Spending Squeeze

Hi ZipLawyer! I'm Ludo Lugnani and this is ZipLaw: an independent newsletter covering unique news stories. We explain how each story impacts law firms and their clients so that you can stand out in interviews and applications and develop your Commercial Awareness!

Today's newsletter is a 6 min read:

• 💸 Spending Squeeze: Is consumer spending a big problem for retailers?
• ➕ Plus: Fed considers rate hikes, Apollo's injunction, Mercedes-Google collab and football gets regulated.

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📰 News Briefing

1. 📈 The US Federal Reserve expects more rate hikes to bring inflation down but at a slower pace. Almost all officials agreed on a 0.25% hike, while a few favoured a bigger hike.
2. 💰 Apollo Global is discussing injecting $750M in Credit Suisse's First Boston's leveraged-finance business. The commitment may be matched by Credit Suisse, resulting in $1.5B in capital.
3. 🚘 Mercedes-Benz and Google partner to offer "super-computer-like performance" in cars, including better traffic information and access to Google services. The German firm will share revenue with Nvidia in exchange for high-powered semiconductors.
4. ⚽️ The UK government will establish an independent regulator for English football to ensure fair revenue distribution between clubs and prevent them from joining breakaway competitions like the European Super League. Details will be revealed in the government's white paper on football governance.

🤿 Deep Dive

Spending Squeeze

In brief:

• The US is experiencing a boost in consumer spending, which may seem like good news. But is it sustainable in the long run?

Why Is Consumer Spending Rising?

From a quick look at US retailers' recent financial results, it seems consumer spending is booming. Last month retail sales rose by 3% month on month, and consumer sentiment reached its highest level in more than a year.

But at a closer look, the results are not as good as they seem...

What Are the Warning Signs?

Walmart's fourth-quarter results show the company's sales grew by 8.3%, compared with a year earlier, but there are several warning signs.

Higher-income families traded down to Walmart for groceries, resulting in market-share gains. However, sales in higher-margin products like toys, clothes, and homeware did not perform well. That was despite heavy discounting to clear inventories overstocked as a result of post-pandemic miscalculations about shoppers’ appetite for things like garden furniture.

Most troubling, Walmart forecasted sales growth of 2.5-3% for the current fiscal year, below analysts’ expectations. Home Depot (another major US retailer) also experienced a decline in transaction volumes, and its share price fell by more than 7%.

• Did you know? According to Goldman Sachs, US households have spent a third of their excess savings and will have spent another third by the end of 2023.

Trouble ahead

Retailers will have to deal with decreasing consumer demand and higher costs. Consumers will continue to be strapped for cash due to the elevated costs of living. Meanwhile, retail employee wages remain high adding further costs to their operations and cutting into their profits.

• Rising costs: In January Walmart announced pay increases which will raise its average hourly wage to more than $17.50. UBS, a bank, estimates that such moves will cost the company around $1bn a year. Home Depot said that it would spend an extra $1bn on higher hourly wages for workers.

Retailers could consider increasing prices to boost profits but that could easily put shoppers off shopping. That would make their problems even worse so that option is likely off the table. Kraft Heinz who recently stated that it is mostly done raising prices this year. So, despite the seemingly good results, retailers are facing some trouble ahead.

How does this Impact Law Firms and their Clients?

Note: In this section, we consider how law firms' clients may be affected by the story we discussed. We then explain how law firms can help, and which particular legal departments could see an increase in work and why.

💼 What does this mean for law firm's clients?

Retailers

• Lower prices: Retailers may have to lower prices to try to entice consumers to spend money. This can result in lower profits, particularly if retailers are already dealing with other challenges such as rising wages and supply chain disruptions.
• Cut costs: Retailers may be forced to reduce costs, which could mean cutting staff or closing stores. This can be particularly challenging for retailers that are already struggling financially.

Institutional Investors and Private Equity firms

• Buying Opportunities: As retailers struggle, their stock prices may drop, providing a buying opportunity for institutional investors and private equity firms. If these investors believe that a struggling retailer can turn its fortunes around, they may buy shares in the company at a discounted price, and use their expertise to turn the business around to re-sell at a profit.
• Distressed Debt: When a company is struggling, its debt may also become distressed. This means that the company may not be able to make its debt payments, which can lead to a default. In this situation, institutional investors and private equity firms can purchase the company's distressed debt at a discounted price, hoping to either profit from the interest payments or take ownership of the company in a bankruptcy or restructuring scenario.

Retail Employees

• Job Losses: If retailers struggle to maintain sales and profitability, they may have to cut costs in various ways, including reducing staffing levels. This could result in job losses for employees.
• Wage Reductions: If retailers struggle to maintain profits, they may look for ways to reduce costs, including reducing employee compensation. This could result in wage reductions for employees which could be a significant issue for them as costs of living remain high around the world.

⚖ Which legal departments would this impact?

Employment

1. Wage Reductions: If a retailer is facing a decline in consumer spending, one of the cost-cutting measures that may be considered is reducing wages. However, this action must comply with applicable employment laws. Employment lawyers would advise retailers and investors on the legal requirements for reducing wages, such as providing employees with notice and ensuring that the reduction does not result in a violation of minimum wage laws.
2. Redundancies: Another cost-cutting measure that may be considered is making staff redundant. However, this action can expose retailers and investors to legal risks, such as wrongful termination claims and discrimination claims. Employment lawyers would advise retailers and investors on the potential legal risks associated with making staff redundant, such as ensuring that the selection process for redundancies is fair and non-discriminatory, and that affected employees are provided with proper notice and any severance pay that they may be entitled to under the law.

Corporate/Private Equity

1. Advising on transaction structure: This department would advise private equity firms on the optimal transaction structure to acquire struggling retailers. Clients would need advice on various purchase options such as acquiring the retailer's assets or stock, using leverage or equity to finance the transaction, or structuring the deal as an acquisition. Lawyers would also liaise with tax colleagues to consider the tax implications of the transaction structure.
2. Conducting due diligence: The legal department's role would be to conduct due diligence on the target retailer to identify legal, financial, and operational risks. For example, the department would need to review the retailer's contracts, leases, intellectual property, and litigation history to identify potential liabilities. Based on the results of the due diligence, the legal department would need to advise the private equity firm on whether to proceed with the transaction and if so, how to structure the deal, warranties and indemnities to mitigate risks.

Commercial

As retailers struggle to maintain their profit margins, they may need to negotiate better terms with their vendors, suppliers, and other business partners. Commercial lawyers can help retailers negotiate more favourable terms in these contracts by identifying potential legal risks and liabilities, as well as advising retailers on best practices for drafting and negotiating these contracts.

• Example: If a retailer needs to renegotiate its supply contract to lower costs, can review the existing agreement, identify areas of potential risk, and advise the retailer on how to draft a new agreement that protects its interests.

Banking

The Banking legal department would advise retailers like Walmart and Home Depot on their financing options. With rising wages and potential drop-offs in consumer demand, retailers may need to secure financing to maintain their operations.

• Example: Retailers such as Walmart may ask Banking lawyers to review and advise on the legal implications of various financing options, such as bank loans, bond issuances, or equity offerings. They would help retailers understand the risks and benefits of each option and negotiate favourable terms.