Alexandria Real Estate Equities Inc (ARE) 2004 Q2 法說會逐字稿

Good day and welcome, everyone, to the Alexandria Real Estate Equities second-quarter 2004 conference call. Today's call is being recorded. At this time for opening remarks and introductions, I would like to turn the call over to Ms. Rhonda Chiger. Please go ahead.

Good afternoon, and thank you for joining us today. This conference call contains forward-looking statements within the meaning of the federal securities laws. The Company's actual results may differ materially from those projected in the forward-looking statements. Additional information concerning factors that could cause actual results to differ materially from those in the forward-looking statements is contained in the Company's Form 10-K, Annual Report, and other periodic reports filed with the Securities and Exchange Commission. Now, I'd like to turn the call over to ARE's Chief Executive Officer, Joel Marcus. Please go ahead.

Good morning and good afternoon. Thanks for joining us for the second-quarter '04 conference call. With me today are Jim Richardson, Pete Nelson, and Dean Chigganuga (ph). Before we get into the details of the quarter, I wanted to highlight a few important or make a few important observations and introductory comments.

As I said, previously, we have seen that kind of the end of the third quarter, beginning of the fourth quarter of '03 was more or less the bottoming out of our markets, and we have seen a firming and somewhat of a slow, gradual recovery. This quarter has been pretty much of a textbook quarter for us, right on target as far as earnings and all the other metrics go, and looking at a bit more optimism for '05, but certainly cautious given yesterday's Tom Ridge announcement on homeland security. And those of you in New York certainly know what I am talking about. Clearly the threat to international oil supplies, Middle East issues, and homeland attack remain critical issues over the next quarter with respect to economic uncertainty.

Let me make a couple of broad comments, one of which is to reference a recent -- I think it was a Citigroup study of the compounded annual growth rates of the REITs over the past 10 years, and we were both proud and pleased to be in the top 10 of that group, with a compounded annual growth rate exceeding 20 percent.

As I stated last quarter, Alexandria has clearly demonstrated our unique business model and roadmap for disciplined growth for all investment styles and have clearly and positively distinguished ourselves from our peer group. We have certainly have had an enviable track record of consistency and predictability in the operations growth and earnings, and intend to maintain the coveted leadership position which we have.

I think the bottom line to all that we have to say today, and will be reaffirmed by I think both Pete and Jim, I think both the character and the quality of our people and our organization will continue to ensure hour continued success. I think in this time of uncertainty -- certainly as we go into the third quarter, may be the greatest uncertainty macro-wise we have had in a good long time -- Alexandria will continue to be a high-quality investment opportunity.

With respect to our real estate, our property location focus has and will continue to be on the best and highest quality submarkets. The properties that we certainly have acquired and will acquire in the future have been underwritten with great care, skill, and discipline. We have been highly selective in our external growth strategy. We haven't gone out and just tried to buy assets; but we have done it where we feel we can add significant value by and large. I think our unparalleled network will enable us to continue to execute our strategy in the high-quality manner as we have evidenced over the last 7 years as a public company.

Let me say a few things about our tenant base. In order for us to be as successful as we have been in our unique niche, a deep understanding of our client tenant science-driven business is absolutely required. It drives the client decisions, where we have had a nearly flawless track record of underwriting. But it also drives very impactfully the underwriting and the work that is done in the design at the front, the programming, and then ultimately the re-leasability or reusability of the designs of our various types of labs, since that is where the science is practiced. That will continue to be very critical for success in the future.

This quarter, a significant milestone happened. It is the first time over 80 percent of our net effective rents have come from a group of tenant segments, which we have focused on, including institutional big Pharma, public biopharmaceutical companies, profitable life science product service, and biodefense companies. Our top 20 tenants, which yield about 50 percent of our net effective rent, have a lease duration of about 8.3 years, so that we feel very comfortable with the reliability, predictability, and consistency of our cash flow.

On July 5, '04, there was a Barron's article where Alexandria was rated number 14 out of the entire universe of publicly traded companies paying dividends for both substantial yield and positive real dividend growth. And with a very low dividend payout ratio as of the end of the quarter of about 55.4 percent, we clearly have a well covered, safe, and increasingly capable -- increasing dividend capability, which when combined with the history of I think our strong core growth and selective external growth will result in I think a strong total return story.

Let me turn now to the second quarter. We reported a solid $1.01 per diluted share, which when added with the 10-cent redemption charge would yield a total FFO per diluted share of $1.11. Pete will give further elucidation of that in a couple of minutes. And in updating our guidance this quarter, we have given you guidance for the year of 440; and again when you add back the preferred stock redemption charge, would yield a 450 guidance for '04.

We have raised guidance for '05 to 477. We have done this based on the confluence of a number of positive factors -- not overly positive, but judiciously positive -- based on leasing prospects and capabilities and some acquisition activity. You should also note that you will clearly see some selected asset sales in '04, '05, and even in '06.

The dividend policy, just to highlight on that for a moment, the Board has raised the dividend 7 percent year-to-date period. Again, with a low very low dividend payout ratio, about 55.4 percent, the Board will continue to evaluate and will likely be positively disposed to further increase this very safe and well-covered dividend.

Pete will have a lot to say about the operational metrics for the quarter, but same-store came in at 1.7 percent, again pretty solid this quarter on a GAAP basis. Our GAAP rental rate increases from lease rolls were a solid approximately 10 percent; Jim will have a lot to say about kind of leasing issues in a few minutes.

One note this quarter; we delivered a little larger than 45,000 square feet of expansion of a very high-quality lab space situation, and that really has highlighted I think a very positive quarter in our leasing program, where we have been able to lease lab space from a variety of our platforms. As of the end of the quarter our redevelopment and land bank for future core growth sits at a combined total of almost 2.5 million square feet, and we are very pleased with that.

External growth, just a quick note. Three of our acquisitions reported this quarter were stabilized with some redevelopment potential; and so this is very good. We had 2 acquisitions go in the value-added redevelopment program, one of which was significant, which wasn't planned; it was kind of a serendipitous opportunity. The final one, the sixth one, was a significant acquisition, where it added greatly to our ground-up development capability. So all in all, very important acquisitions and ones that are not just simply buying at market price, at low cap rates, and adding no value -- which seems to be a seduction that has enticed many REITs down that road.

Let me turn to the balance sheet, capital matters, and key financial metrics for the quarter. We continue to have a very strong, flexible, and delevered balance sheet; about 34 percent debt to total market cap. Pete will have a lot to say about the fixed and variable-rate situation, which is I think stable and positive. We had continued strong and consistent operating margins, about 79.5 percent strong coverage ratios as evidenced by our fixed-charge ratio approximating about 3 times. And again no current reserves for bad debts on account of rental revenues.

Pete will again highlight a little bit about our sale of 5.185 -- point five -- 5,185,000,500 million shares of Series C perpetual preferred stock. The goal is to really match-fund that as best we can to seek to minimize dilution. Again Pete will have more to say about that.

Before turning it over to Pete, let me just say one other thing with respect to Project BioShield, which was signed into law in July '04 by President Bush. That together with a variety of other very significant sources of funding will be, I think, very impactful as I shared with you last quarter on this sector. We are positioning ourselves I think extremely well not only to take advantage of a situation which I guess we would not want to in the real -- if we had our choice -- but that is the asymmetrical battle we find ourselves in with I guess the adversary of the 21st century. But we are I think positioning ourselves extremely well in the greater DC market to take significant advantage of that in quite a number of ways, and Jim will give a little more color on that.

So without further ado, let me ask Pete to kind of highlight the details operationally of the quarter.

Thank you, Joel. Let me just start with an overview of the quarter, then I'll get into some of the financial metrics. The second quarter was a solid quarter characterized by strong leasing activity and continued solid core growth. As Joel mentioned, we delivered on several highly selective acquisitions during the quarter of various property types, stable acquisitions, some redevelopment acquisitions, across our property types. As you noticed in the press release, we had solid, continued solid same-property growth during the quarter; and I will mention a little bit more on that later.

We continued during the quarter to execute and deliver on our unique business model for growth, providing our 28th consecutive quarter in growth of FFO per share, excluding of course the preferred stock redemption charge for this quarter. We believe we have a well-earned reputation for predictable, continued, stable growth from an established, broad-based, and unique business model.

Now, going from that overview, let me go right into the gory details of the preferred stock redemption charge. Many of you are familiar with this accounting, but just because it was unique for this quarter I will go into some detail here. We redeemed our Series A Preferred Stock on July 7, 2004, based on an election we made at the Board level in June of 2004. We have accounted for the redemption of our Series A preferred stock in accordance with the Emerging Issues Task Force topic number D-42. It requires treatment of the charge as of the date the election was made, which was as I mentioned in June 2004.

Accordingly, we have recognized the preferred stock redemption charge of 1.876 million during the second quarter and have recharacterized the preferred stock as a liability on the balance sheet. The impact of the charge is 10 cents per share. We kind of highlight it throughout the press release so it is not forgotten, and when you add back the 10 cents per share we did $1.11 on an FFO per share basis. It is a non-cash item as you would know.

Let me now move to operating portfolio highlights. The statistics for our operating portfolio continue to reflect the overall stability of our operations. Our operating performance was very strong, really. The vacancies are relatively modest, and tend to be in the low-rent markets, primarily nonlab space for us. The average occupancy for the quarter of our operating portfolio was 93.9 percent. This compares to 93.2 percent as of the end of last quarter. So it ticked up a bit this quarter.

As I mentioned, the vacancies which skew the average are primarily nonlab space. They are here in Pasadena and some in the Southeast which are not high rental rate markets for us. As always, the properties undergoing redevelopment are excluded from these statistics.

Operating margins for our portfolio was 79.5 percent for the quarter compared to 79.3 percent for the quarter, but as I mentioned in prior quarters this can move around a bit from quarter-to-quarter; and 79 percent is a good operating margin to use as a run rate on a going-forward basis.

One housekeeping item and maybe I will stop mentioning this in future quarters, but the number of shares outstanding as of June 30 was 19,387,000; that is noted in the press release supplemental package on page 6.

With respect to the same-property portfolio, the results have continued to be as expected during the second quarter. We delivered same-property NOI growth of 1.7 percent on a GAAP basis; 0.8 percent on a cash basis. Virtually all of our same-property NOI increase comes from increases in rental rates. Since the -- let's see, I will get into this. The operating -- here it is. Same-property occupancy for the same-property portfolio was 96.4 percent as of June 30, compared to 96.2 percent for the year-ago period. Our same property results over the years really have been truly remarkable. We have been singled out by one observer as the only office industrial REIT with positive same-property growth each and every quarter since we went public in 1997. So we have been very consistent on a same-property metric.

This quarter, as we have last quarter, has an unusual relationship between the GAAP NOI growth and the cash NOI growth. This is due primarily to a long-term lease to the FDA at a property in the San Francisco market, which had a major stepdown in rents, 529,000 to $187,000 per quarter a couple quarters ago. This lease existed when we bought the property in 1996 and runs to 2014. This will drag down the cash same-store rent comparison over the next few quarters, although it is not really indicative of any trend in rental rates at our same properties.

You'll notice that the operating expenses for the same-property portfolio are down during the quarter, primarily due to property tax reductions for certain California properties which were ironically passed through to the tenants, but there is a corresponding decrease in recoveries. Our guidance for the same-property portfolio remains in the 2 percent range for same-property NOI although we do anticipate that slightly more of it will come from the occupancy growth. As always, termination fees if any are excluded from the same-property results. We've had virtually no termination fees this year.

Just to highlight again, FASB 141, we do comply with provisions of FAS Number 141 and allocate purchase price of real estate acquired to the various tangible and intangible assets acquired. However, there have been no adjustments for above or below market leases that would impact FFO.

We also continue to apply to provisions of FASB 144 as it relates to discontinued operations. We have no changes in discontinued operations during the quarter; no properties have been designated as held for sale as of the end of the second quarter. The property in Maryland that had been designated as held for sale as of December 31, '03, was sold in February of '04 and continues to impact our 6-month numbers. We will continue to see certain dispositions. I guess over the next several quarters in '04 and '04 we will continue to see certain dispositions of certain noncore assets from time to time.

Joel mentioned that I would highlight some of our debt strategy. As he mentioned as of June 30 '04, we had a debt to total market cap of about 34 percent. About 49 percent of that debt was fixed-rate debt; 51 percent is variable-rate debt. So it's balanced, which has been a target for us.

In April of 2004, we entered into another set of interest rate swap agreements, and you will notice them on the schedule outlining that in the press release. They hedge another $15 million of term loan exposure through April of 2008. As of the end of the quarter, we had 324 million of variable-rate debt, and if you look at the schedule we have 300 million of that hedged. So only $24 million of our variable-rate debt is hedged. We have no significant near-term maturities. And what you see in the schedule on page 8 of the press release for the 2005 maturity, as you can tell in the footnote, is really a 2006 maturity. So we are not pressed for any refinancing activity.

As I have mentioned to many of you when I've met with you or spoken to you on the phone, we look at our debt more on a duration basis. The uniqueness of our model requires us to use our line and then enter into the swap agreements. But overall, we are very comfortable with the fixed and variable-rate components of our debt as well as the swap program.

As I have mentioned in prior quarter, we do have an ongoing program to convert additional variable-rate debt to secured fixed-rate debt. This will continue as our property stabilizes and becomes seasoned. We'll also continue to closely monitor the activities at the Fed.

Moving now to our redevelopment pipeline, we have a strategy to identify and convert properties in strategic locations at very attractive yields, and historically this has worked very well for us. The program benefits from the generally shorter time to completion from that of a ground-up development, that allows us to attract key tenants.

I want to review the accounting for redevelopments again. The redevelopment program involves a permanent change in use and the conversion of the infrastructure. The process involves the design, programming, redevelopment of infrastructure, and related improvements. We are continually addressing the needs in the market and those of prospective tenants with respect to use, whether it be a biology use, a chemistry use, or what have you. Our redevelopment program is integral to our business model. It is part of what we do, and we have been very successful at it.

The costs for redevelopments are difficult to project in advance so we don't provide them in the package. They're subject to mutually agreeable programming, which as I mentioned could be a complex and time-consuming process. It is subject to the lab design, such as chemistry or biology use, and subsequent build out. Typically takes 9 to 24 months depending on the asset and the build out and an average cost of 75 to $100 per square foot.

The process involves taking a property off-line proactively, then (technical difficulty) earning asset. We take it off-line, so it is dilutive in the short-term while we perform our value-creation activities. The GAAP in this area, which is FAS Number 34 and 67, require us to capitalize interest while the activities are ongoing. Interest is capitalized during the period of time these activities are being undertaken to prepare the asset for intended use. The capitalization of interest is discontinued when the project is substantially complete. It is only capitalized on the square footage undergoing redevelopment. So if you look at the redevelopment pipeline page in our press release, the far right-hand column, which shows the square footage undergoing redevelopment, that is the portion of the building on which we are capitalizing interest.

As I mentioned in the other side, redevelopment properties are fully excluded from the same-property portfolio. If they were included this quarter, the same-property NOI would actually be about the same, 1.6 percent GAAP basis increase for 3-month period. Redevelopments are also fully excluded from the operating portfolio in computing all of our operating metrics. If the occupied portion of our redevelopment were included, the average occupancy would actually be higher; it would be 94.4 percent compared to the 93.9 percent that we are reporting here.

We have a somewhat higher level of redevelopment this quarter and in the reasonably foreseeable future. We delivered some properties into -- we acquired some properties and deliver them into our redevelopment pipeline. But we do see it increasing or running at this level for the foreseeable future due to the nature, type, and number of tenants on which we are now focusing.

Commenting briefly on our development program, our strategy is periodically pull properties from our substantial and valuable land bank of property, which is in strategic and irreplaceable locations. Then, we build the first-class laboratory facilities on which we focus. Accounting principles in this area for capitalization of interest are like that as I mentioned in the redevelopment summary. It is required while activities are ongoing to bring the asset to its intended use and until the projects are substantially complete. It can be a long process addressing a variety of specific use changes in the market or for specific tenants, and for development properties can take 24 to 36 months depending on the asset.

Moving now to NAV, or net asset valuation, as I did last quarter, I feel compelled to make a few important comments in this area. We do believe that AREA is a unique company and not just a collection of assets. Our growth and therefore a substantial portion of our value is derived from the non-financial measures -- our distinctive business model, our franchise value, our people, our network, our reputation. These factors have distinguished us and will continue to distinguish us from other REITs and real estate organizations.

We encourage our observers to back away from this limited metric. NAV calculations are typically backward looking -- necessarily, based on reported results -- and do not fully consider the growth potential of the Company as we have consistently had and will continue to have, based on our internal growth to some degree external growth. A meaningful NAV is difficult to compete for most companies or REITs, but virtually impossible to do for us due to the substantial current and future value of our value-added programs including our development and redevelopment programs.

I do encourage observers who want to try to evaluate us on an NAV basis to fully consider the additional value of our development and redevelopment programs. But I would say even with this approach, it is only one additional aspect of the Company that is being considered and not the others.

To comment briefly on the dividend and payout ratio, just kind of echoing what Joel said at the outset. Our FFO payout ratio for the second quarter was about 55 percent before consideration of the non-cash deferred stock redemption charge. It is about 69 percent of AFFO; or AFFO is covered by 69 percent AFFO coverage ratio. It is obviously very safe and conservative. At this level, FFO exceeds the dividend by almost $10 million per quarter providing substantial retained cash flow to fuel our future growth.

As Joe mentioned, we expect our Board will continue to increase the dividend periodically as FFO continues to grow -- in a sense dictates. Lastly on FFO and EPS guidance, we gave in the press release on page 3, consistent with our past policy we do not comment on the individual detailed assumptions going into our guidance. We obviously run our models under multiple scenarios; and our guidance reflects kind of an overall view that we're comfortable with. We have a number of factors that can impact our performance greatly --delivery of redevelopments, delivery of developments, some external growth factors, as well as same-store or same-property results. I am available to assist working through individual models if you have some questions.

Our FFO guidance is 450 for 2004 without consideration of the preferred stock redemption charge; 440 with consideration of it; and 477 for 2005. The FFO we are projecting is slightly back-end loaded for 2004, meaning slightly more growth in the fourth quarter compared to the third quarter.

Our EPS guidance has been revised to $2.33 for 2004. That is net of the 10 cent deferred stock redemption charge. And it is $2.69 for 2005. You will notice that it doesn't always move in concert with the FFO guidance. It is impacted by depreciation expense, which we adjust when we have better visibility of the in-service dates for developments and redevelopments and their depreciation of those projects kicks in. With that summary I would like to turn it over to (inaudible), our President.

Thanks, Pete. I'm going to, as I usually do, start with some overall commentary on the broad market -- life sciences market -- and then move in specifically to our own performance and prospects. Let me start with a view of the overall market within the context of submarkets that we are in. As I have mentioned before, this is important at least in an indirect way, if not very directly, appropriate.

I would say consistent with the reports that I have read filed by the other companies, research reports, the popular press, and a variety of different brokerage firms, that there has clearly been an increase in market activity across our submarkets. This is reflected through consistent net absorption, vacancy declines on a quarter-over-quarter basis, and probably most importantly rent stabilization and even a modest uptick.

You see this is reflected in the way companies are growing. They are now for the first time in quite some time taking additional space rather than swapping or trading up. The relatively large transaction trend that I referenced last quarter continues in some of the submarkets that we are in; and the manifestation here is that large blocks of quality space are disappearing in several of these submarkets. Overall, I think we would see the markets the same way that others do, in an increasingly positive light.

Moving to the life sciences component of the market, overall the trends within our submarkets are also generally positive. We are seeing modestly increasing demand, a reduction incrementally in the quality of the supply of space in the market. And then going hand-in-hand with that, a firming of rents. We have a project in California that we have been going through incremental leasing on, and each transaction that we have done over the past several months has resulted in successfully better economics driving forth that statement about firming of rents.

However, it is still the case that there is an overriding sense of caution with many of these companies. However, the growth demands that they have are now kind of more frequently driving transactions as opposed to this overabundance of caution. However, they're still only leasing the space that they need. I think at least for the time being, the days of substantial built-in expansion within the context of a new lease transaction are going to be few and far between. They continue to carefully consider alternatives and negotiate very comprehensively, and their Boards are actively involved in decisions that are made in this regard. That said, our general sense is that conditions are improving and will continue to improve in all of the submarkets that we're in.

Before I move to some of the internal growth drivers, I want to touch on our view of external growth. I talked a little bit last time about acquisitions, and I want to expand that dialogue a little bit. As you have heard this morning, and for those of you that follow the Company, you're well aware of what we believe is a very diverse, comprehensive, and unique platform that supports our growth. We are the only company in our niche that is on a national basis expressing itself; 8 regions across the country; we have a broad spectrum of tenants both relative to the market segments that they participate in, as well as the maturity level of the companies.

We have an unparalleled network of regional expertise, relative to our internal resources as well as our external contacts. We talked a lot -- there's been a lot of conversation already this morning about our redevelopment expertise; and I truly believe it is unparalleled in this niche. We also have state-of-the-art development capability, and our execution has been clearly up to par in that regard.

As Joel mentioned a while ago, we have a consistent pipeline of redevelopment product that we already have in place and will continue to grow and develop as appropriate, combined with a very robust land bank. And what is really key there is that that land bank is located in the most important locations and submarkets.

These various characteristics of this platform and our capabilities have taken a decade to build and cultivate and optimize. To try to grow this company and purely through stabilized acquisitions in this environment would be very difficult. It would not support the kind of consistency and growth that we have talked about this morning, that we are known for, and that our shareholders expect.

As everybody knows, the extraordinary capital flows that have come into our sector, the commercial real estate sector, have driven yields down to historic low levels. Within our niche specifically, I would say generally below 9 percent. Quality accretive opportunities are still available, and I have talked about that before. But absent the assumption of undue risk or the use of creative financial engineering, this current environment really requires a very well balanced and diverse platform on which to build for the future. Our intention is clearly to leverage this platform and maintain and enhance our position as the pre-eminent office lab company.

I am just going to I guess reaffirm some of the points that Pete made that really express this even better. In the second quarter, we bought 6 properties, in 4 different markets. They included stabilized acquisitions, redevelopment properties, as well as a development site. Each one of these acquisitions represented a strategic investment that was specific to our ability to enhance that specific franchise in that specific submarket. And this is an approach that we will continue to employ going forward.

Let me turn to leasing. We experienced another solid quarter of leasing. Roughly two-thirds of our activity was through new leases, renewals, and extensions, the balance on previously vacant and redevelopment space. Consistent with the first quarter, rent growth was 10 percent on a GAAP basis. I think our activity is good. It remains consistent and stable. That will be evidenced in my commentary here shortly on our rollover activity. It was also spread out -- the activity in the second quarter was spread out over the majority of our regions. Yet consistent with my earlier comments and what you have heard in recently prior quarters, the leases do continue to be small and midsized companies.

And we are seeing evidence of this specific in the Maryland market. Joel has talked about the biodefense initiative. We have a project there that we're under development on, a Class A development project that was originally anticipated to be a single-tenant facility based on its location and quality. However it was designed to accommodate multiple tenants, and we have seen robust activity from smaller tenants associated either directly or indirectly with the government's bioterrorism initiatives. We have one lease completed and several others in serious negotiation. So it continuing to be a trend that we see in various submarkets.

2004 rollovers, we have 270,000 square feet of space remaining for the second half. Roughly two-thirds of that space is either committed or we're in negotiations and anticipating commitment shortly. The balance of it is either going into the redevelopment pipeline -- a very modest amount -- or we're continuing to market. We see the rent growth for the balance of 2004 to be relatively flat. The office lab rents are holding up and solid. We are seeing some challenges in our Eastern Massachusetts -- parts of our Eastern Massachusetts submarkets, where we may see some negative mark-to-market.

2005 rollovers, a fairly modest amount; 327,000 square feet. It is split roughly evenly between the first half and the second half. Current status, about 20 percent of the space is either we are in negotiations and feel confident in our ability to convert; the balance of it we are either marketing or it is too early to tell. Thus far the 2005 rollovers, a very limited inventory is slated for redevelopment. I guess further commentary here, the Bay Area and Eastern Massachusetts markets have very modest levels of rollover exposure in 2005.

I would say that our view right now of 2005 rental growth is flat to very modestly positive. However, I would say that that is based on how the markets look today. Given my earlier commentary on improving trends, I think our projections may be positively affected in subsequent quarters.

We have as of 6/30/04, 290,000 square feet vacant. Of that space, roughly 40 percent of it is either leased or we're in negotiations and nearing commitments. The balance is being marketed. Half of that uncommitted space is in the aforementioned Eastern Massachusetts submarket, where we're making incremental progress but it does remain challenging. It is important to note that the average market rents in that submarket are below our portfolio average; so the impact is relatively insignificant.

Let me just close with -- I guess to reinforce a couple of the points I made. Market conditions really do appear to be improving across the board, and that is inclusive of our niche on the office lab piece. The acquisition environment continues to be very challenging for stabilized product. However, our platform -- as I tried to reinforce earlier -- puts us in a very unique position to maintain some of the dynamics that Pete described earlier relative to our quarter-to-quarter and year-to-year performance. A combination of the strategies and tactics that we have employed over the past decade, our organic revenue growth within the existing portfolio, which as anybody that follows the Company knows consists of the best properties in the best submarkets relative to what we do. So, we feel positive about the future.

Okay. I would like to ask the operator to open it up for Q&A here, please.

(OPERATOR INSTRUCTIONS) Jonathan Litt with Smith Barney.

It's John Stewart here with Jon Litt and Kripah Rivale (ph). Good morning or good afternoon in our case. Pete, can you tell us what the cap rates were on the 3 stabilized acquisitions?

John, let me just say this. We typically do not give out cap rate. Once set was bought as a group; and another was part of a 2-building complex, which is a pretty small amount. But I would say -- Jim can give you maybe a range -- but it was north of the range that Jim commented on, where we are seeing typical acquisitions today, so north of 9 percent.

Yes. I think rather than getting any more specific, I'd say that is a pretty good characterization.

The attraction was the possibility that there is space within the buildings for potential redevelopment. That was the other thing that we saw as an interesting opportunity.

Right. How about occupancy levels on those properties?

The stabilized acquisitions I believe are 100 percent occupied.

And the ones being contributed to the redevelopment portfolio, are those vacant?

The acquisitions that went to the redevelopment pipeline, there are the 2 of them that I mentioned. About a 32,000 square foot building is vacant, and then there is the 92,000 square foot also vacant. Yes.

Okay. I apologize if you have disclosed this somewhere else and I missed it, but the acquisition in San Francisco, is that the development property?

It is.

So how many buildable square feet would that support?

We're in the process, John, of really tightening up the entitlements, but I would say at a bare minimum in kind of the mid 300,000 square foot range.

Joel, I know you guys typically have not disclosed much about the investment line item. But can you refresh our memory in terms of what you're willing to comment about as far as the mix between public and private; and tenants versus nontenants?

Sure. I think if you look at the balance sheet on page 7 of the package, the current investment totals about $50 million, a little north of that. Probably 20 percent -- some 15 to 20 percent is public and that will be revealed in the Q marked-to-market as it is every quarter. The balance are private entities. We believe the value is well north of the book value.

The mix of tenants and nontenant is two-thirds nontenant and one-third tenant.

Are there any of those private investments that may be on the verge of going public?

Yes.

Can you also comment on the prospects for increased competition in the office lab space, both from existing players as well as potential new entrants to the market?

I will ask Jim to maybe make some comments. But I think as we have said historically, our markets are -- we do have some secondary markets, some secondary submarkets, but our real core in-fill markets are really great, tough, hard to get into, barrier to entry markets. There always has been competition in each and every one of those markets from a wide variety of both private and public players. We expect with the economy recovering, that will not change at all.

But, I think you have to remember what we said at the outset. I think we have an unbelievably capable team that has a broad-based experience both in this real estate niche -- Jim for example spent the last literally 20 to 25 years in the lab office sector -- and we have a pretty deep bench on the tenant side as well. So I think we feel very comfortable in protecting our position. But we have always had, I would say, pretty strong competition from a variety of players; and even more so as the market has moved, as the yield on the -- as interest rates went down and yields on other alternative investments obviously dried up, real estate has become a big focus of folks. But I don't know if Jim wants to further comment on that?

I would just reemphasize a couple of comments I made earlier. I think what does make us different and unique is the network that we have developed both pre-Alexandria and since we have been with Alexandria. It is definitely unique.

And we are the only company that does this nationally. We clearly have and always have had good capable competitors that can do a lot of different things within the various regions that we operate in. But, I think our ability to do this on a national basis and coming at it from a different perspective, while still having all of the other necessary components really kind of has set us apart. Longwinded way of saying, yes, we do have competition; basically the same group that we have had for some time; but there is increasing interest obviously in the sector.

I guess specifically as it relates to biomed?

We will make no comment on that.

Lastly, Joel, just wanted to be clear regarding your comments on the dividend. Would you expect the Board to revisit the dividend again before the end of the year? Is that something that would come up again (inaudible) sort of regularly scheduled first quarter?

No, I would think every quarter the Board meets and looks at the dividend very closely. And again I think given the low payout ratio, the strong coverages, I think the Board will review future raises this year. And given the prospects of increasing FFO growth, that even fuels that opportunity for further dividend increases.

Okay. Great. Thanks guys.

Tony Paolone, with J.P. Morgan.

I was wondering if you could help me reconcile. I was looking at your expiration schedule last quarter, and now this quarter. It looks like you have about 80,000 square feet left, less, expiring over the balance of the year. But when I look at your leasing statistics I see like 160,000 of renewals. Like how does that factor in? It just doesn't seem to tie together.

We had a number, a significant number of early renewals this quarter. I have got to look up the actual quantity here, but that would probably help you balance that out. Just give me a second here.

While you're looking at that, to the extent you have those early renewals, do you then take those out of the future expirations? Or do you leave them in there?

No, no, no. They are out of FE. We update our schedule. They're out of the future expirations. So they are listed in the activity for the quarter; they are indeed activity for the quarter. And then we take them out of future expirations. We had 107,000 square feet of early renewals this quarter.

Did those come out of any particular year significantly? Or are they spread out?

Spread out. Spread out. I am looking at one; yes, spread out actually throughout the remainder of '04 and into '05, actually.

Okay. When I look at your redevelopment pipeline, again comparing it with last quarter, a few of the projects seem to have slipped back about a quarter or 2. Anything going on there that we should be aware of? How are those (technical difficulty)?

Do you want to be specific?

Yes, if I look at your redevelopment pipeline, it looks like your San Diego project got pushed back a quarter, the 17,000 square feet. Further down in suburban Washington, the 52,449 was pushed back 2 quarters.

Let me talk to both of those. The 52,000, I assume Jim we have got an approval. We have redesigned. This is an existing building we bought some years ago, and we had a tenant vacate, and we're re-leasing. But we went through and did a major change. We added a parking structure. We kind of gutted a whole bunch of different floors and really increasing parking. There is a fair amount going on there. And due to kind of the complication of that fairly major work, that is just where it is today. Jim may want to comment a little more?

I think kind of a midstream shift here. We just concluded after a period of time that it was going to take a more major retrofit of the facility to kind of bring it into the competitive market. So, as Joel said, we have redesigned the entire site. We're refitting. We are putting a parking structure in. We're turning down the façade; redoing every floor, so it is -- portions of the building are essentially complete gut rehab. We're changing the character of the building.

That is somewhat similar in the 2 properties in San Diego given they are in a submarket where we need to substantially upgrade them. They are not in the top submarket there. That is the reason, and I think if you go back to what Pete said, the time frames for redevelopment -- I mean at the quickest, it could be 6, 8 months. But that is pretty unusual. Typically 9 to 24 months.

What we try to do is take some kind of a midpoint there and say we think maybe that will be it. But based on all the things Pete talked about, about mutual design programming, approvals, all that stuff, it is hard to track precisely at the front end what these efforts are going to take.

As Jim said in the DC area, we see kind of a unique opportunity. So we decided we had 2 different approaches to doing much more major rehab and we chose -- each one of them we decided to go through major. But we chose somewhat the less expensive one, but nonetheless it's a lot more major than what we originally planned at the outset. So, there is specific color on each one as opposed to some general view that, okay, we're just trying to push something back. In fact, you will see some have been accelerated.

Okay. Then probably the 645,000 in that bucket now, with some of these things, has that rough cost of this changed much? You talked (inaudible) before, correct me if I am wrong, about $80 a foot. Is that -- ?

Yes, for this particular bucket if you calla it that, $75 to $80 per square foot is what we're looking at.

So that hasn't changed much. Thank you.

Brian Legg, Merrill Lynch.

Pete, can you talk about for the stabilized acquisitions, what was the timing, and what was the dollar amount for those acquisitions? As far as what the timing in the quarter, was it back-end loaded? Was it in the middle of the quarter?

We acquired one asset for about $14 million at the end of April, April 29. Let's see. The one, the small one in Seattle, $5.5 million right at May 20.

But that is 2 buildings, one of which is empty, the other of which is occupied. So it is kind of de minimus.

The reason for the increased acquisitions or at least the acquisitions that get placed into the development pipeline, or your redevelopment, and just the general increase in your conversion, is that a function of that you think the markets are improving significantly? There is a big increase in the overall redevelopment pipeline versus the last quarter.

The big item is an acquisition we made in the DC market, suburban DC market. So I think if you back that out, that would be more of about 550,000, somewhere in that range is more kind of what we thought we had planned. But there emerged during the quarter a kind of a serendipitous opportunity to buy a building we think we can reconfigure uniquely for a multitenant environment.

And we're already working on at least 2 significant leases we hope that will come to fruition, to take advantage of what Jim and I have referred to. So that is kind of an unusual situation, Brian, that I would say we didn't plan on a couple of quarters ago. And on the land acquisition, I think Jim has articulated that pretty well. Jim, any more color?

I think the bottom line is that we see an opportunity within very specific strong submarkets to really take advantage of a broad base of capabilities that we have. And it transcends just stabilized acquisitions as we always have. But I do believe that there is and we believe that there is an improving market that will further support this type of activity.

Going back to the 92,000 square foot building in DC, did you sort of look at the building as being a -- this just fits your profile? Or did you have -- was it driven by tenant demand? You had a couple tenants that were looking for that amount of space?

All of the above, because of location, it's a Class A situation that we could change for a multitenant environment that it was not currently programmed for. Plus we do -- as we said, we're working with a number of significant biodefense-related requirements. And they are challenging because there are a lot of issues that relate to the nature of the space, the time they deliver the space, etc. So it was kind of all of those.

And it was very serendipitous, because it is not something we had thought would show up suddenly.

Was this originally a lab office building that you just need to reconfigure for this biomed use, or was it a pure office building?

No, it was a single tenant first-class gene-therapy related environment. We do need to make significant changes to the building to multitenant it; and to create an environment that would be user-friendly for a variety of uses related to potentially biodefense etc. So there is a fair amount of work that needs to happen.

Was this building vacant when you purchased it?

Yes, it was. It was a user who was closing down an operation.

Okay. Implicit in your guidance for '04 and '05, what are your acquisition and disposition assumptions? You talked about periodically some dispositions. But what types of additional acquisition and disposition activity do you expect to reach your numbers?

As I said in my comments, we don't comment on specific assumptions. But I will say this -- we did raise $124 million net through our Series C preferred stock offering. As Joel mentioned we do intend to utilize it on basically a match-fund basis. We did use $38 million of it to pay off the preferred stock Series A. So we would expect to utilize the remaining proceeds over the next couple-three quarters, then have a more modest level -- at least implicit in our assumptions, a more modest level of acquisitions after that.

You talked about a robust land pipeline, and you also acquired this land site in San Francisco. But your developments under development didn't change. What type of development start activity do you expect over the next 12 months?

I think that really depends, Brian. We're looking at a number of different situations that might warrant commencement. But I can not tell you right now of any specific projects that we intend to initiate. The project that you referred to is actually in South San Francisco, not in San Francisco.

That 300,000 square feet (technical difficulty) when would that start?

It really kind of depends. There is a lot going on right now up in South San Francisco, so it is possible that it could be fairly imminent; or it could take some time. It is a very unique and key strategic piece of property in a market that doesn't have much land. So, we're going to be pretty judicious about developing the site. And actually the minimum entitlement will probably be in the mid 300,000 square foot range.

Would you start it on total spec, or would you need some sort of a lease in place before you started?

It depends on market conditions.

Pete, just a couple of last cleanup items. Can you give us the straight line rent number and the capitalized interest?

Straight line rent for the quarter was 2.9 million; and capitalized interest is about 4.2 million. cap interest ticked up during the quarter, obviously, with the acquisition of the redevelopment asset in Maryland and the development property in South San Francisco.

Thank you.

David Aubuchon with A.G. Edwards.

Joel, with regard to the asset recycling strategy and in context of trying to maintain high relative FFO growth to the group, are there properties in your portfolio that have reached maturity, which you would consider selling?

Yes, and some that have not reached maturity which we would consider selling. There are several properties that we have sold. We sold one in the Bay Area, East Bay last year. We sold another one in the suburban DC area that just was -- we were not very pleased with our attempts there to try to create an effort for lab office; that closed I think toward the end of the year. And then we sold a pure office building earlier in the year in the suburban DC area; again it is one that we could not convert after the major tenant moved out.

There are a handful of properties that we would look to try to sell. There are a couple in Eastern Massachusetts that we have in non-core submarkets that over the years for a variety reasons we acquired. Southeast there is one office building we would love to sell at the right time, but it's encumbered by a CMBS loan. And there will be some culling of the portfolio I think.

So yes, I am not sure we can give you specific color on that at this time. But the answer is yes. And we're looking at a number of sales as we just look out potentially '04 ',05, and even into '06, where we have kind of white-boarded some opportunities.

These are the assets classified as core?

I would say non-core. Either because of the nature of the building or the nature of the submarket we have decided not to pursue further aggregation in that submarket; and therefore we would likely want to exit that submarket.

The question is, if you have a core asset, would you consider selling that in the future if --?

We did sell one actually last year, a big core asset in the Cambridge area which was one of our premier assets. Yes. I think the answer is if the price was so overwhelmingly compelling, and it didn't -- and we felt that it was not detrimental to our franchise in that submarket, we would consider it.

Almost harking back to -- I guess I heard a little bit or Mort Zuckerman's comments when somebody asked him, one of the analysts asked him, well why not just sell all your stabilized assets? The answer is, we don't have a recycle business model as our main business model, but we would consider selective assets for recycling. But a lot of factors would have to come together to make that so.

Okay. As it relates to Project BioShield or any other bio-related defense contracts that come out of the government, when do you think that becomes economic to ARE? Is it a 2006 and beyond event?

No, I think you'll see that, as Jim said, this year.

This year? That is primarily on the redevelopment side or the development side?

I think it is both.

Can you label what your strongest lab market is and your weakest lab market at this point?

Let me just said that is primarily the greater DC area at the moment. We have not seen that -- and remember BioShield is kind of the first effort, but it is going to be far broader and far I think costlier than anyone even has -- it is almost going to be like taking on the old Soviet Union. I think that is what we're looking at over the next decade. But we have seen most of that activity in the greater DC area. Now the second question you were just about to ask? I'm sorry.

First before I reach that, is this primarily big box, so to speak?

Not at all. It can go from small to medium highly intensive lab. So it is not at all big box.

The last question is your strongest lab market right now and your weakest?

I wouldn't say there is a preeminently strong lab market right now. We have seen good activity in the Bay area. Good activity actually in Seattle, recently. San Diego has been slower than we have been accustomed to historically. Maryland remains stable.

I would say, David, that there is no market that is robust and vital. Most of them are continuing to plug along in a stable fashion. I would say if there is any market that is maybe a little slower than it has been historically, it would probably be San Diego.

Okay. Thank you.

Philip Martin with Stifel, Nicolaus.

A couple things, most everything has been answered. But I was still able to eke out at least one more question here. Part of this was just answered, but when you look outside of the Washington D.C. market, Jim, in terms of leasing activity, what specific tenants -- can you characterize a specific tenant that your seeing more leasing activity with? I know you talked a little bit about you're seeing more tenants looking to expand space rather than just swap in and out, etc.

That is also very market specific because each of these markets have different kinds of tenants. Joel has talked a lot about the biodefense initiative and the kind of tenants aggregating around NIH in the DC area. The Bay area is predominantly biotechnology. San Diego is a blend of a variety of different tenant types.

A lot of the commentary that I have made regarding companies being more cautious, prudent, slow, just-in-time leasing is really kind of biotech type tenant activity. I think the other segments kind of have a different set of drivers. So I would say there is no single component, other than the ones that Joel has talked about, that I have seen kind of a significant change in their general type or level of activity historically in over the past several years.

Okay. If you look outside of Washington, San Diego you're saying is a little bit weaker than it historically has been. Is there any -- outside of Washington, leasing activity is more robust in what region? Or again in terms of expansion -- ?

It is just so tenant specific as opposed to submarket. You have heard a lot about Genentech in South San Francisco bought some properties as reported. That activity on the office side. But you would not say, okay, the Bay area is just this wonderful -- whether it be any of the submarkets -- this wonderful market. They are very just either tenant or event driven.

I would say something. If you listened carefully to what Jim said earlier, we are increasingly focused on, again, the better and better submarkets. Because we are seeing at the margins the weaker submarkets in each of the bigger markets we are in and in some of the markets we're not in to be languishing. There is clearly still a kind of a malaise out there in many many of the markets. If you are sitting right next to Genentech, that is a great place to be. But if you are two miles away, it could be an awful place to be for the next 5 years.

So, remember that. This is not a -- don't take away from this call a euphoric optimism on this sector or anything about it. I think what we're saying is you got to be kind of the thread through the needle as far as location. And if you are not, you're going to be having a lot of excess space over the coming years that is not particularly leaseable.

Okay. Joel, it's your opinion that in terms of the bioterrorism effort etc., that that is going to be bigger than even Washington thinks?

I think it absolutely is. You just look what happened yesterday when Tom Ridge got on national television. Now what they are expecting is these are classic car or truck bombs similar to what took down the embassies in Tanzania and Kenya, but for New York, Washington, and I guess New Jersey. But you mix that with a radiological type of situation or a chemical, you have got some awful awful consequences. And this country has only begun to think about how we get prepared for those, how we detect them, how we sense them, how we deal with them.

As I say, this almost reminds me, if you think of terrorism and the various groups around the world -- the general rubric is Al-Qaeda, which may mean the base, but really it's kind of morphed into dozens and hundreds of cells all over the world. We're going to be facing this stuff for I think easily the next decade throughout the world.

I think the free world is really going to be almost on a mission similar to the moon shot, or the bringing down of the Soviet Union with respect to this. Because it is so different. You cannot field a division of tanks and armor to fight this. It is so totally different, and so much now depends on homeland defense and what we can do here because biological agents can kill lots of people very quickly.

So I am just giving you my instinct. I am not a great seer in this area. But if everything that I know and feel comes true, it's going to be gigantic.

Do you have a lot of your tenants that are on potential standby to increase the volume of their business?

Absolutely and some have even -- I've shared this publicly with some other folks -- some have even sidelined some of their clinical programs to go after some of the biodefense-related requirements. And again primarily focused around the DC area. It has not really found its way out to most of the other parts of the world, but that may happen over the coming years.

Okay. Thank you.

That concludes the question-and-answer session today. At this time Mr. Marcus, I will turn the conference back over to you.

We want to thank you very much. Sorry it ran a little bit over. And we will look forward to holding our third-quarter conference call hopefully sometime early November. Thank you all.

Once again this will conclude today's presentation. We do appreciate your participation. You may disconnect at this time.