Location, Location, Experience Creation: The Market Dynamics and Financial Impacts of Experiential Retail

Abstract

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. This paper studies the effects of this transformation on real estate lease contracts. In the theoretical section, I extend the Grossman and Shapiro (1984) model of informative advertising to include experience amenities and online competition. In my model, as consumers' preferences shift to e-commerce, some brick-and-mortar retailers exit the market and the remaining firms offer more experience. Additionally, landlords' increasing rent discrimination in favor of experiential tenants causes firms to enter the market and experience creation to decline. In the empirical section, using detailed data from lease contracts executed in New York City in 2019, I analyze the effects of experience – measured by Yelp and Google Places ratings, and two self-created experiential retail rubrics – on effective rent, tenant improvement allowance, free rent, and lease term. I document that, conditional on tenant industry, landlords perceive experiential retailers as a substitute to non-experiential ones, with no statistically significant difference in effective rents. However, I also document some important differences in lease contracts: experiential retailers receive greater tenant improvement allowances and sign longer leases than non-experiential retailers. Overall, my results suggest that experience creation may play an important financial role in lease negotiations.