Q1 2022 Brandywine Realty Trust Earnings Call
Good day and thank you for standing by welcome to the Brandywine Realty Trust first quarter 2022 earnings Conference call. At this time all participants are in a listen only mode. After the speaker's presentation. There will be a question and answer session to ask a question. During the session you will need a press star one on your telephone please be advised that today's conference is being.
Recorded if you require any further assistance. Please press Star then zero I would now like to hand, the conference over to your host today, Jerry Sweeney President and CEO . Please go ahead Sir.
Michelle Thank you very much good morning, everyone and thank you for participating in our first quarter 2022 earnings conference call on today's call with me are George Johnstone, Our executive VP of operations, Dan Palazzo, Our Vice President and Chief Accounting Officer, Tom Wirth, Our executive Vice.
<unk> and Chief Financial Officer.
Prior to beginning certain information discussed during our call may constitute forward looking statements within the meaning of the federal Securities law. Although we believe estimates reflected in these statements are based on reasonable assumptions, we cannot give assurance that the anticipated results will be achieved for further information on factors that could impact our anticipated.
Please reference our press release.
As well as our most recent annual and quarterly reports that we file with the SEC.
While the ward has changed quite a bit since our last call had record inflation increases in construction and labor costs and unprovoked attack by Russia on Ukraine sovereignty further disruption of global supply chains, and a dramatic increase in baseline interest rates have all created a near term outlook different then.
Only several months ago.
Our portfolio stability evidenced by our low forward rollover protection from expense increases on 70% of our leases due to their structure. The preponderance of triple net leases, we have in the portfolio and our pragmatic approach to development, including below market land basis and options positions.
Well for these events.
In our business those macro concerns are somewhat counter balanced by the removal of federal and state Covid mandates, leading our portfolio to higher levels of physical occupancy.
Even more encouraging we have also seen much stronger tenant interest in high quality work environments are toward levels lease negotiations and deal executions remain on a very positive trend line.
Those trends position, our existing portfolio and development pipeline and extremely well in fact, 25% of our operating portfolio pipeline is comprised of tenants looking to upgrade from lower quality less and monetized buildings.
During our prepared remarks, we'll review first quarter results provide an update on our 22 business plan and some color on recent activity. Tom will then review our first quarter results frame out the key assumptions driving the balance of our 'twenty two guidance and after that Dan George and Tom and I are available for any question.
As you may have.
The first quarter has gotten off to a very solid start results were in line with our 22 business plan during the quarter, we executed 428000 square feet of leases, including 287000 square feet of new leases.
For the first quarter, we posted rental mark to market of 24% on a GAAP basis, and 12, 9% on a cash basis, our full year Mark to market ranges remain between 16, and 18% on a GAAP basis, and 8% to 10% on a cash basis is that.
Line in our 2020 operating plan, we rolled that out last quarter, we had 252000 square feet of known move outs or negative absorption scheduled to occur in the first quarter approximately 57% of that space has been re let with scheduled second through fourth quarter 2022.
Occupancy is and the mark to market on those backfill tenancies was 26% on a GAAP basis, and 11% on a cash basis.
And looking at our numbers, while quarterly same store cash outperformed our business plan range. The full year impact of none of these known move outs and the free rent on blank rums renewal occur in subsequent quarters and as such we're keeping our range in place.
First quarter capital costs were in line with our business plan retention was 56% slightly below the bottom end of our full year forecast, but we are again as with the other metrics maintaining our range.
Core occupancy and lease targets were also within our ranges. We ended the quarter at 92, 4% leased and 89, 4% occupied which was in line with our projection for the first quarter. It's interesting to note. When you look at our our operating portfolio and look at Philadelphia CBD.
University City, the Pennsylvania suburbs in Austin, which covers 88% of our portfolio NOI were combined 94, 8% leased and 91, 8% occupied stack.
<unk> revenue remains in a 34% to $36 million range with $29 4 million or 84%. The midpoint achieved spec revenue range represents approximately 2 million square feet of leasing of which we are $1 4 million or 70% complete.
Over the last couple of years, we have reduced our forward rollover exposure through 'twenty four to an average of seven 5% further our annual rollover exposure through 2026 is below 10% and both of these metrics clearly indicate for portfolio stability.
On an <unk> basis, and Tom will amplify this we posted first quarter <unk> 35 per share, which was one above consensus from an EBITDA standpoint based upon the increased 2022 leasing activity higher develop in our redevelopment spend we are maintaining our projected EBITDA raw.
And in the range of six 6% to six nine times as we framed out last quarter. The majority of this leverage increases purely transitional coming primarily through debt attribution from our joint venture and development activity.
To amplify this point on page three of our CIT, we segment, our EBITDA metrics between core and combine the core EBITDA range of six <unk> to six three X focuses on our core portfolio by eliminating our joint venture in the active development project and is a much.
More accurate measure of how we manage our core portfolio.
Turning to leasing activity, we continue to be encouraged by the increasing pace of on the ground activity tours in the first quarter of 'twenty to outpace the fourth quarter of 'twenty one by 30.
30% we.
We had a total of almost 800 virtual tours inspecting over 470000 square feet, which was up again, 22% from our fourth quarter results.
Our overall leasing pipeline stands at $4 1 million square feet.
Oaken down between $1 3 million on our operating portfolio and $2 8 million square feet on our development projects.
The one 3 million square foot pipeline on our existing portfolio has approximately 350000 square feet in advanced stages of negotiations with as I mentioned, a moment ago, 25% of that pipeline consisting of prospects looking to move up the quality curve.
The leasing pipeline on our development projects of $2 8 million square feet increased 493000 square feet or 20% during the first quarter.
Deal conversion rate in the first quarter was up from Q4 and trailed pre pandemic levels only by single digits. So quite a closed in the last couple of quarters, we do see tenants starting to accelerate their decision timeline.
During this past quarter. The median deal cycle time improved by two weeks and is now within two weeks of the pre pandemic levels.
And looking at liquidity and dividend coverage as we have excellent liquidity, even with our targeted development spend and absent other financing or redeployment sources, we anticipate having $350 million available on our line of credit at year end 'twenty two.
And as Tom will touch on we have efforts underway to renew both of our line of credit and our term loan.
The dividend is well covered with a first quarter payout of 54% on the <unk> on a CAD payout ratio of 74%.
We anticipate that coverage improving significantly as future leases commence and development redevelopment projects stabilize.
From a capital allocation standpoint, we made progress on several fronts. We continue selling non core land parcels. During January we sold one parcel for $1 4 million generating a $900000 gain and subsequent to the quarter end, we sold our land parcel in the Riverfront district.
D C for $29 7 million generating a $3 $4 million gain that we will recognize in the second quarter.
We deployed $28 6 million of these land sale proceeds into a 20% equity stake in <unk> square.
Which is an 863000 square foot property located adjacent to our <unk> south in Schuylkill yards projects in University City.
You may recall, we acquired the former.
Post office project, and a number of years ago for $28 million.
Redevelopment is a single tenant property for the federal government sold that property in 2016 and generated $150 million $115 million gain.
That owner that we sold to decided to sell so this presented us with an unplanned opportunity to further solidify our university city market position.
The property was purchased for $383 million at or well below replacement cost of $440 per square foot and a mid five cash cap rate range and north of a seven 7% GAAP cap rate range.
Our two partners each owning a 40% stake or sovereign wealth fund and our family wealth office.
The project is 100% occupied by the GSA through August of 2030, the existing lease rate is at least 40% below existing market rates and the GSA has no renewal rights upon exploration.
As such as we evaluated this acquisition, it's really a proxy for either a material mark to market profit opportunity or a significant repositioning into a life science facility at the Gateway to University City and adjacent to 30 Street train station.
Based on current assumptions, either a renewal at market or a conversion of life science will generate at least a mid teens IRR and equity multiples ranging between three and five times.
The University City Science market life science market, rather as you all know has strengthened considerably since we sold this property in 2016. So acquiring this property created a preeminent profit and repositioning opportunity and bringing in two high quality partners for 80% ownership stake.
Also minimized our direct investment and effectively make this a leverage neutral transaction.
And looking at our other development opportunity.
At 405, Colorado in downtown Austin, We signed over 66000 square feet square feet of leases during the quarter. The project now stands at 81% leased an additional full floor leases out for signature and an executed LOI for half a floor. So we.
Do expect that to be somewhere between 91, and 95% leased during the second quarter rental rates held strong in the mid Forty's and concession packages remain very much in line with our pro forma.
Given permitting delays with the city of Boston and the timing of several of these occupancies, we have shifted the stabilization to the first quarter of 'twenty three.
And in the Pennsylvania suburbs Radnor Submarket are 250 King of Prussia Road project is on time and on budget. We're now over 29% pre leased having signed 35000 square feet of lease of life science leases. This past quarter. Our current pipeline is north of two.
<unk> thousand square feet, including 12000 square feet in lease negotiations you may recall. This project is our first delivery in our Radnor Life Science Center, which will consist of more than 300000 square feet of life science space in the region's best performing Submarkets.
Our <unk> Labs project at Sierra Center, the 50000 square foot incubator opened in January and is 97% leased the 12 companies still in very well and based on tenant feedback. We do anticipate between 150 to 200000 square feet of demand out of these.
In the next 12 to 24 months based on this success, we do plan to add another floor of ink.
Two our incubator totaling approximately 27000 square feet by year end 'twenty two.
And in addition to that plans are underway to add another 78000 square feet of life science capable space through floored nine in this year's centre project the targeted delivery of that space is the second quarter of 'twenty three.
And looking at some of our development at Schuylkill yards in Uptown ATX Schuylkill yards West Our life Science office and residential tower is on time and on budget for a Q3 dollars 23 delivery.
We have an active pipeline totaling about 550000 square feet, that's up significantly from the previous quarter for both the for the life Science and the office components.
And we expect that pipeline to continue to progress as construction continues to move forward.
Our entire equity commitment in that project at $56 $8 million is fully funded and our partner's equity investment is current being made with the first funding of the construction alone occurring in the second quarter of 'twenty two.
Our life Science push does continue at Schuylkill yards as we've noted before we can develop between three and 4 million square feet of life Science space and we do anticipate our next start will be $31 51 market Street, a 424000 square foot dedicated life science building buildings fully designed and fixed price.
We have a leasing pipeline.
About 350000 square feet on that project, which is up about 150000 square feet from last quarter and our goal does remain to start that project. The next couple of quarters.
Turning the attention down south to Uptown, which is our 66 acre mixed use community, where we have the development capacity approaching.
Close to 7 million square feet construction is underway on block, a which as we've identified in the Sip is for 348000 square feet of office 341 residential units and 15000 square feet of ground floor retail, we anticipate completion of that office component in the third.
Quarter of 23, and the residential component.
A year later in the third quarter of 2004.
Important to note here as well Brandywine equity commitment of $57 million only has a remaining balance to be funded of $1 million, which will occur in the second quarter.
The Cat Metro train station at <unk> that will provide direct access to downtown Austin had our groundbreaking we're expecting that to be opening for service and in 2024, we further anticipate that the first phase of block F.
Which is 272 apartment units will be starting in the second quarter of 'twenty two.
Just a general comment about our forward development pipeline given macro conditions.
We do have significant development opportunities ahead of us that we believe can create significant shareholder value, but we also have tremendous flexibility.
Our land base at Uptown is about $5, a foot, which is obviously well below market value, which affords us the opportunity for not only of land profit, but also minimizing carry on that land through the development cycle and our land controlled Schuylkill yards. As you know is the options. So there's very few.
<unk> had very little carry costs on those land holdings, and we had to take down based on the milestone schedule with significant extension options. So both of these factors provide us with significant flexibility to develop per real estate and capital market demand drivers.
The second key point is the diversity of the products in our forward development pipeline as we highlighted on page 13 of our ship of the $14 2 million square feet. We can build only about 25% is dedicated to office.
The ability to do between three and 4 million square feet of life science space and incorporating that in that square footage pipeline is the ability to do about 4000 apartment units. So.
So further or further our overlay approvals on both of those sites gives us a degree of flexibility to further adjust that mix to meet future market demand drivers. So key takeaways low basis land under option low carrying cost and demand driver flexibility.
Looking at the at the investment market. Our 'twenty two plan does not incorporate any dispositions or additional acquisitions, but we do anticipate being active on these fronts. As you have done thus far this year, we do anticipate continuing to sell select non core land parcels.
With the office.
Recovery underway.
We believe we have several opportunities to harvest profits with low cap rate sales. We also anticipate sales of select properties out of our existing joint ventures and dollars generated from these activities will use to fund our development pipeline reduce leverage and where appropriate redeploy into higher growth.
With opportunities so Tom will now provide an overview of our financial results. Thank you Jerry our first quarter net income totaled $5 9 million or <unk> <unk> per diluted share and <unk> totaled $60 3 million or <unk> 35 per diluted share and <unk> per share above consensus estimates.
Some general observations regarding our first quarter results, while our first quarter results were above consensus we had a number of moving pieces and several variances.
From our guidance in the fourth quarter portfolio operating income totaled $70 million and was below our fourth quarter guidance of <unk> of about $2 million, primarily due to higher seasonal portfolio operating expenses, but sequentially flat as compared to the fourth quarter. Despite the 252000 square feet of negative.
Absorption.
<unk> gains were below forecast by $400000 due to the delay of one land sale, we anticipate the second land sale to occur in the second quarter.
Termination and other income totaled $6 5 million and it was $3 million above our fourth quarter forecast, primarily due to an accelerated.
Due to accelerated insurance proceeds that we anticipated receiving throughout 2022 or.
Our first quarter fixed charge and interest coverage ratios were four three and.
4.0, respectively and sequentially better than our fourth quarter results, our first quarter annualized net debt to EBITDA was seven point out and slightly above or slightly above the high end of our six 6% to six 9% six times guidance, our net debt to EBITDA was negatively impacted by the.
<unk> theory square in mid March.
Just on a normalized quarterly income from Ceara square the ratio would have been $6 nine.
For 2022, our full year same store portfolio increased by two properties, which were the bulletin building and 426 West Lancaster.
Regarding 'twenty two guidance as Jerry mentioned, we have maintained our guidance ranges for both net income and <unk> normally we narrow our guidance throughout the year. However, we do have several reasons for not doing that timing of capital spend and the anticipated significant rise in interest rates, we have increased our interest.
<unk> range by $1 million at the midpoint.
We also have potential asset sales and related redeployment opportunities those are the reasons for not narrowing our guidance range.
Turning to the second quarter guidance looking more closely at the general assumptions are property level operating income will total approximately $75 million and slightly above the first quarter as we estimate net absorption will now occur through the remainder of the year.
<unk> contribution from our own consolidated joint ventures will be $6 5 million for the second quarter G&A for the second quarter will remain flat at $10 million total interest expense.
Approximately $17 million in capitalized interest of approximately $1 9 million.
While we believe we are forecasting interest rates throughout the balance of 'twenty. Two we have some incremental exposure in the second half of the year, if our assumptions are too low and the federal reserve increases rates at a more aggressive pace.
Termination and other income will total about $1 5 million, we think net management leasing and development fees for the quarter will be $3 million and we do have land sales and net net a tax provision of $3 5 million.
Our capital plan is fairly straight forward for the balance of the year and totaled $335 million or 2022, CAD ratio will continue to be 84% to 95%. The range is above our historical run rate primarily due to the high capital costs associated with the higher leasing activity for this year and our wholly owned and JV.
Portfolios.
The uses of cash are primarily going to be for development of $155 million $99 million of common dividends $45 million of revenue maintaining capital $30 million of revenue, creating capex and $10 million of equity contributions to our joint ventures.
The primary sources for that are going to be cash flow from interest.
Cash flow after interest payments of $130 million.
108 million use of our line of credit.
Our cash on hand of $39 million and $33 million of land sales.
Which two of those are going to happen in the second quarter.
Based on the capital plan outlined our line of credit balance will be approximately.
$250 million, leaving $350 million of availability. We also projected our net debt to EBITDA ratio will still range between $6 669, with the main variables being the timing and scope of our development activities and our net debt to G and our debt.
Debt net debt to JV at 39% to 40% range.
In addition, we anticipate our fixed charge ratio of approximate three eight and our interest coverage was approximately $3 seven which represents slight decreases from the prior quarter.
While we believe these III ratios are elevated due to the growing development and redevelopment pipeline. We believe they are transitory and once the developments are stabilized we expect our leverage overall leverage to decrease therefore, we have included an additional metric of core net debt to EBITDA, which was six <unk> at the end of the quarter and excludes our joy.
Venture in active development.
Projects.
We believe this core leverage metric better reflects the leverage of our core portfolio and eliminates our more highly levered joint ventures, and our unstable is development and redevelopment projects.
Another time to call back over to Gerry.
Thank you Tom.
So I guess the key takeaways are the office market continues to show increasing traction.
<unk> physical occupancy continued to increase there is variability between markets.
The operating portfolio is in solid shape with excellent visibility to most stability, but also for growth given the rollover metrics, we've talked about earlier.
Given what we're seeing at the pipeline level with prospects.
We are clearly requiring higher quality space.
And we believe that.
New development, our trophy stock has and will continue to benefit from that trend.
So we will.
And where we started and that we wish all of you and your families are doing well and as we move into the Q&A session. We ask that.
In the interest of time, you limit yourself to one question and a follow up.
So with that we're ready to open up for Q&A.
Thank you if you have a question at this time. Please press Star then one on your Touchtone telephone.
Question has been answered or you wish to remove yourself from the queue. Please press the pound key.
And our first question comes from the line of Steve <unk> with Evercore ISI. Your line is open. Please go ahead.
Yeah, great. Thanks, I've got a bunch of questions, but I guess, Jerry maybe just kind of circling in on CRM square I mean.
Sort of understand sort of the rationale for why you would want to sort of land bank. This given everything that youre doing at Schuylkill yards, but you've obviously got a lot of other capital priorities and I realize you use the land sale to kind of fund your equity, but you know maybe.
Maybe just help us think through a little bit more kind of the potential upside if I'm doing my math right. I think net rents are around 24 25 Bucks are you, saying that office rents for that building would be 40 in life science rents would be materially higher and if so.
What would the cost to convert that to a life science building b.
Yes, Hey, Steve look certainly happy to do it happy to walk through that and explain.
The rationale in more detail look at we thought it was a preemptive opportunity to really both control of below market revenue stream with a AAA credit tenant.
With.
Significant upside when that lease comes up for renewal, which we think will create either a lease renegotiation for the entire building.
At a mark to market that is in that range that you mentioned from from an office standpoint remember this is a.
A significant infrastructure that's already been put in place.
All upgraded Mechanicals, great life safety systems.
First class operation that is.
Housing several thousand employees. So we certainly believe that there is a great.
Direct mark to market opportunity as we look at.
The conversion cost.
Given all the work that was done in that building before.
Be somewhere if you take a look at kind of $2030 escalated be somewhere just south of $100 million.
We think that debt.
Could generate rents in the 60 plus dollar range.
Puts us in a position to generate.
Hi team.
<unk>.
IRR as well as a fairly significant equity multiple these floor plates are four acres in size. The building has a central core that was put in as part of our GSA renovation self breaks down well on a multi tenant basis.
As you know right across from various Street train station. So we think it was really an excellent proxy as I mentioned for either.
Great multiple near term profit opportunity by doing a lease renewal or by preserving a fairly significant size inventory of readily convertible space and a AAA location certainly given what else we would expect to see happen between two.
22, and 2030 in University city. So it was certainly something that wasn't necessarily part of our business plan, but when it became available and we were able to identify really two incredibly.
High quality equity sources to help us finance the acquisition, we kept our ownership stake at 20%.
Having finance it off of land sales.
Essentially as Tom touched on a leverage neutral transaction, so while it while it does preserve some.
It does consume some capacity when we took a look at the benefits we get from controlling that piece of real estate. It was very effective trade off near term and then we certainly think it's a market for life science continues to evolve here in University City. This becomes a major potential receipt of our site and the advent of the <unk>.
They would elect to move out.
Great. Thanks.
You're welcome thank you.
Thank you and our next question comes from the line of Jamie Feldman with.
Bank of America. Your line is open. Please go ahead.
Great. Thank you I guess just to follow up on Steve's question. So the 7% GAAP cap rate is that assuming.
<unk> leasing at a higher rent.
I don't know that I thought they weren't rent bumps in that lease.
No. Jamie this is Tom no. There are no rent bumps at least so it isn't traditional flat GSA lease however for purposes of gap, we we do mark the lease to market. So we do pick up.
The adjustment for that.
Into our GAAP revenue, our GAAP NOI calculation.
Okay.
Alright, and then I guess shifting gears.
You talked about tour levels, the negotiations up 31% quarter over quarter.
I think you said there is 350000 square feet in advanced negotiations for the operating platform.
Can you talk about the advanced negotiation number for the developments I think you said there is $2 8 million square feet of.
Interest.
Yes, George wants to pick up on that.
Yes, I mean on the development.
That's still includes 405, Colorado kind of starting with.
The near term deliveries. So we've got obviously the pipeline Gerry alluded to there.
To kind of close out that building.
At $2 50 Radnor.
Got a lease out for 12, and then we've got some advanced dialogue with some other life science companies of about 100000 square feet.
And then at.
Schuylkill yards and kind of some.
Early negotiations and.
In discussions at $31 51, we've got an ever increasing.
Building pipeline, there havent issued any leases on those properties, yet but have had continued dialogue.
And it's pretty healthy exchange, if I might jump in for a second George with.
Just don't exchanging proposals back toward the responded to a number of Rfps, Jamie which.
Is usually good.
A good sign and certainly when you are re responding to a kind of a shorter list. So I think we are.
We feel pretty good.
About where we stand with.
With our Schuylkill yards West and in Uptown me there are a number of investors have been back and forth between Austin in the last couple months.
That just announced and we really haven't started to build that significant pipeline. We're really we're really responding to a lot of inquiries and kind of early marketing activities on the on the blockade Uptown ATX Jamie.
Okay, Yes, I guess as a follow up I mean, we were just down in Austin ourselves and it seems like.
And kind of the outer ring suburban assets leasing there seems pretty slow.
Maybe there is more interest for either downtown or domain area.
ATX type projects would you say that's common across all your markets like if you think about Philly and you think about Austin.
Where would you say, it's kind of surprisingly slow versus actually picking up a lot more to get to that 31% increase.
Yes, Jamie it's George I would be glad to take that one on I mean look I think when we look at suburban Austin, we are a bit surprised that the.
Activity has kind of.
Slowed down a little bit there given all of the other positive momentum.
In that market, we think that's kind of temporary.
We did have.
To kind of 30000 square foot move outs.
In Austin in the suburban ring of properties during the first quarter.
We're seeing tour activity.
But I would say that that submarket is probably a little bit slower and kind of converting towards a proposal to lease Conversely in the Pennsylvania suburbs activity remains steady and.
We're seeing great levels of activity really in all of the Submarkets of Radnor Conshohocken, Plymouth meeting King of Prussia.
During the quarter, we signed.
With 23000 square foot lease in King of Prussia, We basically don't have any existing vacancy and our king of Prussia Submarket right now in the operating portfolio good levels of activity as well in Plymouth meeting we had.
A tenant gives us back.
Almost 60000 square feet at 401, Plymouth Road, and we backfill the 100% of that that move out occurs.
Actually occurred on March 31.
And that space will backfill in the third quarter.
Okay.
Sorry, just one last follow up so the Austin move outs are they going to another part of town.
Or are these tenants that are vacating and doing something different.
Yes, the one went to another part of town downsized on their vacate and ended up going to.
A lessor.
Rental rate property.
And then the other one had already been on a kind of a.
Hybrid of both work from home and sub leasing some of their space and then just opted not to renew since they werent fully utilize that.
Okay alright, thank you.
Jamie.
Thank you and our next question comes from the line of Michael Lewis with <unk> Securities. Your line is open. Please go ahead.
Great. Thank you.
I wanted to ask.
When physical occupancy kind of becomes concerning because I think we sort of discounted at leasing is still happening and you've talked a lot about that on this call and.
The company is still had returned to work states that were out there in the future.
Now it's late April and so maybe talk a little bit about.
Where that physical occupancy is in Austin in Philadelphia and.
As we get further along in the calendar here and a lot of.
A lot of employees don't seem to be going back to does that become concerning at least leases roll over the next several quarters.
Yeah, Hey, Michael Jerry George and I can tag team. This I mean look I mean, our occupancy levels across the portfolio right now are a little bit north of 45% and that ranges from 60% in the Pennsylvania suburbs about 65% down and met DC.
Philadelphia CBD is kicking around 40% to 45% I think.
Dichotomy that we're saying is that we.
Talked about this on previous calls is the larger companies.
Quite a large number of the companies that occupy a largest met square footage.
Had been fairly slow to return to physical workplaces.
So.
In Philadelphia for example.
One of our major tenants in the building downtown there theyre starting to return not until May.
We have a financial service firm.
Out in the Pennsylvania suburbs are just starting to migrate back in now.
Now, we're 80% physical occupancy in Tysons, Virginia, given all of the defense contracts.
Tenants less than 50000 square feet.
There are back either full boat or pretty close to full boat. We are seeing many employers implementing hybrid.
Work programs, but requiring a minimum number of days downtown.
I guess I know, it's hard to read the tea leaves right.
Yes.
Our team given the daily conversations we have with tenants I guess were.
We're increasingly.
More optimistic on how companies Youre valuing the physical platform.
A way to prevent.
A lot of employee turnover dissatisfaction build the culture all of those things that kind of are out there.
In the vernacular but the.
The level of hybrid work is a lot higher than then.
We thought it would be we thought theyre actually the.
Number if you look at it in virtually the number of tenants are going fully remote is much much lower than we thought it would be even three or four quarters ago and we.
We know very very few situations where tenants are.
Moving to a hotel in concept.
Even when they are in a hybrid model.
Preserving the individual workstation individual work offices that certainly seems to be more of the standard than the exception, but Georgia anymore. Yes, I think the other thing playing into it Michael is mass transportation. So I mean, I know here in Philadelphia.
Just lifted their mask.
Requirements on the on buses and trains and.
I think that the combination of spring and hopefully warmer weather.
Returning I think youll start to see more and more people pick up on that and I think as Jerry mentioned a number of.
Larger companies with high employee basis of kind of signals may.
May is kind of there.
Bringing bringing more people back in and expecting more people back.
Great Thanks and.
My My second question just following up on some of the things you said about Austin, we see the supply forecast for Austin and so I'm just curious about how you feel about the competitive position of broad more versus other possibilities. The domain, obviously as close as companies come to Austin and choose to build new.
<unk>.
Maybe talk a little about the advantages and disadvantages of the location you have there.
Or maybe it's maybe you just think it's a case of enough demands for everybody. How do you kind of think about that.
Well look we know Austin has some great demand drivers, but we also know that it has.
As always had.
And ongoing a fair amount of supply coming online.
As we assess this started.
At Uptown.
Certainly took a hard look at the market is where we thought the demand drivers. We're look we think we're in a.
A very very competitive position.
Against the domain and other other sites up in that part of town.
We do know that the train station will be an important differentiator.
We think that the ability for tenants to be part of a master plan mixed community.
That will have a wide range of office retail hospitality et cetera creates a very attractive platform for them, but we certainly Mike will go into all of these.
Decisions, knowing that the competitive marketplace.
As always acute we know we compete against some very high quality companies.
They design and build good product as well.
We do everything we can to kind of create that point of differentiation in terms of.
Efficiency efficiency of floor place lines of the buildings et cetera, but.
Whether it's in Austin, Texas or University City, Philadelphia wherever we undertake a development we always recognize that the competitive marketplace is always there and we always try and think about how we can outperform that our competitors.
That answers your question or was too general, but certainly happy to amplify.
No that's helpful.
We will talk again soon in any case. Thank you.
Thank you.
Thank you and our next question comes from the line of Manny Korchman with Citi. Your line is open. Please go ahead.
Hey, it's Michael.
Look at that many and I were talking at the same time, we're here we're here together.
I'll ask one and then Emmanuel I will follow up.
Going back to some of your square can you just go over I know you put alone on the asset.
Assume that was a new loans can you just go over sort of the loan terms duration extension options right.
And then just talk about the renewal process I know you said there was no renewal option, but just didn't know what the language wasn't the least when they can start that process is it just a market rate renewal or is there an arbitrator.
I want to understand that process, a little bit more so that we really understand sort of the dynamics going on.
Sure.
I'll take the first part condensate second.
On the lease does not contain a renewal right. So it has but there is no governor in place Theres no arbitration it's up.
Basically the owner of the property has the right to set what they think the rental rates should be and the.
The existing tenant has the right to.
Take that or negotiate from that point. So there was no. There is no governor in terms of a certain percentage of fair market value or every acquired term and that was actually negotiated early on when we did that initial transaction with.
With the GSA, Michael So that was part of the original transaction.
That there were a number of give and takes as part of that original lease.
One of which was obviously the flat rental rate the GSA.
And the quid pro quo for that was that there was no no fixed renewal rights that they had for either any duration or any rental rates.
Yes, Michael.
The loan is a.
In place right now are floating rate two year loan.
At the closing it was it was a.
A tough time for the lending market. So we put in an interim loan and between now and the end of the two years.
We feel with secure up a fixed rate loan for the balance of the.
The lease and then go from there.
Memory serves you.
Few years ago back in 2016, you sold to set a five five cap.
That's what you would disclose at that point.
Pies here, even though the prices had gone up relative to where you sold it that it's still in the five and a half because I remember that this lease was a pretty flat lease.
Overall, so I didn't think there was much bump over the last six years that would have increased the yield and if anything you're probably operating expenses.
We moved up.
Well the operating expense of our complete pass through so we don't really it's really structured in a triple net lease. So so you had a really its been a flat lease so we sold around.
A five and we bought a ratified.
Yes, because you would just goes back to 16, you sold in the mid fives. So now so effectively you are saying you sold at a five.
I just went up by 10% right.
Price went up by 10% relative to what you saw Jerry so arguably the yield can't be the same in a flat lease math just doesn't work.
Well I mean, the Lisa Niemi cap.
Cash yield is a is a low fives cash yield so it's maybe a little different than the five and a half climate that may have been a little above five and a half but it is north of a 5% cash yield.
Right, but it's lower than where you sold flat lease rate just time value of money.
Correct. There is no the NOI should be essentially flat we have.
A flat lease we do get recoveries on expenses.
So that that plays into it.
Intuit as well, but know that the rental NOI is basically the same.
And I recognize just from a leverage perspective I.
I recognize it was a development parcel that was on leverage and that was your equity, but effectively by putting 70% leverage on this asset.
<unk> perspective, net net leverage is going up.
While modest it is going in the opposite direction of where you want it to go.
Yes, Mike.
Basically.
Yes.
A leverage standpoint.
Asia is anywhere from being neutral to plus 110th of a turn depending on how what quarter, we're in and what our NOI leverages, but it is slight uptick but as you said it is modest.
Yeah.
Yeah.
Okay.
At what point do you start negotiating with the IRS.
In terms of a renewal I know the GSA does things a little bit differently than other tenants and I just didn't know if this is going to create some sort of.
Issue down the road.
Yes, I will not sure what you mean by an issue but.
We'll be in touch with the GSA they move at their own pace are still a number of years left them at least eight years left.
So we have continued to manage the properties since we've renovated it so our management team.
Anytime tax will remain in place.
And we certainly have a very good relationship and an open door policy with.
With the GSA on this project so we look forward to.
Through an active productive series of conversations over the next several years.
I think also relative to the leverage question I think.
As Tom touched on and I did as well in my comments, but we certainly do recognize that we want to keep downward pressure on leverage and Thats I think one of the reason why I've continued to.
Spin out these non core land sales I also think that there is a number of opportunities for us for the balance of 2022 to both harvest profit for both deleveraging and making money through selling some assets out of some of our existing joint ventures and actually.
Some are more out of our operating portfolio as well so as we took a look at the transitional leverage here, whether it's flatter.
Okay.
We certainly believe we will have the capacity to kind of.
Bring that leverage back down.
As we.
Deploy.
As we sell some additional assets.
Alright, so the GAAP accretion that youre going to get out of us from marketing the reach the market and the cheap debt and the high leverage.
Given the fact that it was a development site the accretion that youre going to get from doing this.
The accretion will be outweighed by the additional sales you'll do later this year so.
The proper way to think about it.
Well again, I think I'd take a look at what we.
We will be selling properties.
Markets there.
But certainly we have other redeployment options as well both in terms of either reducing leverage or paying off pieces of debt.
Or putting into our development pipeline.
But certainly we look at all if all of those different levers as part of what we're doing from a leverage and earnings standpoint.
Okay. Thank you.
Thank you. Thank you and our next question comes from the line of Bill Crow with Raymond James Your line is open. Please go ahead.
Hey, good morning, Thanks for the time.
Sure Terry.
Seems like.
The pledge equal tax reform or what.
Little chance of taking effect.
I'm curious, whether the full year to change the salt tax deduction.
Seller right.
This shift we've already seen of workers other markets like Philadelphia and towards Austin's that was my first question My follow up is simply that.
You've been the biggest purely missiles Philadelphia for 20 years.
Which is terrific.
My question is prompted by the sewer square announcement, how much exposure to the downtown Philly is simply too much exposure.
Yes.
On the Salt question look I think certainly to the extent that.
Federal tax policy.
<unk>.
And who knows where that will actually go.
But I think there will continue to be.
Migration is some of these lower tax states or lower tax jurisdictions. So I think certainly Austin is benefiting from that shift out of California.
Certainly even within Philadelphia Theyre talking about.
Potentially some some tax reductions to both on the wage tax the business tax side in the next couple of budget years to kind of.
Recognize that tax burden is in fact a.
<unk>.
A contributor to wear location decisions land.
So I think we are.
We're actually encouraged by the heightened awareness within Philadelphia public policy circles on the level of the increased level of burden of having companies operate in downtown Philadelphia.
The.
In terms of the overall contracts I think.
You'll see us look to lighten our investment base in Philadelphia over the next couple of years, both in CBD Philadelphia.
As well as.
As the inner ring suburbs, so certainly as we take a look bill at our overall operating portfolio.
That's certainly a key component of that you saw us do a little bit of that a few years ago with.
The joint venture with a sovereign wealth fund at Commerce square.
We reduced our investment stake there and I think you'll see a couple of other things happen in the next several quarters, where we will be looking to.
Liquidate some other positions in the region to keep that balance in place. The other thing to note I do want to amplify.
When we're talking about the development pipeline.
That development forward development pipeline has a high level of diversity to it so when we take a look at Schuylkill yards.
Most of that development Bill will be life science or residential.
Core office products, which gives us the ability to while we're generating revenue from kind of the mid Atlantic region. It will be coming from different product types like it's a whole range of different financing and exit options as well.
So as we're looking at kind of our capital landscape over the next couple of years.
Certainly.
Youll start to see us reduce our overall exposure to office product in the Philadelphia region.
Okay. Thank you.
Sure.
Yes.
Thank you and I'm showing no further questions at this time I would like to turn the conference back over to Jerry Sweeney for any further remarks, great. Michelle. Thank you very much and thank you all for participating in our first quarter conference call.
Again, we hope everyone stays well and healthy and engaged and we look forward to having a conversation on our next quarter next quarter conference call. Thank you very much.
This concludes today's conference call. Thank you for participating you may now disconnect everyone have a great day.
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