The mantra "bigger is better" isn't always right. Smaller players have managed to hold their ground against larger, national competitors despite the lack of scale. One example is Stage Stores (NYSE:SSI), a leading small town retailer. In fact, there are striking similarities between Stage Stores' business model and that of other successful niche consumer companies such as Hibbett Sports (NASDAQ:HIBB), The Fresh Market (NASDAQ:TFM), and Carmike Cinemas (NASDAQ:CKEC).

Small town monopolist with limited competition
Stage Stores calls itself "America's leading small town retailer," and it is truly deserving of this title. Two-thirds of its stores are located in towns with a population under 50,000; the same towns contribute about 60% of Stage Stores' revenue. Within the vicinity, Stage Stores is typically the only one offering brand name merchandise targeted at the entire family from parents to kids. The alternative for Stage Stores' customers is for them to drive out to regional malls that are typically more than 30 miles out, which is very inconvenient.

It is possible to draw parallels with Carmike Cinemas here, which touts itself as "America's Hometown Theatre." Carmike Cinemas operates in small- to mid-size non-urban markets where there are usually less than 10 theaters in each state. Furthermore, it has a better chance of obtaining blockbuster films because any movie is generally allocated to only one theater within a three to five mile film-licensing zone. Also, there are fewer competing forms of entertainment such as restaurants and major sporting events in these markets.

Both Stage Stores and Carmike Cinemas have thrived by avoiding crowded markets, where competition is far more intense than their current niche markets.

Feeding off big brother
In shopping malls, anchor tenants such as supermarkets are usually given preferential rental rates, as they help to draw in significant foot traffic. Similarly, Stage Stores enjoys a synergistic relationship with the big brother of retail, Wal-Mart. About 87% of its stores are located in strip shopping centers where Wal-Mart stores dominate. Interestingly, Hibbett Sports also has a high proportion of its store base (79%) in strip shopping centers. In fact, there is an average ratio of one Hibbett Sports store for every three Wal-Mart stores in the states that Hibbett Sports operates.  

More importantly, Stage Stores intentionally stocks up on branded merchandise that isn't found at either Wal-Mart or any of its competitors in the vicinity. As a result, Stage Stores feeds off Wal-Mart's foot traffic, with no worries of cannibalization. Along the same line, Hibbett Sports focuses on the localization of its apparel and footwear associated with the local community and sports events.

Small-store format
Stage Stores works with an average store format size of approximately 18,000 square feet, which is smaller than its department store peers. Interestingly, organic-food retailer The Fresh Market also prefers a small-box format, with an average store size of 21,000 square feet that makes its stores the smallest among peers such as Whole Foods Market and Sprouts Farmers Market.

A smaller store format means that it is easier to find suitable retail space, as more potential locations will meet the space requirements. Stage Stores opened 29 new stores in 2013, growing its net selling square footage by 3.8%. In 2014, it has set an ambitious target of 35 new stores and a 4% increase in net selling square footage. If achieved, this will mark the most significant square footage growth for Stage Stores since 2008. Similarly, The Fresh Market sees itself eventually expanding to more than 500 stores from its current 150-plus store footprint.

Foolish final thoughts
Stage Stores, like its fellow consumer peers, has achieved success by avoiding competitive markets, leveraging on traffic from anchor tenants, and expanding with smaller store formats. However, at January's Annual ICR XChange Conference, Stage Stores indicated that while it will continue its small town expansion strategy, it is also exploring the possibility of a larger store format in bigger cities. This is something that investors should monitor closely, as this may change the dynamics of its favorable small town retailer advantage.

Do any of these tiny retailers have what it takes to be the king of retail?
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Mark Lin has no position in any stocks mentioned. The Motley Fool recommends The Fresh Market. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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