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Regional Mall REITs Ring Up Solid Quarter

In spite of lackluster retail sales growth in recent months and a slowing economy, regional mall REITs continued their solid performance in third quarter 2007.

With five of the eight regional mall REITs filing their third quarter reports and a sixth, Feldman Mall Properties, reporting its delayed second quarter results, top-echelon players Simon Property Group and Taubman Centers Inc. emerged as the frontrunners, with rising occupancy levels and managements fees, while B-mall operators Pennsylvania Real Estate Investment Trust and Glimcher Realty Trust made headways in improving portfolio metrics. Meanwhile, Macerich Co. posted strong overall results, though it missed consensus estimates by a penny.

The solid performance for the sector came in the face of weak September same-store sales growth--which came in at 1.7 percent, below year-to-date average of 2.3 percent. ICSC expects that sales growth will improve somewhat in October, with 2 percent, and will rise to 2.5 percent in November and December. Meanwhile, economists are projecting full-year GDP growth for the U.S. economy to come in at about 2 percent, the weakest figure since 2002, with projections that 2008 won't be much better. Economists expect GDP to grow about 1.8 percent next year.

But the regional mall sector seems particularly well insulated from any problems that may crop up as a result of an economic slowdown because companies built so few new properties in the past decade, says Jason Lail, senior research analyst with SNL Financial, a Charlottesville, Va.-based research firm. Instead, most regional mall REITs have spent billions in renovating, redeveloping or expanding existing properties, invested internationally or built open-air mixed-use and lifestyle centers.

"There seems to be a consistent belief that class-A malls are not going to be affected by the current consumer market, and in the broader picture, you are not going to see a new saturation of regional malls," he says. "Competition will be non-existent."

The numbers for the third quarter bear this out.

Indianapolis-based Simon Property Group, which serves as the bellwether for the retail REIT sector as the largest company, according to Friedman, Billings, Ramsey analyst Paul Morgan, beat consensus estimates by $0.04 this quarter, with FFO per share of $1.46. The figure represents an increase of 12.3 percent from the third quarter of 2006. Same store NOI for the company's regional malls rose 5.6 percent, while NOI for its outlet center division rose 9.4 percent.

Simon increased both rents and occupancy levels throughout its portfolio--at regional malls, occupancy climbed 20 basis points this quarter, to 92.7 percent, while the outlet centers are now near full occupancy, at 99.6 percent. The number represents an increase of 30 basis points. Rents at regional mall properties rose 4.8 percent, to $36.92 per square foot, while rents at outlet centers grew 5.8 percent, to $25.45 per square foot.

Simon also posted an 8 percent increase in sales per square foot at its outlet centers, to $499. CEO David Simon attributes this robust growth to the influx of foreign tourists eager to take advantage of the weak dollar. Sales at regional malls went up 3.6 percent, to $491 per square foot.

Starting in July, Simon also started receiving management fees from its partner Farallon Capital Management for its work on the Mills Corp. portfolio. Mills rents, at an average of $35.10 per square foot, still trail Simon's by about 5 percent and have a lower occupancy level, at 88.5 percent, but company executives say they already started work on improving those numbers. The Mills portfolio contains 38 properties--about half of which are value megamalls, while the rest are more traditional regional malls.

During Simon's conference call on Oct. 29, chairman and CEO David Simon said the company has seen minimal impact from the slow retail sales growth in recent months, with most tenants still planning to go ahead with new store openings. "There is a lot of economic uncertainty out there and it would be naïve to suggest that there won't be some impact," he said. "But we actually embrace these economic changes, that's when we have done some of our best work."

Simon expects to continue undeterred through the rest of 2007 and into 2008, though company executives concede they might be more conservative with new project rollouts going forward.

"We believe that Simon's malls will be relatively more insulated than some of its peers from the weaker consumer by virtue of the quality of its assets," wrote Bear Stearns analyst Ross Smotrich.

Simon estimates that for the whole of 2007, the company will post FFO per share of $5.88.

Bloomfield Hills, Mich.-based Taubman Centers posted strong results as well, with FFO per share of $0.68, a 19.3 percent increase from the third quarter 2006. Same store NOI increased 9.8 percent.

In general, analysts praised the REIT, but Citigroup's Jonathan Litt pointed out that Taubman's rental growth remained below that of its peers. Taubman reported rent growth of 1.9 percent in the third quarter, at $43.08 per square foot.

During Taubman's conference call, on Oct. 23, company president, chairman and CEO Robert S. Taubman said he remained optimistic about the upcoming holiday sales season, though he admitted third quarter sales performance was uneven within the company's portfolio. "There is no clear pattern to consumer spending across our centers," he said. "But every part of our business seems to be firing on all cylinders, so we are cautiously optimistic."

Taubman estimates that its FFO per share for 2007 will range between $2.83 and $2.87.

Analysts also got a pleasant surprise from Pennsylvania REIT (PREIT), a Philadelphia-based REIT, which operates 38 malls within its 34-million-square-foot portfolio, in addition to 11 strip and power centers. The company beat consensus estimates by $0.06 this quarter, with FFO per share of $0.32. The number represents a 5 percent increase from the third quarter of 2006 and the fourth consecutive positive quarter for PREIT, according to Morgan Stanley analyst Matthew Ostrower.

"We view the return of FFO growth as absolute prerequisite for the stock to begin performing at least in-line with the overall mall REIT peer group," he wrote.

As of Tuesday afternoon, PREIT stock was trading at $37.39 per share, 5.3 percent above its 52-week low of $35.50 per share. PREIT expects that its FFO per share for 2007 will range from $3.82 to $3.87.

Columbus, Ohio-based Glimcher Realty Trust, meanwhile, missed consensus estimates by $0.02 with FFO per share of $0.50, a decrease of 3.8 percent, but the miss represents growing pains, according to Lail. The company has been trying to rid itself of under-performing assets throughout this summer, in an effort to improve its portfolio, and it has lost some rental revenue as a result.

Glimcher's other vital signs, however, seem good, according to analysts. Same-store NOI increased 3.5 percent. Occupancy levels rose 130 basis points to 91.3 percent. Average rents grew 2 percent, to $25.89 per square foot. And average sales increased 2.5 percent for stores less than 10,000 square feet, to $364 per square foot, and 1.7 percent for stores less than 20,000 square feet, to $352 per square foot.

In a note on Oct. 26, Hilliard Lyons vice president Tony Howard wrote that he remains split on Glimcher's performance. "While we believe the company's strategy is the appropriate long term solution, the near-term impact on the bottom line may warrant Glimcher's stock selling at a discount," Howard wrote.

Glimcher expects that its FFO per share for 2007 will range between $2.04 and $2.10.

Even Feldman Mall Properties, which had been behind in its SEC filings since the beginning of the year, pulled through to reveal its second quarter results and announced some management changes, giving analysts hope the REIT might still turn itself around without resorting to a sale.

Analysts had a mixed reaction to news from Great Neck, N.Y.-based Feldman Mall Properties, which finally released its second quarter results on Oct. 26. The company, which operates seven malls totaling 7 million square feet, reported FFO per share of negative $0.12, compared to $0.20 in third quarter 2006, a decrease of 160 percent. Same-store NOI fell 0.9 percent.

During Feldman's conference call on Oct. 29, CEO Larry Feldman apologized to investors for the delays in reporting and the resulting lack of transparency, as well as the weak results posted by the REIT. Feldman already revealed that he will step down as CEO to focus on real estate operations, in his words, his main "strength," while Tom Wirth, who currently serves as CFO, will take on the position of president.

The company's independent board members also formed an executive committee, headed by Bruce Moore, which will help Feldman implement its turnaround strategy and look for new executive talent. For the moment, the REIT will remain without a CEO.

"To be successful, the company needs to accelerate the pace of its redevelopment projects, and our board members recognized that our current structure was not working," Feldman said during the conference call.

Lail views the changes as a positive, but he also believes the company might end up becoming the target of merger and acquisition activity. Feldman already retained the services of Friedman, Billings, Ramsey & Co. this June to help it look at strategic alternatives, and with its stock reaching a 52-week low of $4.34 per share on Oct. 30, it continues to trade at a discount to NAV.

The rest of the sector, however, seems set for another good quarter. Even though Santa Monica-based Macerich Company, which released its numbers earlier today, missed consensus estimates by $0.01 (because of lower-than-expected land sales gains), its FFO per share grew 17 percent in the third quarter, to $1.15. Macerich also reported NOI growth of 2.4 percent, a 5.5 percent increase in sales per square foot, to $460, and a 50 basis point increase in occupancy level, to 93.5 percent.

While market observers expect slow retail sales growth going forward and the market has already seen some notable bankruptcy announcements this fall, including the Movie Gallery and Bombay Company, Inc., Lail thinks it will be some time before the mall REITs start feeling the effects.

"I would expect it would take a year and a half to two years for one retailer's stagnant sales to have a strong effect on a REIT's overall portfolio performance," he says. "And the same applies to bankruptcy."

Regional mall REITs that still have to file their reports include the General Growth Properties, which will report its results later today, and CBL & Associates Properties, Inc., which will report next week.

(Editor's Note: Next week's newsletter will examine shopping center REIT results.)

--Elaine Misonzhnik

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