Pennsylvania Real Estate Investment Trust: Buying This $5 Turnaround REIT Play

|
About: Pennsylvania Real Estate Investment Trust (PEI)
by: Chris Katje
Summary

Pennsylvania Real Estate Investment Trust has two exciting catalysts for the remainder of 2019.

Opening of Fashion District is a major catalyst and will be the biggest property in the portfolio with strong financials.

Replacing anchor tenants with a mix of properties has increased traffic and created higher rent payments to PEI.

Over 700,000 square feet of retail has been signed for 2019 and 2020 that will increase rent for the company.

Multifamily unit opportunity is a potential growth piece down the road.

Over the last year, investors have watched shares of mall operator Pennsylvania Real Estate Investment Trust (PEI) fall from $10 to less than $5 a share. Shares have lost more than 80% of their value since 2016. The company has underwent a transformation to sell off some properties and revive others. While investors seem to be factoring the worst case scenario for the company and a pending dividend cut, I'm actually going long in this speculative turnaround play as I believe there are a couple catalysts to make shares break out.

They say "buy what you know". Full disclosure that I work inside a restaurant that is located inside one of Pennsylvania Real Estate Trust's malls. While that doesn't get me inside information on PEI, it does allow me the reminder five days a week as I drive past the newly constructed Von Maur, Cheesecake Factory, and REI, that the company's malls are replacing old anchor stores with new properties that will pay more in rent and provide better diversification protection against future bankruptcies of retailers in the future.

One of my favorite facts and figures is when discussing what the redeveloped areas pay compared to old anchor store. On its most recent earnings call, PEI said it has reinvented 13 department stores that were paying less than $2 per square foot with tenants that pay an average rent of $17 per square foot. An example of this is the Plymouth Meeting redevelopment. A closed Macy's makes way for Dick's Sporting Goods, Burlington Stores, Michael's, Miller's Ale House, and Edge Fitness. These stores will deliver an estimated four times the sales volume as Macy's and also allow PEI to make more in rent than it did from Macy's for the same space.

(Photo: June Presentation)

Along with the higher rent, PEI continues to diversify its customer and type of store base. The top 20 tenants now include TJX, Regal Cinema, and Dave & Buster's thanks to redevelopments. Not counting department stores, 45% of the portfolio is open air and experiential tenants.

Redeveloping portions of the malls also drives traffic. In its June presentation, PEI said traffic was up 7% at properties with replaced anchors during the Easter season. For the first six months of the year, traffic was up at four of the company's malls that had replaced department stores with a new mix of tenants:

  • Capital City Mall: +9.4%
  • Moorestown Mall: +5.7%
  • Mall at Prince George's: +2.3%
  • Valley Mall: +2.1%

Here is a look at the current portfolio of PEI. Figures taken from the company's website:

Mall

State

Size (square feet)

Inline GLA (Gross Leasable Area) in square feet

Sales per Square Foot

Percent Occupancy

Cherry Hill Mall

NJ

1,306,000

689,000

690

94.7

Plymouth Meeting Mall

PA

948,000

479,000

326

91.7

Mall at Prince Georges

MD

914,000

437.000

558

98.4

Springfield Town Center

VA

1,300,000

700,000

552

93.4

Willow Grove Park

PA

1,179.000

376,000

726

94.4

Fashion District

PA

1,474,000

NA

NA

NA

Woodland Mall

MI

1,170,000

444,000

579

98.4

Capital City Mall

PA

614,000

290,000

434

98.5

Cumberland Mall

NJ

943,000

404,000

387

86.5

Dartmouth Mall

MA

670,000

322,000

522

98.3

Exton Square Mall

PA

1,088,000

371,000

342

74.8

Francis Scott Key Mall

MD

755,000

394,000

373

91.8

Jacksonville Mall

NC

495,000

253,000

501

99.9

Moorsetown Mall

NJ

1,068,000

335,000

410

92.3

Magnolia Mall

SC

620,000

276,000

464

98.6

Patrick Henry Mall

VA

717,000

297,000

417

94.7

Springfield Mall

PA

611,000

223,700

404

96.8

Valley Mall

MD

914,000

389,000

410

96.4

Viewmont Mall

PA

768,000

242,000

429

97.8

Wyoming Valley Mall

PA

910,000

318,000

377

87.2

As you can see from this table, the company's mall sizes and sales per square foot are all over the place. The good news is the majority of the mall are in the high 90% for occupancy rates.

The chart above also shows the new Fashion District, set to open soon in Pennsylvania. The 1,474,000 square feet makes it the largest property in the portfolio and will act as a major catalyst when it opens and as it stabilizes with full occupancy. Back in June, the company announced that 85% of the occupancy was committed. The property is a partnership between PEI and Macerich. The $400 million project that takes up three city blocks began in 2014 and has been under construction since 2016. According to this article, there will be 838,000 square feet of retail space, which would make it the largest property in that aspect for PEI. The company has referred to it as its "marquee project" for some time, so that shouldn't be a huge surprise of how important it is.

The Fashion District Mall is expected to open September 19th with around 65% of tenants. An additional 20% will be open within the first half of 2020. An AMC movie theater is set to open in November, which will be the first movie theater to open in Center City in 30 years. On its second quarter earnings call, it was announced that 90% of the Fashion District property has been signed or is in negotiation. A City Winery and Round 1 Bowling and Amusement are among the other high marquee restaurant and entertainment options that help PEI believe Fashion District "will be a gathering place for Philadelphians". Over 35 million people are expected to visit Fashion District annually. PEI believes sales per square foot will be around $700 at Fashion District, which would make it the highest in the company's portfolio.

Springfield Town Center was also highlighted this year as a potential catalyst. The property is strategically located at the intersection of several busy freeways in the area. Over 550,000 cars pass the area daily. An influx of workers and people living in the area will happen soon with the opening of Amazon HQ2 and a new TSA facility. These new jobs should increase the amount of traffic the mall gets and also allow PEI the ability to raise occupancy and also charge more for rent. The mall is two metro stops from the Amazon HQ2 and the TSA facility is located next to the mall. The area continues to grow in population and is considered the third most affluent county in the United States.

The company has 697,000 square feet of properties signed for the future, excluding Fashion District Mall. That total is made up of 499,000 square feet in 2019 and 198,000 square feet in 2020. This is expected to add $11.4 million in annual gross rent in 2019 and $3.6 million in 2020.

(Photo: June Presentation)

Another area that Pennsylvania Real Estate Investment Trust is pushing into is multifamily units. This is an area that doesn't have a ton of value right now, but bears watching. The company believes it has the opportunity to add over 5000 multifamily units and over 2000 hotel rooms. These malls are in high traffic areas and the real estate would be valuable for this venture. In some areas, this expansion comes from existing owned real estate adjacent to malls that is not being used. In other areas, this could come from taking out portions of parking. In June, PEI estimated that the multifamily land value alone was worth $1 to $2 a share.

At the end of July, PEI reported second quarter earnings. The company saw same store sales rise 5.7% in the second quarter. Sales per square foot hit $531 in the quarter. Sales per square foot at the top six properties rose 5.3% to $633. Core mall occupancy was 93.7% and average renewal spreads were +6.1%. Adjusted funds from operation were $0.24 per share. Traffic at redeveloped malls was up 5% in the quarter. The company did revise its full year forecast. PEI now sees adjusted funds from operation hitting a range of $1.20 to $1.30 for the full year, which is lower than previously forecasted.

Investing in Pennsylvania Real Estate Investment Trust comes with many risks. The decline of retail and many anchor stores stands out as the biggest one. The company has watched closures of Sears, Macy's, and other retailers hurt its overall portfolio. PEI also has exposure to additional Macy's and JCPenney stores that could also be closed in the short or long term.

In regards to JCPenney, PEI believes it is okay in the short term. All 13 JCP in the core portfolio have Sephoras in them and appear to be doing well. The company says there is not concern of imminent closings of JCPs in the portfolio. Back on the first quarter earnings call, PEI did mention it had three JCPenney options exercised in the quarter. As mentioned above, the closing of anchor stores has actually acted as somewhat of a positive, as the transformation of each closed anchor brings new tenants paying higher rent and attracts new people to the mall. While no mall is wishing for its anchors to close, PEI is demonstrating here that you can move on from losing anchors and still produce a high traffic mall and high occupancy of tenants.

Another big risk for PEI shares that I touched on in the intro is the dividend. Currently, shares yield over 18%, but that is likely to change. In fact, PEI mentioned a coming dividend cut on their last earnings call. The company said it anticipates a reduction "to a reasonable payout level" in 2020. The current dividend passed a payout ratio higher than 100%. This does mean shares could fall on the dividend cut announcement, even though it is highly expected. Although shares could also rise if the cut is perhaps less than some feared, which could keep some income investors in PEI for the long run.

(Photo: June Presentation)

A high level of debt is also a major concern for an investment in PEI. The company has no material debt maturities until 2021 and as the chart above demonstrates has a couple of years to come up with some plans to tackle the tough years of maturity from 2021 to 2023. Cutting the dividend as mentioned could be a major step in beginning to address the debt situation.

(Photo: June Presentation)

Since 2012, PEI has undergone a transformation that started with a new management team. The picture above illustrates where the company was back in 2012. Since then, the company has sold off some of its underperforming malls. The next phase for the company is "densification", which is the company's strategy of adding multifamily units as mentioned above. The specific target mentioned is 5000 to 7000 units in the Philadelphia and Washington D.C. markets.

The addition of Fashion District and the redevelopment of Woodland Mall serve as major catalysts to end out 2019. The addition of 697,000 additional square feet of already signed rented properties adds to 2019 and 2020 shaping up nicely. This is a company that has put a nice plan in place and everything going forward is looking good. Add in the multifamily opportunity and you have a stock that is undervalued and pricing in more failure than success. Dividend cuts and debt risks are concerns, but should not keep people away from this great REIT.

Disclosure: I am/we are long PEI. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I work inside a restaurant inside a PEI property. I am not employed by PEI.