Shopping mall stocks have been out of favor for several years now due to the competitive pressure created by the boom in online shopping. Kimco Realty (KIM 0.88%) is no exception to this trend.
Kimco's stock is still down more than 40% from the highs it achieved in 2016. However, the company has executed a strategy of focusing on neighborhood shopping centers anchored by grocery stores, which are less likely to be impacted by competition from online shopping. Kimco's strategy and fundamentals appear sound. So are investors throwing out the baby with the bathwater?
Kimco's real estate strategy
Kimco is a real estate investment trust (REIT) focused on managing neighborhood shopping centers. The company's strategic focus is to own real estate centered on people's live/work/play environments. What this translates to is a real estate portfolio consisting of open-air malls typically anchored by grocery stores and commonly featuring off-price retailers, home-improvement stores, and gyms. These real estate assets aren't strip malls, but they also aren't Class A luxury shopping malls.
Roughly 58% of the company's tenants are what it calls "service and experiential tenants," which in practical terms means grocery stores, restaurants, and off-price retail. Theoretically, these retailers are less likely to be negatively impacted by online retail because consumers are much more likely to buy their groceries in person, dine in at a restaurant, and find bargains on a treasure hunt at a discount store. However, it is also true that consumers are increasingly ordering groceries online for delivery or pick-up, finding bargains online, and getting food delivered to their homes.
Most of Kimco's remaining shopping mall tenants are categorized as "omnichannel players," which implies that the shopping experience is a mix of in-person and online touchpoints. For example, banks have strong online capabilities, but sometimes customers need to make an in-person visit to a customer service representative.
Kimco's goal is to attract tenants that can thrive in the new retail reality in which e-commerce plays a larger role in our everyday lives. While Kimco properties are much more insulated from e-commerce trends than malls focused on consumer discretionary goods, it would be a stretch to say that the company is totally insulated. At the same time, most people will still do most of their daily and weekly shopping in person.
Focus on the Sun Belt
The other key aspect to Kimco's real estate strategy is its focus on owning Sun Belt real estate. That is real estate located in the Southeastern and Southwestern U.S., areas to which people are moving, creating a population-growth tailwind.
Kimco hasn't always been Sun Belt-focused. The company was founded in 1966 with assets primarily located in the Northeast and Mid-Atlantic. However, Kimco has actively managed its portfolio. The company set out a new vision in 2015 to focus on regions with stronger demographics and has since sold more than 260 properties, reaping nearly $4 billion in gross proceeds. It has, for the most part, reinvested those proceeds in acquiring and developing new properties in its targeted geographies.
The company still actively manages its portfolio, and in the first half of 2019, it has 10 properties for more than $200 million in gross proceeds. Kimco plans to continue selling its less-desirable assets until it is left with what it believes to be the cream of the crop.
At the same time, the company has shifted its focus to redevelopments and away from developing or acquiring new assets. Kimco wants to maximize the assets it already has, and in some cases, that means transforming shopping centers into mixed-use real estate featuring offices and residential units alongside street-level stores. This is a common industry theme, and other shopping center REITs such as Simon Property Group are following a similar redevelopment strategy.
Financial results have held up, but the recent trend is negative
Because Kimco is a REIT, two key indicators to watch are funds from operations (FFO), which is a proxy for the company's cash flows, and dividends per share. The logic is that if a company's FFO per share increases over time, then it is creating value for shareholders in the form of cash flow. If a company continues to raise and pay its dividend, then it is delivering the value to shareholders and is signaling confidence about its future prospects.
As one can observe from the chart, Kimco's FFO per share has generally risen over the past 10 years, but it recently declined a bit. Investors are concerned that FFO may continue to decline as a recent wave of retailer bankruptcies puts downward pressure on rental rates and shopping center occupancy. Dividends per share have continued to increase over time; however, the last increase was in 2017, and that was a modest increase of just $.01 per share in the quarterly payment.
For the most part, Kimco's financial results have held up. Its FFO and dividend per share are at or near all-time highs, but the recent trends haven't been encouraging. Investors fear that the industry's issues are eating away at the company's prospects, resulting in disappointing growth.
Kimco is a shopping center REIT with a clearly defined strategy. It aims to own assets that can survive the increasing threats from e-commerce, and it seeks to own assets in geographies with attractive demographics. Kimco may be better positioned than the average shopping mall REIT, but that doesn't make it immune to the industry's issues. There is little doubt that Kimco will survive the continued pain in the retail industry, but whether the company will thrive is less clear cut.