With sales falling dramatically, one looming question for big department-store chains is whether their recent push into in-house labels and designer lines made exclusively for them will come back to haunt them.
In good times, such products help retailers differentiate themselves from competitors, while generally producing higher profit margins than national brands. That's why department stores have poured millions of dollars into exclusive lines of clothes and home goods, such as the new American Living line at J.C. Penney Co., Simply Vera Vera Wang at Kohl's Corp. and Martha Stewart Collection at Macy's Inc. Some of these are the result of licensing deals with designers, while others are labels produced in-house.
But with sales declining — department stores' March same-store sales reported Thursday were the weakest in the retail sector, dropping 11.4 percent from the previous year — that equation could change. If the retailers are forced to sharply mark down their exclusive goods, that could hurt the image of the brand and the store.
What's more, retailers can't share the pain with suppliers, as they do with national brands that offer allowances for markdowns, meaning retailer profits will suffer. And, retailers often commit to large minimum orders to get the best prices on their in-house products — and can wind up with far more inventory than they need.
"This vehicle for improved profitability is a double edged-sword when sales are weak," says Bill Dreher, an analyst with Deutsche Bank Securities.
While department stores say they haven't had to make widespread markdowns on in-house labels or exclusive brands, analysts see these goods — which stores have ramped up dramatically in recent years — as a vulnerable spot if the economy continues to worsen. "The indication is that the customer is not shopping, so you may have across-the-board markdowns," including in private label goods, says Linda Beauchamp, CEO of Beauchamp Vision in Commerce, a retail consulting firm.
The higher margins in some private-label programs, which might have provided a cushion for retailers' markdowns, now are coming under pressure as retailers grapple with higher sourcing costs in China and elsewhere.
In licensing exclusive brands, retailers often must agree to pay minimum royalties to the designers or celebrities the brands are named for, regardless of sales. Sears Holdings Corp.'s struggling Kmart unit paid $65-million in minimum guaranteed royalties to Martha Stewart Living Omnimedia last year, even though the Martha Stewart Everyday products it sells exclusively didn't meet sales targets. For 2008, its obligation is $20-million. Kmart declined to comment.
Similarly, Macy's agreed to minimum guarantees to Martha Stewart's company for the use of her name in its Martha Stewart Collection products, according to Martha Stewart's company, Macy's bears all the inventory risk if those products don't sell. Macy's declined to comment.
At Macy's, where private and exclusive brands account for 35 percent of sales, chief financial officer Karen Hoguet acknowledged in a February conference call with analysts that "sales were disappointing in some of our private brands," though private brands in total still had outperformed other brands.
Macy's strategy has long been to develop big private brands such as Alfani and I.N.C to offer shoppers "differentiation and value," with profit margins that are "roughly equivalent to other brands," says spokesman Jim Sluzewski, who added that "we carefully plan our inventories, which remain in good shape."