As the S&P 500 edges upward after a very rocky year for the broader index, certain stocks are still taking a beating. Simon Property Group (SPG -0.40%), the premier real estate investment trust (REIT) for malls, is one of them. Down 30% year to date, Simon's stock is currently a steal, trading around 9 times its funds from operations (FFO). Yet, the growing concern over the future of malls is giving investors pause and causing many to wonder if this REIT is still a worthwhile buy.
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Malls aren't dying, they're just changing
As a millennial, the mall wasn't just a place to shop; it was an experience. It was a place to spend an afternoon, meet up with friends, get some exercise, or catch the latest blockbuster movie.
As much as I love the nostalgic feeling that malls bring, they aren't what they used to be. The ease of online shopping has slowly led to a decline in foot traffic at malls, even prior to the pandemic. But COVID-19 made malls even less appealing, with a growing number of consumers preferring open-air shopping centers over indoor malls.
So what is Simon, the nation's largest operator of malls and outlet stores, to do? Pivot.
The era of reinvention
Many mall operators are changing what they offer to attract and retain customers for the long term. They're leasing space to new boutique stores and pop-ups rather than big-box stores or national chains. They're adding tech-driven amenities like smart changing rooms, and expanding experiential offerings including diverse food courts, and more restaurants, and even entertainment attractions like green spaces, museums, roller coasters, aquariums, and more.
Malls are also exploring the idea of leasing space for offices, industrial uses, or hotels.In late 2020, Simon was in discussion with Amazon over the potential opportunities for leasing vacant space. While nothing came to fruition, it is a sign that Simon is more than open to adjusting its business model to meet the changing needs of its stores and customers.
It's also taking a proactive approach to better delivering new features in its malls. As of the first quarter of 2022, Simon was actively redeveloping six malls, one of which will include a 13-story Class A office tower in Atlanta.
There's a lot going for Simon Property Group
Simon develops and owns Class A malls, which are newer malls with higher-end amenities and tenants. Class A malls are currently experiencing the lowest vacancy rates of all mall subgroups, with older Class C malls seeing vacancy rates over 3 times that of Class A malls. The REIT also benefits from owning a number of outlet malls, which are open-air shopping centers.
High-growth markets across the Sunbelt and metro suburban areas are also seeing higher demand than slow-growth markets across the Midwest. Simon's portfolio has exposure in both high-growth and slow-growth markets, with the majority of its portfolio in markets that are seeing a greater return of foot traffic to malls than other areas. Chicago; Austin, Texas, and Atlanta -- three markets where Simon owns property -- have seen foot traffic return to baseline levels or exceed pre-pandemic traffic.
Florida, where it owns and operates 22 shopping malls and outlet centers, has seen net absorption of retail space is improving in roughly 24 of its markets, a positive sign that mall demand is returning. Just under 43% of its net operating income (NOI) comes from the Sun Belt markets of California, Florida, and Texas.
Portfolio occupancy has increased 2.5%, year over year, with 93.3% of its properties being occupied as of the first quarter. While base minimum rent or the blended rental rate for its properties has steadily declined when compared to the prior year, it has increased quarter over quarter in another sign things are recovering.
The company is extremely well-funded, having $8.2 billion in cash and cash equivalents and a moderate 5.7 multiple of debt-to-EBITDA (earnings before taxes, interest, depreciation, and amortization), just slightly above the REIT average of 5.
Is Simon a Buy?
Waning confidence in both malls and the stock market means prices right now for Simon Property Group are a screaming deal. Given the most REITs trade around 20 to 30 times their FFO, Simon is extremely undervalued at a price-to-FFO of nine. What's more, the dividend yield is 6.67% right now.
For investors on the hunt for a bargain, I believe Simon Property Group is a buy. Investors should be prepared for more volatility -- a recession would certainly hurt malls. But in the long term, I think Simon is on track for an impressive recovery.
