Can General Growth hold onto its malls?

When General Growth Properties Inc. bought Rouse Co. for $11.3 billion in 2004, Chief Executive Officer John Bucksbaum said the deal amounted to "five years worth of acquisitions in one fell swoop." Now the challenge will be keeping those assets.

Purchasing Rouse gave General Growth malls including Boston's Faneuil Hall, New York's South Street Seaport and The Woodlands in Houston. It also added almost $10 billion in debt to its balance sheet and led the second-largest U.S. mall owner to file for Chapter 11 bankruptcy protection yesterday.

The company has about 200 malls, including Lincolnshire Commons in Lincolnshire and Spring Hill Mall in West Dundee. Not part of the filing were other General Growth-owned malls in the Chicago area -- Northbrook Court in Northbrook, Oakbrook Center in Oak Brook, Golf Mill Shopping Center in Niles and Water Tower Place in Chicago.

"Paying the highest price was not the fatal flaw," said Jim Sullivan, head of retail REIT research at Green Street Advisors, a Newport Beach, California-based property research company. "The fatal flaw was financing this giant purchase exclusively with debt."

Mall owners Simon Property Group Inc., Macerich Co. and Taubman Centers Inc. rallied yesterday on speculation the biggest real estate bankruptcy in the U.S. will allow competitors to buy the company's assets at a discount.

Hedge fund manager William Ackman, whose firm owns about 25 percent of General Growth, said he doesn't think the real estate investment trust will have to resort to a fire sale.

"The probability of Simon or the other mall REITs buying any of General Growth Properties on the cheap is zero," Ackman said in a telephone interview. "They're not going to be forced to do anything because they're in bankruptcy."

Credit Crunch

The Rouse acquisition gave General Growth, the owner of about 200 properties in 44 states, premier malls with strong occupancy rates and tenants. The company has already tried to sell South Street Seaport as well as Las Vegas developments like Fashion Show and The Shoppes at the Palazzo.

"The Rouse portfolio for the most part was a really high- quality portfolio," said James S. Corl, managing director for distressed real estate investments at private-equity firm Siguler Guff & Co. in New York. Still, with "the price General Growth paid, there was a reason why they were the winning bidder. They weren't disciplined on the acquisition front, and certainly not on the financing front."

The Chicago-based company was blocked by the global credit freeze from refinancing some of the $27.3 billion of debt it amassed. General Growth's debt-to-asset ratio was 92 percent at the time it sought protection, according to the filing.

The bankruptcy may remake the nation's mall business and allow Simon to strengthen its position as the No. 1 mall owner, said Dan Fasulo, managing director at real estate research firm Real Capital Analytics.

'Distress Cycle

"I think Simon's going to be able to pick up some of these assets on the cheap," Fasulo said in an interview. General Growth's filing is the "beginning of the distress cycle" and may lead other companies to fail.

It won't be easy or immediate for competitors to capitalize on General Growth's woes. The company said it wants to stay intact. Its success may depend on convincing the bankruptcy judge to consolidate its debts until credit markets recover.

The company on March 23 said that a deadline for bondholders to agree to new terms for $2.25 billion in debt expired without the minimum number of holders accepting the agreement. General Growth said on March 30 it was continuing to negotiate with creditors.

General Growth for months has been trying to sell assets to pay down debt and received offers, none of which it accepted.

'Leaner Company'

"We're not looking for wholesale sales of assets," General Growth President Thomas Nolan said in an interview with Bloomberg Television. "We intend to emerge as a leaner company."

Ackman, whose Pershing Square Capital Management LP will provide General Growth with $375 million in financing to help run the company during the Chapter 11 process, may join the board after the court approves the interim financing. Pershing is the company's third-largest shareholder.

Financing for acquisitions remains scarce and some of General Growth's individual assets are debt-laden, making them potentially less attractive to an acquirer.

The nine regional mall owners tracked by Green Street have an average leverage to asset ratio of 75 percent, according to a March report by the firm.

CBL & Associates Properties Inc. of Chattanooga, Tennessee, Glimcher Realty Trust of Columbus and Philadelphia-based Pennsylvania Real Estate Investment Trust have the highest leverage ratios, at more than 90 percent. Only companies with relatively low debt ratios, such as Sydney-based Westfield at 56 percent, and Simon and Taubman each at 60 percent, will likely have the financial wherewithal to buy assets from General Growth, said Sullivan.

No Thaw

"There's very little sign that the real estate capital markets are unfreezing in a huge way," said Sullivan. "Even for those raising equity, it's been very expensive."

Simon on March 20 sold 15 million shares at $31.50 each, raising $472.5 million, and $650 million of 10-year notes. The notes were priced to yield 10.75 percent. By comparison, last May, Simon sold 10-year bonds that were priced to yield 6.14 percent.

After trying for seven months to refinance its debt, General Growth filed for bankruptcy, listing $29.5 billion in assets and debts of about $27.3 billion. General Growth will continue operating. The company previously suspended its cash dividend and cut its workforce by 20 percent.

Bidding Contest

The Rouse transaction sealed the company's fate, said Sullivan of Green Street.

General Growth bought Rouse after a bidding contest with Simon, Westfield and others in what was then the largest takeover of a real estate investment trust.

By the time some of the debt came due, the credit crunch halted bank lending and pushed the U.S. into a recession that cut consumer spending and property values. Commercial real estate prices in the U.S. dropped 15 percent last year, according to Moody's Investors Service. Retail sales in the U.S. fell in March as job losses forced consumers to pull back.

General Growth had chances to refinance since 2004 and didn't take advantage of them, said Sullivan. Now it faces the prospect of emerging from bankruptcy a smaller player in an industry that has consolidated to the point where an "oligopoly" of publicly traded REITs own about 80 percent of the country's malls, he said.