Sears bankruptcy gives landlords opportunity to refresh their malls

New York

THE real estate investment trusts (Reits) that own the malls and shopping centres where many Sears stores are anchor tenants have waited years for the US retailer's demise to renovate the sites and boost rent, although redevelopment costs may strain some plans.

Most large US malls are controlled by Reits. In recent years, the Reits have cut their exposure to Sears Holdings, which filed for Chapter 11 bankruptcy on Monday.

Sears, the parent company of Sears, Roebuck and Kmart, said that it plans to close 142 of its 700 stores.

Sears now accounts for less than one per cent of many Reits' base rental income. Gaining control of vacated sites will be costly, and rebuilding the stores can run about US$10-12 million, or about US$100 per square foot (psf), for each site.

But most Reit shares gained on Monday as investors focused on the potential benefits of the Sears bankruptcy.

The Reits have looked forward to a bankruptcy to remove the eyesore of many Sears stores. They also will be able to raise rents in contracts sometimes signed more than 20 years ago with extension options that have kept leases very low.

Shares of mall Reits have fallen in recent years as investors feared that online shopping would eliminate the need for many brick-and-mortar stores and as rising interest rates add to funding costs.

Besides Sears, retail bankruptcies such as Toys R' Us and Bon-Ton Stores created vacancies.

But rents have risen in the best locations, and a bankruptcy like Sears poses an opportunity for landlords to refresh their properties with new or better tenants, provided they win control of the sites during Chapter 11, which can be complicated.

"What they've always said to me, we certainly are happy to get back the boxes," said Haendel St Juste, a Reit analyst at Mizuho Americas in New York.

Simon Property Group, the largest US mall operator, has 59 Sears Holdings stores in its malls, the most of any Reit, but its exposure to the bankruptcy is "de minimis", he said.

Leases with new tenants could easily double or triple the rent that Sears or Kmart now pay, the Reits said. Kmart merged with Sears in a 2005 deal.

A Kmart that was demolished on Staten Island, New York, will result in rents 727 per cent higher when the site opens with new tenants in 2020, Kimco Realty said in a statement on Monday, a sign of the upside the bankruptcy offers.

"It's not been a surprise but it's been frustrating that it's taken so long," David Bujnicki, in charge of investor relations and strategy at Kimco, said in an interview of the long-expected bankruptcy.

Simon Property, Macerich and a recently acquired unit of Brookfield Property Reit all tried to buy Sears sites or their leases so that they would not become an asset in bankruptcy, said Eric Rothman, a portfolio manager at CenterSquare Investment Management.

The Reits have desired a bankruptcy because it will allow them to vastly improve the properties, he said. "It is going to be expensive, in some cases, to redo these boxes, but that's just part of being a landlord," he added.

The S&P 500 closed down 0.6 per cent lower while the S&P 500 real estate sector gained 0.51 per cent. Kimco shares rose 1.2 per cent and Macerich stock rose 0.82 per cent. Simon Property shares fell 0.09 per cent.

A reorganisation will keep rental income flowing but some locations are so valuable that outside investors could gain control of a site in an auction and not the Reits that are now Sears' landlords, Mr Rothman said.

The redevelopment of a Sears site at Kings Plaza in Brooklyn in New York, which opened in August, cost Macerich US$100 million, including the asset's purchase.

But the Reit said that the four stores now at the site are doing well and calls the redevelopment a "game-changer".

Kimco has been waiting to "recapture" Sears locations to either put in new tenants and lift rents to market prices or to start a redevelopment within the shopping centre itself, Mr Bujnicki said.

Kimco earned just 0.6 per cent of its annualised base rent from the 14 Kmart and Sears stores in its portfolio of 460 open-air shopping centres.

Sears' average rent was US$5.25 psf, the lowest among Kimco's top 50 tenants. The average tenant pays US$15.95 psf, Mr Bujnicki said.

Sears' real estate footprint also is one of Kimco's largest, creating the opportunity to add more tenants.

"The economic impact is actually a positive, even though it feels hard to believe that it would be, but it is," Mr Rothman said. REUTERS