Is Your Retail Portfolio Safe?

by: Cris Frangold

In an age where convenience means not having to go far to purchase items for home, office or classroom, big name stores like Target (NYSE:TGT) and Wal-Mart (NYSE:WMT) have dominated the marketplace. With thousands of locations and online shopping options, millions of customers have relied on these stores over the years because of the many products available in one convenient location.

And even though most analysts agree that Target and Wal-Mart will continue to maintain a strong presence in the marketplace and provide continued returns for investors, smaller stores offering personalized customer service and customized home furnishings and decorative items threaten to steal customers and profits in the home improvement sector. Over time, large stores may see a decline in sales in this sector - for the very reason they achieved success in the first place - offering a multitude of products, but at times sacrificing customer service and product quality along the way.

The Home Improvement Market

Recent studies have shown an increase in the demand for home improvement and decorative products. Instead of selling their homes, more and more people have decided to stay and renovate or redecorate until home prices stabilize. The home improvement and décor market generates approximately $65.2 billion each year.

But with less time to spend shopping for window dressings and other decorative items, some have turned to the Internet to save time and to find one-of-a-kind or customized items.

Impact of Internet Shopping

Large discount stores like Target, Wal-Mart, Lowe's (NYSE:LOW) and Home Depot (NYSE:HD) control most of the home improvement market. Home Depot, for example, has generated around $70.4 billion in gross income for 2012, while Lowes has generated around $50.21 billion. But the internet has provided the opportunity for smaller stores to thrive. Though big retailers can compete on price, they could lose in the face of specialization. Smaller businesses like Lakeville, Pennsylvania based Swags Galore offer a variety of curtains, blinds, and window accessories (both custom and standard), online customer service assistance, and a clear return/exchange policy. Swags Galore has become a well-known supplier for home improvement do-it-yourselfers. The company's low prices and easy ordering platform could allow them to compete more directly with Lowe's, Home Depot and other retail giants. With the ability to provide personalized customer service such as decorating advice and product assistance, smaller businesses with less overhead (many strictly operate online storefronts as opposed to operating traditional storefronts), smaller profit margins, no investors to answer to, and a growing customer base could take over a larger portion of the home improvement market in the future.

In addition to competing with small home improvement businesses, large stores also have to compete with other large online companies like Amazon (NASDAQ:AMZN) and (NASDAQ:OSTK) that offer hundreds of home improvement products and deals every day.

And even though Target, Wal-Mart, Lowe's and Home Depot have websites, competition for Internet customers is fierce. Online shoppers expect personalized attention and assistance along with customized products in addition to low prices and abundant selection.

Keeping Customers

Maintaining a strong customer base that regularly visit store locations help large stores remain in business. Target recently announced it would match other retailer's prices on its products through the holiday shopping season. Wal-Mart announced several changes including a pledge to keep grocery prices low, and introduce faster shipping services for online items. Retailers like these know that if they can get people in the door to buy a specific item, chances are, people will buy additional items - such as home improvement products.

So far this year, profit margins for Wal-Mart have been lower than Target, but seem to be gaining. New marketing strategies and aggressive holiday sales could help Wal-Mart overtake Target by the end of the year.

Home Depot and Lowe's take a different approach because these stores mainly sell home improvement and DIY products. In addition to selling products to contractors and other small businesses, these stores package items for regular customers to create and all-in-one shopping experience. With in-store classes and websites that provide decorating and project completion advice, these stores hope to develop customer loyalty that translates into future sales.

More than Home Improvement

Not having to rely solely on home improvement products to stay in business helps larger stores like Target and Wal-Mart survive in an increasingly competitive marketplace. With the explosion of phone, computer, video game and other electronics, these stores have many other ways to earn income (and many more headaches over staying competitive in the electronics market). With the attention of larger stores elsewhere, smaller home improvement businesses have a real chance at succeeding in the long term as long as these stores continue to provide customer service and product options customers can't find in large discount stores.

In the end, it all comes down to customer preference. Some customers don't require assistance when buying home improvement items and enjoy going to a store and picking from what's available. Other customers prefer to shop online to avoid having to go to a store.

Large discount chains not only compete with other chains, but now must also compete with businesses that operate mostly online. This will inevitably cut into home improvement profits. With more choices and growing demand for these types of products, there's enough profit to go around for everyone - from large stores to small online businesses.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.