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GOOD MATCH? Investors Think Inland-Cedar Merger is Intriguing

Cedar Shopping Centers Encouraged to Consider Inland American as New Owner
January 30, 2008
(From L to R) Ray Wirta and Harold Hofer, Principals of ROCA Real Estate
(From L to R) Ray Wirta and Harold Hofer, Principals of ROCA Real Estate
On Jan. 24, ROCA Real Estate Securities Fund L.P. publicly released a letter it sent to Cedar Shopping Centers (NYSE: CDR) urging management to "seek strategic alternatives." The letter also offered ROCA's opinion on how the REIT could be better managed to maximize stockholder value. ROCA is the private investment vehicle of Ray Wirta, former CEO and a current vice chairman at CB Richard Ellis, and Harold Hofer, a 25-year industry veteran and non-practicing lawyer.

ROCA's letter to Cedar followed two days after diversified private REIT, Inland American Real Estate Trust, made a 13D SEC filing revealing it has accumulated a 9.8% stake in Cedar. Further, Inland disclosed it intends to ask Cedar to waive its charter prohibiting any entity from owning more than 9.8% of Cedar's outstanding shares and stated, "Inland American is also presently considering seeking control of the Company through various courses of action," including an acquisition, merger or seeking representation on Cedar's board of directors.

ROCA's Letter to Cedar

As of Nov. 2, ROCA owned 1.1 million shares, or 2.5% of Cedar's shares outstanding. ROCA stated that analysts recently calculated Cedar's Net Asset Value "over $14.50 per share, almost 50% higher than recent share prices." The Friday before Inland's SEC filing, Cedar had closed at $9.81-per-share; the company's stock price has been on the decline since hitting a high of $16.03-per-share in early February 2007.

"The Company's FFO multiple is among the lowest of all equity REITs. The Company's recently disclosed FFO guidance was greeted with another 5% drop in share price," read ROCA's letter.

In its November 2007 third quarter report, Cedar reported Funds From Operations ("FFO") of $14.2 million, or $0.31-per-share, compared to $.30-per-share in third quarter 2006. At that time, the REIT's FFO guidance for full year 2007 was "on the lower end of the range of $1.22 to $1.27 per share." On Jan. 3rd, Cedar released its guidance for 2008 with FFO in the range of $1.22 to $1.26-per-share, showing the company expects no improvement over 2007.

ROCA's Hofer explained to CoStar that most REITs trade based on a multiple of their FFO. With Cedar's recent share price around $10, that puts the FFO multiple at about 8. "Cedar has historically been one of the lowest FFO multiple shopping center REITs. The market isn't valuing them very aggressively compared to other shopping center REITs. So we think their share price is undervalued," said Hofer.

Cedar explained the FFO guidance, which in light of current market expectations for retail property and retailer sales performance, seems logical, "The Company anticipates continuing stability in its tenant base in 2008 and continue at 96%. Less than 7% of the Company’s leases expire in 2008...the Company has projected no increase in rents… same store revenue growth is projected at 1.4%."

Hofer commented on Cedar's FFO guidance explanation, "I thought it was unduly conservative, but perhaps realistic."

ROCA says Cedar's dual operational platform consists of two businesses, the ownership and management of a portfolio of Class B neighborhood and community shopping centers located in non-growth markets, and an "impressive pipeline of development and redevelopment opportunities."

Cedar's Portfolio -- Taking a look at the "Dual Operational Platform"

Cedar's portfolio consists of 118 properties totaling more than 12 million square feet. Approximately 9.6 million square feet is wholly owned by Cedar, while half a million square feet is part of joint venture agreements.

While the company's stabilized portfolio is 96% occupied; its portfolio of development / redevelopment projects (which includes centers with significant vacancy) and un-stabilized assets is 68% occupied; effecting a total portfolio occupancy of 93%.

Looking solely at age, at least 15% of Cedar's assets were built in this decade, at least 16% were built in the '90s and at least 61% were built in the '80s or earlier; however, of the 7.3 million square feet of assets built in the 80s or earlier, 61% have undergone renovation during the last two decades.

Indeed, most of Cedar's properties are generally considered Class B assets with rental rates in the middle of the range. However, they are also nearly all supermarket or drugstore-anchored. Cedar defended its tenant mix, "more than 40% of (our) revenues are from supermarkets (with remaining average lease terms of more than 12 years) and drug stores, less than 4% of revenues are generated by fashion-oriented tenants, and less than 2% from tenants involved in furniture, home furnishings and real estate-related activities." In a separate report Cedar explained, "The Company believes, because of the need of consumers to purchase food and other staple goods and services generally available at such centers, that the nature of its investments provide relatively stable revenue flows even during difficult economic times."

ROCA says the grocery-anchored concentration doesn't make up for the Class B status. "I think that even within the grocery-anchored product type, they are Class B assets; mainly because many of them are in small markets," Hofer explained.

The most significant assets in Cedar's portfolio include the Shore Mall in NJ which is slated for de-malling; the 523,000-square-foot Camp Hill Shopping Center in Camp Hill, PA, anchored by Boscov's, Giant and Barnes & Noble; the 355,000-square-foot Columbia Mall in PA which is slated for de-malling; the 338,692-square-foot Trexler Mall in Trexlertown, PA, anchored by Giant, Bon-Ton and Kohl's; the 293,270-square-foot Loyal Plaza in Williamsport, PA anchored by Kmart and Giant; the 292,874-square-foot Commons at DuBois in DuBois, PA, anchored by Lowes, Shop N Save and Elder Beerman; and the Franklin Village Plaza in Franklin, MA anchored by Stop & Shop, Marshall and Dress Barn.

Cedar has certainly made an effort to spread out its ownership into different states. In 2004, 86% of its portfolio was comprised of Pennsylvania assets, followed by NJ, MD, CT and MA. As of third quarter 2007, 55% of its portfolio resided in Pennsylvania, followed by MA (9.9%), CT (8.1%), NJ (7.4%), VA (7.0%), OH (7.0%), MD (3.9%), NY (1.3%) and MI (0.4%).

Despite this, ROCA makes the argument that Cedar's portfolio primarily resides in "non-growth markets", while Cedar says it has increased its presence in higher growth markets. According to our analysis, 41% of Cedar's portfolio resides in the CoStar market of Metro Philadelphia, 16% in Boston, 10% in Hartford, 5.6% in Hampton Roads, 5.2% in Cleveland, 4.6% in Baltimore, 3.2% in Washington DC, 2.7% in Columbus, and the remainder is located in outlying areas of PA, OH, MA and VA; as well as West Michigan, Dayton, Upstate and Long Island, NY and Richmond.

According to CoStar's Year End National Retail Report, Philadelphia's retail vacancy rate (8.9%) is among the highest in the country and its average rental rate is among the lowest. Retail vacancy rates in Boston, Hartford, and Hampton Roads are somewhat better than the national average, while their rental rates are below average. Cleveland and Columbus both have vacancy rates on the higher end of the national range, while rental rates are on the low end. Washington DC and Baltimore are among the healthiest retail markets in the nation.

Merrill Lynch analyst Craig Schmidt recently commented on Cedar's pipeline in its review of the REIT's third quarter earnings, maintaining its "Sell" recommendation for the REIT. "Cedar has a development portfolio of between $300 and $400 million that is expected to impact the company’s operating results over the next 1 ½ to 2 years...yields were originally expected to be around 10%, but given the more challenging environment there may be yield compression," read the Merrill Lynch report.

Hofer defended ROCA's position on Cedar's pipeline to CoStar, "We think it has a lot of potential. And I think they can deliver on their pipeline plans. There is a concern about the availability of financing; which is legitimate because it’s a concern for everybody right now. But I think they'll be able to get the financing they need to complete their redevelopment and development projects."

"We have high regard for CEO Leo Ullman. He is a very competent developer and shopping center owner; which is one of the reasons we invested in his company," continued Hofer. He went on to say that some of Cedar's development / redevelopment pipeline is hampered by location; which means when delivered, many of the projects won't be considered Class A assets.

Cedar's third quarter presentation showed total project cost of its redevelopment pipeline at $369 million. The pipeline consists of 220 undeveloped acres at 23 sites, 17 of which are located in Pennsylvania while the remainder are in MI, NJ, MA, CT, VA and DE. 12 projects are ground-up new developments (nine were under contract as of October), four are ground-up expansions of existing centers, three are additions to existing centers, three are de-malling projects, and one is a redevelopment project. The most significant projects on this list are as follows:

  • The de-malling of the 620,000-square-foot Shore Mall in Egg Harbor Township, NJ, which is anchored by Boscov's, Value City and Burlington Coat Factory. Cedar bought the mall in early 2006 for $33.65 million. Built in 1960 and renovated in 1980, according to CoStar the mall is 96% leased.

  • The de-malling of the 355,000-square-foot Columbia Mall in Blooomsburg, PA, which is anchored by Sears, BonTon and JC Penney. According to CoStar, the mall was built in 1988 and is 30% vacant, which includes an 80,000-square-foot vacant box.

  • The de-malling of the 182,719-square-foot Point at Carlisle Plaza in Carlisle, PA, which is shadow anchored by Lowes and anchored by BonTon, Office Max and Dunham Sports. Built in 1964 and renovated in '79, the property is 94% leased. Cedar bought the tiny mall in 2005 for $11 million.

  • The ground-up development of Blue Mountain Commons, an 116,000-square-foot neighborhood center in Harrisburg, PA to be anchored by a 98,000-square-foot Giant supermarket. Completion is scheduled for the end of 2008.

(Editor's Note: To keep up on happenings and trends in retail real estate, subscribe to CoStar's Retail News Roundup, a weekly column covering retailer expansions and new concepts, store closings, bankruptcies, cutbacks, acquisition, mergers, sales. new shopping centers, personnel changes, and sustainability. Follow this link for access to back issues of the roundup. In addition to appearing every week in the national news and retail news sections of our web site, you may also receive the Retail News Roundup for free via email by requesting to be added to the distribution list by contacting senior editor, Sasha Pardy at Also, click here to subscribe to CoStar's dedicated Retail RSS Feed.

Would Inland American and Cedar make a good match?

"Inland is a very credible and competent large shareholder that's in the shopping center business," said Hofer. "Cedar should give due consideration to what Inland is proposing; which I think would be to basically relieve Leo Ullman of the existing portfolio and let him concentrate on the to-be developed portfolio."

"I think Cedar's portfolio would complement Inland's existing portfolio well. I think Inland perceives Cedar to be undervalued while they can accumulate shares at $10-per-share or less when their perception and many other's perception of value of the company is somewhere north of $14 per share; that's a 40% increase in share value if you can buy at $10 and realize it at $14. I think Inland is a smart and astute buyer of REIT shares and valuer of real estate and part of their motus operandi is to act in a non-hostile, non-contentious manner. I think that there will be conversations between Inland and Cedar -- hopefully and probably they're already ongoing," continued Hofer.

CoStar asked Hofer if it is realistic for Inland to think Cedar will waive its 9.8% stake cap. "I think it’s a possibility. I think Cedar will learn why Inland wants a bigger stake and what that means for the other Cedar shareholders."

Inland American is a publicly registered, non-listed REIT and arm of the Inland Group of companies. Unlike Inland Real Estate Corp. and Inland Western Retail Real Estate Trust that focus solely on the acquisition of retail properties, Inland American acquires hospitality, office, multi-family and industrial properties in adition to retail.

As of Dec. 31, 2007, Inland American's portfolio consisted of 640 properties in 33 states totaling 34.3 million square feet and 76 hotels in 22 states representing 10,411 rooms. In addition, the company is in the process of acquiring RLJ Urban Lodging, which owns 22 hotels with 4,060 rooms; and completing the purchase of 144 single tenant Sun Trust bank buildings. Currently, Inland's retail assets account for 32% of its entire portfolio square footage and 44% of its portfolio rental income.

In a Jan. 23 prospectus, Inland outlined its risk factors that suggest why Inland may be interested in the possibility of acquiring Cedar Shopping Centers.

Acquiring Cedar would diversify Inland's portfolio of tenants and increase its share of supermarket and pharmacy tenants. Inland American currently relies on AT&T for 17% of its rental revenue, followed by SunTrust Bank (9.84%), Citizens Bank (4.9%), a few industrial tenants, and Randall's Food & Drug (1.5%). Cedar's rental revenue relies on Giant Foods (14.5%), followed by Farm Fresh (3.3%), Discount Drug Mart (3.1%), Shaw's (2.3%), Stop & Shop (2.2%), LA Fitness (2.1%), CVS (1.9%), Staples (1.8%), Food Lion (1.8%), Boscov's (1.3%), and remaining tenants amount to 65.8%.

Cedar's lease expiration schedule as a percent of total annualized base rent puts less than 10.1% of expirations in any single year through 2007; however, 42.6% of its leases expire by 2012, while 34% expire after 2017. Also based on percentage of annualized rent, Inland American has 35.7% of its leases expiring through 2012 and 20% expiring after 2017.

Geographic Diversification. Inland American's portfolio is concentrated in the metro areas of Houston (15%), Chicago (14%), Minneapolis (12%), Washington D.C. (7%) and Dallas (5%), making it "particularly susceptible to adverse economic developments in the real estate markets of those areas," read the prospectus. According to Costar's Year End 2007 National Retail Report, the Dallas and Houston retail markets are approximately 10% vacant, putting them among the highest vacancy retail markets in the country. Chicago's vacancy level is also quite a bit above the national average. The Washington DC and Minneapolis markets, however, are among the tightest retail markets in the nation.

If Inland took on Cedar's portfolio, it would significantly increase its presence in the Northeast, and enter the relatively healthy retail markets of Boston and Baltimore. In addition, its presence in one of the country's most desirable retail markets, Washington D.C., would be bulked up. However, Cedar's portfolio concentration in the weaker markets of Philadelphia, Cleveland and Columbus could offer little upside to Inland aside from geographic diversification.

Is Cedar's debt situation favorable? $402.2 million (63.1%) of Cedar's total debt maturities don't come due until after 2013. The REIT has $108 million of available under a $300 million revolving credit facility with Bank of America that is expandable to $400 million and comes to term January 2009, but can be extended through 2010. The facility's rate is 110 to 145 basis points over 30-day LIBOR. Cedar also has $21.1 million in cash and expects to receive another $50 million from joint venture contributions by the end of this fiscal year.

Cedar certainly had no issues funding its acquisitions in 2007. In the first nine months of 2007, it acquired 1.3 million square feet for $225 million; and was poised to close on another 578,000 square feet for $64 million by the end of fourth quarter. Its largest transactions of the year were the December contribution of 9 shopping centers to a joint venture with Homburg Invest, an international real estate company, for $169.5 million; and the $117 million acquisition of six shopping centers from WP Realty, which closed in October.

WP Realty was the former owner of one of Inland American's star assets, the 563,000-square-foot Lincoln Mall in Lincoln, RI, which WP redeveloped into an open-air center and sold to Inland American for $60 million in summer 2006; the center features Target, Super Stop & Shop, Home Goods, Marshalls, Ocean State Job Lot, and more.

Inland American's acquisition approach may clash with Cedar's. Inland owns many Class A assets, including several power centers and town centers with national big box and specialty tenants. The company seems to focus on properties producing strong returns for long-term hold that don't require too much "sprucing up". Cedar's slightly riskier approach focuses on the acquisition of Class B assets with strong anchors and good traffic that are in need of renovation or redevelopment. However, the two companies do match on their approach of favoring grocery-anchored shopping centers.

Would Inland have the resources to buyout Cedar? BMO Capital Market analyst Paul Adornato raised Cedar's stock rating to "Outperform" following Inland's disclosure of interest in the REIT. The Associated Press quoted Adornato, "We have long considered Cedar a high-quality regional portfolio that would appeal to a wide range of players, both public and private. With a long history in shopping centers, we believe Inland is one of the savviest shopping center players and knows a good deal when it sees one. Inland American is a cash raising machine, even in the current environment." Adornato further predicted Inland could pay $13-per-share for Cedar, which would translate into a $575 million deal.

Inland American raised $4.8 billion in its first IPO, which closed July 2007. In August, the company offered another 500 million shares at $10-per-share in an effort to raise another $5 billion. Inland is depending on the latest offering to fund its pending acquisition of the RLJ Urban and Sun Trust portfolios.

Will Cedar sell this time? The REIT had a $379 million ($17-per-share) offer from Equity One in the summer of 2005, which represented a 14% premium over its stock price at the time. However, Equity One withdrew the offer four days later as Ullman said Cedar wouldn't be able to meet the REIT's deadline of only one week to make a decision. Perhaps a transaction with Inland American is more likely for the simple reason that the firm takes a "non-hostile" approach.

(Editor's Note: To keep up on happenings and trends in retail real estate, subscribe to CoStar's Retail News Roundup, a weekly column covering retailer expansions and new concepts, store closings, bankruptcies, cutbacks, acquisition, mergers, sales. new shopping centers, personnel changes, and sustainability. Follow this link for access to back issues of the roundup. In addition to appearing every week in the national news and retail news sections of our web site, you may also receive the Retail News Roundup for free via email by requesting to be added to the distribution list by contacting senior editor, Sasha Pardy at Also, click here to subscribe to CoStar's dedicated Retail RSS Feed.

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