SAN FRANCISCO—The best retail properties are leasing strongly, but weaker centers, especially those situated in secondary or tertiary locations continue to lose shoppers and tenants, Colliers International's chief economist Andrew Nelson tells GlobeSt.com. We spoke exclusively with Nelson about the impact of e-commerce on retail space absorption and how online sales are influencing various aspects of brick-and-mortar stores.

GlobeSt.com: Vacancies still seem to be quite high at many shopping centers. Why haven't we seen more improvement yet?

Nelson: Many centers and markets across the country are thriving, but overall, space absorption has been weak during this recovery compared to what we typically would see during expansion periods. While this is true across most property types (with the exception of multifamily), retail has been the slowest of any property sector to recover. Fortunately, construction is still minimal in most markets, so virtually all net absorption is going to existing centers, which is slowly bringing down vacancies. But the pace of lease-up has been slow, translating into the weakest rent growth of any property sector. Rents in shopping centers on average still haven't grown since the recession, and they continue to decline or stagnate in many markets. This is an indication of how weak leasing has been, as pricing power has shifted more to the tenants.

But this is only a snapshot of the overall state of the market, and within that, there is a lot of variety across centers and markets. What we're seeing is a bifurcation between the winners and losers. The top one or two retail properties in each market are doing fine. This top slice of the market is absorbing a disproportionate share of space and is able to push rents—and many have reached prior peak rents already. But other centers in secondary or tertiary locations, or maybe less successful centers in strong markets, are continuing to lose shoppers and tenants, further pushing down rents. In this market, it's really been survival of the fittest.

GlobeSt.com: What's driving this bifurcation of retail success?

Changing retailer strategies have been forced by the recession and now increasingly by e-commerce. Many retailers expanded too aggressively during the last decade, adding more and bigger stores in a quest to build market share, with apparently little concern for productivity. Many of these new stores were never really successful and struggled with low sales volumes, and then profits plunged when the recession hit. Too many chains, even premium retailers, put their reputations at risk, as well as their viability, by seeking to locate on seemingly every street corner, threatening overexposure and reducing their exclusivity. This was not a winning, sustainable strategy.

And then e-commerce helped to force the issue even more. Retailers were losing sales to purely online retailers, but they also realized they could sell online themselves, and often less expensively while capturing sales that were migrating from their brick-and-mortar stores—especially in the secondary and tertiary markets that were not generating a lot of sales. So e-commerce has encouraged retailers to prioritize and focus on the best locations and markets at the expense of secondary locations and centers.

GlobeSt.com: What else should our readers know about e-commerce?

Nelson: Clearly technology is facilitating and accelerating the move toward online shopping since you can shop right from your mobile device, and the online share of the consumer wallet keeps rising as people get more comfortable with shopping wherever and whenever they are. But it goes deeper. First, peer-to-peer sales sites like Craigslist and eBay have dramatically increased the ability of consumers to connect with one another and bypass traditional sales channels, which is to say, stores. These sites not only have replaced the old flea markets and classified ads where people used to sell directly to each other, but have also reduced the costs while increasing the customer base for these peer-to-peer sales. A million people might view a product on eBay, versus a flea market where a few hundred people might see it. So stores are left out of the mix.

And then smartphones and tablets are displacing billions of dollars of sales in products and services—like maps, cameras, newspapers, recorded music and movies—that used to be available exclusively in stores. So it's not just that the product used to be sold in stores and now it's being sold online: Instead it's free and there's no retail sale at all. We're streaming music and using apps for maps, among many, many other examples.

But we need to keep this in perspective. Over 93% of retail sales are still conducted in stores, and the in-store share is declining by only about half a percent per year. And retail centers continue to play their vital historical role as social crossroads and gathering places, so stores and malls are not going away. Still, when you exclude retail categories such as groceries, cars, and personal care items that people typically don't buy online, the e-commerce share of retailing is now at about 20% and growing rapidly. Plus, several categories that have migrated online – especially apparel and electronics – used to be among the most profitable for stores, which helps explain why so many malls and community centers have been struggling, even during the recent economic expansion.

GlobeSt.com: How is e-commerce influencing the design and location of brick-and-mortar stores?

Nelson: There's an increasing premium on visibility. It's not enough to be located in the primary market—you want to be on the best avenue, at the best corner. I'm seeing rents skyrocket on Fifth Avenue, Rodeo Drive, Union Square and Michigan Avenue for retailers willing to pay for visibility. These high-street districts have been the predominant form of high-end retailing in Europe, as it was in the US years ago before the advent of enclosed shopping malls. Now, high-street retailing has really come back with a vengeance, posting some of the highest occupancies and rent growth of any property type, which is clearly related to e-commerce. High-profile stores help build the brand. For example, the Abercrombie store on Fifth Avenue is wildly popular, with lines out the door. At the same time, they've closed many stores, especially in smaller towns with secondary malls. The strategy is to build visibility in the primary markets, and then encourage people to shop online the rest of the year when they're not in New York.

And these stores located in prime locations are becoming flagships that are much larger than their typical prototype and offer a true brand experience, while showcasing their full line of merchandise. H&M, Uniqlo, Apple and many other retailers have opened huge flagship stores in New York and elsewhere.

At the same time, most other stores are downsizing, marking a reversal from the ever-larger stores we were been seeing stores over the past 40 years. In the past, retailers tried to compete on volume and breadth of product, but are now realizing they need to focus on their top sellers and carry everything else online.

GlobeSt.com: How else are stores and shopping centers fighting back?

Nelson: One way is by playing to their strengths – the customer experience. Nordstrom's was a pioneer in recognizing they didn't need to carry every product in every size and color, but just need to have their best sellers and a representative sample of everything so shoppers can try the look and feel. Then, for size/color combinations not in stock, they encourage and even facilitate online shopping right within their stores, with the products then delivered to the shopper's home. The result will be more productive and ultimately smaller stores. When retailers carry fewer products in smaller stores and focus on their top selling items, the sales loss is minimal because a lot of the product they dropped wasn't selling much anyway. As a result, they can reduce their total rent and make more profits per store.

We're also seeing more interesting retail centers. As certain types of hard-goods stores go away, a lot of them are being replaced by services and higher-quality food vendors. Overall, there's a greater emphasis on experience and entertainment. And when store sizes decrease, the mall can offer a greater variety of stores. It may be tougher to keep the center fully leased, but they have greater opportunity to attract different types of users – and even take some risks on more innovative untested retailers because with smaller stores, the downside exposure to any one store closing is reduced.

So anyone declaring the end to shopping centers is missing a lot of innovation and exciting development that will sustain malls for many years to come.

Instant Insights /

Bifurcation Between Retail Winners and Losers

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