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General Growth's Gamble

General Growth's high-rolling purchase of the Grand Canal Shoppes in Las Vegas may be a gamble, some analysts say. The Chicago-based REIT is paying $766 million for the 445,000-square-foot retail complex.

General Growth has also agreed to pay at least $250 million for the project's second phase, The Palazzo, which will be between 325,000 and 375,000 square feet and be completed in 2006. The deal's “just shy of 6 percent” cap rate and price-to-tenant sales ratio of 1.9 percent makes the transaction one of the most expensive single-property retail transactions that Morgan Stanley analyst Matthew Ostrower has seen. Subsequently, the REIT boosted NOI by reconfiguring a dead JCPenney into small shop space.

But analysts also criticized General Growth in 1999 when it acquired Honolulu's Ala Moana Center for $810 million at a time when REIT stock prices were sliding. In the final analysis, though, General Growth used weak capital markets to its advantage and purchased one of the world's most profitable shopping centers for what later proved a reasonable price.

According to General Growth, the Canal Shoppes — whose tenants include Burberry, Kenneth Cole, Movado and Banana Republic — currently generates sales of roughly $900 per square foot, making it the second most productive retail asset in the United States after Simon Property Group's Forum Shoppes at Caesar's Palace, right across the Strip from the Venetian. The REIT plans to achieve a yield of approximately 6 percent on the Canal Shoppes within the first year after the deal is done.

The embedded rents at the complex are currently below market value, but only 65 percent to 75 percent of the tenants can provide General Growth with the opportunity to raise rents over the next few years, says Merrill Lynch analyst Steve Sakwa. “We wonder where this additional income will come from,” he adds. “Carts/kiosks? Advertising? Promotional income? Few details were given on this front.”

Grand Canal Shoppes vs. Other High-Priced Mall Transactions
Date Property Location Buyer Sale Cap Rate Spread Vs. 10 Year Treasury Price Per Sq. Ft.
Jul-99 Ala Moana Center Honolulu General Growth $810 million 8% 2.10% $932
Oct-02 Glendale Galleria Glendale, Calif. General Growth $415 million 6.80% 3.70% $836
Mar-03 Forum Shops Las Vegas Simon $248 million 7% 3.20% $1,155
Apr-04 Grand Canal Shoppes Las Vegas General Growth $766 million 6% 1.80% $1,721
Source: Company data; Morgan Stanley research
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