We are paying witness to our villages, suburbs, and the economics of place being flipped upside down. Monmouth Mall is but a metaphor for a time that is passing when the village monetized shopping malls. Now places like Monmouth Mall are the economic gardens to monetizing our villages for the next generations of people.
Income elasticity of demand is one of the best predictors of which shopping malls and centers are most exposed to the structural changes in the retail industry.
This measures the change in quantity of goods sold relative to changes in household incomes. Retailers such as Pirch, Hanna Andersson, the Apple store, and pure-play online retailers opening physical stores such as Amazon Books, Bonobos, and Athleta, enjoy a more inelastic demand curve. The buyer tends to have a higher income or net wealth. Their purchase decision is driven less by price and more about the product. And, an increase in price tends to have a negligible change in the quantity sold. (Although Neiman Marcus is discovering the top-end of this dynamic as recently reported in the Wall Street Journal.)
Examples of retail real estate in markets where income-demand is relatively inelastic include Westfield's University Town Center in San Diego, Simon's The Fashion Mall at Keystone in Indianapolis, GGP's Miami Design District, and Macerich's The Shops at North Bridge in Chicago. These top-tier retail properties are positioned in affluent markets that tend to remain strong long-term.
Retail real estate property in a market that has a less inelastic income-demand curve is exposed to additional risks associated with the structural changes in the retail industry. Specifically, in markets where consumers seek substitute goods in exchange for price-discounts, off-price merchandise and dollar stores. The quality-price dynamic is more prevalent in the decisions of this consumer-household segment than for the segment that shops at the Miami Design District. Modest changes in real income affirms value-seeking buying behaviors. That is, a shopper will buy a less expensive product to fit in a tighter household budget without sacrificing too much in product quality. Hence the popularity of TJMaxx over Macy's; or HomeGoods over JCPenney; or Overstock.com over Ethan Allen; or Zappos over Payless Shoes.
Additionally, retailers are exposed to market share shrinkage in markets that have less income-demand inelasticity. This condition increases the likelihood of cannibalization among existing stores and, therefore, may result in store closures. The locations of store closures in 2017 announced by Macy's, JCPenney and Sears are examples of this market condition. For example, read an associated article on Collin Creek Mall in Plano, TX.
Income elasticities of demand have useful predictive attributes in determining market potential for a store and restaurant; in evaluating market-viable value-added strategies to a redevelopment project; in optimal tenant mix analysis; in leasing; and in acquisition due diligence.
There are much broader applications to other real estate uses, especially for multifamily residential, hotel and hospitality product types and price structures. For example, income elasticities of demand is an indicator for market-viability of luxury apartments, affordable housing, and condominiums; to evaluate optimal rents per square foot for apartment units by mix, unit features and community amenities; and to estimate lease-up velocities.
In summary, income elasticity of demand is a predictive measure of retail, residential and commercial real estate market potential.
The retail sector is in a state of disruption. This is beyond the ebb-and-flow of the business cycle: This is structural. The meta-economic and technological dynamics underlying fundamental shifts in the consumer demand curve have been fermenting for more than a decade. We are just now observing the earliest signs of this industry shift.
Look at the retailers that either have or will be closing thousands of stores due to Chapter 11 bankruptcy, moving to online only or simply going out of business: Gordmans, Rue 21, Payless Shoes, Sports Authority, Gander Mountain, Wet Seal, Bebe and The Limited. Simon Property Group and General Growth Properties bailed out of bankruptcy Aeropostale, a long-held mall tenant. A bail-out that does not change the economic shifts that undermine the long-term viability of Aeropastle.
Then there are the mall anchor retailers, namely: Macy's, JCPenney and Sears. They're the canary-in-the-coal-mine. These retailers have reached the winter of their business lives. Retail shopping malls and centers are intertwined with this economic shift. What the canary signaled to miners is what retailers are signaling to mall owners.
Shopping malls are akin to putting all your eggs in one basket. True, this goose has been laying golden eggs for decades. However, if you own one that has been losing net operating income for some time, is increasingly being occupied by temporary tenants, where Sears and/or JCPenney is downsizing from two floors to one, then now is the time to evaluate the diversification of your holdings. Retail as you have known it for the past 20 to 30 years is no longer going to drive value.
Benjamin Graham's ideas on value investing were planted over 70 years ago. Now is a good time for owners and buyers of retail real estate properties to revisit those principles. In particular, the principle of concentrated diversification. This principle has solid implications of value-investing strategies that more broadly evaluate a portfolio that includes a more diversified mix of retail and non-retail uses.
Municipalities need to master a very specific skill set to work with owners-developers in transforming empty lots and underperforming spaces into true destinations with a memorable and engaging sense of place. Jeff Green and I share tips for building a successful public-private partnership in this Shopping Center Business, March 2017, article.
How much of new economic activity is supportable in a given market? That economic activity may be the quantity of new: retail stores by type (e.g., grocery, apparel, sporting goods, etc.); limited-service hotel rooms; multifamily housing units; and multi-tenant office space. For mixed-use developments, highest-and-best uses analysis is framed by this central questions, too.