Outlet center growth signals malls aren't dead

For traditional retailers and the malls in which they reside, the game of chicken that consumers are playing on price has had major repercussions for their sales and profitability.

But for one property owner, this same shopper reticence is instead fueling its growth.

As retailers across the U.S. shutter hundreds of locations — sometimes leaving empty malls in their wake — Tanger Factory Outlet Centers continues to break ground on new properties.

Tanger Outlets in National Harbor, Md.
Mark Gail | For The Washington Post | Getty Images
Tanger Outlets in National Harbor, Md.

After opening four new centers in 2015, and with two more set to open by year-end, the company that 35 years ago pioneered the outlet space is gearing up to open one or two new centers annually over the next two to three years.

Tanger's road map for growth comes as traditional retailers flock to the discount space, as they try to rejuvenate slumping sales at their full-price stores. But it also comes amid concerns that retailers are relying too heavily on the outlet and off-price channels to drive sales, which could serve as a detriment to their brand equity and profitability long term.

For now, at least, the economics of the outlet model support Tanger's plans. According to the International Council of Shopping Centers' Value Retail News, average center sales reached $546 per square foot in 2015, compared to $532 a foot two years earlier.

"Consumers love to shop in the outlets," Steve Tanger, president and CEO of Tanger Factory Outlet Centers, told CNBC. "It's the only retail distribution channel where they can buy direct from the manufacturer and cut out the middle man."

After opening locations near Memphis, Tennessee; Savannah, Georgia; Mashantucket, Connecticut; and Grand Rapids, Michigan, last year, Tanger will open a new outlet center near Columbus, Ohio, in June, and another in Daytona Beach, Florida, ahead of the holidays.

Of the centers opened last year, all were at least 95 percent occupied as of the end of December. This high rate of tenancy, consistent with the North America industry average, is reflected in the company's overall financials, and contributed to its 35th straight year of 95 percent or more occupancy.

"We're going carefully around the country trying to see markets that are underserved," Tanger said.

The company is also identifying properties where, due to their age or changing area demographics, it can divest certain centers. In 2015, Tanger sold six of its smaller centers, which had an average age of 24 years, including a divestiture of its ownership in a joint venture partnership involving a Wisconsin property.

The sales generated $166.3 million for the company, and brought down the average age of its portfolio. (Its remaining locations averaged 16 years.) Having younger properties in its portfolio means Tanger needs to spend less money revamping older properties, which sometimes might not be worth the additional cash infusion.

Already in 2016, after receiving a call from a local entrepreneur, the company also completed the sale of a small center in Fort Myers, Florida, for $26 million.

"We're very comfortable with the fleet that we have," Tanger said, adding that the company has no properties on the market for sale. He did note, however, that as seen with the Fort Myers property, local entrepreneurs sometimes inquire about specific properties.

In all, Tanger operates 42 centers across 21 states. But while outlets are the sole focus of Tanger's portfolio, it isn't the only developer eyeing the space. According to Value Retail News, 24 outlet centers are scheduled to open in the United States this year.

Though such rampant growth could raise some eyebrows — particularly as industry experts argue the U.S. already has too much retail space — Tanger said the growth is measured. Whereas there were about 200 outlet centers in the U.S. last year, that compares to roughly 1,100 enclosed malls.

"It's very controlled, rational growth," Tanger said.

The fundamentals at outlets continue to improve for property owners, as more retailers view them as a method to juice up sales. Tanger last year saw a 22.4 percent increase in its average base rental rates, on top of a 23 percent rise the prior year. This lift was driven by both new tenants signing leases and renewals.

Some have cautioned that rising rents in the outlet space, which by nature generate lower sales volume, could eventually come back to hurt property owners, as they could throw off the economics for retailers looking to rent space at these traditionally lower-cost properties. In that vein, Tanger's average tenant sales were flat in 2015.

Still, the company's CEO emphasized that outlets have the lowest cost of occupancy in the mall sector.

"We are a very profitable distribution channel for our tenant partners," he said.

Ron Antonelli | Bloomberg | Getty Images

Other concerns about the proliferation of outlet centers include what Robin Lewis, CEO of The Robin Report, calls a "race to the bottom." By opening outlet stores, Lewis and other analysts argue that retailers run the risk of confusing shoppers, and diluting the power of their full-price brand. That, in turn, could make it more difficult for them to generate sales on full-price items at their traditional stores, as shoppers could decide to shop only their lower-cost assortment.

On the flip side, retailers have argued that these channels are a means of attracting new customers to their brand, and that once they have a more sizable disposable income, they will trade up to their full-price products.

A recent study conducted by Gonca Soysal, an assistant professor of marketing at The University of Texas at Dallas, and Lakshman Krishnamurthi, a professor at Northwestern's Kellogg School of Management, backed up that thesis. The research, which examined data from a specialty apparel retailer with more than 400 traditional stores and 100 outlet stores, did not find evidence of cannibalization or brand dilution.

However, the researchers cautioned that one reason behind their findings could be that the retailer they studied successfully differentiated and separated its two store types.

"When positioned properly, outlet channels can bring in not only incremental dollars from customers who would otherwise not buy from the regular retail stores, but it also serves as an entry point for certain kinds of customers," Soysal wrote.