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General Growth's $766 Million Gamble

Some analysts say General Growth Properties' high-rolling purchase of the Grand Canal Shoppes at the Venetian Hotel in Las Vegas may be a gamble, particularly considering the recent fall in REIT stock prices. General Growth's shares have fallen almost twice as much as the average REIT in the stock market slide in recent weeks.

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 yet-to-be-completed phase, which will include between 325,000 and 375,000 square feet. The deal's "just shy of a 6 percent" cap rate, and a price-to-tenant sales ratio of 1.9 percent makes the transaction one of the most expensive single-property retail transactions he's seen, says Morgan Stanley analyst Matthew Ostrower. But analysts also criticized General Growth back 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 productive shopping centers for what later proved a reasonable price. The REIT then added to Ala Moana's NOI through repositioning and a cyclical rebound, Ostrower adds.

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 Shops at Caesars Palace, right across the Strip from the Venetian. The REIT plans to achieve a yield of about 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 current 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."

In other news, Foot Locker plans on paying $160 million for 350 of Footstar's Footaction stores if a bankruptcy court approves the deal. The purchase will increase Foot Locker's dominance in suburban malls and in major urban locations. Foot Locker currently controls 19 percent of the U.S. branded athletic footwear market. "The Footaction stores included in this acquisition are likely all operating profitably," says John Shanley, an analyst with Wells Fargo Securities. Footstar has been aggressively closing its underperforming Footaction stores during the past 18 months, from a previous store base of 600. The court is expected to approve the deal by month's end.

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