The Store is Closing: What Happens to Brick and Mortar Retail?

In 1997, I thought that this new Internet thing might be a great way to aggregate millions of used, rare, and out of print books from around the world. We could put hard-to-find books on a single website so that people could find and buy books that were otherwise impossible to locate. Like hundreds of others with similar ideas for selling things online, I started Alibris, an e-commerce company.

1997 was an interesting year because the US service sector enjoyed an odd convergence: that year 14 million Americans worked in retail, 14 million in health and education, and 14 million in professional & business services. Fifteen years later, the landscape has changed. “Books You Thought You’d Never Find” is a silly idea. Most retailers have stopped growing and many are dying. The company I founded has made an impressive effort to transition from retail to services.

The employment picture reflects these changes. Health care jobs have grown by almost 50%, professional/business services grew almost 30%, but retail grew less than 3%, adding only 26,000 jobs a year. There is mounting evidence that retail employment is about to now decline sharply. Fifteen years from now, these may be the good old days for brick and mortar stores.

Retail revolutions are nothing new. Boutiques challenged general stores throughout the nineteenth century. Department stores, arose starting with Wanamaker’s in 1896 and challenged boutiques. Starting in the 1920s, car-friendly strip malls challenged main streets. 1962 brought big-box retail to America: Walmart, Target, Kmart, and Kohls each opened their first store that year. In 1995, Jeff Bezos incorporated Cadabra — but changed the name to Amazon at the last minute, in part because it started with an “A” and most internet search results were alphabetical.

Today, e-commerce is not just killing some stores – it is killing almost all stores. Today there are very few successful brick and mortar retailers. Consider the obvious losers in recent years — none much lamented.

Department stores are dying. Sears, like K-Mart before it, is struggling to survive. Credit default swaps that insure investors against a Sears default on its debt obligations trading at record highs because markets believe that it won’t make it. JC Penny is undergoing a major makeover under the leadership of Ron Johnson, who created the Apple Stores. Johnson has changed the look, the targeted demographic, the colors, the brands, the formats, the shopping experience, and the name of the stores (now JCP). The results have impressed nobody, least of all customers.

Specialty retailers are not exempt from the onslaught. Online retail is relentlessly taking share in many specialty retail categories, resulting in total dollars available to physical retailers stagnating or even declining. This is starting to put intense pressure on their top lines. According to comScore, online retail rose to a record $35.3 billion in during the last holiday season — a 15 percent increase from the previous year.

Media retailers are dead, dying, or consigned to neighborhoods willing to support boutique stores. Music stores are a fading memory, Borders is gone, Blockbuster, Barnes and Noble and your “independent” bookstore are all next (Barnes & Noble admitted as much when it spun off the Nook reader as a separate entity rather than tie its fate to dying retail stores. Media retailers are dying because of digitization of course — but Amazon offers better prices and more selection even on printed books, CDs, or DVDs.

Big box “category killers” like Best Buy, or Staples are being hammered by online sites that translate dramatically lower debt and operating costs into lower prices. Best Buy posted five straight quarters of profit decline before reporting a $2.6 billion loss on March 29. Big box general retailers like Wal-Mart, Target, and Costco are seeing declining sales. Until its third fiscal quarter last year, Wal-Mart had posted eight consecutive quarters of declining sales at stores open more than 12 months. Analysts forecast declining same-store sales and profit for Target this year.

Demographic changes are also putting pressure on stores. Urbanization hurts strip malls. Baby Boomers no longer have kids at home. Their kids are marrying later and delaying having their own children, meaning fewer are buying houses that need to be updated and furnished. As these Millennials hit their peak spending years, they are completely accustomed to shopping online. For many Millennials, shopping malls were a teenage social venue — not a place to buy stuff. It is no accident that shopping malls have yet to emerge from the recent recession.

There is good reason to expect this change to accelerate. Physical retailers are typically very highly leveraged and operate on narrow profit margins. Material declines in their top lines make them quickly unprofitable. As stores close or reduce selection, more customers become accustomed to shopping online, which accelerates the trend. E-commerce maven turned VC Jeff Jordan recently cited the example of Circuit City, which was “preceded by just six quarters of declining comp store sales. They essentially broke even in their fiscal year ending in February 2007; they declared bankruptcy in November 2008 and started liquidating in January 2009″. Nor, Jordan notes, did the bankruptcy of Circuit City help out Best Buy any more than the loss of Borders helped Barnes & Noble. “Not even the elimination of the largest competitor provides material reprieve from brutal market headwinds.”

There are a few bright spots in the wasteland of retail stores. The need for fresh food and last-minute purchases mean that 7-11, Trader Joe’s, and the corner produce grocer have enduring customer demand. Customers may want to touch some high ticket items before buying them, which gives high margin retailers like Williams Sonoma and Apple an opportunity to offer a fun, informing, hands on retail experiences (although both of these companies do a growing share of their business online and Apple lets you pay for a items under $50 on your phone and walk out of the store without ever talking to a salesperson or cashier). Stores like Home Depot that sell physically large items to contractors who are time-sensitive not price-sensitive and need a large number of items quickly have sustainable value propositions.

Online commerce enjoys enormous advantages, from vastly larger selection, much lower fixed costs and debt, to a more customized shopping experience and 24/7 operations. Small wonder that revenue per employee at Amazon is nearing a million dollars, whereas at Wal-Mart — once a paragon of retailing efficiency — it is under $200,000. Hundreds of websites, not simply Amazon, have benefitted from the explosion of online retail — and tens of thousands of small retailers use Amazon or eBay’s commerce infrastructure to power specialized businesses. Of course UPS and Fedex benefit as well, in part because they make money on both the initial sale and on the subsequent return of wrong sizes and unwanted gifts.

Since the dawn of commerce in the Nile delta, humans have have purchased goods in physical markets. No doubt we will continue to purchase, or at least preview, stuff in stores. But if e-commerce achieves a fraction of the opportunity it currently has in front of it, retail stores as we currently know them will become a thing of the past. It is hard to imagine that we will miss them for long.