Brick and Mortar Retail Showing Surprising Signs of Life, According to Placer.ai

In 2022, the world of retail continued to struggle as online shopping and inflation kept wallets tight and physical stores sparsely attended. But for retailers with the right mix of product and strategy, brick and mortar success is as attainable as ever.

This is one of the insights from “CRE in 2023: 2022’s Lessons for Success in the Year to Come,” a Dec. 13 webinar on what lessons this year’s trends and occurrences in commercial real estate hold for the year ahead. The webinar was hosted by Commercial Observer Partner Insights and presented by Placer.ai.

The panel featured thoughts from Ethan Chernofsky, vice president of marketing at Placer.ai; Caroline Wu, director of research at Placer.ai; and Ben Witten, head of real estate at Placer.ai.

Witten kicked things off with a look at the retail sector, which saw its share of ups and downs including “subdued traffic trends” due to inflation and low consumer confidence in 2022.

“We’ve seen a bifurcation of winners and losers in retail,” Witten said. “Some department stores reported a dip in traffic and Black Friday turnout over the holiday shopping weekend. But on the other side, Lululemon reported a 28 percent jump in Black Friday sales — they said it was their biggest day ever for sales, which is pretty incredible.”

Witten noted that Lululemon was a great example of how a creative store with the right product and strategies can buck the decline of brick and mortar retail.

“It’s not an expensive product that Lululemon offers, but it’s high quality, it’s curated, and it’s obviously very in vogue,” Witten said. “They are really innovative in how they use space. They have so many different store formats and sizes they can leverage, which allows them to operate a lot of locations in a very tight area. They’re an example of a company that is bucking the trend in a really positive way.”

The panel then showed a chart indicating that out of various types of retail outlets, full-service restaurants seem to have been hit the hardest by recent inflation, with quarterly visits down over 12 percent compared to 2019. Wu mentions, however, that somewhere between 50,000 and 75,000 restaurants have closed since then due to COVID, and that when compared with 2021, that drop is only at 4.1 percent.

“Inflation has had a really big impact on why the numbers for full-service restaurants are down,” Wu said. “But with higher-income customers, full-service restaurants are actually doing OK. The hope is that as inflation recedes, people will start going back to full service. When times are good, discretionary retail, like full-service restaurants, are firing on all cylinders. So I have some optimism for the future.”

In other positive news for retail, Chernofsky noted that retail’s holiday shopping season began in October. Wu replied that consumers’ knowledge of supply chain issues, which makes them want to shop earlier to guarantee availability of desired goods, plus an earlier kickoff for holiday sales means that this is likely the beginning of a permanent shift in the timing of the holiday shopping season.

Later, addressing how commercial real estate has been affected by recent migratory patterns throughout the U.S., Wu noted that big cities are still expected to thrive in the long run, but recent migrations are having an impact on retail sales and survival.

“Looking at a JLL (JLL) report, retail rents nationwide were up 4 percent in Q3. In San Francisco, retail rents were down 3 percent, and other large cities have reflected similar,” Witten said. “We’ve seen large increases in retail rents in the Sun Belt. Is that a coincidence, or does that have a lot to do with folks in their prime spending years — the 25-plus and household formation years — moving to more affordable markets? A lot of these trends were in place before the pandemic, but they’ve accelerated, and the curve has steepened.”

Talking about the drivers of these migration shifts, Witten noted that there is a “high directional correlation” between outbound migration and renter-occupied housing.

“Large markets like New York and L.A., where around half the population is in rental housing, is a material consideration,” said Witten. “These folks didn’t have the option to purchase due to affordability or a lifestyle decision, but they weren’t held back by their home equity. They have a 12-month lease, and can choose not to re-up, and then move to Florida, or Texas, or the Carolinas.”

Conversely, Witten also points out that markets with a high percentage of single-family housing and new construction have seen “large influxes.”

Wu notes that the work-from-home trend is also a factor, as it gives people far greater options on where they can live.

The final topic the panel addressed was the state of the office sector, which the panel considered to be not sinking, but also lacking any real momentum toward a return-to-office recovery.

“We have definitely seen a flatlining of that recovery at a macro level,” Witten said. “If you look at the number of employees versus just the number of visits, the total number of employees would be down significantly. It’s not that these people aren’t going downtown or into the building, they’re just going much less often. They’re in two or three days a week instead of four or five. That calculus alone is a 40 percent decline.”

Given this, Witten believes that the sector has a reckoning on the horizon, but also that there is innovation ahead.

“In terms of adapting uses, New York City has done a phenomenal job of starting to allow the conversion of office buildings to residential. I mean, we’ve got a housing shortage and too much office space.”

Witten, responding to a viewer question, noted that the  conversion process is not an easy one, and that even for the well intentioned, many obstacles lie ahead.

“The biggest linchpins are entitlement, zoning and permitting,” Witten said. “Can you actually get a variance to convert from office to residential? That’s a massive hurdle to overcome.”

Witten also noted that these conversions can become an excellent opportunity for municipalities to diversify their tax base.

“They might be 80 percent or 70 percent dependent on real estate tax from office buildings. That’s kind of scary, right?” Witten said. “So instead of being dependent on that, there’s an opportunity for more of it to be residential.”