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Shopping Centers Today -> March 2002
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WAITING FOR KMART’S AXE TO FALL
Industry weighs impact of discounter’s bankruptcy
By Donna Mitchell
Community and neighborhood center developers are due to find out this month whether they will be hit by Kmart Corp.’s Chapter 11 filing — and if so, how hard.
Troy, Mich.-based Kmart, which sought bankruptcy protection in January, says it will keep all 2,114 of its existing stores open but wants to terminate the leases on about 350 units that have already closed. Analysts predict the number could reach 500. In any case, it means potentially significant revenue losses for such shopping center owners as Kimco Realty Corp. and Malan Realty Investors, which lease substantial portions of their portfolios to the retailer.
Even where stores don’t go dark, the retailer could “use the threat of lease rejection to force owners to lower rents on many locations,” noted Matthew Ostrower, a retail REIT analyst for Morgan Stanley Dean Witter, in a January report on the bankruptcy.
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Uncertainty about Kmart’s intentions particularly jostled Kimco, which leases 75 stores to the discounter. A week before Kmart’s filing, Salomon Smith Barney downgraded the New Hyde Park, N.Y.-based company to neutral from outperform, causing its stock price to slip to $30.37 from $31.55 the day after the downgrade. That is a major drop for a REIT stock, a category that normally does not see such abrupt price changes, said Ross Nussbaum, a Salomon REIT analyst.
But the market should not read too much into the slide, analysts said. The REIT team at UBS Warburg recommended that investors pick up Kimco stock, and Salomon and UBS both affirmed its underlying strength, saying it could recover a one-time payment from Kmart equaling two to three years of rent in the bankruptcy process. Moreover, a majority of the space could be re-leased to such retailers as The Home Depot, Kohl’s Corp., Lowe’s Cos. and Wal-Mart Stores, observed UBS analysts.
Kimco officials expect Kmart to reject the leases on at least 13 already closed locations and to shut additional stores. The 13 targeted properties represent about $15.4 million in annual base rent (ABR), or roughly 3 percent of gross rental revenue. Kimco lowered its forecast on funds from operation (FFO) for 2002; the company now expects FFO to be between $3.02 and $3.10 per share. Wall Street had expected Kimco to post $3.23 a share this year, according to analyst surveys compiled by Boston-based Thomson Financial/First Call; that estimate dropped to $3.08 after Wall Street commentary.
Meanwhile, Bingham Farms, Mich.-based Malan Realty has 27 portfolio properties leased to Kmart and says it derives 25 percent of ABR from the retailer.
“We estimate that Malan has a potential exposure on approximately six to 12 properties” for lease rejection, Malan CEO Jeffrey D. Lewis said in a written statement. As of January, Malan had not followed Kimco’s lead by reducing its own FFO growth targets. But Malan officials nonetheless remained open to the possibility, saying that FFO could be reduced by as much as $2.2 million, or 43 cents per share, annually, and that cash available for distribution could be reduced even further.
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| The blue light will turn red at up to 500 stores, analysts predict. |
Developers Diversified Realty is faring better — so far. At press time it held only one of the leases that Kmart had targeted for rejection, according to Morgan Stanley analysts. Yet the Cleveland-based REIT could still be vulnerable; the 25 locations it leases to Kmart represent about 3 percent of its total base rents, said DDR spokesman Scott Schroeder.
“That’s not insignificant,” Schroeder said. “They are our second-largest tenant.”
At press time Glimcher Realty Trust was evaluating replacement tenants while waiting to hear whether Kmart would renege on any of its 14 leases with the developer, said William G. Cornely, executive vice president, COO and CFO at the Columbus, Ohio, REIT. Those leases account for about $5.3 million, or slightly more than 2 percent, of its annualized minimum rents.
“Until we get an indication from Kmart, it would be difficult to quantify the impact, if any,” Cornely said.
Meanwhile, even centers with no Kmarts could end up feeling the impact of the bankruptcy, which is encouraging the market to impart more favorable pricing on shopping centers anchored by supermarkets, noted James Koury, a senior vice president at Boston-based Spaulding & Slye Colliers, a real estate services firm. Several years ago an investor could expect a capitalization rate of 9 for a supermarket-anchored center, while a nongrocery-anchored property would yield a cap rate of 10. Today a supermarket-anchored center still yields a cap rate of 9, but a nongrocery-anchored one would produce a cap rate of 11 or 12, Koury said.
“It’s going to be tough on owners, especially as Kmart reorganizes,” Koury said, noting that Kmart could spare the industry a lot of anxiety if it emerges from bankruptcy quickly. “The longer it takes them to do that, the worse it is for the whole industry.
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