General Growth deal would extend Simon’s mall dominance

Wall Street analysts have described the potential sale of Chicago-based General Growth Properties as a “once-in-a-lifetime opportunity” for a company to make “the deal of the decade” in the shopping-mall business.

It’s not every day that the nation’s No. 2 mall owner—with 200 properties and $3.4 billion in revenue—finds itself in bankruptcy reorganization with potential suitors circling.

So it’s no surprise the nation’s No. 1 mall player, Simon Property Group Inc., has joined the fray. The Indianapolis-based company hired advisers and reportedly is buying unsecured debt in preparation for a bid.

Total domination of the U.S. shopping mall business has been CEO David Simon’s goal since he took over the company in 1995. If he lands General Growth, call it mission accomplished.

But the deal is far from a sure thing for Simon. Well-capitalized competitors, including a Canadian property owner, have emerged, and General Growth executives are trying to position the company to exit bankruptcy as an independent company.

Still, Simon Property Group has been laying the groundwork for what could be its biggest acquisition ever.

The combination of Simon and GGP would own 525 malls with a total of 450 million square feet of retail space—five times more real estate than the worldwide footprint of McDonald’s Corp. It would give Simon high-performing properties it has long coveted, including Water Tower Place in Chicago, Fashion Show in Las Vegas, and Faneuil Hall Marketplace in Boston.

Simon is in a buying mood, having agreed this month to buy the Prime Outlets chain and its 22 malls in a deal worth $2.3 billion.

In the last 15 years, the company has closed on properties worth more than $25 billion. A General Growth deal alone likely would eclipse that total.

In terms of real estate portfolio transactions, it would be second in history only to the 2007 sale of Sam Zell’s Equity Office Properties for $39 billion to Blackstone Group.

10 Questions: A potential blockbuster

1. How much is General Growth worth?

It’s hard to say since the company is attempting to recapitalize itself under Chapter 11 bankruptcy, but analysts expect the ultimate equity value could be $30 billion—including roughly $10 billion in equity and $20 billion in debt (assuming the holders of about $7 billion in unsecured debt agree to convert their positions into equity).

2. How would Simon pay for a deal?

The company has a cash balance of nearly $4 billion, $560 million of which is now earmarked for the purchase of 22 Prime Outlets malls. The company has another $3 billion available on a revolving credit line. Simon presumably would use part of its cash stash and also take on a large amount of debt.

3. Who else might bid for General Growth?

Brookfield Asset Management, a Canadian company that owns real estate and infrastructure worldwide, has been buying up General Growth’s unsecured debt and has offered to assist in the reorganization. The company is in an even better position than Simon to make a bid, having raised $5 billion for a new distressed real estate fund. It also could benefit from the weak dollar. Other possible suitors include Australian giant Westfield Group and New York-based Vornado Realty Trust, a mostly office REIT that’s sitting on $2.6 billion in cash and wants to diversify.

4. Might Simon partner with another company on the deal?

Wall Street analysts expect Simon would bring a partner. A Citigroup report suggests the company could join with Westfield. The pair teamed on a $5 billion deal for Netherlands-based Rodamco and a failed hostile takeover of Michigan-based Taubman Centers, both in 2002. Citigroup suggested that Brookfield might also join, in a three-way deal.

5. Could Simon selectively buy some of GGP’s malls?

Observers don’t expect a piecemeal liquidation of General Growth. The company already has reached agreements to extend the maturity on $10 billion in secured debt, and may move to convert $7 billion of unsecured debt into equity, effectively reducing its debt.

The company’s management has been successful so far in making the case that the company should be treated as a whole, “not just a collection of assets.”

6. What would a SimoN-GGP deal mean for retailers?

The more retail space Simon controls, the more negotiating power it has with retailers. “Certainly I think part of Simon’s strategy is building a monopoly in the retail world, and doing it smart in terms of buying right and bringing in good management,” former Simon executive Herman Renfro said. “[David Simon is] trying to control the board and doing a pretty good job of it.”

As rents continue to rise at malls, more retailers may start looking at space elsewhere to reduce their occupancy costs, said Mark Perlstein, a principal in locally based Sitehawk Retail Real Estate. Meanwhile, Perlstein expects more mall vacancies will be filled by non-retail users such as hospitals, libraries and health clubs.

7. Could a deal draw attention from antitrust regulators?

If Simon picks up General Growth’s 200 malls, Simon would own about 30 percent of the malls in the United States and 60 percent of the Class A malls—giving the company “tremendous leverage with retailers, basically a monopoly,” said Todd Sullivan, an independent investor who owns 30,000 General Growth shares. He thinks the Federal Trade Commission would intervene if Simon makes a play for General Growth.

“You would essentially create a mall owner that’s too big to fail,” Sullivan said. “If they ever got in trouble, they could singlehandedly take down the entire real estate industry with them.”

8. Would Indianapolis benefit?

Simon Property already is one of the city’s largest employers, with about 1,000 employees. Major deals it has done in the past have brought a handful of new jobs to the city. Part of Simon’s strength over the years has been its ability to “seamlessly” absorb properties into the portfolio, said Jim Reilly, executive director of City Market, who left Simon in 1987, when it was a small, family-owned company. It isn’t clear how many jobs the deal could bring to Indianapolis, but the numbers probably won’t be dramatic since General Growth already employs the personnel it needs to run its portfolio. “Just to have the country’s most visible and strongest real estate company located here is pretty good,” Reilly said.

9. Why not go after foreign assets instead since Simon already dominates most of the U.S. mall market?

Depreciation of the dollar means the company would get less for its buck overseas than it would in the United States. On the other hand, a weak dollar is an advantage for some of Simon’s competitors for General Growth, including Brookfield.

10. What if Simon isn’t able to snag General Growth?

Simon is “kicking the tires” on about 10 deals, according to a November report from research analysts at Deutsche Bank. But the analysts don’t expect any of the deals to close until next year.

If Simon doesn’t spend its cash on major deals, the company likely would begin paying down maturing debt with cash late in 2010, predicts Citigroup Global Markets. Using the funds to pay down debt at an average of 6-percent interest could add up to 10 percent to Simon’s funds from operation.•