I shorted a stock once. As a Kmart landlord 20 years ago, I saw firsthand how badly that discounter was run. Its stores were filthy, its cheap inventory spotty and its employees disheartened. Had it been a race horse, the vets would have put it down. But Kmart’s stock soared as soon as I bet against it. After I’d lost $25,000, I swore I’d never do that again.
If I were to break that vow today, Restoration Hardware would be tempting. Even though I admire its showrooms and love its furniture—half my office is RH—I think the company may be in trouble.
A quick bit of background on furniture. According to The Retail Owners Institute, the furniture industry’s profit margins vary from three to six percent. And, on average, furniture stores turn over their inventory about 1.2 times a year. This means few consider it a glamor industry. Rather, it’s one where the pennies are watched, profits hard-won.
We’ve been in the retail business for over 40 years and have always leased to furniture stores. If these retailers have had one consistent theme, it’s been to drive down their occupancy costs. The budget furniture rental stores do so by renting the worst spaces in shopping centers and then jamming them with furniture. On the high end, the top furniture companies are dramatically reducing their store sizes. Ethan Allen’s older showrooms run about 16,000 square feet; today, EA is looking for 8,000 feet in new stores. This store shrinkage isn’t confined to just furniture. Practically all merchants selling hard and soft goods (e.g., televisions and men’s suits) are paring down their stores in response to Ecommerce’s challenges and opportunities. Retailers have evolved; they’ve learned they can get away with far less floor merchandise because of Ecommerce and its overnight deliveries. They sell you the one shirt your size they have in the store and ship you the other three you need a day later from their warehouses.
RH is decidedly not embracing this strategy in Palo Alto. As it happens, it had a showroom a couple blocks from our office—a handsome store of about 7,500 square feet. It shuttered this serviceable outlet a couple weeks ago in favor of a new architectural jewel of nearly 42,000 feet in the Stanford Shopping Center. This stunning three-story facility gives one the feeling, not so much of furniture shopping, but of touring some hip California grandee’s mansion. Ignoring the industry’s apparent obsession with maximizing furniture on display, the RH showroom is redolent of luxury, with seemingly miles of space between each bedroom setup. And, as with RH’s other new stores, Stanford’s has a gorgeous rooftop restaurant on the third floor. The food is excellent and reasonably priced, the views charming and the staff professional. The problem with this show-stopping store and its enviable restaurant will likely be its cost. Having increased its store size and—presumably, its rent—by nearly six times, simple arithmetic suggests RH’s volume will have to skyrocket to simply match the old store’s profitability.
In short, at a time when its competitors are contracting their stores, RH is going big, if not to say all-in, across the country and now even in Europe. It opened one store on the outskirts of London in a lavishly renovated 400-year-old country estate. RH England at Anyo Park is a 55,000-foot mansion that sits on 73 acres and now boasts five restaurants. If you’re interested in the why of RH’s counter-intuitive extravagance, the June 9th New York Times’ profile of its CEO Gary Friedman and his unique corporate culture may prove somewhat enlightening, if not entertaining.
Wall Street, however, is not entertained. RH’s stock has underperformed since the outbreak of the pandemic. It is selling today for what it sold for in June of 2020 and is off 68 percent from its August 2021 peak. By comparison, two of RH’s closest competitors—Williams Sonoma (West Elm) and EA— are up 262 percent and 151 percent respectively in that same four-year period.
Readers of a certain age may remember Jack Lalanne, the original fitness guru. On his 70th birthday, Jack famously swam a mile in the Long Beach Harbor, dragging 70 people sitting in 70 rowboats behind him. With RH’s $3.7 billion in debt and palatial overhead, Gary Friedman may be dragging even more boats, but this time against a riptide. I wish him well.
