The COVID-19 outbreak delivered a crushing blow to financially challenged retailers. Several filed for bankruptcy while many others closed locations to help stop the bleeding. That had a significant impact on their landlords as they struggled to collect rent. As a result, many retail real estate investment trusts (REITs) had to suspend their dividends while two notable mall REITs filed for bankruptcy.
Unfortunately, the worst might not be over for the sector. Case counts are surging across the country, forcing governments to enact new restrictions on nonessential businesses. That has credit rating agency S&P Global (NYSE: SPGI) worried about what's ahead for the sector as it sees trouble brewing for seven REITs. Here's a closer look at the REITs that it believes are in for a dark winter as the world waits for vaccines to save the day.
Common areas of concern
S&P Global found that CBL Properties (NYSE: CBL) and PREIT (NYSE: PEI) -- the two mall REITs that filed for bankruptcy -- had six common characteristics. These included:
- A high percentage of anchor tenants that had declared bankruptcy.
- A decline in building permit activity.
- Slumping foot traffic.
- Elevated debt levels.
- Declining cash flow.
- A high proportion of non-anchor tenants that had filed for bankruptcy.
Unfortunately, the credit rating agency found these characteristics in varying degrees at five additional REITs:
- Macerich Co (NYSE: MAC)
- Brookfield Property REIT (NASDAQ: BPYU)
- Washington Prime Group Inc. (NYSE: WPG)
- Simon Property Group (NYSE: SPG)
- Taubman Centers Inc. (NYSE: TCO)
Unsurprisingly, all seven of these REITs focus on owning regional malls.
One issue impacting the sector and raising a red flag for S&P Global is that all seven of these REITs reported a significant decline in foot traffic during October, ranging from a 2.35% decline across Washington Prime's locations to a concerning 27.34% drop at Taubman Centers’ malls. Meanwhile, all seven of them have high vacancy rates ranging from 8.27% at PREIT to 10.72% at Taubman. Further, a significant portion of their respective tenant bases filed for bankruptcy this year, ranging from 8.8% of Simon Property's rent roll to 15.3% at Macerich, suggesting that vacancy rates could continue rising in the coming months.
It's not all bad news
While all seven mall owners share the same common concerning characteristics, it doesn't mean the entire sector will end up in bankruptcy. That's because most are in better financial shape than CBL Properties and PREIT. For example, Taubman Centers and Simon Property have much better leverage ratios, with the latter still boasting A-rated credit. That suggests they have the financial resources to meet their obligations even if market conditions weaken further.
Meanwhile, Brookfield Property's free cash flow has increased, making it the only one to experience an uptick in the group and giving it more funds to make its debt payments. On top of that, the company ended the third quarter with $6 billion of liquidity, including $1.6 billion of cash. Thus, it has the financial resources to weather the current storm.
Finally, Macerich and Washington Prime have been taking steps to shore up their financial situations. Macerich ended the third quarter with $675 million of cash on its balance sheet and has been working with creditors to refinance maturing mall debt. Meanwhile, Washington Prime recently agreed to sell part of a mall in Southern California for $160 million. These moves will help them weather the continued turbulence in the retail sector.
Leveraging their relative strengths
Simon's and Brookfield's stronger financial profiles have given these REITs the ability to take advantage of opportunities during the retail sector's current rough patch. For example, Simon Property recently agreed to acquire Taubman Centers. The companies had a deal in place earlier this year that fell apart because of the pandemic. However, because of their relatively stronger financial profiles, they revived the deal by revising the terms.
On top of that, Simon and Brookfield have been working together to rescue bankrupt retailers. They teamed up to acquire J.C. Penney and Forever 21. Meanwhile, Simon and another partner bought Lucky Brand and Brooks Brothers. The companies hope to revive these retailers, which will enable them to continue paying rent.
Retail REITs are in for a rough ride
This year has been brutal for retailers. That has had a significant impact on their landlords, which have struggled to collect rent and pay their bills, putting pressure on their balance sheets.
However, it doesn't appear that the entire sector will end up filing for bankruptcy. Most of the remaining mall REITs either entered the current period from a position of financial strength or have taken actions to shore up their financial situations. While they're not in the clear, especially if shoppers don't return to their properties post-pandemic, they're not in dire straits just yet.