A Continuing Evolution
Retailers are continually evolving in an attempt to maintain and ideally increase their share of consumer expenditures. Similarly shopping centers are also continually evolving. Whether it was the creation of suburban malls, power centers, outlet malls or more recently lifestyle centers shopping centers have constantly evolved. And today we are on the cusp of the next evolution in shopping centers. It is an evolution driven by the transition of Baby Boomers into their “golden years”, the 65+ age segment.
This transition comes with two seismic shifts: A significant reduction in consumer spending and second, an accelerating of the shift away from GAFO1 store-spending to medical related spending. Shopping center owners who are aware of and capitalize on these shifts will not only survive the additional pressures of stagnant consumer wages, rising personal income taxes and online retailing but will thrive.
Over The Spending Hill
Peak consumer spending occurs between the ages of 45 and 54 reaching a peak average, annual consumer expenditure of $57,788. Once the consumer reaches the 55-64 age segment consumer spending begins to decrease. When consumers enter the 65-74 age segment it declines substantially.
Source: Bureau of Labor Statistics (“BLS”)
The first wave of Baby Boomers celebrated their 65th birthdays in 2011. Consumers in the 65-74 age segment spend 28.3% less on average than during their peak years. It is estimated that between 2010 and 2020 there will be approximately 14.5 million more consumers aged 65 or older. Said another way, by 2020 14.5M consumers will on average be spending 28.3% less than they did during their peak years. And with the Baby Boomer generation encompassing a 16 year period this is going to last for a while.
Source: Census Bureau, BLS, CBRE-EA
Who Moved My Consumer?
The second seismic shift is more of an acceleration of an existing trend that occurs as a result of the Baby Boomer generation transitioning into the 65 plus demographic. It can be best understood through a parable. The book “Who Moved My Cheese” presents a parable in which two mice discover the cheese they depend on has been moved from its usual location. Not to worry. The resourceful mice thrive and survive because they stopped looking for it in the old place and instead began looking to where the cheese had been moved. Something similar is already happening to retailers and the shopping centers they occupy. The retailer’s “cheese”, consumer expenditures have been moving. They are increasingly moving from GAFO store expenditures to medical related expenditures.
According to the Bureau of Economic Analysis (“BEA”) health related expenditures comprised 16.0% of Personal Consumption Expenditures (“PCE”) in 1991, 16.9% of PCE in 2001 and 20.1% by 2011.
This is more than a 25% increase in the portion of PCE that consumers spent on medical related goods and services. While part of this increase is due to the rate of inflation in healthcare costs that is irrelevant. The more consumers are forced to spend on medical related goods and services the less they have to spend on the traditional retail goods found in the stores that fill our shopping centers, regardless the cause. And this occurred before Baby Boomers even began hitting their “golden years” when healthcare spending accelerates substantially. That is why this trend will accelerate substantially.
While this is a problem for retailers it can be an opportunity for the more adroit shopping center owners. However, shopping center owners who continue to look for tenants only among retailers will find their “cheese” slowly diminishing each day while their investors will see a “bite” taken out of their returns. Follow the money or fall behind.
Larger Threat Than Online Retailing?
So how large of an impact has this increase in medical related expenditures had on retail spending? How much more would consumers have had available to spend at traditional retailers if medical related expenditures as a percentage of total PCE’s had been held constant between 1992 and 2011 - $348 billion. Said another way, due to rapidly rising medical expenditures consumers had an estimated $348 billion less to spend on household items, clothing, jewelry, electronics, sporting goods, toys, household appliances and other retail goods. How large of an impact is this? It is far more than the impact of online retailing. According to the U.S. Census Bureau annualized third quarter 2012 e-commerce sales totaled $228 billion, significantly less than the $348 billion that medical expenditures siphoned off from traditional retail sales in 2011. Said another way, the impact of e-commerce sales on shopping centers was $120 billion less than that of rising medical expenditures.
Source: U.S. Census Bureau, B.E.A., CBRE Global Research and Consulting
Or, consider these comparisons. Between 1991 and 2011 expenditures on children’s and infant’s clothing increased $5.9 billion; household appliance expenditures increased $21.2 billion; furniture, furnishings, and floor coverings expenditures increased $69 billion. Even expenditures on gambling during that same period only increased $76.8 billion - significantly less than the $348 billion of PCE’s siphoned off from retail expenditures in 2011.
Source: B.E.A., CBRE Global Research and Consulting
It Will Only Accelerate
Now let’s look to the future. How much more will consumers be allocating to medical related expenditures in 2016 than in 2011? If medical related expenditures simply increased annually by the average annual rate of growth that occurred between 2002 and 2011 consumers will be spending $600 billion more. That is $600 billion less than what would have otherwise been available to purchase jewelry, apparel, home furnishings and the many other goods retailers need to sell to be able to continue to pay their shopping center rent. Comparatively, as reported by Internet Retailer, it is estimated that online sales will be $101 billion greater in 2016 than in 2011, far less of an impact.
Source: Internet Retailer (http://www.internetretailer.com/2012/02/27/e-retail-spending-increase-45-2016), B.E.A., CBRE Global Research and Consulting
When one remembers that the rapid rise in consumer medical expenditures began even before Baby Boomers started reaching their “golden years” one can see that the $600 billion estimate is a best case scenario. The “golden years” are the years in which consumers spend significantly higher sums on medical related goods and services and significantly less on traditional retail goods. According to the Bureau of Labor Statistics the amount spent on medical related expenditures by consumers 65 years of age and older was 53.4%2 greater than that spent by the average consumer. As a result while the average consumer spent 6.6% of their average, annual expenditures on medical related costs in 2010 consumers 65 years of age and older spent 13.2% on medical related costs in 2010. With more than 14.5 million Americans moving into their “golden years” by 2020 there is every reason to believe that the siphoning off of consumer dollars from traditional retail purchases to medical expenditures will only accelerate.
Time to Start Playing Offense
While traditional brick and mortar retailers can survive by following consumer retail expenditures online they cannot capture the rapidly rising medical related expenditures. This along with stagnant wages will put increasing pressure on brick and mortar retailers to shrink store sizes and store count. This is a sobering future for retailers. The impact however on shopping centers is in the hands of shopping center owners. While bleak for those “mice” unwilling to change there is a strategy to deal with and even benefit from the rapid increase in medical related expenditures. Oddly enough the answer can be found in fusion cuisine.
Fusion restaurants are restaurants that incorporate elements from two cuisines into one new concept. Similarly, owners of shopping centers can proactively incorporate two categories of tenants into one new concept. They can expand beyond a single GAFO focused tenant mix strategy to a strategy incorporating both traditional GAFO retailers and medical related tenants. I call this fusion of traditional retailers with medical related tenants Medtail. This is not the same as a Medical Mall. While a Medical Mall is a collection only of medical care providers Medtail is the fusion of traditional retail tenants with medical related tenants. This is not the same as haphazardly signing a lease when LensCrafters shows up and wants to lease space or when a hospital knocks on your door wanting to lease space for a satellite location. Rather, it is proactively seeking to add medical related tenants to your shopping center’s tenant mix and/or designing new shopping centers to include a mix of retail and medical related tenants.
How compatible and/or complementary are shopping centers and their typical retail tenants with medical related tenants?
Let’s first examine parking, a key consideration. Medical related tenants, especially medical service providers, require significant parking. Shopping centers typically have significant parking available. Continuing, the heaviest parking usage by medical tenants is in the morning through approximately 5 pm, Monday to Friday. Conversely, the heaviest parking utilization by traditional shopping center tenants is between 3 pm and 9 pm as well as on weekends. Except for the overlap between 3 pm and 5 pm Monday through Friday there appears to be minimal overlap between the two tenant group’s parking needs. And because the parking doesn’t overlap this would reduce the effective parking needed. As a result parking areas furthest from the shopping center and closest to the main arteries could be sold off or leased as outlots reducing the owner’s basis in the shopping center thereby increasing investor returns.
Second, the compatibility observed between the parking needs of retailers and medical tenants reveals the first complementary relationship between shopping centers and medical related tenants. While shopping centers struggle to increase foot traffic between the hours of 10 am and 3 pm Monday through Friday medical tenant foot traffic is heaviest between 9 am and 5 pm, Monday through Friday. There would be a clear benefit to adding medical tenants to a shopping center’s tenant mix – increased daytime foot traffic.
Third, not only would daytime foot traffic increase but the traffic would in effect be a captive audience. How many times have you gone to an appointment only to wait for 45 minutes while thinking of all the errands you could be running? Medical tenants would both increase daytime foot traffic and bring in traffic with time to shop while they wait for their appointment. And don’t forget the accompanying caregiver or family member. They will have even more time to shop during the patient’s appointment.
Fourth, not only would daytime traffic increase but just as importantly the presence of medical related tenants would increase the number of visits to shopping centers among shoppers 65 and over. Considering that the fastest growing segment of the population will be those 65 and older this will be critical. Additionally, according to the International Council of Shopping Centers (“ICSC”) the average dollars spent per mall trip declined significantly after the age of 643 decreasing from $113.10 to $87.30 spent per mall visit. With an increasing number of Baby Boomers reaching 65 years of age getting them to come back more frequently could help offset their lower average dollars spent per mall trip.
Fifth, also according to the ICSC male shoppers comprised only 36%4 of all mall visits between 2005 and 2007. The presence of medical related tenants would increase the number of shopping center visits by males. Just how big of an impact could the presence of medical related tenants have on both number of shopping center visits among consumers 65 and older as well as among males? According to the Centers for Disease Control (“CDC”) individuals aged 55-64 went to a physician’s office 4.37 times on average per year. However, individuals aged 65 and older went to a physician’s 7.37 times, a 61% increase. Clearly if a shopping center could capture a portion of those increased visits, especially among men the center would have a better chance of sustaining and maybe even increasing its center’s sales per square foot.
Sixth, in general shopping centers benefit from having a larger rather than smaller trade area. Destination retailers help to increase the trade area of a shopping center. Medical service providers can have the same effect as a destination retailer. Think about how many times you have been frustrated by having to go a medical service provider outside of your usual traffic pattern due to your insurance plan’s requirements. As a result medical service providers mimic destination retailers in that they draw consumers from a large area expanding the trade area from which the shopping center draws its customer base.
Seventh, the addition of medical related tenants could increase a shopping center’s income stability. Medical service providers and medical equipment providers are not subject to fashion trends or changes in consumer preferences that retailers are subject to. Medical service providers typically sign longer lease terms than a typical non-anchor retail tenant. As a result a shopping center with both retail tenants and medical related tenants could generate a more stable income stream.
Eighth, the destination nature of many medical related tenants make them perfect candidates for locations within a shopping center that have less foot traffic, less exposure and thus less demand. Medical related tenants can be ideal prospects for the locations that some retailers would shun.
Ninth and maybe most importantly the addition of medical related tenants would allow a shopping center to follow and thus retain more of the PCE’s occurring in the center’s trade area than it otherwise would with a traditional GAFO only tenant leasing strategy. Considering the vast increase in the medical related expenditures as a proportion of PCE this is a significant benefit.
Which shopping centers? At first the most likely shopping centers to embrace this concept will be those finding it difficult to attract traditional retailers. Targeting medical related tenants can open up a whole new list of potential tenants for these centers. Second, shopping centers that have never been able to get above say 80% occupancy in a market with a 90% average occupancy rate would also benefit from expanding their tenant prospect list. When a shopping center’s occupancy rate is consistently below the average market vacancy rate it is often due some portion of the shopping center’s space being significantly inferior. For example, who hasn’t had difficulty trying to lease “elbow” space in a shopping center? Or what about the space without exposure to the primary traffic arteries? Those would be ideal spaces for the right medical related tenants as their frontage and exposure requirements are different. Third, forward looking shopping owners without occupancy challenges today would also be wise to consider this concept. It wasn’t long ago that Blockbuster Video, which brought both increased foot traffic and a Viacom guarantee, was considered a blue-chip tenant. Borders Books was a must-have for shopping centers not that long ago. And Best Buy was at the top of most shopping center owners’ lists not that long ago. As the average consumer expenditure decreases and the non-GAFO related portion of those expenditures increase, consumer wages stagnate and online sales take a bigger bit out of brick and mortar sales retailers will inevitably continue to shrink store sizes and counts.
If you do choose to diversify your shopping center tenant mix beyond traditional GAFO retailers and decide to include medical tenants there are a few practical considerations to take into account.
First, build-out costs for medical related tenants will generally be significantly higher than for a typical retail tenant. While a typical retail tenant will require only a “white box” finish and some nominal tenant improvement allowance medical service providers may require multiple exam rooms with plumbing in each as well as upgraded flooring and wall-coverings. Because rents will reflect the higher costs the real issue is each tenant’s credit profile. There is in effect a larger investment made by the shopping center owner in each medical related tenant. This makes underwriting the credit of each tenant even more important than for a typical retailer requiring a lower build out allowance.
Second, there will be material variation in build out costs among medical related tenants. At the one end of the spectrum build out requirements and costs for medical service providers such as doctors will often be far more than for non-medical service providers. Medical service providers will often require a number of exam rooms including plumbing in each. They will also likely require upgrade flooring, lighting, electrical and wall-coverings. Dentists require an inordinately significant investment in plumbing which will drive up costs further. However, there are some medical service providers that require comparatively lower build out costs such as chiropractors; hearing and balance centers; and physical rehabilitation centers. At the other end of the medical related tenant spectrum tenants selling medical equipment will require a build out more similar to that of a typical retailer than a doctor’s office.
Next, in order to capitalize on the increased foot traffic certain modifications and innovations will need to be implemented.
First, consumers 65 and older will require more seating areas in the shopping center to ensure the duration of their visits are not limited by their endurance levels.
Second, food service options may need to be modified. While teenagers may be happy with Taco Bell or Panda Express (my nephew’s favorite) the more mature consumer will likely be looking for something different.
Third, while a captive audience is one benefit of adding medical related tenants you want to ensure they are not held captive in their medical service provider’s office. A simple innovation such as providing restaurant type pagers to each tenant will ensure the increased mid-day, mid-week traffic is able to visit the other tenants in your center.
Fourth, a center-wide promotion strategy that promotes cross-selling among your traditional GAFO retailers and your medical related tenants will be essential. This will both build awareness among the medical related foot traffic and provide incentives for the medical related foot traffic to frequent the center’s GAFO retailers.
Fifth, placement will be a key consideration. Intuitively it makes sense to spread out your medical related tenants to try and facilitate cross-selling. Having an inviting café, Hallmark store, Brookstone, Orvis, or toy store greeting Baby Boomers as they enter of leave the doctor’s office can facilitate that cross-selling.
Consider the following scenario. Neil accompanies his wife Elizabeth to a doctor’s appointment. Upon arrival they realize they are told that the doctor is running 30 – 60 minutes behind. Which is it? It doesn’t matter because Neil and Elizabeth are given a pager allowing them to visit the toy store outside the doctor’s office. This allows them to buy that gift for their first grandchild’s second birthday. And during the doctor’s visit Neil can peruse the Orvis store and even buy that new down fishing vest he needed.
Or consider the following scenario. This time Neil needs to go for a medical visit. It could be to the chiropractor, dentist or to get his hearing checked. But in this visit he is accompanied by his daughter, a twenty-something that shops at H & M, Forever 21, TJ Maxx and Victoria’s Secret among others. Realizing that the wait is going to be at least 45 minutes she picks up a pager from the receptionist and picks up a couple items at the TJ Maxx located next door.
The same scenarios could play out with a caregiver who accompanies them instead of family member. In this scenario they could use the time Elizabeth or Neil are in seeing the doctor to visit the Hallmark store to pick up a Birthday card for her sister or the Dick’s Sporting Goods to buy her son that new basketball he was wanting.
Just as importantly the increase in medical related shopping center foot traffic doesn’t have to be solely related to aging Baby Boomers. Consider recruiting pediatricians, optometrists, dentists and orthodontists. This would bring in both the children and more importantly the accompanying adult. What parent of children isn’t pressed for time? Think of what an advantage a doctor’s office would have if the parent could stop in a variety of stores checking-off items from their to-do list the rather than sitting idly reading months old magazines.
Defense or Offense?
During the 1950’s and 1960’s consumers moved out of the city and into the developing suburbs. Sears Roebuck and Company followed consumers to the suburbs opening stores in the malls that were built to serve the new suburban concentrations of consumers. Montgomery Wards, the dominate department store at the time initially did not follow the consumer choosing instead to continue looking for its cheese among the dwindling downtown consumer base. Sears grew to become the dominate department store of its era while Montgomery Wards shrunk and eventually filed for bankruptcy. In a similar manner the largest consumer segment of our population, Baby Boomers are once again moving, moving from their peak spending years into their “golden years”. As of 2020 14.5 million shoppers will be spending less and less while spending more and more of those reduced expenditures on medical related goods and services. Retailers and shopping centers will be competing over a smaller pie and a smaller slice of that reduced pie – not a good combination.
Will shopping center owners stand by idly while this occurs? Will they allow medical office buildings to capture the increasing dollars flowing to medical related expenditures uncontested? Will they continue to look for “cheese” solely among the same retail tenants? Or will their tenant mix evolve and follow the movement in consumer expenditures?
It is time for the traditional shopping center owner to go on offense. It is time for the traditional tenant mix to evolve. It is time for Medtail - the fusion of retail tenants with medical related tenants under the traditional shopping center roof. This is not the same as haphazardly signing a lease when LensCrafters shows up and wants to lease space or when a hospital knocks on your door wanting to lease space for a satellite location. Rather, it is proactively seeking to add medical related tenants to your shopping center’s tenant mix and/or designing new shopping centers to include a mix of retail and medical related tenants.
1GAFO includes General Merchandise, Apparel and Accessories, Furniture and other sales. (furniture and home furnishing stores, household appliances, electronic stores, clothing, sporting goods, hobbies, toys, electronics, books, music, department stores, discount department stores, warehouse clubs, general merchandise stores, office supply stores and gift shops.
2 “Consumer Expenditures in 20120: Lingering Effects of the Great Recession”, Bureau of Labor Statistics, August 12, Reports 1037
3John Connoly and Brad Rogoff, “Keeping Track of US Mall Visits”, International Council of Shopping Centers, Research Review, Vol. 15, No. 2, 2008