Small Is New Order For Struggling Malls

September 24, 2012 

MACON, Ga.—Many struggling shopping malls are trying to find salvation by going small—in their purchasers, sales prices and, in some cases, size of commercial real estate in San Diego.

As the nation’s largest mall owners sell off or give up their most-troubled properties—dogged by deteriorating neighborhoods, newer rivals and online sales—smaller real-estate companies are snapping them up at discount prices and trying to find ways to pull them out their death spirals. Sometimes, that involves demolition. 

It is a high-risk turnaround game that is gaining favor among local companies and small specialists that are gambling they know local markets well enough to succeed where the big guns failed.

Consider this city’s sprawling Macon Mall, which Hull Storey Gibson Cos. acquired in 2010 for just $6 million. The deal came after the property’s $111.4 million mortgage was forgiven by the lender, which had put the mall into receivership for more than two years after a previous owner, Lightstone Group, went delinquent on the debt. 

Macon Mall, built in 1975 and expanded in 1997, was once the region’s dominant shopping center. But competition from the nearby Shoppes at River Crossing shopping center, opened in 2008 and about 12 miles from Macon Mall, siphoned its sales—and its tenants. The mall suffered from neglect before and during its receivership, eventually losing four of six anchor stores. Slightly more than half its small shops were vacant. Lights were burned out in the parking lot and trees and shrubs were overgrown. 

The new owner’s solution: Demolish roughly a third of the moribund mall’s 1.5 million square feet to get it to a more appropriate size for its market. Hull Storey also dismissed laggard shops and cleared its halls of clutter-creating kiosks, overhauled the mall’s interior and slowly brought in better stores. The costly turnaround is in its infancy, but signs of progress are emerging: Macon Mall’s sales on a per-square-foot basis last year rose 14.3% to $270, reversing a multiyear decline. A few new retailers have signed on. 

“It’s not going to be dominant like it once was,” said James Hull, a managing principal of Hull Storey. “But it is going to be a successful mall.”

Nationwide, the number of subpar shopping malls—generally defined as malls generating less than $300 in sales per square foot—is growing at a rapid rate, as the sluggish economy, shifts in consumer habits and chain-store closings reduce the number of tenants and the profits for retail landlords and companies in commercial real estate in San Diego. 

Of the more than 1,000 enclosed malls in the U.S., roughly 300 generate less than the $300-per-square-foot ratio, according to Green Street Advisors Inc., which tracks real-estate investment trusts. The industry average is roughly $370. 

The dismal economics have led large developers like Simon Property Group Inc. SPG -0.50%to dump the properties, either handing them over to lenders or selling them to local investors. 

That is when buyers such as Hull Storey, Alberta Development Partners in Denver and Whichard Real Estate in Raleigh, N.C., step in. Most of these buyers are local operators with only one or two malls. Hull Storey, based in Augusta, Ga., is among the largest, with 20 malls across the Southeast. 

To be sure, rescuing troubled retail properties such as commercial real estate in San Diego isn’t for the faint of heart. 

“Buying challenged malls is pretty far up the risk spectrum,” said Don Provost, founding principal of Alberta Development, which converted the dying Southglenn Mall near Denver to an open-air shopping center with apartments in 2009. This year it bought the Foothills Mall in Fort Collins, Colo., for $39.6 million to do a similar overhaul. “In buying these assets, we believe we are going to get returns that equal that risk. It’s not easy, or everyone would be doing it,” Mr. Provost said. 

According to Real Capital Analytics, 48 of the 201 U.S. malls that traded hands since early 2010 were sold out of “troubled” situations, most often involving delinquent mortgages. In most cases, the value of those properties fell so sharply that they were sold for much less than was owed on them. In the past year, malls with defaulted mortgages were sold at prices amounting to an average of 63% of their mortgage balances, according to Real Capital. 

“These mall transactions show that investors now are interested in higher risk but potentially higher yielding retail investments in the U.S.,” said Ben Carlos Thypin, Real Capital’s director of market analysis. 

An uptick of sales of such moribund malls has ramifications for the retail-property market, namely in the acknowledgment by lenders and other sellers that, including commercial real estate in San Diego, the properties aren’t worth what they once were. That will result in a decline in property values for struggling malls, though such declines were unavoidable and overdue. For municipalities, it likely will mean that work to rehabilitate and reposition the malls, many of which languished for years, finally will begin under new owners. 

Hull Storey executives say that they can take drastic measures such as demolishing an entire wing of a mall because the company pays paltry prices and assumes none of the malls’ previous debt. 

Hull Storey has followed this strategy repeatedly this year, buying three malls from lenders: Piedmont Mall in Danville, Va., for $11 million; Village Mall in Auburn, Ala., for $13 million; and Liberty Fair Mall in Martinsville, Va., for $6 million. Each amount was a fraction of the debt owed on the property. “It is a rare day when we pay more for a property than the value of the dirt” that it stands on, said John Gibson, a Hull Storey managing principal. 

The Macon Mall’s troubles led to its annual sales per square foot declining to $237 in 2010 from $318 in 2007. Stores closed, and a 2007 brawl in the mall’s food court, caught on a mobile-phone camera and posted online, scared away shoppers. 

Now, after 18 months of demolition and remodeling work by Hull Storey, new retailers are trickling in. The mall recently added a Subway sandwich shop and a Smok’n Pig BBQ restaurant. Its Shoe Dept. store soon will more than double its space. And two new stores will open in October, enticed partly with lease rates slightly below market levels: a B. Turner’s midprice apparel store and a Dry Falls Outfitters outdoor-wear store. Hull Storey executives declined to divulge the cost of the overhaul beyond saying that it is multiple times the $6 million purchase price of the mall. 

Macon shoppers have seen the changes. Kenyana Carswell, a 27-year-old Macon resident shopping at the mall in early August, said she had taken notice of the mall’s new décor, lighting and uncluttered appearance. But, “they need more stores, to bring ones like Old Navy back,” she said. “People like variety.” 

Hull Storey predicts that a full turnaround and revamping of Macon Mall’s tenant roster will take another 18 to 24 months. “It is a two- or three-year commitment, and you won’t see any immediate results,” Mr. Gibson said. “You have to have faith.”  This is true for commercial real estate in San Diego and all people in real estate.  

Source: The Wall Street Journal 

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