Mall owners were already feeling pressure from changing consumer shopping habits before the COVID-19 pandemic. The pandemic magnified their problems, forcing many malls to close for months, decimating traffic to reopened properties, and driving numerous retailers to permanently close weaker stores or even declare bankruptcy.
In August, CBL & Associates Properties said that it intended to file for bankruptcy to stave off collapse. By contrast, on Wednesday, Pennsylvania Real Estate Investment Trust (PEI) announced a restructuring agreement with its lenders that should allow it to avoid bankruptcy -- buying time for management to turn the business around.
PREIT's business is suffering
Last year, PREIT's same-store net operating income declined 2.5% due to the bankruptcies of several key tenants, including Forever 21, Charlotte Russe, Gymboree, and Payless ShoeSource. Entering 2020, management projected that same-store NOI would increase 0.5% to 1.5%, with a mid-single-digit decline in the first quarter but strong sequential improvement thereafter due to easy year-over-year comparisons and new tenant openings.
The pandemic upended that plan. Same-store NOI fell 9.6% in the first quarter and plunged 36.6% in the second quarter. The declines were primarily caused by the one-time impacts of tenant bankruptcies, rent abatements, and lost percentage rent for stores that were closed. However, bankruptcy-related store closures and lease modifications will also lead to longer-lasting negative impacts on PREIT's income.
PREIT was already at risk of breaching its debt covenants entering 2020. The pandemic made it impossible for the mall REIT to meet any reasonable covenants in the near term and also may have delayed some asset sales that management was counting on to shore up the balance sheet. That put PREIT at risk of bankruptcy if it could not agree on a restructuring plan with its lenders.
Image source: Pennsylvania Real Estate Investment Trust.
A chance to avoid bankruptcy
On Wednesday afternoon, PREIT announced that lenders holding over 80% of its unsecured debt had agreed to the terms of a restructuring support agreement designed to keep the company out of bankruptcy.
Under the RSA, PREIT's consolidated term loans and revolving credit facility -- which had a balance of $919 million as of June 30 -- would be swapped for new first-lien and second-lien debt backed by most of the REIT's unencumbered assets. The total principal balance would remain the same, with approximately $600 million expected to be first-lien debt and the remainder being second-lien debt. PREIT would also gain access to a new $150 million first-lien revolving credit facility to refinance a $30 million bridge credit facility and provide funding to complete ongoing redevelopments and replace tenants that have closed.
The new loans would have very loose covenants, helping PREIT stay in compliance despite what will likely be weak results for the next year or so. All of the new debt would mature in two years, with a one-year extension option. To protect the lenders, PREIT would be barred from paying cash dividends unless required to maintain its REIT status, and most asset sale proceeds would have to be used to repay first-lien debt.
There's one big caveat. The loan modifications outlined in the RSA can only go into effect if PREIT gets consent from 100% of its bank lenders. It's well on the way to that goal, but if it can't quickly get the holdouts' consent, it will have to file for Chapter 11 after all. However, even then, it would be a prepackaged bankruptcy that could potentially be resolved before year-end. Importantly -- and unlike most bankruptcies -- PREIT's common and preferred shares would remain intact and wouldn't be canceled.
Focus on what matters
The RSA doesn't mark an end to PREIT's difficulties. It just buys two or three years for the REIT to carry out its pre-pandemic business plan and replace tenants that have closed this year.
Specifically, PREIT is nearing the end of an aggressive redevelopment plan to upgrade many of its malls. New tenant openings have resumed since its malls reopened this spring and summer, but leasing activity has been slow due to the pandemic. PREIT needs to find tenants for the remaining space in its redevelopment projects in addition to filling other vacancies at its properties.
Additionally, PREIT has signed contracts worth nearly $130 million to sell land parcels at numerous properties that would be suitable for apartments or hotels. It needs to obtain entitlements for the proposed multifamily and hotel projects so it can complete those sales, generating much-needed cash to pay down debt.
PREIT stock is very unlikely to recover to the levels of a few years ago, back before the so-called retail apocalypse began to weigh on its results. Furthermore, the REIT's high debt load means that the stock could ultimately turn out to be worthless. Still, if management is able to execute its business plan successfully over the next couple of years, PREIT stock is likely to rise significantly from its current penny-stock price.
