June 20, 2017, 6 a.m. | William Colbert | Deal Review

Innovation & Entertainment - The Future of Malls in America

The future of American malls is in limbo. Since 2016, more than 1,500 stores have been slated to close, including blue chip names like JCPenney, Macy’s, Sears, American Apparel, The Limited, and Abercrombie & Fitch. The trend is nothing new, as customer traffic has been slowing for more than a decade, causing many large department stores to abandon their leases. As the malls lost their largest revenue generators, they began to fail.

Some department stores are going out of business altogether, like The Limited, which recently shut down all 250 of its stores. Other stores, like Sears and JCPenney, are aggressively reducing their store counts to unload unprofitable locations. Sears is shutting down about 10% of its Sears and Kmart locations (around 150 stores) and JCPenney is shutting down about 14% of its locations, totaling 138 stores.

What’s particularly alarming is that these chains are considered anchor tenants, the major shopping attraction that brings shoppers to a particular mall. If the anchor tenants close, often times the rest of the mall follows.

Mall closures are not occurring evenly throughout the asset class, however; closures have been most often at C and D rated malls, which represent about 30% of all the malls in the United States. Green Street Advisors recently reported that “the top 300-400 malls by quality should fare well for the next several years, but it is reasonable to assume that several hundred lower quality malls will either close or become irrelevant retail destinations over the next 10 years.”

There is also a geographic element to the mall closure trend, with rural malls outperforming their urban peers. Malls in more rural location serve as hubs for not only shopping but socializing, accessing quality healthcare, and jobs. This community aspect has thus far protected many rural malls from the nationwide closure trend. With these nuanced trends in mind, some interesting questions arise around what’s in store for new malls slated to be built and those slated to close. Do they present a great opportunity for investment?

The Alternative Future of Malls - Centers of Innovation & Necessity for Communities?

Former Malls as Transportation Hubs

Downtown Seattle turned a crumbling mall parking lot into a hub for its growing light rail system. The station is part of the $1.9 billion Northgate Link project, which extends light rail 4.3 miles from the University of Washington station at Husky Stadium to Northgate Mall. When the extension opens in 2021, rides from U District Station to downtown Seattle will take just eight minutes. Currently, the journey from U District Station to Downtown Seattle takes 14-16 minutes by car, bus or Link rail.

Former Malls as Micro-apartments

The Westminster Arcade in Providence, Rhode Island opened in 1828, making it America’s oldest shopping mall. Over time, the building fell into disrepair and closed in 2008 for a $10 million renovation. In 2013, it re-opened as a micro-apartment complex. Today, there are 48 units (which average 300 square feet) as well as restaurants, a coffee shop, and a hair salon.

Former Malls as Medical Clinics

Some malls have undergone far less drastic changes, filling space with walk-in medical centers. The amount of walk-in clinics in malls has risen 15 percent since 2011, according to data from the Urgent Care Association of America. In fact, one-third of all urgent care is now located inside shopping centers, the group says.

Tom McGee, CEO and president of the International Council of Shopping Centers, states that “Folks get a little too caught up in the stereotype of what a mall is.  Malls were built for people to do things that they have an interest in doing.”

 

A New Model for Malls - Longer Visits & Longer Leases

While some malls are undergoing dramatic changes, others are simply adapting to changing American lifestyles by becoming entertainment destinations. The goal for these malls is simple: bring in more foot traffic with attractions like rock climbing walls, luxury movie theaters, and great fast casual restaurants, or become the shopping and entertainment arm of large casinos.

“The emergence of entertainment as part of the shopping mall is becoming very important,” says David Smiley, the assistant director of Columbia University’s Urban Design graduate program. “It keeps people in the center longer. And even if they weren’t going to shop for something, they get lured in.” In 2012 and 2013, the Carousel Center in Syracuse, New York re-branded as Destiny USA and added higher-end restaurants, IMAX screens, an arcade, indoor go-karting, and obstacle courses. According to the mall, the 2.4-million-square-foot complex draws around 29 million people (both from the US and Canada) every year.

The move toward experiential activities in malls is bringing in more customers, but it comes at a cost. Tenants must invest more in construction and are encouraged to sign longer-term leases by property owners. Jeff Pedersen, CEO of Momentum Indoor Climbing, said his company put $2 million into tenant improvements to raise the roof of a former grocery store in Salt Lake City, allowing for higher walls. Momentum spent an additional $1.5 million on the necessary safety and workout equipment, he said.

This model will likely prevail for malls going forward. As e-commerce continues to swallow up portions of brick and mortar retailers’ market share, malls will be forced to innovate and redefine what it means to be a mall. Malls of the future will not just be centered around shopping but will also promote social experiences, an idea popularized, ironically, by the internet.

In the future, the success of leading malls and new retail projects will hinge on a balancing act between legacy retail, new entertainment, and fast casual dining brands. Providing the right attractions will help boost foot traffic to anchor tenants and will ensure that people continue to have reasons to come to the mall.

Malls can remain profitable and offset the large costs associated with reshaping their locations by passing that cost on to the younger entertainment companies. This revolution will be a win-win for local communities: zombie malls will no longer be an eye-sore driving down land values and residents will be able to hold on to the notion of malls as centers of American culture.