General Growth lowering rents as anchors close

U.S. mall owners General Growth Properties Inc., Kite Realty Group Trust and Macerich Co., faced with rising vacancy rates in the recession, are being forced to accept lower rents from their remaining tenants.

Real estate investment trusts that own retail properties are getting snagged by co-tenancy clauses that allow merchants to pay less when anchors like department stores shut down, according to Real Point LLC data based on loan-servicer reports.

"A year ago, tenants in major shopping centers were rarely invoking co-tenancy clauses," said Charles Daroff, a partner at Hurtuk & Daroff Co., a Cleveland-based law firm that specializes in real estate. "Today, with the disappearance of major tenants and increasing vacancies, these clauses are being triggered."

Linens 'n Things Inc., Circuit City Stores Inc. and Steve & Barry's LLC are among retailers that filed for bankruptcy protection in the past year as consumers cut back. Sales at U.S. stores fell 2.7 percent in December, the sixth monthly drop in a row. That's the longest period of declines since comparable records began in 1992, according to the Commerce Department.

The decline in rental income could hurt mall owners' ability to make debt payments at a time when some are on the brink of insolvency, said Andy Day, a commercial mortgage- backed securities analyst at Morgan Stanley. Lenders may demand more onerous terms when refinancing debt, he said.

Late Payments

A growing number of shopping-center owners are falling behind on loan payments. The 60-day delinquency rate on retail property mortgages that were bundled and sold as bonds is currently 0.96 percent, compared with 0.32 percent in September, Morgan Stanley data show. Shopping centers and malls account for 27 percent of the $824 billion in commercial mortgage-backed debt outstanding, according to Morgan Stanley.

Mall REIT shareholders may see more declines this year. The Bloomberg REIT Regional Mall Index, whose seven companies include General Growth, has plunged 69 percent in the past year. That's more than the 53 percent drop in the Bloomberg REIT Index. The Bloomberg REIT Shopping Center Index, comprised of 20 companies including Kite, has fallen 52 percent.

Reduced Rent

Co-tenancy clauses are built into leases to ensure tenants get the foot traffic they pay for. If an anchor store leaves, smaller tenants often have the right to pay less rent until the space is filled. If it isn't filled, other retailers at the shopping center may be allowed to break their leases and leave.

During the development phase, future tenants often have rents tied to occupancy rates or the securing of key anchors, and don't have to pay full rent until those conditions are met.

Linens 'n Things was one of the largest tenants at the Plaza at Cedar Hill, a 299,847 square-foot (27,857 square- meter) shopping center outside of Dallas owned by Kite Realty. The retailer closed its store there in May. In August, Gap Inc.'s Old Navy stopped paying base rent and instead paid 2 percent of sales, according to the loan documents.

TJX Cos.' department store Marshalls will begin paying 2 percent of sales in place of base rent if the space is still empty at the end of February.

"No one want to invoke a co-tenancy clause, but, especially in this economic environment, we want to be in vibrant malls where traffic is high," said David Zoba, senior vice president of real estate for Gap, the largest U.S. clothing retailer.

Kite Realty Chief Financial Officer Dan Sink didn't respond to requests for comment.

Share Drop

Indianapolis-based Kite's shares have dropped by almost two-thirds in the past year. They fell 9 cents to $4.77 as of 10:42 a.m. in New York Stock Exchange composite trading.

At Macerich's Valley View Center in Dallas, anchor tenants Macy's and Dillard's have both closed, and Steve & Barry's had its rent reduced by 40 percent to keep the bankrupt retailer in place and maintain occupancy, according to loan documents. Several tenants have co-tenancy agreements that may be triggered, records show.

Macerich Chief Financial Officer Thomas O'Hern didn't return telephone calls seeking comment.

Santa Monica, California-based Macerich rose 51 cents to $14.50 in New York trading. Its shares plunged 80 percent in the past year through yesterday.

At General Growth's First Colony Mall in Sugar Land, Texas, several tenants have co-tenancy requirements tied to occupancy and are paying a percentage of sales in lieu of base rent, according to loan documents.

'Domino Effect'

"The biggest fear is that this could have a domino effect," said David Matthews, a principal specializing in retail properties at law firm Bartko Zankel Tarrant & Miller in San Francisco, California. "If one big guy goes down, this could cause an entire center to unravel."

General Growth spokesman Tim Goebel said the company doesn't disclose financial information on a mall-by-mall basis, and wouldn't discuss co-tenancy clauses at First Colony.

"We try to push back and minimize the extent we would be exposed" to rent losses due to co-tenancy agreements, he said. "But it's a negotiation. Every lease is different."

General Growth, based in Chicago, has lost 98 percent of its stock-market value in the past year through yesterday, cutting its capitalization to $233 million. Its shares rose 1 cent to 76 cents in New York trading at 10:53 a.m.

General Growth

General Growth, the owner or manager of more than 200 malls in 44 states, is trying to sell properties in Las Vegas, New York and other U.S. cities to pay down debt. The company has said it may have to file for bankruptcy protection if it's unable to refinance debt. General Growth has hired the New York based-law firm Weil Gotshal & Manges to counsel it on a possible bankruptcy filing, replacing Chicago's Sidley Austin.

Linens 'n Things Inc., a houseware retailer that had been taken private for $1.3 billion by Apollo Management LP, filed for bankruptcy last May and began liquidating in October. Circuit City filed last year's biggest retail bankruptcy in October, and began liquidating last month. Steve & Barry's filed for Chapter 11 reorganization in July and sold most of its assets to BH S&B Holdings in August. BH S&B entered bankruptcy in November, citing the deteriorating U.S. economy.

The closures won't make it easy for mall companies to pay loans, said Day.

"Clearly, it makes it more difficult," Day said. "It depends on whether the anchor tenant is likely to be replaced. There are select retailers looking to expand opportunistically, but they are few and far between."