Macy's CEO Terry Lundgren
Courtesy of Macy's
By Phil Wahba
June 29, 2015

When Macy’s (M) announced in January that it would launch a chain of outlet stores, many retail industry observers scratched their heads and said the department store already discounts plenty. After all, outlet stores were long the province of luxury retailers, not middle of the road stores like Macy’s.

And for a long time, Macy’s CEO Terry Lundgren himself felt the same way.

But the aggressive expansion of stores like TJX Cos’ (TJX) T.J. Maxx and Marshalls, and fellow department store operator Nordstrom’s (JWN) Rack chain, ultimately convinced the CEO of the largest U.S. department store company to join the “off-price” rush. Macy’s will open six small-format discount fashion stores called “Backstage” beginning this fall, and will likely quickly expand the chain if the pilot works.

“I think, frankly, I was the obstacle in the way here because I didn’t really want this business. I thought we could do enough of this ourselves,” Lundgren admitted last week at the Consumer Goods Forum global summit in New York. He continued: “But the research doesn’t lie: the data said there is a customer who is going in this direction and not coming to our stores.”

At a time when Macy’s main department store business is sluggish—comparable sales edged down slightly last quarter—the retailer could use a new source of growth.

Macy’s Backstage will need to compete with T.J. Maxx, Rack, and Saks Off Fifth, well-established chains that have refined their business model and merchandise assortment and have a huge head start, thanks to their hundreds of stores in the United States.

Since the recession, off-price chains have been one of retail’s fastest growing segments, as shoppers gravitate toward designer brands at big discounts to department store prices. Outlets and off-price chains first emerged years ago. They helped clear out unsold merchandise from earlier in the season or products with defects. But now, much of what is sold is no longer close-outs and, instead, made to order for off-price and outlet stores. TJX has expanded to some 2,000 U.S. stores from 1,600 five years ago, while Nordstrom Rack, now a 178-store chain, aims to hit 300 locations by 2020. Saks Fifth Avenue operates 81 stores in the U.S. and has plans to open many more in the United States and, soon, Canada.

All six Backstage stores will open in the metro New York area this fall and be about 30,000 square feet, roughly one-quarter the size of a regular department store. They will sell clearance goods from Macy’s nearly 800 department stores, along with deeply discounted merchandise from top brands made specifically for the Backstage stores.

Macy’s will need to figure out how much of the merchandise will be clearance from its department stores and, within that, how late in the markdown cycle will such merchandise be sold through Backstage. Macy’s has not yet said how many Backstage stores it will open in the long run, but CFO Karen Hoguet has told investors the retailer will proceed quickly if the pilot stores are a success.

At the same time, Macy’s is hoping to enjoy similar success to that of its sister chain, Bloomingdale’s, a luxury department store chain that was late to the outlet store game compared to its rivals Nordstrom, Neiman Marcus, and Saks. Hoguet said earlier this month that the outlets have not “cannibalize[d] Bloomingdale’s success; it actually has helped the Bloomingdale’s business where there is a Bloomingdale’s store near an outlet.” Still, she admitted there is more “space” between what Bloomingdale’s outlets sell and what the full service department stores do, lowering the risk of outlets eating into Bloomingdale’s sales.

“Some of our competitors have hundreds of these off price businesses in the market,” said Lundgren. “Clearly, they’re surrounding my own department stores,” he noted.

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