Real Estate's Next Chapter

With the holiday shopping season now underway, the final chapters of 2017 are already being written. While we don’t know exactly how the story will end, we can safely say that this has been a rough year for retailers–and for the retail real estate industry.

As everyone begins to look forward to the new year, here’s a look at what are shaping up to be the most important retail real estate trends for 2018:

Malls

When it comes to America’s struggling malls, I think 2018 will largely be more of the same–but even worse (at least for C malls). I do think we’ll see more clear segmentation among mall categories, with C malls essentially becoming obsolete. B malls will be somewhat bifurcated: some will get the upgrades and improvements they need to move toward the A category, while others will slide further down towards their imperiled C mall brethren.

It’s impossible to think about what comes next for traditional malls without considering the status of iconic department store brands like Sears, Macy’s and J.C. Penney. I think Sears will continue to close more stores (including Kmart stores), and it wouldn’t necessarily surprise me to see Sears close the bulk of its stores by the end of 2018. Macy’s continues to plan to integrate its off-price Backstage concept into existing Macy’s stores. If that move proves to be successful, that could limit Macy’s closures in 2018. My gut feeling is that this is unlikely to work out for Macy’s. There are already so many other established off-price concepts that do a better job (Nordstrom Rack, Marshall’s, TJ Maxx, Ross, Saks Off 5th and Stein Mart). It’s a crowded and competitive segment, as evidenced by Bloomingdales decision to pull back on new outlet openings, and Neiman Marcus’s recently announcement that it plans to close 25 percent of its Last Call outlet stores. Building the Backstage brand seems like a big ask, especially when others have been refining and strengthening their position for so long. I also question Macy’s decision to bring its off-price brand into traditional stores in the first place. This seems like a surefire way to muddy the waters and create brand confusion. As for J.C. Penney, while we may see some additional closures, I think it’s unlikely to be on the same scale as Sears and Macy’s. I expect those closings to primarily be smaller stores in smaller markets, as part of J.C. Penney’s ongoing effort to trim lower-performing locations from its portfolio.

Digital crossover

Online and mobile retail will continue to be a big story in 2018. I think the headline is less about “competition,” and more about the way the lines between traditional brick-and-mortar and its digital counterparts continue to blur. We’ll likely see more retailers following brands like Restoration Hardware, Warby Parker, Bonobos and the new Nordstrom Local concept, by not carrying a full array of merchandise. Instead, these stores use their space to showcase products that can be ordered on the spot and delivered to your home.

Many larger retailers are going to be looking to buy smaller online brands in 2018, in moves similar to Walmart’s acquisition of Bonobos. I’m not sure who it’s going to be exactly, but it wouldn’t surprise me to see more of this from Walmart or Target. Traditional department stores don’t really have the cash required to make this kind of a move–with the possible exception of Nordstrom, who may make a smaller-scale purchase (perhaps acquiring an emerging brand that has already performed well in Nordstrom stores).

Speaking of digital/traditional crossovers, I expect we’ll continue to see more online retailers working to establish a brick-and-mortar presence with mixed success. This “clicks to bricks” phenomenon had led to some high-profile successes, and some equally high-profile struggles. It’s unclear if the latter are the result of concepts that don’t lend themselves well to brick-and-mortar, or if some online retailers simply don’t have the necessary brick-and-mortar expertise to execute that transition successfully.

Soft big boxes

In 2018, the big box market will likely continue to soften. Power centers are continuing to see some sluggish performance, with an abundance of vacant space and a limited number of concepts available to fill those spaces. Home Goods has a new concept on tap, but it’s still in testing mode. We’ll certainly see some new TJ Maxx, Marshalls and Home Goods locations, but we are beginning to max out on those. Continued softness in the office supplies segment isn’t going to help, with Office Depot taking over more Office Max stores and closing others, and Staples closing more stores. Best Buy and other consumer electronics seem to be somewhat stabilized and holding steady, but the Sporting Goods segment was decimated in 2017. With Gander Mountain closing stores, and Sports Authority and MC Sports now defunct, the category winner is Dick’s Sporting Goods–but there are only so many of those stores to go around. The bottom line is that this category is shrinking, and I expect that to continue in 2018.

Supermarkets

The supermarket segment has been an industry bright spot for some time now. However, a combination of international competition and an influx of new concepts has left the grocery landscape very much in flux heading into 2018. Competition between two German brands–the established Aldi, which is expanding significantly stateside, and relative U.S. newcomer Lidl, which is opening an eyebrow-raising five to 10 stores per month–has driven prices down and created serious market share issues for traditional supermarket brands. Those traditional concepts will also be pressured by the continued expansion of specialty markets. Sprouts continues to open 40-60 stores a year, and names like Earth Fare and Natural Grocers occupy a growing share of the organic and specialty market. Trader Joe’s is also a significant player in this increasingly segmented category. One wild card is Whole Foods, where questions remain in the wake of its acquisition by Amazon. There seems to be little doubt that the iconic organic brand will gain market share, but Amazon’s strategy of lowering prices will almost certainly bring down profits in the process.

Bottom Line

Every retail format will feel the impact of the ongoing challenges that have emerged or continued in 2017. Malls will continue to struggle, power centers will face some headwinds, and–with the grocery market in flux–it’s possible that even neighborhood centers will face some rough air.

Here’s the good news: if 2017 was almost exclusively bad news, 2018 will likely be more of a mixed bag. Yes, we will see closures, but there are creative new concepts that are growing, changing and emerging. It may be a bumpy ride for retail real estate in 2018, but with turbulence comes innovation and creativity–and the prospects of clearer air ahead. It will be fascinating to watch it all unfold.