Urban Outfitters Inc. (URBN, Financial) is a lifestyle retailer that offers a variety of products, from clothing and accessories to home decor and music. The company was founded in 1970 and has since expanded to over 200 stores in the U.S., Canada, Europe and the Middle East. Some of the popular brands marketed by Urban Outfitters include Adidas, Birkenstock, Champion, Converse, Levi's and Out From Under.
Urban Outfitters is part of the URBN portfolio of brands, which also includes Anthropologie, Free People, FP Movement, Anthropologie Weddings, Terrain, Menus & Venues and Nuuly.
Growth amid favorable consumer spending patterns
As inflation began to decelerate, consumer spending showed signs of improvement during the second quarter. In July, retail sales experienced a notable increase of 0.7%, surpassing expectations and demonstrating the resilience of consumer spending. Retail sales outperformed the earlier estimated growth of 0.4%, primarily driven by a substantial 1.9% surge in online retail spending.
A report from the Commerce Department revealed a preference among consumers for indulging in hobbies, sporting goods and clothing. Parents also seemed to have begun their back-to-school shopping earlier than usual, thereby boosting sales in various categories. Consequently, stores related to sporting goods experienced a 1.5% increase in sales while food service and dining establishments saw sales grow 1.4%. Clothing stores registered sales growth of 1% as well.
Exhibit 1: Second-quarter retail sales data
Source: Census Bureau
Consumer sentiment and spending intentions
According to the State of the U.S. Consumer July 2023 report by Deloitte Insights, consumer spending intentions saw a significant uptick in June after a year of steady decline. Although intentions to save money remained unchanged, the number of U.S. respondents expressing concern about their savings levels and delaying major purchases decreased with softening inflation.
Further, consumer sentiment, as measured by the University of Michigan, rose by 11% in July compared to the previous month. This marked the highest level since October 2021, a notable improvement from June 2022 when consumer sentiment reached an all-time low, coinciding with a four-decade-high inflation rate. Expectations regarding inflation rates for the upcoming year slightly increased to 3.4%, but this is notably lower than the peak of 5.4% observed in April 2022.
Exhibit 2: The improving consumer sentiment
Source: Deloitte
Urban Outfitters' second-quarter performance
Driven by strong consumer confidence, Urban Outfitters achieved remarkable financial results in the second quarter, exceeding Wall Street's expectations. Among the company's five brands, four of them, including Anthropologie, Free People and FP Movement, saw impressive double-digit growth in both their in-store and online sales. Brands such as FP Movement, in particular, stood out with a remarkable same-store sales growth of 57%.
Despite a decline in same-store sales within the Urban Outfitters brand, the company achieved an 8% increase in revenue, while the entire retail segment experienced a 6% increase in sales. The Nuuly brand, Urban’s apparel rental service, also reported almost 100% year-over-year revenue growth due to an 85% rise in subscribers, generating $27 million in additional revenue compared to the second quarter of 2022. The company anticipates that active Nuuly subscribers will approach 200,000 by the end of the year and that it will report its first profitable quarter later this year.
The rise of clothing rental market
Similar to other sustainable practices, the clothing market has embraced the idea of renting clothes as a way to support the environment. This concept of renting clothes has gained popularity, especially among the younger generation, who are passionate about protecting the environment and workers' rights. Additionally, as the cost of living continues to rise, renting clothes offers consumers a way to upgrade their wardrobe without spending too much money. It also allows the social media generation to stay in line with the ever-changing fashion trends.
In 2022, formal clothing, such as suits and blazers, accounted for approximately 31.5% of the rental market share. Formal clothing tends to be expensive and requires careful maintenance, which is the main reason why budget-conscious and younger consumers prefer to rent these items instead of buying them. According to Future Market Insights, the online clothing rental market is expected to be valued at $2.28 billion in 2023 and is predicted to reach a value of $6.24 billion by 2033, growing at a compounded annual growth rate of 10.6% during the forecast period. Further, women are anticipated to continue dominating the rental market, holding a share of 58%.
Urban Outfitters' home segment and future plans
While spending on clothing maintained a moderate pace, revenue from furniture stores experienced a decline of 1.8% in July. Urban’s home segment was notably affected by this macroeconomic headwind. Nonetheless, the company is observing a shift in customer preferences from pandemic-induced furniture buying to more entertainment-oriented product categories. Customers are enhancing their living spaces with added decorative elements and gearing up for increased social hosting. Consequently, the company experienced substantial growth in its full-priced offerings within gift and entertainment-related product lines in the second quarter. Urban aims to expand its home business to over a billion dollars in sales in the coming years.
Challenges persist
Although economic activity increased in the second quarter, experts are concerned about several risks. With strong spending, there has been a noticeable decline in personal savings. This means consumers are dipping into their savings to support spending. Interestingly, consumers do not seem too worried about this as they start relying on credit cards more often. Between April and June, the amount of money owed on credit cards went up by $45 billion, an increase of more than 4% bringing the total indebtedness just above the $1 trillion mark. As the New York Federal Reserve's recent data reveals, delinquencies on credit card payments reached their highest point in 11 years during the second quarter as well. Combined, these numbers paint a bleak outlook for consumer spending in the coming quarters as spending fueled by credit card debt does not seem sustainable.
Future economic concerns
Further, economists believe that spending might slow down by the year-end because of the deceleration in job growth and resumption of repayment of student loans. A measure known as the labor market differential, derived from individuals' perceptions of job availability, has expanded, indicating tight labor market conditions despite the slowdown in job growth. A survey conducted by the Conference Board also reveals that consumers still hold concerns about the possibility of a recession within the next year due to significant interest rate hikes by the Federal Reserve. In a survey, 70.6% of consumers expressed that a recession was "somewhat" or "very likely," compared to 69.9% in June. Despite the increase, the numbers remain below the peak observed earlier this year.
Urban Outfitters is likely to be meaningfully impacted by a notable change in consumer spending patterns. Even on the back of a 37% increase in market value this year, the stock is still valued at a forward price-earnings ratio of 10.2 compared to the consumer discretionary sector average of 15.2. The company seems attractively valued today, but investors will have to account for the macroeconomic sensitivity of Urban's business.
Takeaway
Consumer spending data for July demonstrates a broad surge in spending, as numerous categories exhibited noticeable increases hinting at elevated consumer spending levels in the coming months. However, several factors raise concerns. Declining savings, coupled with the sluggish growth in job opportunities and the resumption of student loan repayments, may pave the way for a slowdown in consumer spending during the third and fourth quarters of this year. While these factors could impact overall spending, it is important to note that not all categories will be affected equally.
Despite the anticipated challenges, some areas could potentially experience an upswing. Spending on rented clothing during the holiday season and investments in gifts and home decor may counteract the overall slowdown. Urban Outfitters seems well-positioned to benefit from an uptick in spending in these categories, but investors will have to pay close attention to the macroeconomic environment to identify potential inflection points in the company's story.
