Consumer spending activity, which is one of the pivotal factors driving the economy, has somewhat slowed down. Underlying inflationary pressure, a slowing labor market, a higher interest rate environment and reductions in pandemic savings have collectively dampened demand. Of late, players in the Zacks Retail – Discount Stores industry have been encountering these headwinds.

That said, industry participants have been focusing on deepening engagements with consumers, adding more compelling products and enhancing digital and data analytics capabilities. Inventory management, supply-chain enhancement, cost-structure realignment and investments to accelerate digitization have been working in favor of companies like Costco Wholesale Corporation COST, The TJX Companies, Inc. TJX, Target Corporation TGT and Ross Stores, Inc. ROST.

About the Industry

The Retail – Discount Stores industry comprises companies that offer apparel, accessories, footwear, beauty products, personal and baby care products, cleaning products, pet supplies, and food and beverage products at lower prices than traditional retail outlets. The industry participants also provide home textiles, home furnishings, housewares, art and craft supplies, toys and seasonal decor products. These companies sell their products through stores, digital channels, or both. Some industry players operate membership shopping warehouse clubs, offering branded and private-label products in a range of merchandise categories. Most discount stores are gradually emerging as one-stop shopping destinations. The profitability of players depends on a prudent pricing model, a well-organized supply chain and an effective merchandising strategy.

4 Key Industry Trends to Watch

Soft Demand May Hit Revenues: The industry’s prospects are correlated with the purchasing power of consumers. Consumer spending, a key catalyst for the economy, has recently shown signs of slowing down. Several factors have come into play, including underlying inflationary pressure, a slowing labor market, a higher interest rate environment and reductions in pandemic savings. We note that U.S. retail sales experienced a slight uptick in June 2023, falling short of analysts’ expectations. Retail sales showed 0.2% growth, marking a deceleration from the 0.5% growth recorded in May. Additionally, there are indications that the Federal Reserve is likely to resume raising interest rates this month, following a period of unchanged rates in June.

Pressure on Margins to Linger: Companies in the industry are vying for a bigger share on attributes such as price, products and speed to market. Further, the increasing dominance of e-commerce players has made the retail-discount space highly competitive. This has compelled many players to strengthen their digital ecosystem and boost shipping and delivery capabilities. While these endeavors drive sales, they entail high costs. Apart from these, higher marketing, advertising and other store-related expenses might compress margins. Of late, the industry participants have been dealing with product cost inflation. Nonetheless, companies have been focusing on undertaking initiatives to mitigate cost-related challenges. These include streamlining operational structures, optimizing supply networks and adopting effective pricing policies.

Consumers Seek Better Bargains: The strategy to sell products at discounted prices has helped industry players draw customers in low-to-middle-income groups who have been seeking both value and convenience, particularly in the face of rising prices. Industry participants have been focusing on creating innovative and compelling products and enhancing digital and data analytics capabilities to attract price-sensitive consumers.

Digitization Is the Key to Growth: With the change in consumer shopping patterns, industry participants have been evolving to play dual in-store and online roles. Initiatives, such as building omnichannel, coming up with loyalty and marketing programs, enhancing the supply chain and providing faster delivery options, be it doorstep delivery, curbside pickup or buy online and pick up at the store, are worth mentioning. Simultaneously, companies are investing in renovation, improved checkouts and mobile point-of-sale capabilities to keep stores relevant. Keeping in mind consumers’ product preferences and growing inclination toward online shopping, retailers have been replenishing shelves with in-demand merchandise and ramping up investments in digitization.

Zacks Industry Rank Indicates Bleak Prospects

The Zacks Retail – Discount Stores industry is housed within the broader Zacks Retail – Wholesale sector. The industry currently carries a Zacks Industry Rank #235, which places it in the bottom 6% of more than 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates drab near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperform the bottom 50% by a factor of more than 2 to 1. The industry’s positioning in the bottom 50% of the Zacks-ranked industries is a result of the negative earnings outlook for the constituent companies in aggregate.

Looking at the aggregate earnings estimate revisions, it appears that analysts are losing confidence in this group’s earnings growth potential. Since the beginning of January 2023, the industry’s earnings estimate has declined 10.5%.

Before we present a few stocks that you may want to consider for your portfolio, let’s take a look at the industry’s recent stock-market performance and valuation picture.

Industry vs. Broader Market

The Zacks Retail – Discount Stores industry has underperformed the broader Retail – Wholesale sector and the Zacks S&P 500 composite over the past year.

Stocks in this industry have collectively increased 3%. Meanwhile, the Zacks Retail – Wholesale sector has risen 6.8% and the S&P 500 has rallied 14.1% in the said time frame.

Industry’s Current Valuation

On the basis of a forward 12-month price-to-earnings (P/E) ratio, which is commonly used for valuing retail stocks, the industry is currently trading at 25.13 compared with the S&P 500’s 20.14 and the sector’s 23.62.

Over the last five years, the industry has traded as high as 29.98X and as low as 18.04X, with the median being at 23.59X.

4 Retail Discount Store Stocks to Keep a Close Eye On

Costco: The discount retailer’s growth strategies, better price management and decent membership trends have been contributing to its performance. Cumulatively, these factors have been aiding this Issaquah, WA-based company in registering decent sales numbers. The company’s distinctive membership business model and pricing power set it apart from traditional players. We believe a favorable product mix, steady store traffic, pricing strength and strong liquidity should benefit Costco.

Costco has a trailing four-quarter earnings surprise of 1.8%, on average. It has an estimated long-term earnings growth rate of 8.3%. The Zacks Consensus Estimate for current financial-year revenues and EPS suggests growth of 6.7% and 9.6%, respectively, from the year-ago reported figure. Shares of this Zacks Rank #3 (Hold) company have risen 12.5% in the past six months. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

The TJX Companies: This Framingham, MA-based company’s flexible off-price business model, store expansion strategies, strong vendor relationship and availability of branded merchandise provide tremendous opportunities to drive sales and traffic. With a successful “treasure hunt” shopping experience, The TJX Companies attracts bargain hunters seeking high-quality products at a fraction of regular retail prices.

Impressively, The TJX Companies has a trailing four-quarter earnings surprise of 4.4%, on average. It has an estimated long-term earnings growth rate of 10.5%. The Zacks Consensus Estimate for the current financial-year revenues and EPS suggests growth of 6.4% and 14.8%, respectively, from the year-ago reported figure. We note that shares of this Zacks Rank #3 company have increased 8.1% in the past six months.

Target: This Minneapolis, MN-based company has been making multiple changes to its business model to adapt and stay relevant in the dynamic retail landscape. Target has been deploying resources to enhance omnichannel capabilities, come up with new brands, refurbish stores and expand same-day delivery options to provide customers with a seamless shopping experience. These have been contributing to the top line.

Impressively, Target has an estimated long-term earnings growth rate of 15.4%. The Zacks Consensus Estimate for the current financial-year revenues and EPS suggests growth of 1.1% and 36.1%, respectively, from the year-ago reported figure. We note that shares of this Zacks Rank #3 company have declined 19.4% in the past six months.

Ross Stores: The store expansion strategy, combined with the company’s strong brand reputation and off-price retail model, positions Ross Stores for success in the dynamic retail landscape. The company has ambitious goals, aiming to reach at least 2,900 Ross Dress for Less and 700 dd’s DISCOUNTS locations over time. By expanding its store network, the company strengthens brand visibility, captures new customer segments and unlocks potential sales growth.

Ross Stores has an estimated long-term earnings growth rate of 10.5%. The Zacks Consensus Estimate for the current financial-year revenues and EPS suggests growth of 4.6% and 12.6%, respectively, from the year-ago reported figure. Impressively, Ross Stores has a trailing four-quarter earnings surprise of 11.5%, on average. Shares of this Zacks Rank #3 company have fallen 2.8% in the past six months.
Costco Wholesale Corporation (COST): Free Stock Analysis Report

Target Corporation (TGT): Free Stock Analysis Report

The TJX Companies, Inc. (TJX): Free Stock Analysis Report

Ross Stores, Inc. (ROST): Free Stock Analysis Report

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