Europe’s Retail Renaissance

This perspective is part of the Enhanced Return Real Estate Strategies series.

European value-add retail is in the midst of a renaissance after the best part of two decades of transition. The accumulative impacts of e-commerce trends, pandemic lockdowns and changing consumer spending habits – including the shift towards buying services over goods – has forced the retail sector to reinvent itself.

In the retail sector’s turbulent years, asset performance struggled as rents fell precipitously while other traditional asset classes, notably logistics and residential, continued to see rental growth. The retail sector was forced into the role of disrupted trailblazer as brands and landlords learned to adapt and survive amid a confluence of technological, environmental and societal secular shifts. Similar disruption is currently underway in office markets, while the retail industry has emerged through the other side into a highly-polarized sector. Retail is now in a rebased pricing environment offering opportunities to create value and generate risk-adjusted income returns. It is retail’s time to shine again.

What makes a retail winner

It is important to stress that while prime retail has adjusted to trends, not all retail owners have transitioned assets. This is not the environment where a rising tide lifts all boats. On the contrary, many retail assets have not been transformed and continue to struggle under the weight of high vacancies with suboptimal omni-channel integration, as some owners simply lack the capital, expertise or the innovation know-how required for the transformation.

1. Location: the enduring real estate maxim of proximity to a target population catchment area with efficient transport links.
   
2. Proposition: the refined retail, catering and leisure mix, underpinned by an organizational footprint shift from supply to demand-led drivers (i.e., integrated omni-channel retailer business model that distributes to consumers across physical locations and online). This is about aligning the retail offering to the local catchment area and its needs.
   
3. Execution: the strategy delivery by world-class real estate retail professionals in a collaborative relationship between brands, landlords, investors, lenders and the communities in which successful shopping destinations operate.

The alignment of these three inter-related variables creates the foundations for a best-in-class retail destination that can create value, foster communities, and drive rental growth in support of long-term risk-adjusted investment performance. At CBRE IM, we have developed strategies that optimize the proposition potential to align with prevailing consumer trends, sympathetic to local catchment preferences and sustainability imperatives.

Retailers want to integrate vertically, grow their footprint and market share. Vertical integration helps secure greater control over their supply chain, improve efficiency, protect and grow their brands and capitalize on new technologies. For example, Apple owns its own manufacturing plants and retail stores; Amazon owns its own logistics network and cloud computing infrastructure; IKEA owns its own protected forests around the world; and Starbucks owns a coffee farm in Costa Rica.  Retailer footprint strategies vary markedly between and within industries. In the years before the pandemic, many retailers inefficiently used their real estate space, with the complete omni-channel distribution channel not fully utilized. Changing consumer trends and adoption of new technological advances clarified the optimal way to reorient the multiple retail dimensions: first, a retail location is a place to buy; second, a media channel and platform to advertise retailers’ brands; third, a place to cultivate an emotional connection (particularly for large acquisition, such as household furniture, a car, a new smart phone, TV or computer, etc); fourth, it is a logistics hub and a location to click, collect and return.

Omni-channel distribution models are key

Since the pandemic, the retail industry has optimized how the omni-channel retailer distribution channels operate. In our European retail portfolio, we have observed that in markets or regions where our major brands have stores, they also sell more online. The stores serve their brand and the brand serves their stores. Simply put, consumers can either find what they are searching for in the store, or order the product online in the store. In addition, many brands have started to charge for returns with fees waived for those who return items to their store, which helps drive footfall into the store. (retailers are able to sell more to customers when they are in store). Retail now is organized to meet consumer demand across an integrated omni-channel distribution model which can be expressed in a simple matrix:

• Browse online, shop in-store 
• Browse online, shop online 
• Browse in-store, shop in-store 
• Browse in-store, shop online.

Defining retailers by footprint strategy

The size of brands’ store footprint and their number of stores in a market are the two key drivers of rental growth. These metrics are indicators of brands’ retail strategies and are predictive of their future growth ambitions, which serves to inform our leasing strategies across our retail portfolio. Ultimately, the retail industry has polarized into four types of retailers, according to their brands’ footprint and store portfolio requirements:

1. Retailers that want more stores with more footprint (i.e., bigger stores), to aggressively expand market capture.
2. Retailers that want less stores with more footprint, for brands that want to consolidate into flagship and jumbo stores, display their inventory in a physical location and reduce catchment area overlap.
3. Retailers that want more stores with less footprint, for retailers that rely less on online sales. This is popular with budget clothes retailers that sell inexpensive products and do not want to assume delivery and return costs. Electronic brands are another example which previously preferred larger stores with outlets dovetailing as hybrid inventory storage hubs.  Electronic brands have pivoted to occupying smaller retail space as it is cheaper to store in out-of-town logistics assets, and utilize retail stores as show rooms, returns and collection.
4. Retailers that want less stores with less footprint. These tend to be distressed or legacy retailers/ brands that have inadequately adapted to changing consumer trends, e-commerce, and the integrated omni-channel distribution model.

To fully understand and serve retailers, it is critical to understand and anticipate their needs. At CBRE IM, we have developed a comprehensive Client Relationship Program to ensure that we create and nurture sustainable dialog with leading and emerging brands.

Opportunity is now

These dynamics represent a bifurcated retail sector across Europe. CBRE IM is focused on investment opportunities among the winners of the modernized retail landscape. Even as the broader macroenvironment weakens into the final weeks of 2023, we anticipate assets with best-in-class retailers who have adaptive and integrated omni-channel distribution models will remain resilient through a potential period of lower consumer spending as they align those three pillars: location, proposition and execution.

Prime retail today is a battle-tested real estate sector. Having endured two decades of disruption, the industry’s renaissance has been a long time coming and well-earned. Since the pandemic, valuations and rents have rebased. We see a considerable pipeline of opportunities for retail assets– offering investors pockets of value throughout Europe. As investors start to return to the sector, we anticipate many legacy asset owners will capitalize on the returning liquidity and sell. Elsewhere, some opportunities will arise at loan maturities or failure to secure a refinance as their asset business plans are inadequate for the future. We believe that the coming quarters will offer opportunities for global platforms, like CBRE IM, to acquire assets at attractive entry prices aligned to our three pillars: location, proposition and execution.