Successful investment and turnaround strategies for distressed mall properties

By Larry Feldman

Abstract:

This article addresses the formulation and implementation of successful turnaround strategies for distressed retail properties, including key characteristics for potential investment candidates, capital improvement programs and re-tenanting programs designed to make mall properties less susceptible to the loss a major anchor tenants. Attracting and enhancing entertainment oriented anchors, improving visibility of key tenants, weeding out unhealthy, low volume or unprofitable stores and attracting junior anchor tenants to effectively "Wal-Mart Proof" mall properties will also be addressed.

INTRODUCTION

Feldman Equities has been very successful with a strategy of investing in distressed enclosed retail malls. Most real estate investors have avoided mall turnaround plays for a variety of reasons, ranging from the fear of retail bankruptcies to the Wal-Mart juggernaut theory.

The mall landscape is littered with the names of once great department stores that have succumbed to bankruptcy or are in the middle of down-sizing in an effort to keep afloat. Many malls have suffered substantially as Wal-Mart and Target continue to roll out their superstores. There are approximately 1,200 enclosed retail malls in America and a rough estimate is that one fourth of these malls are in trouble, at least to some degree. Some malls are witnessing eroding market share while others are experiencing massive vacancies and foreclosure.

Typical candidates for the Feldman turnaround strategy are enclosed malls of 500,000 square feet and above that require gross investments (including debt, equity and upgrade costs) ranging from $25 million to $150 million. In almost all cases, the total costs of acquisition and renovation result in a total redevelopment cost well below replacement cost.

Distressed malls can be acquired and renovated at far below replacement cost, and these malls are often in very good locations. We approach each mall situation by coming up with a comprehensive strategic turnaround plan. The strategic plan almost always involves devising a strategy of "Wal-Mart proofing" the mall through an aggressive leasing campaign. The number one objective of the leasing campaign is to seek out new anchors and specialty retailers that don’t compete with Wal-Mart or the typical power center down the block.

Our strategy involves attracting the right mix of specialty retailers which offer specialized products, not available at Wal-Mart. The strategy also combines these specialty retailers with an entertainment anchor such as a multiplex theater and a series of upscale restaurants.

EXECUTING THE FELDMAN TURNAROUND STRATEGY

In 2003, Feldman acquired the foreclosed Harrisburg Mall in Harrisburg, PA from Prudential Insurance. Concurrent with the acquisition, Feldman signed two new anchor leases and renewed a lease with a third anchor totaling over 590,000 sq. ft. The new tenants include Bass Pro Shops, which signed a long-term lease for space vacated by Lord & Taylor. Bass Pro is renovating and expanding the former Lord & Taylor store to convert it into a spectacular super store consisting of approx. 200,000 sq. ft. of fishing and hunting products. Excluding their flagship store, the Harrisburg store will be the largest Bass Pro store in the nation. Boscov’s department store also signed a long-term lease for the former JC Penney store.

In addition, an existing tenant, Hecht’s (a division of the May Company – NYSE: MAY), made a long-term commitment to the mall and extended their lease to 2024. The expansions of Bass Pro and Boscov’s will result in an overall mall size of over 900,000 square feet.

Because of the new tourism-related jobs that will be created and the taxes that will be generated, Feldman arranged for a multi-million dollar grant from the State of Pennsylvania, as well as special tax incentives from Swatara Township, Dauphin County and the local school district. In addition, Feldman arranged for the Pennsylvania Department of Transportation (PENNDOT) to provide a direct exit ramp to the property from Interstate 83.

The purchase price, including buildings & land was $17.5 million or $20.88/sq. ft.

HISTORY OF THE HARRISBURG MALL

Kravco built the mall in 1969 and then sold it to a publicly traded trust controlled by Kravco & Equitable Life. Following EQK’s bankruptcy in 1999, the mall was put up for auction. There were no bids, so the mall reverted back to Prudential (the lender) who secured title to the mall with a total debt in excess of $45 million. In May 2001, JC Penney vacated their store (this store has just been leased to Boscov’s).

Prior to Feldman’s acquisition, the JC Penney vacancy, combined with the Lord & Taylor vacancy, brought the mall to an effective occupancy of 50%. The property was in grave danger of being demolished for land value.

The following is a summary of the Harrisburg Mall transaction:

- A 225,000 sq. ft. lease was signed with Bass Pro Shops. Bass Pro is one of the strongest sporting goods retailers in the U.S. The typical Bass store averages over $400 per square foot per annum in sales. The key reason for this very high level of sales is the fact that Bass Pro Shops is also an entertainment destination. The Harrisburg store will feature a 40,000 gallon aquarium, rock climbing walls, waterfalls and an indoor shooting & archery range.

- The typical store draws up to 3,000,000 visitors annually. That figure will make it the largest tourist destinations in the state of Pennsylvania.

- Approx. 40% of Bass customers travel an hour or more to get to the store.

- Boscov’s has commenced renovation and expansion of an 185,000 sq. ft. department store. With over $1 Billion in sales, Boscov’s is one of the most successful department stores in the country and is a major advertiser in the Pennsylvania market. They successfully compete with all major discounters.

- Bass Pro Shops is expected to sharply increase shopping traffic to the Mall. Estimates are that overall visitor traffic to the mall will increase tenfold from present levels.

- Boscov’s, Bass Pro Shops and the May Company have all signed long term leases with long term operating covenants.

- The tax incentives and the multi-million dollar grant from the state, will allow the property to undergo a massive exterior and interior renovation. Over $32 million in hard costs are being expended to upgrade the mall.

ENHANCING ENTERTAINMENT ANCHORS

The following is another example of how Feldman executes on its strategy: Feldman Equities signed a contract to acquire the Foothills Mall in Tucson, Arizona in late 2001. Foothills Mall is a mid-sized mall with a series of junior anchor tenants such as Linens ‘N Things, Saks Off Fifth Ave., Barnes and Noble, a large Nike Factory Outlet store, Ross Dress for Less and a 15-screen Loews Cineplex Theatre.

Foothills Mall is located in one of the hottest growth markets in the United States, in the northwest suburbs of Tucson. However, the mall previously suffered from lackluster shop sales. In spite of mediocre shop sales at the time the mall was purchased, the mall was home to one of the most successful movie theatres in the state of Arizona.

During any given week, the Loews cinema at Foothills Mall is attended by tens of thousands of patrons. However, the bulk of these patrons enter and exit directly through the theater’s existing parking lot entrance and most theater patrons never enter the mall. With the objective of sharply driving up tenant sales, Feldman Equities concluded a very creative real estate deal which involved providing $4 million to the theater operator, Loews Cineplex, in order to facilitate conversion of all 15 theaters to full stadium seating. In exchange, the existing parking lot entrance will be closed off, and the only entrance to the Loews Theater will be through the mall. The conversion to modern stadium seating is expected to boost box office attendance, and the redirecting of all of Loews patrons into the interior of the mall, is expected to have a dramatic effect on overall mall pedestrian traffic. As a result, shop sales throughout the mall are expected to increase sharply.

Over the last several years, when terrorism and war threatened and travel seemed risky, when the economy faltered and the stock market swooned, here's what Americans did: They went to the movies. Last year, Americans went to the movies, and went again, and then went some more. In 2003, America’s love affair with the movies continued unabated, with ticket sales approaching the $10 billion mark despite continued uncertain economic times. Our strategy assures that the Loews Cineplex at the Foothills Mall will continue to be the finest movie facility in Tucson, and an entertainment destination for years to come.

RETAIL EXPANSION AND PAD SITE DEVELOPMENT

In addition, in just two years, Feldman Equities has arranged for the development of five of six available pad sites at the 508,000 sq. ft entertainment and retail center, creating over 50,000 sq. ft. of new retail space for tenants such as Thomasville Furniture, Fox & Hound Smokehouse, Compass Bank, Starbucks and the Arizona Central Credit Union. Occupancy at the Foothills Mall has climbed up over 97 percent, with predominantly national credit tenants, and comparable shop tenant sales are growing at double-digit rates.

In addition to the renovation of the Loews Cineplex, two new mall expansions were constructed at Foothills consisting of 26,000 square feet. The expansion areas were leased to Famous Footwear, a discount shoe retailer, Payless Shoes, Radio Shack, EB Games and a series of smaller specialty retailers. The mall is also undergoing a major renovation of its food court and the food court entrance, and its northwest entrance. Selected mall corridors and ceilings were also upgraded for greater customer visibility. A new entrance was built at the mall’s south end, and an all new sign package was being installed at the mall’s entrances, including a 28 foot main entrance sign with an LED reader board.

A few of the key highlights regarding Foothills Mall are as follows:

- The mall is located in the rapidly growing, high-income Northwest Tucson.

- Adjacent to a 210,000 sq. foot super Wal-Mart with annual sales of $100 million

- A new community college was just built less than a quarter-mile away. The campus will initially accommodate 5,500 students and is ultimately sized for 7,000 students.

- One of the mall’s key access roads has just undergone a major widening.

- Tourism is a $2 billion a year industry in Tucson and the mall’s location is ideal for capturing a significant portion of Tucson’s tourist trade.

- A 2.5% unemployment rate in Tucson is due to the highly affordable housing and a well educated and relatively younger worker force.

- Population in a 5-mile radius grew 33% from 1990 to 2000.

ATTRACTING JUNIOR ANCHOR TENANTS

Feldman Equities also likes to fill its malls with a series of junior anchors with specialty products not found at Wal-Mart stores. This strategy solves three problems at the same time. First, by filling the mall with a series of "big-box" specialty retailers as anchors, the mall is less dependent on traditional department stores that have been steadily losing market share to the discounters. Also, by filling the mall with a series of smaller junior anchors, the solvency of the mall is less threatened by the potential bankruptcy of a large department store or a decision by a department store to shut down a particular location. Second, by converting the movie theater to stadium seating and redirecting the patrons inside the mall, the mall has a distinctively different, "Wal-Mart proof," entertainment-oriented make-up. Third, the cinema anchor has attracted a major base of restaurant tenants such as Outback Steak, Applebee’s, and a host of other local and regional restaurant operators.

Attracting the right tenant mix is just part of the Feldman turnaround strategy. Effective capital investment is also key to the success of a mall turnaround. These investments vary from project to project, but include a) the renovation of exterior façade of the mall, (b) the renovation of the mall entrances, (c) an upgrade to the mall’s common area corridors and lighting, (d) the mall’s entire parking lot will be resurfaced and re-striped and (e) the mall’s signage will be significantly upgraded.

In addition to renewing profitable high-volume tenants at the best possible market rents, the re-leasing process also includes weeding out unhealthy, low volume or unprofitable stores in a proactive way that allows failing tenants to cut their losses by buying out of their leases and applying the resulting short-term income towards incoming tenant inducements.

Successful mall turnaround also includes improving visibility of key tenants, constructing new entrances or implementing ways to improve shopper circulation throughout the property. It also involves intensive marketing programs geared to the local trade area and promotional activities that assure a constant flow of events occurring at the mall, such as musical performances, sports promotions, radio station events and hosting other civic and charitable functions.