Deflation Alert: Code Red

From Bloomberg:

Centro Properties Group, an Australian owner of 700 U.S. shopping malls, said it may sell assets to pay debt in a bid to survive after losing 86 percent of its market value in two days. The stock surged.

The company is so far the worst casualty in Asia of the global credit squeeze, with A$4.1 billion wiped from its market value earlier this week. Scott took on debt to help fund $9 billion of U.S. acquisitions in the past two years, including New Plan Excel Realty Trust.

``Centro is comfortable about the ongoing viability of the business and would not allow its securities to trade if this were not the case,'' the Melbourne-based company said in a statement today. Chief Executive Officer Andrew Scott must refinance A$3.9 billion ($3.4 billion) of debt for Centro and the listed trust it manages by Feb. 15.

``Until they start selling some of their assets, I couldn't know what's going to happen,'' said Michael Birch, who helps manage the equivalent of $140 million at Wallace Funds Management in Sydney. ``Companies paying more and more to refinance debt, that's the contagion.''

      

What is that you say?

Fire-sale of assets to pay debt? 

86 percent market value gone in two days?

A$4.1 billion gone? 

Debt more expensive?

Contagion?

Michael Birch?

Ok, no Michael Birch.  The article goes on:

``The real query is the transparency of the asset base is quite difficult for analysts to get a handle on at the moment,'' said Michael McCormick, who helps manage about $170 million at Leyland Private Asset Management in Sydney. ``The trouble is they have basically flagged that they are in some trouble and that is obviously going to have an effect on the asset prices they can get.''           

Ouch!  In case you don't speak Denial, I have listed some translations:

"Transparency" = discount to inflated value

"real query" = watching his share in the company take a 87% haircut in 2 days

"quite difficult for Analysts to get a handle on at the moment = Fuck!

"they are in trouble" = they are absolutely screwed

"an effect on the asset prices they can get" = asset prices are deflationary

Expect to see a lot of this going forward.  I think its especially interesting since it owns 700 US shopping malls - illustrating two  deflationary phenomena consumer spending slowdown and real estate collapse. 

Comments

[Bond investor]

ZB, thank you for giving this "airtime" on the Web. At least the Financial Times had it on the front page -- seems to be ignored by the mainstream U.S. press. I agree it's a sign of deflation, but I question whether it is a catalyst for a further consumer spending slowdown, as you suggest in the final sentence.

According to page 15 of Centro's Dec. 17 market update, many of their U.S. drive-up or strip malls have grocery stores and Wal-Marts as their anchor tenants -- I don't see much of a problem with the revenues for those kinds of businesses. So let's hypothesize what, if anything changes for the consumer or the retailer if Centro files for Ch. 11 in Feb. 08 (when its refi extensions run out):

Consumer still needs to eat/buy essentials at Kroger, Wal-Mart, etc.
While profits might fall at KR, WMT, I don't see a major revenue decline
Stable anchor tenants are highly sought after by CRE investors
Centro claims a 95% occupancy rate (also desired by CRE investors)
Centro has to sell assets, presenting opportunity for CRE investors but not requiring any change in the operation of the assets

The only real economic damage I can see is if the appraised values Centro "is presently finalizing" turn out to be way off. Then the fire-sale prices would depress the values of other comparable properties, reducing sales volume and activity in the CRE market.

Note that I would be short REITs of all kinds here, so I think we're mostly in agreement, and I think interest rates are headed lower, but I'm struggling to see how this is a "Code Red" event instead of just another example of overleveraging a business... like the CDO market, Bear Stearns' hedge funds, Northern Rock, SIVs, etc.

Link to Centro presentation: http://www.centro.com.au/NR/rdonlyres/5EF2F3C1-0D6E-4A3B-86EF-B42D74C0B433/0/PresentationCentroEarningsRevisionandRefinancingUpdate.pdf

[ZeroBeta]

I think you misread me. I don't think this foretells anything about the consumer but rather that they run US Malls, and that revenues may be somewhat stable. The fact is they overpaid for the property and overleveraged it. Its deflationary because if consumer spending continued to grow like they thought it would, so would the cash flows from Centro's properties. The spending doesn't have to decline, it would only have to not increase or increase much less than they thought as well as and credit costs increase more when purchased for an overleveraged investment. This is why people foreclose on houses as well.

I am actually very bullish on this area. I think in the last 10 years we've seen these malls sprawl up all over suburbia after not having any of them for years. I believe this trend will reverse if the credit contraction continues - and those who own this property will get smoked. Thats why I do believe this is a code red. Whether this actually turns out to be true is a whole different story.