Q2 2023 Hudson Pacific Properties Inc Earnings Call
Hello, everyone and thank you for standing by the Hudson Pacific properties second quarter 2023 conference call will be beginning in just one minutes time. Thank you for your patience, who will begin shortly.
[music].
Good morning, and welcome to the Hudson Pacific Properties second quarter 2023 conference call. All participants will be in listen only mode should you need assistance. Please signal a conference specialist by pressing the star key for adviser right.
And the question queue at any time, please press the stocky slipped by one on your Touchtone fine if youre using a speakerphone note you will need to pick up your handset before pressing the case.
Please note this event is being recorded.
I would now like to turn the conference over to Laura Campbell Executive Vice President Investor Relations and marketing. Please go ahead.
Good morning, everyone and thanks for joining us with me on the call today are Victor Coleman, CEO and Chairman Mark Wallace, President Hurricane Marion CFO and art Suazo eating everything yesterday, we filed our earnings release and supplemental on an 8-K with the SEC and both are now available on our website our audio webcast.
<unk> of this call will be available for replay on our website.
The information was there on the call today is forward looking in nature.
Our earnings release and supplemental for statements regarding forward looking information as well as the reconciliation of non-GAAP financial Leathers news on this call David will discuss macro conditions in relation to our business Mark will provide detail on our occupancy your operations and development.
We'll review our financial results and the outlook there are or will be happy to take your questions. Victor. Thanks, Laura Good morning, everybody and thanks for joining our call during the second quarter, we worked diligently to position Pacific.
As we continue to navigate the unprecedented confluence of unfavorable macro economic environment, the lingering impacts of remote work and most recently, a historic and prolonged studio Union strike.
Office fundamentals across the West Coast markets remained challenged in the second quarter with gross lease either flat or decelerating quarter over quarter sublease activity, either stable or rising and negative net absorption in all but Vancouver.
We expect the studio production in Los Angeles slowed significantly we shoot days in the quarter, following 60% to 70% year over year for television comedies, and dramas and 20% to 25% across film on scripted television commercials and photo shoots.
Our focus in this environment remains on occupancy preservation and expense reductions both at the corporate level and within our office and studio portfolios as well as proactively managing our balance sheet, Mark <unk>, who will be discussing our progress on all these fronts in detail, but beyond today's challenges are a variety of bright spots emerging.
They have the potential to shift the dynamics around our business and provide for significant upside and opportunity specific to Hudson Pacific as we move through 2023 and beyond.
On the office front. According to a recent <unk> study the broader U S office market is starting to show some signs of recovery.
To date, the West Coast has lagged due to big Tech right sizing and it's broadly staying defensive but with mounting data pointing to a historic declines in innovation productivity and human capital development Big Tech has taken notice.
10 largest tech companies now have concrete hybrid attended policies impacting most of their workforce with a focus shifting to enforcement.
These policy changes are starting to make positive contribution to Hudson Pacific's portfolio as a sign of reintegration year to date parking revenue was up in our portfolio, 18% compared to last year, including 25%.
San Francisco and 15% in Seattle, where Amazon returned to work May 1st more recently, Amazon asked employees to move closer to team hubs or apply for new jobs within the company or they will be considered to have voluntarily resigned Furthermore, office demand increase quarter over quarter and both.
And in the Bay area, increasing 18% in Seattle, 25% in San Francisco, and 11% across the peninsula and Silicon Valley as we've communicated in the past upon reintegration tenants often realize they don't have enough workspace or conference rooms to comfortably accommodate employees on peak days and given.
The growth in tech workforce through the pandemic for paying tenants even net of layoffs. We are conservatively estimating a 45% increase in head count reintegration could begin to place expansionary pressures specific to our tenants and our markets coupled this with a slowing of new office deliveries and accelerated conversions of older office.
Based assets.
Non office space users and we will see vacancy rates begin to turn as we approach year end.
We continue to believe in our markets driven by Tech and media and we're going to provide a significant growth for long term, although in its infancy AI promises a wave of innovation and growth not seen since the advent of the internet or the smartphone once again the bay area more specifically San Francisco is the cradle for this groundbreaking industry and our.
Portfolio is well located to benefit from its growth VC funding to generate AI in the first five months of the year grew 650% in the city with companies, they're garnering 90% of the global AI related funding. This is translating into office demand and there are currently nine requirements totaling 870000.
Their feet in the city, we're optimistic AI and relative service industry growth will begin to alleviate the lack of large square footage requirements and serve as a catalyst for sustained positive net absorption, especially in the Bay area.
Now turning to our studios, while the directors reached a new contract in June the accurate going is that the writers on strike in mid July and this is the first time since the 19 sixties that both unions have been on strike simultaneously and that strike last 22 weeks. We're hopeful all parties are going to reach a fair agreement soon although it appears currently that they run.
Far apart on important issues like streaming residuals AI and writers rooms. The simultaneous strikes do mean that previously written production activity that still could be film is now on pause.
However, we're nine weeks into the strike relative to an average strike of 14 weeks and we continue to expect a significant ramp in production post strike like we experienced falling COVID-19, but it's going to take time to fully reengage and while studios have strategically spread out new releases, they could face significant shortfalls in 2020.
Four if production is an up and running before the fall.
Netflix as an example recently affirmed its intent to maintain content spend through 'twenty four at levels in line with 2022, albeit with some lumpiness post strike similar coming out of Covid Comcast to noted a relative increase in content spend likely in 'twenty, four and with subscriber growth and engagement.
Cross multiple broadband applications trending up the underlying demand drivers for production remains strong.
The strike of this magnitude while impactful is rare and as historically proven to be relatively short term in nature over the first half of the year. We've made significant enhancements to our studio cost structure. These equated to a $12 million annual savings around labor and fixed operating expenses.
As well as another $50 million of savings attributable to deferred capital expenditures, while we will continue to evaluate additional operating and capital adjustments. We will do so in a manner that way short term cost savings against capitalizing on long term value creation not all industry players have the ability to make this trade off which could present a compelling.
The opportunity for Us post strike.
I'll also be able to fully capitalize on the economies of scale from our now fully integrated service acquisitions post strike and we expect these synergies to result in approximately $15 million of additional annual NOI in a normal operating environment.
So despite these current challenges we have thus far been able to navigate the ever changing landscape in a matter, which speaks to the well located portfolio, we've assembled our diversified asset classes and the fortitude and experience of the entire Hudson Pacific team and we understand this was going to take time to overcome but we believe in our strategy and our long term positioning and sets us up to gen.
<unk>, even stronger results in the coming quarters with that I'm going to turn it over to Mark.
Thanks, Victor we signed approximately 50 office leases roughly 50% new deals totaling just over 400000 square feet in the quarter. The average lease size was approximately 7000 square feet and 50% of that activity within the San Francisco Bay area.
Mall in midsized tenants in Tech and other industries continue to drive that preponderance of activity across our markets.
GAAP and cash rents were approximately 4% and 8% lower respectively on backfill and renewal leases with a change largely driven by a few mid sized leases, both new and renewal across the peninsula and Silicon Valley and in Vancouver, Our in service portfolio ended the quarter at 87% leased off about 170.
Basis points compared to first quarter due primarily to the move out of mid sized tenants in those same markets.
Our leasing economics improved across the board quarter over quarter with net effective rents up close to 9% to $44 per square foot tenant improvement and leasing commission costs improved close to 50% down to $6 per square foot per annum and lease term increased by six months or 13% to <unk>.
48 months.
In terms of our two larger 2023 exploration, we're still negotiating a renewal of our 140000 square foot tenant in Seattle at met Park, North whose lease expired in late November we are in discussions with two requirements that could potentially partially backfill of 469000 square foot block leaves at 14.
<unk> five market in San Francisco, which expires at the end of September one for approximately 25000 square feet. The other for approximately 275000 square feet with additional tenant interest behind DS and.
In regard to our remaining 2023 expirations overall, which are about 5% below market. We have 50% coverage that is deals and leases LOI for proposals with another 5% in discussion.
Outside of the two large expirations I mentioned the average expiring lease size is roughly 5000 square feet.
We're staying creative and flexible as we work to boost occupancy, but even at the growing number of tenants committed to a three to five day in office schedule. Thus far they continue transact very slowly our current leasing pipeline totaled 2 million square feet slightly above our last call even with continued leasing in that pipeline.
<unk> over 285000 square feet of deals in leases.
We also have close to one 2 million square feet of tours across our portfolio roughly on par with this time last year, although down from last quarter. We did see an increase in both aggregate and average square footage of requirement for our assets across the peninsula and Silicon Valley.
This coincides with the rise in early interests, we obtain more broadly in the bay area and Seattle, even at the timeline for getting leases across the finish line remains unpredictable.
Turning to the studios are in service studio stages remained well leased at 95, 7% on a trailing 12 month basis, and 94, 1% on a trailing three month basis due to the preponderance of long term greater than one year leases on them.
Our trailing three month basis, we actually experienced a 490 basis point increase in lease percentage at our Cody Studios. This was largely due to the commencement of a handful of long term leases at our Central Valley and recently delivered North valley facilities as well as the general input of short term non.
Strike impacted production, such as commercials and photo shoots.
This activity led to an additional $1 million of rental and lighting and grip revenue quarter over quarter at our Cody Studios. However revenue from pro supplies transportation and other services was off by approximately $4 million in aggregate, even as we still had activity from non strike impacted production such as music festivals.
And other large scale events.
That said, we expect the service related categories are likely to be further impacted given seasonality and the expanded strike as long as it continues.
Throughout our portfolio, we're continuing to limit capital improvement until we have certainty around demand.
This includes staying conservative on new development, we do however have two in process development close to complete it.
We're on track to deliver our state of the art Sunset Gower studio in Los Angeles by year end as expected pending receipt of department of water and power permits. We've continued to tour our major production companies. Despite the strike, we anticipate leveraging a more traditional show by show sales model for at least a portion of the.
<unk>, which we will be able to execute on to the fullest extent post delivery.
There is no directly competitive supply for this project, which has a delivery date potentially quite well timed to capture pent up demand post strike.
In Seattle, Washington, 1000 is also on track to deliver in the first quarter of next year, while we expect even greater interest once the project is complete we're already in early discussions with three tenants each with requirements over 100000 square feet as Victor mentioned Amazon's push earlier this year to bring employees back.
At least three days a week and more recently, telling workers to return to its main hubs has accelerated returned to work for many local businesses.
Washington went out and will be one of the nicest buildings in the city and is the only new product of its kind under development are all in basis is only $640 per square foot, representing as much as a 30% to 40% discount to comparable trades.
And now I'll turn it over to Rick Thanks, Mark.
Second quarter <unk> revenue was $245 2 million compared to $251 4 million in the second quarter of last year, primarily due to Qualcomm and that's all baked in the Sky poor Plaza and <unk> thousand 900 to 10, 9% to Washington, respectively.
Office properties $69 two at Skyway landing.
Our second quarter <unk>, excluding specified items was $34 5 million or <unk> <unk> per diluted share compared to $74 6 million or <unk> 51.
Per diluted share a year ago.
Specified items in the second quarter consisted of <unk>.
Related income of $2 5 million or <unk> <unk> per diluted share, which includes lowering of accruals for future earn outs related to our <unk> studio services acquisition.
Prior period property tax reimbursement of $1 5 million or <unk> <unk> per diluted share deferred tax asset write off expense of $3 5 million or <unk> <unk> per diluted share and a gain on debt extinguishment net of taxes of $7 2 million or <unk> <unk> per diluted share.
Prior year second quarter specified items consisted of transaction related expenses of $1 1 million or <unk> 10 per diluted share and prior period property tax expense.
500000, or zero cents per diluted share a year over year decrease in <unk> is attributable to the aforementioned office tenant move outs and asset sale as well as higher studio production higher studio operating expenses associated with <unk> acquisition.
Increased interest expense.
Our second quarter, <unk> was $31 1 million or <unk> <unk> per diluted share compared to $60 3 million or <unk> 41 per diluted share with a decreased largely attributable to the aforementioned items affecting <unk>.
Same store cash NOI grew $127 6 million up four 7% from $121 9 million with same store cash.
NOI up five 1% largely driven by significant office lease commencement at one side and horrible.
During the second quarter, we repaid the Cody note for $150 million.
Discount on the principal balance with funds from our unsecured revolving financing revolving credit facility.
At the end of the quarter, we had $581 2 million of total liquidity comprised of $109 2 million of unrestricted cash and cash equivalents and $472 million of undrawn capacity on our unsecured revolving credit facility, we have additional capacity of $122 4 million under our one west side.
And something collateral construction loan.
At the end of the second quarter, our company's share of net debt to the Companys share of Unappreciated book value was 38, 7% and 85, 3% of our debt was fixed or capped.
We remain focused on Delevering this quarter, our board reduced our quarterly common stock dividend to <unk> <unk> per share, which resulted in an additional $17 9 million of cash flow savings. This quarter. We also continue to selectively explore asset sale.
We currently have three deals under contract, including two office assets, and one land parcel, which could collectively generate over $100 million in gross proceeds within the next several months. We're also in negotiations to sell two more office assets, the pricing and timing of which are under discussion.
Regarding our upcoming maturities, we only have one small maturity remaining in 2023 or $50 million of private placement notes due next month.
With lower pay with our line of credit.
We have two maturities in 2020 for Blackstone as leading discussions around the extension of our Bento vendor loan, which matures in July 2024 of which are 3% ratable share is a $105 million.
We've received indicative terms and are now formally commencing discussions around refinancing our one west side Flash was tied to loan which matures in December 2024.
And of which are 75% ratable share is $243 5 million.
As for 2025, 96% of our indebtedness does not mature until the final two months of the year.
And three of our $4 25 maturities comprising nearly two thirds of the maturing amount are secured by high quality assets 1918 element la and so I think the one of.
The first two of which have high credit single tenant occupancy with a remaining lease term into 2030.
I think <unk> should.
Should be stabilized and fully operational.
The art studio campus before 2025 maturities.
Our fourth and final 2025 maturity consists of a $259 million private placement loan that matures in December 2025.
While this is still nearly two and a half years out we're focused on ensuring that we have capital available ahead of repayments.
Turning to outlook.
Due to continued uncertainty around the duration of the studio Union related strikes were continuing to withhold our 2023 <unk> outlook and studio related assumptions, while providing certain assumptions related to our office outlook, including reaffirming and office same store cash NOI growth projection range from 1% to 2%.
This range includes the impact of a block lease exploration in September 23, but does not include any of the aforementioned potential dispositions. We continue to expect <unk> to be negatively impacted as long as the strike as always our 'twenty three outlook excludes the impact of any opportunistic and not previously.
Acquisitions dispositions financings and capital market activity now I will happy to take your questions operator.
Thank you we will now begin the question and answer session. As a reminder to ask a question you May Press Star then one on your Touchtone phone you are using a speakerphone. Please pick up your handset before pressing the case.
Your question. Please press Star then Kay.
Our first question today comes from the line of Alexander Goldfarb with Piper Sandler.
Andre. Please go ahead. Your line is now open.
Hey.
Good afternoon, or good morning out there and again, thanks for for moving the call time to avoid the overlap.
So two questions first.
It sounds like the sales so far not contemplating one west side I don't know if onewest side is in the potential to additional for sale, but when.
When you think about all the assets that you guys may sell what is the NOI impact that we should think about and then more to Victor's opening comment on corporate expense, if youre selling a bunch of what does this mean about the need to reduce the cost structure of the company overall.
So let me answer the first question, which is we're not going to provide any NOI detail yet.
Primarily because of the sales are uncertain and then once we have.
Confirmation of the sales and feel confident we will share all of the relevant details around them. So.
Doing that is not appropriate at this time as far as the G&A goes.
I think we said before we call say to look for ways to reduce our costs and reevaluate them and depending on the sales and the impact which will also.
Got our ability to reevaluate G&A so.
They are always being evaluated and our software.
Okay. The second question is on Hollywood clearly I mean, you guys benefit from owning independent studios, which is which is good but when we think about some of the headlines we read Disney and others, who were talking about trouble with their their.
They're full screen productions or streaming services, how do you weigh like overinvestment in streaming or ways that Hollywood may retrench. After some tough goes with the research demand once the strike ends just trying to figure out are we back to the races or is Hollywood re considering how much.
It puts into.
Its production investments just given some of the headlines we read recently.
So Alex.
As I may as I mentioned in my prepared remarks I mean.
So far what we've found between the bigger streaming entities to date. They are on budget at least as we know through 'twenty four to spend at or more than their run rate has been in the past.
That's been Netflix isn't apples, and Amazon and Disney and Comcast.
Tone to date I think it's approximately a 2% increase year over year. So that I believe will probably be greater given the fact that they're not spending the money currently today because they are on strike. So youre going to have a massive ramp up after that I believe we feel from what the industry is looking at that we've always mentioned that there were.
Be some form of consolidation.
Whatever that consolidation looks like we don't know I don't think it's going to impact the stage.
Use and the production use because there is still very limited number of stages and the demand in peak times are much higher than the stages that are available Jeff do you have any comment to that.
No. The only thing I would add Alex is that what's clear with all of the streamers is that original production drives a lot of subscriber growth and it also mitigates their churn. So it's a key economic ingredient into their playbooks, even if consolidation happens they all know that they have to invest in original.
Content production and hopefully obviously will benefit from them.
Okay. Thank you.
Okay.
The next question comes from Blaine Heck with Wells Fargo claim. Please go ahead. Your line is open.
Great. Thanks, just to follow up on the sales Victor you guys have talked openly about evaluating dispositions recently and that there are no sacred cows within the portfolio.
Commentary was helpful. But just more generally can you talk about what you've learned about the investment sales market throughout this process, whether there is more interest in certain segments of the market and just as you've gone through the process, whether the composition in the bucket of assets up for disposition has changed based on what you've learned.
Yes, I think listen we the three assets that we have under contract right now or as we mentioned to individual assets and one and one parcel of land.
The demand for those relatively high on smaller user.
Our owner user or family office type investors. The other couple of assets that we're working on right now I think have a makeup of a more of a us institutional.
Institutional play change of use play and I think that's the drive that we're looking at right now.
Herman said, we're not going to get into identifying the assets in the open marketplace.
I believe that we had not explored true institutional ownership sales for large assets at this time not to say that that won't be something that we look at in the future, but that's not part of the game plan and the assets that we're talking about right now.
And so I.
I think the bottom line is the activity is relatively good.
Clearly financing around those assets is the hurdle and so the size of the assets from our standpoint.
Our buyer is going to be identified based on access to liquidity and capital.
Alright, great.
Helpful Color and then just taking a little bit of a step back on the studios Victor can you just talk a little bit more about any insight you have into the negotiations going on related to the writers and actors strikes and just what your best guesses or maybe even what you're hearing from any insiders you're talking to on how long these strikes could last.
Kind of based on the current state of negotiations.
Well listen I'll take the first part.
Initially I mean listen what we're hearing is there's as I mentioned my prepared remarks, there are a few issues on the table that are <unk>.
Hurdles that theyre going to have to try to figure out a writers' rooms.
The issue, obviously in AI, which is an undetermined who will issue and a new issue for all parties.
And then the residual issue or the big issues I think the dollar issues.
And the issues around health care and all the perks around that are pretty much agreed to.
<unk>.
A couple of things. The fact that <unk> is at the table I believe helps the process because you have got it now another constituent with thousands of people now involved that are more than the 3000 riders that were involved in the past. So hopefully that will set a precedent on some of this.
Real time.
We just heard last night, they're going back to the table Friday. The writers are they have not been at the table I believe for a month and a half or so so that's a good sign in terms of what we're hearing on the ground. We are as I mentioned in the past we don't we don't have a seat at the table, we obviously have a.
A lot of constituents around that are giving us information.
It could start in a heated conversation to hopefully settle something out as early as September and maybe as late as year end.
But I.
I think as everyday goes by Blaine.
All hugely aware of the shrapnel around just the industry in general and all the residual businesses that are getting affected.
And then.
It will start to feel fairly painful for these.
Residual.
Companies and employees and individuals that work in the industry and it will be damaging and I. Thank everybody very cognizant of that and hopefully we will try to get to some resolution quicker than than we all anticipate.
Great. Thanks Victor.
Thanks Lynn.
The next question comes from Nick <unk> with Scotiabank. Please go ahead. Your line is now open.
Yes.
Yeah.
Thanks, I guess just going back to the asset sales is there anything you can provide us in terms of our view of if you get a certain level of asset sales done.
This year, what that's going to do to improve your.
Debt to EBITDA metric, which as you know went up again this quarter.
Yes.
So.
Addressing that as all of the two outside the range of what we want to talk about right now, but ultimately it will improve it over the long term which is.
Kind of our main point, which is we're going to delever and that's kind of the focus that we have and when you use different tools to do so so not only debt to EBITDA, but also the covenant calculations all of those things we have a very strong.
Ion and we're projecting out in fact this quarter was in line with our projections and we're not in a risk of a pricing any of them, but like we said earlier the.
The Delevering is a high priority for the company, yes, Nick just to add to that the assets that were in escrow or under contract with and the other two were talking about and then the next sort of tiers that were looking at none of those assets currently have debt. So effectively all of that all of the cash flow I'm sorry, all the proceeds from the sale will go to <unk>.
Down current debt. So we're not replacing we're not getting rid of existing encumbered debt on assets in any asset at this stage. So it's all going to be very helpful.
And just to touch upon the net debt to EBITDA, Okay and then it is.
Just real quick sorry to address our EBITDA comment is being artificially reduced by the strike.
So it doesn't really reflect a normalized net debt to EBITDA as a result of the strike and so it is being I guess that artificially being reduced or increased I guess.
Right I guess I, just I wasn't sure if there was any.
Specific.
Target you are trying to get to on that metric realizing that.
The EBITDA for the studio business, there's uncertainty about how long that could be under pressure. You also have some some move outs still in the back half of the year. It hasn't been released so I wasn't sure. If you just there was a sort of a plan in place where you have a target and you think that the.
Dispositions can get you to that target.
Yes, there is a plan in place the plan is get it lower and we're doing that through.
These announced disposition goals.
I'll add to the comments that her route and <unk> have already shared one of the asset sales is land. So that's 100% accretive to debt to EBITDA, because theres no EBITDA associated with it and it goes all to debt reduction. So the plan is to get it lower we have always said that we wanted to be below seven times debt to EBITDA.
We understand that there are.
Tenants Rolling there is other.
Areas impacted like the studio and the strike things, we don't control, but everything we can control we are laser focused on on.
Following through with in with the goal of getting that metric.
Improving that metric.
Okay. Thanks, and then just one other question if I could on Silicon Valley and thinking about your portfolio, there and I think historically there was a.
Talked at the portfolio would benefit at times from.
Ancillary services supporting.
Large tech community, there and I guess I'm, just trying to one trying to understand better the dynamic right now where we all hear that large tech is more on hold with leasing and I'm not sure. If that's also impacting some of the kind of ancillary.
No.
<unk> support Tech is that is that also sort of affecting that tenant base as well or is it more that you know just large tech is slowing here in silicon Valley.
I think it's not affecting as much as I think we would've thought it would've next to be candid with you because as you can see by our numbers. The majority of leases what we're doing in the peninsula and the valley are smaller tenants I mean, we've got is we've got a handful of tenants in the $50000 50000 square foot range, but the majority of those tenants are.
<unk>, 5% to 20, and so as you can see by our numbers this quarter and the number of deals we've done there's a lot of activity in the peninsula and the valley I also the physical occupancy is in the valley and the peninsula has increased dramatically and Thats <unk>.
Converted to more people looking at space tourism, the likes of that or you want to comment on that yeah.
The answer is we are as tenants are starting to discover how theyre going to utilized space right. So.
The office is really kind of on the forefront.
They are enforcing these return to office mandates. They are discovering how much space are going to need to rightsize, we're seeing those right sizes go both cut both ways, but we are seeing.
Tenants coming back and looking for more space, that's going to affect both the large and the smaller users. So it's going to it's going to play all the way through.
Okay. Thanks, that's helpful everyone.
Thanks, Nick.
The next question comes from Michael Griffin with Citi. Michael. Please go ahead. Your line is now open.
Great. Thanks, I was wondering if you could expand on what you mentioned in the release about extended times for decisions that we made on leases is this just a function of space. There is more hesitant to take space is it supply any incremental commentary you can give there would be helpful.
Yes, I mean listen it's so hard to pinpoint every every case is a case by case we've seen.
Tenants come and negotiate feverishly and have leases out for signature and we've waited I mean, we've got two fairly substantial leases that have been on the desk.
Legal counsel fully negotiated for.
A matter of months, one one overseas and one domestic so Michael.
I think that it's just taking time and maybe if you want to read into it a little deeper.
It's about looking at the footprint or the competitive landscape I just think it's a need.
Currently versus a need in the future and maybe that's where the decision tree is right now obviously things have changed expeditiously in terms of back to work and the number of tenants that have come out and companies have come out with policies.
The next phase of policies enforcement and I think that that level of enforcement goes to execution of leases and I think thats exactly where we are right now we're on that precipice of everybody's policies are in place now theyre going to be enforced as the example, we gave with Amazon, which is which is a great example, now the enforcement comes into place. So now they realized they recognize the need.
And then the execution or the next stage art, yes, but we've seen we've seen a forward thinker.
Thinking on this relative to all the 10 base across our portfolio why because over the first half of the year, we've seen a spike in tours early activity.
That early activity is going to translate into actual.
Actual transactions downstream and so they've already been thinking about this and the return to work I think which has caused the spike in early interest.
Yeah.
Great. Thanks, and then just going back to the writers strike I mean, obviously I think it's anybody's guess as to when this thing ends but is there a worry if it gets protracted kind of in the latter part of this year that given you have a seasonal aspect to this business that production can be slower to ramp up into 2024.
Yes, it's a great question listen I think we're very confident that when this ends the ramp up it would be non.
Non seasonal and it will just go.
We just had an example of this with Covid two years ago, and we saw the results and they were pretty spectacular I think seasonality is out the window I do caution and I know her route has made it evident to everybody who he speaks with.
We're not saying that next day things things jump I mean, this is a business in an industry that youre going to have scripts written youre going to have sets design, you're going to have actors hired and then youre going to have production in play and that does take time I think they are getting prepared for it behind the scenes, but there will be some form of a ramp up I don't know whether.
It's going to be but when it's up and running we're going to benefit from it and we think it's going to be fairly.
Expeditious and furious.
Great. That's it for me thanks for the time.
Thanks, Michael.
Our next question comes from John Kim with BMO Capital markets. John . Please go ahead. Your line is open.
Yeah.
Good morning.
With the repayment of the acuity note you now have $528 million outstanding on the line.
And I was wondering how you plan to pay that down whether its disposition proceeds I'm not sure. If the five assets are enough to fully pay that down.
Free cash flow or our long term debt refinancing.
Yes, I mean I think.
The first two are the.
Sources, along with that.
The dividend cut.
So.
We expect to see cash flow.
And our coverage on dividend continue to improve especially when studio offers the operations returned to normal.
<unk>.
That.
Net cash flow net of debt service.
And dividends will go towards.
Either the.
Payment of capital requirements that otherwise would have required the use of the line or reduction of the line. It will just depend on the.
The period of time that we're talking about so that will do it the asset sales also go to reduce that.
<unk> balance.
The use of its possible if the if the capital markets.
More available and the cost of secured debt is attractive.
Potentially we would access the secured market to reduce it but I.
I think the excess cash flow and asset sales are really where we're going to get the debt reduction.
Okay.
Some of the multifamily companies this quarter talked about property tax relief in Seattle.
I don't think we've heard you or other office companies talk about this.
But I'm wondering if you're seeing similar trends either in Seattle or just property taxes in general being.
Being an immediate being alleviated.
Yeah listen I think we are all over it and all of our markets we are seeing.
Very good.
Resetting evaluations and property tax.
Benefits to the company and in all of our assets in California, and in Washington, and at the same time.
I think our team is way ahead of the curve on that and Youll see some impacts in the quarters to come.
We have we have already gotten wins I think the wins will then impact to the bottom line expense.
Reduction on taxes, and potentially some rebates as well across the board.
Okay.
Okay, and then you talked about AI demand and the potential opportunity.
I was wondering if you had seen.
Talking to any tenants currently in your portfolio, either direct or sublease.
And if there is any way to quantify how much demand there is out there.
Well I can tell you in my prepared remarks.
As I said, San Francisco seems to be leading the pack on where the demand is.
It's currently today at about almost 900000 square feet, we've seen a couple of deals done.
Hayden. This attempt is an AI company that had 42000 square feet in the city.
I also think that another.
The company, which is another AI company did I think about 60000 square feet.
There is another 800 plus thousand square feet of activity right now.
Some of it has been for sublease space and some of it is direct deals. So I think the numbers that we're quantifying at least that are real it's about 600000 square feet of net absorption.
And then just just like was asked about the residual then then youre going to see the follow on an ancillary companies that are servicing. These are companies hopefully growing and we're optimistic that it's going to make some kind of an impact, but it's real it's now and we'll see we'll see where it goes in the next couple of quarters, but we're looking at a couple of.
Tenants that are that are very active in the marketplace and trading paper back and forth. So we're hopeful that we can execute on that.
That's great color. Thank you.
Thanks, John .
Yeah.
Our next question comes from Julian <unk> with Goldman Sachs. Julian. Please go ahead. Your line is open.
Yeah. Thank you for taking my question.
<unk>, maybe for you what is causing the increase in the interest expense guidance is it just the.
The forward curve going up and the impact on floating rate debt and I guess also the interest rate Capex durations, you have coming up this quarter.
It's a few things that you hit upon a couple of them one is the forward.
Curve increase also.
While this doesn't help us expense it does.
Accretive to us, which is we paid off the <unk>.
Jody loan and generated $10 million savings however, the cost of that loan versus the current curve is increasing interest expense.
Got it okay that makes sense.
And we were I was encouraged to hear that the covenants came in line with with your projections.
Sounds like you don't really expect any issues there.
I guess, just could you sort of walk us through what the deterioration in the unsecured indebtedness indebtedness to unencumbered asset value was.
And I guess also when you say you don't expect any issues does that sort of assume sort of any length of strike or is there maybe a minimum level of leasing or tenant retention.
Through the end of 'twenty for that needs to.
Happen.
So yeah.
The deterioration is really a combination of the increase in the unsecured debt balance.
Stemming from the repayment of the <unk>, which was a secured debt that went on that debt became unsecured upon repayment and then theres almost 40 assets running through the unencumbered asset calculation and some of them increased in the quarter. Some of them decrease the net decrease was about.
$112 million, we stress test the metric, including a protracted strike.
All the way through the end of 'twenty, four and even in the most impacted quarter are we still on that metric remained more than 300 basis points above the threshold.
<unk>.
So the studios neither the studios I should mentioned run through the unencumbered asset base or <unk>, 55, which I think some people.
They focus on due to the block exploration doesn't affect those valuations at all there is an indirect effect due to the cash flow right because to the extent that we are generating more cash flow from the studios it would be available to repay the debt which will eventually.
A cold so that metric improves as we.
See the studios normalize.
And yes, and we've we've factored in our sensitize that for like I said, the protracted strike all the known move outs.
Everything we can we.
We can project all the way through the end of 'twenty four.
Yeah.
Got it that's very helpful. Thank you.
Thanks Julien.
The next question comes from Camille Vanilla with Bank of America. Camille. Please go ahead. Your line is open.
Hello, I wanted to pick up on the comment about how market mark to market opportunities are around 5% for 2000 twenty's of explorations.
We think about the negative cash rent spreads on the leases you've signed to date.
Has this been in line with your expectations, given you're still seeing positive rent growth net effective rent growth.
Yes.
Mark on the remaining 23 expirations, but remains.
Positive, 5% on a couple of deals really account for that 8% drag on the March market as the Arabian.
60000 feet extension through 2008.
We had hit that Richardson deal at literally peak market rents in Palo Alto.
And we're.
Obviously glad we were able to get that significant extension, but it reflects current market. So it was a negative 18% Mark. We also did a three month extension with lumina or.
It also drag that number down a bit if you account for those two deals you are essentially flat mark to market. So yes, our numbers still show that the remaining explorations are one that was our expectation for the quarter. Two we expect to see something like 5% Mark yes, more color that both of those yields.
Tend to be in the same exact same market, where we hit peak rents and now recently at a market rent, which is also a very healthy rent happens to be happen to be well below the mark.
Okay.
So just specifically within that market.
Given demand still.
Below I guess, where you need to.
<unk> b to support stronger pricing power. There do you expect that these negative rent growth trends will continue over the next 18 months or any thoughts if we're close to a bottom here.
Well I mean, our numbers, which reflect refreshed MLA assumption you can get done every I mean, we're constantly refreshing our MLA as show a positive for the balance of 'twenty, three and were essentially flat on our explorations in 2004 on in 25, there is a slight positive so.
On.
Looking through the lens of our assets and assumptions associated with our assets. It suggests.
Have a bottoming out.
Thank you.
Thanks Camille next question.
Our next question comes from Jennifer <unk> with Green Street Dylan. Please go ahead. Your line is open.
Yeah.
Thanks for taking the question I guess, just going back to Big Tech leasing and I. Appreciate your comments, so far but one of your peers mentioned that they don't expect big tech leasing to materialize or recover EBIT through next year. So just curious is that how you guys are sort of viewing this tenant cohort and if so what do you think ultimately brings them back to wanting to lease more space.
Hey, listen I don't know what other landlords youre, saying, what we're seeing is we're seeing activity in big Tex in certain markets.
We're seeing a.
Already a decision tree that's made as to how space is going to look and now they're looking to find out where they're going to have commented on in the space obviously.
Obviously, we're seeing a flight to quality.
Like everybody else's.
Our higher quality assets, the highest quality assets had the most activity and theres tech activity around that.
I'm not going to.
Venture into the same big Tex not coming back or they are not coming back anytime soon.
I just know that what arch team has seen is that.
I believe that.
I believe our tours are higher than most.
That we've seen in the past and we're seeing that activity I do think that.
In reference to specific to Big Tech I mean, just look at Amazon and I think they are returned to the hub messaging last last week was dramatic and absolute and when there was pushback. They said you know what.
If you arent going to be within an hour's timeline of where your current offices you can apply to another job and if you don't.
Expected to be considered is unemployed going forward right and is that just a tack right. We're seeing it from these comments from AT&T farmers et cetera, it's starting to you're starting to see kind of the trickle down.
Yes.
I appreciate those comments and I guess, just and those discussions any noticeable trends.
With regards to changing space layouts.
Yeah, I mean listen Jill and we're getting a handle on this real time and we're seeing the same thing as I mentioned in my prepared remarks, Youre seeing a lot more conference room facilities Youre a lot more space per head, we have seen that number go up to like 165.
Or more maybe even.
To close to 200 feet per person when it was as low as like 120, and so that those numbers are consistent throughout more space for less people.
And I think that's that seems to be the trend, obviously amenity driven that that's the trend and location and quality, which we've which we've talked about since the beginning of this downturn.
Great I appreciate those comments you guys have a good one.
Due to Dylan.
Our next question comes from Ronald Camden with Morgan Stanley .
Please go ahead your line is open.
Hey, just going back on the leasing.
Really helpful color on the 'twenty three two large exploration in the Amazon deal, but any sort of updates on the remind us on the <unk> space.
As well as the towers, it sort centers coming due in 2020 for any any sort of color or context, there are conversations going.
Sure. This is our new tactics new tanks.
Remember, it's a contractual give back we extended them for 215000 square feet for an additional seven years until this was part of their contractual give back the piece that came back in the quarter. It's about 51000 square feet. We're in we're in leases for half half of that.
Currently going forward. The next large piece of 'twenty three.
Which is up in May where we're just currently marketing the space. We don't have a backfill user insight, but we are we are touring.
Currently.
Got it and then pass Mark sorry.
Yes, <unk> we are in negotiations there if you think about it there are three floor tenant where negotiations for.
Two floors at the current time right. So we will see as they are.
Assume what kind of footprint theyre looking for it might be all three but right now we're focused on too.
Got it and then zooming out to that you talked about the 2 million square feet.
And the pipeline is there a way to thematic Lee break that down a little bit like is there like AI financial services taxes, or a way to sort of dive into that number a little bit more.
Yeah.
Right now I mean, I don't dissect it in that fashion, but I will tell you the sense that I'm getting on that 2 million feet by the way that 2 million feet is up 100000 square feet quarter over quarter.
After having leased 400000 feet. So that's that early interest that I had been talking about.
Repeat is is real and it's starting to work its way into our pipeline, which again bodes well I would say that because of the markets that we're in I would say.
Probably 60% of that is 60% to 65% of that is tech.
Now I can't break it down to AI versus hardware software, but it's 65% squarely as tech.
Got it helpful. Thank you so much.
Thanks, Ron.
This concludes our question and answer session I would like to turn the conference back over to Victor Coleman, Chairman and CEO for any closing remarks.
Thank you so much for participating in this quarter's call will speak to you all in the next quarter.
Yeah.
The conference has now concluded you may now disconnect.