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News Release - November 4, 1999

The October 4 issue of The Industry Standard carried Mark Borsuk’s essay on retail space devolution.  The piece, written for Silicon Valley denizens, discussed online buying’s impact on stores, converting retail space to new uses, and MetaSpace(sm).   MetaSpace(sm) is explained at

The article urged retail property developers to partner with high technology companies and venture capitalists to acquire the software and broadband proficiencies necessary to create projects like MetaSpace(sm).  Developers who ignore change will flounder in a wired world.

Bankruptcy practitioners want to know about online buying.

On October 26, Borsuk addressed* the Retail Industry Bankruptcy & Workouts Forum in New York.  The retail reorganization and liquidation community wanted to learn how online buying will impact retailers and lease values.  Borsuk urged listeners to consider how the new buying habit changes space demand.  He described the risk to traditional retailers from online attack businesses, the downward pressure on margins from everyday lowest national pricing, the need to shift capital from location expansion to develop the online channel and the pressure on rents from the rapid influx of redundant space.  He calls redundant retail space the real Y2K problem.

*  “Are leases stranded assets?: Online buying’s impact on value.”

ICSC Law Conference still can’t come to grips with online buying.

This year’s ICSC Law Conference in Scottsdale (10/20-10/23) acknowledged the existence of online buying. There were a number of sessions devoted to the Internet.  One session examined online buying’s impact on percentage rent.  Other sessions explored online retailing strategies and telecommunications infrastructure ownership by landlords.  However, there was no serious discussion of cyberspace hurting stores and leasing.  The belief that geocentric buying habits are immutable continues to hinder serious discussion of retail property’s changing role.

However, attendees at Borsuk’s breakfast roundtable on October 23 discovered how online buying would impact retail development, leasing strategy and document drafting.   He described the coming confluence of real property, intellectual property and telecommunications law to meet the needs of wired projects like MetaSpace(sm).

Retailers show interest in sales channel reformation.

On October 18, Borsuk addressed* financial executives at the National Retail Federation in San Diego. This was the third year Borsuk addressed the conference.  He used the INFOTECH SCAN(sm) technique to illustrate the pitfalls of using demographic and psychographic data to make store location decisions.   Existing data gives false signals about a location’s sales potential, leading merchants to build unnecessary new stores, to overstore within a trade area and develop large stores.  He also described how traditional retailers could use MetaSpace(sm) to test new merchandising concepts from one location instead of opening multiple locations.   

*  “Online buying is a hungry cannibal: How to avoid becoming your Landlord’s lunch.”

Appraisers start to get it.

On October 15, Borsuk spoke* to members of the Appraisal Institute in San Francisco.  He pointed out the consequences of the online channel cannibalizing store sales for property owners and lenders.  Borsuk also described the risk of owning and financing Big Boxes, Power Centers, “B” and “C” Malls and Community Centers.  Community Centers will emerge within two years as susceptible to online grocery and drug store competitors.

*  “Neutron Bomb Talk--What happens when the people leave and the stores remain?”

Barron’s and Red Herring discusss need for stores.

Barron’s offers the party line.

Barron’s September 27 edition carried a puff piece by a Trammell Crow executive seeking to minimize online buying’s impact on retail space although he did admit certain property types having little shopping experience for customers were at risk.   While the warning flag was lifted for the usual suspects like computer-related products, books and music, he widened it to include fashion merchandise.  Furthermore, furniture, sporting goods, consumer electronics and home improvement items are beginning to entice buyers online.  Thus, developers are admitting the class of mass merchandise susceptible to online’s pull is expanding.   Borsuk responded to the article with a Letter to the Editor in the October 25 issue.

Red Herring gets “Dumb and Dumber.”

The September issue of Red Herring carries an open letter from the Editors to Jeff Bezos urging him to open stores (p. 114).  In what has to be the year’s most blatant display of chutzpa, the “Dumb and Dumber” manifesto pleads for Bezos to acquire Borders.  While the argument in the abstract is defensible, the Editors demonstrated complete ignorance of retail economics and the financial disaster for from implementing their ideas.  Developing a location based presence to compliment a pure-play’s attractiveness to customers is likely to evolve but not along the lines advocated.  Why would Amazon take on the headache of a chain store with inventory, personnel and locations spread across the county?  Why would Bezos want to pack his organization with a redundant supervisory staff to manage stores? 

Instead of fantasizing about “let’s open a store and we’ll make money”, the Editors should have focused on creating a partnership with Mail Boxes Etc., Kinkos or even the Post Office for returns and installing online ordering kiosks in their premises.  A piggyback concept with WebVan for pick-up and delivery is another strategy for meeting customer needs.   However, the Editors chose to wed themselves to a tired store based retailing model.

Does online buying accrete or dilute store sales?

The Jupiter Communications report “Channel Shift” (June 1999) came to the startling conclusion that retail sales would grow little because of online buying.  Rather, more than 90 percent of new sales would come at the expense of stores and catalogs.  This is contrary to the consensus view holding online buying does not impact in-store sales.  Jupiter found “… the Internet represents more of a threat than an opportunity…” to traditional channels and in the case of consumer electronics online buying would cannibalize store sales dollar for dollar.

Merrill Lynch warns retail company investors about online competition.

In August, Merrill Lynch downgraded a number of retailers partially due to investor concerns over online competition (WSJ, Thursday, August 26, p. B4).  Last March, Merrill Lynch downgraded a group of retail REITs over Internet buying fears.  See RREEF report discussed below.  The October issue of Shopping Center World (pp. 28-36) featured a story about online buying’s growing negative impact on retail REITs.  If Christmas merchandise sales (excluding autos) reach $10 bn, expect to hear a lot more about the “E-commerce effect” and Wall Street’s weariness with traditional retailers unable to leverage the cyberchannel.

Lenders’ wake-up.

While developers, property owners and REIT managers continue to believe online buying is not going to impact their investments, lenders are starting to factor online competition into the risk equation..  In February, Moody’s flagged the threat.  Last month an article entitled “As e-commerce grows, so do lenders’ concerns” appeared in Shopping Center World (pp. 102-105).  The perceived threat has heightened lender scrutiny.  Why is this so surprising?

Institutional real estate advisors are paying attention.

Real estate pension fund advisors are beginning to connect the dots.  In August, RREEF issued a major study entitled “Online Retailing and its Potential Impact on Shopping Center Sales.”  The report is a serious and thoughtful attempt to understand online buying’s impact on retail property.

The study examined the rise of online buying and developed three growth scenarios for sales cannibalization, including the impact on specific property types.  One finding was startling.  The “Accelerated Growth Scenario” found over 70 percent of consumer computer hardware purchases would be done online by 2003.  The magnitude of the channel dislocation would devastate stores.

RREEF noted the power centers and big boxes were at the greatest risk.  The finding is not surprising.  Many tenants occupying these properties offer the widest selection of commodity and name brand merchandise at low prices.  Online attack businesses like and eToys exploit the advantages of these mass merchandisers without incurring the costs associated with stores, personnel and dispersed inventory.

The most important insight from the report was how the real estate advisory community perceives the wired world.  It is a myopic view.  The analytic framework fails to consider the underlying forces driving online buying and its impact on space demand. 

First, it does not acknowledge the power of networks.  Metcalfe’s Law provides the explanation for why people find increasing value in using the Internet and why online buying is an irresistible value proposition.

Second, sales channel reformation is not considered.  How will retailers react to sales cannibalization and over what time frame?  How does Pareto’s Rule influence store profitability and future location decisions?  What role will Wall Street play in demanding sales channel reformation?

Third, the impact on space demand by reforming the sales channel matrix is not examined.  Retailers will move to a leasing strategy favoring a two to four year commitment with multiple short-term options and the right to quickly exit space.  This creates uncertainty over future tenancy and cash flow for investors and lenders.

Despite flaws, the RREEF study confirms online buying is a clear and present danger to retail property investors.  Today, the former “over the horizon” issue is in full view.

For further information contact Mark Borsuk, Managing Director, The Real Estate Transformation Group at (415) 922-4740 / FAX 922-1485 /  Copyright 1999.   All Rights Reserved.  Mark Borsuk.

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