VAT rise - another damper on already cautious spenders

The increase in VAT will add to inflationary pressures in retail and in most sectors retailers will be forced to pass this on to customers. Verdict expects to see prices rise in the latter half of 2010 as retailers pre-empt the increase.

The main outcome will be to reduce volumes but the effect will be minimal given that consumers shopping habits are already changing. Consumers are already cutting back on spending and when purchasing discretionary items, are taking a more cautious approach, considering the benefits of the purchase. The VAT increase will only serve to inflate this trend and ensure that value for money remains top of consumers' minds when shopping.

Clothing & Footwear

Cost increases in the supply chain have already produced rising prices in clothing & footwear in 2010, and many retailers, predicting the VAT rise to 20%, have built this into their pricing for Autumn Winter 2010/11 and Spring 2011. This gives them some leeway for discounting at the end of the year as well as preparing clothes shoppers for further price rises in 2011. The trend for buying lots of low price garments has already begun to change, with clothes buyers instead buying fewer garments but willing to invest in higher prices if the intrinsic value of design, quality, styling and branding is evident in a garment. Therefore we expect to see continued growth, driven by inflation and the VAT increase, but volumes under pressure.

Big winners will continue to be the supermarkets as women reduce their number of dedicated clothes shopping trips but continue to do their weekly food shop and pick up clothing for their partners and children at the same time.

DIY & Gardening

The planned rise in VAT will push prices on DIY & Gardening products up yet further, with the sector already under cost inflation pressures. Like furniture & floor coverings demand for DIY products is heavily reliant on the housing market and demand remaining in the sector has become increasingly price inelastic. Therefore, Verdict believes that while volumes will be affected by the VAT increase the impact will be relatively subdued. Any significant psychological impact on the consumer mindset will likely hit in Q1 2011, typically a quiet quarter for both the DIY and gardening sub sectors.

Food & Grocery

Though not directly impacted, the VAT rate will restrict overall budgets, causing shoppers to be more cautious overall. In addition, while consumers will get some relief from fuel duty not being hiked even further, the existing planned rises per litre of 1p in October and 0.76p in January 2011 will further erode household budgets and cause greater frugality in the weekly grocery shop.

Electricals

In electricals demand in categories such as audio visual equipment will continue to be predominately driven by new technology. Moreover, while some consumers may be tempted to make big ticket white good purchases before the rise takes effect, a high proportion of these are needs-driven and reliant on the strength of the housing market or just replacements. This is a very price-driven, highly competitive sector and Verdict does not expect to see big price increases, or even a big spike in demand before the VAT rise in January 2011.

Furniture & Floor coverings

Verdict does not expect the VAT rise to have a great deal of effect on this sector. With deep discounting in furniture & floor coverings remaining, most rises will be disguised amongst the promotions, and as consumer spending is already constrained there will be little appetite for major purchases. This will be particularly so given the housing market, the sector's main stimulus, remains stagnant and the emergency budget will do little to change this.

Health & Beauty

The resilience of the health & beauty sector through the recession, despite inflationary pressures, suggests there will be little price sensitivity to VAT at 20% and more scope for retailers to pass the cost onto consumers. However, rather than pushing prices up in January 2011 Verdict expects the changes to be much smoother with some retailers increasing prices prior to the official change. Despite this, we do not expect consumers to change their shopping habits, with consumers less willing to trade down or cut back on their appearance, health and wellbeing.

Homewares

While prices will undoubtedly have to go up in homewares to account for the VAT rise, some of this will be offset by the growing influence of non specialists, such as grocers, and the value retailers, keeping prices low. The element of spending in this sector accounted for by needs driven products, such as kitchen utensils and replacement driven purchases in glassware and crockery will remain resilient, particularly because of the participation of non-specialists using price to drive sales. More discretionary purchases, particularly items bought for aesthetic purposes, will be the worst impacted with a higher level of caution exercised by consumers.

Music & Video

Verdict expects the VAT rise in January 2011 to have little impact on the music and video market. With intense price competition and falling demand due to piracy and the increasing popularity of subscription services such as Spotify, retailers cannot afford to push prices up. Though it should not impact on the amount consumers spend, it will impact on retailer's level of profitability.