Hypermarkets And Super Centers: Walmart No Longer The Dominant Force It Once Was
Costco is outperforming the competition in an industry dominated by three major players
Hypermarkets and super centers, a sub-industry within the food and staples retailing industry, comprises large retailers that buy food and staples from manufacturers around the world and sell them to end consumers. They are one-stop shops, and house everything from grocery to apparel under a single roof, which ranges in size from approximately 71,000-219,000 square feet.
The total size of the US hypermarkets and super centers industry by revenues is $644 billion, 99% of which is controlled by Wal-Mart Stores, Inc. (WMT), The Target Corporation (TGT) and the Costco Wholesale Corporation (COST). Costco is the youngest company among the three. It opened its first store in 1983, nearly 21 years after Target and Walmart opened their first stores in 1962.
This industry is moderately cyclical, as the low price elasticity of demand for consumer staples shields its performance during recessionary periods. As the industry recovers from the 2008 recession, its revenues have grown approximately 5.6% every year for the last three years.
Within the industry, both Walmart and Target seem to be losing customers to Costco. Their market share by revenues decreased by approximately 1-2 percentage points (ppts) over 2009-2012, while Costco’s share increased by approximately 2.5ppts over the same period. Although these changes may seem small, they signal possible threats to Walmart and Target’s growth prospects in the long run.
Comparison of Key Industry Players:
The three major retailers cater to different categories of consumers. Walmart’s customer base has an average yearly household income of approximately $35,000, while Target caters to a customer base which has an average yearly household income of $50,000, and Costco customer base has an average household income of $80,000.
Walmart – the market leader by revenues – holds approximately 73% of the market share. In addition to Walmart Supercenters and warehouses, the retailer also runs smaller stores, which range in size from 3,000-64,000 square feet.
Key Performance Indicators:
Retailers’ performance depends greatly on the quality of customer service and how many private label brands they stock. Their performance can also be gauged using metrics like comparable store sales, capital expenditures, sales productivity and US disposable personal income.
The global retail industry is witnessing a paradigm shift, and shopping is becoming an entertainment activity for customers. Shoppers increasingly want to be treated well, and revenue growth has therefore become exceedingly dependent on customer service.
Costco has been able to grow revenues at a higher five-year annual growth rate of 9% if compared to its peers, primarily because it provides better customer service and pays attention to the design and aesthetic layout of its stores. Costco also pays workers approximately double the wages Walmart and Target pay, which is why its workforce is more motivated and provides better service to walk-in customers.
Private Labels and Exclusive Brands:
Private labels and exclusive brands contribute approximately 15-35% to these retailers’ total revenues. These include branded products which are produced in-house, and/or bought from external sources and sold at prices lower than other branded products, which helps boost gross margins.
Target has the highest gross margins amongst competitors because it sells more private and exclusive label brands than its competitors. These products contribute approximately 33% of Target’s total revenues
Source: Company data, sell side estimates
Comparable Store Sales:
Comparable Store Sales (comps) is a measure of annual growth in revenues generated by stores open for more than a year. Comps data also includes e-commerce sales, but excludes the impact of changes in gas prices.*
Comps data is a major stock price driver within the industry, as it allows for a fair comparison between revenue growth rates of different companies.
*Walmart measures comps excluding gas sales altogether, while Costco calculates it excluding only the YoY impact of gas prices.
Source: Bloomberg data
Capital Expenditures (capex):
Expansion is another important revenue driver for the industry. Total capital expenditures by the hypermarket and super center industry totaled nearly $17.7 billion in 2012. Walmart, Target, and Costco spent a major portion of their capex (approximately 47%) on new stores, while they spent the rest on remodeling, IT, and distribution.
In 2013, the three retailers are expected to spend over 50% of their total capex on expansion.
Source: Company data, Bidness Etc’s estimates
Walmart’s Focus on Neighborhood Markets:
Walmart plans to expand its Neighborhood Markets by 75% over the next year. These stores, which are one-fifth the size of a Walmart Supercenter, will be located near urban centers for convenience, but will price products higher than other Walmart stores.
It is expected that Neighborhood Markets will help Walmart grow revenues by providing customers easier access to stores, while the higher prices will simultaneously help improve gross margins.
Costco has higher sales productivity, or in other words, it generates more revenues per square foot than both Walmart and Target. In 2012, Costco generated approximately $1,140 in revenues per square foot, as compared to Walmart and Target’s $462 and $304 per square foot, respectively.
Source: Sell side estimates
US Disposable Personal Income:
Customers’ disposable personal income is a key demand driver for consumer staples, and changes in stock prices of major players in the hypermarkets and super centers industry have, on average, a correlation of approximately 0.85 to changes in US disposable personal income.
Relative Stock Performance:
Costco’s stock price has outperformed both Target and Walmart’s stock prices by approximately 53% over the five-year period ending September 2013. This is attributable to its five-year revenue compound annual growth rate (CAGR) of nearly 9%, compared to Walmart and Target’s 4.4% and 3% respectively.
Costco also outperformed the SPDR Consumer Staples ETF (XLP) by 10% over the same period, while Walmart and Target underperformed XLP by approximately 44%.
The hypermarket and super center industry is continuing to expand, with analysts estimating 4-4.5% growth in annual revenues over the next three years. The industry remains a safe investment due to the low price elasticity of demand for its products, and low beta values of industry stocks.
However, there are certain risks associated with investing in the industry. For example, weak penetration into e-commerce poses a serious threat to its long-term growth prospects. E-commerce sales contribute only 1.5-2.5% of Walmart, Target and Costco’s total sales, and if there is a major shift towards online retailing, traditional brick-and-mortar retailers like these three might lose market share to established online retailers like Amazon.com, Inc. (AMZN), e-Bay Inc. (EBAY), etc.
Furthermore, as US markets mature, industry players are becoming increasingly dependent on international markets for future growth. Failure to meet expectations regarding expansion into international markets can also have a significant negative impact on the industry’s future prospects.
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