The upcoming 1H25e reporting season will reveal divergent fortunes for retailers. We expect more retailers to report a decline in earnings than those with growth. While retail sales growth is improving, its not yet enough to cover cost growth. Retailers that could surprise on the upside are JB Hi-Fi and Breville. Those that may disappoint relative to Visible Alpha consensus expectations include Wesfarmers and Woolworths.

We have initiated coverage of Myer (MYR), a domestically focused department store retailer with an industry leading loyalty program, a $700 million online business and a national store footprint of over 50 stores. Myer department stores have a value proposition in the in the mid to high value range. While the merger of Myer and Premier Apparel Brands builds scale, the combined business has weak sales trends and thin margins. Earnings growth in the next three years is driven by the delivery of synergies. The combined group will then grow modestly unless we see the exit of one or more competitors. Any misstep in achieving the synergies will not be well received in our view. 

Chemist Warehouse has provided a trading update for the 1H25 results last week subsequent to shareholder approval of the merger with Sigma Healthcare. The 1H25 results are very strong with profit margins up 138bp (on network sales) in 1H25. What’s driving results? While not disclosed, we estimate more than half comes from higher gross margins with a benefit from the new Sigma supply agreement. We expect FY25e EBIT margins to be up 101bp. We now set our long-term EBIT margin for Chemist Warehouse at 8.2% of network sales compared with 7.4% previously. 

Australian inflation for the December 2024 quarter shows an easing of inflation across retail categories as well as the underlying rate of inflation across the economy. The drop in inflation in food retail is a headwind to sales growth that is likely to persist in 2025 in our view. In non-food retail we have seen a drop in inflation in hardware, electronics and clothing. A further easing of inflation may not eventuate given the lower Australian dollar. Financial markets are increasingly pricing a 25bp rate cut for February 2025, which will be supportive of retail. The bigger issue for us is the overall rate cutting cycle may be shallow and therefore offer only mild stimulus to retail sales. We see lower interest rates boosting retail sales by 0.5% to 1.5%.

Australian retail sales rose 4.0% in December 2024, with some notable outliers across segments. Electronics was up 11%, furniture up 8% and pharmacy up 7%. On the other hand, department stores, supermarkets, liquor and recreational goods were all very soft. Some of the shifts reflect the baseline with December compound annual growth rates actually slower than November for all categories other than hardware and liquor.

The link provides a presentation associated with a webinar we held. The webinar addressed our retail sales forecasts for 2025. In the presentation, we answered some of the big questions on everyone’s minds, the impact of interest rate cuts, how elections impact spending and the outlook for retail sales across categories.

Australian retail sales growth finished 2024 better than where it started, and the good news is we are likely to see a stronger growth rate for 2025. We forecast 3.6% retail sales growth this year, up from 2.6% in 2024. We see a stronger recovery in non-food retail, particularly household goods. While a good year, much of the support to spending comes from tax cuts and rate cuts, making it hard to see further gains beyond June 2026. Moreover, geopolitical risks (both positive and negative) feel larger this year. Both retailers and investors should have contingency plans.

We have initiated coverage of Guzman y Gomez (GyG), a fast-food retailer offering Mexican-style cuisine that has exhibited strong like-for-like growth in recent years with a targeted store rollout in the Australian market.  Accelerating store openings combined with margin expansion are the key elements to this growth story. GyG’s Australian store productivity is industry leading and the scope to add more drive-thru stores is substantial. Moreover, fixed cost leverage and higher franchise royalty rates will support a doubling of EBITDA margins over the next four years. 

Premier Investments’ trading update highlights negative operating leverage to soft sales trends.  Premier Retail expects sales to fall 2% with EBIT down 21% at the mid-point of guidance.  The surprise in this result is the inability to cut costs given weak sales. Perhaps there are fewer variable costs that can be cut without damaging sales.

City Chic’s trading update for 1H25e shows an improvement in sales compared with six months ago, but ongoing challenges in the US and operating losses. We expect better profit margins in 2H25e given cost savings and more full-priced sales. However, we are more cautious on the sales outlook. Fundamentally, City Chic has stabilised its business, but the prospect for decent profit margins is still some way off.