Location, Location, Experience Creation: The Market Dynamics & Financial Impacts of Experiential Retail
Over the past two decades, the U.S. retail sector has undergone an enormous transformation. While retail sales are increasingly moving online and traditional brick-and-mortar stores have closed on a massive scale, new experiential retail concepts are proliferating throughout major cities. Little is known about the strategic interaction of landlords and experiential tenants. This study explores potential market dynamics leading to brick-and-mortar retail’s transformation and examines the value of experiential retail from landlords’ perspectives. In the theoretical section, this study expands the Grossman and Shapiro (1984) model of informative advertising to include experience amenities and e-commerce competition. In the empirical section, it assesses the value of experience in lease contracts.
We study 166 retail leases executed in 2019 across New York City. We compare effective rents, tenant concessions, and lease terms between “experiential” and “non-experiential” tenants. Augmenting the Compstak data, we collect various proxies for experience. We use Yelp ratings, Google Places ratings and created Weak and Strong rubrics for measuring experience.
Overview summarizes the theoretical and empirical strategy for estimating the value differential of experiential retail.
What we found:
As consumers’ preferences for e-commerce increase for a given experience, firms provide more experience, brand awareness increases, some firms exit the market, and pricing power (price markup) increases.
As experience-to-eWOM conversion efficiency increases, firms provide less experience, brand awareness increases, some firms exit the market, and pricing power increases.
As fixed costs decrease, firms provide less experience, brand awareness declines, some firms enter the market, and pricing power declines.
As the magnitude of negative rent discrimination by experience increases, firms provide less experience, brand awareness declines, firms enter the market, and pricing power declines.
We document that landlords treat experiential retail as substitutes, not differentiating in effective rent compared to other tenants.
However, experiential retailers command systematically higher tenant improvement allowances and longer lease terms.
How to define experience? We used various metrics to breakdown experience for retail consumers based on the latest literature in professional and academic circles.
A breakdown of statistical results suggests experiential retail tenants do not pay a price differential relative to non-experiential tenants.
The Museum of Ice Cream exemplifies both the marketability and popularity of experiential retail.
What surprised us:
“Our theoretical model reveals a counter intuitive movement: the more that landlords reward experience creation, the less that tenants create experiences. Additionally, our empirical work provides preliminary evidence that landlords are price discriminating by experience through TI instead of effective rent. Effectively, landlords are providing experiential tenants zero-interest loans to incrementally improve their spaces. Though it is unclear why this is the case, it may be due to who has more bargaining power during lease negotiations.” – Austin Fields
“I was surprised by the duration of the contract. If these types of tenants were perceived in any way as short-term, niche or one-off, then the contracts did not signal such concerns around the underwriting. Again, landlords and building owners want to attract density and are willing to underwrite contracts to achieve those goals.” – Dr. Andrea Chegut
The covid-19 pandemic has drastically changed the landscape of the built environment. Forecasts for experiential retail in the current and post-covid world include lower density, more attention to sanitation and cleaning, and a stronger online presence.