How is Tangier handling the retail apocalypse?

Tangier Factory Outlet Centers (SKT 1.07% ) is unique among real estate investment confidences (REIT) in that it is the only one to focus exclusively on outlet centers. Investors don’t seem too happy with this niche approach today, with the stock down 26% year-to-date and yield up about 10%. Management tells investors it is riding through headwinds – store closures and retailer bankruptcies – and it’s only a matter of time before things look up.

But will the old playbook be enough to deal with the so-called “retail apocalypse“?

Tangier’s finances look solid

In terms of metrics, Tangier has held up reasonably well, as online shopping is a growing slice of the retail pie.

For example, occupancy rates are still high and fluctuate around 90%. That puts it among the best of its enclosed mall peers (not a perfect comparison group, but it’s the best fit). Basically, he keeps his malls filled.

Sales per square foot, meanwhile, have hovered between $380 and $395 for the past five years or so, with a slight increase over the past six months to hit the high end of that range. While this range of sales per square foot is low for an enclosed mall, Tangier’s point-of-sale-driven business model is different, and the actual number isn’t the most important takeaway. The big story is that consumers are still coming to Tangier outlets and shopping at similar levels despite the retail apocalypse. And occupancy costs for its tenants remain low compared to other options, suggesting it remains a good place for businesses to locate a store.

So, despite the weak stock price, the Tangier business is barely dying.

Image source: Getty Images.

The fact that Tangier remains financially strong is also important. He has a investment grade-rated balance sheet. Total debt to adjusted assets is 49%, well below a 60% covenant. Only 6% of its square footage is mortgaged (largely related to joint venture assets). It covers five times its interest costs, which means debt costs are not an issue. And he’s only using 3% of his credit facility, suggesting he has ample cash.

Despite being financially strong and performing reasonably well, investors remain concerned: can Tangier’s business model withstand the steady stream of store closures as consumers shift to online shopping? One of the sectors that seems to take investor concerns into account is fashion. Clothing has long been one of Tangier’s main focus areas.

The attitude of the management of Tangier is “We got it!”

So far, Tangier has told investors that it has faced headwinds like this before and survived. That this time is no different and the same playbook he used in the past will work again. In effect, it gives rent concessions to tenants to maintain high occupancy (and, therefore, its outlet centers are desirable to tenants and consumers alike). Meanwhile, he scrambles to add new tenants to replace those who leave, largely due to bankruptcies.

CEO Steve Tanger noted during the second quarter conference call:

Look, we’ve always had a turnover of tenants every year. It is a reality and in 10 years, we will still be talking about turnover of tenants. But the names of our main tenants are totally different today than they were 10 years ago.

Here’s the thing, that’s not “totally” true. If you look at the top 10 tenants in Tangier in 2018 and compare the list to 2008, there are notable differences. But they are not as big as they might seem at first glance. Some names have fallen off the top 10 list and some have been added, but much of the movement is in the underlying brands – many of which have simply changed hands. Essentially, the lists are roughly similar and (perhaps equally important) both are heavily fashion-focused:

2018 Tenant and Controlled Brands

2008 Tenant and Controlled Brands

1. Ascena Group — Dress Barn, Loft, Ann Taylor, Justice, Lane Bryant, Maurices, roz & ALI

1. Difference — The Gap, Banana Republic, Old Navy, Gap Kids

2. Difference — The Gap, Banana Republic, Old Navy

2. Phillips-Van Heusen Corp. — Bass, Van Heusen, Calvin Klein, Izod, Geoffrey Beene

3. PVH Corp. –Tommy Hilfiger, Van Heusen, Calvin Klein

3. VF Outlet Inc. — VF Outlet, Nautica Factory Outlets, Vans, Nautica Kids

4. Under Armour, Inc. — Under Armor, Under Armor Kids

4. Nike –Nike, Cole Haan, Converse

5. Nike, Inc. –Nike, Converse, Hurley

5. Adidas — Reebok, Adidas, Rockport

6. G-III Clothing Group, Ltd. — Bass, Wilson’s Leather, Donna Karan

6. Liz Claiborne — Liz Claiborne, Lucky Brand Jeans, DKNY Jeans, Juicy, Liz Claiborne Women, Liz Golf, Kate Spade

7. Tapestry, Inc. — Coach, Kate Spade

7. Robe Grange, Inc.. — Barn Dress, Maurice’s, Barn Women’s Dress, Barn Petite Dress

8. American Eagle Outfitters, Inc. — American Eagle Outfitters, Aerie

8. Carter’s, Inc. –Carters, OshKosh B Gosh

9. Carter’s, Inc. –Carters, OshKosh B Gosh

9. Jones Retail Corp. — Nine West, Jones Retail Corporation, Easy Spirit, Kasper, Anne Klein

ten. VF Corp. — Release VF, The North Face, Vans, Timberland, Lee/Wrangler

ten. polo ralph lauren — Polo Ralph Lauren, Polo Jeans Outlet, Polo Ralph Lauren Kids

Data source: Tanger Factory Outlet Center company deposits.

Tangier has stepped out of its comfort zone to try new concepts, like adding discount fashion stores. Since customers can often find the same clothes in an outlet store as in a discount store, he chose to test the concept before launching. It took a while to open one. TJ Maxx store in a outlet center to ensure this does not affect other tenants before seeking to extend the relationship. He hasn’t jumped with both feet and risks hurting his overall results. Tangier is also adding more health and food related stores to expand beyond the fashion niche.

Tangier’s approach is conservative

However, these efforts are largely marginal. This is not surprising given the conservative nature of the business. And Tangier is not as aggressive with “densification” like other shopping center REITs. This is the rental concept of bringing in hotels, rental apartments and healthcare facilities to fill in the gaps. Tangier prefers to let the adjoining retail space around its outlet centers evolve over time, with areas organically adding such things without the REIT having to bear the risk or cost of the effort. The end result, however, is similar (increased clientele), but the timing is less certain and likely longer.

The big question then: is Tangier doing enough? When Tangier has faced challenges in the past, they have been there periods of recession. It’s a shift in the way customers buy today, much of it happening during a period of expansion. This time may, in fact, be different. But is it different enough to require a whole new approach? It’s not clear yet, and investors who own Tangier are essentially betting that he can make this transition with the same slow and steady approach he’s always used before.

The worst case scenario

With a strong balance sheet and business that appears to be holding up reasonably well, Tangier’s risk of bankruptcy is very low. It will likely survive the “retail apocalypse”, even if it only manages to get by. The real risk today is therefore the dividend, which was well covered in 2018, eating only 56% of the operating funds (FFO), in line with typical REIT earnings. If there is a recession or if more fashion stores slip up and close, Tangier’s big dividend is likely to be reduced. And it’s that potential that’s driving the stock price drop that we’ve seen.

Slow and steady Tangier looks like a decent value game, but go ahead with your eyes peeled for the risks it faces. The playbook it uses may need to be updated a bit to keep up with the success of growing online shopping. I own the stock, I’m losing money on my position and I don’t intend to sell it at this point…but I’m not adding more. What I’m doing is letting that big dividend reinvest and looking at other REITs in the deeply disadvantaged business space with more diversified portfolios.

This article represents the opinion of the author, who may disagree with the “official” recommendation position of a high-end advice service Motley Fool. We are heterogeneous! Challenging an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and wealthier.

Sarah J. Greer