General Growth Properties Bankruptcy: Not the End of Malls

Somebody decided to call me out on my General Growth Properties (GGP) thesis and did so by putting me in the same sentence as Goldman Sachs (GS) and Bill Ackman. Can’t decide whether to argue with or thank them….I’ll do both.

Now full disclosure: The accuser is the same site that earlier had one of their “experts” copy verbatim one of my AutoNation (AN) posts and claim it as their own (they eventually removed the post). So no assumptions of their “expert status” ought to be assumed per their claims…

The author’s (Mr. Leonard) comments are in blockquotes:

Here is the full article:

For one thing, neither of them take into consideration the coming debacle resulting from the 100’s of department store closings I am predicting will take place in early spring 2010. Those of us in the industry are well aware of how many Sears (SHLD), Bon-Ton (BONT) and Dillard’s (DDS) stores are struggling to stay afloat until after the Christmas season. Without some sort of “Christmas miracle” many of their under performing stores in “C” level malls will disappear. This will start a whole new media blitz about “The End Of The Malls” which in turn will impact the stocks of all mall REITS, even those with very little exposure to “C” level malls or the specific department stores.

Well, let's look at those retailers and see what their impact on GGP would be. Now, it is a great leap of faith to assume he is correct that most of them will go under (Sears will not). But, for argument's sake, lets just assume he is correct. (Click charts to enlarge.)

So, it would be, um….. negligible at best?

The last sentence puzzled me: “This will start a whole new media blitz about 'The End Of The Malls' which in turn will impact the stocks of all mall REITS, even those with very little exposure to 'C' level malls or the specific department stores.” Yeah, so? What does this have to do with GGP’s value post Chapter 11? Answer? Nothing…

If we go back to Econ 100, we know that as the supply of something dries up, those who have it left have more pricing power. Going with this, as the author's “C” level malls go under, shoppers will be forced to travel up the mall food chain to the “B” and “A” malls, as traffic there increases, they grow stronger. He is essentially saying that because Zales Jewelers is suffering, Tiffany’s (TIF) is doomed. Apples and oranges.

As we see below, GGP is essentially an “A” mall operator:

I am sorry but I am having a hard time believing that “Tommy’s Fish Emporium” and “Nancy’s Food Mart” going under in a class “C” strip mall in Newton, MA and taking the whole strip mall down with them is going to have any effect on GGP’s regional mall in Natick. If anything, this will help as shoppers will frequent those malls left in greater numbers.

I know the argument, “more vacant space will lower rents”. In some cases this is true and we have seen some of this. But in the class “A” malls, vacancy rates are not rising appreciably and rents are not falling anywhere near the rest of the industry. Essentially they are feeling the effects of the recession but are not being bowed by it like at the lower end. Gap (GPS), Limited Brands (LTD) or Abercrombie & Fitch (ANF) are not going to be tripping over themselves to fill cheap spots in recently vacated class “C” malls and GGP knows this. I just do not see a Victoria’s Secret next to a Subway…

For another thing, both Goldman and Mr. Sullivan (as well as Mr. Bill Ackman who had previously made a major presentation with similar predictions) make certain assumptions that require a great leap of faith to accept. They all assume “no systemic shocks to the ECONOMY and that the current economic trends essentially continue”.

Without commenting on the exact definition of “economy and economic trends”, they are both in trouble from the first day of their predictions. The “economic trends” in the mall REIT industry continue downward as we speak and if my predictions are correct, the downward slide will accelerate in Spring.

While I will thank Mr. Leonard for putting me in the same sentence as Goldman and Ackman, I just do not understand the argument. I think all three of us have been pretty straightforward in saying that we are in store for a slow slog as time goes on. The “slow recovery” is the most optimistic scenario I think anyone has put forward. Maybe he wants precise GDP predictions, not sure but, none of us three can be consider rosy in the general economic outlook. Clearly a Sept. 11th event or other “systemic shock” cannot be predicted or built into a REIT forecast, nor should it be assumed as I think he is doing. We have also all said the REIT industry will suffer (Ackman just this week offered a “short” in the REIT sector). What we are saying is the GGP Chapter 11 is a very unique case.

I also would question all three prognosticators blind eye towards the vast differences between mall REIT’s exposure levels to malls that are either already “under water” or those under performing malls that have been allowed to deteriorate to the point that they are in need of tens of millions of dollars of renovation and remodeling costs. In recent weeks I have been asked to appraise certain GGP malls for private clients. In several instances I was surprised to find “C” level malls that had occupancy and rent levels that would seem to justify an 8% cap rate until I dug deeper and learned of very expensive renovation plans that had been delayed for years. If the costs of these much needed repairs and replacement items were factored into the value, the implied cap rate would have risen to roughly 9% or 10%. I just wonder how aware Goldman or Ackman or Sullivan were about these looming issues.

“C” malls at 7% cap rates? I am shocked he found any and am more than sure both Goldman and I said those “C” mall ought to be around 10% cap rates. I am confused as to why Mr. Leonard is arguing my point back to me.

GGP has $26 billion worth of assets. Is he really going to extrapolate its value from checking out “certain” “C” level malls? OK, I’ll play along.

There isn’t really any material effect on GGP from the 30 grocery anchored strip malls (class “C”) they own (they own 130 “B” malls) as 75% of NOI comes from “A” properties.

Here is the kicker. These are mortgaged with “non-recourse debt." This is where a simple valuation of the malls in Chapter 11 is wrong. GGP, if these malls are a drag on valuation can simply “put” these malls to the mortgage holder. Since the loan is “non-recourse," the mortgage holder has no claim on any other asset other than the specific property. If it is a dud, see ya’ later. The majority of GGP’s debt is non-recourse.

Finally, after all is said and done about the proper cap rates to use on all the GGP malls, using whatever comparisons to Simon or other mall REITs these analysts wishes to use, the fact remains that none of them have taken into consideration the single most unique aspect of GGP’s real estate portfolio. Naturally I am referring to the single biggest anchor to GGP’s profit potential, namely their vast over priced residential land holdings in Las vegas and elsewhere. Once these are factored into the mix I doubt that there is ANY EQUITY LEFT OVER FOR THE VULTURE FUNDS CURRENTLY CIRCLING AROUND THE GGP STOCK

Mr. Leonard clearly has not read anything I have written (40+ posts) other that the last one, nor did he look through Ackman's presentation as this statement is patently false. Nor does he address any of the legal issues surrounding the Chapter 11 case.

Ackman divides GGP into three units:

He then at the end assigns a value for each.

You’ll notice the “vastly overpriced residential land communities” at the low end of the valuation are essentially valued at zero ($.27) and the Vegas communities “potential” are valued at nothing (that is the “hidden value” category). Sort of makes that last paragraph, um………irrelevant? GGP's single biggest profit generator and valuable asset is its Class “A” malls, not undeveloped land in the Nevada desert.

Here is the problem: Mr. Leonard whipped off a quick post charging Bill Ackman, Goldman Sachs and myself of not offering “details” when he clearly has not looked into any of the work put forward on the subject. Moreover, he offers no details himself to back any of his claims. Mr. Leonard is clearly overly negative on the sector for whatever reason and rather than offer substantive evidence to back his claims other than “I say so”, he instead chooses to take the work of others (or pieces of it) and pick erroneously at it.

Oh well….

Comments

[Dave Wrixon:]

And the disclosure of interest?

Oct 09 04:45 PM

[John Gault:]

The author wrote: "But in the class “A” malls, vacancy rates are not rising appreciably and rents are not falling anywhere near the rest of the industry."

This is incorrect. Class A Vacancy rates have increased by about 6% over two years and accelerating. More importantly, sales per foot are down nearly 25%. When the '05 and '06 leases come due - you'll see a deluge of vacancy and reductions in rental rates in the neighborhood of 50%.

But congratulations on corrupting the bankruptcy procedure for single asset entities and the capital structure. The bankruptcy judge (the honorable Ben Dover), has done a disservice to capitalism and American justice. He makes me want to puke.

Oct 09 08:48 PM

[sh@rky:]

GGP RUN ON GREAT KARMA !!!

Oct 10 01:19 AM

[Roger C. Wren:]

"And the disclosure of interest? "


In the heat of the moment when responding to an attack Todd forgot it Dave. In previous posts he has disclosed that he owns General Growth stock.

Oct 10 01:56 AM

[Roger C. Wren:]

John, I don't know where they were two years ago but the past few months General Growth's occupancy has been in the low 90's and holding pretty steady. Ben Dover is not the General Growth bankruptcy judge. The judge's name is Grooper, which I may have just miss-spelled.

I plead guilty to owning General Growth stock and am very glad I do.

Oct 10 02:08 AM

[foxadvise:]

Todd, I enjoy your posts and am glad to see the thoughtful and ongoing discussions of GGP. Disclosure: I have owned GGP several times in the past but do not own presently.

I have spent countless hours over the six months evaluating the individual assets of GGP and their performance and relative market position. I have done so for my own benefit as well as the benefit of others. In doing so, I have developed my own proprietary analysis of GGP, including the sales performance, occupancy, net operating income, etc.

There are a couple of issues here. The first is what I believe to be some assumptions based on the quality of the portfolio of GGP. I believe Mr. Ackman overstates the quality of the GGP portfolio and the proportion of "A" quality centers as well as the share of income derived from this segment of the portfolio.

First though, some background. GGP owns a lot of malls. When I speak of malls, I am talking about enclosed, climate controlled malls anchored by department stores like Macy's, Dillard's, JC Penney, Sears, etc. There are roughly 191 of these in the GGP portfolio. GGP also owns roughly 60 strip centers (grocery store anchored and the like). The malls contribute the lions share of NOI for GGP. The strip centers are rounding error. So let's focus just on the 191 regional malls that produce 98% of the income.

In terms of quality, the 191 GGP malls break down roughly as follows:

A Class - 29%
B Class - 22%
C Class - 26%
D Class - 23%

Therefore I feel it is misleading to simply refer to GGP as an owner of A quality malls. While they do own a large number of A quality malls, the majority of the portfolio consists of malls that are less than A quality. Also, note that 49% of the portfolio consists of C and D quality malls that inherently have the most risk.

Now lets look at income. A rough profile of income derived from each segment is as follows:

A Class - 44%
B Class - 20%
C Class - 21%
D Class - 13%
Non-Mall - 2%

As I said in the beginning, I believe Mr. Ackman overstates the share of income derived from A malls and the above shows why. In fact the A malls do contribute a substantial proportion of the income - nearly half. And, when combined with the B malls, these two groups are responsible for almost 2/3rds of the income. However, this places 1/3 of the income squarely in the lower echelon of the portfolio that has the most risk.

The second issue deals with potential anchor closings over the next few years, and is an important one when considering the C and D malls. In fact, the anchor stores mentioned such as Bon Ton, Dillard's, and Sears are known to have some under performing stores, particularly at C and D class malls. While GGP and other mall landlords do not derive a significant portion of their income from these stores, the department stores anchors collectively form the critical mass which, in part, drives sales and traffic to the interior of the mall. The interior of the mall, or the in-line malls shops (GAP, Limited, etc.), are where mall landlords derive their income. There is an important link between strong, healthy department stores and the performance and viability of in-line mall shops. This is the theory of regional mall development and operation.

The reality is that department store closures are the number one leading indicator of regional mall decline and failure. This is well documented over the last 20+ years. In short, "as the department stores go, so goes the mall." Therefore, if some of these department store anchors were to start closing stores in larger numbers (as some believe will happen), this will have a significant impact on the ability of mall landlords to preserve their income stream derived from the in-line mall shops. Lower performing C and D malls also tend to have the lower performing department stores and the closure of one department store often leads to another and so on and the next thing you know, the entire mall is at risk. The in-line mall tenants typically have a couple of key co-tenancy provisions written into their leases that allow them to cease operation with the closure of one or more department stores or when overall mall occupancy drops precipitously. This causes the domino effect of department sore closures to accelerate the negative impact to the entire property. All this is by way of saying that the income stream derived from the in-mall tenants (where landlords make their money) is inextricably linked to the department stores, for better or for worse.

Back to GGP. Since GGP derives roughly 1/3 of their income from C and D class malls, some portion of the income stream is at risk both due to the current economic situation and the general decline that is ongoing at C and D class properties. You correctly point out that A and B malls could in fact be beneficiaries of the decline of C and D class malls and I also believe that will be the case in some instances. In order to take advantage of the decline of a particular C or D class mall, one would also need to own A or B malls in the same market in order to be positioned to benefit from that situation. It is essentially a local market issue.

The key issue in evaluating GGP or any mall landlord is determining which properties are at risk and to what extent and of course this includes C and D malls as well as some A and B malls. Some A and B malls inevitably transition to C and D malls, although this typically occurs over a long period of time.

In short, there is no substitute for extensive due diligence on the individual assets in order to determine where the risk lies. That analysis is beyond the scope of what I can say here, but much like politics, all real estate ends up being essentially a local issue. Or in the case of GGP, the sum of 191 local issues.

Oct 10 10:07 AM

[2houndz:]

Todd -
You cannot look at where an anchor tenant such as Dillard's stacks up in a mall owner's portfolio in terms of income and say "see - they are not a significant poportion of the income, so no worries if they go belly-up." In all the development and redevelopment deals I've been a part of along with Dillard's, I remember none where they paid significant rent, and few where they paid their fair share of the operating costs. Anchor stores were supposed to be loss leaders. They usually pay next-to-nothing, build their own stores and are suposed to drive traffic in the center.

Now one cold argue that Dillard's for instance has not really been driving traffic for years, and since their presence does little for the center's bottom line, the developer would be better off without such a horrible retailer as they could then do something else with the space. But we all know that's not the case for C malls right now. I've done enough Steve and Barry's deals in those vacant doors for $7 rent, 7 years and $42 in cash payment (yeah - get your calculator and figure the NPV on that pile of crap) just to see them go under in record time.
Dillards and BonTon are absolutely dismal companies that deserve to fail, but make no mistake that another dark anchor in an already struggling mall could mean death to that development. If you don't think so I could take you on a tour in Ohio, Florida, New Orleans and several other areas and show you the failures that have already occured.
And another thing on these cap rates. Show me a willing buyer at ten or less, and I'll show you people who are ready to make a deal, assuming they are not underwater at ten. Maybe GGP is big enough to twist arms, but in my world of smaller players (but still my world includes publicly traded REITs), this stuff is not even getting refinanced at sub-12%, so I doubt if the buyers exist at 7 or 10, regardless of what the owners and bankers fantasize and tell the investing public.

Bottom line at GGP has the same fundamental problem as retail real estate overall - Too much money chasing too little talent. How hard is it to see that these people took enormous gambles with other people's money without understanding leverage, risk, or in many cases basic finance? Sure they may have been great creators of special retail environments or some such nonsense that's so subjective you or I could never question it, but I've been across the table from GGP on deals where they simply did not understand the math or creation of value.

Regardless of anything that I have to contribute here, I see that their stock is on a tear, which I suppose is all that matters. You can't fool all of the people all of the time, but you can in fact fool some of the people all of the time.

Oct 10 02:28 PM

[Fighting Yoda:]

I think the bottom line is there is too much retail space and there are too many stores. There would be store closing for all types, and likelihood of some big retailers going under after Christmas is very high. It could be Dillards, Sears, or even some small retailers. Whether we have bankruptcies or not - store closing will happen - this has huge impact on the mall traffic, rents and occupancy.

GGP is already on the brink - this Christmas is make or break for them - I think they would have come at the end of the line. But the only caveat being - bailouts. CREs are the next target of bailouts - so anything can ultimately happen.

Oct 11 12:47 AM

[davidbdc:]

I think there is value in GGP overall. Whether that is .25 or $25 I don't know. Two things:

1. I absolutely agree with the poster that commented on their single asset entities. I think the lenders to those entities have very good grounds to appeal, and if that was reversed then GGP's "value" would be much less.

2. My skepticism with any GGP valuation is "who is going to buy?". I'm sure they have some prime properties that people will be willing to pay something close to what GGP thinks they are worth. But beyond the top 10-15-20 properties who is going to pay anything above "firesale" prices?

I wish you well with your investment, but I don't think its a slam dunk that GGP comes out with equity holders doing well.

Oct 11 07:44 AM

[6 Moves Ahead:]

You folks on this board scare me to death with your analyses. Where a bankruptcy case of this magnitude is concerned, the only realistic approach for Gropper is analyze the big picture. If you crawl down in the weeds in this case, something's going to bite you.

If Ackman values GGP at $40 per share and he does so using a 7 cap, at this point it's really immaterial because even applying a 9 cap changes your value to say $25 per share. $15 difference per share is a big difference, but when you're buying in at 4 or 5 you're looking at 5 to 6 times your investment.

Regional mall caps are all over the board right now. Why? Because distressed properties are being purchased at bargain prices producing lower cap rates.

European investors are still looking very closely at US real estate because they can buy US real estate at a 32% discount. Sound like a good deal? Damned right it is? European investors are one of the main reasons that the US real estate market is in the position it is right now. The value differential between the currencies is creating great deals for Europeans who can afford to pay more than a property may really be worth which in turn produces a lower cap rate.

So, we have a very wide range of cap rates accross the regional mall sector simply because distressed properties are selling for less, producing higher cap rates, and offshore investors are still creating cap rates at the lower end of the scale.

In the end, the "rating" of the property means squat. If you're going to shell out hundreds of millions of dollars on an income producing asset, that asset simply needs to provide a return that meets the individual investor's expectations. Will the property make money, or won't it? The cash flow has to make sense. Dog properties or ace properties.....doesn't really matter. Don't get particular cap rates in your mind.

For the purposes of the bankruptcy valuation, Gropper will have to use a cap rate that falls in between the lowest of the lows and the highest of the highs. Right now dependable real estate data services are showing rates between 5.5 all the way up to 10.25 with the majority of the indicators falling around the 7% mark. Again.....7%, 8%......even 9%.....you still have a very big value number on GGP. That number undiluted will likely be over $25 per share. Dilute that figure by 50% and you have $12.50 per share - just about 3 times the price right now.

Would you be satisfied with 3005 return on your investment 6 months from now? I would.


On Oct 10 10:07 AM foxadvise wrote:

> Todd, I enjoy your posts and am glad to see the thoughtful and ongoing
> discussions of GGP. Disclosure: I have owned GGP several times in
> the past but do not own presently.
>
> I have spent countless hours over the six months evaluating the individual
> assets of GGP and their performance and relative market position.
> I have done so for my own benefit as well as the benefit of others.
> In doing so, I have developed my own proprietary analysis of GGP,
> including the sales performance, occupancy, net operating income,
> etc.
>
> There are a couple of issues here. The first is what I believe to
> be some assumptions based on the quality of the portfolio of GGP.
> I believe Mr. Ackman overstates the quality of the GGP portfolio
> and the proportion of "A" quality centers as well as the share of
> income derived from this segment of the portfolio.
>
> First though, some background. GGP owns a lot of malls. When I speak
> of malls, I am talking about enclosed, climate controlled malls anchored
> by department stores like Macy's, Dillard's, JC Penney, Sears, etc.
> There are roughly 191 of these in the GGP portfolio. GGP also owns
> roughly 60 strip centers (grocery store anchored and the like). The
> malls contribute the lions share of NOI for GGP. The strip centers
> are rounding error. So let's focus just on the 191 regional malls
> that produce 98% of the income.
>
> In terms of quality, the 191 GGP malls break down roughly as follows:
>
>
> A Class - 29%
> B Class - 22%
> C Class - 26%
> D Class - 23%
>
> Therefore I feel it is misleading to simply refer to GGP as an owner
> of A quality malls. While they do own a large number of A quality
> malls, the majority of the portfolio consists of malls that are less
> than A quality. Also, note that 49% of the portfolio consists of
> C and D quality malls that inherently have the most risk.
>
> Now lets look at income. A rough profile of income derived from each
> segment is as follows:
>
> A Class - 44%
> B Class - 20%
> C Class - 21%
> D Class - 13%
> Non-Mall - 2%
>
> As I said in the beginning, I believe Mr. Ackman overstates the share
> of income derived from A malls and the above shows why. In fact the
> A malls do contribute a substantial proportion of the income - nearly
> half. And, when combined with the B malls, these two groups are responsible
> for almost 2/3rds of the income. However, this places 1/3 of the
> income squarely in the lower echelon of the portfolio that has the
> most risk.
>
> The second issue deals with potential anchor closings over the next
> few years, and is an important one when considering the C and D malls.
> In fact, the anchor stores mentioned such as Bon Ton, Dillard's,
> and Sears are known to have some under performing stores, particularly
> at C and D class malls. While GGP and other mall landlords do not
> derive a significant portion of their income from these stores, the
> department stores anchors collectively form the critical mass which,
> in part, drives sales and traffic to the interior of the mall. The
> interior of the mall, or the in-line malls shops (GAP, Limited, etc.),
> are where mall landlords derive their income. There is an important
> link between strong, healthy department stores and the performance
> and viability of in-line mall shops. This is the theory of regional
> mall development and operation.
>
> The reality is that department store closures are the number one
> leading indicator of regional mall decline and failure. This is well
> documented over the last 20+ years. In short, "as the department
> stores go, so goes the mall." Therefore, if some of these department
> store anchors were to start closing stores in larger numbers (as
> some believe will happen), this will have a significant impact on
> the ability of mall landlords to preserve their income stream derived
> from the in-line mall shops. Lower performing C and D malls also
> tend to have the lower performing department stores and the closure
> of one department store often leads to another and so on and the
> next thing you know, the entire mall is at risk. The in-line mall
> tenants typically have a couple of key co-tenancy provisions written
> into their leases that allow them to cease operation with the closure
> of one or more department stores or when overall mall occupancy drops
> precipitously. This causes the domino effect of department sore closures
> to accelerate the negative impact to the entire property. All this
> is by way of saying that the income stream derived from the in-mall
> tenants (where landlords make their money) is inextricably linked
> to the department stores, for better or for worse.
>
> Back to GGP. Since GGP derives roughly 1/3 of their income from C
> and D class malls, some portion of the income stream is at risk both
> due to the current economic situation and the general decline that
> is ongoing at C and D class properties. You correctly point out that
> A and B malls could in fact be beneficiaries of the decline of C
> and D class malls and I also believe that will be the case in some
> instances. In order to take advantage of the decline of a particular
> C or D class mall, one would also need to own A or B malls in the
> same market in order to be positioned to benefit from that situation.
> It is essentially a local market issue.
>
> The key issue in evaluating GGP or any mall landlord is determining
> which properties are at risk and to what extent and of course this
> includes C and D malls as well as some A and B malls. Some A and
> B malls inevitably transition to C and D malls, although this typically
> occurs over a long period of time.
>
> In short, there is no substitute for extensive due diligence on the
> individual assets in order to determine where the risk lies. That
> analysis is beyond the scope of what I can say here, but much like
> politics, all real estate ends up being essentially a local issue.
> Or in the case of GGP, the sum of 191 local issues.

Oct 29 05:29 PM

[Fitz9:]

Todd, does ackman still own ggp common or solely through swaps? It doesnt show up in the 13F filings.

Oct 30 10:32 AM

[thurston:]

I understood the game plan was to extend maturities on the debt as part of the BK reorganization rather than to sell off the portfolio. Many people hear bankuptcy and assume that it is Chapter 7 liquidation but in this case it is Chapter 11 reorganization. Under that scenario, the company's ability and willingness to pay principle and interest on their debt is what counts. Ackman announced in the media (shortly before he went on the board) that there "would be no fire sales".

The bears on this stock over look one source of value, namely, if GGP can reorganize (extend maturities but other wise pay off the debt) over a period of years then what are these malls and master planned communities going to be worth years from now when inflation is higher and the economy is improved.

Concentrating on what the exact cap rate would be if the entire portfolio were sold right now is very interesting, but if the entire portfolio is not sold right now or any time soon then it is not the primary criterion to use in valuing the stock price.


On Oct 11 07:44 AM davidbdc wrote:

> I think there is value in GGP overall. Whether that is .25 or $25
> I don't know. Two things:
>
> 1. I absolutely agree with the poster that commented on their single
> asset entities. I think the lenders to those entities have very good
> grounds to appeal, and if that was reversed then GGP's "value" would
> be much less.
>
> 2. My skepticism with any GGP valuation is "who is going to buy?".
> I'm sure they have some prime properties that people will be willing
> to pay something close to what GGP thinks they are worth. But beyond
> the top 10-15-20 properties who is going to pay anything above "firesale"
> prices?
>
> I wish you well with your investment, but I don't think its a slam
> dunk that GGP comes out with equity holders doing well.

Nov 08 05:03 PM