The retail industry has recovered relatively well since the most recent recession, particularly considering the uneven economic environment. Over the past couple of years, the combination of modest sales improvement and the benefits of restructuring and cost-cutting initiatives have boosted results for many retailers. Moreover, profitability has been enhanced by the closing of underperforming stores. Many retailers over expanded prior to the recession, and have since focused on trimming their store portfolios.
The pace of store closures moderated in 2011, following a high number of closings in 2010. Yet, store closures have remained a significant industry theme. This year got off to a fast start as Sears Holding (SHLD) began closing 100-120 underperforming Kmart and Sears locations. At the same time, The Gap (GPS) started to execute on its plans to close nearly 200 domestic mainline stores, representing approximately 20% of its U.S. store base. This was followed by Abercrombie & Fitch (ANF) unveiling plans to close 180 stores over the next three years. The projected shutterings at Abercrombie are in addition to the 135 closures over the past two years, and represent approximately 17% of its overall store count. In most cases, retail stocks have traded lower on news of store closures.
Although the situation at each of these retailers is somewhat unique, the most common thread is a prolonged period of negative/weak comparable-store sales. Sears Holding has really struggled in recent years with deteriorating sales and operating results, which have corresponded with weak consumer appeal. Importantly, a significant part of the investment merit of SHLD shares in recent years has been the value of the company’s real estate portfolio. However, it remains to be seen whether there is real potential for improved performance, or if the company will need to resort to real estate and asset sales as a liquidity backstop. Meanwhile, both Gap and Abercrombie have countered their domestic store count reductions with increased growth in international markets.
The announcements of significant store closure plans at large retailers have captured the headlines, but there has been at least an equal amount of activity at smaller, specialty retailers. Pacific Sunwear (PSUN) outlined a real estate restructuring strategy at the end of 2011, which involves the closure of 175-200 underperforming stores by the end of fiscal 2012 through a combination of lease buyouts and expirations. Meanwhile, other struggling specialty retailers, like Talbots (TLB) and Coldwater Creek (CWTR), continue to trim their store bases.
Looking beyond the retail perspective, real estate landlords continue to be impacted by the changing landscape. Real Estate Investment Trusts (REITs) had a rough ride during the recession, but overall sector performance has recovered from that bottom, and appears to have basically stabilized this year. Retail REITs still face pressure from vacancies and reduced rent, particularly at lower-end malls and shopping centers. Still, the outlook remains relatively positive. Notably, retail real estate heavyweight Simon Property Group (SPG) has maintained solid performance in recent periods.
The ongoing downsizing throughout parts of the retail industry has created attractive opportunities for retailers that remain in expansion mode. These retailers are in the driver’s seat, with plenty of negotiating leverage to capitalize on the availability of more attractive locations, reduced rent, and better overall terms. Indeed, multiple companies, including Ulta Salon (ULTA) and DSW, Inc. (DSW), have increased their expansion plans as a result of the attractive real estate environment. Ulta opened 61 stores in 2011, representing a 16% increase in square footage. The company expects to open 100 more locations this year, representing a notable acceleration in square-footage growth, to 22%. On a smaller scale, DSW plans to open 35-40 stores this year, which is more than double the 17 that it opened in 2011. In both of these cases, the accelerated store opening plans are directly attributable to the attractive pipeline of real estate opportunities.
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.