×

For retailers, closing stores isn't as easy as it once was

Store posts a 'Going Out of Business' sign
Paul J. Richards | AFP | Getty Images

Investors are demanding it. Industry analysts are pushing for it. Even retailers and property owners, to a certain degree, agree more needs to be done. So why are companies moving so slowly to close down a chunk of their stores?

Though at first glance it appears a high-profile wave of such announcements is drowning out strip centers and malls — just think about Sears or Gap — a closer examination shows how misleading the headlines can be.

According to the International Council of Shopping Centers, an industry trade group, just 1,422 store closures were announced during the first quarter. That compares to an average 2,160 announcements during that period over the past six years. Trends during the first quarter are important to monitor because on average, some 50 percent of retailers' closure plans are announced during that window. However, the ICSC noted that it does not expect trends to accelerate in the second quarter.

Looking at the number of occupied shops across the U.S. further highlights the discrepancy. According to the ICSC, shopping center occupancy rates reached 93.2 percent at the end of the fourth quarter. That marked the highest year-end reading since 2007. The rate ticked slightly higher again during the first quarter, to 93.5 percent — the highest-quarterly reading since 2008.

Yet as new and existing retailers continue to open stores in the U.S., with several of the companies that are closing stores simultaneously opening new concepts, analysts argue many need to move faster to shrink their square footage. Retailers' dismal comparable-sales results in the first quarter only added fuel to the fire.

For retailers not teetering on bankruptcy, however, the decision to put a location on the chopping block is becoming more complicated, as many of their money-sucking properties have already been surrendered. What's more, with many of these stores out of their portfolio, there's no longer as dire a need to shutter a location before the lease expires — a decision that can be costly to their bottom line.

"Over the last year and a half, the bottom third [of the market] has really turned the corner," said Ryan McCullough, a real estate economist at CoStar Portfolio Strategy. "I don't want to overstate that there's going to be some kind of renaissance, … but if you're a large retailer and you're looking to see what stores to cut, I think it would have been very obvious over the last couple of years. Maybe it's less obvious now."

According to CoStar's data, rent growth at the top third of retail properties have increased 9.1 percent since 2010. That compares to a decrease of 4.4 percent at the bottom third of properties. Over the past four quarters, however, that dynamic has changed, McCullough said. During that time frame, rents among the bottom third of properties have increased by 1.2 percent, whereas those at the top third increased a similar 1.5 percent.

"We're kind of reaching this maturity phase of the retail recovery," he said. "I'm not going to say they (the weaker properties) are strong locations, but maybe they stopped hemorrhaging money."

A few factors may explain this shift. For one, McCullough credits a stronger suburban housing market boosting the economics in these communities. For another, because a shuttered mall does not bring in rent, those that went dark would not be counted in CoStar's data. And in cases where a major property owner divests a mall that isn't bringing their desired returns, local developers are breathing life into these spaces. Though these will likely never be top properties, they are nonetheless viable, said Jesse Tron, an industry expert formerly with ICSC.

No matter the reason, a stronger base of properties makes it more difficult for retailers to determine which store should be closed — a subject that is hotly debated in the industry.

Robyn Beck | AFP | Getty Images

For McCullough, whose firm tracked the results of roughly 150 public retailers in the first quarter, anemic comparable sales growth of about 1 percent is probably the "best indicator" that more stores need to be closed. Yet many retailers argue that the majority of their stores are profitable, and therefore it would not make sense to close them. ICSC CEO Tom McGee echoed that sentiment, saying retailers are "not going to close a store that is doing well and that's accretive and growing."

Citi's Paul Lejuez, however, has a different point of view. In a research note to investors last month, the analyst said "too many companies are focused on each store's individual cash flow when making the determination of whether to keep it open or to close it." Instead, he argued that the amount of working capital and inventory costs that go into a particular store should also be considered, because they represent "ongoing capital required that could get put to other uses."

"If a company has a group [of] stores that aren't hitting a certain cash flow threshold, we would argue that the company should consider the potentially millions of dollars of inventory that would be freed up if those stores were to be closed," he said.

Lejuez further argued that operating or turning around a smaller fleet would be easier than a larger one, as it would be easier to keep the store base cohesive. Trimming a retailer's store count could also cut its corporate costs, as it may require fewer employees, he said.

Yet Lejuez and Tron concede that decisions surrounding a retailer's fleet remain a work in progress given that the internet's retail role has not been totally figured out. Best Buy, for instance, has said that its network of stores is what enabled the company to speed up its online delivery times. Other retailers have noted that when they decide to close a store, their digital sales in that area also wane.

"There is absolutely more pressure from investors now on retailers [to close stores] than what I can remember in the past several years. That includes the recession," Tron said. "You're seeing that pressure from Wall Street to trim the fat and make the stock price as valuable as possible."

However, Tron cautioned that what's good for a company's shares in the short term may not be the best solution in the end.

"There's a lot to figure out before we know [what] is necessarily the right strategy," he said.