Appraisal Matters

So the grand opening of the new mall is complete.  Some tenants at our subject mall may have left.  Some may be in the process of leaving.  Typically, the vacancy with inline bays is not sufficiently material to be noticeable to the public.  What is noticeable, however, is the loss of one or more anchors.

Stage 1 - The Vacated Anchor(s)

With one or more anchors gone, several things happen.

• The landlord’s negotiation position starts to falter with some tenants.  Those that are in the same wing as the vacant anchor complain the loudest… with good reason.  Foot traffic mostly stays clear of the vacant anchor wing unless there is some other draw, such as a minor anchor like CVS Pharmacy.
• Overall pedestrian traffic may also fall throughout the mall.  I say it may because some types of tenants, such as a major cinema or a restaurant court, may be completely unaffected by the loss of one anchor.  More than one is a different story, of course.
• The landlord actively attempts to fill the vacant space with another credit-worthy tenant.  With a new regional mall as the primary competitor, what generally happens is that the space can be filled by another well-known name, but of a lower quality (as in a Macy’s leaving being replaced by a Sears).
• Sometimes a tenant that is interested in leasing the dark anchor space is precluded from doing so.  How many times do you see Best Buys and Circuit City in the same mall?  It is not uncommon to find existing anchors that have leases that forbid certain types of anchors in the mall.  Sometimes they are even mentioned by name.
• The ability to release this space also depends on its size.  If it is too small for the size matrix that a particular high-quality tenant wants, they’ll simply pass on the space.  How many small Macy’s anchors do you know?
• The ability to release the space also depends on the type of anchors that remain.  Certain anchors are synergistic with others.  The best examples are departments stores.  Most regional malls have more than one and together they tend to draw more than the “sum of the parts”.
• If a high-credit tenant is found, the landlord’s less-than-ideal negotiation position may result in an atypical lease structure.  Depending on how long the space has been vacant, what the existing anchor mix is and how strong the new competitor is, I’ve seen leases where a major, “household name” anchor has negotiated no rent, no common area maintenance (CAM) and all percentage rent.  The problem with this is that sales need to reach a certain level to trigger rent, which may not occur for several years.  In this example, the anchor got a free ride.  Another example I’ve seen is the CAM-only lease for the first three years, thereby adding percentage rent.  There are lots of variables that can be changed to bring a major retailer to a dark anchor store.
• A real killer is when one anchor tenant has a lease that gives them an out if a specific retailer should leave.  You’ll find this deep inside some leases for department stores.  That puts a lot of pressure on management to find a similar industry replacement - one that is to the satisfaction of the tenant with this clause.  If there were only two department store anchors before the first pulled out and the second is threatening to do so, that’s a big problem.

Lastly, there are times when an anchor is brought in that actually detracts from the center.  I’ve seen Home Depots come into a mall and require that they be walled-off from the rest of the mall.  There is no door from the back of the store to the mall, so shoppers cannot pass through the store to get to the mall.  Home Depot is not synergistic with any regional mall tenant I know.

Let’s take other examples.  The conversion of the anchor space to office, a religious facility, a flea market have no synergy and don’t add to mall traffic.  More importantly, it sends a loud and clear message to all the tenants that the mall’s characteristics have changed for the long term.  In my opinion, the landlord loses more negotiation position over the long term than a non-synergic tenant is worth.

Stage 1 - The Effect on Income and Market Value

As you might imagine, income has changed at this point.  The landlord is forced to carry more common area maintenance charges, so profitability takes a double hit.  Projecting when an anchor will be found (if pre-leasing efforts failed to find a replacement anchor before the first anchor left) is difficult.  More difficult is determining the mix of rent, common area maintenance reimbursement, percentage rent and the sales breakpoints that trigger the percentage rent.  A third hit on market value is the increased capitalization rate to reflect the higher risk of this investment.

Part 3 of this series will address the second phase of the decline scale - the change in national credit tenants.

John Simpson, MAI