British retailers are facing difficult times, despite heavy Christmas spending, as fierce price competition takes its toll.

Retailers' shares are largely out of favour with investors as big name stores reveal the consequences - falling profit margins.

City analysts say the future is not looking bright for the industry, although it is great news for consumers who have come to expect "a bargain" before parting with their hard-earned cash.

Fast-growing e-commerce, together with the arrival of the world's biggest low margin retailer, Wal-Mart, means price pressures are not going to disappear overnight.

Bonanza for consumers

Shops are having to cut prices to get consumers through their doors and spending money.

A British Retail Consortium (BRC) survey says shoppers enjoyed their cheapest Christmas since 1997, although performances varied greatly between sectors and individual shop chains.

"This has been a great Christmas for consumers ... the picture for retailers was more difficult," said the BRC's Andrew Higginson.

A week of Christmas trading statements has so far been topped by one of the darlings of the retail sector - Dixons - reporting a fall in margins despite a 14% rise in profits.

The UK's largest electrical retailer saw its shares plummet 20% as City analysts downgraded full year profit forecasts.

The company, which owns Curry's, PC World and mobile phone outlet The Link, said like-for-like sales were up 5% in the crucial Christmas period, but gross margins continued to deteriorate.

Dixons said sales of mobile phones were up 100%, but prices were almost half that of a year earlier - down to £39.99 from £69.99.

Kingfisher also reported similar price pressures earlier in the week.

The group which owns Woolworths, DIY chain B&Q, Comet and Superdrug said a solid increase in like-for-like sales was achieved at the expense of margins.

Shares in the company subsequently fell 14%, their biggest one-day fall to date.

Ironically, Marks and Spencer surprised many by reporting an improvement in margins after cost reductions over Christmas. Like-for-like sales slipped 5.3%.

Some chains, such as fashion retailer Next managed to brush off the high street price wars and reported a pre-Christmas boom in sales.

The 18% surge in sales was something of a turnaround. Just a year ago the company was facing the same sort of criticism as Marks & Spencer is suffering at present.

House of Fraser, Argos and Safeway saw healthy sales in the Christmas period, while the Body Shop cosmetics chain saw its UK sales dip,

What about the future?

Williams De Broe analyst Ian MacDougal says "Investors have to be in growth markets."

Sales of home improvement goods and consumer technology are booming compared with most clothing retailers who are seen as the most vulnerable to margin squeeze and overcapacity.

"The general trend is that price competition will not abate in the foreseeable future but in certain areas market forces will ultimately see the weaker players forced out and overcapacity reduced," said Mr De Broe.

In its latest study looking at trends over the next five years, Verdict Research said additional floorspace and weak demand would see things get worse.

Online shopping is also a factor. It is set to jump from 0.3% of retail spending in 1999 to 3% by 2004.

This may not seem a lot, but that business will be captured from bricks-and-mortar shops, hitting both their margins and profits.

"E-commerce is going to grow and it's going to be big," said Mr MacDougal.

The Wal-Mart effect

The massive buying power and low-margin approach of Asda's new US owner, Wal-Mart, are also expected to squeeze profits across a range of retailers.

"The impact of Wal-Mart/Asda on the UK retail scene cannot be overstated," Verdict said.

After just a few months under new ownership, Wal-Mart's aggressive price cutting tactics are starting to show.

Asda has promised to cut the price of thousands of items to the levels offered in America.

The tactics seem to be having an effect too - the latest industry research by Taylor Nelson Sofres puts Asda's share of the UK food retail market at a record 14%, behind top spot Tesco and Sainsbury.

Indications of how Tesco and Sainsbury are facing the threat from Asda will be gleaned from Christmas trading statements due out next week.