The Evolution of Retailing in the

Retailing has evolved in SPURRED BY POP culture, suburbaniza- tion, and increased competition, - response to suburbanization, ing in the United States has gone through a major evolution over the past cost-cutting, and price 50 years, changing from a largely urban to a primarily suburban experience. competition. Retailers today confront the traditional challenges of providing convenience, desirable products, selection, and attractive pricing, but they also must contend with the effects of increased purchasing power of children, short- ened retail cycles, increased female workforce participation, and increased competitive pressures. PETER LINNEMAN Children now control more pur- DEBORAH C. MOY

42 ZELL/LURIE REAL ESTATE CENTER chasing power, directly as well as kids went their separate ways and met through their parents and grandparents, for lunch at the food court, each shop- than any previous generation. The cash ping at an average of seven stores. in their hip pockets (which are often at Today, between work and shuttling their knees), combined with increased their children to activities, adults are car ownership, has created a new cate- increasingly destination shoppers. They gory of consumers. fads have visit an average of only 1.3 stores per always been fleeting, but the popularity trip to the mall, and are back in their period of stores has been made much cars in 76 minutes. Leisurely mall shorter by these young consumers. browsing has become a luxury for all Historically, a chain of stores would except teenagers, making the retail for- generally enjoy a run of popularity of mat of choice for adult shoppers the cat- seven to ten years, but that reign has egory killer. now shrunk to three to five years, since Another factor in the evolution of what is cool for 12- and 13- year-olds is retailing is the perceived increase in passé by the time they turn 16. consumer opportunities. Middle-class Today, brands are cross-sold by mul- consumers are bombarded with ways to tiple retailers, allowing greater synchro- spend their disposable income—resort nization of product reaction cycles. In travel, fine dining, specialty camps for the 1980s, when a trend was kids, and so on. With so many luxury started by Valley Girls in California or items now available, discounts on every- break-dancers in Brooklyn, it spread day generate valued savings, geographically at a slow pace. Today, fed driving consumers to value-oriented by MTV and other youth-oriented sta- stores such as Wal-Mart. This is partic- tions, a new fad is practically instanta- ularly true when budgets are tight and neous, meaning that retailers need a people still strive to maintain the much faster response time. lifestyles to which they have become As more women of all ages partici- accustomed. pate in the workforce and have more disposable income, they have less time for shopping. At the same time, many P ARALLEL EVOLUTIONS women have delegated much of the shopping to their teenage children. In American suburban retailing has evolved the 1980s, going to the mall was a fam- on two related levels: The expansion of ily outing in which Mom, Dad, and the product offerings, that is, what is avail-

REVIEW 43 able to the consumer; and the creation of cient way to meet suburban demand was new retail formats, that is, how those to be located where their customers lived products are offered to consumers. Over (and eventually worked). They were slow the last century, people increasingly to get started—in the 1950s, the rate of moved their families to the suburbs. In suburban retail expansion was still slower the Northeast, suburbanization spread than the rate of purchasing power sub- along the train lines, while in areas such urbanization. as Dallas and Los Angeles, the suburbs Suburban retail offerings expanded in followed the freeways. three phases. In the first, retailers met Although by 1950 roughly 45 percent existing demand by providing necessities, of the population lived in the suburbs, such as groceries and everyday items, little retail existed “out there” to service through small stores. In the second them, since few retailers had joined the phase, retailers opened scaled-down ver- exodus to the suburbs. Aside from sions of their downtown stores in this notable exceptions like Sears Roebuck, previously fallow territory. In many ways, , , and A&P, all their decision to open suburban stores of which had freestanding suburban was comparable to companies that ven- stores, retailing remained primarily in tured into global markets in the 1990s. downtowns or in secondary neighbor- Only belatedly did retailers offer a full- hood downtowns. In the 1950s and scale shopping experience via the cre- 1960s retailers realized that the most effi- ation of shopping centers.

Figure 1 Population of the U.S. Living in Suburban Areas

100

80

60

40 Percent

20

0 1950 1960 1970 1980 1990 2000

Sources: Property and Portfolio Research; PREI

44 ZELL/LURIE REAL ESTATE CENTER Figure 2 Number of U.S. Shopping Centers

50

40

30

20 Thousands 10

0 1950 1960 1970 1980 1990 2000

Figure 3 Total Leasable Retail Area in U.S. Shopping Centers

6

5

4

3

2

Billions of sq. ft. 1

0 1950 1960 1970 1980 1990 2000

Because the suburbanization of retail malls, super-regional malls, power cen- shopping massively lagged the suburban- ters, and countless strip centers. Not ization of purchasing power during the until roughly 1990 did suburban retail- first half of the twentieth century, subur- ing achieve supply-demand market bal- ban retail supply was much less than ance, and did U.S. retailing become demand. In the 1960s, this condition firmly entrenched as a suburban—rather persisted even as retailers began to move than urban—phenomenon. to the suburbs en masse in response to We estimate that there were roughly the success achieved by pioneering 650,000 suburbanites per center in efforts. In the 1970s and early 1980s, 1950, 22,000 per center in 1960, and suburban retail continued to play catch- approximately 10,000 suburban resi- up through the development of regional dents per center in 1970. In 1970, there

REVIEW 45 were only 11,000 shopping centers in the retail model, markets are rapidly sorting United States, even though about 55 per- out the wrong models. cent of the U.S. population (and a much Retailers, in concert with developers, higher share of the purchasing power) have exhibited significant creativity in was in the suburbs. By 1990, there were providing a variety of retail formats. about 36,500 shopping centers, or one Until supply and demand balance was center per 4,600 suburban residents. achieved, identifying the right retail for- Clearly, the last half of the twentieth cen- mat was very much an experimental tury was a period of tremendous catch- process. The result of this experimenta- up for suburban retail supply. This is tion was the proliferation of center loca- reflected in the decline of the growth rate tions, store and center designs, and for the development of new centers, from retailing formats. Neighborhood and roughly 6 percent per annum through community centers, often anchored by 1990 to about 2 percent over the last , focused on local thor- decade. oughfares, seeking to provide convenient This equilibrium of suburban retail access and everyday items at low- supply and demand has created a new set overhead costs. In contrast, malls of competitive pressures on the retail sec- anchored by department stores, stand- tor. In the 1980s, mispriced money alone department stores, and stand-alone flowed to developers, many of whom did discount stores targeted major inter- not understand that the high rates of sub- changes, in order to draw households urban product expansion were unsustain- from an extended radius to an all-encom- able. It has been only over the last 10 to passing shopping experience. 12 years that the Darwinian evolutionary process of eliminating the weakest retail- ers, locations, and center designs has THREE RETAIL MODELS begun. And it is a long way from over. During the 40-year catch-up period, Three general models of suburban retail- availability, not quality, was the main ing have emerged: the traditional mer- concern facing suburban retailers. chant; the discounter; and the big box. However, as suburban retail balance was Traditional merchants include supermar- achieved, providing the best quality retail kets and department stores. Their tradi- experience became critical for success; tional model is simple: sell quality goods and just “being there” no longer assured at a substantial mark-up to wholesale success. While there is no single correct prices (that is, at traditional pricing mar-

46 ZELL/LURIE REAL ESTATE CENTER gins). Prior to 1990, when supply- ally loss leaders (though to a lesser demand balance was achieved, tradition- extent) for developers. al merchants dominated suburban retail- Big-box retailers, housed in large ing. Neighborhood centers and regional warehouse-like structures, emerged in malls were developed to meet the expan- the mid-1980s, just as suburban supply sion plans of these retailers. The basic and demand were coming into balance. concept behind these shopping centers They provided goods of comparable was to draw traffic to the center with the quality to traditional retailers, but at brand recognition of the traditional notably lower prices. This was, and con- anchors, and to cluster complementary tinues to be, a particularly attractive stores to maximize sales. In fact, center proposition to the price-conscious con- developers placed so much value on the sumers who had previously shopped at traditional anchor’s ability to draw traffic lower-end department stores and at dis- that they treated anchor tenants as loss- counters, as they could purchase either leaders, often giving away space to the same quality goods at lower prices, or anchors. These developers counted on better-quality goods at the same prices. the center making money from the com- A simple numerical example shows plementary in-line stores. Of course, the competitive power of the discounter these in-line stores could cannibalize the model when it is well executed. Assume ’s sales, but never to the that a department store’s wholesale price extent of putting an anchor out of busi- for a product is $100, and the item sells ness. at a 50-percent mark-up, for a price of Discount stores, including brand- $150, while the discounter sells an infe- name outlet centers, adopted a different rior product with an $80 wholesale price approach. They sold inferior goods, at a 50-percent mark-up, for a retail price irregulars, out-of-season items, and dis- of $120. Enter the big-box retailer, who continued items at mark-ups roughly offers the same quality item as the comparable to traditional merchant mar- department store, but, by vigorously gins. Since their goods were of lesser squeezing the wholesaler, is able to pur- quality and their mark-ups were the chase the department store item at $90 same, these stores offered lower prices wholesale. In addition, by keeping the than traditional retailers could. The dis- overhead low, the big-box retailer can be counters frequently anchored communi- profitable at a 30-percent mark-up, for a ty centers and smaller malls, and, like retail price of $117. Now ask yourself: traditional anchors, they too were gener- Where would you shop?

REVIEW 47 THE BIG BOX minimize overhead. In some ways, the Wal-Mart approach is more like that of a Within the big-box model, there were manufacturer than a traditional retailer. two distinct strategies: Wal-Mart’s gener- Specifically, Wal-Mart treats merchan- al store strategy and the category killer dise as an input in their production approach. When well executed, these process, rather than as something to sell retailing formats have proven to be for- at a mark-up to cost. In a virtuous circle, midable competitors in a world of bal- their success has allowed them to buy anced suburban retail supply and goods at even lower wholesale prices, giv- demand. ing them the opportunity to further The approach is cham- reduce their retail prices. pioned by retailers such as Wal-Mart, In response to its success, Wal-Mart Target, and . Some of these retail- has expanded the size of its stores. The ers have been more successful than oth- company opened its first Sam’s Club ers, with Wal-Mart being the poster child warehouse in 1983 and its first Wal-Mart of this format. The Wal-Mart model is to Supercenter in 1988. Big-box general squeeze costs from every link of the sup- store retailers have attacked operating ply chain (including landlords) and pass costs on several levels. First, they are not the savings on to the customer. The Wal- concerned about being located at what Mart model seeks to exploit economies was traditionally considered to be the of scale in purchasing, while striving to best location, because their retail model

Figure 4 Number of Wal-Mart Stores

2500

2000 1500

1000 500

0 1996 1997 1998 1999 2000 2001 2002

Discount Stores Supercenters

48 ZELL/LURIE REAL ESTATE CENTER makes them the best destination. By out competitors (and entire categories being farther away from the major inter- within department stores) that sell goods changes, they have lowered their over- at higher prices and offer less product head via cheaper land costs, rent, and depth. property taxes. Their no-frills presenta- It is difficult to pinpoint when the tion and reduced common-area space first category killer came into existence, squeeze costs further. While stores are though many claim credit. Home Depot neat and organized, Wal-Mart avoids opened its first store in Atlanta in 1979, expensive improvements, effectively but did not build big boxes until 1986. eliminating build-out other than check- Office Depot and Staples both opened out aisles, restrooms, and signage. their doors in 1986, while Sports Specialty stores have existed since Authority entered the market in 1987. colonial times. For the goods and servic- Barnes & Noble claims to have pio- es of the butcher, the baker, and the can- neered the superstore concept in 1991, dlestick maker, we now look to Hickory but Toys ‘R Us may, in fact, be the first Farms, Au Bon Pain, and Pottery Barn. modern-day category killer. Toys ‘R Us, The category killer greatly expands the founded in 1948 as a baby furniture specialty store. Category killers are big- store, opened its first “toy ” box retailers that focus on a deep, but in 1957. Not far behind, Tower Records narrow, range of products. Their model opened for business in 1960, moving is to specialize on a massive scale to wipe into a large, vacant San Francisco super-

Figure 5 Total Sales Index (1993 = 100)

2500

2000

1500

1000

500 ...... 0 ...... 1993 1995 1997 1999 2001

... Home Depot Wal-Mart Target

REVIEW 49 market in 1967. IKEA, founded in killers, particularly in view of their over- Sweden in 1943, opened its first store in head and operating costs being higher the United States in 1985. than those of big-box retailers. Category killers combine the pricing Over the last decade, we estimate that strategy and massive square footage of a at least 90 percent of the growth in retail superstore with a deep assortment of sales has gone to the big-box retailers. items within a narrow product line. Stated differently, less than 10 percent of Thus, they pursue Wal-Mart’s approach new demand has occurred at traditional to quality, overhead, location, store retailers. Category killers have literally build-out, and margins. wiped out whole product categories that once made department stores popular, rendering the term “department store” a ONE BY ONE, THEY FELL misnomer. As department stores lost department after department (music to Since the big-box format appeared dur- Tower Records and Virgin Megastore; ing the period of suburban retail supply - furniture to IKEA and Crate and Barrel; and-demand balance, its success has housewares to Pottery Barn and Bed come largely at the expense of existing Bath & Beyond; electronics to The Wiz formats. As Darwin would have predicted, and CompUSA; and tools and gardening the weakest retail format—the dis- to Home Depot and Lowe’s), shoppers counter—fell first. Bargain-hunting no longer viewed them as essential shop- consumers who had shopped at the early ping destinations. discounters shifted in droves to big-box As departments have disappeared, retailers, leaving many centers once- department stores are left with large anchored by these discounters largely amounts of underutilized space. In fact, vacant. In short, consumers decided suburban department stores today offer there was no reason to settle for inferior little more than three departments: products when they could get quality clothing, jewelry, and . As wit- products for the same price. nessed by sales results over the past In the face of the new big-box com- decade, department stores no longer petition, many large traditional mer- draw shoppers, leaving many landlords chants survive, although seriously holding the bag—with anchors that nei- wounded. Traditional mall anchors find ther pay rent nor generate traffic for in- it increasingly difficult to compete with line stores. the everyday low prices of category Unfortunately, even as the big-box

50 ZELL/LURIE REAL ESTATE CENTER format gained momentum over the past traffic, will they be too productive for the decade, shopping-center developers in-line stores that are paying higher rent? responded to traditional anchors’ desires And will landlords be able to pass to expand, and built or renovated space through their high CAM costs to the for traditional merchants, further exacer- cost-obsessed big-box retailers? Only bating the problem. Many of these prop- time will tell. erties, especially those at less-desirable No retailer is immune from competi- locations, are suffering severe shortfalls in tive pressures, not even big-box retailers. performance. The resulting retail envi- Some big-box general store operators ronment is a tangle of well located or (Kmart, , and Bradlees) have not designed centers populated by weak successfully executed the model. Many anchors, poorly located or designed cen- category killers (Toys ‘R Us, Sports ters populated by strong anchors, and Authority, Circuit City, and Service poorly located or designed centers with Merchandise) have also either been weak or shuttered anchors. forced out of business or experienced Many of the worst centers have restructurings and closures. It is interest- closed, as owners search for alternative ing to note that when Wal-Mart entered uses for those properties. Other center the toy sector, they left little room for less owners are struggling to figure out how efficient competitors, and killed Toys ‘R to deal with shuttered or non-productive Us, the original category killer. Once anchors. For the best-located centers, a suburban retail markets achieved supply Chapter 7 filing by a weak anchor is a and demand balance, when big-box blessing, as they can put a more produc- retailers failed, it was for two reasons: tive retailer in the space. Some landlords their competitions’ ultra-efficient cost are adapting their model for leasing cen- controls, and their own lack of the same. ters, choosing to lease empty anchor For example, while Wal-Mart maintains space to a category killer. Not only do big an expense ratio between 15 percent and box-retailers pay more rent than the pre- 20 percent, Kmart has been at the high- vious anchor, they also draw more traffic. er end of that range even after recent But will these stores be complementary reductions. Similarly, Bradlees and to the in-line stores? The jury is still out Caldor died with expense ratios in the on this question. In particular, one won- 25-percent to 30-percent range. The les- ders how a center will perform if the big- son is that if low costs (rather than serv- box store replaces an anchor. While the ice or merchandising) are the essence of big-box retailers will pay rent and draw the business model, only those with the

REVIEW 51 THE FUTURE lowest costs survive. This is particularly true in light of the virtuous circle of scale purchasing. We now know that the big-box strategy Supermarkets are the latest to face the works when properly executed. The suc- challenge of the big-box retailers. With cess stories of Wal-Mart, Target, Home lower rent, minimal CAM costs, low Depot, Barnes & Noble, and Costco vendor costs, and reduced mark-ups, big- prove that it is a viable retailing format. box retailers are putting extreme pressure But execution—not the model itself—is on centers anchored by traditional super- the critical factor in a world where there markets. Conquering one more category, is no longer a shortage of suburban retail Wal-Mart, Target, Costco, and Sam’s product. Club have entered the grocery business The question of whether customers with lower prices than the traditional will go to less-desirable locations has also supermarket. In 1997, the first year Wal- been answered. But as traditional stores Mart reported grocery sales as a separate close, big-box retailers are gaining access line item, grocery sales were only $11.8 to the best locations, using the vacant billion. By 2001, Wal-Mart was the stores of bankrupt retailers to upgrade country’s largest grocer, with sales of $52 their current locations, or to enter mar- billion, surpassing Kroger’s $50 billion kets (for example, New England) with and Safeway’s $34 billion. Traditional high barriers to new development. As in supermarkets are being forced to cut the game of Monopoly, once the owner prices to survive. Many look to bank- of Boardwalk or Park Place goes bank- ruptcy in order to shed unproductive rupt, other players suddenly have a stores and reduce overhead, namely rent. chance to grab prime real estate. It is interesting that to date, Wal-Mart’s Retail landlords face a dilemma greatest impact as a grocer has been in regarding Wal-Mart as a tenant. Wal- small towns. On a national basis, Wal- Mart is the ultimate retail draw and an Mart has a 5 percent to 6 percent market excellent credit. Plus, if you do not have share of the grocery business, but only 3 it, it will locate two miles down the road percent in the 100 largest metropolitan at your competitor’s center. On the other areas. In contrast, Wal-Mart controls hand, Wal-Mart’s strong negotiating over 11 percent of grocery sales in small- position means that it, not the landlord, er markets. controls the deal. In particular, Wal-Mart will generally not sign a lease prohibiting them from “going dark.” What happens

52 ZELL/LURIE REAL ESTATE CENTER if Wal-Mart decides to close their store in The simpler construction design pro- your center, something they have done vides CAM expenses more comparable to repeatedly? Although the landlord still neighborhood and community centers receives rent, center traffic disappears, as than to malls. will your in-line tenants. You are damned While the jury is still out on how if you take them, and damned if you town centers will perform, they are don’t. To Wal-Mart, the landlord is just indicative of the ongoing competition in another vendor to squeeze. suburban retailing, which will require New retail formats will continue to greater attention to cost controls and emerge—in most cases, through reinven- design detail. Now that suburban retail tions of older formats. The latest twist in supply has caught up with demand, sim- the evolution of suburban retailing is the ply being there is not enough. largely anchorless town center. Such cen- ters offer a niche product with higher- end service and more amenities than big- box retailers. Town centers generally con- tain upscale specialty stores such as Williams-Sonoma, Anne Taylor Loft, Starbucks, and The Gap, as well as casu- al to slightly upscale dining. This format is an attempt to create a quaint down- town in upscale suburban settings. In most cases, these developments incorpo- rate limited amounts of multifamily housing and office space, often above the retail space. The town center’s open-air format provides better street visibility and access for retailers, and reduces CAM charges by reducing HVAC requirements. Town-center tenants gen- erally provide depth of product within a particular brand name. Developers of these centers hope that by eliminating the anchor tenant, they can enhance rev- The authors would like to acknowledge the invaluable enues while reducing operating costs. comments provided by Albert Ratner of Forest City Enterprises.

REVIEW 53