Temporary store closures and restricted mobility caused by COVID-19 pandemic is likely to result in a 30-35 per cent in decline in retailer’s revenues for the 1.7-trillion organised apparel retail sector, says a Crisil Ratings study. While operating profits of retailers will decline by around 200 basis points (bps), the absolute fall in their operating profit may induce firms to raise additional funds to make up for the cash flow shortfall.
Retail sector to benefit from standalone stores, downtrading
Majority of department stores reopened in June. However, retailers expect demand to recover to pre-COVID levels only by December. Department stores will be hit harder with revenues declining by around 40 per cent. On the other hand, the impact on value fashion retailers will be lesser owing to their higher presence in Tier-II and III cities. The retail sector will also benefit from a higher proportion of standalone stores and the expected downtrading. Driven by changing buying patterns, sales from online channels will also increase this financial year.
More discounts and investments to increase footfalls
To increase footfalls, retailers will not only have to offer discounts, but also make more investments towards maintaining social distancing. They will also have to convert a portion of fixed lease rentals to variable, in addition to pruning employee cost, and other discretionary spends. Hence, their operating profits will increase by only up to 200 bps from around 7-8 per cent in FY20, points out Gautam Shahi, Director, Crisil Ratings,
A large proportion of the retailers’ costs like lease rentals and employee payments are fixed costs. They typically constitute 20 per cent of their overall revenues and can’t be avoided. Hence, retailers will now have to avail additional debt to make up for the near-term shortfall in cash accruals vis-à-vis fixed obligations. Supported by strong operating performance and prudent capital expenditure, the debt protection metrics of these retailers have remained healthy during the past two years, says Ankit Hakhu, Director, Crisil Ratings.
Weakened business and profitability to moderate debt metrics
However, their weakened business levels and profitability can lead to a moderation of their debt metrics. For instance, their interest coverage is expected to weaken to just over three times FY21. Apparel retailers with omnichannel presence, balanced mix of brands and private labels, sufficient liquidity, and access to support from strong parents or groups will be placed better to counter the challenging business environment. They will be in a position to monitor the extent of pandemic and their ability to manage rental costs.