KPMG/Ipsos Retail Think Tank analyse Christmas and Q4 performance

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The KPMG/Ipsos Retail Think Tank (RTT) has released its latest findings, stating that the health of UK retail flatlined in Quarter 4 2016. The RTT's Retail Health Index (RHI) remained at 83, finishing the year at the same level as at the end of 2015. The RTT predicted that retailers should be prepared for a tougher time in 2017, with retail health expected to drop a point in the first quarter.

The RTT agreed that out of the key main drivers of retail health – demand, margin and cost – it was cost that had the biggest impact on retail health in Quarter 4. During the Black Friday promotional period there was a significant shift towards online sales, resulting in an increase in fulfilment costs, the effect of which was exaggerated further by rising fuel prices at the pump. Retailers also saw their wage bills increase, as they had to budget more when employing temporary seasonal staff, as the majority will have had to be paid the new National Living Wage.

With Quarter 4 containing two key shopping dates in the retail calendar, increased demand helped retailers on Black Friday weekend and in the run up to Christmas. The calendar shift also provided retailers with additional trading days before Christmas, and the RTT agreed that it was apparent consumers made the most of this, with food retailers especially feeling the benefit of extra spend as people looked to create a 'feel good' factor over the festive period.

The RTT was keen to point out that margins were much better protected during the Black Friday campaign, with many participating retailers preparing much earlier compared to previous years, ordering stock 12 months in advance. However, the promotional activity also lasted longer, for many over 7-10 days. This meant that whilst the weekend itself was a positive force for many retailers, margins suffered significantly and worked against sales in the weeks before it. In terms of discounting and margins leading up to Christmas, the RTT agreed that although promotional activity was very apparent, the discounts themselves were largely 'cosmetic' and there was in fact more hype than substance in the promotional sales activity – having less of an effect on retailer's margins than expected.

There were success stories to tell over the last months of 2016. Strong performances were seen from electronic retailers over the Black Friday weekend and smaller, online retailers that are more agile than their bigger competitors, making them better able to adapt to changing external factors, with BooHoo.com and ASOS cited as two prime examples. The RTT also acknowledged that for one of the first times in 2016, the weather was kind to fashion retailers, with seasonal weather on cue for once driving stronger clothing sales in the run up to Christmas. This provided a much-needed shot in the arm for the fashion retailers, following what was considered a very poor performance throughout September and October.

The grocers also experienced a mini-revival of sorts, with a better performance throughout the quarter, something that was especially noticeable in December with simpler discounting playing a big part in driving sales. Those final few days before Christmas transpired to be the key part of the month for food retailers, as many consumers left their food shopping late, delivering bumper sales at the supermarket tills. The RTT recognised that the food retailers had come out of 2016 in a stronger position than they went in, and this revival in performance, largely fighting back against the discounters, would be expected to continue into 2017.

Looking ahead to 2017, the RTT predicted that retail health would fall one point in Quarter 1, mirroring the dip seen at the start of 2016. Many external factors will be working against retailers, with Sterling predicted to weaken further and the cost of petrol set to rise throughout the first three months of the year – all in advance of many retailers' currency hedging beginning to unravel in Quarter 2. The effects of which will put pressure on retailer's margins, making it a key issue that will need to be navigated early on in 2017.

Uncertainty is set to be the buzzword at the start of 2017, with a multitude of unanswered questions surrounding the triggering of Article 50 and Brexit negotiations, consumer confidence is expected to be affected, which in turn will have a negative knock on effect at the tills.

The RTT also thought that the traditional post-Christmas sales would be less of a significant event this year, given the pull forward impact of Black Friday and the smaller stock levels carried by retailers over Christmas. The Black Friday promotions filled most of November, and rather than adding additional sales, instead brought forward purchases from December and early January. It was pointed out that retailers had invested heavily in protecting margins for Black Friday, and a different strategy may be required for 2017 in order to fully maximise the increase in demand over the Christmas period.

The RTT wanted to stress that although there will be many factors working against retailers in 2017, there would be opportunities to be seized upon. During the last recession, when consumer confidence and personal finances were struggling, food retailers had an opportunity to grow as people spent less on the night-time economy, instead choosing to stay at home and spend more in supermarkets. The current financial environment, which although is worsening, is not expected to result in recession. This should provide a key opportunity for retailers to start fighting back against expenditure on leisure pursuits, which for a long-time now have took more than their expected share of the consumer's disposable income.

It was discussed at length how 2017 would shape up for retailers, and although retail health was expected to drop one point in the first quarter, the real tough times and challenges would be found later on in the year. A toxic political climate in Europe, a weakening pound, the end of currency hedging and the launch of the next mandatory phase of the National Living Wage would all work against retailers as we head further into Quarter 2 and 3 of 2017.

Dr Tim Denison, head of retail intelligence, Ipsos Retail Performance, said: "The Black Friday weekend has fundamentally changed the way that people shop in the run up to Christmas. This year also cemented a distinct shift away from the high street to online shopping during this period, meaning that although retailers worked hard to protect margins, the increased cost of fulfilment and returns has to be factored into the surge in demand. Looking forward, although 2017 undoubtedly brings with it a whole host of new challenges, retailers will adapt and the successful operators will be the ones that work smart to improve productivity, embracing innovation, both through technology and other means."

Paul Martin, head of retail, KPMG, UK, said: "Whilst there are plenty of unpredictable external factors that will make for a tough trading environment in 2017, there will be opportunities for retailers to take advantage of shifts in how consumers spend their money. During the last recession there was a distinct change in spending habits, as people spent more in supermarkets and less in restaurants. A repeated narrative of the last two years has been a larger than expected proportion of consumers disposable income being spent in the leisure and experiential sectors. If 2017, as widely predicted, brings with it challenging economic conditions, a shift in spending back towards the retailers could be a silver lining on what is set up to be a difficult year."

Nick Bubb, independent retail analyst, said: "Sales growth in Quarter 4 was led at first by the non-food sector, with electronic retailers having a great Black Friday week and fashion retailers benefiting from more seasonal weather throughout late November and December, but the supermarkets joined the party at the end. Due to Christmas Day falling on a Sunday, rather than a Friday, the trading pattern over Christmas and the New Year period was clearly disrupted – but this did create room for a big surge in spending during the last week before Christmas. However, the last-minute festive spree, aided by the start of online sales and robust digital ordering and delivery systems, may well turn out to be the consumer's 'last hurrah' ahead of belt-tightening in 2017."

Jonathan De Mello, lead retail consultant, Harper Dennis Hobbs, said: "Retailers are going to have a battle on their hands as they head deeper into 2017. Cost will be the word on everyone's lips, as a worsening economic climate, further roll-out of the National Living Wage and rising fuel prices collude to work against retailers. Investment in increasing productivity and improving efficiency has been prevalent in 2016, however, there is not much 'fat left to trim' and retailers are going to have to work hard to deliver growth following a difficult 2016."

Martin Hayward, founder of Hayward Strategy and Futures, said: "Overall the consumer demonstrated that they are less concerned by Brexit than many would have them be and continued to spend during the fourth quarter. The retailers also prepared better for Black Friday this year, with a couple of years experience under their belts, and largely protected their margins over the promotional period. The story for 2017 is likely to be dominated by rising costs and how retailers manage these."

Maureen Hinton, group research director, Verdict Retail, said: "Looking further ahead into the first quarter of this year, as currency hedging unwinds, we will start to see the full effect of the higher price of imported goods. This is likely to result in retailers starting to pass the negative effects of this cost inflation and squeezed margins onto the consumer. With rising prices comes a lower volume of sales, and a drop in demand, in conjunction with costs and margin already working against retailers, will make for extremely tough trading conditions."

James Knightley, senior global economist, ING, said: "Retailers are going to be working against increasingly tumultuous economic conditions in 2017, all whilst a potential political shakeup across Europe plays out in the background. With currency hedging beginning to unwind towards the end of Quarter 1, fuel prices continuing to rise and the job sector starting to weaken; a collapse in consumer confidence is a distinct possibility, and something that would only add misery to retailers in what is shaping up to be a very difficult year."

Martin Newman, CEO at Practicology, said: "Black Friday again proved to have a powerful impact on sales trends in Quarter 4, and it was apparent that retailers had prepared well in advance this year. With the fulfilment process running smoother and logistics coping better, there was more trust from the consumer to make online purchases around Black Friday and in the week leading up to Christmas. It wasn't any specific sector that felt the full benefit of the demand over the promotional period, rather it was those retailers with a strong multichannel proposition were best placed to take advantage and deliver positive like-for-like sales."

James Sawley, Head of Retail & Leisure at HSBC Corporate Bank, said: "With Black Friday now maturing into a staple of the retail calendar's fourth quarter, there has been a fundamental and systematic shift in how and when consumers spend their money in the run up to Christmas. The big winners over Christmas have been online retailers such as Boohoo and Gear4Music, as well as value orientated retailers such as B&M, that are more agile than their larger, more established rivals - making it easier and more importantly, profitable, to react to the changing market conditions."

Mike Watkins, head of retailer and business insight, Nielsen, said: "A turbulent quarter for retailers ended with the customer as the real winner, as retailers held prices down and this encouraged shoppers to spend. There was intense competition on the high street and the shift to digital was led by the more agile retailers and supermarkets providing consumers with simpler promotions, better choice and improved execution both in-store and online than last year. Looking forward, it may be a case of consumers making hay with the sun shines, as rising costs for retailers in 2017 will no doubt make their way down the shop floor. If this then takes the edge off demand, the industry will need to come up with some new ways to innovate the overall retail experience."