End of the Big Box? Why Home Depot Needs the Internet

The big box store concept was rooted in some basic economic principles based on scale, mass and prospects for net future cash flows. But the reality is that the developed world is getting overstored. The number of households from which a store can be expected to pull business has been cut in half.

This means that the big box model is becoming inefficient and potentially less profitable. Customers, especially professionals may increasingly find it more effective to order in bulk via the internet and then pick up at their nearest Home Depot location rather than wandering in and hoping its all there. Home Depot itself sees this future clearly and is investing in making that alternative more attractive.

Whether customers will respond is an open question. But what is not is that the model that worked so well for most of the company's history no longer does. JL

Shelly Banjo reports in the Wall Street Journal:

The seller of tools, saws, particle board, and washing machines is making a hard turn toward the Internet in the face of changing shopper habits and fast diminishing returns from new store openings.

Home Depot Inc. HD in Your Value Your Change Short position 's newest location is 10 times bigger than its average store, stocks three times more items and has no customers.

It's an online distribution center, for a company that seems the unlikeliest of Internet retailers.

For decades, Home Depot excelled at the traditional retail model of growing by adding new locations. But the seller of tools, saws, particle board, and washing machines is making a hard turn toward the Internet in the face of changing shopper habits and fast diminishing returns from new store openings.

This year, the home-improvement chain will open two distribution centers and just one U.S. store. The move is a stark signal for an overbuilt industry that may be witnessing a permanent drop in shopper traffic, even in the middle of a housing recovery that is boosting sales.

"The retail model forever was to increase sales through opening additional units, but as you added stores to a finite group of households, each store becomes less profitable," Home Depot Chief Executive Frank Blake said in an interview. "So the decision was made to stop opening additional boxes."

Like many big-box retailers, Home Depot spent the last three decades blanketing the U.S. with giant stores, ample parking and shelves 12-feet high of plumbing supplies, paint and lumber. The chain put up as many as 200 stores a year until the housing market collapsed in 2008, when it had 2,233 stores.

The proliferation of do-it-yourself stores meant that home-improvement retailers were duking it out, on average, for just 30,000 households per store by the time the financial crisis wrapped up, down from 77,000 a decade before.

Home Depot decided in 2008 to close 15 stores and pull the plug on 50 new openings it planned for the next four years.

The transition online is no small feat for Home Depot. In addition to selling vanities, humidifiers and garden hoses, it has to figure out how to get 130-pound Jacuzzi tubs and iron patio sets from warehouses to customers' doors within days. That presents unique logistical challenges.

E-commerce rival Amazon.com Inc. AMZN in Your Value Your Change Short position has floated the idea of using small, pilotless helicopters to deliver its goods. "We don't just ship little books," Mr. Blake said in his 22nd-floor office in Atlanta. "You'd have to have some big goddamn drones to carry our stuff."

Online sales accounted for only 3.5% of the company's $78.8 billion of sales last year. But they are growing faster than the rest, so the fix-it chain is investing $1.5 billion this year for supply chain and technology improvements to link its stores and Internet business, including the new online fulfillment centers. Earlier this year, it bought Blinds.com, adding to several acquisitions of websites.

At a warehouse the size of 20 football fields 35 miles south of Atlanta, workers grab ceiling fans, faucets and light bulbs off of rows of giant shelves and load them onto winding conveyor belts to be packed into boxes that will be shipped to customer's homes, to job sites and to stores for pickup. Forklifts shuttle heavy, bulky items on wooden pallets to loading docks.

Home Depot hopes its online operation will broaden its appeal. It offers more than 600,000 items on its website, compared with 35,000 in a typical store. So far the retailer expects volume to be most concentrated in fast-moving smaller products like light fixtures and extension cords, as well as big and bulky items like vanities and appliances that people don't want to maneuver out of the store.

The company, which relies on contractors and builders for 35% of its sales, also is hoping professionals will get in the habit of ordering online and picking up the goods in stores.

Gearing up for that means reallocating space at existing stores. When Home Depot started letting customers pick up orders bought online in its stores, the retailer often didn't have enough shelf space.

"We had air conditioners stacking up and no place to put them," said Gerald Thomas, 49 years old, a manager at a store in Manhattan.

While changes in American shopping patterns have retailers regrouping, not all are abandoning store growth. Dollar General Corp. DG in Your Value Your Change Short position and Wal-Mart Stores Inc.  LL in Your Value Your Change Short position paint company Sherwin-Williams Co.  TTS in Your Value Your Change Short position collectively opened more than 130 stores last year.

Still, Mr. Blake is firm that adding new stores isn't the answer. "When we get to the point where we're all in a room and we can't think of anything to invest in the business to make it better, then you would say, let's build some more stores," he said.