The Next Wave Of Department Store Closures Will Hit Philly Even Harder Than The Last

Department stores, big-box and apparel retailers have been dropping like flies for the past few years, but the Greater Philadelphia area has remained largely unscathed. That may be about to change.

With Sears’ complex bankruptcy proceedings and slim chances of survival, the remaining locations have been all but written off as soon-to-be-closed. PREIT has nearly excised it from its portfolio as part of its proactive repositioning strategy, yet between Sears and Kmart, 12 stores remain open in Greater Philadelphia, according to CBRE researcher Peter Kondelis.

“That would be the single biggest wave of closures that the region has seen in a long time,” Kondelis said.

PREIT has managed to largely avoid the impact, both through repositioning empty boxes and selling underperforming centers, some of which included Sears, JC Penney or Macy’s. Its behavior is reflective of the options and challenges facing mall landlords dealing with impending vacancy.

What would you do with a big, empty box?

Some will be excited to re-lease the space, given that Sears’ long anchor leases are frequently at below-market rents. Others will see redevelopment into another commercial use, often multifamily, as more profitable than the process of refitting complex space to suit newer tenants.

For either strategy, success will largely be determined by the location of the shopping center, and those left with Sears are more likely to be farther away from Downtown Philly and its more dense suburbs.

PREIT’s trimming of assets was largely focused on shopping centers that were farther from either urban cores or densely populated suburbs, a big contributor in its success finding new and different tenants to fill its former department stores, such as upscale theater chain Studio Movie Grill to replace a former JC Penney box at the Willow Grove Mall.

“Everybody went to [entertainment] because backfilling rather than redeveloping is more cost-effective,” Colliers International Senior Managing Director Todd Sussman told Bisnow. “Entertainment, theaters, gyms, etc., became backfillers of the space, but that’s more density-driven.”

Landlords with malls in less dense locations, or those who were not as proactive in their strategy, may not have as many options in finding a replacement tenant, as some of the buzzy retailers big enough to fill meaningful blocks of former department stores fill niches too specific to expand aggressively into one metro area.

“Some of the [entertainment] tenants that have done those deals might look to do more, but there just may be a cap on how many [locations they would open],” Kondelis said.

Fewer retail tenants may be looking to backfill vacated space, but they are not alone in that market, according to CBRE Senior Research Analyst Lisa DeNight.

Healthcare providers are eager to find more locations near population and may have different demographic preferences from department stores. Retailers in need of distribution centers to keep up with the demanding logistics competition have long been rumored to have an interest in taking over vacant boxes to use as last-mile facilities.

“I think the repurposing of big-box space for other commercial uses is still in its infancy in Greater Philadelphia,” DeNight said.

Another potential use for those boxes is self-storage, according to Metro Commercial Executive Vice President Joe Dougherty. Some can backfill a vacated box and could potentially benefit from the parking and traffic setups implemented for the department stores. Storage centers also have less concern for inside aesthetics that can drive up tenant improvement costs, whether as backfills or as new construction in place of demolished stores.

“You see some of these new facilities that almost look like old office buildings, or you see some retrofits,” Dougherty said, mentioning a grocery store conversion in the Bucks County town of Chalfont as an example.

Multifamily does seem to be the preferred route for redevelopment in areas where density makes it possible, as exemplified by regional landlords like PREIT and BET Investments. With the former’s sale of land adjacent to its Exton Square Mall and the latter’s Promenade developments in Granite Run and Upper Dublin, they are among the developers that have worked to goose their density with multifamily.

Most notably, Village at Valley Forge master developer Realen Properties has overseen multifamily, office and healthcare developments around the King of Prussia Town Center, the outdoor, restaurant-driven counterpart to the neighboring King of Prussia Mall.

“The [Village at Valley Forge] model is something that a lot of people would like to emulate, but without real density, I’m not sure you could really do enough apartments or get the rent to justify that,” Sussman said. “There are just a few pockets that can justify it based on the cost of construction.”

Challenges Beyond Sears

Despite stock market volatility and ongoing geopolitical tensions, consumer spending and confidence remain high overall, DeNight said. Retail sales in the region continue to increase every quarter and set a new record every time they do so, according to CBRE research.

Despite the positive indicators, many predict a cyclical downturn just over the horizon. If that or something unforeseen happens (like the government shutting back down), a belt-tightening among the consumer population would hit the tenants that have propped up retail as department stores and apparel retailers have struggled.

“One thing I’ve heard consistently from brokers is that shopping centers have become more reliant on restaurants, and if the cycle progresses and vacancy pushes upwards, if we start to head towards a slowdown, we could definitely see a slowdown in the restaurant scene,” Kondelis said.

Even the tenants that have stepped up to reinvent those vacant boxes inhabit a part of the consumer economy that can most easily be excised by families looking to cut costs.

“There’s going to be consolidation in the entertainment market as well; that’s my opinion of what’s next,” Sussman said. “When consumer confidence starts to wane and people don’t feel like they have extra cash to spend on things, that’s what’s going to lose steam. The nice theaters that charge extra money for power seats, the skydiving uses, trampoline centers and indoor golf; those are likely the first things to go if money gets tighter, and I think landlords know it. So they’re a little more apprehensive in uses of backfills.”

PREIT has done everything it can to get ahead of these issues and adapt to the changes in the retail market, but it isn’t immune — in fact, parts of its portfolio that remain are still quite vulnerable. The company still has 15 Macy’s and 14 JC Penney locations in its portfolio, and the latter started the year with press so bad that Seeking Alpha has downgraded its outlook of PREIT’s stock based on its exposure.

“It’s obvious that the success of PREIT and its dividend has everything to do with the success of JC Penney,” Seeking Alpha analyst Brad Thomas wrote. “While I believe in the management team, I am becoming more skeptical that the company will be able to generate a stable dividend.”

If PREIT, which has been as creative and proactive as any retail landlord, can still be considered at risk of serious exposure to department stores’ struggles (even though CEO Joe Coradino insisted to Thomas that the company is insulated), then there doesn’t seem to be a foolproof way for its peers to weather whatever storm may be on the horizon.