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REIT exposure to Toys ‘R’ Us is minor, but shares slip anew

March 19, 2018

Toys 'R' Us is seeking approval to liquidate inventory in 735 US stores. Photo: Jane Dyson

Herbert Lash

Shuttered Toys ‘R’ Us stores can likely be filled by discounters and fitness centres, analysts said on Thursday, but shares in real estate investment trusts that lease to the chain fell as its troubles reflected broader worries plaguing the sector.

Toys ‘R’ Us represents a fraction of the overall portfolios for REITs that lease to the toy store chain and the leases were priced below market value, analysts and an executive at Kimco Realty Corp said.

Analysts said re-leasing the vacant spaces once hundreds of stores close is unlikely to pose a problem for locations in primary markets with heavy traffic.

Toys ‘R’ Us on Thursday said it was seeking approval to liquidate inventory in 735 US stores, which debtors anticipate will close by the end of this year.

Kimco leased to Toys ‘R’ Us stores at 23 of its almost 500 shopping centres, which represented only 1 per cent of annual base rent, said David Bujnicki, head of investor relations at the New Hyde Park, New York-based REIT.

At an average of $US11 a square foot, the existing Toys ‘R’ Us rents are about 15 per cent to 20 per cent below market, so there should be upside when the spaces are released, Mr Bujnicki said.

REITs that lease to Toys ‘R’ Us were dragged lower as the company’s liquidation added to a gloomy real estate outlook amid broadly poor retail sales and rising interest rates.

Bucking that trend, shares of Vornado Realty Trust, which owns about one-third of Toys ‘R’ Us, rose 0.59 per cent to $US68.62 on the possibility it might recover some of its 2005 investment or use it as a tax write-off.

“There is a sort of a silver lining in here for Vornado,” said Alex Goldfarb, an analyst at Sandler O’Neill + Partners LP in New York.

Opportunities emerge

Kimco expects shuttered stores to be replaced by Burlington Stores Inc, operator of Burlington Coat Factory; TJX Cos Inc, which owns TJ Maxx, Marshalls and Home Goods stores; fitness centres and specialty grocers.

Alan Esquenazi, partner with commercial brokerage Continental Real Estate Companies in Coral Gables, Florida, said he is already working on three Toys ‘R’ Us sites to be re-let.

“If they’re in solid markets, there are all kinds of takers for them. If they’re in secondary and tertiary markets, everyone’s got something to worry about,” Mr Esquenazi said, expressing a widely held view about the state of retail.

“There is no shortage of retailers in demand for the good retail locations,” he said.

Retailer bankruptcies are part of a natural cycle in real estate, and what is key is whether bankruptcies can be handled in a reasonable time, Mr Goldfarb said.

“What makes real estate valuable is an ability to back fill. When you don’t have that ability to back fill, that’s when you get nervous,” he said.

‘The stocks are more than cheap enough to be interesting’

Brixmor Property Group Inc, which leased to Toys ‘R’ Us at 11 of the 475 retail centres it owns or operates, has shown an ability to fill vacant spaces, he said.

Investors may have sold off the REITs without a thorough analysis of the retail sector.

The new tenant might be a restaurant, entertainment or lifestyle tenant, where there is a repurposing cost, said Scott Crowe said, chief investment strategist at CenterSquare Investment Management in Philadelphia.

“Even though the fundamental picture has been challenging, the stocks are more than cheap enough to be interesting,” Mr Crowe said.

Shares of Kimco closed down 1.03 per cent to $US14.44, Brixmor shares fell 0.46 per cent to $US15.28 and DDR Corp slid 0.86 per cent to $US6.90.

DDR leases to Toys ‘R’ Us at seven locations, its website shows.

The real estate sector has been the worst-performing sector of the S&P 500 index this year as fear of rising interest rates has crimped performance and e-commerce competition rattles investors.

Commercial mortgage-backed securities also have exposure to the Toys ‘R’ Us closings.

Morningstar Credit Ratings in January identified 20 loans with a combined property balance of $US500.2 million where the planned closing of 182 stores at the time could lead to a significant drop in occupancy and cash flow, it said.

Reuters

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