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Burlington CEO: ‘We Left Significant Sales Dollars on the Table’

Off-price retailers remain the sector’s bright spot but they have department stores to blame for some of their recent supply snafus.

That’s because department stores have been a key source of supply for off pricers, given the huge amounts of surplus inventory that failed to sell in season.

Retailers can either sell the goods directly to the off pricers, or more commonly send back unwanted inventory to vendors, which in turn offload the excess product to the off-price channel. Department stores sometimes place orders and then cancel them for one reason or another, such as a late delivery, leaving vendors with extra supply that needs to find a home.

This year, department stores canceled whatever orders they could at the start of the coronavirus outbreak in the U.S. in mid-March. But much of the canceled orders were for product not yet put into production. Those that were in middle of production either were finished later and are on hold for delivery next year, or were delivered after the intended season was over. In the latter case, those goods are now packed up in retailers’ warehouses if they accepted delivery or were left with vendors who were cutting deals with off price and discount outlets to recapture some of their costs of production on the canceled orders.

Department stores up their inventory management game

In the new normal, some retail patterns are emerging in the wake of global pandemic. And department stores for their part are deploying different tactics.

“Much of the merchandise is being disposed of in many ways. Some are packed up, some are sent back to the manufacturer and some are sent to other countries for disposal. In all cases, retailers are trying to get back into a seasonal collection,” said retail consultant Walter Loeb.

Some retailers elected to pack up unsold spring merchandise to save for next year, one example they copied from the off-pricers, who often make opportunistic buys at the end of a season and then pack away for the following year. But retailers packing away goods also means less product immediately available that might have been sold elsewhere. According to Loeb, some leftover winter goods were sold to South America, just in time for the start of their winter season.

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And retailers in general are planning more conservatively by reducing inventory levels as they head into the back half. Macy’s CEO Jeff Gennette said back on July 1, announcing 3,900 job cuts, that an uptick in digital business couldn’t compensate for steep declines in brick-and-mortar sales. He also noted ongoing uncertainty around the pandemic and the possibility of localized store closures. Both problems are signs that inventory levels will have to be lowered if Macy’s, which reports second-quarter earnings results on Wednesday, is to have some measure of gross margin profits in the quarters ahead.

Nordstrom executives said last month that they exited the second quarter with clean inventory levels, most of that due to cancelation of orders back in March. The company said it reduced inventory levels by 25 percent in the first quarter, a move that helped to mitigate markdowns on seasonal inventory and benefit merchandise margin trends in the second quarter.

While tight inventory management is the new buzz phrase in the retail world, it’s a strategy and tool that also helped even specialty retailer Abercrombie & Fitch deliver a second-quarter earnings surprise on profits and sales. Eighty percent of its California stores remain closed due to the recent rise in coronavirus cases, but digital sales helped offset those temporary closures. The sourcing team has been chasing into need, which has meant that leaner inventory has translated into lower promotions and clearance, and improved average unit retail, according to CEO Fran Horowitz.

What off-price retailers are saying

In recent quarterly conference calls, the big three off-pricers—TJX, Ross and Burlington—all lamented their problems securing inventory during the second quarter.

TJX blamed logistical challenges and supply-chain snafus for dragging down second-quarter results. Vendors hamstrung by social-distancing rules couldn’t ship product as quickly as need, and not all of the “ample” goods available on the market were a fit for TJX’s nameplates. CEO Ernie Herrman said TJX has started making some purchases for packaways earmarked for Q1. He expects that as consumers become more comfortable with in-store shopping, business should pick up in the back half of the year.

“There’s a lot of supply out there, just not as consistently across the merchandise areas. We believe this creates opportunity in some areas and gaps in others,” Barbara Rentler, Ross Stores CEO, told Wall Street analysts. While existing pack-and-hold stock helped to bolster depleted inventory levels, the company is now chasing opportunities for both packaways and to flow goods into the stores.

Burlington on Thursday posted a second-quarter net loss of $46.8 million, or 71 cents a diluted share, against net income of $84.6 million, or $1.26, in the year-ago quarter. Total revenue fell 39.1 percent to $1.012 billion, which included a 39.0 percent decline in net sales to $1.009 billion.

Burlington CEO Michael O’Sullivan told analysts that strong sales began to fall off “dramatically as we struggled to replenish the depleted inventory levels in our stores,” echoing concerns voiced by rival TJX. Buyers in May and June saw “tremendous availability across merchandise categories” and wrote “hundreds of millions of dollars of orders,” he said. But some vendors were still bringing their own distribution facilities back online and the new merchandise receipts didn’t begin to flow until July, considerably later than needed.

“We could see the sell-through that we were getting, or the limited receipts that were arriving in stores. So we know that we left significant sales dollars on the table,” O’Sullivan said. While inventory levels are back up in the stores, some vendors are still having issues with their distribution systems, he added.

Back-to-school and Q3

Retailers such as Target and Kohl’s have noted that back-to-school has been off to a slow start, indicating that the seasonal selling period could stretch into late September, while Abercrombie’s Horowitz believes it might last into October. Kohl’s also warned that sales might sluggish in the months ahead, given the expected resurgence of Covid-19. The timing of the back-to-school season could be a plus or minus for off-price merchants. If retailers are staying lean and selling through most of their deliveries, anything sent back to vendors might not be enough to meet off-pricers’ usual minimum quantities. And back-to-school lasts until October, off-pricers wouldn’t have access to oversupply until the season is over, leaving pack and hold as the only option.

The Burlington CEO was cautious about BTS and the third quarter, noting that much will depend on how sales trends pan out, which in turn could provide some opportunity for the off-price channel.

“The important thing I think, to understand about…merchandise availability, in off-price is that it’s a function not only of how much merchandise has actually been produced, but it’s also a function of what is happening to the sales growth [trends] in department stores and other retailers, even if vendors have produced less merchandise this year and I’m sure for many vendors that can be the case,”O’Sullivan said. “We may still see significant off-price availability, if the retailers that those goods were made for experience an even weaker trend than they had expected.”

He cited BTS as possibly one example, noting that back in February and March there were concerns raised about the supply for the different BTS categories given how the coronavirus crisis unraveled supply chains in Asia. “Now, depending on how things unfold over the next few weeks, the level of demand in these categories across retail could be even less than was produced. So if things turn out that way, that could generate additional price supply. And in our case, that would mean that we might take advantage of [supply] for pack and hold,” he said.

Where supply has tightened and Q4

Consumer behavior has evolved at a rapid clip since the pandemic struck the U.S. in March. Gennette earlier this summer said home items will play a larger role in holiday sales, citing for example customers doing more baking this winter.

And as other retailers have noted similar shopping preferences among their customer base, home is one of those categories where some items are in tighter supply.

“I would say that there’s still a plentiful supply of merchandise, but there are pockets where we’re tightened,” O’Sullivan said, pointing to “certain” home categories as well as  “some seasonal businesses” affected by Asian factory shutdowns that put inventory in those areas into limited supply. “You know, other than those two areas, I would say there’s still plenty of merchandise available.”

Looking ahead to the fourth quarter and beyond, retailers have already said they will unleash promotions earlier to elongate the holiday shopping season and better manage store volume. Some deals could begin after Halloween, as some retailers have said. Loeb believes consumers will still wait until after Thanksgiving, which has long served as the season’s officially unofficial kickoff. And with more stores closing on Thanksgiving Day, the “focus will be on Black Friday this year,” he said.

As for constrained inventory receipts, there could be ongoing issues connected to holiday. “These problems are subsiding but not completely resolved, which could cause problems into a ramp for holiday and may pressure supply chain costs,” said Cowen & Co. analyst John Kernan, referring to retailers chasing sales on lower inventory levels and issues vendors had in getting back to full capacity. Separately, distribution disruption remains an issue since some suppliers are on the West Coast and are again dealing with shutdowns as the viral outbreak resurges.

“Covid-19’s impact on store traffic, back-to-school, off-price industry supply chains, inventory availability, and fashion, are key reasons Burlington’s [third quarter to date] sales are trending down roughly 20 percent year-over-year. We expect all of these issues to go away over time. However, that time is not likely coming soon,” UBS analyst Jay Sole said. While the health emergency is proving more challenging to navigate for the off-price retailers than expected and “sales growth will likely be difficult to generate in the near-term,” Sole saidBurlington should come out as a long-term share gainer, given that many “rivals [in the retail sector] will be forced to close stores, but Burlington will not.”
According to O’Sullivan, the retail industry has been undergoing a significant restructuring that started long before the pandemic.
“We believe that the two principal underlying drivers of this industry restructuring are the consumers need and desire growing need and desire for value and separately, the growth of e-commerce,” he said. “We believe that both of these trends undermine the viability of traditional department store and specialty retailers, and that they have been forcing these retailers to adapt to rationalize and to close stores.” The growth of e-commerce also has driven retailers to close physical locations, with many of the more value-oriented shoppers from these stores finding their way to off-price, he added.

“The Covid-19 pandemic has created a situation that in the short term, possibly for the next several quarters…will be very uncomfortable and challenging for all of us to manage through,” O’Sullivan said. “But for the reasons that I’ve described, we believe that once we get to the other side, [there will be] longer-term market share opportunities for off-price retail that will be greater than they were before.”