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The New Threat to Retail: Too Much Inventory

Retail analysts have been voicing their anxiety over the possibility that aggressive promotional strategies this holiday season will flatten gross margins, a concern that now seems worsened by the threat of bloated retail inventory. As inventory growth outstretches sales growth, the fear is that retailers will be compelled to make even further markdowns, pinching already diminished gross margins.

The evidence of inventory overstock is powerful: Gap Inc., Victoria’s Secret, Chico’s FAS Inc. and Abercrombie & Fitch are just a small but representative sampling of the apparel retailers carrying heavier inventory loads into the fourth quarter than they had in the third. All of these companies have publicly conceded that their inventory volumes exceed optimal levels.

Marshal Cohen, chief industry analyst for the NPD Group, said the signs of overstocked inventory are often conspicuous enough to spot in the stores themselves, without recourse to proprietary data. Shelves stacked impossibly high and storerooms cramped with overflowing merchandise are clues that stockrooms have run out of usable space. Cohen said, “When the most common sizes of popular items don’t sell out, that’s a problem.”

Theories abound about persistently sluggish sales performance. A stubbornly underperforming economy, looming fiscal uncertainty, congressional deadlock over issues that promise to impact citizens’ purse strings have all contributed to a wary consumer more interested in either savings or big ticket purchases while low interest rates still abide.

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Apparel retailers are also suffering from a dearth of a hot trend incentivizing shoppers to patronize them. But this year the biggest trends seem to be in footwear, little help so far to garment focused business.

And the earlier start this year’s holiday shopping season has also come with its own basket of challenges. According to an influential study issued by the CFI Group, “Holiday Retail Spending Report 2013,” retailers themselves have contributed to the diminishment of Black Friday by beginning their holiday marketing campaigns much earlier. Forty-nine percent of retailers have reported rolling out their holiday promotions by October 31, according to a study conducted by Experian Marketing Services. By then, more 25 percent of shoppers have already kicked off their holiday buying and another 23 percent plan to do a majority of it prior to the end of October. Nearly 61 percent plan to be done by Thanksgiving. This means retailers can’t afford to procrastinate their major promotions until Black Friday.

The difficulty presented by the earlier start is that retailers stock more of their product in advance of heavy shopping activity, thereby forced to make predictions about what will and will not sell without adequate data. And even the spring goods will be arriving earlier this year; for most retailers, those shipments come in before Christmas this year, as opposed to well after the New Year’s, which is the standard schedule. This creates the likelihood that stores will be forced to simultaneously house both winter and spring offerings without enough space to accommodate them.

Gap Inc. is a good example of the growing problem. Simeon Siegel, an analyst with Nomura Research, speaking to the Wall Street Journal, estimates that the company will experience a 4 percent drop in sales for the fourth quarter, especially vexing since it ended the third quarter with its inventory up 9 percent. Chico’s inventory leapt 14 percent going into the fourth quarter and is expected to suffer a 1 percent dip in sales. Abercrombie & Fitch is expected to see a 14 percent nosedive in sales, leaving it saddled with an inventory increased by 22 percent.

Siegel highlighted how historically unusual these numbers are. “These ratios are the worst we’ve seen in quite a while,” he said.

The threat of overstocked inventory comes at a particularly bad time since many believe that the principal challenge of this holiday season will be the downward pressure exerted on margins due to steep discounting. The Morgan Stanley study, “Expect Coal: We Predict the Weakest Holiday Since 2008,” expressed anxiety that a  maelstrom of promotional offers might trigger a chain of comparable discounts from their competitors, forcing down gross margins for the entire industry. The study likened the domino effect to the hitting of a “panic button,” which sends anxious reverberations across the entire soft-line retail sector.

Faced with increasing inventory and shrinking storage space, retailers will have little choice but to dramatically mark down their leftover products, compressing margins even more. This is one of the rare occasions when superabundance is a curse.