Bricks & Mortar Vs. Internet Sales: Retail Experts Recently Debated The Topic
The recent ISI Conference retail panel topic "How Are Landlords Adapting to an Evolving On-line Shopping World" proved to be quite controversial.
However, it appears that the eminent death and burial of bricks and mortar retailing was not actually the dominant story.
The panel featured: DDR Corp (NYSE: DDR) CEO Dan Hurwitz, Federal Realty Investment Trust (NYSE: FRT) CEO Dan Wood and General Growth Properties Inc (NYSE: GGP) CEO Sandeep Mathrani, along with retail consultant Jan Kniffen.
Depending upon which panel participant proves to be prescient, either (A.) bricks and mortar retailers are in a slow, inevitable death spiral due to Internet shopping trends, or (B.) the demand for quality mall space outstrips current supply to the point that Mathrani actively buys out tenant leases to improve his company's merchandise mix (and to lock-in double digit gains on the new leases).
In a way, the physics at work in the retail universe could allow for both cases to exist at the same time.
Tale Of The Tape
In economic theory, there is a concept known as Gresham's Law. It simply states: Good money drives out the bad. Coins with less precious metals, for example, will cause the hoarding of better-quality coins.
In the retail world, the opposite dynamic seems to be in play, whereby good retailers drive out the poorer quality competition.
Kniffen recalled a series of meta-trends dating back to the early 1960s when suburban malls destroyed downtown shopping districts -- then the “discounters” pressured department stores. Over time, Walmart effectively finished the job, while proceeding to do the same thing to the rest of the discounters.
Kniffen observed retail margins have fallen every year since Walmart opened in 1962. He then made the prediction that the pressure from Internet retailing initiatives will continue to cause overall mall traffic to decline, ultimately resulting in the demolition or re-purposing of hundreds of obsolete shopping malls.
A downward spiral in B&M retailing will be the inevitable consequence of the acceleration of online shopping trends, he added.
Not So Fast
General Growth's Mathrani, on the other hand, was quick to take the opposite side of the debate. He rattled off a series of counterpoints:
• No 100 percent-online retailer has shown a profit.
• 65 percent of books are still sold at B&M stores.
• About 40 percent of Macy's Internet sales are returned to B&M stores.
• When Macy's closes a store, Internet sales plummet to almost zero in that market.
• Online sales statistics can be interpreted as having reached a plateau, rather than accelerating.
Perhaps the strongest argument he put forth, though, was that in reality, the Internet has cannibalized catalogue sales, which have declined from about 10 percent of the market in 1995 to around 1 percent today.
Effectively, B&M sales as a percentage of total sales have remained the same, with the Internet accounting for around 9 percent of retail sales, Mathrani noted.
Investing In Valuable Retail Real Estate Pays Off
During the discussion, Federal Realty's Woods was quick to point out that real estate landlords are focused on creating long-term value, rather than for "Back to School," "Black Friday" or one particular holiday season.
He explained that Federal Realty is focused on "value creation in real estate that involves retail."
Woods then gave examples, including the repositioning of the Pike and Rose Center -- a location where two big box stores formerly anchored a power center. This property had recently been redeveloped into Phase 1 of a mixed use community with a residential component, health club, restaurants, movies, as well as soft-good retailers.
Woods said when one owns real estate that's surrounded by customers with money to spend, includes barriers to entry, and is adjacent to mass-transit, "it's hard to screw that up… just execute."
Are Class-A Malls Safe Investments?
Mathrani, meanwhile, has a waiting list for many of his properties. He only has one vacant anchor spot, he says, adding that many retailers are looking to expand from 10,000 square feet to 25,000 SF. European retailers such as H&M, Zara's and most recently U.K.-based Primark are looking to expand in prime locations. Primark, in particular, is looking for 40,000 SF to 80,000 SF anchor slots in locations that are currently unavailable.
Mathrani reported that year-to-date, mall traffic is up 1 percent, sales per square foot is up 3 percent, occupancy averaged 96 percent, EBITDA was up 4 to 5 percent, and retailers were buying enough inventory for 4-percent growth this holiday season.
At the end of the discussion, the entire panel agreed that Class-A and A+ malls are uniquely positioned to continue to grow sales per square foot and thrive moving forward.
However, there was also consensus that hundreds of U.S. malls -- Class-B and below -- may have challenges remaining competitive in the face of changing retail trends.
The face of retailing in America has always been evolving and changing.
Yes, 150 department stores are now down to about five, and there are very few relevant "discounters" besides Walmart. No new regional malls were constructed in the past decade, and marginal malls continue to be repurposed.
Still, as Mathrani was quick to point out, civilization had bazaars 6,000 years ago -- people have always enjoyed congregating to mingle and shop. For those that own the most desirable locations, it's possible that trend won't change.
Disclosure: At the time of this writing, the author had no position in the equities mentioned in this report.
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