Make Malls Great Again

Idea #1/x of the 90-minute idea speedrun series

Ok, so in theory, this is entry #1 of a series where I look at potential investment ideas, run some back-of-the-envelope calculations, and throw it out there to get some discussion started.

Why? Well, why not? Largely, the idea of identifying an undervalued asset, creating a strategic advantage, and then launching a sustainable enterprise is exciting. Also the idea of dedicating time to scope out ideas consistently and sharing them to get a discussion started is also exciting (it’s hard to share ideas with friends when school has kicked seniors off its campus).

Some ground rules for me (will revise as I get going):

1. Don’t be super duper meticuluous (setting a timer for 90 minutes)
2. Don’t just chase money ideas — chase potential for creating real value
3. Put assumptions down in model

Ok, now on the actual entry: making malls relevant again.

Investment Thesis: Purchase mall/shopping real estate in high-growth suburban regions at discount and convert into an experience-based center that offers premium and unique entertainment options. Potentially export the Disney Springs model to create a new market entirely.

Inspirations

Disney Springs: If you’re from Florida like I am, you might have been to Disney Springs at some point in your life. Their model is largely where I draw my inspiration — as they describe it on their website: “Discover an eclectic mix of unique shops, one-of-a-kind restaurants and lively entertainment at Disney Springs at Walt Disney World Resort near Orlando, FL”. It makes perfect sense from both an operational and financial angle. Operationally, Disney maintains control over the area and is able to curate a casual offering with their brand. You know that you’ll be getting a high-quality experience. Presumably, Disney owns the underlying real estate (which is appreciating) and leases out space to partner shops, restaurants, etc. Because Disney (presumably) has control over which companies can actually be there, margins are probably healthier than typical shopping centers. Additionally, there is no fee for entry, so I think we can characterize the target demographic as “people who are looking for something more casual and less expensive than the actual Disney park”.

Dave and Busters: Ok, I will admit I was skeptical the first time I went to one of these, but this place is genius. Essentially, it’s Chuck E Cheese skewed towards “grown-ups”. I won’t go into a lot of detail here, but I think it’s worth mentioning their model — offering a fun entertainment/atmosphere with decent food.

Realistically, Dave and Busters and Disney Springs are substitutes for each other — they’re offering an entertainment option and it’s an either/or because of the low-stakes environment. I like to think about this in terms of activation energy. Let’s assume it’s Friday 5PM, and we’ve just finished work. There’s no way we would actually go to the real Disney — it’s too expensive, too much planning involved. High activation energy. We could go to D&B — a good bang for our buck, and it’s casual. But still, it’s limited to games and would require some planning to get a group together. Disney Springs makes the most sense. Our group can just plan to meet there and figure out what to do after we meet up. There’s more options and we don’t have to commit to a specific idea ahead of time. Low activation energy.

What else would D&B and Disney Springs compete with? Don’t make the same mistake I did and google “adult entertainment ideas”. After a more careful googling, most of the ideas on blogsites suggested organizing a game night, playing board games, going to a restaurant, etc.

So ok, what if the product thesis is similar to the one at Disney Springs: low-stakes and low-activation venue for multiple types of offerings?

Now that we’ve pretty much figured out what our strategic advantage / product will be, what does the investment plan look like? I’ll use my local mall as a template. It’s currently owned by Simon Group, which hasn’t had stellar performance recently and is pursuing a strategy to become an Amazon fulfillment center (more on this later).

1. Acquire mall and entire real estate. My local mall has 3 anchor tenants, so we can estimate the price to be ~$200M for the venue. Let’s say we’re really good at negotiating so we get it at a discount price of $160M. We’ll finance with a 30-yr. mortgage with 30% down, at 2.5% APR. I’d estimate total initial costs for the acquisition to be at $50M.
2. Let’s throw in another $50M for making high-quality entertainment centers. This brings initial CAPEX to $100M. We have 3 anchor tenants so one space could go to a vintage-themed bowling alley, another to a high-tech VR simulation game, and the last space could become a music venue.
3. According to the info page, there’s about 120 spaces, so let’s assume 100 of them are occupied with tenants such as restaurants, shops, etc. At least one restaurant has to be a Thai food place (after all, this is my plan). Quick googling gives us $20/sq ft. average rent prices. There’s 800K sq ft and we multiply by a 75% utilization (I’m not sure if their floor space represents actual retail space or also walking/common areas). This gives us $20M in leasing revenue. This is a super sensitive assumption.
4. We can probably come up with a scheme with leasees where can hedge against seasonality and market volatility by using a profit — sharing model instead of a fixed-rent model. This also aligns incentives to succeed. For now though, we’ll be conservative and estimate $20MM in rent revenue alone, and a 25% OPEX so our annual EBITDA is roughly $15M.
5. We can allocate about $2.5M for depreciation, assuming 39-yr. guidelines on a $100M basis. This brings our EBIT to ~$12.4M. From our mortgage, we owe about $5.4M each year for total debt service. So this means our debt service coverage ratio is ~2.3x. Not bad. Our interest coverage ratio falls around 5.4x. Also not bad.
6. Ok, let’s do a quick valuation. Let’s set working capital at $20M and the tax rate at 20%. After year 5, we assume 4.8% perpetual growth. I’m estimating our WACC to be about 8% because we can lever this bad boy up and finance the little equity we need with our own funds. This gets us to an approximately $200M equity valuation. I’ll reiterate that this is a back-of-the-envelope calculation and I’m quickly running out of my self-prescribed time limit, so really the thing we’re looking for is that this is a positive value.

The plan seems straightforward. The financing seems straightforward and I’m sure if we spend more time on it we could come up with clever ways to maximize our EBITDA and squeeze out a better valuation, but I want to go back to the strategic advantage on the actual service we would be offering. We would take a mall, create an entertainment-focused venue based on the model of Disney Springs, and attract the growing suburban populations with a premium, high quality experience. The goal is to be a low-activation-energy destination.

This will be the last part of this entry, largely because I am out of time, but I think it’s important we strongly consider this investment thesis or something along these lines, for reasons beyond the money. Largely, the American mall has faced a death by Amazon, and it’s fair — after all, Amazon has reduced the activation energy needed to shop. Whereas it’s easy to concede defeat in this Amazon-vs.-all war (see Simon group now working with Amazon to turn malls into fulfillment centers), this represents an opportunity to seriously push back against Amazon. Creating this “Mall 2.0” offers a few immediate advantages:

1. Wider economic moat against corporate consolidation (Amazon et. al. will have a harder time enroaching on a service-based venture)
2. Value-add to society. Especially as this pandemic winds down, we need to start prioritzing socializing (not on Zoom!!) and spending dollars at the Mall 2.0 means boosting local economy (let’s prioritize the local American economy vs. buying an additional made-in-China product).

Ok, that’s time. That concludes idea blog #1. Let’s make malls great again!

Thank you to Sophia Cheung for reading a draft of this.