Macerich's Class A Malls Will Continue to Produce Low but Positive Growth for Years to Come

Senior Equity Analyst

Kevin Brown

Macerich has successfully repositioned the company over the past decade as a true owner and operator of Class A regional malls. Over the past 13 years, the company has sold over $4 billion in mostly lower-quality assets, either directly owned or owned through joint ventures, and recycled the capital into acquiring new Class A malls, buying out its partners' share in the unconsolidated portfolio or redeveloping its own portfolio. As a result, the company's portfolio should produce higher tenant sales productivity, occupancy levels, and rent and therefore is much better-positioned to face the economic headwinds of e-commerce. We expect Macerich to continue improving its portfolio through redevelopment, opportunistic acquisitions, and asset sales, which should deliver strong earnings growth for Macerich over time.

Macerich's moves to improve its portfolio quality were necessary to position the company for the omnichannel strategy many retailers are pursuing. E-commerce continues to pressure brick-and-mortar retail as consumers increasingly move their shopping habits online. Macerich exited the assets that are likely to see falling sales growth and occupancy levels as e-commerce takes market share. Although many retailers will look to reduce their store count over the next decade, the high foot traffic and sales productivity of Class A malls that now make up Macerich's portfolio continue to make them attractive places for retailers to place stores. 

Fundamentals for the Class A malls in Macerich's portfolio have almost fully rebounded from the coronavirus pandemic. While shopping at brick-and-mortar locations fell as some consumers shifted purchases to e-commerce platforms in 2020, foot traffic has since returned to prepandemic levels, leading to a recovery in sales growth. Macerich's revenue is protected by long-term leases, and while occupancy fell to 89% in 2020, it has almost fully recovered. We believe that Class A malls will remain dominant in brick-and-mortar retail with high-quality malls eventually returning to their prior occupancy and rent levels.

Business Strategy & Outlook

After reassessing Macerich's competitive position, we are changing its moat rating to none from narrow. Macerich's portfolio contains very high-quality assets in the largest metropolitan areas strategically located in some of the best submarkets that feature high population density and high household incomes. However, the continued growth of e-commerce places significant pressure on traditional brick-and-mortar retail. While the concentration of high-quality tenants across Macerich's portfolio can provide an experience for consumers that is hard for other retail to replicate, there is significant uncertainty about the future of sales growth even from this segment stemming from the coronavirus. Additionally, while historical rent levels and the rent increases the company has achieved on its properties compared with the initial capital investment produced returns that are below its weighted average cost of capital, the expected economic impact on the malls will send economic returns below WACC for a significant period, which leads us to conclude that there is no support for a moat for the company. 

The continued growth of e-commerce is putting significant pressure on traditional brick-and-mortar retail. The US currently has approximately 24 square feet of retail space per capita, a ratio that is between 2 and 10 times greater than other industrialized countries. As consumers change their habits from shopping in physical stores to shopping online, the demand for retail space will shrink and many stores and malls are likely to go away. There are approximately 1,100 traditional malls in the US, and many will not survive the shift of consumer buying habits to e-commerce. However, we expect the reduction in retail space to occur almost entirely at the lower end of the quality spectrum. The approximately 350 Class C and Class D malls are struggling and are either in or on the precipice of the "mall death spiral," where vacancies lead to lower sales for remaining tenants, which leads to more vacancies, and so on. We do not expect any of these malls to exist as they currently stand 10 years from now. The approximately 400 Class B malls might survive the growth of e-commerce, but they will likely need to come up with very creative solutions and find nontraditional tenants to attract shoppers. Meanwhile, the 300 Class A malls should not only survive but thrive in the future retail landscape. Macerich derives more than 80% of its net operating income from Class A malls and 90% of its NOI from B+ or better malls, while Class C+ or lower malls make up only 7% of Macerich's NOI. Therefore, when we think of Macerich's future, we should not assume it follows the path of the average mall but rather the path of the Class A mall.

The likely winning strategy going forward for retailers is to pursue an omnichannel strategy where they have an online presence while maintaining a few stores in the top locations. An online presence is extremely important for most retailers in order to capture a share of the growing preference for e-commerce. However, brick-and-mortar stores will still play an integral role for most retailers. Not only does brick-and-mortar present the traditional way for people to shop, it also benefits the online store. The physical store provides an important component of marketing the online business. The physical store provides a location to pick up a good purchased online when you don't want to wait for it to be shipped. Shoppers may prefer to shop at online stores where they know they can easily return purchases to a physical store rather than ship them back to the e-tailer. The physical store can act as a showroom for large products before they are bought online or as a place to try on an item before the shopper explores the online store for a larger selection of colors. Most retailers do not need the number of physical stores that they currently have, but they will want to maintain a presence in all markets in order to enjoy the benefit of the physical store to the omnichannel strategy. The locations in the worst trade markets that see the smallest foot traffic and generate the fewest sales are the stores most likely to be closed. Conversely, retailers will want to keep their stores located in the top malls as they have strong demographic trends, high foot traffic, and generate high sales. Additionally, many previously exclusive e-retailers are seeing the benefit of opening physical locations to enjoy the benefits of the omnichannel strategy. Amazon, Warby Parker, Bonobos, Boll & Branch, Athleta, and Casper are all examples of companies that began as online-only retailers that have opened select physical locations. These retailers are looking to put their new stores in the top retail locations, providing additional demand for space in the top malls in the United States. Also, Class A malls are being redeveloped to provide more food and recreation options to present themselves as entertainment destinations rather than simply being the place consumers shop. These trends should all support the health of the Class A mall in an uncertain future retail environment.

We believe that primary potential moat source for a mall REIT like Macerich is efficient scale as the regional mall could dominate its own submarket. Retailers are becoming more strategic in selecting the placement of their stores, but all high-end mall companies like Macerich could secure leases with many of the most desirable tenants in its malls. Macerich's assets are among the highest quality, see a significant volume of foot traffic, and are surrounded by markets with favorable demographics. Historically, locations like these are highly sought after by any retailer and Macerich has been able to leverage the overall size of its portfolio by insisting that retailers put stores in lower-quality assets in order to gain access to the best-quality ones. However, we are concerned that the coronavirus restrictions are changing the behavior of consumers and that the impact will even be felt by the relatively insulated Class A malls. Consumers are being forced to do much of their shopping online during the coronavirus crisis, and we believe that many of the changes to shopping habits will be permanent even when the malls reopen. While retailers will still have a strong preference to place their physical stores in Class A malls, the significant shift of business to their online portals will give them more negotiating leverage that will likely eliminate the economic profits Macerich might have enjoyed from this moat source. While Macerich's portfolio still has the characteristics that could produce a moat for the company in the future, the level of economic uncertainty is too great at this point to grant the company a clear moat from efficient scale.

Macerich's mall portfolio could also produce an economic moat from the network effect moat source among the tenants at each property. Consumers prefer to make their shopping trips efficient by being able to visit their favorite stores and possibly compare prices in a single trip, making sought-after retailers next to one another a desirable location for shoppers. High-quality anchors, in line tenants, and entertainment options historically have drawn significant foot traffic to the mall, which makes placing a store in the mall attractive to other retailers as their store would benefit from the large number of people already heading to the mall. Therefore, having high-quality tenants improves the quality of the mall, which traditionally has attracted even more higher-quality tenants. While Macerich's malls are located in densely populated, high-income submarkets that support high foot traffic and high sales for tenants, we are concerned about a change in consumer behavior that may reduce the impact of the network effect. If lingering fears of the coronavirus cause consumers to avoid shopping at the busiest retail centers, foot traffic may fall despite the concentration of high-quality tenants. While Macerich's portfolio may be able to draw on this moat source in the future, we believe that the potential for a change in consumer behavior is too significant of a threat to assign the company an economic moat.

We use an adjusted ROIC calculation to determine if a company historically has shown or is forecast to have the characteristics of an economic moat. After adjusting the ROIC calculation to use maintenance capital expenditures instead of accounting depreciation, we calculate that over the past few years, Macerich has averaged an adjusted ROIC approximately 100 basis points above our 7.0% WACC. However, the adjusted ROIC drops below this level in 2020 due to the loss in EBITDA from the coronavirus and takes until 2025 to return to our WACC estimate for the company. While the company has historically had a moat, we believe that there is not sufficient quantitative evidence of a moat in our outlook for Macerich, which affirms our view that it should be assigned a no-moat rating.

None

Economic Moat

Macerich

Macerich Co. operates as a real estate investment trust, which engages in the acquisition, ownership, development, redevelopment, management and leasing of regional and community shopping centers located throughout the United States. It conducts all of its operations through the operating partnership and the management companies. The company was founded by Mace Siegel, Dana K. Anderson, Arthur M. Coppola and Edward C. Coppola in 1964 and is headquartered in Santa Monica, CA.

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Macerich (MAC) posts strong Q4 results, eyes growth with luxury retailers

Macerich (MAC) delivered a solid performance in Q4 '22 with positive sales trends and strong leasing metrics. Despite flat sales in Q4, annual sales were up 3%, showcasing consumer resilience. The company is strategically positioned for growth with a focus on redevelopment and attracting luxury retailers.

Macerich reports robust Q1 performance with strategic growth initiatives

Macerich's Q1 performance reflects strong leasing demand, NOI growth, and strategic refinancing activities
Operational strengths in diverse projects, billboards, and consumer traffic highlight growth potential
Challenges include banking uncertainty, occupancy gaps, and transitional vacancy impacts on rents
Opportunities lie in land sales, leverage targets, redevelopment projects, and industry networking

Macerich reports strong Q2 performance, navigates challenges with strategic focus

Macerich's Q2 2023 performance reflects resilience and growth, driven by strategic leasing activities and positive financial results.
Challenges like lower sales productivity and refinancing needs are being addressed, while opportunities in temporary attractions and mixed-use projects are being leveraged.
Management's focus on balancing financial stability and growth presents a path forward amidst economic challenges and evolving consumer trends.
Overall, Macerich's proactive approach positions them well to navigate the current retail landscape and capitalize on emerging opportunities.

Macerich reports strong Q3 performance, eyes growth amid diverse demand

Macerich's Q3 2023 performance reflects robust leasing activity, financial stability, and a positive outlook for future growth driven by diverse tenant demand.
While facing challenges in leverage targets and tenant negotiations, the company is well-positioned to leverage opportunities in its portfolio's varied uses and upcoming store openings.
Overall, Macerich's strong performance, strategic liquidity increase, and focus on NOI growth signal a promising trajectory amidst a dynamic leasing environment.

Macerich posts robust Q4 results, eyes growth through new leases

Macerich delivered a strong Q4 performance with positive FFO and NOI growth.
The company faces challenges in managing expenses and optimizing leasing spreads.
Opportunities lie in financing activities, new store openings, and upcoming projects.

MAC reports Q1 challenges but sees opportunities in innovative growth

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Macerich Co. operates as a real estate investment trust, which engages in the acquisition, ownership, development, redevelopment, management, and leasing of regional and community shopping centers located throughout the United States. The company was founded by Mace Siegel Dana K. Anderson, Arthur M. Coppola and Edward C. Coppola in 1964 and is headquartered in Santa Monica, CA.

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