Tweet This
According to Green Street Advisors there are over 200 malls in the U.S. that are considered ‘C’ or below in quality, which are the most at risk to close over the next several years. In a research report, Green Street suggests that out of roughly 1,035 malls in the U.S., roughly 32 percent (337) of the Malls are ‘C’ rated or lower.
One metric that Green Street considers important to measuring the quality of various Malls is to identify the best and worst performers based on their sales per square foot. According to Green Street, this metric “wraps together all relevant factors and provides the most consistent indicator of mall operating performance”.
Green Street defines ‘A’-quality mall as “destination retail centers with good long-term prospects” , while ‘C’-quality malls are “typically at a competitive advantage and their long-term, viability is often in question”.
Also, the higher quality malls appear to be adapting better to the increased online shopping threats. Many Mall REITs and their tenants are responding to the threat of e-commerce by exploring new distribution systems and offering an experience that can’t be replicated online.
There is no argument that lower-end malls (rated C or lower) are becoming increasingly vulnerable to obsolescence in the retail sector. According to Green Street Advisors, around 15 percent of mall stock that hasn’t been able to react to new market trends will close or be repurposed in the next 10 years. As D.J. Busch with Green Street sums it up,
There’s no doubt that there’s risk to the lower end of the spectrum.
Green Street suggests that most of the value in the mall sector resides with top-quality centers. Many of the A and B Mall REITs are embracing retailers that are implementing an “omni-channel” method of selling their products by complimenting their brick and mortar locations with a robust online store, leveraging their physical store network.
Shopping For Bargains In The Luxury REIT Mall Sector
This week, most any senior executive who earns their living in the retail sector will be attending The International Council of Shopping Center’s ReCon conference in Las Vegas. That includes most all of the retail Real Estate Investment Trusts (or REITs).
I was planning on attending the event myself, but opted to finish up my book (I have been working on for over three years).
All of the Mall REITs will be attendance, including the dominate $60 billion (based on market cap) Simon Property Group (SPG) to the new kid on the block, Seritage Growth Properties (SRG).
Remember, Seritage is the REIT that was spawned off of Sears (SHLD) in a spin that served to create needed liquidity for the struggling department store chain. By breaking up the pieces, Sears has been busy unloading businesses such as Lands End, Sears Canada, and Sears Hometown. The Sears REIT (formed last year) hopes to unlock value by monetizing its real estate as both a landlord and tenant.
By essentially being a landlord and tenant, Sears CEO (worth $2.1 billion according to Forbes) has orchestrated a bank-like business model in which it can funnel capital to Sears in exchange for a lease commitment from Seritage. At the time of the SRG announcement Lampert said,
Today's announcement demonstrates our ability to unlock a small portion of Sears Holdings' vast and valuable real estate portfolio, and represents an important step in the continued transformation of Sears Holdings.
In December, Warren Buffett jumped on Seritage as the billionaire investor disclosed an 8.02% stake in the REIT (in a Schedule 13G filing the same day). Buffett's stake of 2.0 million shares was valued at roughly $70.6 million, based on the stock's $35.29 closing price Dec. 9. Here’s how Seritage shares have performed since Buffett disclosed his investment.
Keep in mind, Buffett is shopping for bargains, but Seritage is no high-quality Mall REIT.
Of the 266 retail properties owned by Seritage (totaling over 42 million square feet across 49 states) around 50 percent of the buildings are attached to regional malls and around 50 percent are free-standing or in shopping centers.
I’m certain that one of the main reasons that Buffett invested in Seritage is because the company has the right to recapture at least 50 percent of space at each property leased to Sears. Currently Seritage's portfolio generates around 78 percent of annual rent from Sears and 22 percent from other 3rd party tenants.
The biggest value opportunity for Seritage (and Buffett) is to recapture the Sears space and re-lease the space at significantly higher rents while also diversifying the tenant base. That’s risky!
So how then does an intelligent investor find a high-quality Mall REIT on sale?
As you can see in the chart above, the REITs with higher dividend yields are riskier because they own lower-quality Malls. Seritage is not trading at a discount (based on its price to funds from operations multiple); however, the market is not discounting the shares based upon its outsized concentration with Sears.
In terms of dividend yield, you can see that the lower-quality Mall REITs are considered risky based upon their alluring income attributes. Again, I would caution investors that CBL Properties (CBL) and W.P. Glimcher (WPG) own lower-quality Malls and are likely to experience continued market volatility.
Two of the Mall REITs that appear to be trading at a discount are Tanger Factory Outlets (SKT) and PREIT (PEI).
Tanger owns a portfolio of 42 upscale outlet shopping centers and 2 additional centers currently under construction. The company’s operating properties are located in 21 states coast to coast and in Canada, totaling approximately 14.3 million square feet leased to over 3,000 stores operated by more than 470 different brand name companies.
Tanger is currently trading at $34.71 per share with a P/FFO multiple of 15.0x. The company’s debt is rated BBB+ by S&P and the dividend is well-covered.
In Q1-16 PREIT’s same-store NOI (excluding lease terminations) increased by 4.1 percent over the prior year’s quarter. Factors contributing to the improved performance included a 2.5 percent increase in base rents, from new store openings, higher average rents and the increase in common areas revenues.
PEI owns a total of 33 properties in 11 states, including 25 operating shopping malls, four other retail properties and four development or redevelopment properties. Shares are trading at $21.39 with a P/FFO multiple of 11.6x, well below the closest peers, Simon Properties, Taubman Centers (TCO), and General Growth (GGP).
For more information, check out my newsletter HERE.
Sources: SNL Financial and Green Street Advisors.
The author owns SKT, TCO, and WPG.
Brad Thomas is editor of Forbes Real Estate Investor and writes for Forbes.com. He is the co-author of The Intelligent REIT Investor: The Definitive Roadmap For Investing In Real Estate Securities and he is writing a book on Donald Trump. Follow me on Twitter.
