Funds from operations (FFO) at Simon Property Group in Q2 fell to $1.1 billion, or $2.91 per diluted share, from last year’s $1.2 billion, or $3.24 per diluted share, according to a Securities and Exchange Commission filing.
The FFO contribution from the mall REIT’s retail investments, mostly J.C. Penney but also Sparc-run banners, was 19 cents per share less than a year ago, CEO David Simon told analysts. Scotiabank analysts noted the retailers pitched in 21 cents per share in Q2, down from 40 cents a year ago.
Simon in 2020 teamed with Brookfield to buy J.C. Penney out of bankruptcy, and Sparc is the REIT’s 50-50 partnership with Authentic Brands Group. The Simon retailers also contributed less to net operating income in the quarter, which dropped from $195.8 million last year to $116.5 million this year, per the SEC filing.
The vast majority of Simon Property Group’s operation involves developing and running malls, and that business is still in recovery from the pandemic.
Occupancy at the company’s U.S. malls and premium outlets reached 93.9% on June 30, up from 91.8% a year ago, per its press release. Base minimum rent per square foot inched up to $54.58 on June 30 from $54.14 on March 31. Average base rent increased and leasing momentum accelerated across the portfolio, David Simon said.
“I'm pleased with our second quarter results. Our business is strong,” he said. “The higher-income consumer is in good shape, brick-and-mortar stores are where shoppers want to be, outpacing e-commerce across the world and the broad retail spectrum. Demand for our space is extremely strong.”
The retail business itself is in some turmoil, although Simon Property Group has provided few specifics about the performance of its investments in the space. Several retailers have slashed guidance in recent weeks as inflation takes a toll on household budgets.
Changing consumer behavior in the face of inflation hurt Q2 sales at J.C. Penney, Forever 21 and Aeropostale, David Simon told analysts on Monday. Brooks Brothers, Lucky and others are faring better, he said during an earnings call. The downturn reflects the extra pressure felt by lower-income and younger consumers, according to Simon. But he also said that J.C. Penney and Sparc-run brands “had an unbelievably strong year last year” and that Penney has $1.3 billion of liquidity.
“There will be a little more volatility from quarter to quarter when it comes to Sparc and J.C. Penney, but please keep this in the proper perspective,” David Simon said, adding later, “They'll have volatility with the earnings like any other retailer, and that's just the way of the world.”
In a research note Monday, Scotiabank analysts Greg McGinniss and Nicholas Yulico flagged the decline in the retail investments’ contribution to FFO. “In our view, given this level of volatility, we believe SPG valuation would benefit from providing retailer investment guidance separately,” they said.
David Simon has downplayed the need for more granular information on the retail operations given the size of the REIT’s stake, saying it has no cash equity investment in Sparc and J.C. Penney. “It's a very small part of our business,” he said Monday.
That could change if, as David Simon has advocated, Congress alters REIT rules in order to allow malls to own a greater percentage of their tenants. A bill to achieve that is sitting before the House Ways and Means Committee. Critics of the measure have pointed to the volatility of the retail business as contrary to investors’ expectations of a REIT.