Simon Property Group (NYSE:SPG) is generating record levels of earnings and cash flow, but you'd never guess that if all you were looking at was the company's stock price. It's down more than 20% from its 52-week high, and down even further from the all-time high it set in 2016.
As an owner and operator of shopping malls, the real estate investment trust (REIT) has been fighting a sea of negative headlines about the struggles of brick-and-mortar retail for several years as mall foot traffic has dropped and shopping online has gained popularity.
While Simon's financials have held up so far, investors are worried.
Simon's top and bottom lines are still growing, although it would probably be doing even better if retailers were doing better. During its second-quarter earnings call, management noted that retail industry bankruptcies hurt its earnings growth by approximately 1%. As the table below shows, revenue and funds from operations (a proxy for business cash flow) are up while earnings-per-share growth has moderated.
|Metric||2017||2018||First Half 2018||First Half 2019|
|Total revenue||$5.54 billion||$5.66 billion||$2.78 billion||$2.85 billion|
|Earnings per share||$6.24||$7.87||$3.77||$3.38|
|Funds from operations per share||$11.21||$12.13||$5.85||$6.04|
What's the secret to Simon's success? It probably has something to do with the types of properties it operates -- primarily upscale malls and retail outlet centers. These are both categories that have experienced much better foot traffic trends than lower-tier and full-price shopping centers. On the one hand, the better amenities offered by luxury malls -- among them, good restaurants, bars, and seating areas -- mean they remain places where people will choose to meet up with friends or go out with family. On the other, outlet malls have held their appeal because they offer better deals than can be found in traditional stores, which drives continued interest and traffic.
The numbers don't lie -- Simon is still producing solid results. Furthermore, the REIT has noted that its sales per square foot are still rising. It now counts 77 properties with sales per square foot above $900 -- much higher than the average mall.
In a humorous response to an analyst's question about the fate of malls on its last earnings call, CEO David Simon commented:
"People have been trying to kill off the malls for 50, 60 years, right? ... Look, we're resilient. Rick and I are all like cockroaches, OK. We're going to still hang around."
Reinvesting cash flow and then some
Simon Property is on track to generate over $5 billion in funds from operations this year. It also has plenty of capital, recently disclosing liquidity (cash on hand and borrowing capacity) of $6.8 billion. Management is putting that cash to good use by aggressively reinvesting in the business and returning the excess to shareholders.
While the American retail industry is enduring some struggles, Simon is diversifying its geographic footprint by opening new shopping centers all around the world. The company has projects under development in locations as diverse as Normandy, France; Malaga, Spain; Bangkok, Thailand; and Queretaro, Mexico. These will join the 38 international properties the company already operates.
Simon Property Group is busy in North America as well. As retailers such as Sears Holdings, Gap, and Chico's close stores, it must either find new tenants or redevelop the real estate for other purposes. The company currently has a $1.7 billion budget for active redevelopments and believes it has a pipeline of $5 billion in redevelopments coming.
Most redevelopment projects involve turning old retail space into new retail space, but some projects are bringing other kinds of tenants to malls, such as offices, hotels, and residential apartments. It will be interesting to see how well these initiatives pay off once a few of these projects start to operate.
With its extra cash, Simon is paying healthy dividends and buying back shares. The stock currently sports a dividend yield north of 5%, and recently increased its payout by 5%. Furthermore, the company has repurchased more than 1 million shares of its own stock in the past quarter, taking advantage of low prices.
A value play
Due to investors' broadly bearish sentiments about the retail sector, otherwise healthy companies have seen their stocks pummeled. At this point, Simon Property Group is arguably a value stock.
With funds from operations per share of over $14, the stock is trading for just over 10 times funds from operations. At current prices, Simon Property also offers a 5.7% dividend yield, allowing investors to get paid while they wait for the market's confidence in the industry to revive.
Of course, there is a risk that the bears are correct, and that retailer bankruptcies and store closures will begin to take a toll on Simon Property Group's earnings. There is also the possibility that a recession could dampen consumer spending in the U.S. and abroad. For those who are comfortable with those risks, however, Simon Property's stock might just be a good long-term investment.