquisitions – to protect itself. JB Hi-Fi’s final result is due on 14 August and we will review our valuation and price guide then, but the long-term outlook is arguably deteriorating. For now, HOLD.

Adapt or perish?

Harvey Norman (no longer covered) is also at risk from Amazon but its franchise business model should allow it to adapt. If the company’s consumer electronics franchisees start suffering, it is likely to reallocate retail space towards appliances, furniture, and home fittings like carpet, tiling and bathroomware. These are categories where traditional retailers have usually fended off Amazon.

Table 1: Major discretionary retailers
Retailer (ASX code) Market cap. ($m) Share price movement
since 1 Jan 2017
Risk from Amazon Product categories at risk II reco. Watch list?
JB Hi-Fi (JBH) 2,928 –11% Medium-High Consumer electronics Hold (for now) No
Harvey Norman (HVN) 4,541 –22% Low-Medium Consumer electronics N/a No
Myer Holdings (MYR) 686 –40% Medium Clothing, homewares Sell No
Premier Invest. (PMV) 2,108 –8% Medium-High Clothing Avoid No
Super Retail Group (SUL) 1,683 –20% Medium Clothing, auto, outdoor N/a Potentially

Homewares and toys are often the next categories Amazon rolls out, followed by clothing, footwear and accessories. While clothing is difficult to sell online, Amazon is likely to offer it at launch or within a few years. With heavy exposure to these categories, department store company Myer would seem to be right in the firing line.

It’s easy to brand Myer a dead duck in the age of Amazon but that’s probably too simplistic. Myer has confronted competition from online and international brands for years. Its market positioning, range diversity and convenience suggest it’s probably less specifically threatened by Amazon than some other retailers in the medium term. Of course, that’s hardly a compelling investment case.

With its ‘New Myer’ strategy having failed to gain sufficient traction, and an uncompetitive online experience, Myer appears to be fighting on multiple fronts. While the stock has fallen 25% since we recommended selling in March – and there is some takeover potential – we see little reason to own the stock, Amazon or not. We’re reducing our price guide and sticking with SELL.

Myer’s new major shareholder Premier Investments, which owns Smiggle, Peter Alexander, Dotti, Portmans, Jacquie E, Just Jeans and Jay Jays, has already noticed its younger customers migrating online. Same-store sales for its mature brands have been consistently negative. With Smiggle’s growth likely to ease, and the stock carrying a premium because of that brand’s success, Premier Investments is at significant risk from Amazon in our view. AVOID (or Sell, if you haven’t already).

Super interesting?

Super Retail Group, which owns Super Cheap Auto, Rebel Sport, Amart Sports, BCF and Rays is also likely to lose some sales to Amazon (and new entrants like Decathlon) over time. Sportswear, automotive products and outdoor merchandise can be sold relatively easily online, although high-service traditional retailers in these categories should be able to survive. With Super Cheap’s share price having fallen 20% this year, it’s the only large discretionary retailer that’s potentially interesting. Our research continues and we’ll resume coverage if a positive recommendation can be justified.

We’ve focused on the larger discretionary retailers in this review, but smaller retailers are probably at even greater risk from Amazon (and a difficult retailing climate generally). If you’d like us to comment on any smaller retailers you own, feel free to ask in the comments below.

Almost all retailers will feel some negative effects as Amazon’s Australian rollout proceeds. But the reality is that most are already facing the threat of sales migrating online. For example, The Iconic – one of Australia’s best online-only clothing retailers – has quadrupled sales to almost $200m since 2013 and expects to be profitable in 2017.

The last bastion, perhaps, is online grocery – a category that Amazon has struggled to make work in the US. Look out for Part 3 next week, when we cover the ASX-listed grocery retailers: Woolworths, Wesfarmers and Metcash (including their non-grocery chains). Will Amazon’s takeover of Whole Foods change the game, or has the company finally met its match?