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Will Fast Retailing’s Q2 Results Put a Brake on its Global Expansion?

Fast Retailing Co., the owner of Uniqlo, has never been shy about its global ambitions. However, many experts believe the apparel company’s longing for domination will be  chastened by the release of its disappointing  second quarter results.

While Uniqlo, Fast Retailing’s signature discount chain, has historically performed well within its native Japan, the retailer’s numbers in the U.S. and China have been comparatively modest. Uniqlo’s 853 stores in Japan generate more than 60 percent of its parent company’s overall revenue, which reached $11.2 billion in 2013. This is an indication that Uniqlo remains unsure how to accommodate its business model to disparate consumer environments.

Taketo Yamate, analyst at Credit Suisse, said, “The first-quarter results tell only half the story on how Uniqlo did last season. The second-quarter results will show how much Uniqlo marked down prices at the end of the season.” While he company continues to haul in massive revenue, doubling its operating profit in the first quarter while increasing revenue a whopping 77 percent, margins are surely narrowing as the company progressively relies more and more on discounting to lure in shoppers. Yamate forecasts that Uniqlo is on track to double its operating profit for 2014.

The second quarter results, just released today, April 10,  failed to meet the company’s loft expectations, and were especially unspectacular with respect to the Uniqlo’s domestic sales, the lynchpin of its retail dynamism. “We are going to change everything about how we do our operations in Japan 180 degrees,” the company’s chief executive, Tadashi Yanai, told a news conference.

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Fast Retailing Co. earned a net profit of Y22.7 billion, a 16 percent drop from last year, for the three months ending in February. World-wide sales still rose 26.5%. For the whole of 2014, the company amended its forecast for net profit to a more modest Y88 billion ($866 million), down from the previous estimate of Y92 billion.

Nevertheless, Fast Retailing sees further penetration into the U.S. market as a central part of an ambitious plan to expand globally. Business for Fast Retailing Co. has been booming. Its sales surged 22 percent to 389 billion yen ($3.76 billion) in the last three months ending in November. Net income leapt 8.8% to 41.8 billion yen ($398 million) for the same period. The company’s shares grew an astonishing 99 percent in Tokyo trading for 2013, swelling its market value to 4.6 trillion yen.

In 2013, Uniqlo opened new stores across the U.S. and in Indonesia, Paris, and Shanghai and plans to open more in Australia, China and Berlin. As it stands now, Fast Retailing Co. has 2,327 stores globally with 847 Uniqlo outlets in Japan and 359 abroad. It has plans to keep a pace of 200 to 300 store launches annually.

Uniqlo also intends to grow in minor Asian cities outside of Japan, like in Chiang Mai, Thailand. Since the average consumer in these cities has less access to disposable income, success in those markets requires offering more affordable apparel lines. “There’s a difference in the amount of money that customers can spend on clothes,” said Kunii. “So we need something that’s more within reach, even though that might mean a slight drop in quality. It would be reasonable and affordable, but maintain Uniqlo’s quality.

In efforts to better understand the U.S market, Fast Retailing has been recruiting top executives from American retailers, luring them from their employers with the promise of superior pay and greater managerial autonomy. Taking over as chief creative officer for Uniqlo Global Design is LeAnn Nealz, formerly a president at Juicy Couture. Nealz, who has also held executive positions at The Gap Inc. and Calvin Klein, will head design teams based in New York and Tokyo. Uniqlo’s e-commerce business will now be lead by John Fleming, who spearheaded web sales for Walmart. After top posts at Esprit and H&M, Jorgen Andersson has been hired as the new global chief marketing officer at Uniqlo. And formerly a general merchandising  manager for Express Inc., Steven Sare is now Uniqlo’s chief merchandising officer. Yanai, reportedly the richest man in Japan, said that the new hires will “help us launch the next stage of our global growth.”

The problem for Uniqlo is that its core business model hasn’t been gaining the traction among U.S. customers that it hoped for. The Tokyo-based retailer has previously relied upon an approach it called “Made for All,” which markets the same product lines, priced and sized the same, to all consumers regardless of location. This model has allowed them to streamline their supply chain and keep costs down.

The U.S. market, however, has prove resistant to this strategy. Kunii said, “There are many different ethnic groups in the United States, and this makes it tough to come up with the optimal range (to match the fit). But we need to do this, and want to come up with a solution as soon as possible.”

Kunii continued to explain that the American consumer generally wants a more generously sized garment than his or her Asian counterpart. Speaking to Reuters, he said, “This is going to be our next challenge in the United States: how to adjust our clothes for a more ‘3-D’ fit, particularly for women.” In the future, Uniqlo plans to customize approximately 10 percent of its apparel to suit local demand.

The commonly expressed anxiety among investment experts is that Uniqlo’s breakneck expansion of stores, particularly in the U.S. is not yet justified by its sales performance, leaving the company saddled with debt and a set of potentially underperforming stores.

Many experts see Uniqlo’s continuous international expansion as a hedge against sluggish domestic sales, missing already modest projections by 0.6%. The fast fashion retailer also ran into trouble particularly in the second half of 2013, due to a variety of contributing factors, including unseasonably warm weather that hurt sales of its autumn and winter clothing lines, steep discounts designed to attract more volume and basic operational and logistical problems that made it difficult for Uniqlo to keep its shelves adequately stocked with core products. In an attempt to revitalize slackening sales, Uniqlo announced its intention to scale down both its labor costs and sales promotion costs by 7 billion yen for the fourth quarter of 2013.