Major retailers 'not expecting a much better 2023' amid operational headwinds: Analyst

S&P Global Ratings Retail Director Diya Iyer previews retail earnings and details how a challenging operating environment amid rescission fears and dwindling consumer savings may impact investor expectations.

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- Our next guest says with cautious consumers and depleting savings, top line pressure should be expected. Diya Iyer, who's S&P Global Ratings retail director is joining us now. Thanks for being here. So as we look ahead to these results, is that the sort of theme we should keep in mind that basically, don't expect much?

DIYA IYER: Yeah. Hi. Good morning. Thank you for having me. Yes, I think that 2022 obviously was a very challenging year for a lot of these big box names.

But we're not expecting a much better 2023 in the sense even though you're lapping that tough '22, that was sort of supply chain driven. It was cost driven. That was the profit pressure.

Now we're seeing that stabilized. But we're seeing a different set of challenges. We're seeing top line pressure because of the consumer because of inflation and all the various demands that they now have on their own wallets.

- How would you classify this consumer? Banks have said that it's a healthy consumer. We've heard resilient used as well. How would you say that the consumer is engaging with some of the largest retail brands that we're waiting to hear from this week?

DIYA IYER: Yeah, I think part of that comes from that big savings bump that they received in the pandemic. And it's taken a long time to deplete that. So even through '22, that was in place. I think we are seeing more pressure this year, though, for a variety of reasons, unemployment showing cracks, inflation persisting, discretionary demand not what it was even a year ago, and bigger expenses around gas around food, even for the high end customer. A new trend we're seeing is that customer really trading down in a meaningful way.

So you could start to see why Walmart probably will do pretty well this week, even Costco. But I think luxury was an area we thought really could sustain. But even that consumer is coming down pretty quickly this year.

- Now, I know you're a credit analyst, so you're looking at that side of the equation as well. And I am curious, in this kind of rate environment that is also a tough consumer environment, are we going to see more retailers raising more capital? Or how are we going to see them sort of trying to attack some of their, maybe, capital shortfalls in this environment?

DIYA IYER: Right. Great question. So good news, a lot of them stockpiled a lot of cash over the past few years that brought leverage metrics down. Debt loads were not very high.

So again, they've come into this challenging time fairly well equipped to handle that from the numbers that we look at with your credit metrics. But in terms of where capital comes from next-- I mean, it's really store closures, unfortunately, maintaining capital spending at lower levels as they bring store counts down. You're seeing that in malls for a long time. But now, you're also seeing that off mall.

You've seen everyone from the superstores, to the drugstores, to specialty names, home, so many of them closing stores to maintain that capital. So I think that is a trend that will continue, especially as we also note shrink level shortage levels of inventory challenged in urban areas. So companies are really trying to look carefully at their overall footprints.

- We already got results from Amazon weeks ago. Did what they say on e-commerce set up what's the reality or the common denominator could be for a lot of the other major retail players?

DIYA IYER: Yeah, I think so. I mean, that obviously was an area that gained share for a lot of these names. But even for a Costco, for instance, they sort of can't offset the lower foot traffic with online as much as I think we had expected. I think Target might see some pressure there too.

In some ways, this will be an easier year because they're lapping such a difficult '22. There should be just more upside. But I would completely agree what Amazon said is consistent with what we're expecting for retailers this week.

- Furthermore, on a retail bellwether, of course, the behemoth that is set to report Walmart, if Walmart comes out and says that this fiscal, or rather, full year is going to be a down or a compressed year in comparisons to years prior, what does that kind of set up for more broadly the rest of the markets? How might that also trade on just what Walmart has to say?

DIYA IYER: Yeah, definitely an important bellwether we're all watching this week. We actually expect them to have a pretty decent quarter. And guidance shouldn't surprise to the downside the way it really did a year ago for these big box names. So mid-single digit revenue is sort of the expectation relative to maybe a low-single digit for Target. And a lot of that, again, trade down for grocery in particular has been a real win.

Walmart has also been streamlining their brands, really evaluating their portfolio in areas like apparel, bringing some of that more in-house, and rethinking some of the big acquisitions they had done over the years. So I think in all of those ways, plus the supply chain, there is a view that hopefully, the situation has stabilized from a year ago. You already started to see that over Christmas. So I think in terms of guidance for profitability, it should at least kind of bring them back closer to pre-pandemic levels, which has been our base case going forward.

- Well, we will see if any of them believe that generative AI can solve some of the near-term problems as well. Diya Iyer, who is the S&P Global Ratings retail director, great to have you here with us this morning. Thanks for previewing and teeing up the retail earnings season here.

DIYA IYER: No problem. Thanks for having me. Have a good day.