Simon Property Group is a mall REIT that does more than own malls
During the last few years of the pre-COVID times, many of us thought that JC Penny would follow the same fate as Sears: bankruptcy. But, JC Penny endured a different fate. A fate that Sears and other brick-and-mortar retailers that went bankrupt in the Age of Amazon envy: recovery.

When the COVID lockdowns came, many thought that it would be the final nail in the coffin for JC Penny. To many people's surprise, it wasn't. Thanks to a partnership between Simon Property Group and Brookfield Asset Management, JC Penny was able to escape Ch 11 bankruptcy. With the help of their landlord and an alternative investment management firm, JC Penny was able to avoid bankruptcy and received a $1.5 billion loan from Wells Fargo.
JC Penny wasn't the only retailer/tenant that Simon Property Group decided to help. Simon also helped out Brooks Brothers, Lucky Brand Jeans, and Forever 21 (which Simon also partnered with Brookfield on). Simon even partnered with Authentic Brands Group to acquire Eddie Bauer. Simon also owns Aéropostale in one of its earliest retail deals.

The big question that this article is answering is: why would a mall REIT want to get into the retail business?

The answer is complicated. On the surface, this move is an unusual move by mall landlords to save their businesses. How they conduct such endeavors without creating conflicts of interest is interesting.

Conflicts of Interest

According to Retail Dive, Simon Property Group has a joint venture with Authentic Brands Group to create a private equity entity called SPARC Group, which hopes to become an operating partner for struggling retailers. By leveraging each others' strengths, a mall landlord and a retail mogul are able to help struggling brands thrive once again.

Retailers do have an issue with Simon Property Group getting in on the retail business via their connection to SPARC Group. Rather than see their landlord, Simon Property Group, as just their landlord, they now see Simon Property Group as their competitor.

Also, the retailers that SPARC Group is acquiring also have leases with other mall REITs. Would a mall REIT be comfortable negotiating lease rates with a retailer that has a competing mall REIT as one of the tenant's shareholders?

And there are issues regarding whether Simon Property Group has shareholders' best interests by getting into the retail business as well as concerns about taxes and regulations and what rules the mall REIT should follow.

Inspiration Behind This Move

Simon's earliest retail deal was with Aeropostale. That deal has been a major success.
In 2016, Simon Property Group, GGP (now owned by Brookfield), and Authentic Brands came together to outbid Sycamore Partners with an acquisition of Aeropostale for $243 million.
The fact that two mall landlords and a retail brand management company chose to outbid a private equity firm does raise eyebrows because private equity firms are known for sticking to strict budgets and doing their best to avoid overbidding for deals. As history has shown, when private equity firms do overbid for deals, those deals don't go as well.

As for the inspiration behind acquiring Aeropostale, Simon Property Group saw that as mall owners tried various things to adapt to the changing retail environment, many have failed. Repurposing malls to boost consistent foot traffic failed. Meanwhile, retailers are either downsizing their mall footprint or are choosing to cancel leases within malls and move to suburban strip malls. Acquiring retailers and fixing them was a strategy that no other mall landlord has tried, yet.

With the "Amazon retail apocalypse" fears accelerating throughout the retail industry, many retail industry experts, who thought that their expertise could save some brands, ended up failing on those deals. As for the mall REITs, since they've been dedicated to being experts on real estate, the odds of them succeeding in trying to enter the retail industry are against them. Private equity firms meanwhile have had mixed success.

Besides the thought of not having the expertise to save the retailers, there's also the concern that if they don't attempt to save the retailers, then they'll be stuck with empty spaces for a longer time. Times are changing and Simon Property Group knows that waiting for another tenant isn't a viable strategy.

After a few years of being under the control of Simon Property Group, Brookfield, and Authentic Brands, Aeropostale became a trending Tik Tok brand. To understand how impactful the change has been, read this:

"According to Natalie Levy, president and chief merchandise officer at Aeropostale’s parent company SPARC, denim was just a small part of the business when she joined the company in 2017. The sales ratio for tops-to-bottoms was three-to-one, with graphic tees being the biggest selling item. Now, denim is the brand’s No. 1 category, with current sales 50% higher than in 2019.

The focus on denim was a strategic decsion, after several years of market research, said Levy. Aeropostale has been tracking Gen Z’s growing disinterest in skinny jeans, which were incredibly popular with millennials. Mom jeans, baggy jeans and “skater jeans” — all looser fits — make up 40% of Aero’s jeans sales for women, while jeggings largely account for the rest."

The focus on becoming a Gen Z brand was what greatly helped Aeropostale turn around its business. And thanks to the help of Brookfield, Simon, and Authentic Brands, they were able to have the resources to conduct that transition.

As for the other retail investments that Simon Property Group and Authentic Brands did during the pandemic (Forever 21, Brooks Brothers, Lucky Brand Jeans, and JC Penney), those retailers made $260 million in revenue within their brick-and-mortar locations and $3.5 billion in e-commerce revenue, all within their first year under management. For context, those four brands received $330 million in investment capital. That's a massive return on investment for both partners.

Here are more details on Forever 21's success:

"Forever 21 alone, which was acquired in February 2020, pre-pandemic, generated $75 million in EBITDA within the year. Simon’s total investment in the company was $67 million."

While those four companies got more than $300 million in rent deferrals and signed 1,400 leases, Simon Property Group did see its lease income decrease as more tenants were vacating. But thanks to the huge success of those retailers, Simon Property Group was able to see a lower hit financially from the decline in lease income.

Despite the major successes that these firms got from e-commerce sales, Simon Property Group still believes that retailers should focus on both their brick-and-mortar sales along with their digital sales. At the end of the day, there's an important experience aspect as well as a legitimacy aspect that comes with having a brick-and-mortar store. People have more trust in brands that lease storefronts than brands that are purely online. Amazon may be fully online but it took a long time for Amazon to gain the public's trust.

Present Day

As of lately, with all the impacts of inflation hurting consumers, Simon Property Group is concerned about the decline in discretionary spending and its impacts on the retailers it owns. At least the company's malls have an occupancy rate of around 93%.

Outside of retail, Simon Property Group is looking to create "a cutting edge flea market" model to reduce its dependence on anchor tenants. Also, Simon acquired a 50% stake in Jamestown, a mixed-use property developer.

In sum, Simon's methods of saving its business from the "Amazon apocalypse" has not only saved the business but have given the business huge returns on its investments. The conflicts of interest issue will continue to haunt Simon however, if Simon hadn't undertaken these bold endeavors, it would've seen its business decline alongside its peers.
Joshua Simka's avatar
Sounds like, at least in some areas of the market, reports of brick-and-mortar retail's death have been greatly exaggerated. 😊

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