Department stores in China's big cities likely will face increasing pressure to be profitable in 2014 due to mounting consumer preference for other retail formats, rising rents and a shifting of growth to lower-tier cities, analysts and market insiders said.
A report by Fitch Ratings put China's department store outlook in 2014 as "negative" despite an anticipated mild acceleration in sales growth, as stiff competition and customers drawn to other sales channels will continue to challenge the sector's recovery.
2013 has been a challenging year for department store operators, with weaker-than-expected revenue growth compounded by higher operating expenses, which hurt earnings of most operators and pushed back deleveraging.
But department store operators have been actively repositioning themselves, redirecting their expansion to shopping mall formats, enhancing product mixes, reviewing store networks and rolling out e-commerce platforms.
"In general, operators with less mature store networks, strong regional market positions and bigger exposure to lower-tier cities will likely fare better over the next 12 to 18 months," said Michelle Leong, an analyst with Fitch Ratings.
Department stores' credit quality will continue to diverge over the next few years as rents rise and competition from Internet retailers and shopping malls increases, said Alan Gao, vice-president and senior analyst of Corporate Finance Group, Moody's Investors Service Hong Kong Ltd.
"Retailers that own a large percentage of their stores are better positioned to maintain their profitability, market share and funding access than those that lease their space. Furthermore, companies' expansion strategies and their ability to generate profits at new stores will also affect their credit quality," Gao said in a research note.
He added that fast-growing Internet retailers and a shopping mall construction boom are drawing traffic from department stores, particularly in large cities.
The total gross merchandise volume achieved by Tmall.com and Taobao Marketplace on Nov 11, or "Double Eleven", the world's largest shopping festival, hit a daily record 35.01 billion yuan ($5.75 billion), which topped the 19.1 billion yuan record made Nov 11, 2012, and the 5.3 billion yuan made Nov 11, 2011.
To stay competitive, department stores are shifting their focus to the mid- and high-end market segments, and increasing their service offerings and store sizes, according to Gao.
Alfred Zhou, general manager of GfK China, a market research agency, said department stores can thrive by offering a better shopping experience.
With convenience stores featuring handy services, and online shops advancing lower prices, department stores must excel in "on-site" feelings and "have it right now" values, said Zhou.
"If department stores remain as they are today, they may have a very low chance of surviving the huge impact of other sales channels," he said.
"Changes must be made. Department stores need to have themes, move to become high-end and luxurious shopping spaces, and provide something that can't be found anywhere else, something people can't achieve by clicking a mouse or touching the screen of a smartphone," Zhou added.
Zhang Chunjie, a 32-year-old Shanghai resident, said department stores with prestigious locations and high service qualities are still attractive.
"Shopping online may help people save money, but some transactions can only be completed in brick-and-mortar stores, and preferably a nice department store. You can have a late lunch in a restaurant, get your hair done, buy some books and do grocery shopping within the same afternoon in the same department store, but you cannot do all these by shopping online," said Zhang.