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Could This Stock Be a 10-Bagger for Patient Investors?

By Matthew Frankel, CFP® and Lou Whiteman – Sep 22, 2021 at 6:41AM

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There's a ton of execution risk, but this real estate stock could be a home run if things go well.

It's somewhat rare to find a real estate investment trust, or REIT, with a clear binary outcome, but that's exactly what some of our experts think about Seritage Growth Properties (SRG -1.63%) -- either it's going to be a multibagger or it's going to go to zero. In this Fool Live video clip, recorded on Sept. 10, contributors Lou Whiteman and Matt Frankel, CFP, discuss Seritage's business model and what investors need to know about the stock. 

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Matt Frankel: Seritage is on the surface a company that you would never want to own if you just hear what they do, they own a portfolio of vacant Sears properties. If I left it at that, would you ever even give that stock a second look?

Lou Whiteman: No.

Frankel: Sears doesn't even want to own a Sears property, that's why the company exists.

Whiteman: Exactly. Tell me about this. I'm really interested to hear you talk about this.

Frankel: Sure. Seritage owns 154 properties, there's another 25 that are owned as partnerships, about 26 million square feet of space. The majority of it is vacant. These are old falling-apart Sears properties. The company was specifically created in 2015 to acquire these old Sears properties with the idea that over time, they would redevelop them into premier mixed-use assets, modern shopping centers with retail residential components, things like that. Couple of things went wrong, the Sears bankruptcy happened quicker than expected, so they were planning on collecting rent from Sears while they gradually redeveloped other properties for at least another couple of years longer than they did. But the general model is to sell off the least valuable strategic assets and redevelop the most promising ones, introduce premier new shopping centers. It hasn't gone very well in the first four years. They just underwent a change in leadership. The old CEO, being honest, was not aggressive enough. There's a lot of value creation potential here. The company has three specific properties that is targeting for these premier large-scale developments. None of them have open yet. The first one in San Diego is expected to start opening to tenants by the end of the year. There's another one in Miami that's really promising. The new CEO is being much more aggressive. She plans to sell. By the way, this is a very interesting story, that Seritage is the only REIT in history where the top three executive spots are occupied by women.

Whiteman: That's cool.

Frankel: Pretty awesome story. She has been a lot more aggressive, her name is Andrea Olshan. She was previously CEO of Olshan properties, a company her family founded, and essentially did the same thing and was successful at it. She is planning to quickly sell up to 50 of those 154 properties to generate a ton of capital that can be plunged into the company's most promising assets. Right now, this is a REIT that loses money, as you would probably expect being two-thirds of its portfolio is empty. It lost $34 million in the second quarter. It only has about $147 million in cash so it can't sustain that forever without asset sales.

Whiteman: A good bit of interest payments, I would assume too, on all that purchase.

Frankel: With a bit of interest.

Whiteman: Yeah.

Frankel: Their only lender, speaking of interest, the lender is Berkshire Hathaway. Their only debt is a $1.6 billion term loan that they took from Berkshire Hathaway. They also have a $400 million line of credit from Berkshire Hathaway that they're not allowed to access right now. This would make them a self-sustaining redevelopment engine if they were able to access it, which is a big key point to learn. To get that, they need $200 million of signed leases in place. They are at about $125 million. Before COVID hit, they were at about $160 million, so they were getting there, and then things went in the other direction. This stock is trading for about $16 last I looked. If we knew that they will be able to successfully execute and redevelop all these, this would be a $100 stock. We don't know, this is going to be a very binary outcome, either a home run or it's going to go to zero. One other thing and then I'll stop there, I wanted to share my screen for a minute because they like when I use visual aids, it seems like. Let's see. This is one example. When you're at Motley Fool headquarters in Alexandria, Virginia, they own the Sears property that was attached to the old Landmark Mall, which great location, terrible mall right now. They are about to start redeveloping this. But look at that red outline. The big building within that red outline is the Sears. The little out buildings in the parking lot, Sears Auto Center, most Sears had the little auto repair center. Look at all that land. Everything within that red line, they own. This is where most of their redevelopment value comes from that I don't think the market appreciates. This is why they can develop this into a giant premier-scale asset. They have all that land to redevelop. Their average property is 13 vacant acres and some has a lot more than that. There's a lot of room to redevelop the space. That's exactly what they're planning on doing. This is going to be a $4 billion complex of a healthcare campus, residential neighborhoods, a lot of potential, and this is still in the early stages. I wouldn't think this will open until 2024 at the earliest. Long-tail redevelopment potential, that's just one example, there is a ton of other examples in the portfolio. When Sears were built, most Sears were in the premier locations in town. You see all these falling-apart buildings in great locations. That's really the key to why this real estate can be so valuable.

Matthew Frankel, CFP owns shares of Berkshire Hathaway (B shares) and Seritage Growth Properties (Class A). The Motley Fool owns shares of and recommends Berkshire Hathaway (B shares) and Seritage Growth Properties (Class A). The Motley Fool recommends the following options: long January 2023 $200 calls on Berkshire Hathaway (B shares), short January 2023 $200 puts on Berkshire Hathaway (B shares), and short January 2023 $265 calls on Berkshire Hathaway (B shares). The Motley Fool has a disclosure policy.

Stocks Mentioned

Seritage Growth Properties (Class A) Stock Quote
Seritage Growth Properties (Class A)
$12.08 (-1.63%) $0.20
Berkshire Hathaway Stock Quote
Berkshire Hathaway
$468,700.00 (-1.82%) $-8,702.98
Berkshire Hathaway Stock Quote
Berkshire Hathaway
$310.57 (-1.76%) $-5.58

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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