Holiday price wars: Round 1 to Wal-Mart

But analysts caution that retailers with the best merchandise, and not simply the lowest prices, will win the overall battle.

By Parija B. Kavilanz, CNNMoney.com staff writer

NEW YORK (CNNMoney.com) -- Wal-Mart is determined to ignite a fierce price war this holiday season. But some industry experts are betting that other merchants - if they're clever - won't take the bait.

That's because analysts expect retailers' fate during this year's holiday shopping season will be determined both by price and merchandise, and not price alone.

The November-December period is a critical time for retailers, accounting for as much as 50 percent of their profits and sales. This year, the National Retail Federation forecasts holiday sales will grow 5 percent, or slower than last year's 6 percent increase.

Wal-Mart on the offensive

Wal-Mart, (Charts) the world's largest retailer, admitted that it already flubbed its merchandise assortment, especially in apparel. This makes Wal-Mart particularly vulnerable given that clothing tends to be among the most-bought seasonal gift items.

Moreover, Wal-Mart's been plagued by weak monthly sales growth at its stores open at least a year, also known as same-store sales. This is a key retail performance measure tracked by Wall Street. It's October same-store sales rose a dismal 0.5 percent.

Given these setbacks, Wal-Mart's decision to be the first out of the gate to chop prices on toys and electronics seems less surprising.

"When retailers do badly, like Wal-Mart did in October, they have to try harder," said Stephen Hoch, marketing professor and director of Wharton's Jay H. Baker Retailing Initiative. "Wal-Mart's trying to get the early momentum, go after its core customer group of young families and boost traffic to its stores."

These moves threaten its immediate competitors like Target (Charts), which caters to the same low-income demographic as Wal-Mart.

"Target's going to have to respond to Wal-Mart," said Hoch. But he suspects other retailers will adopt a wait-and see approach.

"Retailers know that it's impossible to win the price war with Wal-Mart. If they do, they get their brains kicked in. Going head-to-head with Wal-Mart on prices will hurt them more in the long run than it will Wal-Mart," Hoch said.

Not playing Wal-Mart's game

To Hoch's point, retailers' advertised discounts for this week don't appear to signal any panic price slashing in response to Wal-Mart.

Department store chain J.C.Penney (Charts) is giving shoppers 20 to 60 percent off on toys, furniture, jewelry, shoes and home furnishings. At mid-price chain Kohl's (Charts), customers can get between 40 to 60 percent off the regular price on clothing and shoes.

Macy's, a unit of Federated Department Stores (Charts), is cutting jewelry prices between 20 to 50 percent.

Analysts said the promotional activity, with the exception of Wal-Mart, appears to be benign.

In the specialty electronics space, Best Buy (Charts) and Circuit City (Charts), the No. 1 and No. 2 retailers, also haven't resorted to a quid pro quo response, as yet.

In a note to clients on Monday, Goldman Sachs analyst Matthew Fassler wrote that while "Wal-Mart's recent price cuts on consumer electronics caused investor concern, this action is no different than past holiday seasons."

"Furthermore, mass merchants do not yet carry the assortments or offer the services to pose a serious threat to Best Buy and Circuit City in key product categories, most notably [high-definition] televisions," Fassler said.

Britt Beemer, retail analysts and chairman of America's Research Group, said Wal-Mart succeeded in surprising many by announcing its "rollbacks" on electronics on a Friday.

"It was a brilliant strategy. Wal-Mart won the weekend sales battle," Beemer said. "The problem for other retailers is that they've already printed their seasonal circulars weeks in advance. So they couldn't respond quickly even if they wanted to."

Even so, Beemer expects retailers won't attempt to copy Wal-Mart's move as the season progresses. "I think retailers will focus on the big sales item and not blanket discounts. In other words, they'll take some big items and feature blow-out sales on those," he said.

Burt Flickinger, a consultant with the Strategic Resources Group, agreed.

The holiday season is always a sales versus profit gamble, he said. Retailers, on average, have kept inventory lean this year. If they engage in an aggressive price war, they may not have the inventory to match the demand it generates.

However, if retailers' set moderate discounts and have the must-have items in stock, they could see a nice pop in profits and sales.

Wal-Mart is clearly gambling on sales because its struggling to reverse course on its sluggish same-store sales growth.

"In the next 50 days, its price cuts will give Wal-Mart a short-term volume boost but perhaps a long-term profit problem," he said.

The sales stimulus is critical for Wal-Mart to to achieve it's financial objectives for this year, said Flickinger.

"But when its new fiscal year starts in February, it's be tough for the company to once again fight through its old problems," he said.

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Most stock quote data provided by BATS. Market indices are shown in real time, except for the DJIA, which is delayed by two minutes. All times are ET. Disclaimer.

Morningstar: © 2014 Morningstar, Inc. All Rights Reserved.

Factset: FactSet Research Systems Inc. 2014. All rights reserved.

Chicago Mercantile Association: Certain market data is the property of Chicago Mercantile Exchange Inc. and its licensors. All rights reserved.

Dow Jones: The Dow Jones branded indices are proprietary to and are calculated, distributed and marketed by DJI Opco, a subsidiary of S&P Dow Jones Indices LLC and have been licensed for use to S&P Opco, LLC and CNN. Standard & Poor's and S&P are registered trademarks of Standard & Poor’s Financial Services LLC and Dow Jones is a registered trademark of Dow Jones Trademark Holdings LLC. All content of the Dow Jones branded indices © S&P Dow Jones Indices LLC 2014 and/or its affiliates.