From a small northwestern observatory…

Finance and economics generally focused on real estate

Posts Tagged ‘Sears

Sears on life support

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I write mainly about real estate, and while the glass has been more than half full these past few years, the recent announcements from Sears are troubling, to say the least.   For those not keeping up with such things,  In their most recent annual report, Sears made a “going concern” announcement, which essentially said that there is a reasonable chance they will not survive as a going concern for another year.

This is a massive problem, and the real estate issued will take years to sort out.  Sears has announced some steps to try to address this, including selling off real estate, selling key brands (Kenmore, Craftsman) and shutting badly performing stores.  However, they’ve already been doing this for years.  Craftsman is now owned by Black and Decker, they’ve been shutting stores for over a decade, and they formed Seritage REIT several years ago (in no small part owned by Warren Buffett) to monetize their real estate holdings.

As of the most recent reports, Sears runs about 1500 stores in the U.S., mostly under the mastheads “Sears” and “K-Mart”.  They employ 178,000 people, and had revenue of $22 Billion in 2016.  They’re bleeding cash, losing about $1.2 Billion in cash in the past 2 years.  Their net equity now stands at negative $3.8 Billion, according to recent reports.  At an average store size of about 100,000 square feet, they operate about 150 million square feet of retail space, which will be a real problem to deal with.  (I’m writing this while sitting in my office in Key West.  There are 5 big “anchor tenants” of shopping centers in Key West.  Three are groceries, and the other two are owned by Sears.)

Dumping 150 million feet of retail floor space into the market is a pain any way you look at it.  Currently, new retail construction in America is about half that.  However, this “new retail construction” includes a lot of stuff that doesn’t look like an old Sears or K-Mart store.  Indeed, repositioning big-box and anchor tenants can be a daunting challenge, and often the best use is demolition of the structure and repurposing of the vacant site.  Losing a big anchor retailer can blight an entire shopping center and need an entire large neighborhood.

One might suggest that a leaner, meaner Sears could be in the offing.  In someone’s dream world, Sears and K-Mart might retrench to half their current size — say 700 or 800 stores.  This is still a big problem, but at least kicks some of the cans down the road.  I’m a real estate guy, not a retail guy, but I think the problems of running a small chain of big, diversified retailers is pretty obvious.  Distribution, financing, and brand management will all die on the vine.  No, Sears and K-mart have bigger problems.  Sears tries to sell to a slice of the market that doesn’t shop much anymore (your grandmother) and K-Mart tried to be Wal-Marts scruffy little brother.  Neither of these retail strategies work very well.

We’ll see how this turns out, but the complexity of a Sears bankruptcy will keep real estate consultants busy for years to come.

Written by johnkilpatrick

March 24, 2017 at 8:20 am

The long lost shopping mall?

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Common wisdom holds that the shopping mall is on life support.  I venture into maybe one or two a year, and my most recent ventures weren’t very encouraging.  Two recent Wall Street Journal articles illustrate the complexity of repurposing.

First, in a January 24th article by Ester Fung, “Mall Owners Rush to Get Out of the Mall Business”, the Journal notes that even the big-names in the biz are making use of strategic default to get rid of underwater properties.  Citing data from Morningstar, the story detailed that from January to November 314 loans secured by retail property were liquidated, totaling about $3.5 billion.  According to the story, these liquidations resulted in losses of $1.68 billion. Washington Prime, CBL and Simon have all sent properties back to lenders in recent months.  Ironically, these big players have seen no dings to their credit ratings, and the equity market in fact views these put-backs as evidence of financial discipline.  On the downside, surrounding properties, such as out-parcels and other nearby retailers, such as restaurants, that depend on spillover from the mall, are suffering from the loss of shopper attraction.

One alternative to strategic default is a revamping of the real estate itself.  This often includes attracting a new or new type of anchor tenant or demolishing the mall entirely to make way for offices or apartments.  Unfortunately, as detailed in a February 14 WSJ piece by Suzanne Kapner, existing tenants often have covenants or restrictions standing in the way of such revamping.  In “Race to Revamp Shopping Malls Takes a Nasty Turn”, Ms. Kapner outlines how many department stores want to protect existing parking or existing exclusivity through “reciprocal easement agreements”.  For example, large swaths of unused parking space have value for repositioning.  However, as Gar Herring, chief executive of the MGHerring Group, a regional mall developer, put it, “But if you want to put a snow cone shack in a parking space furthest from the mall, you need the agreement of every department-store anchor.”  Currently, for example, Sears is suing a mall developer in Florida to prevent it from adding a Dicks Sporting Goods as an anchor. Lord & Taylor filed suite in 2013 to stop a Maryland mall’s demolition to make way for offices, residential properties and a hotel.  The retailer claimed violated an agreement signed in 1975 that prevents the landlord from making changes to the property without its consent.

The shopping mall is three different things.  From a consumer perspective, it’s a place of gathering and  consumption.  Indeed, the loss of the shopping mall, which replaced Main Street, has sociological implications as well.  Does Amazon.com now become a place of gathering as well as consumption?  That’s an interesting subject for another day.  Second, from a business perspective, the mall is a bundle of contracts, and sorting through those contracts will keep lawyers and real estate experts busy for some years to come.  Finally, a shopping mall may be, in some circumstances, a valuable piece of real estate.  Repositioning that real estate, either as retail with different tenants and focus, or as something other than retail, will be an interesting story in the coming years.

Real Estate Marketing Focus

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I’ve observed over the years that real estate investors, developers, and such try to aim for the “middle”.  It’s a defensive strategy.  Lots of community shopping centers got built before the recession hit, not because they were hot or trendy or even hugely profitable, but because they were generally considered to be “safe”.  The same was true with single family subdivisions, all of which looked pretty much alike by 2006.  Lots of “average” apartments were built, Class B to B+ office buildings (some of which marketed themselves at Class A, but could get away with that only because of demand), and plain, vanilla warehouses were added to the real estate stock.

Now that we’re (hopefully!) coming out of a recession, it may be a good time to dust off some basic truths about business in general as it applies to real estate.  Sure, there’s a very strong temptation to rush to the middle again, and in the case of apartments (for which there is a demonstrably strong demand right now), that may not be a bad idea.  Nonetheless, I recall one of the great pieces of advice from Peters and Waterman’s In Search of Excellence: “average” firms achieve mediocre results.  The same is frequently true in real estate.

Case in point — there was a great article on page B1 of the Wall Street Journal yesterday titled “The Malaise Afflicting America’s Malls”. by WSJ’s Kris Hudson.  (There’s a link to the on-line version of the article on the WSJ Blog.)  Using Denver, Colorado, as an example, they note how the “high end” mall (Cherry Creek Shopping Center), with such tenants as Tiffany and Neiman Marcus is enjoying sales of $760/SF.  At the other end of the spectrum, Belmar and the Town Center at Aurora are suffering with $300/SF sales from lower-end tenants.  Other malls in Denver are shut-down or being demolished and redeveloped.  For SOME consumers and SOME kinds of products, in-person shopping is still the normal.  It’s hard to imagine buying a truck load of lumber from Home Depot on-line (and Home Depot has done very well the past few years), although even they have a well-functioning web presence for a variety of non-urgent, easily shipped items.

I noted recently that some private book sellers are actually doing well in this market, and have partnered with Amazon to have a global presence.  (We buy a LOT of books at Casa d’Kilpatrick, and nearly all of them come from private booksellers VIA Amazon’s web site.)  On the other hand, it’s hard to imagine buying couture fashion over the web.  Intriguingly, Blue Nile, the internet-based jeweler, notes that their web-sales sales last year (leading up to Christmas) were great at the both ends of the spectrum, but lousy in the middle.   Stores like Dollar General, who aim for a segment of the market below Wal Mart, have done quite well in this recession (the stock has nearly doubled in price in the past two years).  Ironically, Wal Mart, which is increasingly being viewed as a middle-market generalist retailer, hasn’t fared as well.  Target, which seems to aim for the middle of the middle of the middle, has seen it’s stock price flat as a pancake for the past two years, and Sears, the butt of so many Tim Allen jokes, is trading at about half of where it was two years ago.  These lessons are being lost on some retail developers, but being heeded by others.  Guess who will come out on top?

So, who needs offices, warehouses, and other commercial real estate?  Businesses at the top, middle, or bottom?  If we follow the adages of Peters and Waterman, we’ll expect the best growth — and hence the most sustained rents — at the top and bottom of the spectrum.  (Indeed, even in apartments, one might build a great case that the best demand today is at the low end and high end).  However, we’re willing to bet that developers will aim for the middle, as always.