RETAIL IS STRUGGLING to cope with yet another wave of store closings. Large chains including Kmart, Charming Shoppes, The Museum Co. and Frank's Nursery & Crafts are shuttering units because of lackluster sales.

Other big names ranging from Toys “R” Us to Albertson's are shedding stores as they revamp market strategies to remain competitive in a challenging economy. “Clearly we are seeing an increase in the amount of surplus space,” says Howard Makler, chairman and chief operating officer at Excess Space Disposition Inc. in Huntington Beach, Calif.

Cities from Charlotte to San Francisco have felt the pinch of store closings. An estimated 2,142 store closings were announced during the first two and a half months of 2002 compared to 2,430 during the same period in 2001, according to the International Council of Shopping Centers (ICSC).

“Clearly there has been a slowdown in the absorption of that surplus property,” notes Makler, who estimates that the volume of lease and sublease transactions has dropped by 20% to 30%.

Retail expansion has slowed and the pool of retailers has shrunk, Makler says. At the same time, retailers have more options due to rising vacancies in existing and newly constructed shopping centers. “The surplus of space is becoming a bigger problem with the reduction in deals and more excess space coming on the market,” Makler says. Currently, Excess Space Disposition is marketing more than 20 million sq. ft. of sublease space for clients ranging from Staples and Eckerd Drug to Petco and Winn Dixie.

Bad timing

One indicator of the severity of the problems plaguing the retail market is that the national chains OfficeMax and Radio Shack both announced store closings in December. Traditionally, December is devoted to evaluating holiday sales, not eliminating store locations.

“You would be hard pressed to find another year where there were announcements of store closings in December,” Makler says. “I think that is a tell-tale sign that we are in for a much bumpier ride.”

The volume of surplus retail space appears to be mounting as the result of two trends — bankruptcy filings and retailer reconfigurations. Chris Maguire, president of Staubach Retail Services, Dallas, notes that retailers continually regenerate their portfolios by re-evaluating stores in light of changing trade areas or evolving prototypes. But in the tough economic climate of the past 12 to 18 months, stores that in the best of times would be considered mediocre performers are now full-scale problems. “The big difference of what happens traditionally and what happens now is that marginal stores are getting closed,” adds Maguire, whose company is handling the disposition of 200 surplus CVS units and more than 60 Toys “R” Us stores.

While some retailers are taking a beating, others have fallen flat on the canvas. According to ICSC, Kmart Corp. is one of nine retailers to file Chapter 11 in first quarter 2002. The Troy, Mich.-based discount chain has announced plans to close 284 of its 2,100 stores and has said that it could close as many as 400 stores — potentially 4 million more sq. ft. to come onto the market.

This will probably create the largest ripple effect in the industry, says Bernard J. Haddigan, director of the national retail group for Encino, Calif.-based Marcus & Millichap. Haddigan notes that Kmart has a broad reach in the retail industry with locations in freestanding, neighborhood and community centers old and new. “Because Kmart has such a large presence in America, we will see older centers suffer higher vacancies as they reposition,” he says.

Changing prototypes

Whether as a result of bankruptcies, mergers or acquisitions, store closings happen every year, even in good economic times. The more pressing concern these days is vacancies that are materializing as retailers swap old stores for new prototypes, according to Dottie Tarleton, vice president of Stirling Properties, Baton Rouge, La.

Grocery-anchored neighborhood centers, for example, have been hit hard by this trend. In the past, centers were comprised of a grocer along with service businesses such as a dry cleaners, a drug store, bank and video store. Now all of those uses can be found within a larger supermarket prototype. “As a result, we're seeing some stores come on the market because the old buildings don't work today,” Tarleton says.

That change has brought good and bad news to the Baton Rouge market. The good news is that retailers have new opportunities to scoop up properties in prime locations as vacant neighborhood centers are renovated or redeveloped. The bad news is that demand is low for B and C locations.

The shift in the grocery sector, coupled with the bankruptcy of Service Merchandise and Montgomery Wards, has taken its toll on the Baton Rouge retail market. The overall retail vacancy rate rose from 11.7% in fall 2000 to 16% in fall 2001, according to Tarleton. Vacancies in the neighborhood grocery-anchored sector jumped from 18.8% in fall 2000 to 26.57% in fall 2001.

Tarleton remains optimistic that the excess space will be absorbed. “Even though we are seeing an increase in the vacancy rate, we have new retailers coming in, and the economy is good,” she notes.

Expansion opportunities

Store closings are a boon to expansion-minded retailers searching for prime locations or bargain real estate. In 2001, Montgomery Ward closed all 258 stores in 31 states. Sears, Dillard's and Target have since stepped in to convert some of those stores, Haddigan notes.

Bradlees Corp. is another retail chain that fell on hard times, shuttered all 105 of its stores in 2001. “Their failure will be beneficial for other healthy retailers to pick and choose from prime retail property locations,” Haddigan says. For example, Kohl's acquired 15 stores and Wal-Mart and The Home Depot acquired 10 stores, he notes.

Cleveland-based Developers Diversified Realty Corp. (DDR) was hit with 12 HomePlace closings in 2001. But just a year later the firm has either signed leases or has new tenants in place at 11 of the 12 stores. In most cases, the vacant HomePlace stores were divided up to accommodate two smaller tenants. Mid-size retailers such as Michael's, Bed Bath & Beyond, David's Bridal, Office Max, Pier 1 Imports and Linens N Things moved in to absorb the former HomePlace space.

“In our portfolio, 2000 was actually a tougher year than 2001,” says Dan Hurwitz, a DDR executive vice president. Although HomePlace closed 630,000 sq. ft. in DDR shopping centers, the previous year was marked by a greater number of small retailer bankruptcies such as Just for Feet, Hurwitz notes.

“This year, Kmart is on everyone's watch list,” Hurwitz says. So far, four DDR shopping centers have been affected. Those four stores, which are located in Tiffin, Ohio; Ashland, Ohio; Houghton, Mich.; and Simpsonville, S.C., represent aggregate annual rental revenues of $938,000. DDR has already received strong tenant interest on the Simpsonville location, which represents $431,000 in base rent, DDR says.

Re-tenanting strategies

Shopping center owners are working to stay ahead of the curve and anticipate closings in a tumultuous market. “You need to understand a retailer's business strategy and understand who the appropriate retailer is to take advantage of another's demise,” Hurwitz says. “We were marketing the HomePlace boxes several months prior to their closure because we didn't feel they would survive.”

Meanwhile, retailers are tapping any resource they can find to dispose of surplus property, including online databases designed to help them find surplus properties that match their criteria. Storetrax.com, for example, launched its new surplus property search page in mid-January. “It is specially designed to address the recent surge in these type of properties,” says Storetrax CEO Beth Stewart. Storetrax.com now has about 700 listings for surplus properties.

According to Makler, surplus stores in prime locations will be snapped up quickly. It is the disposition of B, C and D properties that presents a challenge. One of the solutions for recycling excess retail space in less desirable locations will be finding alternative uses. Excess Space Disposition has subleased surplus space to non-retail businesses ranging from bingo halls and flea markets to libraries and health clubs.

Although vacancies may rise while the surplus space is absorbed, analysts are optimistic that the worst may be over. “Today, we project that the economy is stable and building,” Haddigan says. “Therefore a majority of the retailers will not have to suffer the consequences of bankruptcy and will continue with their business plans for 2002.”

Another round of store closings may materialize in the coming months as retailers continue to adapt to a changing marketplace. However, it probably will not be as large as what has occurred in the last year, Maguire says. “The market will improve over the balance of this year and into 2003,” he adds.

Beth Mattson-Teig is a Minneapolis-based writer.