Italtile’s bearish outlook

A glut of hardware materials could spark aggressive promotions among hardware retailers.

Hardware retailers had cemented their position as frontrunners in SA’s retail sector over the past two years compared with their struggling apparel counterparts. 

Although consumer spending was in the doldrums as rising living costs weighed on purse strings and consumers’ disposable income was eroded by a heap of debt while the economy was growing at a glacial pace, hardware retailers bucked the trend.

This was at the cost of apparel retailers who felt the pinch as consumers redirected their spend from discretionary income items such as clothing to improving their homes through do-it-yourself projects rather than purchasing new homes. This trend benefited Italtile, a retailer and franchisor of local and imported tiles, sanitaryware, bathware, laminated flooring and other related home-finishing products, which has consistently posted double-digit profit growth.

It now appears that the good times might soon be over for Italtile, judging from its unusually bearish outlook. As CFO Brandon Wood puts it: “what we are seeing is generally slowing demand for our products from last year and it has carried on in to January. There’s going to be a lot more competition among retailers than there used to be around.”

Despite the trading environment being competitive, Italtile, which owns brands including CTM, Top T and Italtile Retail, is still pulling double-digit growth, with its trading profit rising by 12% to R594 million on the back of a 14% increase in its system-wide turnover to R3.5 billion for the six months to December 31 2016. Like-on-like store (excluding new stores opened) revenue grew by 8.8% or 1.2% when its average price inflation of 7.6% during the period is included.

The performance of hardware retailers is usually the barometer for the state of the home building and construction market. Historically, Italtile’s advantage over its competitors rested on its something-for-everyone brands, which cater to LSM categories four to ten. Arguably, Italtile’s outlook is a sign of bad news to come from other retailers including Cashbuild and Spar Group’s Build it.

Two factors to blame for Italtile’s bearish outlook; the reluctance of top- and middle-income consumers to spend their money due to economic uncertainty while lower-income consumers appear to still invest in their homes, and the aggressive discounting and promotional activity by competitors.

On the latter, the strength in the rand by 12% against the dollar in the past year has worked in favour of Italtile’s competitors, who import a lot of their merchandise. Roughly 85% of Italtile’s tiles and other merchandise are locally sourced at competitive rates from Ceramic Industries (a tile manufacturer) and Ezee Tile (a manufacturer of grout, adhesive and related products) – with Italtile having a 20% and 46% stake respectively in both companies.

Wood says its competitors have taken advantage of the rand exchange movements by importing more merchandise into SA, resulting in a glut of stock in the market.  “This is going to create a competitive environment going forward, as retailers will try to move stock through aggressive pricing and promotions. We are probably entering a price deflation period in some of our merchandise categories.”

This means that Italtile will likely see margin (key metric for profitability) pressure and slower sales over the next six months.

Another pressure point is a slowing rate of residential building. Figures from FNB reveal that the residential building market remains weak, with 1.39 million square metres of residential space completed in the three months to November 2016, compared with the 2.70 million square metres completed in the three months to December 2005.

“While the currently moderate level of building activity is not great news for the development sector, it remains crucial to maintaining a reasonable balance between demand and supply in the residential market at a time of weak demand and a weak economy,” says FNB property strategist John Loos.

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