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Welcome Green Shoots for Beleaguered Retail Industry

LAS VEGAS — While it’s still mired in a terrible slump, the retail real estate industry is exhibiting “green buds pushing out from the ashes,” according to Sheridan Schechner, managing director of Barclays Capital.

The combination of REITs successfully raising capital, banks reporting better first-quarter earnings than expected, and tightening credit spreads is a positive sign for a retail industry under siege, insists the New York-based real estate investment banker.

But the employment picture is a grim reminder of the challenges ahead. Since the start of the recession in December 2007, the U.S. economy has shed 5.7 million jobs. That figure could ultimately reach 7 million, say some economists. The upshot is weak consumer demand, rising tenant vacancies, and declining net operating income for many shopping center owners.

“Up until about three or four weeks ago, it felt like we were on a train that we couldn’t get off. It was crashing,” remarked Schechner, speaking before several hundred industry professionals assembled at the Renaissance Hotel on Monday evening.

“But now it feels better than expected. Whether it’s because the REITs have raised money, or because the banks have passed their stress tests, or the ones that haven’t passed their stress test have gone out and raised a bunch of capital, it feels like there is a lot of positive momentum. Now whether it’s going to be a dead cat bounce or something else, we still all have to see,” Schechner added.

Sponsored by Marcus & Millichap Real Estate Investment Services, the panel discussion also included Robert Michaels, vice chairman of General Growth Properties, and David Lukes, COO of Kimco Realty. The one-hour event came during the second day of RECon, the annual convention of the International Council of Shopping Centers.

The importance of tightening credit spreads can’t be overstated, explains Schechner. “If you are a major hotel company, a month ago you couldn’t borrow at interest rates less than 13% to 15%, and now you can borrow at 8% or 9%. If you are a major retailer, a month ago you couldn’t borrow at less than 9.5% or 10%, and now you are borrowing at 5% to 6%.”

In another positive sign, earlier this month Indianapolis-based Simon Property Group, the nation’s largest shopping mall owner, raised $1 billion through a stock sale. That comes on the heels of a similar move in March by the giant mall REIT, when it raised about $543 million in a stock sale to help pay down its debt.

Meanwhile, interest rates for REITs in the unsecured debt market have fallen substantially. Simon, for example, recently issued debt at 7% compared with 10.75% about six weeks ago, according to Schechner. “We’re watching money come back in and people starting to creep out on the risk curve, and not just be investing in Treasuries.”

Michaels of Chicago-based General Growth Properties, which filed for Chapter 11 bankruptcy protection in mid April, said his company’s view of the retail industry “is that it’s not as bad as the press would make it out to be. We own or manage 200 regional malls throughout the country. Our occupancy is approximately 91%. If you add in the retailers that are less than 12-month leases, we are probably in the 93% to 94% [range].”

All of the retail REITs that reported earnings for the most recent quarter posted portfolio-wide occupancies above 90% and net operating income that was either flat, growing incrementally, or down just slightly, points out Michaels.

The mood among retailers has improved over the last two or three months, says the veteran shopping center executive. “While there will be retailers who will not survive this downturn, as there always is, I think that it will be much fewer than what we had anticipated early on this year.”

Still, he’s not Pollyanish. The rest of 2009 will be tough sledding for the retail industry. Occupancies and net operating income will likely remain flat or dip somewhat, but Michaels anticipates the start of a recovery this fall. Retailers already are beginning to boost their inventories, he says. “You will never find a more optimistic group of people in the world than the retailers, but overall they are sensing the mood is better.”

Equally as important, Michaels says, is that the retailers he’s met with at ICSC report their negative sales performance is less acute than it was a few months ago.

Call it a promising green shoot.

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