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Keying in on Leasing

There is no doubt about it - leasing is critical to a developer trying to obtain financing. Locating tenants that have good credit and which form the right tenant mix, can be a challenge for any developer. Identifying these tenants is made more difficult by the constant change of consumers' needs and wants, which the retail industry - by developing new and exciting center formats - races to keep up with.

Some types of centers that vie for these sometimes-elusive financing dollars are grocery-anchored centers, regional malls, and a relative newcomer to the scene, the lifestyle and entertainment retail center. NATIONAL REAL ESTATE INVESTOR polled three leading retail developers - The Mills Corp., Arlington, Va.; Indianapolis-based Simon Property Group; and Columbia, S.C.-based Edens & Avant - to see how the industry leverages strong retailer relationships to win financial backing.

Although The Mills Corp. has always had a measure of verve and entertainment in its value-oriented and retail centers, the latest addition to its mall family is The Block at Orange, an 811,000 sq. ft. project that opened in November 1998 in the City of Orange, Calif. This time, urban-based entertainment retail takes center stage: Dave & Busters, GameWorks and an AMC 30 theater are all part of the center's entertainment segment. Old Navy Clothing Co., Borders Books & Music, and Wolfgang Puck and Cafe Tu Tu Tango, are some other big-name retailers which have set up shop.

Simon Property Group's 1.7 million sq. ft. Mall of Georgia at Mill Creek in Atlanta, a regional mall with a combination mainstreet and enclosed-mall concept, opened in August. This project includes anchors Dillards, JCPenney and Lord & Taylor, which are open, and Nordstrom, which opens in March 2000.

On the grocery-anchored front, developer Edens & Avant will open the 42,000 sq. ft. Georgetown Center in Savannah, Ga., in January 2000. Another project, Lenoir Towne Centre in Lenoir, N.C., a 164,500 sq. ft. grocery-anchored center, is expected to open in fourth-quarter 2000. Georgetown Center will feature a 33,000 sq. ft. Food Lion as its anchor, and Lenoir Towne Centre will have a 46,732 sq. ft. Lowe's Foods.

A 'lightning rod' for financing Each one of the aforementioned projects stands as an example of how preleasing is vital to acquiring financing. "[Lenders] are definitely keyed in on preleasing," says Ken Parent, COO at The Mills Corp. He goes on to say that, if the developer can get enough tenants in place to get a 1.0 debt-service, lenders feel more comfortable with financing the project. A typical preleasing requirement on a construction loan would be 25% to 35% of the small stores and 50% of the anchors.

Parent points out that preleasing to attract financing for The Block at Orange was different than other types of retail such as grocery-anchored or regional centers. He says the lender wanted to see a broad base in The Block's tenant mix, with anchors Saks Fifth Avenue or Neiman Marcus, and upscale shops like Tommy Hilfiger.

Joe Edens, chairman at Edens & Avant, says, "In our [grocery-anchored] property sector, lease commitments by 70% or greater of your gross leasable area (GLA) are almost mandatory in the case of financing, whether it is construction financing or permanent financing." He also notes that in strip retail properties, preleasing is not an option. It is required.

Preleasing to obtain financing, according to Edens, comes with relationships developers have nurtured with major credit tenants over the years. "We have been a company that's dealt with [preleasing] from the relationship side vs. opening it up to any number of different tenants that may be competitive with each other," says Edens. These relationships make his centers more attractive to lenders.

Center design and anchors are keys to lenders when assessing the financial viability of a lifestyle-entertainment center. "Generally speaking, there is a need for the lender to know or assess the viability of a project, which means it needs tenants," says Tom Snyder, senior vice president at Simon Property Group. "The lenders are going to want to see what the design is, who the anchors are and see commitments from the anchors."

Mark Rivers, executive vice president at The Mills Corp., says the main anchor his lenders want to see is the "lightning rod" tenant - a tenant such as a Bass Pro Shop with its indoor fishing ponds - that brings people from a hundred miles away.

Lance Patterson, executive vice president for Atlanta-based First Fidelity, the company that arranged the financing for the Mall of Georgia, says preleasing the four department stores was critical for that center. "Without it," he says, "we wouldn't have been able to get the financing."

Bob Burke, retail services managing director for Los Angeles-based CB Richard Ellis, says most retail projects will not get financed for either construction or permanent financing unless there is a precommitment from significant major tenants - and sometimes secondary tenants as well.

Anthony Giordano, associate director of New York-based Teachers Insurance and Annuities Association (TIAA) - one of the companies that helped finance the Mall of Georgia - says co-tenancy requirements sometimes make or break a deal. His company looks closely at preleasing to try to avoid the domino effect, where one main shop or anchor pulls out and others quickly follow, as a result of poor tenant mix.

Once tenant-mix issues are worked out, shopping centers need to be 70% preleased, says John Peirce, senior vice president at Birmingham, Ala.-based South Trust Bank. His company requires that 70% of gross potential income be in place at the time it closes a loan and requires that 50% of the gross potential income be with credit tenants. These credit tenants should have long-term leases and have strong financial statements with an S&P rating no less than triple-B.

Mark McGovern, first vice president at Dallas-based L.J. Melody & Co., says, "I doubt anyone is going to build a spec retail deal today. Anchor tenants [as well as lenders] have very specific guidelines these days about what they want in their space."

So how do these developers attract financing through preleasing efforts? Experience tells them that the lender is looking for a good credit tenant, a good fit for the center and a good location.

Lenders' guidelines Lenders' guidelines for preleasing seem to be as individual as the types of centers. For the lifestyle-entertainment center, Parent points out that lenders are interested in financing developers' entertainment projects because they know these types of centers work. When granting financing to developers, they look closely at the retailer's credit. Developers who do entertainment centers must make sure they have the right retailer with the right credit before approaching the lender. This is especially true for the entertainment center.

Construction financing for The Block at Orange, according to Parent, was a $136 million loan, which was LIBOR plus 150 when it started. "They all start out LIBOR plus spread," Parent says, "but when the project opens and we meet certain conditions that spread starts to come down." The Block also had the option of a total term of four to five years.

Financiers of grocery-anchored centers, Edens says, require 70% of the GLA to be leased - although sometimes only 60% is required, if it is a very tight market. He says lenders look for better than a 100% coverage of the debt they are willing to lend you depending on anchor-tenant interest rate costs. The additional coverage of income above the cost of the debt and after expenses can come from smaller tenants.

Financing on Edens' projects will be a 50% loan-to-cost on permanent financing with construction financing a little higher at 70% to 80%. Edens points out that, when they do permanent financing, his company tries never to exceed 50% of the cost.

To determine the financial viability of the Mall of Georgia, Patterson says a study was done on the trade area, the demographics, the growth trend and the impact of a local mall. The developers needed to determine the number of people who lived in the area and the likelihood they would shop at the Mall of Georgia. This would determine the potential viability of the shop space of the tenants and whether they could make money and stay in the property. In turn, it would give lenders information they needed to make an educated decision.

According to Patterson, the combination construction and permanent loan on the Mall of Georgia was different because a construction loan is normally not provided. "This [loan] was somewhat unique," says Patterson. "Typically what is done is just a permanent loan on a mall. The typical permanent loan would have a 10-year term and a 30-year amortization and be structured so the amount wouldn't exceed value."

McGovern adds that the loan-to-value and the debt coverage upon completion and stabilization, probably 75% of value with a 1.25 coverage at best, is what his company uses to gauge the financial health of a center.

Steve Williams, senior vice president with Protective Life Insurance Co., provides two types of financing - a straight, 75% loan-to-value and participating loans, where more money could be lent for an interest in the income stream, and the residual value. "Generally," Williams says, "there is a high loan-to-value somewhere in the vicinity of 85%." According to Shirish Godbole, vice president at New York-based Morgan Stanley, his company provides long-term financing which is a seven- to 10-year permanent loan. They also provide three- to five-year, floating-rate financing.

Retailers make the difference With strong retailers, those stringent lender guidelines can seem much easier to satisfy. What do developers look for in a strong tenant? According to Parent, landlords need a certain level of income to support the loan. "The lender wants to make sure [the tenants] are generating enough on the leases to pay back their debt, but they are also looking for specific types of tenants," Parent says. "Because they know two or three years into [the loan] some other lender is going to look at this mall and be willing to put a loan on it, which is the only take-out source for the construction lender. So we are looking for the types of tenants that are going to make the mall vibrant and survive five to 10 years."

Oftentimes a developer will have retailer relationships that carry over from one project to another, which helps them get financing. Many of the repetitive retailers across Mills' portfolio, though did not follow them because the format of the Block was so different than the traditional Mills' project. This was not necessarily bad.

"A handful of the merchants with which we have relationships - Dave & Busters, GameWorks, Saks Fifth Avenue - came along," says Rivers. "But in the small-shop category we actually developed a number of new relationships." Retailer relationships have been good for Mills, Parent adds, especially with T.J.Maxx/Marshalls which leases the most space of any retailer - about 4% of its total GLA.

Edens looks for a food anchor tenant when developing a project. "We put a great deal of focus on the food-anchored retail property," says Edens. He adds that his company looks for food retailers with significant market share, at least in the top three, along with a good credit rating.

Overall, Edens & Avant's largest food retailer is Food Lion, with 1.8 million sq. ft., representing about 6% of the company's aggregate footage. Edens says there are many tenants with retailing formats that are very compatible and consistent with food anchor tenants. Once you can get a commitment from a certain food anchor tenant, he says, there is a known group of tenants who will consider occupancy in that project.

Snyder says retailers talk to and build relationships with Simon because they feel the company has the confidence to pull together large or complicated projects. "Who you are and what your track record is, not just us but any developer, is going to impact how well you are received in the financial markets," he says.

Developers agree that preleasing plays a vital role in their ability to get financing. Lenders gauge whether it is feasible to give financing to a developer by the retailer's credit and their interaction with other tenants.

As consumers search for the ultimate shopping experience and the retail industry races to keep up with them, developers will be met with a challenge - to provide unique retailers for the customer and to prelease and lease to retailers who can attract lenders. With those future demands and if those retailers show themselves, the developers will meet the challenge and the financing dollars will follow.

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