Nordstrom, Inc. (JWN): Will This Retailer Outgrow its Competition?

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After consumer confidence and retail sales rebounded in April, Wall Street has turned bullish on U.S. retail stocks. Despite weaker-than-expected earnings from Wal-Mart Stores, Inc. (NYSE:WMT) earlier this month, many investors still believe that upscale department stores, such as Nordstrom, Inc. (NYSE:JWN), Dillard’s, Inc. (NYSE:DDS) and Macy’s, Inc. (NYSE:M) will continue growing as they bleed their lower-end peers J.C. Penney Company, Inc. (NYSE:JCP) and Sears Holdings Corporation (NASDAQ:SHLD) dry.

Although Wall Street had high expectations for Nordstrom, Inc. (NYSE:JWN), the Seattle-based company disappointed investors by missing first quarter estimates on both its top and bottom lines. Nordstrom’s shares slid 4% after it reported earnings on May 16. This also followed a solid earnings beat from Macy’s, Inc. (NYSE:M) on May 15, which caused investors to wonder if the growth trajectories of these two upscale retailers were diverging.

A first quarter divergence

For its first quarter, Nordstrom, Inc. (NYSE:JWN) earned $0.73 per share, a 4.3% increase from the prior year quarter that missed the consensus estimate by three cents. By comparison, Macy’s earned $0.55 per share, up 28% from the prior year quarter and topping Wall Street expectations by two cents.

Sales growth painted a similar picture. Nordstrom, Inc. (NYSE:JWN)’s revenue rose 4.7% year-on-year to $2.75 billion but came up short of the $2.81 billion that analysts had expected. Same-store sales rose 2.7%. Meanwhile, Macy’s reported revenue growth of 4% to $6.39 billion, slightly ahead of the consensus forecast of $6.38 billion. Same-store sales rose 3.8%.

In short, Nordstrom, Inc. (NYSE:JWN) missed on both the top and bottom lines while Macy’s easily beat expectations. What caused Nordstrom to stumble and lose ground against Macy’s, and will this trend continue?

Lessons from J.C. Penney Company, Inc. (NYSE:JCP)

The dire fate of J.C. Penney has taught department stores some valuable lessons.

First, recognize and stay connected to your primary customer base. Second, constantly offer limited-time sales to keep customers coming back. Third, affordable luxury brands should be group together and emphasized to attract younger shoppers. Under former CEO Ron Johnson, J.C. Penney failed miserably on all three counts.

Nordstrom’s primary business is divided into three segments – full-line stores, Nordstrom Rack, and direct-to-consumer sales (including e-commerce). Same-store sales at its namesake full-line stores were flat from the prior year quarter, yet same-store sales at its off-price retailer, Nordstrom Rack, edged up 0.8%.

Following the off-price retailers

This indicates that the appeal of Nordstrom’s full-price offerings is declining, but the appeal of its discounted brand name goods is rising. This isn’t particularly surprising, since off-price retailers The TJX Companies, Inc. (NYSE:TJX) (TJ Maxx) and Ross Stores, Inc. (NASDAQ:ROST) recently reported April same-store sales growth of 8% and 7%, respectively.

Off-price retailers purchase off-season brand name merchandise at bulk discounts, storing and rotating them over several seasons to maintain a constantly refreshed supply of higher-end merchandise. This business model attracts a wide range of shoppers who are less concerned about the age of the style than the value of its brand. In this segment, Macy’s also competes with Nordstrom, TJX and Ross through its Bloomingdale’s outlet stores.

Although The TJX Companies, Inc. (NYSE:TJX) and Ross are known as discount stores, their margins aren’t as slim as you might think. Both TJX and Ross actually have higher profit margins than Macy’s or Nordstrom, as seen in the following chart.

Meanwhile, Nordstrom’s direct-to-consumer same-store sales, which include its e-commerce arm, rose 25%, highlighting the growing importance of online sales. Same-store sales across the company, with direct-to-consumer sales included, rose 3.1%, fueled by strong demand for cosmetics, women’s apparel and handbags.

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