I’ve written a lot about the consumer this year. My opinions have centred around one simple notion – drastically higher interest rates will hit consumer spending hard. Today, Aritzia Inc. (TSX:ATZ) stands at an inflection point. What will this mean for Aritzia’s stock price in the coming years?
Aritzia’s revenue gets hit as consumer spending weakens
Back in July, Aritzia reported its first-quarter fiscal 2024 results. The most notable take-away from these results was the decelerating sales growth trend. This showed up as a 4.1% increase in same-store sales and a 13% increase in revenue. As you can see from Aritzia’s price graph below, the slowdown has not really taken the market by surprise. In fact, since the beginning of 2023, the stock has fallen 51%.
Clearly, Aritzia’s offering is considered discretionary. We don’t need any of their high-priced clothing, we just want it. So it follows that in difficult economic times, these purchases would be among the first to be cut. And Aritzia’s results have begun to reflect this reality.
According to management, the company started to see a deceleration beginning the first week of June. This is not good, yet, we should take a moment to recognize that the prior two years were exceptionally strong, with revenue growth of 50% and almost 75%. Aritzia has clearly done many things right. But today, with the reality of dramatically higher interest rates beginning to impact consumers, the future for this type of retailer will be difficult.
Next quarter will not be pretty
With the current macro backdrop, it’s an impossible environment for a retailer like Aritzia. Coming off of a very strong two years in which consumers were supported by record low interest rates, it seems like the only way is down. The tide has turned, and in my view, this year is just the beginning of Aritzia’s struggles.
As per management, existing clients are buying less and new client growth is decelerating. This is driving the poor outlook around same-store sales growth, which is hovering around zero, with the risk of negative comparables increasingly likely.
On top of this top-line pressure, Aritzia is also dealing with rising costs and higher expenses due to capital investment in their long-term growth plans. This is evident in the company’s deteriorating margins and earnings performance. For example, in its latest quarter, Aritzia’s gross profit margin declined by 540 basis points to 38.9%. Also, EPS came in at $0.10 versus $0.35 last year, for a more than 70% decline.
Valuation keeps falling
A few years ago, I remember being uncomfortable with the heights of Aritzia’s valuation. I stressed that the retail business is highly cyclical and that this risk should be reflected in valuations. Today, Aritzia’s stock price is trading at lower valuations. But, deteriorating fundamentals are what’s driving this. As a result, this is not a time to step in.
In my view, a retailer like Aritzia is not the type of retailer to invest in at this stage of the economic cycle. The declining trend in consumer discretionary spending will be too powerful to overcome.
