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Blackstone's Gray riffs on retail's 'serious headwinds'

The news media's doomsday prophecies for malls may be overblown, but retail's struggle is real, according to Blackstone Group LP's Jonathan Gray.

"Retail faces some serious headwinds," Gray, Blackstone's global head of real estate, said April 6 at a conference in New York. "Some of the breathless coverage may be a little much. And shorting CMBS these days with the hope that all these retail centers are going to go bankrupt immediately I think that's a bit overdone. This stuff plays out over time."

"Disruption" was the unifying theme of New York University's 22nd annual REIT Symposium, and retail's particular struggle in the evolving marketplace, where the "disintermediation" of sales the elimination of middle men in the delivery of a product or service to consumers is accelerating, was the main talking point.

During a lunch Q&A, Gray pointed out that "virtually all" the retail sales growth globally is taking place in the online arena. That shift has inevitable consequences for retail landlords, who will need to prioritize the "experience" of retail properties going forward, he said.

Gray said Blackstone's investments in the U.S. retail market are limited, but he noted that the firm's dispositions of late have had less to do with retail's secular challenges than with the life cycle of the related assets. Grocery-anchored, convenience-oriented and otherwise "Amazon-proof" concepts remain attractive relative to power centers, oriented toward books, consumer electronics and office supplies, and malls, which are exposed to the department store weakness.

Gray ultimately disavowed "doom and gloom" prophecies, but said retail's present struggles warrant a general repricing in the marketplace.

"You just have to expect that the amount of capital that needs to deploy in shopping centers will be greater than it was historically, and the rates of growth will be slower," he said.

Debate about the extent of mall's troubles extended across the day's panels. On one, Jon Cheigh, executive vice president with Cohen & Steers, observed retailers' increased "honesty" in recent quarters about the extent to which their in-store sales have been cannibalized by online sales and about their need to right-size store count.

The bar for what qualifies a mall property as an A-mall has been rising, and the general consensus about the workable number of malls seems to be declining, Cheigh said.

"It seems like every year, the number of viable malls has been getting smaller and smaller," he said.

Retail REIT executives on panels took the ribbing in stride. Regency Centers Corp. Chairman and CEO Hap Stein said retail has always been vulnerable to periodic disruption in distribution channels, but he acknowledged that the scale of the disruption this go-round is "different."

"Anybody that believes that we're immune from those disruptors has got their head in the sand," Stein said of shopping center and mall landlords. "But at the same time, I have a very strong point of view and conviction that the better retailers will ... want to have not only a technology strategy, but also a brick-and-mortar strategy so they can be relevant to their customers ... And better shopping centers will continue to be a relevant distribution channel for the foreseeable future."

GGP Inc. CEO Sandeep Mathrani's testimony provided the most vivid counterpoint to Gray's and others' commentary. The U.S. retail market is, at bottom, under-demolished rather than over-stored, he said, and the owners of quality retail property have and will continue to prosper. He pointed out that only 1.2 billion square feet of the 7.5 billion U.S. retail square footage is considered high quality, with a B-plus or better grade.

Today's retail "hiccup" is a result of obsolescent property, he said.

"If you invest in the best real estate, if you own the best real estate, you will thrive. ... You have to differentiate companies based on the quality of the real estate," Mathrani said.

Mathrani later observed that General Growth's occupancy is still strong despite the deluge of recently announced bankruptcies and store closures. The downsizing retailers had been propped up artificially by the market and "should have been downsizing for the last 20 years," he said.

During the first three months of 2017, 1.2 million square feet of General Growth's was impacted by retailer downsizing, and 80% of that square footage has already been leased, Mathrani said. Of the big boxes the mall REIT is getting back, there is zero available square footage. The pipeline of retailers pursuing high-quality retail real estate product is "very deep," he said.

"These companies that have announced bankruptcy in the last 30 days, we've known about this for a year or 18 months. Why is this news to media? I don't know."