Appraisal Matters

At this point, the mall’s competitiveness has declined enough for all to see.  That’s not say that it isn’t viable… it’s just not the investment vehicle it used to be.  The cash cow has been put out to pasture.  The regional mall is at the critical stage where it either lives or dies.  It makes or loses money.  This is the stage where management’s abilities make the difference.

Stage 3 - Temporary Tenants

I have found different attitudes on how landlords and managers handle temporary tenants.  Some regional mall managers don’t want them.  Others do.  Some only want certain types of temporary tenants.  Is it better to have lots of vacant space or lots of temporary tenants?  I’ve seen it both ways and don’t have a definitive answer.

I’ve explained the issues associated with temporary tenants in my blog The Regional Mall Temporary Tenant.  They are crucial in setting the tone of how the mall will deal with vacancies and what type of image they wish to present.

So why are temporary tenants such a critical stage in the economic life cycle of a mall?

• If the landlord doesn’t get common area maintenance (CAM) paid for at the very least by the temporary tenants, you will undoubtedly start seeing a decline in the repairs and maintenance expense.  Depreciation will increase because less money invested into repairs and maintenance means no money to curb the natural course of depreciation.  The mall will be kept clean, of course, but that’s about as far as it goes.
• The common advertising budget of the mall will also decline because temporary tenants do not pay into the marketing pool.
• The appearance provided to shoppers may be of “strange” stores that don’t fit with the theme of the mall or it’s type of tenants.
• Typically at the point where temporary tenants are considered to fill vacant inline bay spaces, management is also willing to consider “off-brand” stores.  The best example of this is the dollar or five-below store.  Taking on these types of stores is a risk because they send a clear message that this is the type of tenancy the mall owners want.  The national tenants that remain typically don’t care for off-brand stores.
• This may also be the point where the next stage of the “decline scale” starts to occur concurrent with this one.  As I discuss in my next blog, Stage 4 is the isolated or non-synergistic tenant.  Most times, if the management is willing to have a material number of obvious temporary tenants, they are also willing to take on isolated tenants.

It is at this point that management may make a potentially fatal move.  They may promise to renovate the mall.  That sounds great, but where is the money to come from?  The mall is likely not generating it and the owners recognize the risks.  I cover this in detail in my Profitability Challenges of Older Regional Malls article.  If they can get one or more major anchors to sign, even if they only pay CAM, it might be worth it.  The risk comes in breaking their word.  If they promise and don’t deliver, the landlord’s negotiation position is mostly gone.  I’ve seen this happen and the number of leases that get renegotiated at unfavorable levels is substantial!

Stage 3 - Solutions

So what direction should management take?  What’s the solution to these dilemmas?  As I see it, the possibilities are quite limited, but there are three:

1. Sell the mall to someone to reposition it.  It’s hard to find a buyer at a price that allows regional malls to escape their indebtedness.  It’s much easier said than done.
2. Allow temporary tenants that are not so obvious.  Some may be stocked well enough and have put in enough interior finish to seem like long-term tenants, even though the name and frequently the depth of the store are still potential giveaways.  The intent here is to keep up the appearance that the mall is being well funded and that it is not in a fatal downward economic spiral.
3. Look for a group of niche players that are synergistic with the mall.  How about a new food court?  Maybe an outdoors restaurant park.  The landlord may have to spend some money to build these items, but it just might be worth it since both bring people to the mall… and that’s the point.  Some changes need to be made to increase mall traffic.

Stage 3 - Effect on Profitability and Market Value

As you might expect, gross income drops at this stage.  It may not be obvious, though, because a reduction in repairs and maintenance might offset most of the decline, especially if temporary tenants fill many of the vacancies.  Still, risk goes up a level and cap rates that reflect redevelopment now need to be considered along with cap rates for secondary tier malls in other markets.  Comparison to cap rates for second-tier community shopping centers might also be useful.  Lastly, since it typically takes years to sell a mall at this stage of the economic life cycle, you have a better chance of finding asking cap rates.

The next part of this series addresses “isolated” tenants as well as highest and best use.

John Simpson, MAI