Appraisal Matters

Over the past decade, a trend in regional mall ownership has been becoming more common. Owners can sell some of the anchor sites to the companies that use them and when they sell all of them, the remaining portion that is left is called the inline-only mall. Investors in malls have seen this as a way to recoup construction costs and attract anchors to their site. This trend is not only happening to older malls: some newly built malls are selling one or more anchors in a “condominium” style. On the surface, this appears to be a sound plan, but without property agreements in place the long-term risks are very real.

Selling parcels within shopping centers is nothing new. Pad sites have been sold to restaurants and other chain store retailers for decades. Conversely, the trend in selling anchor stores began in early 1990’s. At the time, it was viewed as an easy way to recoup a substantial portion of the construction cost and initial investment in new regional and super-regional malls. Many owners view the inline space as the true profit portion of a mall, so selling off one or more anchors seemed like a prudent strategy, especially when combined with pad site sales. The trend has since accelerated and the number of newly built and older partial or fully inline-only malls has increased substantially in number.

The Two Faces of Inline-Only Malls

The best way to determine how inline-only malls have fared is to compare its financial performance before and after the sale of anchor sites. In general, newer Class A malls, generally over a million square feet in size, have shown no difference in operating performance or adverse impact on the inline space as the result of selling anchors. As part of the deal to bring a major anchor to a mall under construction, it is not uncommon to have a relationship where the cost of constructing the building is borne by the mall owner and upon completion, the land is sold and the construction cost recouped. Second and third tier malls, however, have a tendency to show dramatic financial effects that can be partially attributed to their competitive disadvantages to better malls and partially to the inline-only structuring of the sales. Appraisers valuing inline-only malls need to pay particular attention to the dark side of these transactions for older malls. Depending upon how many anchors have been sold, inline-only malls can be extraordinarily difficult to sell and reposition.

The Problem with Control

The most obvious downside to selling the anchor is the greatly diminished control the mall owner has over the anchor space and its maintenance. This diminished control takes many forms.

• Vacancy time – if the anchor goes dark, it will typically be involved in years worth of bankruptcy litigation. The dark space stays dark during the period, regardless of how many major stores are interested in acquiring the space. Equally important is the loss of desirability inherent in the inline spaces in this wing.

• Future owners/users – selling the anchor usually gives the mall owner no say in what the next owner/user will do with the space. Perhaps the next owner would have no synergies with existing anchors; it might convert its use of the space from a full-product line to an outlet store or may become a home store. If the anchor building is two stories, the anchor can close the second story if business is bad. The next owner might be in a totally different line of business, perhaps one that has no material impact on mall traffic or the desirability of its wing to inline tenants. One example we are aware of is the conversion of a former Montgomery Ward anchor building to a Home Depot within a regional mall. Although this may sound bizarre, if it is an urban location where no large space is available for a new Home Depot and this is the only location that offers sufficient parking, it may be the only place for them to go. In this case, it is likely that they will demolish the existing building in favor of their unique design and the mall owner has no control.

• Mall access – there is no guarantee that the next owner/user will even want to have an opening into the mall. To use the Home Depot example, they intend to close off mall access, which certainly hurts long-term mall traffic and the desirability of inline space in that wing.

• Mall reuse – If mall needs to be repositioned, the mall owner has little or no ability to reposition the anchors. It is not uncommon to see anchor space converted to another use, but that cannot occur without the cooperation of the anchor. Some reposition plans consider adding office space to a mall, but if the anchors are separately owned and surround the mall, this concept is impossible because sufficient land is not available and access to the mall may become impossible.

• Redevelopment – If a regional mall has declined to the point where the highest and best use of the entire project is for redevelopment, selling the anchors can be detrimental to redeveloping the site. All parties need to agree and if one or more anchors are doing especially well, they will be hesitant to close unless they are paid substantially to do so. The cost of acquiring a sold anchor that is performing well or multiple anchors can tip the scale, making redevelopment financially infeasible.

• Building condition – once the anchors are owned by separate companies, the compulsion to renovate the inside and especially the outside is removed. Anchor store owners do not have the motivation to renovate their space in recessions. If the exterior is tired, it remains that way regardless if the mall owner wants to renovate.

• Parking lot condition – The same can be said of the parking lot area owned by the anchors. If they become pot holed, pitted and cracked, there is little the mall owner can do. It can also be very difficult to coordinate parking lot resurfacing when multiple anchors each own their portion of the lot separately. Typically, if even one anchor owner cannot afford the cost of resurfacing, it just doesn’t get done.

The next part of this topic will cover marketability and valuation.

John Simpson, MAI