Seritage Growth Properties' (SRG -1.23%) mission of converting former Sears and Kmart stores for better uses has attracted a surprising amount of investor interest, despite poor supply demand dynamics for retail real estate in recent years. Unfortunately, the REIT hasn't had an easy time carrying out its redevelopment plan. Between Sears' rapid collapse and the COVID-19 pandemic, most of Seritage's real estate portfolio now sits vacant.

Bulls have been hoping that new management and a plan to quickly sell off non-core properties might turn the tide. However, Seritage's second-quarter earnings report showed that the company is still floundering and has no easy way out.

Key metrics move in the wrong direction again

In recent years, Seritage has struggled to keep a reasonable proportion of its real estate occupied. As of June 30, occupancy stood at a dismal 23%. Naturally, this makes it impossible for the REIT to produce decent financial results.

Last quarter, Seritage generated total net operating income of just $7.6 million. This barely exceeded the $7.3 million of total NOI it generated in the prior-year period: i.e., during the depths of the pandemic. It was also down from $9.4 million in the first quarter -- and an average of nearly $50 million a quarter in 2016.

Cars in the parking lot outside Dick's Sporting Goods and Dave & Busters.

Seritage's Manchester, New Hampshire property is 75% occupied: much better than average for Seritage. Image source: Seritage Growth Properties.

Meanwhile, the REIT reported funds from operations of -$33.9 million, or -$0.61 per share. Excluding one-time items like severance, restructuring expenses, and mortgage recording costs, adjusted FFO came in only slightly better at -$29.3 million (-$0.52 per share). Adjusted FFO declined both sequentially and year over year.

Cash burn continues

Seritage's persistently weak NOI and FFO has translated to steady cash burn. The company ended the second quarter with just $92.3 million of in-place rent. That's not even enough to cover the $116 million of annual interest on its $1.6 billion term loan.

Adding in general and administrative expenses (typically around $10 million per quarter), preferred dividends, and operating expenses for vacant properties, Seritage's costs currently exceed its revenue by over $100 million annually. Any redevelopment spending would come on top of this underlying cash burn.

Sure enough, in the first half of 2021, Seritage generated about $124 million of proceeds from asset sales and reinvested $66 million of that sum into its redevelopment projects. Nevertheless, it ended June with $3 million less cash on its balance sheet than it had entering the year. In other words, the REIT burned about $61 million in the first six months of 2021.

Weak leasing activity

Adding to its woes, Seritage has struggled to maintain its leasing pipeline since the pandemic struck a year and a half ago. At the beginning of 2020, it had leases signed for future occupancy totaling $84.3 million of annual base rent. By the end of the year, that figure had fallen to $54.5 million. During the first half of 2021, this "signed-not-opened" pipeline has continued to shrink, reaching $32.3 million at the end of last quarter.

A rendering of Seritage's Aventura, Florida redevelopment project.

Image source: Seritage Growth Properties.

Asset sales and tenants canceling store opening plans drove the bulk of these declines. Aggravating matters, new leasing activity has nearly ground to a halt. Seritage signed just six leases last quarter, totaling future annual base rent of $780,000. In the first quarter, it signed leases for $1.5 million of annual base rent. And in all of 2020, it signed leases for $7.5 million of annual base rent.

By contrast, between 2017 and 2019, Seritage signed leases for at least $40 million of annual rent each year. The recent lack of leasing activity is especially worrisome because other retail REITs have reported that leasing activity has surged to a multiyear high in 2021.

This turnaround isn't turning

Seritage does own some very attractive real estate (along with numerous subpar properties). However, to capitalize on its opportunities, the REIT would need to dramatically ramp up leasing activity, raise hundreds of millions (if not billions) of dollars of capital, and accelerate construction for its redevelopment projects. That won't be easy.

In the meantime, Seritage is burning over $100 million of cash annually. It will take several years at best to reach breakeven. This operational cash burn will soak up a good chunk of its asset sale proceeds, steadily chipping away at shareholder value.

For investors intrigued by Seritage Growth Properties' strategy, it doesn't hurt to put the stock on your watch list. But until Seritage shows meaningful signs of progress toward a turnaround, investors should probably stay on the sidelines.