Retail

Here's why the biggest U.S. mall owner might want to buy JC Penney

Key Points
  • The biggest mall owner in the country is considering teaming up with Brookfield Properties and Barneys New York parent company Authentic Brands Group to make a bid for J.C. Penney, a person familiar with the talks told CNBC. 
  • A real estate analyst walks through the logic of such a deal for Simon Properties' business.
  • Hit by the coronavirus pandemic and suffering from an overhang of debt, Penney filed for Chapter 11 bankruptcy protection in May. 
A customer shopping for apparel at a J.C. Penney store in Glendale, California.
Patrick T. Fallon | Bloomberg | Getty Images

Simon Property Group might want to own bankrupt J.C. Penney in order to be able to redevelop some of its best real estate and make it even better, according to one analyst. 

"We believe Simon wants to control the J.C. Penney boxes and land so that it can ultimately redevelop many of these in order to densify and introduce mixed use elements," Compass Point real estate analyst Floris van Dijkum said. "A redevelopment (that would require zoning approvals, capital, and time) could unlock significantly greater value while boosting traffic for the retail." 

Simon is considering teaming up with Brookfield Properties and Barneys New York parent company Authentic Brands Group to make a bid for J.C. Penney, a person familiar with the talks told CNBC. The person requested anonymity because the discussions are private and remain ongoing. 

Simon, the biggest mall owner in the country, has a Penney store in about 50% of its U.S. malls, based on van Dijkum's analysis. It had 63 Penney department stores as of the end of the first quarter. The land value for Penney's owned stores, not the leased locations, is estimated to be worth more than $1 billion, he said. 

Hit by the coronavirus pandemic and suffering from an overhang of debt, Penney filed for Chapter 11 bankruptcy protection in May. At the time, it had roughly 850 locations, but it has already started whittling down its portfolio of stores. It recently announced the addresses of more than 100 locations closing over the summer. 

Still, Penney will be left with hundreds of stores even after those closures, and will remain one of Simon's largest anchor tenants, only behind department store chain Macy's, according to filings with the Securities and Exchange Commission. 

Representatives from Simon, Brookfield and ABG were not immediately available to comment on this story. Penney declined to comment. 

Before the Covid-19 crisis forced America's malls temporarily shut, Simon was bringing in $673 in sales per square foot, on average, according to Compass Point. A Penney store tends to take up 12% of a total mall's square footage, but has very low productivity, bringing in sales of roughly $114 per square foot, van Dijkum said. 

Penney is still open at some of Simon's highest-grossing, so-called A-rated malls, including Roosevelt Field in East Garden City, New York; Fashion Valley in San Diego; Aventura Mall in Aventura, Florida; and Woodfield Mall in Schaumburg, Illinois. 

"The anticipated joint bid by Simon and Brookfield Retail, the second largest owner of U.S. malls, with Authentic Brands for J.C. Penney makes sense from a strategic perspective ... as these two landlords could control the redevelopment at some of their best assets," van Dijkum explained in a Tuesday note to clients. 

"We have little insight into the financial aspects at this stage but could see significant value creation potential should mall owners increase control over their most valuable assets and land sites." 

This deal, if completed, would mark Simon's third takeover of a retailer of late. It bought the teen apparel retailer Aeropostale out of bankruptcy in 2016. And then, with Brookfield and ABG, it bought Forever 21 out of bankruptcy in February at an $81 million price tag. 

ABG CEO Jamie Salter earlier this month told CNBC he viewed Penney, despite its slumping sales, as a brand worth saving. 

"I think there is a place for J.C. Penney," Salter said in the phone interview. "They have been floundering. They haven't really found their spot. ... But I think there is a play for J.C. Penney. I think J.C. Penney needs a purpose. And I have my ideas on what it should be." 

Salter did not comment directly on any talks with Penney during bankruptcy proceedings. 

Bloomberg first reported on the talks between ABG, Simon, Brookfield and Penney. 

Although Simon CEO David Simon has touted publicly how the real estate owner has made money off of its Aeropostale deal, hinting the company could do more such acquisitions, not everyone on Wall Street thinks these are safe bets. 

"I think investors would rather see them spend capital on their business," Mizuho Securities analyst Haendel St. Juste told CNBC. 

"It feels like it is a slippery slope," he said. "I get it, these are large tenants. But that's not your business." 

Meantime, Simon is trying to get out of its deal to buy high-end mall owner Taubman, arguing the pandemic has impacted Taubman's business disproportionately.

Simon on June 10 said it was terminating the merger, which had been announced on Feb. 10. But Taubman responded by saying it would "vigorously contest Simon's purported termination." The dispute has since moved to a mediation phase, with a trial set for later this year.

Simon shares closed up less than 1% on Tuesday. The stock has fallen more than 54% this year, bringing the company's market cap to around $21 billion. 

In a press release Monday, Simon said 199 of its 204 properties in the U.S. have reopened during the Covid-19 pandemic. Together, the properties generate 95% of its net operating income. It said the final five properties should be reopened in the next week. 

"Since reopening, many tenants have reported higher-than-expected conversion rates and sales," Simon said. 

VIDEO2:2902:29
How shrinking American mall will impact local tax revenue