THE GHETTO'S HIDDEN WEALTH Believe it or not, great business opportunities beckon in the inner cities, especially for retailers who have saturated the suburbs. New investments can set off a cycle of growth.
By Mark Alpert REPORTER ASSOCIATE James A. Anderson

(FORTUNE Magazine) – INSTEAD OF VIEWING America's inner cities as doomed urban wastelands, think of them as undeveloped countries, like Peru or Poland or Bangladesh. With that perspective in mind, what's the best way to revitalize their economies? The advice Peruvians, Poles, and the Bangladeshis get is, ''Free your markets from government control and encourage private enterprise.'' As more and more community leaders are beginning to realize, this is also the best strategy for America's underdeveloped neighborhoods. The inner cities have become small pockets of socialism in the American capitalist economy. Over the past three decades, private businesses have fled from places like Harlem, Watts, and Chicago's South Side. Largely as a result, the public sector -- federal, state, and city agencies -- became the dominant force in the ghetto economy. For example in East Harlem, a Hispanic and black community known as ''El Barrio,'' the city government owns 62% of the neighborhood's acreage. Almost two-thirds of the local residents live in public housing, and about 30% receive welfare or some other form of public assistance. Such social programs at best maintain the status quo. They won't solve the problems over the long run any more than socialism did in Eastern Europe. The inner cities are starved for private investment, not more government aid. Consumers need better places to shop, and would-be entrepreneurs need financial and managerial help to launch new businesses. Incredible as it may seem, there are tremendous business opportunities in the inner cities. Just look at the Concourse Plaza Shopping Center, a $150 million project that opened last May in one of the most notorious sections of the Bronx -- not far from the courthouse celebrated in The Bonfire of the Vanities. In its first day of operation, the shopping center's anchor tenant -- a 60,000-square-foot outlet of the Waldbaum's supermarket chain -- sold over $250,000 of groceries to 10,000 customers. Says shopping center developer Bernard Rosenshein: ''Until recently, most retailers have been too scared to go into inner-city areas. The developers chased easy deals in the suburbs. But now that the suburbs are saturated, the greatest opportunities are in the inner cities.'' To see such opportunities, one must set aside several myths about the inner- city economy. Not everyone belongs to the so-called urban underclass, the catch-all term used to describe the chronically unemployed and socially dysfunctional. The residents of East Harlem, for example, include middle-class families, a substantial number of working poor, and a growing stream of gung- ho immigrants from Mexico and South America. Their median household income is about $14,500, according to a 1989 study done by Urban Decision Systems, a market research firm in Los Angeles. That's half the national median, but it still adds up to an aggregate neighborhood income of $1.35 billion a year. And that doesn't include the value of in-kind forms of public assistance, such as food stamps and Medicaid. Nor does it include the income flowing from the neighborhood's thriving underground economy -- meaning not the drug trade, which leaves little real wealth behind, but everything from street peddlers to unlicensed livery services. On their infrequent visits to the ghettos, market researchers discover that inner-city consumers are gravely underserved by the local retailers. The East Harlem study concluded that the neighborhood, despite its poverty, could support a wide variety of retail stores with total revenues of $374 million. But since most national chains have shied away, East Harlem's stores are generally small, poorly stocked, and have aggregate sales of only $192 million.

THAT MEANS local residents have to make difficult treks outside the neighborhood -- sometimes as far away as New Jersey or Westchester County -- for about half their shopping needs. On Saturday evenings, the Metro-North train station at 125th Street, Harlem's Main Street, is packed with shoppers returning from malls 20 miles away in Westchester. Joe Holland, a Harlem resident who owns a travel agency and a restaurant on 125th Street, laments the lack of variety and quality in Harlem's stores. Says Holland: ''There are some clothing shops here, but they don't have the range of options you'd find in an ordinary commercial strip. So the middle-class people tend to shop elsewhere.'' One company taking advantage of this retailing vacuum is Woolworth, which operates 450 of its 1,000 variety stores in predominantly minority areas. In the past year the company has opened two new Woolworth Express outlets in Harlem. ''If we see a need in the community, we're willing to take a risk and go in there,'' says Robert Lynn, head of Woolworth's variety store division. ''And we don't run away from a neighborhood when bad things start happening.''

It takes extra work to succeed. Says Lynn: ''Inner-city merchandising is very different from merchandising in the suburbs. The size assortments for shoes are different, the popular colors are different. We've had focus groups tell us what they want. But it's worth doing all these things.'' The operating profit margins of Woolworth's inner-city stores are a percentage point higher, on average, than the margins of its suburban stores. Security costs more, but rent is generally lower, so the overhead works out to be the same. One reason Woolworth does so well is that the competition is so weak. Woolworth can offer lower prices and provide better customer service than most mom and pop stores. The opportunity for supermarket chains is even greater. The large New York City chains -- Sloan's and D'Agostino, to name a couple -- have tended to shun low-income neighborhoods. Like other outside businesses, they underestimate the market potential and overestimate the difficulties and dangers. Many inner-city shoppers must rely instead on the bodegas, or local convenience stores, which offer less variety than the supermarkets and are more expensive. As a result, according to a recent report by New York City's Department of Consumer Affairs, grocery prices in the poor neighborhoods are 8.8% higher than in middle-class areas. Given the lack of competition, a well-run supermarket can make a mint in such neighborhoods. Example: the Tops market that opened in April in East Harlem. A Bronx-based chain that specializes in meat and poultry, Tops is an anchor tenant of La Marqueta, a decrepit mall specializing in Latino foods that is being redeveloped under the elevated Metro-North tracks. The clean, well-stocked store has been packed with customers since the day it opened. Says Philip Aarons, who is rebuilding La Marqueta with a Hispanic advocacy group: ''Quality retailers will always do well here, because their competition is shoddy, overpriced merchandisers.'' With greater opportunities, however, come greater risks, and merchandisers must face them squarely. One is security -- protecting the store from robberies, shoplifting, and pilferage by employees. Inner-city businessmen have come up with ways to cut these losses. Consider Smart & Final, a West Coast food wholesaler with outlets in poor Los Angeles neighborhoods. Chairman Robert Emmons says his store managers go out of their way to protect customers and employees: ''We don't want to open ourselves up to robberies, so we're very careful about receiving shipments late at night. We won't do it if there's just one or two people in the store.'' Managers deposit receipts several times a day instead of just once, to minimize the amount of cash that could be stolen. Another challenge is finding skilled labor to man the cash registers and answer the phones. Woolworth's Lynn says it isn't hard to get people to work on the sales floor, but locating managers is a problem. Lee Dunham, who opened the first McDonald's franchise in Harlem and now owns three in the area, says half his employees are recent immigrants from Africa and the Caribbean. Says Dunham: ''The immigrants will do anything to pay the rent. Because where they come from, it's either work or starve.'' STORES ALONE can't provide all the jobs inner-city neighborhoods need. The largest private employer in Harlem is Alexander Doll Co., a 68-year-old manufacturer of collector dolls that sell for up to $500 in such stores as F.A.O. Schwarz and Neiman-Marcus. The privately held firm employs more than 600 people, most of whom live within walking distance of the company's three- story plant in West Harlem. Two years ago, Alexander considered moving to a larger plant outside New York City, but it is now planning to relocate to another site in Harlem. According to CEO Ira Smith, one of the attractions of the area is its labor force. ''We're the No. 1 premium doll manufacturer in America,'' he says, ''and our work force is the reason.'' Many workers come from the Dominican Republic and learned their sewing skills in Caribbean factories. But a great many inner-city people are employed in the underground economy, by businesses that can only make a profit because they pay low wages and avoid burdensome city regulations and codes -- not to mention taxes. During the Seventies and Eighties, while the legitimate private sector was withering in the ghetto, the underground economies were booming. The International Ladies' Garment Workers' Union estimates that the number of illegal sweatshops in New York City, for example, has jumped from 200 to 3,000 over the past 20 years. Most of the workers in these sweatshops are immigrants from Latin America, and their pay ranges from $20 to $100 per day. Urban planners have mixed feelings about the underground economy. While they despise the deplorable conditions in sweatshops, they wouldn't want to see them eliminated since that would take away one of the few sources of economic vitality in these neighborhoods. Saskia Sassen, a Columbia University professor who has studied New York City's underground economy, believes that selective regulation could curb the worst abuses -- such as workplaces with no fire escapes -- without forcing the underground entrepreneurs out of business. ''The underground economy shouldn't be criminalized,'' says Sassen. ''But it should be regulated enough to avoid the worst forms of exploitation.'' EASIER ACCESS to capital could help channel some of the inner city's latent entrepreneurial energy into legitimate enterprises. Some community groups are pushing local banks to make more loans to inner-city residents and businesses. Their main weapon is the Community Reinvestment Act of 1977, which obliges banks to meet the credit needs of the neighborhoods where they operate. In a typical CRA proceeding, the community group will accuse a bank of ''redlining'' their district -- that is, surreptitiously making the area | ineligible for loans. (To gain leverage, the group will try to lodge its complaint as the bank is applying to the Federal Reserve Board for approval of an expansion or merger.) Typically the bank will agree to earmark a certain amount of mortgage loans to the community to settle the complaint. The CRA process amounts to government-sponsored coercion, but it does force bankers to find profitable ways to invest in the inner cities. As a result of CRA proceedings, dozens of banks across the U.S. have agreed to provide $7.5 billion of new credit for low- and moderate-income areas, and most money- center banks have established community development divisions. Chase Manhattan's community development corporation, established to meet the bank's CRA requirements, has committed over $100 million of loans in low-income areas of New York over the past two years. President Mark Willis vows that Chase will profit from these loans. Says Willis: ''Our portfolio looks better than the traditional real estate portfolio. You can do this kind of thing prudently.'' But the right kind of banker, like the right kind of retailer, needs no coercion to inject capital into the inner cities. In 1973 three Chicago idealists -- two white, one black -- bought an ailing bank in the city's South Shore neighborhood, which at the time was rapidly deteriorating into an inner- city slum. They turned South Shore Bank into the nation's first for-profit community development bank and started making single-family mortgages and small-business loans in the immediate area. By the mid-1980s, the decline of the South Shore neighborhood was reversed and other Chicago banks began to make loans. ''The presence of South Shore Bank made the area more attractive to investors who otherwise wouldn't have gone in there,'' says Richard Taub, a University of Chicago professor who has written a book on the South Shore phenomenon. South Shore Bank has done well by doing good; it has an above-average 98.5% repayment rate on the $173 million of loans made since 1974, and it posted a $1.5 million profit last year. Says bank senior vice president Joan Shapiro: ''We've nurtured an extraordinary group of borrowers, a bunch of true entrepreneurs.'' Encouraged by its success, South Shore has now set its sights on revitalizing the neighborhood of Austin, a low-income area on Chicago's West Side. Many inner-city businesses, too small and too risky to attract interest from bank lenders, need an alternative form of capitalization. Immigrants often make use of informal sources of credit. Korean grocers get much of their startup capital from revolving credit associations, while West Indians have a traditional group savings plan called a ''sou sou'' -- members make periodic donations, and each gets a turn at receiving the whole pot. This access to capital gives immigrants the edge over people who have lived their whole lives in the inner cities. In East Harlem, for example, about half the store owners are Asian. To bring long-term inner-city residents into the marketplace, a growing number of community groups are borrowing an idea that was first applied by development agencies in the Third World -- the micro-enterprise loan. In Chicago, a group called the Women's Self-Employment Project has been making loans that range from $100 to $5,000 and are designed to help low-income women set up small businesses with minimal capital requirements, such as day care or catering. The Chicago group's program employs an ingenious payback scheme that was first used in Bangladesh in the late Seventies. The borrowers must form peer groups of five. If any of the five defaults on her loan, then the line of credit is revoked for the whole group. Due to the built-in peer pressure of this system, there have been no defaults so far on the $175,000 in loans made. Financial assistance alone is not enough. Inner-city entrepreneurs also need training in basics such as balancing the books and writing a business plan. Harlem restaurateur Joe Holland graduated from Harvard law school, but most small business owners in poor areas don't even have a high school diploma. The Women's Self-Employment Project puts its borrowers through 12 weeks of workshops before lending them any money. In Harlem, the Uptown Chamber of Commerce co-sponsors a consulting service that has helped several dozen local startups, including a leather goods importer and a greeting-card maker. WHAT CLEARLY does not work are grandiose, politically inspired development schemes charted without regard to marketplace realities. Recalling Harlem's glory days as a center for black culture, local politicians have leaned toward projects intended to spur tourism, such as the restoration of the famous Apollo Theater on 125th Street. But that proved too ambitious -- the restoration went way over budget, and the theater's broadcasting studios attracted less business than expected. Facing huge losses, the Apollo's owners recently had to renegotiate loans owed to Manufacturers Hanover and the New % York State Urban Development Corp. The proposed Harlem International Trade Center -- a $135 million, 30-story office tower to be built on 125th Street and Lenox Avenue -- is another questionable project. Public agencies have kicked in $50 million, and officials plan to rent the office space to a collection of federal agencies, city agencies, and trade representatives from Third World countries. So far they've received lease commitments for only half the 400,000 square feet available. Bill Stern, a former chairman of the Urban Development Corp. and vocal critic of big government projects, predicts that this one will never get off the ground. Says Stern: ''It's a complete boondoggle. There's no demand for office space in Harlem. The government can't create a viable business when the market won't support it.'' Peruvian economist Hernando de Soto argues that the way to reinvigorate Third World countries is to unleash the innate entrepreneurial energies of their people. And so it is with America's inner-city neighborhoods. They won't revive until they rejoin the national economy. That means empowerment of the residents as consumers, workers, and entrepreneurs -- with help from businesses that can make money as they create wealth. Look at these places not as pits of despair but as regions of opportunity.