With its current portfolio of 136 regional malls, GGP is the second-largest owner/operator of regional malls in the U.S. after Simon Property Group Inc. Its properties are highly diversified throughout 41 states within the U.S. In addition, GGP has an equity interest in a well-performing Brazilian mall operator. GGP has a diverse tenant base, and no retailer/tenant accounts for more than 3.0% of rents. Its leases are predominantly long term in tenor, and its lease maturity schedule is well staggered.
Over the past two years, GGP has benefited from a combination of a recovery in the retail sector and management initiatives to optimize the company’s continuing operations. Thus, excluding RPI, tenant sales (at mall stores with less than 10,000 square feet) have increased over the last eight consecutive quarters, reaching $505 per square foot in the fourth quarter of 2011 and surpassing the 2007 peak level. GGP’s lease rate has improved, which stood at 94.6% at year-end 2011 (excluding anchor stores), up from 93.5% one year earlier. GGP has also seen improvement in its lease spreads, as recently negotiated leases provide significant increases in rents compared with expiring leases.
However, by some measures, GGP’s operating performance continues to lag that of better-positioned peers. Thus, improvement in same-property net operating income (NOI) was a relatively modest 2.9% in 2011 (albeit NOI improved to 7.5% in the fourth quarter), and management’s most recent guidance-which we view as realistic-is for growth of 2.8% in 2012. One problem for GGP is that some new leases that took effect in 2011 or are scheduled to commence this year set rent at rates that are unfavorable relative to current market rates. Also, while in bankruptcy, GGP put significant reliance on so-called “specialty leases,” which are typically short term and provide for rent at heavily discounted rates. GGP has had some success in reducing specialty leases, but these still accounted for a high 6.2% of gross lease area (at 100%) as of year-end 2011.
As part of its strategy for further improving operating performance, GGP is pursuing various development/redevelopment projects related to its existing properties. For example, earlier this year, it announced an agreement to acquire 11 Sears locations for $270 million, which it anticipates will ultimately add over 300,000 square feet of new in-line gross leasable area. GGP plans to continue opening various new “big box” stores, as it did in 2011. Separately, during 2011, GGP formed a joint-venture (JV) partnership with the Canada Pension Plan Investment Board to purchase a mall in St. Louis, Mo., contributing an existing property to the JV. It also formed a JV with Kimco Realty to redevelop a mall in Maryland. Management has stated that GGP is exploring other JV opportunities as a means of facilitating growth.
GGP’s lease portfolio affords significant cash flow stability. Yet, the company’s coverage metrics are relatively weak, reflecting its heavy debt burden. While GGP has taken actions over the past two years to refinance its property-level secured debt to extend maturities and lock in low interest rates, the extent of de-leveraging has been limited. GGP allocated $1.1 billion of debt to RPI in conjunction with the spin-off, but the spin-off constituted a net distribution to shareholders valued at $427 million. During 2011, GGP completed share repurchases totaling $554 million. For our analytical purposes, we focus on financial information that accounts for GGP’s pro rata share of JVs and excludes RPI. On this basis, debt-to-debt-plus-equity was a high 70% at Dec. 31, 2011, even with the substantial write-up of assets that occurred when the company emerged from bankruptcy. Based on our expectation that adjusted funds from operations will be about $900 million in 2012, we anticipate that, in 2012, funds-from-operations-to-total-debt will be about 5%, debt-to-EBITDA will be 9.6 times, debt-fixed-charge-coverage will be 1.5x, and total coverage will be 1.1x-all levels that we view as only marginally supportive of the current rating.
Several private equity firms have large ownership stakes in GGP: together, Brookfield Asset Management Inc., Pershing Square Capital Management, and Blackstone Real Estate Partners VI L.P. hold a 55% ownership interest. We believe there is a lack of a clarity regarding GGP’s financial policies and longer-range business strategy. Aggressive financial leverage could ultimately constrain GGP’s ability to capitalize on growth opportunities and expose the company to refinancing risk.
We view GGP’s liquidity as adequate. We expect GGP to generate $900 million-$950 million per year of funds from operations over the next two years. GGP had consolidated cash and cash equivalents of $573 million as of Dec. 31, 2011. GGP has a $750 million credit facility that matures in late 2013, which it unutilized as of Dec. 31, 2011. We believe the financial covenants under this credit facility afford GGP limited leeway if operating performance deteriorates. However, management recently stated publicly that GGP is discussing this facility with its banks, with a view to improving its terms.
Maturities of recourse corporate debt total $556 million in 2012 (including $206 million junior subordinated notes that is putable in 2012, but which have a final maturity of 2041) and $692 million in 2013. We expect GGP to refinance maturing nonrecourse property-level debt: GGP recently demonstrated good access to the mortgage market. While GGP is likely to increase investment in development/redevelopment projects over the next few years, we believe the maintenance component of its ongoing investment is about $300 million per year (including tenant allowances). GGP’s common and preferred dividends consume approximately $380 million per year of cash, annualizing based on the most recent dividend rates.
In considering GGP’s broader financial flexibility, we account for the potential that the company could sell its remaining nonmall assets for proceeds that could total several hundred million dollars (net of related borrowings). On the other hand, virtually all of GGP’s operating assets are encumbered under borrowing agreements, which constrains the company’s financial flexibility.
For the most recent complete recovery analysis, please see “General Growth Properties Inc.’s Recovery Rating Profile,” published on Aug. 9, 2011.
Our outlook on GGP is positive. We could consider an upgrade if GGP can make further significant headway in boosting rent, permanent occupancy, and NOI of its core mall portfolio. In terms of financial measures, we believe demonstrating significant progress toward debt/EBITDA of less than 8.0x and fixed-charge coverage of greater than 2.0x, on a sustained basis, will be important. On the other hand, we could revise the outlook to stable if the company shows a lack of commitment to a more conservative financial policy than it has previously. Ultimately, the ratings could be jeopardized if the company were to fund additional aggressive share repurchases or investments without using a combination of internal cash flow, asset dispositions, and equity issuance. We could lower the rating on the senior unsecured debt if changes to GGP’s capital structure lead to diminished recovery prospects for senior unsecured debtholders.
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