Outstanding Zellers rents to hit Hudson Bay's IPO - Financial Post

It will probably be a drag on the stock initially

Hudson?s Bay Co., Canada?s oldest company, is trying to free itself of more than $225-million in rent payments left over from the sale of store leases to Target Corp. as it prepares to raise about $400-million in an initial public offering.

The retailer, founded in 1670 as a fur-trading venture, owes rent through at least 2016 on leases at its Zellers discount chain that weren?t sold to Target, regulatory filings for the IPO show. The rent this year alone on the stores is equal to almost half the Toronto-based retailer?s adjusted profit.

?It will probably be a drag on the stock initially,? Brendan Caldwell, who manages about $1-billion as president of Caldwell Investment Management said by phone from Toronto. There?s ?only upside? if the company manages to reduce its lease obligations or they wind down naturally, he said. Caldwell may buy shares for clients, he said.

The 64 locations will go dark in March as Zellers stores are shuttered. While the company may repurpose some stores, 52 have been advertised to subletters as it negotiates with landlords to end the leases, an advertising flyer shows. The stores range in size from 48,000 to 128,000 square feet and are mostly in small towns.

No Hurry

Target, based in Minneapolis, bought 189 Zellers leases for $1.8-billion from Hudson?s Bay to kickstart its entry into Canada and sold 39 of the sites to Wal-Mart Stores Inc. as retail competition intensifies in Canada. Unless another large tenant comes to take the remaining leases, Hudson?s Bay can spend money subdividing the spaces to attract smaller tenants, buyout the leases, or keep paying rent.

HBC is continuing to look at options for the Zellers stores not acquired by Target

?HBC is continuing to look at options for the Zellers stores not acquired by Target,? said Tiffany Bourre, a spokeswoman for Hudson?s Bay in an e-mail. Bourre said she was unable to comment on the company?s efforts to reduce future rent payments for Zellers stores.

Landlords may be in no hurry to terminate the leases, preferring to have rent coming in, said John Crombie, Canadian national retail director at Cushman & Wakefield Inc., a real estate consultancy, by phone from Toronto.

A landlord may say, ?Well, what do I do with it?,? Crombie said. ?When you take in excess of 50,000 square foot tenants in the Canadian market, it?s a thin market.?

?Expansion Opportunity?

Hudson?s Bay will pay $126.5-million in rent for Zellers stores this year. It will pay $46-million next year after they close, $31.9-million in 2014, $27-million in 2015, $24-million in 2016 and $97.5-million in the years after, the IPO documents filed on Oct. 17 show. The company had earnings before interest, taxes, depreciation and amortization of $309-million for the year ended in January.

Hudson?s Bay will sell shares this month for $18.50 to $21.50 each in its IPO, according to Nov. 1 sale documents. The company, which owns 48 Lord & Taylor department stores in the U.S., 90 The Bay stores, and 69 Home Outfitters stores in Canada, plans to sell 18.6 million to 21.6 million shares, or as much as 19% of the company, giving it a projected market value of about $2.4-billion. The company will hold an investor road show tomorrow in Toronto and on Nov. 7 in Montreal on the offering.

It has retained New York real estate firm DJM Realty LLC to market its leases and advertise the locations as a ?Canadian expansion opportunity? in a flyer listing the properties. The median population among the 50 communities with Zellers leases available is about 30,000. The smallest is St. Basile, New Brunswick, a parish of 717 people in 2011, according to Statistics Canada. Half the stores are in Ontario.

Jim Avallone, the representative of DJM listed on the flyer, declined to comment when reached by phone.

Large Spaces

?Most of the retailers that we know are moving up from the states, they tend to be at much higher price points,? said John Andrew, a professor of real estate at Queen?s University by phone from Kingston, Ontario. ?They tend to be the luxury brands, and they?re not going to have interest in the kinds of locations that Zellers is essentially abandoning.?

Most of the Canadian retailers that use large spaces, like Canadian Tire Corp. Ltd., Rona Inc., or large grocery chains, are already present in these communities, he said. That leaves subdividing the space as the main option.

Brockville Shopping Centre, in a town of about 22,000 people three hours drive east of Toronto, holds one of the Zellers stores set to close. Jameel Madhani, who manages the plaza for Equiprop Management Ltd., said that economic conditions in Brockville don?t warrant many higher end retailers. Vacancy rates for retail space in 2011 were still above their 2007 levels, data from the City of Brockville show.

?In today?s retail landscape, it would be a unique challenge to find a single tenant to occupy the full 85,000 square feet Zellers has in Brockville,? said Madhani by phone from Toronto. ?We have generated interest from smaller users, but it could easily cost $30 a foot to sub-divide the space into multiple units.?

Bay Landlords

Hudson?s Bay still has about five years left on its lease in Brockville but the landlord would be willing to negotiate a buyout, if commitments from new tenants were secured first, Madhani said.

Among Hudson?s Bay?s landlords are RioCan Real Estate Investment Trust, Retrocom Mid-Market REIT, Crombie REIT, Calloway REIT, Primaris REIT and Artis REIT, according to mall and company websites.

Primaris won?t disclose its strategy regarding the Zellers lease it has for its mall in Alliston, Ontario, said John Morrison, chief executive officer, by phone from Toronto. Spokesmen for other REITs didn?t respond to requests for comment.

Patrick MacIsaac, president of Southridge Mall in Sudbury, Ontario, nearly 400 kilometers north of Toronto, said replacing Zellers with new tenants is preferable to collecting rent from a dark store, particularly because Zellers commands one of the main entrances to the mall, blocking traffic to other tenants. MacIsaac said he has had preliminary discussions with Hudson?s Bay.

?While we have the advantage of having the revenue stream, it?s much better to have your space occupied with active retailers who are bringing shoppers to your mall,? he said. ?The question lies in what kind of arrangement would be reasonable and satisfactory to the landlord to forgo that revenue stream??

Bloomberg News

Source: http://business.financialpost.com/2012/11/05/outstanding-zellers-rents-to-hit-hudson-bays-ipo/

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