The mountain gets steeper for Kathmandu

Can any retailer work out a business model that can defy the sudden and harsh downturn in sales, made all the worse by intense competition within the sector that has slashed profit margins for most businesses?

For a while analysts believed bushwalking, trekking and adventure wear retailer Kathmandu had the answer. Its highly recognised and valued brand was not just liked, but loved, by its loyal customers who saw within the Kathmandu brand a sense of adventure, fun and thrills that they believed summed up their own lives.

Kathmandu's typical customer is a middle-aged man, who works for the government and drives a Subaru. They love to set out into the bush and explore, and when they do they get kitted out from top to bottom in Kathmandu gear.

That helped Kathmandu target and get a 62 per cent to 64 per cent gross profit margin (amazingly high for a retailer) and keep rivals at bay who tried to dive into the niche retail category.

Although Kathmandu's first-half margins remain within that very high range, they dropped 200 basis points in the first half and across all three countries where it has its stores (Australia, New Zealand and UK).

Kathmandu issued a profit warning in December, consistent with the tough trading conditions facing all retailers, but analysts and investors had hoped for a bounce in early 2012. It never came, and worse still Kathmandu has been dragged into the price war with other retailers which has hurt its margins and ultimately its profits.

The group did lift first-half sales by 15.4 per cent, a great result in the current environment, but profit fell 43 per cent.

Kathmandu achieved its higher sales at a cost; it slashed prices to clear stock, pushed through promotions and discounts, raised the tempo on clearance activity. This is where the pain was carried and it has shown up in the worse-than-expected drop in profit.

Worse for investors, Kathmandu expects the competitive environment to continue into the second half meaning further promotions and discounts and therefore lower profit margins.

The problem for Kathmandu, and other retailers, is there are just so many levers they can pull. It's hard to negotiate with landlords for lower rents, you can pull back on marketing but that will hurt sales and sacking too many store staff will leave customers angry.