Troubled chains need to get off the ‘watch list’ ASAP

Lenders are growing wary of today’s more complex, time-consuming and expensive Chapter 11 bankruptcy filings.

Simply put, successfully emerging from Chapter 11 takes more time and effort from attorneys, financial advisors, investment bankers, third-party real estate firms and other restructuring professionals. Unfortunately, this does not come cheap, and so lenders are more likely to put a reserve in the retailer’s borrowing base. While this will only restrict much-needed liquidity, lenders see it as an important hedge against asset-value deterioration. They also want to make sure the company will be able to cover its professional fees during the restructuring.

By acting proactively and strategically to right the ship as quickly as possible, retailers can lower their restructuring costs and bolster their odds of emerging with less debt, higher cashflow and a nimbler and more productive real estate portfolio.

The real estate dimension is particularly important. And yet all too often, retailers are too slow off the mark, heading into an out-of-court restructuring or a Chapter 11 filing with inadequate clarity about:

• Their supply chain
• The individual stores they should close
• The best way to engage with their landlords on lease restructurings and terminations
• What to do with their non-store office holdings and warehouses.

Attacking the problem when you still have liquidity is critical. Here are a few areas of focus for retailers seeking to dive into their real estate performance sooner rather than later...

Identify real estate market trends

The retail landscape is interconnected. In some cases, individual stores run into trouble, not
because of fatal flaws in the local market, merchandise or store manager, but because important co-tenants have exited or seen operational declines. This can happen regionally or nationally when a major co-tenant goes out of business. In other cases, the shopping center or market starts falling behind and co-tenants opt to relocate. In addition, there are many centers that are fully occupied and the landlords will have little problem replacing them.

The presence or absence of particular co-tenants can be a major factor in deciding whether to terminate or extend a particular lease and/or relocate to a stronger nearby center. Retailers need a comprehensive understanding of these dynamics across the portfolio.

In addition, a top priority should be to evaluate your store coverage in the markets you serve. Where will your existing customers go if you choose to close a particular location or locations? Can you configure your in-market presence in such a way that it maximizes the transfer of your existing shoppers to your remaining locations, and not those of your competitors?

Update your location-specific data

When the time comes to make critical real estate decisions, retailers need to have up-to-date and granular data at their fingertips. In addition to sales trends and box sizes, it is important to update store-specific factors such as market rents and occupancy costs, barriers to entry and the quality and trajectory of that store’s center or submarket. The center’s co-tenancies and traffic and geospatial data are critical in this review.

Understanding the position of individual landlords is essential as well. The well-heeled owners of top-tier shopping centers generally want a freer hand to execute redevelopments and/or remerchandising strategies. Retailers should have their real estate departments or third-party advisors analyze their portfolios to zero-in on valuable lease exclusives and site-control clauses that could serve as powerful bargaining chips.

Landlords of less-competitive centers might be in the opposite position. Especially given today’s high construction costs and financing barriers, they might feel that it would be too expensive to redevelop the property. They might even balk at bringing in a replacement tenant, given the potential need to shell out tenant-improvement dollars and build out the prior operator’s space.

In conducting store-by-store reviews, seemingly small nuances also can be important. Problems with store management, parking, signage, labor, deferred maintenance or shoplifting/shrink should not be ignored in your real estate decisions.

Scrutinize your non-store real estate and leases

Leased stores get the lion’s share of attention, but proactive portfolio reviews also should zero-in on fee-owned properties and non-store assets, which can be downsized, sold, relocated or subleased to support the broader strategy.

Non-store assets include the likes of:

• corporate offices;
• warehouse distribution centers;
• education/training campuses;
• retreat centers; and
• transportation facilities.

Decisions about which warehouses and DCs should continue operating require careful scrutiny. Running a warehouse is expensive — not only because of rent but also because of high labor and operations costs. The effects on operations of shuttering a warehouse must be considered. What will happen to logistics, fulfillment and customer service without that asset? If it ultimately falls into the “keep” column, what kind of lease term and structure would be best? Could hiring a third-party real estate provider be the key to moving quickly on such real estate decisions?

Office real estate also warrants a close look. The trend toward hybrid work means that many office assets are woefully underutilized. Do you need your entire corporate headquarters or could it be downsized or sold? Is it in the most cost-effective and convenient location, or could relocating it be a better move?

Put it all in context

Real estate should never be considered in a vacuum. In many sectors today, major shifts in consumer behavior have necessitated a rethink of the business model. More of today’s  restaurants, for example, now focus on app-friendly drive-thru and pickup service as opposed to operating spacious dining rooms. Real estate is a critical part of adjusting to such bigger-picture shifts.

Once again, it is better to be proactive and strategic than to play catchup. With better information, both healthy and distressed retailers can improve their performance and offer landlords a consistent, transparent message that extends well beyond the leases themselves.

Updated, insightful analytics and trend reports help the entire team — executives, financial advisors, real estate consultants, and lenders — understand the “art of the possible” and act decisively.

Yes, information is power, but timing matters, too.