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Call it the Great Retail Rationalization of the Great Recession.

This story first appeared in the July 27, 2009 issue of WWD.  Subscribe Today.

And even though the economy already has forced retailers to take a scalpel — or a meat cleaver — to their store portfolios, there’s still plenty of excess to cut.

“You need stores that at the end of the day are going to contribute a positive cash flow to the portfolio,” said Esteban Bowles, principal in A.T. Kearney’s retail and consumer products practice. “Many [retailers] are not sophisticated enough in their understanding of true profitability of a store from a cash-flow standpoint.”

There is currently 46.6 square feet of retail space for every man, woman and child in the country, an increase of 14.2 percent since 1990, according to CoStar Group.

A few retailers are continuing to grow. Buckle Inc. plans to open 21 stores this year and Kohl’s Corp. is cutting the ribbon on 37 new outposts this fall. But that expansion largely comes at the expense of fallen nameplates or with the help of landlords who want to keep their malls filled. Most of the new Kohl’s doors, for instance, will be in sites formerly occupied by the now-defunct Mervyns.

It should come as no surprise that supply is outstripping demand. The “overstoring” of America has been a steady theme in fashion for years, one that was largely ignored as both consumer spending and retailers expanded in the days of easy credit. The U.S. added 25,583 shopping malls in the last 19 years, according to CoStar, even as the online business took off, ringing up sales of $132 billion last year.

But the days of unfettered expansion are over. Per capita retail space is down slightly from a year ago, the first decline since 2000. And the pullback is expected to continue. As of April, retailers were on track to close 4,600 doors this year, according to a report from the International Council of Shopping Centers. That’s on top of 6,913 closures last year.

“We’ve got stores that are not making enough money and we’re working hard with our landlords to make sure that it makes sense for us to keep operating them,” said Jim Fogarty, president and chief executive officer of Charming Shoppes Inc., on a conference call in May. The company closed 162 stores and opened 29 over the last four quarters, and is continuing to evaluate its portfolio.

Charming Shoppes’ process includes looking at less profitable or unprofitable stores and trying to get enough of a rent reduction to make the store cash-flow positive. If they can’t, the door could be closed.

Others are undertaking a similar analysis.

UBS Securities predicts a 10 percent contraction in the space devoted to specialty stores over the next several years, with the elimination of newer nameplates, the shuttering of weaker doors, an emphasis on smaller stores and the closure of shopping malls all contributing to the contraction.

Among the recent cuts laid out: Jones Apparel Group Inc. said it would shut 225 units, AnnTaylor Stores Corp. plans 163 closures, Abercrombie & Fitch Co. axed its 29-door Ruehl concept and Pacific Sunwear of California Inc. shuttered its D.e.m.o. and smaller One Thousand Steps divisions.

This comes on top of the liquidations of Mervyns, Gottschalks, Steve & Barry’s, S&K Famous Brands and others.

All told, 8.1 million square feet of retail space was vacated in the second quarter, according to real estate research firm Reis Inc.

The national vacancy rate rose to 10 percent for the quarter, up from 8.1 percent a year earlier, as Birmingham, Ala.; Dayton, Ohio, and Tulsa, Okla., registered vacancy rates of more than 15 percent. There are some relative pockets of strength, with San Francisco and Fairfield County, Conn., sporting vacancy rates below 5 percent.

The calculus of closing stores has become more complicated. In the past, pruning stores meant looking at when leases were expiring and deciding which ones not to renew.

“That’s not going to cut it in this economy,” said David Bassuk, managing director in the retail practice at AlixPartners.

“There are many stores that, from a cash-flow perspective, would be more favorable to close, even [while] paying the rent if you can’t get out of the lease.”

Companies need to look at not just the earnings of a particular store, but how much inventory it carries, at what cost and how general corporate expenses such as marketing factor in.

From a corporate perspective, an inefficient store that is only modestly profitable could still tie up a lot of funds in inventory.

Greg Ellis, a retail strategist at Kurt Salmon Associates, said every chain should consider closing or relocating 5 to 20 percent of its stores.

“Retailers need to rationalize their portfolios, stop spending the money on rent and collapse back some of the marginal stores,” Ellis said.

Too many companies don’t do enough analysis.

“It’s important to make sure to understand what your store should be doing based on the kind of location it is.…[Some chains are] closing stores that might look like they’re unprofitable when perhaps there’s an easy fix,” Ellis said.

There’s also a tendency to overlook the “recapture rate” in markets with multiple locations, he said.

For example, a chain focused on profitability rather than cash management might decide to retain two moneymaking stores in the same town. However, it could be more efficient to close one of the stores if enough customers would go to the remaining unit. “You would miss an opportunity to reduce your cost base,” Ellis said.

And as retailers move to prune their real estate, many landlords are doing what they can to keep tenants and making concessions in the form of rent decreases. Second-quarter retail rents fell 1.7 percent from a year earlier to $19.30 a square foot nationwide, said Reis.

The logical extreme — free rent — might even be a factor in some cases. Liz Dunn, an analyst at Thomas Weisel Partners, said Pacific Sunwear of California Inc. had been offered a free ride in certain cases in order to keep some of its worst-performing stores open.

This type of incentive and other lesser concessions could prompt companies to keep more stores operating than originally planned.

“In terms of cutting back, many retailers are talking a bigger game than is actually going to end up playing out,” Dunn said. “In a lot of cases, we won’t see as many closures as have been announced.”

On the flip side, the few chains that are still in expansion mode, or are expected to return to it quickly, might also get breaks on their leases as landlords chase future business. That is why, for at least the moment, it’s a renter’s rather than a realtor’s market.

“The stores, because of all the vacancies in the mall, have better leverage,” said Chandi Neubauer, an analyst at Majestic Research.

And companies such as Zumiez Inc., American Eagle Outfitters Inc. and Aéropostale Inc. are all eyeing the opportunities in the market. Aéropostale’s recently launched P.S. tween concept could potentially roll out to 500 doors, the company said.

“[Landlords] might give Aéropostale a little more leeway as the other old Aéropostale leases come up,” Neubauer said.


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