Simon Property Group (SPG +1.58%), a real estate investment trust (REIT) that holds mostly malls in its portfolio, has seen its share price fall about 35% since it hit a high in August 2016.
Many investors are punishing the company for the challenging retail environment that has seen business at malls decline as people shop more online. Simon Property Group certainly has not been immune to high-profile store closings from the likes of Sears Holdings, Charlotte Russe, and Forever 21 over the last couple of years, but the key question is whether Simon Property Group can withstand the changes battering brick-and-mortar stores. Thus far it has dealt with the environment very nicely.
Image source: Getty Images.
Financial gains despite vacancies
With ownership interest in 204 U.S.-based properties and 29 locations outside of the country, along with a nearly 22% stake in a Paris-based real estate company, Simon Property Group's results are inextricably linked to domestic malls.
The U.S. properties are mostly traditional malls (106), but it also owns 69 "premium outlets" and 14 The Mills locations (traditional malls, outlet centers, big-box retailers, and entertainment centers that are in major metropolitan areas).
Despite the challenges confronting brick-and-mortar stores, Simon Property Group posted a small year-over-year jump in revenue in its most recent quarterly report
The REIT generates the overwhelming majority of its revenue from leases. For the first three quarters of 2019, this revenue made up over 90% of its top line. This lease revenue consists of the fixed rent it charges tenants and the portion of the tenants' sales that it gets.
| Metric | As of Sept. 30, 2018 | As of Sept. 30, 2019 | Change (YOY) |
|---|---|---|---|
| Malls/premium outlets: | |||
| Ending occupancy | 95.5% | 94.7% | (0.8 percentage points) |
| Average base minimum rent per square foot | $53.88 | $54.55 | 1.2% |
| Sales per square foot | $650 | $680 | 4.6% |
| The Mills: | |||
| Ending occupancy | 98.5% | 97.2% | (1.3 percentage points) |
| Average base minimum rent per square foot | $31.75 | $32.88 | 3.6% |
| Sales per square foot | $609 | $616 | 1.1% |
Data source: Simon Property Group. YOY = year-over-year.
At its core U.S. properties, the company's occupancy rate slipped a bit when comparing the state of things at the end of the most recent quarter with a year previous. However, Simon Property Group was able to raise rents and garner more revenue through its tenants' higher sales. It was a similar story at The Mills' properties. The company's properties are in some prime locations, which is a major plus. After all, if the company's malls were in wastelands, it would not have been able to hike rents and its tenants would not have generated higher sales.
This all helped Simon's third-quarter lease revenue rise by almost 2% versus third-quarter 2018, from $1.28 billion to $1.31 billion. Funds from operations (FFO) per share, a key REIT metric that is used to measure cash flow, was flat at $3.05, but management noted that this came about despite unanticipated bankruptcies and redevelopment of properties, among other factors.
CEO David Simon said on the third-quarter earnings call that, "Our results of the quarter were highlighted by funds from operation of $1.081 billion, or $3.05 per share. We achieved ... this ... even with certain unanticipated retailer bankruptcies [and] reduced property level NOI [net operating income] from the acceleration of properties undergoing significant redevelopment..." He also noted that a strong U.S. dollar hurt FFO since it resulted in lower spending by tourists.
While retailer bankruptcies are never a good thing for the company, redeveloping properties is a positive step, showing the company is adapting to the changing retail landscape. For instance, Simon worked with Life Time to redevelop its Southdale, Minnesota, property (America's oldest mall) into a "live-work-play" facility that has fitness centers, co-working spaces, spas, and cafes.
Meanwhile, J.C. Penney and Macy's are undergoing some operational challenges, and these account for about 6% and 12% of Simon Property's U.S. square footage. Macy's recently announced that it would close 29 stores (28 Macy's and one Bloomingdale's), about 4% of the 680 that operate under those banners. Right now, it is not clear how these closures, or any future ones, would affect Simon and other anchor stores are doing just fine, such as Nordstrom and Dick's Sporting Goods.
Management is not sitting still, either. The company continues to redevelop properties, including in South Korea; Vancouver, British Columbia; and Washington State. It is continuing to push to change properties into multiuse destinations. This includes deals that were announced in October, including with Life Time (lifestyle brand), Pinstripes (entertainment), and Allied Esports (e-games). It is also pushing new property developments internationally in Spain, Thailand, England, and France.
Some numbers
Simon Property Group had $26.6 billion in debt and $3.6 billion in cash as of Sept. 30, 2019. Its net debt to net operating income ratio was 5.1 as of the third quarter, down from 5.5 in 2017. A lower figure means a strengthening balance sheet.
Since this is a REIT, Simon Property Group must distribute at least 90% of its taxable income to shareholders. With strong cash flow, the company has consistently raised dividend payments. Most recently, it boosted its quarterly payout in August by $0.10 to $2.10 a share. With a 5.7% dividend yield, this equity is very suitable for income-seeking investors.
