Strained by Online Commerce, Changing Shopper Preferences and Trendier Competition, Many Outmoded Malls Face Bleak Future
|The Northridge Mall in Milwaukee, now called the Granville Complex, closed in 2003 and has remained unsold after nearly four years on the market.|
The widening gap between strong malls with rising sales and failing malls that are hemorrhaging retailers, sales dollars and foot traffic has led to dire forecasts by some analysts for the future of older enclosed malls as changing demographics and buying habits suck the life from aging and poorer quality properties.
Many trade areas are unable to support multiple malls, with dominant properties increasingly attracting retailers and shoppers at the expense of outmoded centers. Some of these properties, memorably documented on web sites like Deadmalls.com, are so devoid of shoppers and stores that they may be suitable only for demolition or as sets for an episode of "The Walking Dead."
REITs like Simon Property Group (NYSE: SPG
) and General Growth Properties (NYSE: GGP
), the nation's largest mall operators, have gotten the message and are busy divesting lesser-performing properties. Meanwhile, emboldened by low prices for these older malls, investors are beginning to snap up the properties, confident they can reposition and turn around malls that are on life support, or raze it to gain access to the often-valuable land to build apartments or other uses.
The litany of issues facing distressed malls and large shopping centers is well documented, with ills ranging from changing neighborhoods, increased competition from online sales, the appeal of newer lifestyle and power centers, consolidation of anchor stores and sharp downsizing by in-line tenants.
In a widely quoted report, Green Street Advisors has forecast that 10% of the nation’s 1,000 enclosed malls will fail by 2022, eventually converting to uses other than retail.
This is the first of a three-part CoStar series on aging and distressed malls. Next week:
What strategies have been effective as communities and owners try to reclaim a growing inventory of obsolete retail space?
Age appears to be a contributing factor. Of more than 200 malls and large U.S. shopping centers with 250,000 rentable square feet or higher that are hampered by vacancy rates of 35% or higher -- a clear marker for shopping center distress -- 86.5% were built before 2000, according to CoStar Group data.
Of these distressed regional mall, power center and community center properties, 43.5% were built in the 1970s and ‘80s, another one-quarter were built in the 1990s, and 17.5 % were built in the 1960s and prior. The average center in the distressed group was built in 1983 and had a vacancy rate of 50.6%.
Among the 44 regional and super-regional malls (usually malls of 1 million square feet or above) with distressed vacancy, the average rate was 54.5%, with older super regional properties built from 1960 to 1990 averaging just under 60% vacant.
We're Not Overbuilt, We're Under-Demolished
"I don't think we're overbuilt, I think we're under-demolished," said Daniel Hurwitz, president and CEO of DDR Corp., a Cleveland-based REIT, during ICSC's recent Western States conference in San Diego. “When you have [tenants] looking for space and nothing new being built, and we're sitting at mid-90% occupancy levels, it's hard to argue we're overbuilt when they're scrambling to find 10,000 square feet."
"There is a sense of reality that we all have to come to that there are projects that are not going to lease. Retail has a finite lifespan and once you reach that lifespan, you can put up all the signs you want, and charge as low rent as you want, but that doesn't make [tenants] want to take the space."
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As DDR's Hurwitz makes clear, shopper's preferences have changed and demand for large enclosed malls is quite different than it was 20 years ago. Changes in shopping patterns and preferences is also readily apparent in the shrinking number of department stores and the consolidation among traditional shopping center anchors like Sears Holdings, Kmart, Best Buy, The Gap and Office Max.
All of those chains have announced plans to shut down stores in 2012. The announced closures for these five retailers alone could add another 15 million square feet of mostly mall and power center space to the market this year, according to analysis from Property and Portfolio Research (PPR), CoStar’s real estate analytics and forecasting company.
But analysts also see the closings and repositionings as a healthy process. As market forces cull weaker properties, successful malls grow stronger.
"Malls and buildings age. We don't design for the life-cycle of buildings like we used to 50 or 60 years ago," said Robert Yuricic, an architect with Greenbergfarrow, a retail-oriented design firm and the second-largest restaurant architect in the country. "Malls are designed for a much shorter shelf span and they need to be refreshed."
Many of the earliest malls were buildings connected by pedestrian walkways and common areas, similar to today’s lifestyle center. Many malls began to turn inward in the 1960s and ‘70s, with the typical suburban mall composed of department stores and smaller shops connected by a roof, essentially forming an air-conditioned cave, Yuricic noted.
Walking into such malls is "like going into the bowels of a casino, where the door seems to disappear and you can’t find your way out," he said.
"People want to go to what's new and shiny and if you don't give it a facelift, it becomes old and tired and not able to attract the younger, more chic crowd with more disposible income," Yuricic said.
Kristin Mueller, executive vice president and director of retail business development with Jones Lang LaSalle in Atlanta, has a simple message to those who would write their obituary: Malls are not dead.
"The vast majority of the malls in the U.S. will continue to be incredibly relevant and are thriving," Mueller said. "There are many indicators that show malls are going very strong; you see it in their sales performance and in the REIT stocks of those that own two-thirds of the malls in this country.
"There are many different ways that we as an industry are working with malls to make sure they're relevant for their shoppers and communities, usually through a combination of new retail and other alternative uses," Mueller said.
Mueller acknowledged that some, "perhaps more than a handful," of the country's stock of 1,200 to 1,400 enclosed malls are in serious trouble. "Those malls have usually been unfavorably impacted by their surrounding communities, or they’ve been outflanked by bigger, better competition" from lifestyle and power centers, Mueller said.
Distress is still a significant factor for these properties, even as the bear market for retail investment appears to be coming to an end and transaction activity is now at par with the average annual volume of the past decade.
About 11% of total deal volume by dollar value over the past four quarters was from forced sales, down from nearly 20% in early 2011 but well above the average 1% from 2000 to 2008, according to PPR.
It appears almost certain that the pipeline of distressed retail property will continue to flow, with plenty of commercial mortgage-backed securities (CMBS) loans backed by collateral that's behind on payments and carrying thin debt service coverage ratios.
These distress deals often reflect financing issues rather than prevailing market conditions. Not surprisingly, their troubles have drawn the attention of Wall Street rating agencies that are sufficiently worried enough about the widening gap between the country's best and worst performing malls to put out warnings that could further affect the supply of credit and financing to the mall sector.
Fitch Ratings said its "very cautious" outlook on U.S. malls has prevented the agency from rating some CMBS transactions this year. While it's fairly easy to understand the dynamics of the best and worst properties, the condition of the second-tier malls in the middle is more difficult to parse, Fitch said in a recent report.
Fitch-rated deals include about 1,150 retail loans of over $20 million, many secured by malls. Of these, 126 are already in special servicing and 44 assets are real estate owned (REO) and many are among the largest contributors to Fitch Ratings’ overall expected deal losses.
Who Will Buy A Dying Mall?
In its own report last summer, Moody’s Investors Service also noted the widening performance gap between stronger and weaker malls. When a marginal mall defaults, losses can well surpass those typical for a commercial property loan.
"Renovating or reconfiguring an underperforming mall may cost many millions of the dollars," said Tad Philipp, director of Moody’s CRE research. "What’s more, should the location lose its viability for retail altogether, the value to revert to land less demolition cost [will produce] an even greater loss."
Overall, however, mall investment has actually been stronger over the past few years as a percentage of total retail investment than it was during the peak of the last cycle, said PPR real estate economist and retail specialist Ryan McCullough.
CoStar COMPs data for the largest U.S. markets shows that mall investment comprised 34% of total shopping center transaction dollar volume from 2010 to the present, up from 28% between 2005 and 2007.
"I don’t think that investors have necessarily been scared off from malls due to the obsolescence of a subset of the category,” McCullough said. “Investors, however, are pickier about the quality of the mall properties purchased today, which is showing up in the pricing data.”
On a dollar-per-square-foot basis, malls with a vacancy rate of 5% or less traded at a 45% premium over those with higher than 5% vacancies from 2010 to present. During the 2005-07 market peak, the premium was a negligible 2%, he noted.
"The short of it is that investors are recognizing quality malls -- those with high occupancies, solvent anchor tenants, good population density and access to affluent shoppers -- as stable, low-risk, income-producing assets and will pay up for them today," McCullough said.
"Poor quality malls, on the other hand, are either not trading or selling at a steep discount, and perhaps are scheduled for demolition or conversion."
"As an industry, we're not going to start throwing up malls as the economy recovers," added JLL's Mueller. "In fact we stopped building malls a while ago and started to build lifestyle centers in niche infill locations between malls."
Instead, real estate services providers like Mueller and her JLL team are focusing on creative redevelopment and repositioning strategies for distressed properties. Often means changing out the type and size of the retail -- or considering non-retail uses, such as a university or health care facility. Mega-churches have taken over former anchor spaces. Others have become call centers and government offices.
Even malls that continue to thrive are being redesigned as town squares - adding more entertainment and service elements. Simon Property is remodeling 15 to 20 malls a year, adding such amenities as electric-car charging stations and stadium-seating theaters.
Malls today have to “provide a unique set of shopping, dining and entertainment experiences,” Simon's President and COO Richard Sokolov told the New York Times, including scheduling 20,000 events a year to draw traffic, such as cooking demonstrations.
As the mall's 50-year reign as the ultimate shopping destination appear to be coming to an end, CoStar News will look at examples of successful mall adaptations in a follow up story next week.
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