Mastering Retail Bankruptcies: Key Strategies for CRE Success
by: Samantha Armendariz
The commercial real estate (CRE) landscape has been significantly impacted by the upsurge in retail bankruptcies seen in the Spring of 2024. The fallout following the decline of once-stable retail giants such as 99 Cents Only Stores and Red Lobster is extensive. The closure of thousands of retail locations has not only resulted in decreased property values and rental income but has also triggered high vacancy rates that threaten to diminish foot traffic and affect neighboring tenants. Investors in retail centers anchored by these former tenants are left to grapple with stabilizing their properties and mitigating financial losses.
The financial implications of these bankruptcies are stark. Properties with substantial vacancies often face revaluation downward, impacting investors’ balance sheets and reducing their borrowing capacity. This is likely driven by the loss of revenue, which lowers the net operating income (NOI) and the property’s value based on income capitalization. A higher vacancy rate within a retail center may also lead potential investors or lenders to believe the center is undesirable or is located in a declining market. Devaluation can lead to higher interest rates or stricter loan terms when seeking acquisition financing or refinancing, further complicating financial stability in the sector.
Amidst these challenges, the industry has witnessed a notable shift towards repurposing vacant retail spaces. Repositioning vacant commercial buildings has not only breathed new life into dormant properties but also aligns with evolving consumer preferences and community needs. Creative strategies have emerged to reposition vacant retail spaces effectively. From transforming these areas into vibrant lifestyle entertainment hubs (ie. adding fitness centers and experience-based retail) to integrating residential or office spaces within mixed-use developments, these adaptations cater to diverse demographics and inject vitality into local economies. Reusing old building shells significantly reduces carbon emissions. Repurposing existing foundations, structures, and enclosures helps to avoid the emissions tied to producing, transporting, and installing new materials like concrete or steel. This process capitalizes on the carbon already embodied in the existing buildings. This trend of repurposing assets has also proven beneficial to developers as these projects are 16% less expensive than ground-up construction and accelerate the construction timeline by 18%. Such initiatives not only optimize existing infrastructure but also align investments with long-term sustainability.
There are several underlying issues that may lead to retail bankruptcies. Often, private equity acquisitions burden companies with high debt loads, leading to financial strain and prioritization of short-term gains over strategic long-term planning. The CRE industry has witnessed cases of retailers filing for bankruptcy, such as with Toys “R” Us and Payless ShoeSource, following a merger or acquisition. When managing the portfolios of these retail companies, some private equity firms may sell off valuable assets of the acquired company to repay debt or generate quick profits, leaving the company weaker and less competitive. As most recently seen with mass sale-leasebacks for both 99 Cent Only Stores and Red Lobster, the lack of industry-specific expertise within acquiring firms can exacerbate these challenges, resulting in misaligned priorities and ineffective management practices.
The shift in consumer behavior has also played a pivotal role in the downturn of retail fortunes. The exponential growth of e-commerce, accelerated by the COVID-19 pandemic, has reshaped spending habits. E-commerce sales in the U.S. currently makeup over 22% of retail sales and recently increased over 7% from $1.040 trillion in 2022 to $1.119 trillion in 2023. This trend has significantly impacted brick-and-mortar stores, particularly in sectors such as apparel and electronics, where online retailers dominate market share. In response to these dynamics, retail giants like Target and Walmart have pivoted towards hybrid models, blending online convenience with enhanced in-store experiences. Such adaptations reflect a strategic recalibration to meet evolving consumer expectations and sustain competitive relevance.
When navigating this complex landscape, CRE professionals can leverage specialized expertise and strategic insights to mitigate risks and capitalize on emerging opportunities. Finance brokers such as Lever Capital Partners offer crucial support through financial restructuring, portfolio diversification advice beyond retail, and market intelligence for repurposing retail spaces. Lever Capital Partners is a premier player in the space with an extensive network, structured finance experience, and a commitment to personalized service nationwide. We offer access to both debt & equity capital, as well as advisory services for loan renegotiations, ensuring investors can maintain control in changing economic conditions. This makes Lever Capital Partners an invaluable resource for investors managing CRE finance amidst tenant retail bankruptcies.
As the retail sector continues to evolve, proactive adaptation and strategic foresight will prove pivotal for CRE investors and developers. By embracing innovation and leveraging comprehensive insights, stakeholders can not only weather the storm of retail bankruptcies but also foster resilient, adaptive real estate ecosystems poised for sustained growth. Although challenges are presented, opportunities for reinvention and success in retail development emerge.
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