The Australian retail market is a highly dynamic one and appears to evolve almost in perpetuity alongside changing consumer trends and preferences. As a developed nation, the sector’s relative importance to the economy is significant with retail trade employing 10.7% of the total population1 and household final consumption accounting for 55.4% of Gross Domestic Product (GDP)2.
It comes as little surprise then that due to this sector’s maturity, scale and relative importance, retail real estate makes up 64% of the total AREIT market. It is also unsurprising that competition for expenditure from the Australian consumer is also fierce, with retailers now more than ever forced to ensure their products are relevant and operations remain profitable.
Retail sector performance and trends
Retail sector performance throughout 2015 was encouraging and no doubt assisted by an easing in domestic interest rate policy, lower petrol prices and the embedded wealth effect from increasing house prices. Total retail sales printed a Year-on-Year (YoY) growth rate of 4.1% to November3.
Performance across the various retail sectors was mixed; food retail declined to 2.2% YoY growth from 3.6% in October, reflecting elevated price competition in this segment, while clothing, footwear and department store sales in particular experienced more favourable relative YoY sales growth of 6.8%, 2.8% and 2.5% respectively.
Electronics and household segments perform strongly despite recent corporate crises
Particularly interesting was the level of growth observed from the electronics segment within the context of Dick Smith Holding’s (DSH) voluntary administration. Indeed sales growth from electronics printed a strong 6.6% YoY growth to November 2015, following growth of 9.5% over the previous corresponding period.
As various analysts and market commentators have argued recently, the demise of DSH can be attributed in greater part to a poorly structured corporate and operating model than any signal this segment may be under particular stress. In our view the DSH example highlights the need for retailers to efficiently service the needs of a more discerning retail customer base in the face of strong competition, in this case from Harvey Norman (HVN) and JB Hi-Fi (JBH).
We also highlight the recent decision by Woolworths Limited (WOW) to exit its Masters Joint Venture (JV) and the home improvement market. In the context of Bunnings’ growth in sales of 11.1% (FY15) and national hardware segment sales growth of 5.5% YoY, this outcome can similarly be attributed to poor management/implementation rather than sales activity from this segment.
Put simply, the Masters JV was late to the home improvement market and failed to capture market share from its more entrenched competitor Bunnings.
International brands lining up to enter our shores in 2016
Retail sales growth and demand for bricks-and-mortar premises continue to be supported by the large volume of international retailers looking to establish market share within Australia.
According to CBRE, 2015 saw foreign retailers, including iconic brands like Cartier, Sephora, Omega and Valentino, open 40 stores across Sydney, Melbourne, Brisbane and Perth while 2016 is anticipated to see an influx of at least a dozen more international retailers. Despite the massive influx of international brands in the last two to three years, Australia remains relatively unsaturated with overseas brands compared with other regional markets.
CBRE estimates an additional 50 major foreign brands would need to enter the Australian market to match the global brand penetration in China, Singapore and Hong Kong and 90 more to reach the same level as Britain. APN research also supports this claim, indicating that total combined new demand from international retailers alone is around 460 new stores over some 300,000 square metres, prior to the addition of domestic retailer demand.
The relative success of the first wave of international retailers as they have commenced trade within Australia’s most popular centres has also enticed additional interest from other international retailers who were previously sitting on the sidelines, another positive for landlords.
Inbound demand has acted to stimulate retail shopping centre development, highlighted by the current expansion of Chadstone Shopping Centre which is underpinned by five new international retailers. Demand is also likely to result in a spill-over of international retailers to secondary retail assets especially as Australian consumers become more familiar with these new international brands.
More tourists and bigger spenders
Growing international tourist arrivals and the emergence of Australia as an increasingly popular destination for the growing number of Chinese middle-class travellers is also anticipated to support retail sales.
Australia’s ranking on the typical Chinese travellers’ list of destinations has traditionally been hampered by the high relative cost on account of the strong Australian dollar, which has now weakened substantially.
According to CLSA, mainland Chinese travellers make up the second-largest source of inbound arrivals to Australia, with arrivals set to pass one million persons for the first time in 2015 driven substantially by relative cost. This figure is second to arrivals from New Zealand, but critically for retailers, Tourism Australia estimates that Chinese visitors spend approximately three times as much as inbound visitors from any other locality, averaging $1,400 per person in take-home items compared to just $500. As such retail landlords are also anticipated to benefit from strong inbound tourists, especially from mainland China.
Is online shopping threatening bricks and mortar shopping centres?
Growth in online sales has increased over the past decade as consumers capitalised on improvements to technology and an increased variety of online retail platforms. International online retailers in particular were able to benefit from a competitive advantage given a relatively strong domestic currency (AUD) and lack of GST payable on small purchases. Data from the National Australia Bank (NAB)4 however, indicates that growth in online retail sales moderated through 2015, coinciding with a decline in the AUD.
Online sales grew by 5.7% over the 12 months to October however, in isolation this month suggested a contraction of 0.6%. Total online spending is currently 7.2% of sales (which excludes cafes, restaurants and take-away food). The long term trend indicates that while online market share is slowly increasing, it is doing so at a much slower rate than in previous years with the overall percentage of online sales remaining steady over recent years. Encouragingly for both domestic retailers and landlords, growth in traditional retail sales over the twelve months to October was solid at 4.1%.
We believe the relevance of physical retail as a consumer offering is solidified despite the availability and convenience of online channels which have in fact augmented the national retail sector in our view.
Recently we have seen retailers advocating the importance of an omni-channel strategy where high quality shopping centre premises are complimented by an online sales platform. This allows retailers to capitalise on a consumer’s desire to visit a store premises and experience a product before purchasing either on-the-spot or at a later date online.
Retailers which have implemented such an omni-channel strategy to great effect in recent times include Nespresso, Lorna Jane, Peter Alexander and Apple. We are also aware of multiple omni-channel retailers who are currently offering customers the ability to click-and-collect with great success. This involves customers first purchasing an item online before physically collecting in store (saving on shipping costs) while in the process increasing their number of store visits and likelihood purchasing more goods.
A number of the country’s largest discretionary and non-discretionary retailers including Woolworths, Coles, Officeworks, Big W, Kmart, Myer, David Jones and Dan Murphy’s have offered click-and-collect services for some time. Such innovative developments have given us further confidence of the importance and relative stability of the best quality retail premises.
Why retail property as an investment?
An investment in the underlying real estate offers a relatively defensive exposure to the Australian retail sector due to its earnings being derived from contracted rental income from a diverse mix of domestic and offshore retailers, spanning both discretionary and non-discretionary areas of consumption.
The tenant diversification benefits and relative income security within the context of recent retail industry developments can be highlighted by the AREIT sector-wide Net Property Income (NPI) exposure to DSH which is less than 1.0%. The AREIT sector’s largest retail landlords are also highly specialised and competent in operating within the dynamic retail industry.
Furthermore, AREIT retail portfolios are concentrated in their exposure to some of the country’s best quality shopping centres where barriers to entry are considerable and wherein the most prolific retail brands (both Australian and international) must be located to ensure continued success. Our APN AREIT Fund has exposure to many of the country’s best known shopping and entertainment precincts that are world class standard, including: Westfield Shopping Centres, Chadstone (Melbourne), Emporium (Melbourne) and Queens Plaza (Brisbane).
Outlook for 2016
We expect the Australian retail sector will continue to perform strongly over the medium term, underpinned by a healthy level of growth in retail sales which is supported by lower interest rates and petrol prices and the embedded wealth effect from increasing residential prices.
While competition amongst retailers to grow market share amidst a backdrop of developing consumer preferences is considered to be ever present, we are of the view that high quality retail assets will continue to deliver favourable risk-adjusted returns from underlying secure, contracted rental income.