The United States is a consumer oriented society. We have more retail square footage per capita than any other nation on earth. We developed the concepts of “retail therapy” and “shop ’til you drop” as (unhealthy) ways to manage psychological problems in our lives. There is no way around it; Americans love to shop.
But the retail space has been changing rapidly over the last 20 years. The rise of internet retail – with Amazon.com as its poster child – is just one example of the epochal change that is taking place. Many people would call this sort of change a good thing, ultimately. And I won’t argue with them. But there is another, darker side to the changes in retail that is important for both investors and consumers to understand.
Our bubble prone economy has massively overbuilt commercial retail space. A corollary of this assertion is that we have far too many retailers. Put quite simply, there aren’t enough retail dollars spent in an average year to support the companies and infrastructure currently occupying the retail sector. Up until now, this fact has been obfuscated by three poorly recognized trends. But these trends are reaching their conclusion, leaving the United States with a potential retail apocalypse on its hands.
As the pool of discretionary retail dollars shrank in the aftermath of the 2008-2009 Great Financial Crisis, small retailers tended to feel the pinch first. These were the proverbial mom and pop shops, with a handful of store locations or less. While the nature of these retail establishments could vary considerably – florists, convenience stores, antique & consignment shops, restaurants, specialty retailers, etc. – they all had one very important element in common. None of them had access to the capital markets. They could issue neither stock nor bonds to raise capital.
This placed these small businesses at a distinct competitive disadvantage compared to larger chain retailers. In our current era of near zero interest rates, large companies could easily tap cheap public market financing to support their operations while sole proprietorships couldn’t. Consequently, in the years since the Great Financial Crisis, a massive number of these small retailers have gone out of business. See my related articles on The Bittersweet Goodbye of the Physical Antique Store and The Great Boston Antique Store Massacre of 2011-2012 for more details.
The second overarching trend has been consolidation among the remaining American retail chains. A perfect example of this phenomenon was the 2005 merger of Federated Department Stores (owner of Macy’s) with The May Department Stores Company (owner of Filenes, Marshall Fields and Lord & Taylor). Once two large corporations merge, overlapping store locations can be closed and smaller, non-core operations can be sold or spun-off. These actions help reduce competition and stretch the limited pool of available retail dollars further.
But even these developments didn’t keep up with the decline of the American consumer, beset as he is by excessive consumer debt, lack of salary increases and anxiety over job security. So, over-levered corporate retailers began to liquidate next. These American retail companies had tapped the high yield bond market until even the stupidest bubble-head money manager won’t lend them another dime. Electronics retailers like Circuit City (2008) and RadioShack (2015), book seller Borders (2011), video rental shop Blockbuster (2010) and home goods store Linens & Things (2008) are all examples of national retailers that have declared bankruptcy and subsequently liquidated due to the difficult retail environment.
I think it is important to note that the first two trends I listed above leave equity and bond investors in the retail space completely intact. Wall Street loves this, in spite of the fact that it is cannibalistic behavior. The large, stronger corporate retailers eat the small, weaker mom & pop shops first. When there are no more small retailers to feast on, the big corporations begin to devour each other in mergers. But once all the mergers that make sense (and some that don’t) have happened, the weaker national retailers begin to fail.
Now we are progressing to the next ominous phase of our peculiarly American retail disease: poor sales results from previously strong national retailers. Target, J.C. Penney and Macy’s are just a few of the large physical retailers that have reported disappointing sales numbers in 2016. These massive corporations are caught between the inexorable pressure of ultra-low margin online retailers like Amazon.com on the one side and overextended consumers who are relentlessly cutting back on spending on the other.
The future is clear; more American retail chains will liquidate in bankruptcy. In fact, it is probable that household names that have defined their respective retail spaces for generations will come to an ignominious end. One dead store walking that comes to mind is Sears, an original pioneer of mail order catalogues back in the late 19th and early 20th centuries. They were, ironically, the Amazon.com of their day. And they will soon be gone.
The world is changing. And investors holding shares or bonds in the affected companies who do not take heed will feel the pain. It is yet another reminder that your investment dollars may very well be safer in investment grade art and antiques than traditional financial instruments.
