SRG - Seritage Growth Properties

[koshigoe]

http://ent.ufl.edu/2018/06/07/announcement-planned-relocation-of-otolaryngology-practices-to-the-oaks-mall/

 

medical offices sucked up an entire sears box at The Oaks in Gainesville

 

according to 10k, they acquired the property for around $3.6 mil, and were getting something like $3/sq ft in rent according to annex.

 

according to release, rent should be $6 a sq ft, or something like 20 cap on original basis.

[Foreign Tuffett]

SHLD closing 10 more SRG-owned stores. It's unclear if these are SHLD lease terminations, SRG-initiated, or some of both.

 

http://www.businessinsider.com/sears-closes-72-stores-as-sales-tumble-2018-5

 

 

[koshigoe]

according to press SRG sold back Sears at Valley Mall in Hagerstown for 11.4m. Carried on latest 10k at 4.3m.

 

https://www.heraldmailmedia.com/news/local/valley-mall-group-buys-former-sears-buildings-other-renovations-continue/article_364cf810-815e-11e8-ade3-eb2f6921e983.html

 

edit: the sales prices checks out on MD gov assessments & taxation website. Seems the only improvements were BJs Brewhouse and Verizon in auto center.

 

Seller: SERITAGE SRC FINANCE LLC Date: 06/26/2018 Price: $11,400,000

Type: ARMS LENGTH IMPROVED Deed1: /05780/ 00116 Deed2:

Seller: SEARS ROEBUCK AND CO Date: 07/30/2015 Price: $0

Type: NON-ARMS LENGTH OTHER Deed1: /05024/ 00488 Deed2:

Seller: MONTGOMERY WARD DEVELOPMENT LLC Date: 06/04/2001 Price: $1,850,000

Type: NON-ARMS LENGTH OTHER Deed1: /01776/ 00417 Deed2:

[crastogi]

according to press SRG sold back Sears at Valley Mall in Hagerstown for 11.4m. Carried on latest 10k at 4.3m.

 

https://www.heraldmailmedia.com/news/local/valley-mall-group-buys-former-sears-buildings-other-renovations-continue/article_364cf810-815e-11e8-ade3-eb2f6921e983.html

 

edit: the sales prices checks out on MD gov assessments & taxation website. Seems the only improvements were BJs Brewhouse and Verizon in auto center.

 

Seller: SERITAGE SRC FINANCE LLC Date: 06/26/2018 Price: $11,400,000

Type: ARMS LENGTH IMPROVED Deed1: /05780/ 00116 Deed2:

Seller: SEARS ROEBUCK AND CO Date: 07/30/2015 Price: $0

Type: NON-ARMS LENGTH OTHER Deed1: /05024/ 00488 Deed2:

Seller: MONTGOMERY WARD DEVELOPMENT LLC Date: 06/04/2001 Price: $1,850,000

Type: NON-ARMS LENGTH OTHER Deed1: /01776/ 00417 Deed2:

 

I wonder if SRG selling this because they are cash constrained when it comes to developing this, or it was a strategic move.  Regardless looks like the book is understated significantly. 

 

Anybody who live s in the area - is/Was this is a nice mall/ premium area? 

[SlowAppreciation]

New VIC writeup: https://valueinvestorsclub.com/idea/SERITAGE_GROWTH_PROPERTIES/142257

 

I think this is the 4th one? (3 long, 1 short)

[Saluki]

Is anyone long the preferred shares?

 

They are cumulative preferred with a $25 liquidation preference.  And they are not callable until 2022.

 

It pays 7% at par, but has traded as low as 20, which would give a dividend of over 10% at that price.

 

I was on the on the fence about them at 20 and didn't buy it because I had so much of the common.  But what I should've done is buy some because it's a good place to park your money since if you believe the common will survive then the preferreds will too and will eventually be redeemed at 25 or get to par when conditions improve and you get a nice dividend while you wait.

 

also, as a measure of protection, if the dividend is suspended, then SRG can't pay the common shareholders a dividend until all the back dividends on the preferred are made current.

 

They are currently at 24, but move around whenever there is bad news about malls or sears. 

[GCA]

New VIC writeup: https://valueinvestorsclub.com/idea/SERITAGE_GROWTH_PROPERTIES/142257

 

I think this is the 4th one? (3 long, 1 short)

 

I wrote this write up and feel somewhat compelled to inform people here that this write up received some justified criticism.  Non-members of VIC can't see my response so I'll copy both the criticism and response below:

 

CRITICISM:

 

We believe you made a simple math error in your Individual Project Valuations that has a significant impact on your calculated fair value of Seritage. As a quick sanity check, the Redmond 2.5 acres sale for $16mm implies the remaining 12.5 acres are worth $80mm. To say this $80mm can be turned into $501mm on an undiscounted basis is aggressive.

 

You have confused Revenue with NOI. If you assume a 65% NOI margin on Residential, Retail, and Office, the gross value decreases by $155mm, $53mm, and $67mm, respectively. The undiscounted net value decreases from $501mm to $226mm. Making this math correction on just the Redmond property decreases the value of Seritage by $5 per share (or $3.50 with your 30% discount).

 

Beyond the simple math errors, we identify many further questionable assumptions. For instance, Rent PSF looks very high. You can find modern, new housing on Apartments.com in Redmond for $33 PSF on average as opposed to the $38.50 PSF assumed. We believe Class A Office Space outside of Seattle in Bellevue is renting in the low to mid $30 PSF as compared to the $42 PSF assumed. In addition, your valuation work appears to have excluded financing costs and overhead costs.

 

I think correcting the math errors would dramatically decrease the fair value for Seritage. Were you to use more realistic assumptions around rent PSF as well, that would further compress the fair value. Based on just the math errors identified above, I believe you have overstated the value of Seritage’s redevelopment opportunities by about $1 billion or $18 per share before discounting.

 

RESPONSE:

 

Wow what a glaring and embarrassing error.  You're right, I was using revenue multiples and then changed them to cap rates at the last minute and didn't change my input of revenues to be inputs of NOI.  Doing so substantially reduces the valuation.  I still think the investment might work out because of conservatism built in elsewhere, but it does blow up the approach.  After reducing Residential, Retail, and Office revenue by 30%, 30%, and 22.5% respectively to get NOI, and changing the overly conservative 30% PV discount to 20% (a bit more than 3 years at 7%) I get a reduced valuation of $39.80.  Again, this approach leaves out what I believe is the substantial upside from further redevelopment of the properties, but on the other hand still doesn't lower the rent inputs or capitalize corporate expense.

 

A couple of relatively minor pushbacks.

 

Substantial though it may be, I believe you are over-estimating the magnitude of the "math error".  The sum total of the three individual projects in my original valuation was $17.97.  Only if these properties were actually worth nothing could they reduce the value estimate by $18 per share.  If I were to value these properties how I valued the other properties with no formal projects (the lower of Hilco Dark and Cushman & Wakefield estimates) the result would be $73MM ($1.32 a share), but of course that is too low because the Redmond land alone just got valued at $96MM.

 

To be fair to me, I wasn't saying that $80MM of land could be turned into $501MM.  I was saying $96MM of land and $377MM of construction capital and multiple years of planning and 5 years of construction could be turned into $878MM eventually.  Maybe I ought to be locked up but that passed my sanity test.

 

Yes, I used a high estimate of rent for Redmond, but I also used a high construction cost estimate of $350, because that was the estimate given to me by someone who looked at the actual project specifics, instead of being a general area estimate.  It was higher than the other Redmond residential construction estimates I received of $180 (from a 2015 study of the area average), and $251.64 and $291.50 received from other professionals.  I figured brand new and mixed use and next to a park would go for a premium.  It would seem to me overly punative to reduce the high rent estimate and leave the high residential cost estimate the same.  Not sure if you would have any input on a residential cost estimate.

 

The same story goes for office.  We received office rental estimates of $19.64, $25, $30.91, and $42.  We received office cost estimates of $165.09, $207.88, and $300.  I chose the top estimates for each based on the above logic.

 

As for not capitalizing and including the corporate expense, you are again correct.  I wonder though if I were to take the "General and Administrative" line item from the income statement and capitalize it if I would not be double-counting some of the "soft" project costs which are accounted for in the project cost estimates.  I'm all ears on suggestions on how to approach this.

[koshigoe]

I can't see the write up, but it sure seems more and more SRG is going for a high value portfolio of trophy mixed use properties.

 

Last year I don't recall them selling any properties, and already this year they've sold back two mall properties and several Kmarts. And all of them have been for what looks like substantial profit.

 

Asheville, Redmond, and Hicksville are all pretty close to being approved by city councils.

 

Perhaps they've waiting on more word from Amazon about the headquarters to put out anything more specific about plans, but the Valley View mixed use project is expected to cost around 800 mil, so probably worth something like 1.5 bil when complete. https://www.cpexecutive.com/post/kdc-seritage-plan-1-msf-dallas-office-project/

 

Reminds me of the Steve Jobs quote that people overestimate what can be done in a year, but vastly underestimate what can be done in 10 years.

 

It seems the value is really building behind the scenes, just their in-redevlopment portfolio should be near their EV soon to say nothing of the rest 3/4 of the portfolio carried for nothing.

 

And Eddie is chair of the investment committee, Sharon Osberg just came on the board. THere's a lot more than meets the eye here with management, some really top grade humans/capital allocators involved - and playing a strong hand to boot.

 

 

 

[GCA]

Perhaps they've waiting on more word from Amazon about the headquarters to put out anything more specific about plans, but the Valley View mixed use project is expected to cost around 800 mil, so probably worth something like 1.5 bil when complete. https://www.cpexecutive.com/post/kdc-seritage-plan-1-msf-dallas-office-project/

 

...

 

It seems the value is really building behind the scenes, just their in-redevlopment portfolio should be near their EV soon to say nothing of the rest 3/4 of the portfolio carried for nothing.

 

 

Unfortunately, as far as I can tell, Valley View is being delayed because of zoning issues.  I should think would ultimately get resolved but sometimes things move very slow in real estate:

https://www.bizjournals.com/dallas/news/2017/01/30/dallas-valley-view-center-stands-as-scott-becks.html

https://www.dallasnews.com/opinion/commentary/2017/09/28/valley-view-mall-supposed-gone-now-remains-zombieland

 

On your second point ABOVE, the EV is $3,616MM while the total projected project income is $176MM, for a ratio of 20.5, when GGC, MAC, and SPG all trade around 14... so I think they've got a ways to go.

[koshigoe]

i don't have any special knowledge on Valley View, though I would say the news articles cited are much older than the Dec 2017 announcement of the KDC partnership, and the statement they would be filing plans soon with the city. Valley View is still in contention for Amazon, I wouldn't expect any info until that is settled. And since they've come so far in that process, social proof would only elevate the property in eyes of other major companies.

 

On the valuation, at what point does the switch flip and we must assign value to the enormous backlog of developable property? Right now, it's assigned at basically nothing!

 

At the soon-coming time when the in-dev properties account for reasonable valuation of total EV, perhaps the switch flips and immediately a NPV of something like a few billion should be added to account for 20-30 mil of 4x rent opportunity.

 

We're already into Q3, so add something like 200 mil to EV (assuming 100 mil of redevelopment in Q2). That's already 3.2 something. In 80 days, it's 3.4  or 3.5 something. By end of year we're well within reasonable values for current redeveloped portfolio.

 

I don't believe it's fanciful to assume share price should be something like double what it is right now, just factoring in their captive backlog at reasonable discount rates and their demonstrated operating performance so far. But the doubting will continue...until it stops!. Anyway not arguing with you personally, I hope you're long too.

[GCA]

I have some newer articles, here is one from after (like the day after) the KDC deal:

https://www.dallasnews.com/opinion/commentary/2017/12/12/valley-view-mall-plan-revive-shambles

 

Here's an article on another development in Dallas but in the comments some locals are talking about Valley View and it still sounds stalled to me:

https://www.dmagazine.com/frontburner/2018/06/dallas-city-council-oks-sending-millions-to-red-bird-mall-redevelopment/

 

So maybe the delay has to do with Amazon but I kind of doubt it.

 

Would love to see your math on this.  Yes I'm long but not as bullish as you are.

 

[koshigoe]

Yes, regarding the new links, I believe that's what separates SRG from the pack, they just plow through and don't stop to try to get funding or concessions - beyond already laid out development or improvement concessions by the cities, like get an extra couple stories in your office building if you improve some streets. They don't even try to get the last dollar, for example at Redmond they're only going 6 stories or something with the office, but have option to go 9 I believe.

 

I think these qualitative factors, such as not wanting - or needing - a helping hand will further differentiate SRG form other publicly traded REITs and private developers. You see this at Redmond and Hicksville. I have watched many of the planning commission and study session videos and SRG comes across as quite professional with quality partners with much successful experience. Look at their architect partners for Hicksville and Redmond among others, the cream of the US. I think a lot of this culture stems from Eddie who is a perfectionist and only does business in first class way.

 

If you had Ben Schall doing promotional visits on Cramer like WPG and KIM I would bet value would be more reflected in the stock price. But that's not Eddie's style, he's weeding out the non-believers like Buffett did with Berkshire long ago.

 

As to the math, I don't have anything detailed!  Don't wish to be curt but it is quite obvious to me there is essentially zero downside and from satisfactory to very good returns over next 7-10 years, ie: 15%+ a year (3x 4x over that time).

 

Progress just moves slowly (albeit consistently) which leads many to mental masturbation while waiting I guess, but personally I feel very comfortable.

[Foreign Tuffett]

Yes, regarding the new links, I believe that's what separates SRG from the pack, they just plow through and don't stop to try to get funding or concessions - beyond already laid out development or improvement concessions by the cities, like get an extra couple stories in your office building if you improve some streets. They don't even try to get the last dollar, for example at Redmond they're only going 6 stories or something with the office, but have option to go 9 I believe.

 

I think these qualitative factors, such as not wanting - or needing - a helping hand will further differentiate SRG form other publicly traded REITs and private developers. You see this at Redmond and Hicksville. I have watched many of the planning commission and study session videos and SRG comes across as quite professional with quality partners with much successful experience. Look at their architect partners for Hicksville and Redmond among others, the cream of the US. I think a lot of this culture stems from Eddie who is a perfectionist and only does business in first class way.

 

If you had Ben Schall doing promotional visits on Cramer like WPG and KIM I would bet value would be more reflected in the stock price. But that's not Eddie's style, he's weeding out the non-believers like Buffett did with Berkshire long ago.

 

As to the math, I don't have anything detailed!  Don't wish to be curt but it is quite obvious to me there is essentially zero downside and from satisfactory to very good returns over next 7-10 years, ie: 15%+ a year (3x 4x over that time).

 

Progress just moves slowly (albeit consistently) which leads many to mental masturbation while waiting I guess, but personally I feel very comfortable.

 

With all due respect, you lack imagination if you cannot see any risk of downside here, especially given SRG's weak liquidity position and the continued deterioration of the retail real estate market. 

[koshigoe]

If I had physical stock certificates I'd fondle them, but alas only street name!

 

[Foreign Tuffett]

Q2 leasing activity was strong. 853K sq feet at a 3.6x "releasing" multiple.

 

 

https://www.businesswire.com/news/home/20180712005231/en/

[koshigoe]

Yes, 3.6x a little lower as I believe that includes the U of F taking over an entire sears box at The Oaks.

 

It's potentially a 60 yr lease, but at a low absolute rate, like $6 a foot. But that's a fabulous use of capital as it's locked in for at least 20 years at something like 25% or more per annum return on original basis.

 

http://www.gainesville.com/news/20180607/two-uf-health-offices-may-move-into-sears

 

The back half of the year has potential to be record setting as Hicksville, Redmond, Asheville execute. The cities are really dragging their feet - many board members don't do their homework and come unprepared to meetings - but there is a clock, something like 90-120 days that starts when the proposal hits. And the cities will have to make definitive decision in Q3.

[johnny]

Ex-UofF still makes for an average $16.19 per foot, which isn't quite knocking it out of the park.

 

I'm not sure I understand the rationale for celebrating the return-on-book if the entire thesis of the thread is that book is significantly understated. $6 a square foot is $6 a square foot--what's fair value if the company signs similarly extraordinary RoR deals on the rest of their boxes?

[Foreign Tuffett]

Ex-UofF still makes for an average $16.19 per foot, which isn't quite knocking it out of the park.

 

I'm not sure I understand the rationale for celebrating the return-on-book if the entire thesis of the thread is that book is significantly understated. $6 a square foot is $6 a square foot--what's fair value if the company signs similarly extraordinary RoR deals on the rest of their boxes?

 

Agree on the book value issue. I think even many bearish on SRG would agree that book value is understated.

 

On a quarterly basis I think square footage leased and their releasing multiple figure are the two key #s to look at.

 

$6 per sq foot is (obviously) not great, but it's still almost double what SHLD was paying ($3.10).

 

[BTShine]

The incremental returns on capex for redevelopment are most important for me.  Also, if investing this capex not only increases lease rates per square foot, but also locks in existing rents with a higher quality and more diversified tenant base, that also creates value. 

 

I’m less concerned with absolute lease rates and more concerned with how much capital SRG must invest for the related rent increases.

 

 

[vince]

The incremental returns on capex for redevelopment are most important for me.  Also, if investing this capex not only increases lease rates per square foot, but also locks in existing rents with a higher quality and more diversified tenant base, that also creates value. 

 

I’m less concerned with absolute lease rates and more concerned with how much capital SRG must invest for the related rent increases.

So True, excellent post

[BTShine]

One thing of interest is the price of redevelopment per square foot.  The last three years (6 months for 2018) are as follows:

 

2016: $138.50           

2017: $197.20           

2018: $111.50           

 

While we don't see disclosure on what specific SNO or projected lease rates are associated with each tranche, it might be fair to assume that the 2018 redevelopments are associated with the lower SNO lease rates we saw this quarter.  If we continue to see redevelopment costs in the low $100s psf (it was below $100 in Q2 2018.  $97.60 to be exact) we should expect to see Seritage signing lower lease rates than before.  Based on this history I'd expect to see $100 psft of redevelopment capex produce new lease rates of around $14.50 a square foot. 

 

 

---------

Calculations:

2016  (=$370.7/2.677 sqft)

2017  (=$693.6/3.517 sqft)

2018  (=$152.7/1.369 sqft)

[koshigoe]

at least one recently closed Sears being actively offered for sale

 

https://www.pyramidbrokerage.com/properties/img/property/flyers/G5340.pdf

 

 

[LongTermView]

One thing of interest is the price of redevelopment per square foot.  The last three years (6 months for 2018) are as follows:

 

2016: $138.50           

2017: $197.20           

2018: $111.50           

 

While we don't see disclosure on what specific SNO or projected lease rates are associated with each tranche, it might be fair to assume that the 2018 redevelopments are associated with the lower SNO lease rates we saw this quarter. 

 

Good point, BTShine. The lower SNO lease rates need to be evaluated in tandem with the redevelopment costs.

[GCA]

The incremental returns on capex for redevelopment are most important for me.  Also, if investing this capex not only increases lease rates per square foot, but also locks in existing rents with a higher quality and more diversified tenant base, that also creates value. 

 

I’m less concerned with absolute lease rates and more concerned with how much capital SRG must invest for the related rent increases.

 

I agree but you also have to consider how much of this is priced in?  It's not like SRG is trading at book value.

[BTShine]

If the majority of SRG's value will be realized via renting existing and redeveloped/newly developed space, then I think incremental rents and the related return on capex are what will help us determine the intrinsic value of the company.  Another important factor we must try to predict is the amount of capital they can invest on new and re-developments every year and in total over the next 10+ years with this portfolio. 

 

On the other hand, if you believe SRG will begin to sell off significant portions of land, then market value and it's approximate relation to book value are of importance.  Returns on capex do not matter if we are liquidating the portfolio.  In the current state I don't think SRG plans to liquidate it's land portfolio and therefore book value is not of utmost importance.