The Real Deal New York

Is e-commerce a frenemy?

Experts weigh in on the mistakes retailers have made, the bright spots in retail real estate market and why online and brick-and-mortar need each other
By Matthew Egan | May 17, 2017 01:00PM

Nadeem Meghji, John Ragland and Gregg Gerken

These days everyone is trumpeting retail’s downturn, with each earnings call, retail conference and panel seeming to ending in the same rueful refrain.

Recently, billionaire investor-slash-oracle Warren Buffett shared his perspective on the retail landscape: “The department store is online now.”

“I have no illusion that 10 years from now will look the same as today, and there will be a few things along the way that surprise us,” he added during Berkshire Hathaway’s annual meeting on May 6, Business Insider reported.

While the facts — including bankruptcies and rampant store closings — can’t be disputed, many retail real estate experts are more optimistic than one might expect.

Brick-and-mortar stores aren’t going anywhere, they say, but brands need to integrate their physical and online presence. It’s not enough to do just one side well. Others see the re-imagining of older, obsolete shopping centers as a plus for consumers, or note the significant uptick in warehouse deals.

Here, five experts tell The Real Deal what they’re seeing when it comes to the impact of e-commerce.

Nadeem Meghji
Blackstone, head of Americas real estate

How responsible do you think online shopping is for the big uptick in availability rates and falling retail rents in some markets? It is primarily related to online shopping, although also partially related to the strong U.S. dollar and landlords’ holding out for rents that are no longer achievable.  

When you think about mixed-use developments in downtowns, what are the types of retailers most insulated when it comes to shifting market dynamics? Leisure — food, entertainment, experiences, services — is becoming an increasingly important component of any successful retail project.

Over the past two to three years, you have seen the growth of various restaurant concepts, specialty grocers, health and beauty (including gyms in various formats, like Barry’s Bootcamp and Orange Theory Fitness), local boutiques and off-price retailers. You are also starting to see online retailers opening physical stores — some examples being Warby Parker, Bonobos, Duluth Trading Company and even Amazon.

How difficult is it right now to secure financing for new construction of retail developments? Construction financing has been much more difficult to obtain since the downturn and remains challenging. In the open-air shopping center space, new supply is down approximately 90 percent from pre-recession levels due to a combination of more limited financing — both equity and debt — and more tepid demand from retailers.

How much of the difficulty in the retail industry is driven by e-commerce versus other factors like the economy and fast fashion? Total retail sales growth has actually been perfectly healthy; it’s just that retail sales are increasingly being pushed through warehouses as opposed to traditional brick-and-mortar retail stores. Fashion has experienced significant headwinds as a result of competition from both the internet and branded, ready-to-wear discount retailers like T.J. Maxx, Ross and Burlington.

What about for repurposing sites into new retail? A repurposing of a dying mall is extremely complicated, capital-intensive and difficult to finance. It requires a developer with specific local expertise and a favorable going-in basis.

What are the sectors that have really benefited from the rise of e-commerce? The warehouse trend has served as a major tailwind in the logistics sector, where Blackstone has been heavily investing globally since the downturn.

Brad Cohen
Eastern Consolidated, senior director of retail leasing

Just how much difficulty is e-commerce posing for traditional retail right now? The brick-and-mortar business isn’t dead, and it’s not dying. Ninety-four percent of sales are still at brick-and-mortar. A very limited amount of the sales each year are online, though it’s creeping up every year.

But how do traditional retailers overcome that slow but significant loss of market share? You’ve got to give consumers a reason to go to the store. You’ve got to give them an experience they can’t get online. The more forward-thinking brands that have figured that out are ahead of the curve. Nike’s interactivity is a perfect example. You cannot replicate that personal attention and customization online.

So clearly there’s still a role for having a physical presence then? Online-only brands are going into bricks-and-mortar and are seeing their sales in those areas spike. There’s a clear correlation between brick-and-mortar presence and online sales. The inverse is true as well.

Look at what Amazon is doing. A lot of these online-first brands recognize there’s nothing like sitting across the counter from your customer. You just can’t replace that online. And think about restaurants. Sure, you can order food online, but you can’t replace the experience of sitting at the bar and ordering a cocktail.

Do you think we’ll see a marked uptick in online retailers looking for flagship brick-and-mortar locations? Yes. We’re already seeing it with Apple, and Amazon is planning 30 mall pop-up kiosks and its 10th Amazon Books store.

How else are traditional retailers adjusting to the ever-growing threat of e-commerce?

Many major retailers such as Target, Macy’s or Staples already offer both services so that they can continue to capture revenue whether it’s in the store or online. But all traditional retailers must recognize that they need to provide excellent customer service and excellent products in attractive spaces to make the in-store experience so positive that the customer wants to return to the store.

We also need to recognize that there is still a place for bricks and mortar. At Eastern Consolidated, we’re finding that neighborhood retail is still very robust because these retailers are offering experiences and services that people can’t get online. There will always be a need for a restaurant or coffee shop where you can socialize with friends, a gym or fitness center where you can work out, a spa and hair salon, medical facilities, dry cleaners, children’s enrichment program or school and many other services, which will continue to thrive.

Steven Levin
Centennial Real Estate, founder and CEO

How much of a challenge does e-commerce pose to traditional retail? Retail has been slow to adapt. And retailers stopped reinventing themselves and consequently became very stale. They did not focus on staying current, sharp and relevant. But I believe the e-commerce part has been way oversold. The thought that online is killing retailing is not right. It’s not what’s happening. Not that e-commerce hasn’t had an impact. The challenge is bringing the digital world to the retail world. It’s not that physical stores are going away.

How are traditional retailers fighting back against e-commerce sites? What are they doing differently with their space to compete? Traditional retailers are continuing to invest in their own digital transformation. This is integrating an authentic in-store experience with a digital experience supported by data and logistics. At the same time, e-commerce players are investing in physical stores to support their digital/e-commerce platform.

Eventually we will see the strongest players across all channels — whether they started as e-commerce or traditional retail — start to look similar in their strategies of full physical/digital integration. Digital transformation is the focus, and the cornerstone is stores. Retailing going forward is the merging of physical, digital, data and logistics.

Generally speaking, have you become more cautious about new retail developments? Yes. Retail is going through a very, very significant transition. We started this period of change in a very over-stored environment. The retail landscape needs, as it’s doing, to readjust the amount of retail space we have in America down. Less construction is a good thing. People are being very cautious — and they should be. While it’s painful at times to go through the changes that are happening, we’re going to be much healthier.

Gregg Gerken
TD Bank, head of commercial real estate

Are lenders citing online shopping as an issue when looking at financing big retail acquisitions? The rise of online channels will continue to shift the nature of retail. But there are opportunities that flow from this, too. We’ll remain disciplined when evaluating new retail relationships and ensure our existing clients are in a position to adapt.

Do you think large rents are making retailers take more of their business online? Modest rent increases and shifts in consumer behavior have contributed to retailers placing an emphasis on e-commerce sales strategies. Savvy retailers will provide customers with an experience and successfully leverage omnichannel marketing.

How much demand is there right now for retail real estate financing? What does that mean about the amount of retail real estate in the U.S.? We get very [few] requests for new constructions. But what we have seen is a fair amount of repositioning or upgrading existing centers to keep them current or to accommodate the tenancy changes. The U.S. isn’t over-retailed, it’s under-demolished. You’ve got a lot of older, obsolete centers that frankly don’t meet current client and consumer demand. Couple that with the shift to e-commerce. Some of the more traditional models aren’t working any longer.

What other parts of the real estate world are being impacted by the rise of online shopping? We’re having a lot of conversations with multifamily-apartment clients. Almost everyone laments not building a large enough mail-handling or package delivery area. They’re struggling with having someone there to accept packages all day long. In almost every case the amount of package flow is increasing, not decreasing. It’s a pretty good indicator that not only is e-commerce driving, but for certain consumers, that’s definitely eliminating a trip to the drugstore or to the mall.

Has online shopping put an emphasis on types of retail that had previously fallen out of favor? We used to discount restaurants, but now restaurants drive traffic. We used to feel that a gym or a fitness center was not a good mix in a shopping center, and a lot didn’t want them. Now they do. They draw traffic, and people run their errands around their workouts. There’s been a whole dynamic shift in terms of the usage and type of tenants. Some of the malls have gone to those larger in-dining theaters with higher-end experiences.

Given the competition from the internet, what are the types of retail that you are most confident in lending to? We’ve always felt strongest about a grocery-anchored development. Although the internet has penetrated a lot of other categories, it’s a little harder to penetrate fresh food. I know people do it, but it’s a little harder to give up control over what produce ends up in your refrigerator. There’s a certain amount of picking-that-out-yourself and being able to see it and touch it.

Some groceries are shrinking their footprint a little bit and are selling prepared foods and higher-margin products. In other cases we’ve seen them up their game where it’s not just your standard supermarket anymore.

John Ragland
Nuveen (the investment management arm of  TIAA), U.S. head of retail and portfolio manager for the U.S. Cities Retail Fund

Do you think sky-high rents in top retail corridors are actually making retailers consider taking more of their business online? I don’t believe it’s a cause-and-effect scenario. Part of the reason why high streets are able to command high rents is because retailers feel it’s necessary to be visible in these locations. The stores function as marketing-and-branding showcases that facilitate increased online sales.

Can online retail benefit from a physical presence or are the costs too burdensome? E-commerce does not exist profitably without physical stores. Market research has shown that approximately two-thirds of all online sales are impacted pre- or post-transaction by engagement in a store. Retailers admit that online sales in a market increase materially when a store opens in that market, and some are utilizing their retail stores as fulfillment centers. Finally, pure online retailers such as Amazon, Warby Parker, Bonobos and others are now opening physical stores.  

In the face of the challenge from the internet, what are the most promising trends in retail? The most promising trends in retail are actually old concepts that have evolved their offerings, such as movie theaters, bowling alleys and health clubs, by introducing more food choices and features that target different clientele. Some movie operators have gone more upscale by offering reservation systems or leather recliner seats. Kings Bowl, Pinstripes and Lucky Strike have transformed the bowling alley experience with arcade games and sports bar environments. Health clubs have either gone discount or more “country club” in nature to appeal to specific demographics.

How else do malls offset the convenience of online shopping to stay relevant today and keep the traffic coming? Consumers, particularly millennials, are seeking experiences, and it is important that regional malls continue to evolve to provide those experiences. Customer service and product rollouts and introductions are investments that mall owners can make to enhance the center-wide experience. Retailers must also use the power of technology and sensory perception to create experiences inside the stores. Restoration Hardware and Pirch have redefined the way in which home furnishings and appliances are marketed and sold in stores by enhancing the customer experience.  

Disruption always creates opportunities, and the best owners and retailers will be able to capitalize on the current evolution of retail to their competitive advantage.