The Last Nail in the Coffin for Department Stores?
The last ten years have been precarious times for the American retail industry—especially department stores.
But why?
The 2008 financial crisis, the worst economic crisis since the Great Depression, dramatically changed the retail landscape: distressed retailers and department stores struggled significantly and were quickly bought out by private equity firms that viewed the retail landscape as "a veritable goldmine of hot prospects" (Money CNN 2008).
Private equity firms began buying up retailers and department stores largely before the Great Recession, which only increased afterward through leveraged buyouts (LBO's).
These buyouts placed an enormous strain on the firm's liabilities. In 2005, when Bain Capital, Vornado Realty Trust, and KKR acquired Toys "R" Us, it had a debt load of $1.86 billion. However, after the $6.6 billion purchase, Toys "R" Us ended up $5 billion in debt and was virtually cashless. The company filed for bankruptcy in 2017.
Once the largest toy company in the world, Toys "R" Us' trajectory illustrates a similar story for bankrupt department stores backed by private equity funds.
Payless ShoeSource, Sports Authority, Sears, and Radioshack, among many others, have all experienced the same fate.
In the last eight years, 10 out of the 14 largest retail chain bankruptcies involved private equity ownership. An analysis by FTI Consulting found that two-thirds of the retailers filed for Chapter 11 in 2016 and 2017 were backed by private equity.
According to Bloomberg Businessweek, "companies acquired through LBOs are more likely to depress workers' wages and cut investment and are left to grapple with debilitating debt."
The subsequent rise of digitization required heightened investment and innovation for brick-and-mortar retail chains to adapt to an ever-changing landscape. However, at the hands of private equity funds, cash-strapped retail chains were unable to restructure to meet dynamic customer demands.
How were customer demands changing?
Despite enjoying the most substantial economic expansion in the nation's history, lower and middle-class Americans did not witness an increase in income.
According to the Great Retail Bifurcation study conducted by Deloitte, "[f]or the past ten years, the lower 40 percent income group has found itself struggling to keep up with expenses, while the middle 40 percent has seen its income shrink.
Thus, for 80 percent of consumers, the last ten years have represented a dramatic worsening of their financial situation. For them, it's been a 'lost decade' (2018)." The study found that increases in non-discretionary spending exacerbated the income bifurcation between households, primarily due to increases in healthcare, education, and housing costs, which disproportionately affected lower and middle-income families. The household budget allocated towards discretionary goods has been reduced significantly.
The waning middle-class was unable to sustain the business model once part and parcel of the department stores. Subsequently, consumer behavior notably shifted towards a growing affinity for online shopping.
At the head of this destabilizing movement is the company that poses the largest existential threat for large retail chains: Amazon.
The digital transformation in retail and greater reliance on e-commerce platforms, such as the Amazon Marketplace, has ushered the new age of shopping. According to Forbes, "[t]he global e-commerce market was $2.8 trillion in 2018. It is expected to reach $4.9 trillion by 2021. And Statista, another data analytics company, shows that online sales are projected to reach 17.5% of overall sales by 2021 (2020)."
It is no question that brick-and-mortar retailers are losing considerable market share to e-commerce platforms that sell the same merchandise and capitalize on the lack of foot traffic at stores.
And as online retailers increasingly compete with stores for the last of middle-class consumers' discretionary income, the worst is yet to come.
What does the Covid-19 crisis mean for department stores?
Nationwide government shutdowns and stringent social distancing guidelines forced families and individuals to adopt more significant digital consumption habits.
The Covid-19 crisis ostensibly accelerated the transition towards normalization of online shopping behavior, which will likely not continue in the same magnitude as social distancing guidelines are relaxed but will be significantly higher than pre-COVID levels.
Analysts expect reduced foot traffic at stores for the remainder of the year. According to Barrons, "malls are showing the early signs of a promising comeback, but visits are still far lower than they were in 2019. The average decline is 75%."
The recent economic uncertainty has pushed notable retailers off the edge. Since the beginning of the crisis, Niemann Marcus, JCPenney, J. Crew, True Religion, and Pier 1 have all filed for bankruptcy.
Millions of Americans have already lost their jobs. As a V-Shaped recovery is unlikely, Goldman Sachs and Morgan Stanley have declared that the pandemic has already triggered a global recession. The already strained pockets of low and middle-class Americans are navigating dangerous waters, a damaging prospect to department stores.
Will the surviving department stores live to see the next day with the increased reliance on digital consumption due to the pandemic and a single downward spiral of the global economy?
Written by Juan Agudelo
Edited by Gihyen Eom, Jared Nussbaum, Alexandar Ristic, Jason Kauppila, Jack Argiro, Benjamin Stick, Bryan Xiao, Calvin Ma, Glen Oh, Michael Ding, Rohan Mehta & Alexander Fleiss