The Brazilian consumer sector is one of the most dynamic in the world, with growing incomes and a strong consumer culture driving up spending and delivering impressive revenue growth for the country’s retailers. The market is also relatively immature, with tremendous potential for expansion in underdeveloped parts of the country. Given this it is no surprise that three of the world’s leading retailers are present, with Wal-Mart, Carrefour and Casino all vying for market share, the latter through its stake in Companhia Brasileira de Distribuição (CBD).

However, in the grocery sector the presence of these firms means that the market is highly competitive, which is reflected in operating margins and makes it difficult for any new entrants to penetrate the market. The retail sector has other significant challenges, including the undeveloped nature of the country’s infrastructure, but for retailers outside the grocery sphere Risk Watchdog believes the market remains an attractive investment destination and expects to see a wave of operators entering or expanding their presence in the market.

Brazil Supermarket Sales Index (2003=100)

Dynamic Consumer Market
Brazil’s strong economic rebound from recession has impressed and demonstrated the remarkable resilience of the Brazilian consumer. While retail sales moderated during 2009 (see chart), the indicator remained in positive territory throughout the downturn and the strength of the Brazilian consumer over the last year supports my view that strong private consumption will drive economic growth beyond the current downturn.

Risk Watchdog expects the consumer sector to take an increasingly important role in driving economic growth, as the economy develops and becomes less dependent on the export of commodities. This is represented in Business Monitor’s forecasts for private final consumption, which are expected to outpace the country’s overall economic growth rate. This very strong growth is supported by the rising affluence of middle class consumers and the increasingly positive picture for Brazil’s large low-income population. Government policies to help this section of society, with measures such as increases to national minimum wage, have led to a rapid reduction in extreme poverty and in turn created a larger consumer base for the food, drink and retail sectors.

The opportunities present in Brazil have attracted significant interest, especially in the grocery sector, and the leading retailers continue to expand. Carrefour has announced plans to invest BRL2.5bn (US$1.4bn) in the country over the next two years. Wal-Mart Brazil’s chief executive, Hector Nuñez, revealed that the firm will invest up to BRL2.2bn (US$1.2bn) in 2010 alone. Meanwhile, CBD is newly strengthened following its merger with the country’s largest retailer of durable goods Casas Bahia, and has also announced a massive expansion drive with plans to invest up to BRL5bn (US$2.8bn) between 2010 and 2012, up from the BRL2.9bn it invested between 2007 and 2009. All three have announced plans to focus expansion on the north and north east of the country – an area where grocery retailing is still relatively immature.

Low Margins
This rapid expansion has been good for top-line growth, but with three powerful retailers all competing there has also been significant pressure on prices and margins and it is notable that CBD’s margins are well below both its developed and its emerging market peers. Over the last five years CBD’s margins have hovered around 4% while Tesco and Wal-Mart are both at 6% and emerging market operators in Mexico and Russia regularly report margins above 8% (see chart 2). This can also be attributed to the difficult logistics of the country, with transportation and distribution more expensive.

Operating Profit Margins (%)

Risk Watchdog believes these low margins are likely to put off new entrants into the grocery sector and may partly explain CBD’s recent decision to diversify its operations into durable goods with the acquisition of a 51% stake in Casa Bahia in a non-cash deal and the purchase of a 70% stake in electronics retailer Globex Utilidades in June 2009 for BRL824.5mn (US$422mn). This decision was likely partly driven by the outperformance of the company’s non-food segment during 2009, with the category boosted by government initiatives to aid ownership of white goods by low income families.

Other Sectors More Attractive
This decision reflects Business Monitor’s view that for sectors outside of food and drink the opportunities are likely to be more attractive. In support of this, Starbucks recently announced it was to take full control of its Brazilian operations to expedite expansion, while French Luxury goods group LVMH has said it will be expanding its Sephora business into Brazil with the acquisition of online beauty retailer Sack’s. The firm acquired a 70% controlling stake in Sack’s, representing the firm’s first acquisition in the South American market, reinforcing the growing perceptions that Brazil is well placed to outperform most of its Latin American peers.

While these operators will also be constrained by the country’s infrastructure deficiency, they will at least be operating in sectors where price competition is less intense and margins are more comparable to other global markets. To this end Risk Watchdog sees other international retailers pursuing expansion, with fashion retailer Inditex having already launched around 27 Zara branded outlets in the country. One notable absentee is IKEA, which has already launched in China and Russia but as yet has unveiled no plans to enter Brazil. Here, we come back to logistics, with the country’s underdeveloped ports and road network making the business model harder to develop; yet as the government continues to plough money into the infrastructure sector we expect IKEA to eventually recognise the opportunity and to plough significant funds into the country, where a lack of competition means that homeware is often more expensive than in developed markets and where, from a consumer perspective, the opportunity is undeniable.