Did Nordstrom Just Show Us the Future of the Department Store?

Adam Levine-Weinberg, The Motley Fool

Updated Sun, Dec 3, 2017, 9:40 AM

Two months ago, fashion retail giant Nordstrom (NYSE: JWN) opened a new state-of-the-art store at Los Angeles' Westfield Century City mall, relocating from an older store at the nearby Westside Pavilion. The store features a full-service bar and restaurant, a boutique area featuring a rotating selection of stylish new brands, and complimentary consultations with personal stylists.

On the very same day, a little more than three miles away, Nordstrom opened a second store. This one was just 3,000 square feet -- 2% of the size of the new Century City store -- and doesn't have any dedicated inventory, focusing on services instead.

The interior of the Nordstrom Local concept store, with a seating area on the left and fitting rooms on the right

Nordstrom opened a small-format concept store in early October. Image source: Nordstrom.

This new small-format Nordstrom Local store -- or perhaps "showroom" would be a more accurate term -- could become a game-changer for department stores if it succeeds. It could provide a way for companies such as Nordstrom and Macy's (NYSE: M) to radically reduce their square footage without sacrificing customer engagement.

What is Nordstrom Local?

Nordstrom Local represents the company's latest attempt to adapt to changing consumer habits. At a high level, the goal is to create a more inviting experience than a full-size department store, which can sometimes be daunting to navigate.

The Nordstrom Local store's main attraction is that it offers a variety of services, ranging from alterations to manicures to free consultations with personal stylists. It also features a bar serving beer, wine, and pressed juice. The store doesn't carry its own inventory, but it can get items from nearby full-line stores within hours, and it has eight changing rooms in addition to a "styling suite."

Lastly, Nordstrom Local is designed to serve as a convenient hub for returns and online order pickup. Employees will even bring items ordered online to customers' cars.

The paradox of downsizing

Taking a step back for a moment, department stores have faced a seemingly intractable paradox as sales move online. Companies such as Nordstrom and Macy's own (and lease) vast amounts of valuable real estate in malls and downtown shopping areas. However, they are getting less and less out of these real estate assets over time.

Retailers like Nordstrom are doing less business in their physical stores. Image source: Nordstrom.

For example, over the past 12 months, 71.6% of sales from Nordstrom's full-price segment came in stores, with the rest coming from its e-commerce operations. For comparison, as recently as 2013, 82.6% of full-price sales came in Nordstrom stores.

If anything, this shift is gaining steam. Nordstrom executive Peter Nordstrom recently opined that the company could be getting half of its sales online within about five years.

Closing stores would seem like the natural response to this shift in buying patterns. However, Macy's has found that it retains an average of just 12% of the sales from closed stores in nearby locations and online. In fact, closing the only store in a particular market can lead to a decrease in online sales there, as the brand loses consumer relevance and in-store pickups and returns are no longer possible. Nordstrom has seen a similar linkage between its physical store footprint and its e-commerce sales.

Does Nordstrom Local point the way to a solution?

The new Nordstrom Local concept store suggests that there may be a solution to this paradox of needing to keep physical stores open despite permanently declining in-store sales. Opening lots of smaller service-focused locations while closing some full-line stores would allow department stores to cash in on some of their valuable real estate, reduce their costs, and get closer than ever to their customers.

For example, it's about 50 miles from Nordstrom's downtown San Francisco store to the Nordstrom store at Westfield Valley Fair. There are three other Nordstrom stores along the way, sitting on valuable real estate. Nordstrom could potentially close two of those locations, replacing them with several Nordstrom Local stores. This would free up cash and give customers more convenient access to Nordstrom services, while ensuring there were still full-line stores within a reasonable driving distance.

The opportunity could be significant in southern California as well. Nordstrom currently operates 16 stores within roughly 50 miles of downtown Los Angeles.

For Macy's, creating a small-format store could be even more valuable. Macy's has more than five times as many full-line stores as Nordstrom today, and these stores are significantly less productive, as measured by sales per square foot.

The first Nordstrom Local store probably won't turn out to be the perfect version of a small-format department store showroom. But it represents a great step toward solving one of the thorniest problems facing department stores today.

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