Real estate investment trusts (REITs) have been a tough sector to love over the past four months or so. With the COVID-19-related shutdown, tenants are unable to pay rent, but the interest payments for the REIT are still due. Probably the hardest-hit sector has been shopping malls. Mall operator Macerich (NYSE:MAC) will report its second-quarter earnings on Aug. 11, and investors will be keenly focused on interest expense and coverage ratios.

Macerich is a major mall operator

Macerich is one of the major mall REITs in the U.S. The company operates 47 regional shopping centers (malls) and five power shopping centers (outdoor shopping malls that usually have three or more big box stores). Malls generally have 400,000 square feet of gross leasing area and contain one or two anchor stores. Macerich's biggest tenants include L Brands and H&M

Empty mall parking lot

Image source: Getty Images.

Malls were already struggling before COVID-19

The shopping mall sector was struggling even before the coronavirus crisis. Many mall REITs are highly leveraged, and retail was struggling to compete with online shopping. We have seen retailers file for bankruptcy, especially in the department store area. For mall REITs, department stores are the anchors and without them the smaller tenants struggle. In fact, many gross leases have clauses that guarantee the presence of an anchor tenant.

Even as states begin to reopen, there are concerns that shoppers may avoid the big shopping centers, which means a reopening doesn't necessarily mean the company is out of the woods. 

The list of retailers that have filed for various levels of bankruptcy protection is long, and it includes Pier 1, Modell's Sporting Goods, Neiman Marcus, J.C. Penney, GNC Nutrition, and Chuck E. Cheese parent CEC Entertainment. Some will be closing all their stores, while others are just seeking additional funding to manage during this crisis and will only be closing some stores.

While many were not department store anchors, they were the bread and butter of shopping malls. Macy's just managed to escape bankruptcy by securing additional financing. Given that Macy's and Bloomingdale's account for 21% of Macerich's anchor tenants, the company dodged a bullet here. Macy's and J.C. Penney account for about 37% of Macerich's anchor tenants.

Macerich has a heavy debt load

In 2019, Macerich earned funds from operations (FFO) per share of $3.53; the payout ratio (dividend over FFO) was 85%. FFO covered interest expense 3.9 times and the debt-to-FFO ratio was almost 11 times. This gives a good idea of the issue with Macerich -- its heavy debt load.

Macerich took a number of steps to preserve liquidity, taking down the remainder of its $1.5 billion revolver and cutting its dividend. The dividend per share fell from $0.75 a quarter to $0.50, and was changed to 80% stock and 20% cash. On the first-quarter conference call on May 12, the company said that the change in the dividend would save about $150 million of cash. To put that number in perspective, interest expense last year was $138 million. That said, the company also said that it collected only 26% of its building rents in April, so revenue is falling faster than expenses.

Wait until earnings and reevaluate

With the stock trading at around $8.18 per share, the cash dividend yield is 4.9%, which ignores the stock dividend aspect of the yield. Investors could sell the stock received as a dividend to approximately replicate (depending on what you get for the stock) the $0.50 total dividend.

Macerich entered the coronavirus pandemic much more leveraged than competitors like Simon Property Group. Until we get a read on what second-quarter rent collections are looking like, the stock is probably too risky for income investors to consider. The prudent move would be to not get seduced by cheap ratios based on a 2019 numbers and wait until the company reports.