A REIT Investor's Guide to Shopping Center Foreclosures

Change is inevitable in the retail sector of commercial real estate (CRE). With change comes challenges but also opportunities for those in the know.

While a ‘dead mall’ – a shopping center with reduced or zero foot traffic usually due to loss of a key anchor tenant – is an eyesore in the afflicted town or city where it’s located, it’s also a blank canvas for any savvy REIT (real estate investment trust) acquisitions team focused on value creation.

The decline of these malls can detract from local economies and communities, but for the astute investor, they represent untapped potential waiting to be harnessed.

In this guide, we delve into the landscape of shopping center foreclosures. We’ll take a brief look at why there are growing opportunities in this corner of CRE for REITs and provide you with tips and strategies on how to leverage those for maximum profitability.

Shopping Center Foreclosures Defined

A foreclosed shopping center is a retail complex, building, or strip that a lender has repossessed because the owner failed to meet their mortgage obligations. This can occur due to various financial, physical, or personal challenges faced by the owner.  

Common reasons for foreclosure include:

• Defaulting on mortgage payments  
• Inability to maintain the required debt coverage ratio  
• Failing to pay property taxes

These are often kickstarted by economic downturns such as the 2008 financial crisis or the Covid-19 pandemic, which trigger a drop in consumer spending, causing the mall to lose profit.  

The center might lose a significant anchor tenant that used to bring in high levels of foot traffic. The loss of a major tenant can suddenly and severely impact on the owner’s ability to service debt payments. Financial distress or mismanagement can lead to neglecting tax and utility bills.  

Typically, the lender initiates a legal process to sell the property (usually on auction), using the proceeds to repay the outstanding loan.

The exact procedure can vary based on district and the terms of the loan agreement. Read more about the ins and outs of commercial foreclosures in our previous article.

The Landscape of Shopping Center Foreclosures

The far-reaching impacts of the 2008 financial crisis and the steady rise of e-commerce lead to a record rate of shopping center closures in the United States from the late 2000s onwards.

Sometimes referred to as the ‘retail apocalypse’, a devastating wave of retail shutdowns continued until 2020 when the Covid-19 pandemic hit. In 2019 alone, more than 9300 stores closed their doors.  

While not all shopping center closings are official foreclosures, many of them are due to financially stressed property owners. Increased interest rates over the last two years have further pressured retail owners’ ability to cover their mortgage debt, leading to foreclosure. Now in 2024, many owners are feeling the pinch as Covid’s concessions to landlords have run out.  

Are these abandoned shopping malls and shuttered storefronts doomed to haunt the streets of America like apocalyptic zombies?

In fact, smart investors are starting to scoop up some of these derelict properties and redevelop them in new ways, exploring experiential retail, outdoor shopping concepts, and more. Here, in a pile of dead carcasses, lies opportunity aplenty for those willing to take the plunge.  

Maximizing Acquisitions Through Shopping Center Foreclosures

Identifying Opportunities

Risks related to purchasing a shopping center undergoing foreclosure include:

• Potentially high maintenance and/or renovation costs.
• Extended vacancies while renovations take place, leading to cash flow concerns.
• Stiff competition in the foreclosure auctions driving up the selling price.
• Possible legal complications related to the previous owner’s liabilities.

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However, the rewards are often more than enough to compensate for possible risks. They include:

• Getting your hands on a property for a significant discount compared to its market valuation.
• The opportunity to reimagine and redevelop an old run-down center in-line with the latest retail trends. For example, mixed-uses, experiential retail, and outdoor shopping, to name a few of the current trends.
• Potential for high return on investment when strategically repositioned in the retail market.
• Better bargaining power in negotiations due to urgency of sale by the owner.

Strategies for Identifying Undervalued Shopping Centers

The following guidelines will assist during your search for foreclosed shopping malls:

• Conduct a thorough analysis of the retail market in your area of focus to discover areas where foreclosed shopping centers are undervalued.  
• Use due diligence processes to evaluate the physical and financial condition of the property.
• Make use of a geographic information systems (GIS) analytics tool, like AlphaMap, to gain insights into:

1. Demographics and population density

2. Traffic patterns and accessibility

3. Trade areas and foot traffic statistics

4. Nearby competitors and complementary businesses

5. Local economic indicators that could predict future growth or decline

• Build relationships with local CRE brokers and foreclosure auction houses to get early notifications of upcoming opportunities.
• Monitor public records and foreclosure listings regularly for new entries.
• Check local government plans for area development, such as infrastructure improvements or zoning changes that could increase property value.

Strategies for Overcoming the Challenges of Shopping Center Foreclosure Transactions

Foreclosure auctions and negotiations can be complex. Here’s how to approach the ones you’re most likely to come across.

Legal Complexities

Legal procedures and rules governing foreclosure auctions might be different in different jurisdictions.  

• It’s important to seek the service of an CRE attorney for legal advice on commercial foreclosures within your region. They will keep you on the right side of the law, and help you avoid any legal issues that may arise.
• You can get a head start by gaining an understanding of the legal system in the area where the property is located.  

Financial Challenges

Consult with your financial and asset management teams to map out the financials.

• You can secure lending pre-approval that is geared towards distressed property purchases.  
• Create a detailed financial plan which includes extra a contingency budget for unexpected costs.

Operational Concerns

If you don’t have the expertise in-house, consult with a property management company who has experience and expertise handling distressed properties. This will ensure minimum downtime and the ability to re-open as soon as possible after purchase.

• Create a detailed redevelopment plan that covers all significant changes required.
• Engage and collaborate with the local community to garner support for development projects aimed at bringing new life into run-down shopping centers.

REITs and the Future of Shopping Centers

The retail sector is a constantly shifting space. E-commerce is having a strong influence on brick-and-mortar retail, but shopping centers are still in demand, just in a different way.

As shoppers demand more experiential retail and entertainment, and mixed-use spaces that merge retail with dining, residential, and office spaces, CRE developers will need to follow suit.

A shift towards sustainability and eco-friendly shopping is also a growing trend. As is more integrated use of technology and smart, automated systems. New technologies help to personalize and enhance the customer shopping experience, while high-tech, energy-efficient systems reduce operational costs.  

For REITs redeveloping a foreclosed shopping center, you have a perfect opportunity to update and renovate the space in accordance with the latest market demands, bringing sustainable features and smart technology to the forefront.

Last Words on Unlocking Opportunities in Shopping Center Foreclosures

Though many might consider shopping center foreclosures the ugly ducklings of CRE, and want to keep well away, profitable opportunities await the REITs who are able to turn them into swans.  

Conducting extensive market research, due diligence, and making use of advanced tools like GIS analytics, helps investors to identify undervalued shopping center sites and reimagine their potential. Navigating the complexities of foreclosure transactions can be challenging, but the rewards often outweigh the risks.

Success in retail relies on the ability to adapt to evolving consumer behaviors and technological advancements.

Distressed shopping centers present a clean slate for REITs to repurpose into vibrant, mixed-use spaces that integrate experiential retail, sustainability, and smart technology, thus responding to the latest retail trends.

A bonus is that these new developments often revitalize run-down areas, bringing new life and foot traffic into the area.  

Redevelopment of run-down shopping malls creates value not only for your business but helps you to remain agile in the rapidly evolving real estate industry. So, if you haven’t started looking into the shopping center foreclosures in your area, our question to you is: What are you waiting for?  

Case Study: The Redevelopment of Laguna Hills Mall, Orange County, CA

The Laguna Hills Mall originally opened in 1970s. It was a popular shopping destination at the time, located on a prominent freeway site. Sadly, over the years, the mall fell victim to the ‘retail apocalypse’. In 2017, the site was purchased by REIT Merlone Geier Partners who is currently in the process of transforming the old site into a vibrant mixed-use community. Now named ‘Village at Laguna Hills’, on completion, the precinct will contain 1 500 residential units, a hotel, office spaces, and 250 000 square feet of retail. The redevelopment promotes a walkable, community-focused environment and revitalizes the local economy by attracting new residents and businesses. Demolition work began in early 2023.