1. The Commercial Real Estate Crash Cometh, and I know who is leading the way!
2. Generally Negative Growth in General Growth Properties - GGP Part II
3. General Growth Properties & the Commercial Real Estate Crash, pt III - The Story Gets Worse
4. More on GGP: A Granular View of Insider Selling and Lease Rate Growth
5. GGP part 5 - The Comprehensive Analysis is finally here
6. My Response to the GGP Press Release, which seems to respond to blogs...
7. For those who were wondering what sparked that silly press release from GGP...
8. GGP: Foreclosure vs Asset Sale
9. GGP Refinancing Sensitvity Analysis
10. GGP part 7 - Share value under the foreclosure analysis

GGP’s valuation comparison under ‘base case’ and ‘sale of properties’

Re-financing needs

As compared to...

Under our ‘foreclosure and sale’ scenario (posted yesterday), we expect GGP to foreclose approximately 6% of its property portfolio which would reduce GGP’s re-payment obligations by nearly 20% each in 2008 and 2009, to $2.0 bn and $2.6 bn, respectively. In addition, we expect GGP to sell some of its un-encumbered properties and curtail capital improvement requirements. Consequently, the assumed foreclosure and sale of properties together with estimated curtailment in capital expenditure would bring down GGP’s total financing needs by 50% and 42% in 2008 and 2009, respectively, to $2.7 bn and $2.4 bn. However as a result of foreclosure, GGP’s credit standing would take a severe beating. Consequentially increased penalties in form of increased cost of financing and additional difficulty in raising finance for future projects would restraint GGP from foreclosing its mortgaged properties. Also since re-financing and maintaining credit standing is one of the prime business drivers for REIT’s unless the situation aggravates steeply from here, GGP may opt not to go the foreclosure route.

Since both the scenarios - ‘base case scenario’ (without assuming sale or foreclosure) with entire debt re-financed through additional loans and ‘foreclosure and sale’ – may seem extreme (the first being too optimistic and the other being too pessimist), we believe that GGP might alternatively sell a few of its unencumbered properties to partly meet its re-financing requirements. We expect GGP to re-finance approx. 30% of its re-financing needs each in 2008 and 2009 through sale proceeds of $1.2 bn and $1.5 bn from properties. In addition, we expect GGP to reduce its capital expenditure towards re-developments and new developments by 50% and 70% to $0.8 bn and $0.20 bn in 2008 and 2009, respectively. As a result of sale and reduction in capital expenditure, we expect GGP to reduce its financing requirements by 36% and 34% in 2008 and 2009, respectively to $3.5 bn and $3.7 bn.

We have identified the following properties which would enable the company to meet above re-financing needs.

We expect GGP to realize approximately $2.7 bn from sale of above mentioned properties (in 2008 and 2009) having a book value of $2.0 bn. As a result of above sale, GGP is expected to record profit of $0.7 bn over the next couple of years. Although GGP would be able to record gain on sale for the above transaction, it would actually drag down the company’s valuation as the current valuation (arrived at using net present value approach) of these properties is noticeably higher than the sale proceeds (see table above). This assumption is based on the hypothesis that GGP would be able to sell these properties only at a discount (15% assumed by us) due to fewer buyers for commercial real estate properties in a down trending market with diminishing liquidity – basically, the typical buyer’s market. In addition, we have assumed 8% cost on sale of transaction.

GGP detailed valuation summary – under sale

GGP's Comparative Valuation

Valuation Based on Various Earnings Measurment

GGP’s portfolio analysis

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Based on our estimates of property values and rental growth, approximately 19% of GGP’s properties have cap rates greater than 10% while more than 51% of the its portfolio has cap rates below 4.5% (in nearly 25% cases the cap rates are even less than the current U.S treasury rate). Most of these properties with low cap rates were purchased during 2003-2007 when the property prices were high and credit to finance these purchases easily available. As property values have declined significantly since then, many of these properties are currently sporting negative equity with their LTVs rising above 100%. We believe that these are the properties that are most vulnerable to foreclosure in case GGP is not able to meet its re-financing requirements in 2008 and 2009 (a distinct and likely possibility).

GGP’s properties purchased over the last 3-4 years have lower cap rates (3-4%) owing to higher purchased price. In addition, these properties were purchased with a significant amount of debt. As a result of recent decline in rentals and property prices, properties purchased with high leverage have negative equity which continues to drive down company’s overall valuation. As seen from the table above, around 45% and 26% of properties (these properties were acquired in 2007 and 2004) have negative equity as against only 2-5% properties acquired during 1990’s and early 2000.

GGP’s financing options

As of September 30, 2007, GGP had a total mortgage debt of around $24 bn. GGP’s net investment in real estate on its books (at gross value after adding back depreciation) on that day stood at $26.6 bn while its shareholder’s equity was $1.5 bn. GGP is one of the most highly leveraged REITs in U.S with debt-to-assets of 84.4%.

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Besides being highly leveraged, GGP has a significant portion of its debt due for maturity over the next few years. Nearly $5.9 bn or 24.7% of GGP’s total debt is due for maturity over 2007-2009, while by 2011, a significant 74% of the company’s outstanding debt is due for maturity. By the end of 2007, GGP was able to refinance only 6.1% (or $359 mn) of debt due to mature over 2008-2009. However, as the company approaches the period of its next debt maturity date, the task of refinancing could only be expected to get more difficult in context of continually tightening credit market conditions. The threat of monoline failures, combined with significant asset write downs by banks and real estate companies aggravated by sharp declines in housing demand and prices, together with an increase in defaults and foreclosures, have created one of the tightest lending environments in the recent history. An environment that will be even tighter for a considerably above average risk, as we see GGP!

Faced with tough times arranging refinancing and amid high expectations of further deterioration in the credit and capital market conditions, at least in the near term, we believe GGP, though reluctantly, might have to opt to foreclose some of its highly leveraged properties to meet its debt obligations in order to preserve its other income-generating properties.

As a result of the assumed foreclosure of $4.8 bn worth of loans in 2008 and the assumed the sale of $2.7 bn worth of properties in 2008 and 2009, we believe that GGP would be left with approximately $2.7 bn and $2.4 bn of financing needs in 2008 and 2009, respectively, out of which $1.9 bn and $2.2 bn is related to re-financing debt repayments while $0.8 bn and $0.20 bn in 2008 and 2009, respectively, is related to capital improvements.

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Written by :

Reggie Middleton