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Coming into 2020, there was reason to be cautiously optimistic about Tanger Factory Outlets (NYSE:SKT). The company, which owns and operates premium outdoor malls, has had its share of challenges but was on the right path. Traffic at its properties was on the rise, tenants were generating strong sales, and even with some of its tenants at risk of going bankrupt, the vast majority of Tanger's lease portfolio appeared to be in solid shape.
Then along came COVID-19. The first truly global pandemic in more than a century has wreaked havoc on the retail industry, with retail-focused REITs -- real estate investment trusts -- like Tanger dealing with unprecedented changes. Nearly every area it operates in has been under mandatory orders for non-essential retail stores to close. Now, almost all of its tenants have been closed for business for the better part of two months.
Even with some retail starting to open back up, there's no doubt that the rest of 2020 will be challenging for Tanger, but what about its longer-term prospects? Let's take a look at Tanger a few years in the future.
Getting through COVID-19
Tanger reported a solid first quarter of 2020, with net operating income down about 3.7% and 94.3% of its properties occupied. But by the time management announced earnings in mid-May, they had a lot more -- and a lot worse -- information on how things were going.
The company allowed most of its tenants to defer April and May rents to 2021, and the vast majority took it up on that offer, with only 12% of April rents collected. The outlook for May isn't likely much better, and it's unclear just how much the picture will improve heading into the summer months. The company also cashed out its available credit, adding almost $600 million in cash to the balance sheet while pushing total debt above $2 billion.
As a result of all this uncertainty, Tanger's board elected to suspend the company's dividend, breaking a streak of paying dividends every quarter for the last 27 years.
That's the bad news. The good news is that Tanger management says that between the cash on the balance sheet and steps already taken to lower expenses, the company could go for two years without earning any rental income (though its debt covenants might argue otherwise).
There's more good news in the form of more of its tenants opening back up for business. On the earnings call on May 13, CEO Steven Tanger said 18% of stores were open, and that number is increasing as more areas Tanger operates in lift restrictions. As these restrictions are lifted and more Tanger tenants open up for business, the company should see cash from rents start to trickle back in and steadily increase.
The right format for the recovery of retail
As those cash flows grow, the pressure on Tanger's balance sheet should also lessen. That's not to say investors should expect a quick recovery for the company or for its dividend. The rest of 2020 will likely be brutal, and another wave of COVID-19 cases is a very real possibility. If that happens, Tanger and its retail tenants could be forced to press the "reset" button all over again.
This is where Tanger's business model and the types of properties it owns are a big advantage. The company doesn't own any indoor malls, instead focusing on outdoor properties. These retail spaces are far more conducive to the kind of physical retail more people will be willing to visit, while the smaller, more uniform size and layout of the stores is more flexible for retail tenants. Lastly, discount outlets tend to be more attractive to shoppers in recessionary periods.
So with the very real and distinct risks, Tanger looks like one of the better mall REITs to emerge from 2020 with some momentum. And while even more of its tenants than we were expecting at the start of 2020 could fail this year under the pressures of the COVID-19 shutdown, the vacancies this creates could prove highly attractive on the other side of COVID-19.
A familiar future
2020 will almost certainly be downright ugly, and it's possible that at least the beginning of 2021 could be painful as well. We've already seen some retailers go bankrupt this year, and more -- including some Tanger tenants -- are on the way. Fortunately for Tanger shareholders, the company has enough cash to ride out the worst of the downturn; plus, it houses the right properties to be on the leading edge of the retail recovery.
Five years from now, I expect things will look a lot more like they did at the start of 2020 than like today. E-commerce is getting a big leg-up as the only game in town for a lot of purchases, but humans are social by nature, and the kind of retail experience Tanger offers will remain compelling for years to come. Outdoor spaces will be more inviting -- and feel safer -- than indoor malls, and branded outlets are only growing in popularity while legacy big-box retail continues to lose relevance.
So while the next year could be the worst in Tanger's history, the company looks like a big winner in the future of physical retail. It has the balance sheet to ride things out as well as the right properties to profit when people are ready -- and they will be -- to go back to the malls en masse. Investors willing to ride out the tough part could enjoy immense returns on the other side, including the return to dividends, and hopefully the start of another long streak of quarterly dividends.
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