4 ways to play the shift to online shopping

Retail sales are moving online, but some retailers will be hit harder than others. Will you emerge from the retail shift a winner?

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My favourite ASX-listed way to profit from the impact of the internet on retailers is Goodman Group (ASX: GMG). I first looked at Goodman Group because of this excellent article by Motley Fool Analyst Matt Joass, and my interest was renewed when I noticed Motley Fool contributor Peter Andersen mentioned the company, and suggested it is oversold. I like companies run by founders, and it’s pleasing to see that co-founder and CEO Gregory Goodman, owns around 2.5% of the $8.2 billion company.

The company benefits from internet retail because it owns (among other things) a significant portfolio of industrial sites that are part of the distribution network that delivers parcels to customers. Property plays are outside my circle of competence, but I like the idea, and I note that two directors chose to reinvest their dividends recently. But are there other ways to play internet retailing; and what are the possible pitfalls?

When retailers are suffering, share prices will generally fall across the board. This can lead to opportunities to buy good retailers cheaply. My rule of thumb is to ask whether people need the product to be particularly comfortable, or if the product is sufficiently cheap that the online discount is irrelevant.

For example, I think that people want to test out beds and furniture before they purchase. Therefore, companies such as Nick Scali Limited (ASX: NCK) may present buying opportunities when sentiment turns against retailers (as occurred in 2012). Although the company’s shares are up since I wrote this article suggesting there was sales growth to come, the high price of these items means that big savings are available online, so it’s not an ideal option. I also don’t like the fact that a lot of capital is tied up in inventory.

The sweet spot is items that people like to try, and that are sufficiently inexpensive that the additional cost of buying in person is a fair trade. Like many others, I like to try shoes on for fit – especially running shoes. I also think that many women and men enjoy shoe shopping too much to want to buy many of their shoes online. RCG Corporation Limited (ASX: RCG) is an example of a shoe retailer: its Athlete’s Foot brand is performing solidly. The cheaper the items sold, the lower the cost (to the consumer) of buying in person. Friendly service will keep them coming back.

Department stores are sure to suffer, because they have lost their competitive edge. It is no longer valuable to the consumer to be able to find a whole range of styles in one place, because websites do that easily. Although they may present good value at sufficiently low prices, shares of companies like David Jones Limited (ASX: DJS) and Myer Holdings Ltd (ASX: MYR) would be unpleasant to hold if the stock market closed for 10 years. Yes, they do have online offerings, but their websites exist in a crowded space.

David Jones and Myer are too reliant on selling high-end goods like perfumes and designer brands. Once upon a time, people would head to David Jones to buy perfumes, now they can simply try them and buy cheaper elsewhere.

Once upon a time, if Myer didn’t have your size in a certain dress, you might have to compromise and buy another style. Now, you can simply buy it from a competitor 9,929 miles away.

For example, I recently tried to buy an item of clothing as a present, but it wasn’t in stock at either David Jones or Myer (I checked online, obviously). I ended up sourcing her presents from ASOS and Bloomingdales (and in the end, Bloomingdales sold me extra, with the offer of free postage). The goods were received in time, despite travelling across oceans aplenty.

For that reason, my fourth way to play the switch to online retailing is US-listed Amazon.com Inc (NASDAQ: AMZN). Amazon may not be profitable, but it is building a formidable distribution network, and has recently been increasing prices – just a little bit. The coming months may well provide – in hindsight – new evidence of Amazon’s pricing power. Either way, I expect the company to continue to undercut competitors for years to come. America is the main game for Amazon, but it’s already got a global customer base.

Foolish takeaway

I struggle to conceptualise how department stores can grow (though I believe they’ll survive in certain locations). My point is not to argue that the shares in those companies are overvalued: rather I’m arguing that their sales will decline over the long term, despite recent improvements. This is even truer in hard times, because the incentive to save a few dollars by buying online is greater. My psychology is such that I prefer to invest in growing companies with long-term tailwinds, although I like the idea of a contrarian investment in an undervalued retailer.

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Motley Fool contributor Claude Walker (@claudedwalker) finds it easier to shop online, and does not own shares in any of the companies mentioned in this article. He welcomes your feedback.

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