The mall real estate investment trust (REIT) niche is going through a shakeout. Tanger Factory Outlet Centers (SKT 0.27%) and its peers are facing massive headwinds with no easy fixes. With Tanger's stock off by roughly 55% this year alone, is it worth buying? Here are some things to think about before making a final call.
The pain is real
CBL & Associates and Pennsylvania REIT both declared bankruptcy just before the U.S. elections. The economic closures used to slow the spread of COVID-19 were what pushed these mall REITs over the edge, but problems were present well before 2020. Indeed, the "retail apocalypse" story has been around for years as consumers have increasingly taken advantage of online shopping options. In fact, the global pandemic really just sped up a process that was already underway.
But it's important to step back and understand the bigger issue here. Yes, consumers are shopping online more, but the real problem facing retailers is a mixture of too much leverage and an inability to keep up with changing consumer trends (including, but not limited to, e-commerce). The stores going dark aren't executing well overall, but the ones that are keeping up with consumers continue to do quite well. In fact, while it may sound like stores are closing left and right, some retailers are actually still opening new locations. So there are very real headwinds for malls like Tanger to deal with, but online shopping isn't likely to fully replace the mall anytime soon.
Outdoors is best
That said, Tanger is particularly well positioned to deal with the COVID-19 headwind when you look at the 39 factory outlet centers that make up its portfolio. These are typically outdoor structures, which increases the ability to socially distance and provides ample airflow. These factors are likely to make customers feel more comfortable visiting while the pandemic remains an issue. To put a number on that, in a mid-September news release, the company noted that foot traffic at its centers was 89% of year-ago levels. That's pretty good given the circumstances.
A long, slow process speeds up
That said, malls are not easy assets to run. Although Tanger benefits from low operating costs because its properties are largely open-air and standardized structures, it still has to curate the tenants in each property. That's complicated by relatively long leases, which means that Tanger may not be able to jettison a struggling and out-of-style tenant as soon as it would like. Finding a new tenant, meanwhile, can take a while. Resetting a property can be a multiyear process.
The retail bankruptcies that are occurring today are speeding up that process, which is good in some ways, because weak tenants are going away on their own. The problem is that a large number of tenants are hitting the skids all at once. In that September update, Tanger also noted that occupancy was 93.7%, and that's historically low for the REIT. Making matters worse, it's only been able to collect 85% of the rents it is owed. So the retail fallout is helping along what had been a slow-moving process, but the speed is creating financial problems for mall owners like Tanger.
The fly in the ointment is that the fix here -- finding new tenants -- still isn't something that happens quickly. So it will take time for Tanger to reposition its properties, and perhaps even more time than usual given the large number of retailers that are facing problems today.
So the question for investors willing to take the needed long-term view here is whether or not Tanger has the financial strength to survive while it works through all of these problems. The answer is likely yes. For starters, Tanger has a fairly conservative corporate culture. When tough times hit, it made sure it had the liquidity it needed in case cash got tight, and it deferred rent for all of its tenants so it could be a good partner and ensure its occupancy remained strong. It also suspended its dividend. As of mid-September, the company had repaid a revolving credit facility in full. Thus, it has $600 million available to it if it needs extra cash. It has $6.6 million in cash on hand.
Meanwhile, the company's properties are largely unencumbered by mortgages (only 6% of its square footage is occupied by businesses with mortgages, and those are largely joint venture properties). It still has an investment grade credit rating as well, suggesting it can access the bond markets if it needs to. And as of the second quarter, the REIT remained in compliance with key debt covenants. Assuming that its business continues to improve, it looks like Tanger is past the worst of the COVID-19-related hit.
Not for everyone
The big picture here is that Tanger is facing very real problems but appears to be financially strong enough to weather the hit, with the added benefit of having largely outdoor assets. But that doesn't change the fact that it will probably take Tanger several years to rework its tenant lists so it is again offering malls filled with the types of stores consumers want.
In other words, Tanger is something of a turnaround play today. That's not where most conservative long-term investors should be looking. However, if you can take the long view and don't mind a little uncertainty, it might be worth considering this deeply out-of-favor REIT today.