LAS VEGAS — As president and CEO of asset services at The Woodmont Company — which manages about 18.5 million square feet of retail centers, enclosed regional malls and outlet centers almost exclusively on a third-party basis — Fred Meno has had a front-row seat to the store closures and retail repurposing projects that have defined the market in the e-commerce era.
Meno, whose company is based in Fort Worth, specializes in work that has afforded him the opportunity to see the big picture, to grasp the most in-depth reasons behind why certain retail categories are failing and why others are thriving.
In some cases, that’s a factor of what types of retail uses are featured in certain types of properties. In others, it’s a matter of the retailer entering into a highly leveraged buyout deal to appease shareholders and gain additional time to right-size its stores and reshape its strategy. Sometimes it’s a simple matter of not adapting quickly enough to game-changing technology that can take the industry by storm.
REBusinessonline.com sat down with Meno last week in Las Vegas during RECon, which attracted more than 30,000 retail real estate professionals, to pick his brain on what the future holds for brick-and-mortar retail, as well as to gain a better understanding of how distressed shopping centers can either be fixed or reimagined. What follows are his edited remarks:
REBusinessonline.com: Does Woodmont have its own portfolio of retail real estate holdings?
Fred Meno: We operate roughly 18.5 million square feet, but the volume of real estate in which we have equity is probably less than 1 million square feet. Out of our third-party portfolio of managed space, about 85 percent is with lenders that have taken projects back — distressed properties.
REBO: As a full-service real estate firm, what’s your assessment of the overall health of the retail market today? What is the big story for in the industry in 2019?
Meno: I don’t know that there’s only one story. I would say that the balance sheet condition of many retailers continues to be a concern. The balance sheet issue is mainly a result of all the leveraged buyouts that have taken place over the years. Last year, there were about 35 retail bankruptcies. We’re on pace for 30 this year and another 30 next year.
About 60 percent of those bankruptcies are attributable to retailers being overleveraged on their balance sheets, which have led to those leveraged buyouts. So, a lot of people look at retail and see a sales problem. In many cases, that’s secondary to the fact that they’re overleveraged and their balance sheets don’t allow them to grow and be profitable.
REBO: How did many of these retailers become overleveraged?
Meno: I don’t know that there’s a specific reason behind every retailer’s story, other than Wall Street seeing an opportunity in some respects with venture capital buying a lot of these retailers and leveraging them after the acquisition. There’s no cookie-cutter reason why that happened beyond monetary factors.
REBO: Is there an end in sight for the bankruptcies?
Meno: The market will dictate whether or not there’s light at the end of the tunnel. There has to be some darkness before the sun comes out. But the competition and closures — the cleaning out of the weaker performers — is actually good for the retail business. We’re seeing the law of the jungle in retail, wherein the strong eat the weak and continue to dominate. Overall, that should be good for the industry.
We are still in an overstored retail market. As mall product starts to diminish and disappear or get repurposed, you’re going to see a lot of that gross leasable area (GLA) taken off the market, which will be healthy as well for the industry. But right now, I do think we’re going to feel more pain in retail.
We’re in the eighth inning of the game wherein occupancies are not only declining, but so too are rents, which is a dual indicator of the retail cycle being in its later stages. We expect to have somewhere between 8,000 and 10,000 total store closings for all of 2019 and probably 6,000 to 8,000 in 2020. So there’s still this churn that’s taking place, but it’s a necessary evil.
REBO: You’re probably not appearing on a lot of retail panels with that sobering news.
Meno: Our company is on the frontline of trying to fix the issues with brick-and-mortar retail, but it takes a lot of creativity because there’s so much repurposing that has to take place, so much backfilling of vacancies with non-retail uses. But that’s what the industry is faced with in a market that has a shrinking pool of brick-and-mortar retailers.
REBO: We’ve seen a lot of closures of apparel stores. Are there any other patterns to the closures that you’ve noticed?
Meno: Apparel is probably a sitting duck among retail categories. It’s been exacerbated because apparel stores have been in malls, which get a lot of publicity as the most distressed property type now. Apparel is still overrepresented right now in malls. The same holds for department stores, which sell a lot of apparel, so it’s very at-risk as a category.
We’ve seen a lot of growth in restaurants and dollar stores, and you wonder if those two categories aren’t approaching a point where they’re becoming over-represented. Family Dollar announced a good deal of store closures. Dollar Tree is still expanding.
If you look at restaurant sales, we’re starting to see some declines in that space across the spectrum of different restaurant types. We’re seeing some pressures and some trends moving downward, so there’s cause for concern about oversupply within that industry.
Coming out of the Great Recession, the only type of retail product that was being built from the ground up was outlet centers. We’ve seen that space become a little overbuilt and have a bubble form around it. We’re already seeing some distressed outlet center product going back to lenders, and that industry as a whole has been in flux due to the department store sensitivity issues that have existed in that sector for many years.
REBO: What sectors are hitting it out of the park?
Meno: Neighborhood and grocery-anchored centers are doing well. By design, neighborhood shopping centers are still the most Internet-proof. As online shopping improves its last-mile delivery issues, you’ll see neighborhood retail centers continue to serve a purpose and help with that problem.
So the neighborhood shopping center real estate is, by nature, the best-located [property] and closest to rooftops. So whether or not you see some slippage with grocery stores, either through downsizing or any other form of trouble, that’s going to be the space that’s most easily backfilled and will continue to be in demand.
REBO: What are the other hallmarks of the neighborhood shopping center?
Meno: It’s the service and convenience of the merchant makeup that you have in neighborhood centers that, for the most part, is immune to online competition. That’s what we like about those properties, whether it’s The UPS Store, the nail salon or the dry cleaner. These tenants provide a service for the three-mile demographic. The neighborhood centers are still going to do well in the long term. The way things are changing so rapidly, however, long term may only be five years. But we believe that product type is the least [vulnerable] right now.
REBO: In the case of apparel, were there too many stores or was there too much online competition? Was there too much sameness within the industry or did the online competitors really disrupt it?
Meno: There’s a whole host of issues. You have the growth of the millennial shopper who wants an experience as opposed to just buying “stuff,” whereas the baby boomers were a bit more fashion-focused. You’ve got changing technology that can make apparel shopping a little more of a virtual-reality type of shopping environment.
There’s technology that can scan every size and shape and can create an exact model of you. You could go in and pick out different articles and see how you’d look with every mixed-and-matched piece of apparel. And you have that virtual dressing room that doesn’t require that you get out of your pajamas and drive your car to the mall.
That could have a big impact on brick-and-mortar retail, but it’s not too much of a George Jetson-type of prediction to say we’re going to be at a similar point in the future. (The Jetsons was an animated sitcom that aired in the 1960s and whose characters lived a century in the future.) The ease of picking out apparel online and knowing before it’s shipped that it will fit the way you expect it to fit is also very appealing to shoppers — to be able to use your phone to take measurements. And it’s only going to get more sophisticated in that regard. So, if I’m an apparel retailer, I’m concerned about that.
But there are also some good things to talk about. A lot of pure-play digital brands are learning the importance of opening brick-and-mortar locations because of the synergy and the traffic that’s being redirected to their website from visitors to the physical location.
Studies have shown a correlation between the digitally native brands that open physical locations and increases in their website traffic. Conversely, when they close a brick-and-mortar location, there’s a reduction in digital traffic. So that represents a big opportunity for brick-and-mortar landlords, and you should continue to see more of that trend.
REBO: Are movie theaters a function of the box office business as a whole, or are there other factors at play with regard to that niche of the market?
Meno: Movie theaters fall into the category of experiential, entertainment retail. In malls especially, having that experiential component — movie theaters, bowling alleys, rock climbing facilities, trampoline parks — all those uses are important today in fighting Internet-based shopping. It caters to the view that the millennial shopper is looking for experiences over “stuff.”
We like to see a movie theater in malls that are on the [selling block], and if we find that a particular market is undersupplied with screens, we try to bring in a theater. The problem lies in the costs of constructing and converting a vacant store into a movie theater. It’s quite difficult to make the numbers for a project like that pencil out.
Hollywood comes and goes with the films it’s producing, but it’s been proven that if you come out with a superior product, people will come out, see it and buy it. Fifteen to 20 years ago, there was more concern that movie theaters didn’t generate a lot of cross-shopping, and that’s proven to be a myopic observation.
Now, landlords are realizing that if they can create more of an experiential opportunity involving a product beyond the movie theater, they’re going to be able to keep shoppers there longer. So it’s a matter of creating concepts — whether power centers, malls or whatever — it’s all about keeping the shopper there longer and promoting cross-shopping.
REBO: If you had a larger message to give the industry, what would that be?
You have to recognize a problem before you can fix it. If you fail to recognize the problem, you’re going to avoid it and never fix it and the problem will become worse. So because of that, we try to have a pragmatic approach to retail, which has problems that are fixable. But to ignore the problem is a mistake. With every problem comes opportunity.
REBO: Every situation is different, but for clients utilizing your services, what’s the game plan or strategy to turn around the situation?
Meno: The strategy really depends on the client. For example, if you’re dealing with a community bank, the way it operates the property during the holding period is different from the way a special servicer like a CMBS lender would operate the property during its holding period. A lot of foreclosures and receivership work that we do — when we’re doing that for a special servicer, that servicer is governed by REMIC (real estate mortgage investment conduit) law.
One of the ways the special servicers are handcuffed lies in the fact that under REMIC law, they can’t change the footprint of the improvements that are on the property. If you have a 500,000-square-foot mall and you don’t think it can further exist as an enclosed regional mall and you want to redevelop the property, that can’t happen under REMIC law.
So, if you wanted to shrink the enclosed portion by 200,000 square feet, leaving 300,000 square feet in place and creating 200,000 square feet of big-box, storefront retail — that can’t happen because the special servicer can’t reduce GLA during the holding period. In that situation, we’d look to reduce the shop space in half the mall and pop in a Hobby Lobby or Petco inside the confines of those four walls so we’re not changing the GLA. That eliminates a lot of the shop-space GLA that’s tough to lease. Then we relocate some of those tenants to the other side and increase the occupancy on the part of the enclosed mall we want to keep.
That would be one way of doing it. A second way would be to do a highest- and best-use study on the mall to understand if our assumption — that the property can’t be rejuvenated as a viable regional mall — is correct and what a site plan reconfiguration would look like.
Could the market support more office that could be converted from the retail use? Or can a multifamily component be brought in? Whatever it is, we do this study, which allows lenders to sell that property with some bells and whistles when they bring it to market. They can present it to a buyer as a repurposed/value-add opportunity.
Hopefully by doing that, the special servicer isn’t just attracting bottom-feeder buyers who only want distressed malls, but maybe can position that mall as an attractive buy to the development community that may pay more than $25 per square foot for a mall that on the surface has no future. If we can create the vision for special servicers, it creates value for them when they go to sell properties.
But if it’s a community bank, it’s a different story because community banks aren’t constrained by the same regulations during the holding periods and can do other things to generate return on investment (ROI).
— Matt Valley and Taylor Williams