Appraisal Matters

At this point, the mall has lost one, and more likely, more than one anchor.  The higher-end national tenants have left or renegotiated their leases to the detriment of profitability for the owner.  The landlord has or is considering taking on obvious temporary tenants and the future of the mall is uncertain.  Along comes the White Knight!

Our hero can take many forms.  It can be the group of physicians that want a large block of space for their practice… and you can bet their practices are synergistic with each other.  It can be a small college looking for a new mini-campus.  It can be a religious facility.  I mentioned the strange example of Home Depot in Part 2 of this series.  Did I forget Bally’s or Gold’s Gym?

Stage 4 - The Isolated Tenant

What do these potential “saviors” have in common?  I call them “isolated tenants” for these reasons:

• They don’t draw anyone to the mall for shopping; they are single destination stores.
• They send a really strong signal to all the tenants and especially existing anchors that the landlord is desperate.
• Whatever wing they are located in effectively becomes permanently dead, thereby encouraging substantial rent renegotiation by tenants in that wing as well as a willingness to accept temporary tenants.
• They may not even need a door to the mall!

I’ve seen many cases of this.  What is critical at this stage is that there’s no turning back.  These tenants do not sign license agreements like temporary tenants - they will sign long-term agreements and frequently with options to renew.  Take them on and they are there for good.  In my opinion, the signal sent from management is loud and clear - there will be no redevelopment and they’ve given up on any upside potential for the mall.

So what’s so bad about getting a long-term tenant that will pay common area maintenance as well as rent?  The income will help the bottom line but hurt the marketability of the mall.  When this happens, it usually only takes a few years for most of the remaining national tenants to leave.  The result is that money does not get reinvested in the mall, so there’s no chance it will be renovated to any great degree and it will appear more “tired” over time (remember that the degree to which a mall appears “tired” is also tied to how “un-tired” its competitors seem to the public).

So Stage 4 signals that the mall is at the last stage of its economic life.  It can stay like this for one or more decades.  But the hand of fate has one or two final wild cards to be played.

Stage 4 - The Final Option

New construction occurs.  Maybe it’s a “town center” type of mall or maybe it’s a group of community shopping centers built nearby.  Perhaps a fashion center is built, reducing the mall’s primary draw to a mere trickle.  More customers are drawn away and overall tenant quality declines even further through no fault of the landlord’s.  Now the mall can’t help but lose money and depreciate at a rate that is no longer sustainable.

Another possibility is that the market gets hot and along comes a redeveloper.  That old, tired mall would make a great mixed-use, mostly residential project, wouldn’t it?  When this is the only large lot available with the right zoning it’s a bargain to the right person who has a vision on a different highest and best use.

In either case, redevelopment is the final option because a redeveloper is frequently willing to pay more for the mall with a different perception of highest and best use than it is worth as a mall.  The highest and best use changes.

Stage 4 - Effect on Market Value

As you might guess, the market value for redeveloping a Stage 4 regional mall often be higher than it is as existing retail.  If it’s valued as a regional mall, the property could be undervalued.  This is where some advanced highest and best use analysis come into play.  To make this call, the appraiser is forced to perform two appraisals in one:  “as is” as a regional mall using data from this highest and best use and “as is” as a subdivision using data from a different highest and best use.  Yes, there will be lots of assumptions, but that goes with the job.  Strangely, even if the market value is higher as a regional mall, it might still sell for a greater price because the property has a degree of uniqueness to a developer that’s justified in his/her projections!  We’re right back to basic supply and demand.

And so we’ve reached the end of the “decline scale”.  Not all regional malls are fated to go this direction.  A lot has to do with stage in the “decline scale” the property is acquired, how many existing competitors renovate their facilities and what new competitors come into the market.  A lot has to do with management’s actions during the property’s economic life cycle.  As appraisers, it is our job to recognize the risks associated with the “decline scale”, reflect them in our thought processes and reach conclusions that make sense in the market.

John Simpson, MAI