Can Department Stores Survive?

There was a time when department stores were fashionable places for the cool people to hang out as they showcased the leading apparel brands. I remember fondly shopping at what was then called Marshall Fields in Chicago’s magnificent mile. The last two decades have not been kind to the department store format. Their proposition was aspirational in cases like Bloomingdales or Macy, and more mass in others, like Sears and JC Penney. Regardless, they did target a substantial segment of the population.

Unfortunately, the proposition of department stores has been hit from all four sides in retail – the cheapest, the biggest, the nearest, and the best.

  • The discount format with its cheap and cheerful has been led by Walmart in USA, but more recently, the hard discounters Aldi, Dollar General, Family Dollar and Dollar Tree have been growing.
  • Category killers such IKEA, PetSmart, and Best Buy have the biggest assortment for the person looking to shop within a category, especially in specialist categories where shoppers see it as destination shopping.
  • Amazon is the nearest, and if convenience is what a shopper is looking for, then it is hard to beat.
  • The “best” is the proposition that department stores are left with and in case was always core to them. However, increasingly the leading designers like Calvin Klein or Hugo Boss are opening their own branded stores in major cities. Furthermore, specialty retailers like Sephora and Zara are increasingly competing as “best” in the high margin categories for department stores.

Not surprisingly, the department store chains are suffering from considerable turmoil as they seek a sustainable model in the new retail world. The solutions pursued, beyond going bust or merging, are predictable.

Assortment optimization or what categories and merchandise to flog to protect margins in face of high location and staff costs is clearly the initial response. Thus, for example, electronics and toys have either disappeared or seen their space dramatically reduced in department stores. These cannot be sustained in the face of competition from discounters, online retailers, and category killers. The need is to focus on high margin, unique, merchandise. This has led to an explosion of private labels. While private labels do deliver margins, they rarely have the same upmarket snob appeal that comes with selling the exclusive designer or luxury merchandise. Often, department stores have to complement private labels with high margin, both in absolute and percentage terms, designer merchandise.

If you can’t beat them, joining them is another approach taken by many US department stores as they open up outlet stores such as Bloomingdales outlet or Nordstrom Rack. This helps them in less expensive locations with minimal staff intensity, sell overruns, unsold end of the season merchandise, and some dedicated lower priced lines. While this can deliver additional profits, its success to a large extent is based on how successful the full price chain stores are. That is the umbrella under which outlet stores have the cachet of being a bargain hunters dream. If you can’t sell on full price, this proposition is less appealing for the consumer.

The alternative approach to joining in is to aggressively push online sales. Some department stores have been more successful online than others. For example, it is reported that John Lewis in UK gets 33% of its sales online compared to 15% for Marks & Spencer and Debenhams. While I do not have the information, it is doubtful to me that these online sales can be as profitable as the store sales unless the consumer is willing to pay the full shipping costs. I suspect for John Lewis, given that they sell a lot of white goods, this may be true. For white goods like refrigerators, the consumer is used to paying for shipping even when buying in store. As a result, they can be more readily persuaded to defray the full cost of delivery for the retailer. Regardless of profitability, only some of these online sales will be truly additional sales, the rest with cannibalize the stores. This will lower sales per square foot and viability of the physical stores.

In the final analysis, department stores have to realize that the market for the format has shrunk considerably in the face of new alternatives for the shopper. A study reported that sales per square foot in 2015 for department stores in USA was $165, which was 24% less than in 2006! The fact is that we need a lot less department stores, at least in the advanced countries. Another USA study indicated that 800 stores, or one fifth of anchor space, needs to be shut down for the sales productivity to be acceptable.

My own feeling is department stores have to do all of the above. The clearest profitable sustainable proposition for department stores that I see is for the more premium department stores such as Nordstrom in USA or Selfridges in UK in cities which are large tourist destinations. Here, they serve as entertainment experiences, with food and wellness options. But, how many such stores do we need? Many department store chains have no choice but to close their underperforming stores, and in quite dramatic numbers. For example, perhaps of the 89 El Cortes Ingles stores in Spain, one can justify 25.

Shutting down stores is never an easy decision. The leases are often long term. If the store is yielding a positive cash flow, then it is hard to close them. Often the lease would have to be bought out which means instead of a store that is cash positive, one would have to swallow a cash negative decision. So the easier decision is to leave them open despite the stores being unprofitable. However, knowing that ultimately these stores will be shuttered, no investment is poured into them. This only makes them shabby with a detrimental impact on the shopper experience, sales and image.

The challenge to find a relevant and differentiated proposition for department stores will continue. There will be many opinions, but the data is clear: hope is not a strategy.



Magic Dust


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