Monopoly Mania In The Mall REIT Sector
- I will make the case for why two companies in particular are prime acquisition targets.
- First I want to give you a little history as it relates to who might be the perfect buyer.
- It’s difficult to opine whether Simon would take a run at PEI, but it’s obvious that BPY is stepping up its game to become a mall consolidator.
There’s no denying the retail industry is evolving, and with that we are seeing increased consolidation in the world of real estate.
But I also think there’s plenty more to come, and for good reason. As less profitable malls are shut, there’s less of a need to have so many cooks in the kitchen, or retail REITs in this case. I will make the case for why two companies in particular are prime acquisition targets, but first I want to give you a little history as it relates to who might be the perfect buyer.
In 2010, the largest mall owner in the U.S., Simon Property Group (SPG), tried to buy General Growth Properties, the second largest mall owner in the country at the time. GGP had just filed for Chapter 11 bankruptcy protection roughly one year prior, unable to take care of a $27 billion debt load.
Instead of taking Simon’s offer, though, GGP ended up working with Brookfield Asset Management (BAM), which agreed to invest $2.625 billion in equity to help the REIT recapitalize and emerge from bankruptcy.
When Simon’s bid was passed over, CEO David Simon said:
I am confident in our ability to grow the business as we have done historically. We will continue to focus on our business and evaluate other opportunities in the marketplace as we always have: prudently, in a disciplined manner, and in the best interests of our shareholders.
Fast forward to today, and GGP has now been gobbled up and put under the arm of Brookfield Property Partners (BPY). Just last week on an earnings call, Brookfield said it planned to convert at least 100 GGP malls into “mini cities” and will spend as much as $1 billion each year for the next few years to reposition those assets, adding hotels and office spaces.
So while Simon can’t get his hands on GGP malls, it would make sense for the gigantic mall REIT to consider two other strong — and not huge — portfolios of malls run by Macerich (MAC) and PREIT (PEI).
Both of these REITs have focused over the years on trimming their portfolios – getting rid of underperforming malls – to leave them with stronger balance sheets. However, the benefits of scale and cost of capital – the most critical levers for REITs – are less than impressive for PEI and MAC, and we are questioning whether they can continue without either (1) a public-to-public merger with a larger and well-capitalized REIT like Simon, BPY, or Starwood Property (STWD) or (2) a private deal with a company like Blackstone (BX).
In order to sustain and grow dividends, we believe that it’s important for any company to build a wide moat, and we simply do not believe PEI or MAC will exist without scale. Looking back at REIT performance over the last several decades, it becomes clear that the most successful companies (i.e. Federal Realty (NYSE:FRT), Realty Income (NYSE:O), and National Retail Properties (NYSE:NNN)) have put up the best numbers because they have designed their blueprint around these two critical levers.
In this article today I will examine both REITs (PEI and MAC) in order to demonstrate the fact that economies of scale can provide meaningful value that in turn translates into sustainable economic profits.