For the past 16 years, it seemed that everything Mills Corp. touched turned into an entertainment and leisure destination. Today, however, Mills is recognizing that the U.S can support only so many of its standard value megamall developments.

The Arlington, Va.-based REIT, which operates 19 million square feet in 12 states, is not alone. Most mall owners are reining in new projects and focusing on maximizing profits at existing centers. Mills is applying its successful “shoppertainment” model to regional mall properties. The strategy, says Chairman and CEO Larry Siegel, is nothing less than an attempt to pioneer “the 21st-century traditional mall asset.”

The company signaled its new strategy in December with its first major acquisition of conventional regional malls. Mills is buying five Cadillac Fairview malls for $535.1 million and Riverside Square in New Jersey for $86.5 million. And, says Siegel, over the next few years Mills will spend more than $350 million adding its trademark flourishes to these assets, primarily by expanding space for theaters, restaurants, leisure-oriented anchors and inline shops.

Though the transaction achieved a fair cap rate of 9.2 percent (regional malls have been selling with cap rates of about 8 percent), Salomon Smith Barney analyst Jonathon Litt questioned the timing of the deal. “We can't help but wonder if Mills could have gotten a better deal by waiting for the price to cool off a bit — which we believe is likely over the next few years,” Litt wrote on Dec. 11. Salomon Smith Barney provides financial services to Mills.

Good timing or not, the transaction will be accretive to earnings by 15 cents to 25 cents a share in 2003, Siegel says. “We made this acquisition at a very attractive price, especially as opposed to what other people have paid for portfolios this productive.”

Mills is estimating 14 percent FFO growth for 2003 — a big commitment to shareholders in an environment where most retail REITs are expected to see FFO decline 0.3 percent, Litt says.

The long-term question, however, is whether splicing “shoppertainment” onto a regional mall will work. And, if it does, what will that mean for owners of other properties? Some super-regional malls, such as Simon Property Group's Mall of Georgia, have added IMAX theaters and skateparks. But these features have yet to trickle down to the regional mall level. Siegel says that if it can be done, then Mills can do it.

“It makes a lot of marketing sense,” says retail analyst Britt Beemer of American Research Group. “No shopping center is an island,” he says. “You can't build a shopping center thinking it's going to remain the same for long.”

Though A-class malls are still in demand, many B-class properties need the differentiation a Mills-type tenant would provide, he says. “The question for Mills is, can one concept transfer to the other one?”

The Cadillac portfolio — comprising 5.3 million square feet with a 91.3 percent occupancy rate — will provide the testing ground. The malls currently generate sales per square foot of $370, higher than the $330-per-square foot average in Mills' portfolio. Salomon Smith Barney categorizes the new assets as B/B+ malls.

The key to the deal is the 110 acres of land adjacent to the Cadillac properties that Mills acquired for $7 million, Siegel says. Mills plans to use the vacant land to build more than 1.6 million square feet of new space onto the malls to accommodate new tenants.

Although Siegel declines to name the retailers he is targeting, he suggests that “interactive” concepts from companies such as ESPN, Crayola, Gibson Guitars and Bass Pro Shops are under consideration to fill the new space. These stores all have an entertainment/activity component to their merchandising format.

If the malls take on some of the standard Mills fun-park feel, they won't replicate Mills' other projects. Nor will they assume the Mills name. “Mills personifies uniqueness and entertainment, but also value and off-price,” Siegel says. “These malls have successful department stores and inline tenants, so we won't be incorporating Mills into their names.”

“It will be interesting to change the formula a bit from what everybody's done for the past 50 years.” Siegel continues, “a typical regional mall can have unique tenants and attract families to come and enjoy themselves as a unit. We can take these malls, make them more dominant in their marketplaces, and drive rents north.”

The six malls have a current combined occupancy cost of 11.9 percent (as a percent of revenue), which Siegel says will only get higher as the ‘Mills-ification’ process kicks in. “Combined with natural rollovers and releasing of existing space, there's room to drive occupancy costs up 100 to 150 basis points over time,” he says.

If successful, Mills' plans for each asset would represent not only incremental improvement, but also significant evolution in the conventional regional mall model, says Morgan Stanley REIT analyst Matthew Ostrower. “Mills' entertainment-oriented plans attempt to address the ongoing weakening of traditional regional mall anchors.”

Salomon Smith Barney's Litt wonders if Mills might be overextending itself with its new initiative. “We are concerned that Mills may have too much on its plate. The company already has at least eight projects in the pipeline in North America and as many as eight in its European pipeline. Adding another six assets via this acquisition stretches the company a bit thin.”

The recent purchases are part of a broader corporate drive for growth. In addition to these acquisitions, Mills has a number of projects in the works, including Xanadu in Madrid and urban revival projects such as Chicago Block 37 and San Francisco Piers.

The Classic Mills Formula

  • A location 15 miles to 40 miles from big metropolitan areas with easy access to major highways.

  • A footprint ranging from 1.2 million to 2.1 million square feet.

  • Specialty store average sales of $330 per square foot.

  • A diverse tenant mix including top brand outlets, department store outlets, big-box retalers, retail experiences (e.g., Bass Pro Shops, ESPN X Games Skatepark), lifestyle retailers, national restaurant chains and entertainment.

Mills' Latest Purchases

Mills will reposition its newly-acquired malls with “shoppertainment” and other amenities
Property Location Date Built Total Square Feet Anchors Occupancy Rate Average Household Income Mills-ification Plan
Broward Mall Plantation, Fla. 1978 1 million Burdine's Dillard's JCPenney Sears 90.3% $54,255 Add two fashion department stores (analysts say either Saks, Neiman-Marcus or Nordstrom), as well as a 75,000-square-foot AMC theater and 100,000 square feet of inline space
The Galleria at White Plains White Plains N.Y. 1980 885,000 Macy's 96.1% $88,000 Replace the JCPenney with a Sears store, add a PBS Kids Zone and a movie theater complex, amass a strong collection of restaurants and remerchandise the asset along the lines of H&M and Old Navy
Northpark Mall Ridgeland, Miss. 1984 959,000 Dillard's JCPenney McRae's 97.2% $51,905 Expand the mall with 200,000 square feet of entertainment/lifestyle tenants such as a movie theater, ice skating rink, an ESPN X Games Skatepark and new restaurants and retailers
The Esplanade Kenner, La. 1991 735,000 Macy's Mervyn's Dillard's 86.6% $49,268 Add 375,000 square feet of new retail space, including a 120,000-square-foot Bass Pro store, a 75,000-square-foot cinema, 50,000 square feet of specialty retail and a new Target store
Dover Mall Dover, Del. 1982 869,000 Boscov's JCPenney Sears Strawbridges 95.% $53,087 Establish a “sports village” of lifestyle, sporting and entertainment tenants such as Bally's Training Center, ESPN X Games Skatepark, a miniature NASCAR track, a basketball facility and an NHL-themed ice rink, totaling 500,000 square feet
Riverside Square Mall Hackensack, N.J. 1977 650,000 Bloomingdale's Pottery Barn Saks 83% $104,000 Build an additional 10,000-square-foot restaurant, a day spa and a 25,000-square-foot art house cinema that provides an upscale alternative to megaplexes already serving the area
Sources: Merrill Lynch Global Securities Research, National Research Bureau, company reports