Big Consumer Litmus Comes Thursday

Same-store results should show improvement from June, but edgy investors will want a lot of reassurance.
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Summer clearance sales and early back-to-school shopping probably pulled July retail sales up from June levels, analysts say. The question is whether same-store results will be strong enough to extinguish fears about consumer weakness headed into the back half of 2004.

Overall July same-store sales should increase 3% to 4% when most reports are released Thursday, according to the International Council of Shopping Centers, or ICSC. That would compare to last year's 4.2% increase, June's 2.9% gain and May's 5.7% rise. The ICSC tracks about 80 retail chain stores.

"The early indication is that back-to-school demand is looking promising and the upcoming round of state sales tax holidays will help to spur customer traffic," said Michael Niemira, the ICSC's chief economist and director of research, in the second week of the month. Toward the end of the month, consumers "began thinking more seriously about back-to-school items," Niemira said.

June's same-store sales -- which were the weakest so far of the year -- left retailers feeling cautious, noted Tracy Mullin, president of the trade group National Retail Federation, or NRF. But she predicted a rebound in July sales, helped by summer clearance sales and back-to-school shopping. In addition, a recent NRF/BIGresearch survey found that families plan to spend 7.2% more on back-to-school-related items this year than last year.

July's results will provide a snapshot of the expected strength of back-to-school sales -- mostly for teen retailers who are among the first to rollout fall merchandise -- which analysts expect to be at least as strong as last season. Still, future same-store sales results are up against the most difficult comparisons of the year from July through September.

Among specific sectors, wholesale clubs and apparel retailers face the hardest aggregate comparisons from last year, according to ICSC data. Wholesalers posted an overall 5.9% increase in July 2003 same-store sales and apparel companies had an aggregate 4.5% rise. The discounters face a positive 4.3% comparison.

Since the beginning of the year, analysts have been obsessing over the way retail comparisons get more difficult as the year progresses. As a result, "all this talk for the last six months has reduced expectations ... They've already given away the second half of the year," said Ryan Erickson, a portfolio manager at Holt-Smith & Yates.

On the other hand, the lower expectations could make the most prosperous back-to-school retailers shine all the more. "When people are most negative, then you have the better potential to have the positive surprise," said Erickson, whose firm owns shares of

Target

(TGT) - Get Report

and

Kohl's

(KSS) - Get Report

.

The big question, then, is if sales will be robust enough to overcome the hard comparisons, especially considering that recent data shows the consumer has ratcheted back spending.

On Tuesday, government personal spending data for June showed a 0.7% drop, compared to a 1% increase in May. And in last week's second-quarter gross domestic product report, consumer spending increased just 1%, its weakest pace since the first quarter of 2001.

"We have predicted for many months that a consumer overreach would snap back just like a rubber band, pulling spending back -- possibly more than many expect -- well within the comfort zone of the average household," said Richard Hastings, retail sector analyst at Bernard Sands. "Anybody can see from looking at the explosive and unsustainable growth in home equity loans that households are reaching well beyond their spending capabilities."

Yet another closely watched economic indicator of overall consumer confidence is at its highest level in about two years. The Conference Board said last week that its reading of July consumer confidence came in at 106.1, the highest reading since June 2002. That was up from 102.8 in June and compared to a reading of 77 in July 2003.

This is why the market will be paying close attention to results from key companies on Thursday, particularly

Wal-Mart

(WMT) - Get Report

and Target. Both expect lower same-store sales growth than in previous months this year, although both have also been pretty confident about hitting those targets, reiterating them each week of the month.

Target expects sales growth to come in above 2%. Wal-Mart is expecting an increase of 2% to 4%.

"The initial effects of the 2003 tax stimulus program were seen in June of last year as withholding tables were adjusted. We have now anniversaried these reductions and the impact of child-care tax credits will begin to be seen in July," Wal-Mart said in its July 12 weekly sales update, explaining its expected lower results. The company faces a difficult 4.6% same-store sales increase from July 2003, while Target is up against a 4.3% gain.

Meanwhile, two teen retailers,

American Eagle Outfitters

(AEOS)

and

Aeropostale

(ARO)

, should see big gains from early back-to-school shopping, said Dana Cohen, an analyst at Banc of America Securities. The analyst noted that American Eagle had its back-to-school merchandise out by July 15, and it also has an easy negative 10.1% comparison from July last year. As a result, Cohen is expecting July same-store sales to be up 9% to 11%.

Aeropostale "continues to benefit from trend-right product, a strong denim presentation and a fall marketing campaign featuring Mischa Barton," Cohen said. But even with a harder 19.3% same-store sales comparison from last year, Cohen is still calling for a 8% to 12% increase in July same-store sales. (Banc of America has an investment banking relationship with both retailers.)