Retailing Conundrum, Part 1: Is There A Way Out Of The Rut For Brick And Mortar Stores?

by Trefis Team
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Declining mall traffic and low prices offered by fast fashion retailers have been crushing apparel retailers. Earlier in the month, news surfaced regarding the shuttering of retailer The Limited. This news comes on the back of a difficult holiday period by department store operators and some apparel retailers. Department store chains such as Macy’s and Kohl’s both dropped their profit projections last week, after a holiday period which was worse than expected. Furthermore, American Eagle Outfitters‘ (NYSE:AEO), a retailer that had been performing well in FY 2016 (ended January 2017), also said its fourth quarter comparable sales to date have been flat, since “the holiday season was choppy and highly promotional.” A number of companies are resorting to deep discounts and other promotions to lure in shoppers. Despite efforts to turn around their business, many companies are struggling in the face of a multitude of problems, such as declining mall traffic, growth of online shopping, particularly Amazon, lengthy supply chains, and price-conscious shoppers. In the first part of the series, we highlight some of the problems the traditional brick and mortar stores are facing.

Decreasing Footfall In Malls

In the face of the realization that millennials don’t want to go to malls, many mall-based retailers have announced several rounds of store closures in recent times. Retail analyst Jan Rogers Kniffen told CNBC in May of last year that he predicts 400 of the 1,100 enclosed malls in the US will close in the coming years, and only 250 of the remaining will thrive. He further noted that the since the US has an estimated 48 square feet of retail space per citizen, the footprint is poised to decline “pretty fast.” This scenario is also reflected in upscale retailer Neiman Marcus pulling out of its proposed IPO, amid a weaker customer demand. This decision was undertaken two years after the company filed its intent with the US regulators to go public.

Mall Traffic

Given this trend, Gap Inc. (NYSE:GPS) has shuttered a number of stores in the past few years; over 100 each year between 2011 and 2014, and 237 in FY 2015. Till the end of the third quarter of FY 2016 (ended October 2016), the company had already closed 104 stores. With the growth of e-commerce and m-commerce, the company is putting greater focus on these channels, with efforts being made to improve site speed, and having richer content. Abercrombie & Fitch (NYSE:ANF) is also aggressively pursuing the optimization of its store count. For FY 2016 (ended January 2017), the company expects to close 50 stores in the US through natural lease expirations. The company also stated that approximately 50% of its 745 stores in the US are up for renewal over the next 18 months, giving the management the opportunity to continue with the store reductions. Over the last six years, the company has shuttered 350 stores, allowing it to cut costs and free up cash. The DTC business of ANF is its only channel showing growth in the financial year. The investments made by the company in mobile are paying off, with a nearly a 50% increase in sales from orders placed on mobile phones in the third quarter. After a successful roll-out of buy online, pickup in store, first in the UK, and then in the US, earlier in the year, the service was rolled out in Canada recently. This feature continues to be popular, accounting for over 5% of all online orders. In order to further bolster growth in this segment, Abercrombie & Fitch also announced a wholesale agreement with Zalando, Europe’s largest online platform for fashion. The German-based online retailer carries over 150,000 styles from more than 1,500 brands, and serves 15 European markets. Many other retailers, such as J.Crew, are also mulling over store closures in the future.

The Importance Of Experiences

While consumers are still willing to spend their money, there has been a fundamental shift in the what they are choosing to buy. Shoppers are increasingly moving away from spending on apparel towards more on experiences, such as vacations, eating out, or a concert. This is reflected in the reduced traffic to malls and stores, and record spending on air travels, a rise in restaurant sales, and growth in spending on media, which includes video games and streaming services such as Netflix and Spotify. This mindset change is proving to be a tough environment for retailers. Many retailers have been trying to overcome this by sprucing up their outlets. For example, Urban Outfitters (NASDAQ:URBN) has opened bars and restaurants within its stores, Barnes and Noble has in-store cafes, and a Target store may feature a Starbucks. Vacations and dining out are expected to get a major chunk of the spending  in the future, with a recent Mintel study pointing out an expected 27% increase between the years 2015 and 2019. The declining foot traffic has been eating into Gap’s revenue, which has been steadily declining since 2014. In the third quarter as well, the company reported a 1.5% fall in net sales. As a response to this, Gap has been undertaking a number of steps to improve its digital experience.

Poor Speed To Market

Another major problem the retailers face is the speed to market of their products. Fast fashion retailers, such as Zara, H&M, and Forever 21, are able to able to move styles from the runway to the stores within weeks, constantly evolving their assortment and keeping their products fresh. Historically, retailers placed their bets on fashion a year in advance, and since they marked their products higher, there was room for markdowns. However, now companies have realized that by cutting the time down to three to six months, they don’t need to price the items higher. As under the previous Gap CEO Glenn Murphy, CEO Peck is also looking to speed up and improve the supply chain, and claims significant progress has been made to accomplish this. Gap has been building its responsive supply chain capabilities, in order to buy on a more continuous basis. This will help to deliver “newness” constantly into the stores.

Analysis conducted by John Thorbeck, chairman of Change Capital LLC, and Professor Warren H. Hausman of Stanford University, shows that retailers can increase their profits by as much as 28% and market capitalization by up to 43% if they are able to reduce their lead times and respond faster to changing consumer demand. In the long term, the American retailers will be unable to compete with international brands such as Zara and H&M if they don’t address this issue.

For the second part of the series, click on the link below:

Notes:

1) The purpose of these analyses is to help readers focus on a few important things. We hope such lean communication sparks thinking, and encourages readers to comment and ask questions on the comment section, or email content@trefis.com
2) Figures mentioned are approximate values to help our readers remember the key concepts more intuitively.
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