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A Target store in Los Angeles

FRED PROUSER/FRED PROUSER/REUTERS

Michael Smith believes there's no such thing as a hopeless mall - just hopeless anchor tenants.

The Macquarie Securities analyst set out to forecast the effects of Target Corp.'s upcoming northern expansion, particularly on the real estate investment trusts that own many of the properties the U.S. retail giant will occupy.

Target bought the leases on up to 220 Zellers stores in January for $1.8-billion, intending to turn up to 150 of them into Target locations within two years. It has said it will spend upwards of a billion dollars renovating those stores.

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Real estate analysts have suggested retail property values could increase by as much as 10 per cent when a Target moves in, because the store will draw in more shoppers and higher sales in surrounding stores.

That means the landlords who own the properties could see their unit prices increase, as higher rents lead to higher earnings. While Primaris REIT would appear to have the most to gain, since 31 per cent of its portfolio is tied to Zellers (compared with an average 12.8 per cent for the rest of the industry), Mr. Smith said quality matters more than quantity.

"The greatest value lift will be from weak, but well situated, properties generally underperforming that currently have Zellers as the sole or major anchor tenant," Mr. Smith said. "These properties would look tired, have low occupancy and would generally be in decline - not so much because of location but rather because of the poor performance of Zellers."

Mr. Smith examined all of the Zellers sites owned by Canadian REITs to try and determine where Target stores were likely to open and how much a Target would add to each REIT's net asset value.

He examined trade area population, income, site configuration and logistics and found that Retrocom Mid-Market REIT stands to see the greatest gains, with net asset value increasing by up to 15 per cent, property values gaining almost 17 per cent and equity value increasing by as much as 42 per cent.

There's another reason Retrocom stands to gain - it has more available space, so there is greater room for improvement as new retailers look to move in next to a Target.

"All of Calloway REIT's properties already have high occupancy so there is little room for improvement," he said. "This is a different story for Retrocom, where the average occupancy is low."

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Most of the Zellers locations have low lease rates, a legacy of the chain's long history in the Canadian real estate market and its practice of signing 25-year leases at low rates with bonus payments to be made if certain sales milestones are met. Mr. Smith said he believes those leases will likely be revisited, with Target paying more but eliminating any sales bonuses that once existed.



It's not all good news for landlords, said CIBC World Markets analyst Alex Avery. As Target decides which Zellers to convert, landlords will be under pressure to put money into their properties to make them more attractive to the U.S. retailer.

"Generally, Target coming here is a good thing for landlords," he said. "But there could end up being significant upfront costs to renovate and upgrade in hopes of getting a Target into that Zellers space."

Oxford Properties Group Inc. chief executive officer Blake Hutcheson said investors shouldn't read too much too soon into Target's expansion, because measuring its effect will be difficult.

"In many cases it's a zero-sum game," he said. "One moves out, one moves in. I'm not sure that it has a massive effect on the broader retail real estate situation in the country."





REIT upside potential of Target expansion into Canada, sorted by NAV

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Increase in NAV/High

Increase in NAV/Low

Increase in Ppty. Value/High

Increase in Ppty. Value/Low

Increase in Equity Value*/High

Increase in Equity Value*/Low

High

Low

High

Low

High

Low

Retrocom

15.3%

6.5%

16.9%

10.8%

42.3%

27.0%

First Capital

4.3%

2.2%

12.9%

7.0%

32.3%

17.5%

RioCan

3.6%

1.8%

13.0%

6.9%

32.6%

17.2%

Primaris

3.5%

0.8%

5.9%

1.5%

14.8%

3.8%

Crombie

3.2%

1.6%

13.7%

8.7%

34.3%

21.7%

Calloway

0.6%

0.4%

11.1%

6.8%

27.8%

16.9%

*Typical property, 60% leverage. Source: Company data, Macquarie Research, January, 2011

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