Where do you do your Christmas, birthday and everyday shopping? Do you prefer to wander around David Jones Limited’s (ASX: DJS) stores and try out the luxury leather sofas? Do you do your research at home and then venture into Harvey Norman Holdings Limited (ASX: HVN) to purchase? Or perhaps you’re content ordering a computer, DVD, or home theatre system online from JB Hi-Fi Limited (ASX: JBH)?
Either way, your shopping habits will most likely have an impact on your willingness to invest in a specific retailer. Perhaps you believe that David Jones’ merchandise is overpriced, the customer service at Myer Holdings Ltd (ASX: MYR) could be better, or that bricks-and-mortar retailers should give up now because online is the way of the future. An individual’s opinion of a company will always play a factor in deciding whether to invest.
Buy what you know
Well respected stock analyst Peter Lynch was always a proponent of “buy what you know”, and in the case of retail, what you know is your positive or negative experience while shopping. So investors should always take note of their fundamental experience of a company when considering becoming a shareholder.
The other side of the equation, of course, is whether the company’s future is bright and worth investing in. The team over at Morningstar did an analysis of the retail sector and identified their three favourite retail stocks based on the expected rise in consumer spending. Of the major retail companies, Morningstar believes those appealing to wealthier customers are likely to outperform.
During the critical Christmas period retailers noted a lift in sales and traffic generally, however it appears that luxury, department stores and mid/upper-tier specialty shops saw the biggest gains.
The top three
Morningstar’s three top companies exposed to the above theme are David Jones, Myer and Harvey Norman.
David Jones provides the best exposure to luxury markets through its exclusive deals with top-end fashion and accessories designers. Historically, Morningstar note, David Jones’ sales have increased in step with equity markets and house prices, meaning that the company could well be in for a good year after solid growth in 2013. The primary risk to the company is from established high-end online fashion companies.
The analysis points to Myer facing the same tailwinds and risks as its rival and one-time takeover target David Jones. Myer has an iconic brand and better gross margins from a higher proportion of private label products.
The electronics, appliances and furniture retailer has managed to withstand significant pressure from online and domestic rivals to come out largely a stronger company. Harvey Norman’s property portfolio provides a buffer during periods of lower margins and it remains a terrific one-stop shop for outfitting new houses. In a similar manner to Myer and David Jones, Harvey Norman was slow to adapt to internet retailing and its major threat will come from innovative and quick-footed rivals able to deliver lower prices to customers.
Investing in any company is often a combination of personal appeal and the underlying business. Peter Lynch’s famous mantra of investing in what you know can often produce terrific results for companies that are able to consistently deliver positive feedback and brand recognition from customers. When coupled with a solid analysis of the underlying business and drivers of future sales growth, an investor can decide whether to become a shareholder. Morningstar’s analysis shouldn’t be taken in isolation as a reason to invest, management skill, balance sheet strength and long-term future earnings potential are important factors to consider.
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Motley Fool writer Andrew Mudie does not own shares in any of the companies mentioned.