Tangier Factory Outlet Centers (SKT) … yay or no? I've stayed out of this debate on the Seeking Alpha up to this point. However, as I have become very deep in the weeds at REITs, I went into my meeting at REITweek in less than two weeks and found that it was worth my time to throw my thoughts out there as well. Contentious as the stock is, my hang-ups here are not financially driven. The balance is fine: there are many levers to draw if the goals continue to be destroyed. My primary issues lie in the exit center model and apparently stagnancy in management when it comes to managing the very real shifts in retail. While you are not out here with setting low price targets or requiring dividend reductions, I take a very skeptical of general business direction. With so many good opportunities out there in the REIT universe, it's hard to get on board with a company that doesn't seem to take its latest issues seriously.
Observations on Retail REITs, The Outlet Model
First off, I will make a broad observation. Most REIT analysts at Seeking Alpha have pushed the toe to retail-exposed areas of this market in some form or fashion. Personally, I like shopping malls and first started recommending stronger players in the industry like SITE Centers (SITC) two years ago. Including dividends, my recommendation it is only 2% on a total return basis is assumed reinvestment. Only CBL and Associates (CBL) collapsed 84% during that period, Pennsylvania Real Estate Investment Trust (PEI) is down 34%, Taubman Centers (TCO) are down 13%, Tangier Factory Outlet is down 26%. Rather than patting myself on the back for relative performance, let's keep it real: if I parked that money in the S&P 500 (SPY) index, I'd be up 17%. There is a marked difference. It doesn't matter if an investor went with malls, junky suburban malls, high-end class A urban malls, outlet centers, etc. Almost universally, anyone entering this room lost unless they acted far better than I have. Outside the fringe cases, it has paid to just stay away. I think there are some profound lessons to be had here on why avoiding such counter-games that run against strong themes of power (e-commerce, covered retail, constant tenant bankruptcy headlines) makes much sense.
* Source: Tanger Factory Outlet in Mebane, NC. This is the closest place to me personally.
Returning to Tangier specifically, it suffers a bit more from the macro topics than most. While Tangier is trying to push the recession's angle to "in good times, people love a bargain, and in tough times, people need a good buy," I think this needs some historical clarification. Although it's not my bread and butter, I've been following retail clothes for a while. Personally, I think this angle and how it has hit the outlet centers hard, has not really been approached well – at least on Seeking Alpha anyway. Most readers know that sales per square meter in Tangier have flattened between 2015 and 2019 (See Slide 13 on the latest presentation cover). In fact, there are real losses due to inflation even after election errors (sales of weaker properties have improved these subsequent calculations). The outlet centers have suffered from lower foot traffic and weak sales growth for many years now. What drove it? For context, almost all retail clothing brands largely followed the below pattern between 2006 and 2019:
- 2004-2007: Times are good, the consumer is fine. The retail clothing is flourishing!
- 2007-2009: Backlash. Consumption consumes together, especially among luxury / high-end fashion. The value is over.
- 2010-2012: There is no snapback recovery. Consumers are now clearly cautious and cannot forget the pain in the recession.
- 2012-2015: Consumers are now more negotiable. Let's open outlets ! Saleswoman as consumers chasing deals on high-end brands.
- 2016-2019: Consumers realize that more than 80% of starting products are lower quality made directly for withdrawals. Sales growth freezes.
The last bullet is incredibly important. Retailers have become so much better at anticipating demand and inventory management. They have had to survive. Any clothing retailer would like to tell you that comps have been much tougher to grow despite a long-term financial recovery. Instead, the biggest gains on margins have come from improving the supply chain and working capital management – not just predicting trends in fashion. Because of this, there are just not so many product overruns anymore, the production yield is almost perfect, and since these goods are now overwhelmingly made abroad, in most cases it is appropriate to destroy the product there versus the ship here for sale. It has deep implications for the outlet center model.
Not throwing stones at the bulls here, but generally I think many retail investors are a bit older and remember the heyday of outlet shopping. As a reader, ask yourself these two questions: What is a withdrawal center? What is its value proposition to consumers? Your answer is probably something like this:
Outlet centers are destination locations, usually thirty minutes or so away from major metropolitan areas. This is a destination purchase because customer-aware customers often make a day trip to find great deals on brand names. In exchange for buying without a season or profit, consumers can get fantastic products at low cost. The fun is in the hunt – to find the great pieces that would have cost three times as much in the main store.
Sounds right? I don't think I've lost anyone yet. The value proposed by the consumer here is about getting a good deal on a great product. It justifies day trip or at least afternoon. The problem is that the value proposal just isn't there anymore – or not to the extent it used to be. In most cases, buyers buy a lower quality good for a lower quality price. There is discount shopping – not outlet shopping. This means that there is an identity crisis for the withdrawal model. When 80% of the products sold at outlets are made for retail outlets with gently weaker craft, allure is gone. As non-economical as there are literally dozens of sites out there dedicated to how to view exported goods (example) because of low quality.
To make matters worse, many brands have withdrawn from the withdrawal page in the name of the building brand's allure. Let's rewind the clock back to the beginning of 2015 when Coach, now Tapestry (TPR) after purchasing Kate Spade, had to deal with the outcome of over-discounting in outlets. The same was true of Ralph Lauren, who, through his blue / black / purple labels, aimed to increase his addressable market to different price points. These are conference calls from early 2015 (Source: Ralph Lauren, Tapestry 2015 conference calls). Both are core physicians at Tanger Factory Outlet Center properties:
In retail stores, the general environment was definitely more promotional especially in our room with our competitive set to become even more aggressive, traffic levels were weak and conversion was negative while the ticket was a bit up. As planned, our store was compensated by high teens with our total compressed additional five points at DOS as we withdrew from three flash sales events a week into just one event per week.
And the Channel that continued to experience the most challenge was the US factory outlet, where the traffic to the US outlets continued to be down. I believe in the longer term, what we think is that with the expansion of the e-commerce industry, we believe that some of these e-commerce customers choose to shop online instead of driving to the outlet. And then we think there is a cannibalization effect that affects the outlet channel.
Although not the point of this survey, despite the fact that noise such as Amazon (AMZN) and e-commerce fears are overloaded, the group's overall consensus is exactly as CEO Stefan Larsson says above: cannibalization takes place at retail outlets as online sales . While the omnichannel model has profit (brick and mortar as the point of contact for shipping and physical return), the outlet center model by definition affects less raw population due to location.
The result of all this is that foot traffic is down and sales per square meter have been stagnant. Working back to my two examples, Tapestry, both within the Coach brand and now also through Kate Spade, has closed much of its sales footprint in recent years. Ralph Lauren has taken similar measures. While sales data has improved at both of these retailers against flat comps in their outlets since then, the broader issues remain.
Lack Of Levers
Like shopping centers, exit centers are probably covered. It does not mean that Tangier is significantly affected; property sites matter. However, unlike some shopping malls, there is much greater difficulty in restoring these assets to higher and better use. Most urban / suburban malls, even those who are not Class A, have better tenant diversity and are able to get on the train of remodeling. This means that you target multiple "experienced" tenants such as restaurants, cinemas, and healthcare professionals to drive more consistent traffic. It also means shifting to the use of mixed use (apartments, office space) that appeal to the average American today – especially the younger set. A great location can always be repurposed.
While not true for all outlets, it's just not a viable option for most. The outlet model was characterized by large square footage, compartmentalized shopping with dozens of tenants. Remember, "destination shopping". It often meant buying cheap land away from the city center. While many Tangier properties were developed nearer the highways, or just because of urban sprawl, they have seen their addressable markets grow, not everyone is. Development opportunities for mixed use are limited in most cases, which change square reception to the experienced tenants. Yes, the outlets have an occasional restaurant – there is no way to change a large part of the rent or square foot that way.
Disagree with me? The CEO and CFO tell you that it is not part of the game plan, instead of "we do not have large boxes to fill, so we probably will not seek alternative used tenants" and that their outlets are "surrounded by multifamily homes, eateries , big bookstores, hotels and entertainment so we don't have to put up our capital at risk of developing "(Source: Q4 2018 Conference Call). In other words, the plan is business-like as usual, going forward, and things will prove fine. It's not what the market wants to hear, and it's not what the market believes will lead to success. Can it be as simple as holding the course? Maybe. But it seems unlikely that the 2017-2019 same store revenue ("NOI") comps have (and will) remain negative or that cash mixed rent scale remains extremely low. Steve Tanger is stuck in his ways: comparing the REITweek presentation in 2012 versus the current 2019 tire. They are basically the same when you get past the updated picture, despite the fact that seven years distinguish the two. If it were a stagnant and formal operation of a REIT, everyone would. Retail markets are undergoing real change. The company must adapt to it.
Quick note on valuation,
Bears was quickly locked in that Tanger Factory Outlet sold four "non-core" outlets at a 12.6% blended cap rate. This transaction closed after the quarterly change in March and drove some meaningful dilution into funds from operations ("FFO") and NOI numbers. I do not see this as more than padding and trying to improve the overall portfolio store Billing in any pro forma influence, cash on return on these properties was close to 20%. This money will probably only be rolled into paying off debt.
While these properties experienced much poorer sales performance and released cracks as opposed to the rest in the business, the company (assuming 300 millimeters in pre-sale 2019 NOI) trades a 8.6% implied capital tax rate using a proportionate off-balance sheet liability. There is still a tremendous amount per emium being baked into the rest of the portfolio versus where these non-core businesses are traded. While withdrawal centers are an illiquid asset class and do not really see much trading volume, my slightly educated intestine is that it is about where to act on the NAV (net), perhaps a weaker weakness. In my opinion, Tangier is unlikely to see any institutional interest from a takeover perspective despite the rather broad appeal from a balance sheet perspective.
At the end of the day you either buy into the Tangier "mentality" of Tangier or you do not. For me, it's hard to explain going out on the edge with these distressed retail players who – with regard to GDP growth and the overall health of the American consumer – should do very well. To sound like a broken plate, the malls are the way to go here if you want to dabble in such assets. Investors still receive investment credit and a good dividend yield with the mall's players, but they also get tenant diversity, positive same-sized sales skills (2-4%) and better liquidity. The higher price is worth it.
In just two weeks I will be at REITWeek meeting with the management of a dozen REITs individually and see many others present. This is a treasure chest of data I want to share privately with Industrial Insights community.
This is the type of valuation proposal I am aiming to give members to help them improve their returns; Most of this survey never sees public eyes yet creates great value for society. Sign up for No Obligation Free Trial today to access this survey.
Notice: I / We have no posts in any of the aforementioned shares and no plans to start any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I do not receive compensation for it (other than from Seeking Alpha). I have no business relationship with a company whose stock is mentioned in this article.