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Mall, Shopping Center REITs See Brightening Retail Landscape

Retail Property Owners See Burst of Leasing Activity as Tenants Enjoy Higher Sales and Whisper About Opening New Stores. REITs, Anticipating Future Space Demands, Begin to Deploy Capital for Acquisitions.
May 12, 2010
With consumers spending more at U.S. malls and shopping centers this year, retail REITs reported improved first quarter operating results, stronger store sales and stepped up leasing activity as occupancies, rents and other fundamentals showed signs of stabilizing.

In conference calls with analysts and investors monitored by CoStar Group, REIT executives said retailers are generally in a more positive mood, with the number of bankruptcies continuing to decline and some retailers even beginning to contemplate new store openings or expansions. Capital markets are improving and many executives said they are looking forward with renewed confidence to this month's International Council of Shopping Centers (ICSC) annual convention in Las Vegas, a major retail deal-making forum for investors and tenants.

"It was a good quarter operationally and financially," said David E. Simon, chairman and chief executive officer of Simon Property Group Inc. (NYSE: SPG), the nation's largest mall owner. "Our retailers are feeling better about their business and the debt markets are strengthening. We are clearly seeing the impact of an economic recovery that is beginning to surface in our results. However, we continue to believe the recovery may be slow and there will be challenges in the weeks and months ahead."

Many execs noted that aggregate leasing activity, occupancy, rent spreads and same-store net-operating income (NOI) are improving after a very challenging 2009. Simon said tenants are boosting inventories and stores reported a 6.6% increase in sales for the first three months compared to the first quarter of 2009, capped by a "very strong" 10.6% increase in the month of March.

Executives reported almost universally that vacancies and rents continued to stabilize in the first quarter. Kimco Realty (NYSE:KIM), the largest U.S. owner and developer of strip shopping centers, executed 754 leases totaling over 2.9 million square feet as portfolio occupancy edged up from 92.6% a year ago to 92.8%. Kimco's base of discount-oriented retailers is showing much-improved sales and some are looking to expand selectively, the company said.

"Our shopping center vital signs continue to show progress, reflecting the improved leasing activity over the past six months," said Kimco COO/CFO Mike Pappagallo.

That's a far cry from 2008 and early 2009, when retailers were sitting on their hands, worried about their balance sheets and the Wall Street financial crisis. Tenants have regained confidence and are talking expansion even as they also seek to reduce rent costs, said Kimco Executive Chairman Milton Cooper. With little new supply coming onto the market, however, the momentum is changing. "My sense is that the shift will grow in the favor of the owners of properties and rents will increase over time," Cooper said.

"The same real estate departments that were busy reading leases for co-tenancy provisions and other outs are now out looking for new store locations," added Pappagallo. "There's been a dramatic shift already in the way retailers are looking at leasing space, and we're seeing it at the field level. We already have a little bit more pricing power than we had this time last year."

Developers Diversified Realty Corp. (NYSE: DDR) executed 180 new leases and 242 renewals, setting a quarterly company record of 2.6 million square feet leased in the first quarter. The improved outlook was augmented by a lower cost of capital and anticipation of an improving external growth through acquisitions and development. DDR reduced its debt load to $4.7 billion through equity and asset sales in the first quarter, down from a high of $7 billion in 2008.

Rise In Joint-Venture Deals

Executives noted that the tone in the secured debt market has improved significantly in the last two quarters, with renewed activity from life companies and pension funds. And REITs are beginning to partner with those companies to leverage their capital. Another hallmark of this spring's earnings calls was the degree to which REITs are banking on joint ventures with pension funds and other partners to broaden their already considerable capital clout in acquiring properties at falling prices.

While mall operators are focused on acquiring properties through JVs, some analysts believe buyers and sellers are waiting for more clarity on pricing following the outcome of M&As such as the deal to take General Growth Properties (NYSE: GGP) out of bankruptcy before making any large JV deals.

However, such deals are already beginning to happen. In one of the most notable examples, Kimco and Canada's national pension fund, Canada Pension Plan Investment Board (CPPIB), on April 21 announced a $370 million partnership to acquire five grocery anchored neighborhood shopping centers, three in California, one in Florida and one in Washington, D.C., from PL Retail at attractive prices. Kimco will take a 55% stake, earning asset management fees and managing the property. In the office space, SL Green Realty Corp. (NYSE: SLG) recently partnered with CPPIP for two Manhattan towers in a similar JV.

Kimco announced a new joint venture with Cisterra Capital last week, which acquired four shopping center assets, three in Washington and one in California, totaling 615,000 square feet from the Prudential Real Estate Investors joint ventures for $112 million. Kimco holds a 15% ownership interest in addition to acting as the operating partner.

More opportunistic and fee-generating JV purchases from PL Retail and others, both in the U.S. and abroad, are in Kimco's future, President and CEO Dave Henry said.

"There continues to be increasing amounts of capital reentering the commercial real estate sector and cap rates have declined materially over the past six months. In our case, it is encouraging to have an increasing number of first class institutional partners which are actively seeking to invest with us in high quality neighborhood and community shopping centers," he said. "We will enhance our earnings through recurring fee income from institutional joint ventures, international retail property investments and opportunistic retail real estate purchases from retailers."

Likewise, mall owner Macerich Corp. (NYSE:MAC) has shored up its bottom line by raising more than $600 million in capital through JVs, $400 million in cash raised in an October equity program and an equity offering in April, which raised $1.2 billion in net proceeds to pay down debt. Macerich launched the plan more than a year ago to delever the company by more than $2 billion over three years, noted Macerich Chairman and CEO Arthur Coppola. Including debt transferred to new JV partners, Macerich has total deleveraging of $2.9 billion.

"In fact, we’ve been able to accomplish significantly higher deleveraging of the company in a much shorter period of time," Coppola said." That puts our balance sheet in the best position that it has been in, in a very long time."

Landlords Find More Success Filling Boxes

Many owners reported progress in leasing vacant box and junior anchor spaces, with evidence of rent growth and improved leasing spreads in some of properties, hit especially hard by thousands of store closures and bankruptcies over the last two years.

DDR ramped up leasing of boxes from 58% to 63% during the quarter. DDR backfilled leases in 12 space totaling more than 524,000 square feet, said Paul W. Freddo, DDR senior executive vice president, leasing and development. The REIT now has activity on 63% of the 6.9 million square feet of space returned to the market through five major bankruptcies, including 31% leased or sold and 32% under letter of intent or lease negotiations.

The company executed deals with many of the market's most active retailers, including the Fresh Market, Kohls, buybuy Baby, Forever 21, TJ Maxx, Burlington Coat Factory and Hobby Lobby, Freddo said.

"We have seen momentum building in the junior anchor box category as market dominance and expanding retailers seek external growth in high-quality shopping centers amid a diminishing supply of such space," said DDR President and CEO Daniel B. Hurwitz.

Weingarten Realty (NYSE:WRI) has noted more aggressive store opening plans from over 90% of its retailers and restaurants from the same time last year, with many retailers increasingly open to altering their prototype footprints to fit existing space configurations due to lack of new development.

More retailers are open to grocery anchored co-tenancy agreements versus clauses demanding place in a power center space, said Drew Alexander, president and CEO of Weingarten.

"We also noticed an increased effort to work as a team between retailer and landlord to value engineer the cost to build out, to make the deal work for both partners," Alexander said. "Today, most retailers are focused on growth and recognize the negotiating balance is beginning to tip back towards the property owner."

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