Most people don’t believe what you’re about to read. But I do. Here it is: The off-price business, those stores that sell brands for less every day, like Burlington Coat Factory, Ross Stores and TJ Maxx, face problems that are not being recognized. Those problems aren’t immediate but they are strategic, fundamental and important. They are going to be very serious problems in the next several years. There are several reasons why I believe this.
Right now off-price is one of the few bright spots in multi-brand retail. Major retailers, especially department stores, are finding themselves with too many square feet and no way to grow their business. They are expanding into the off-price market. Macy’s has opened Backstage, Nordstrom has Nordstrom Rack, Saks has Saks OFF 5thand there will be more. Retailers can all see that customers want off-price and they will allocate more square feet for it in the future, not less. With all that space needing to be filled with off-price products, retailers in the space will have to compete more to get customers and there will be more competition for closeout products to stock. That will make it harder for the established players to maintain the performance levels they're expecting and accustomed to.
Technology acts against the off-price business in several ways. First, some background. Broadly speaking, there are two type of products you’ll find in an off-price store like TJ Maxx, Burlington Coat or Ross Stores. One is true closeout, products that were created and offered for sale at full price in other stores but didn’t sell for one reason or another. When the selling period ends, leftover products are often sent to one of the off-pricers to be sold at a discount from list price. Having true closeout products in an off-price store gives the store legitimacy and is part of the surprise experience that consumers love in those stores. The second type of product is things that are made to be sold in off-price stores. Those made-for-off-price products are the bulk of the business today and they’re designed to be sold for the prices they sell at in the off-price stores. They’re slightly different than what a consumer could find in a full-price store but they’re presented as a deal, mostly because the brand is harder to find off-price.
The true closeout product is going to be harder for the store to get in the future because companies are using technology to reduce the quantity of unsold full-price products. Having garments left over at the end of a selling period is one of the worst outcomes for retailers. They are doing everything they can to reduce the amount of product left over and that includes numerous technology solutions that range from avoiding the production of certain goods to maintaining a more efficient supply chain and having other ways of selling products that are left over at the end of a season. Clothes-for-rent, a service facilitated by new technology, is one of the ways to improve supply chain efficiency and we will be seeing more rental as time goes on.
The other way that technology threatens the off-price business is with second-hand clothes. Yes, second-hand clothes. Historically, the second-hand business was a mom and pop business. An entrepreneur would open a local vintage store and only people in the local catchment area could access it. The stores weren’t fixtured nicely, they were usually grungy, dank, unappealing and poorly managed. Only true second-hand devotees would even walk in. That’s changing now because second-hand clothes are going online. When you look at startups like thredUP, The Real Real, Everything But The House, Tradesy and many others, you can see that the second-hand business is about to take a leap in the number of consumers it can reach and the professional way it presents itself. There’s even an aggregator in formation called ThePosh.net, focused on luxury designers, that lets consumers see many sites in one place, the way Kayak aggregates other sites’ airlines, hotels and rental cars. Now second-hand clothes are much more accessible and they are not limited geographically by store location.
You may say, “I’d never shop second-hand stores.” That may be, but think back to 2000 if you can and how people felt about buying clothes of any kind online at that time. Almost no one thought that was a good idea and look at where we are now. Think further back to the 90s and imagine you’re running Barnes & Noble. Most people didn’t see then that Amazon would show up and take over the book business with electronic books. That’s pretty much where the off-price business is now in the way it thinks about second-hand clothes. Off-price retailers today don’t see from their key performance indicators that second-hand is attracting their customers but the second-hand sellers are seeing it. James Reinhart, the CEO of thredUP told me, “Fifty percent of thredUP customers report that what they bought on thredUP replaced something they would have bought at TJ Maxx or Marshalls.” Second-hand is a real and growing threat to off-price. Reinhart of thredUP also said, “Seventy percent of new customers to thredUP in 2017 reported that this was the first time they had ever bought used clothing.” With second-hand becoming more shoppable, consumers will try it and that will move them away from off-price retailers.
Photographer: Jeff Zelevansky/Bloomberg News.
Off-price’s major appeal is buying brands for less. As time goes on, brands are becoming less valued by consumers and fewer brands are worth hunting for. An important reason for the decline in brand values is the decline of department stores. The brands they previously strengthened, like Ralph Lauren, Michael Kors and others, are losing some of their ability to reach consumers as department stores decline. That makes them less desired and less interesting to off-price consumers.
Newer brands are going direct to consumer by selling online and in their own stores. Those products are less likely to land in an off-price store. Digital retailers like Amazon and Stitch Fix sell product under their own names and their products are likewise unlikely to appear in off-price stores.
These brand changes makes the brands that are available in off-price stores less interesting to consumers.
Photographer: Luke Sharrett/Bloomberg
When you put it all together, you get:
Technology reducing the amount of true closeout product available
Growth in second-hand stores, rental products and other ways of selling garments
Available brands becoming less valuable to consumers
With the exception of more competition, none of these changes are traditional ways in which businesses are challenged, they are all new. As a result, off-price retailers using traditional metrics can’t see it. Think back again to Barnes & Noble 20 years ago. They were doing a good job, leading their industry and providing great products and service to consumers. The industry changed completely right under their feet. They never saw it coming and when it appeared they didn’t think it was a threat. It’s a cautionary tale.
One more thing: almost every type of multi-brand retailer is suffering. How long can it go on that off-price continues to perform well? Are they really all that different from other forms of retail? Or have the forces that will challenge the sector only starting to appear in force starting now?
When I explain this thinking to people they ask me, when is it going to happen? It’s hard to say. The recent weaker performance of TJX is not an encouraging sign for believers in the off-price business and it may be a harbinger of future weakness. But one quarter’s weakness isn’t necessarily a turning point, we’re discussing a long-term, secular trend. I know that if I were running an off-price business today, I’d be moving as fast as I could. Two things I’d do is explore the second-hand business and fashion rentals as an investment and a hedge. When you look at what Amazon and Wal-Mart are doing, you can’t see one clear pattern, there are so many diverse things they’re trying. They recognize that the future is highly uncertain, the path forward is not clear so they’re trying everything they can. In off-price, no one appears to be experimenting that way, they are sticking to their historical business pattern.
The world is bullish on the off-price business right now. I think there are dangers around that aren’t being talked about. Time will tell. I believe that now is the time to act, while they’re strong, to plan for the future.
My firm,Triangle Capital LLC, does mergers, acquisitions and capital-raising for companies in fashion, retail, and consumer products.