Alexandria Real Estate Equities Inc (ARE) 2005 Q4 法說會逐字稿

Good day and welcome, everyone, to the Alexandria Real Estate Equities fourth quarter and year end 2005 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. This conference call contains forward-looking statements including earnings guidance within the meaning of the federal securities laws. Our 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 our Annual Report on Form10-K and our other periodic reports filed with the Securities and Exchange Commission. And now I would like to turn the call over to Joel Marcus.

Thank you, Rhonda, and welcome everybody to the fourth quarter and 2005 year end conference call on a beautiful day, about 85 degrees here in Pasadena. With me today are Jim Richardson, Dean Shigenaga and Pete Nelson and I want to get into our call right away. We're pleased to report year end $4.82 of FFO per diluted share, a 9% increase over 2004 and a 3% growth at $1.22 FFO for the fourth quarter over last year's fourth quarter, which was kind of a strong quarter. This is our thirty-fourth quarter of reporting with really consistent, predictable, reliable and solid performance of which we are very proud as a Company.

I think going forward our multifaceted platform and unique road map for growth really does position us well. We have given updated guidance for 2006 at $5.15 of FFO per diluted share, a 7% growth target for this year and it certainly is true that Alexandria should be a core holding for all investor styles. I think something else at year end we're always proud to look back at, if you look at a total return of ARE to some interesting benchmarks from our IPO in May '97 through the end of 2005 our total return was 504.4%. If you look at a couple of other benchmarks, two other great office companies, [SL Green] at 466.7%, Boston Properties 381.6 and then the RMS at 182.7, the Russell 2000 99.2, the S&P 500 67.7, NASDAQ at 56.5 and the DOW at 45.2, really an astounding track record for this more than eight year period.

Something else we're very proud of, on November 28th Albert Richards, a small and mid cap analyst at Citigroup, put out a note on great companies in the financial arena and highlighted three REITs, among which was the Alexandria, noting really attractive combination of what he called unique business model market position, great growth prospects and a superb employee and management team and we're very proud of that distinction.

A couple of macro comments before we get into the quarter and year-end. Interesting to note that President Bush's recently released proposed budget would actually reduce Medicare some almost $36 billion over a coming 5 years, but most of that's aimed at the hospital sector, so I guess that's good news for the pharmaceutical industry. New FDA rules released in January will cut the cost in time for drug approvals actually by allowing earlier human testing in the micro dose format before pre-clinical testing, which is kind of a big breakthrough. And I think we're also witnessing a fundamental change among the leadership in the bio pharma industry and you could hearken back many decades to how that was true of auto, steel and many other industrial companies where you have companies such as Amgen and Genentech really are going to become among the leaders of the future. 2005 was actually kind of a down year for the pharmaceutical industry with only 20 new drugs approved, whereas there were 36 in '04, but we do think the biotech product pipeline is quite robust, much greater than big pharma and so we need to look forward with some I think some positive feelings to '06 and beyond.

In 2005, in December, the head of the NIH had announced-- it was a Wall Street Journal cover story-- that he had committed several hundred millions of dollars of NIH funds to certain makers of vaccine really to spur bio-defense research and we were very fortunate last year. We did two sale lease back transactions with a major vaccine manufacturer, which was then acquired by GlaxoSmithKline so our bet on that sector last year and over the past few years has been a good bet.

Just a couple of final benchmark numbers for funding in the coming year. BioShield, again is about funded at 6 billion over ten years. The bush flu vaccine commitment is about 7 billion over three years, proposed the new bio-medical R&D Agency, which will be interesting to see what develops there, a 1 billion annual budget is proposed. The NIH budget, which this year is bout 28.65 billion, is looking at being down just a slight bit for the first time maybe in history, so it's going to be a little less than the rate of-- well, will be less than the rate of inflation and down in absolute dollars for the first time, but still at a very healthy over 28.5 billion. Centers for Disease Control down a bit, the FDA down a bit, National Science Foundation is actually up and Homeland Security up and what they call the Nuclear Detection Office Funds is also up dramatically. No new numbers for BioShield at the moment, but clearly the focus is going to be on detection prevention and ways to preempt chemical, biological and radiological terror threats to the United States.

Turning then to the, kind of the year end and quarter end, I mentioned that our earnings were up 9% for the year, 3% for the quarter, again, all the operational and financial metrics by and large pretty solid. We'll give a lot more color in Dean and Jim's piece. Our margins stayed very solid at more than 77% and finished the year at 77.2%, again incredibly consistent and very strong over the last 8 years. I just did mention updating guidance from 5.14 to 5.15 due really to increased realization on our acquisition pipeline, but tempered a bit by several '06 acquisitions or asset sales, which will be I think taking shape very soon here and on the dividend policy our payout ratio remains very low at about 57.9% and the dividend was up 6% in '05. If you look at the other operating and financial performance metrics we did record the thirty-fourth consecutive quarter of positive same store growth, maybe the only office or office industrial company in the universe of companies to do so with a 2% GAAP and a 7.6% cash and, again, Dean will give more highlights on that.

We did have our thirty-fourth consecutive quarter of positive cash rental rate gross and we had a very robust leasing quarter. Jim, again, will give pretty detailed highlights on that. We had over 600,000 feet or almost 600,000 feet leased in the quarter, 35 leases and a third of the entire year in this quarter, so very, very good quarter and certainly year-end. And our GAAP increases in rental rates, as you saw from the Press Release on the year-end basis were 4.3 and 3.4%. They were actually quite a bit higher if you take out two weak market leases we were pleased to have concluded.

Occupancy, flat without one major lease termination in Maryland at about 94.4. If you look at the big five markets a slight and what we think is very temporary decline in San Francisco. We think that's going to bounce back pretty strongly. San Diego and Maryland remain slightly down and probably because those markets are probably the weakest. They're stable, but they're among the weakest comparatively. Massachusetts has been up and Seattle up a bit and so that's certainly good news and, again, as per every quarter that we have reported, we have no current reserves for bad debts on account of rental revenues, interest coverage strong at about three core times.

Redevelopment, as we disclosed in the Press Release we've got approximately 1 million square feet of imbedded opportunities within the asset base, which clearly could be converted to lab and related technical space for future growth and that's a very good situation. And then on development, another key cornerstone of our unique road map for growth, we commenced three ground-up developments in '05. San Diego, what you see has been fully leased. South San Francisco, we're in late stage negotiations in Mission Bay, which actually we're only in pre-marketing. We aren't even into marketing just given a lot of the focus we've made on the very unique business models for the various floors there and I would stay tuned for a pretty imminent announcement from probably the Mayor of San Francisco there. And then our final land parcel, which we acquired during the quarter in the southerly part of Mission Bay with a great adjacency to the future UCSF specialty hospitals at a very favorable cost basis, so we now have a very strong capability for development in Mission Bay, South San Francisco and really throughout the country as set forth in the Press Release.

Also, we're proceeding positively on due diligence and ground lease negotiations regarding the East River Science project in New York and hoping for a second quarter potential groundbreaking at that point. And then finally on development, our total development embedded in the portfolio or in our asset base really is a little more than 5 million square feet and, again, a tremendous asset for future growth.

Moving to external growth for a minute, again, as both Jim and I have said in the past really-- our acquisition pipeline sourced really based on our unparalleled and unique relationships, which we're very proud of. We added for '05 total, as you can see from the Press Release, 19 properties, 1.2 million square feet for total consideration, about 263 million, so it was a pretty robust year, more than we would have expected, fourth quarter, five properties, 368,000 square feet, $59 million, so again, a somewhat stronger realization of our pipeline than we would have anticipated.

Moving to the balance sheet and Dean will comment more in depth on that, we ended the year with a 41% debt to total market cap, very strong, flexible and comfortable level. We continue to move variable rate debt to fixed rate debt as well as continuing to spread our hedging and I would say that and Dean again will comment, a substantial majority of our overall debt is either fixed or hedged, so with those as kind of overview comments let me turn it over to Dean at the moment to give you some further details.

Thanks, Joel. Good afternoon, everyone. I just want to spend a couple minutes, as I do every quarter, to review a few key financial and accounting matters. As Joel had highlighted we continue to execute on our unique road map for growth providing for our thirty-fourth consecutive quarter in growth in FFO per share and our thirty-fourth consecutive quarter of positive same property growth on a GAAP basis. We reported 2005 FFO of 4.82 per share diluted, up 9% over the year of 2004 and briefly, as I have done on the last couple calls, I want to give everybody an update on where we are with our assessment of our internal control environment and our progress with our financial statement audit. We are proud to say that we have no deficiencies in our internal control audit and we have no audit adjustments that were noted by management or our auditors. We do have to continue through our assessment of our internal control process as we complete our financial statement closing process related to the preparation of our Form 10-K. That process, of course, involves management as well as our independent auditors. Before I move onto-- what I should state is I don't expect anything to come out of that process as we wrap up our financial reporting.

Before I move onto operating stats I just want to briefly comment on G&A expenses. We continue to focus on the growth in our depth and breadth of our Company as we expand into new markets, as you have noted most recently in Canada, New York and increasing staffing in key areas. As a result, G&A expenses increased over the past year. Our business and operating results have grown as well. G&A expense as a percentage of total revenues for the year-ended December 31 was in the 8% range, which is relatively consistent with the prior actually three years I believe.

Moving next to our operating assets, our statistics for operating assets continue to reflect the overall strength and stability of our operations. However, as you may have noticed in our Press Release we did take a hit to occupancy related to 103,000 square foot property located in suburban Washington, D.C. The tenant at this property vacated the asset in the fourth quarter and the property remains vacant at year-end. Jim may be speaking a little bit more on this in a few minutes. Occupancy for the quarter excluding this property would have been 94.4% at the end of the fourth quarter compared to 94.5% at the of the third quarter, so very consistent quarter-to-quarter. Margins, as Joel had mentioned continue to remain very solid at 77% for the fourth quarter and for the year of 2005. Going forward I think 77 to 78% for margins are a good estimate looking forward.

Moving next to the same property results, as Joel had highlighted, they continue to provide positive results quarter after quarter. Our same property results for the quarter ended December 31, were 2% on a GAAP basis and 9.1% on a cash basis with most of the increase on a GAAP basis due to increases in rental rates. I should highlight, as we noted in the Press Release on page 10, our cash basis same property results are skewed by a prepayment of rent from one tenant in early 2005. This prepayment was related to a lease that we had inherited through an acquisition and the lease actually contained a provision for the prepayment, or early repayment of a tenant improvement allowance and pursuant to GAAP we're required to recognize this cash payment evenly over the life of the lease. Our guidance for 2006 for same property results remains in the 2% range going forward on a GAAP basis.

Next, I'd like to briefly comment on FAS141. The Company continues to comply with the provisions of FAS141 and allocates to the purchase price of real estate acquired to the various tangible and intangible assets acquired. There have been no purchase price allocations in 2005 for above or below market leases that would impact FFO. Briefly, you may have noticed the straight line run adjustments for the quarter were about 1.5 million and that's down from the 3 million per quarter trend that we actually reflected in 2005. The increase is related to this one lease I just mentioned for 103,000 square feet in suburban D.C. that was vacated in the fourth quarter. In connection with this we recognized a write off of deferred rent in the fourth quarter in the magnitude of about $1 million, so if you exclude the impact of this write off straight line rent adjustments for the fourth quarter would have been relatively consistent with the trend for the first three quarters of the year. Looking forward into the next few quarters into 2006 I think the run rate of about $3 million is a good estimate.

Moving briefly to our debt strategy, as Joel had mentioned, our debt to total market cap at year-end was about 41%. About 69% of that is fixed rate debt with about 31% being variable rate after consideration of the 375 million in swaps in effect at year-end. Our variable rate debt as a percentage of total debt as of December 31 was approximately 31%, again down from about 34.5% as of 9/30.

You may have noticed during the quarter we executed additional contracts for a total notional of about 150 million in interest rate swap agreements, which take effect in December of 2006 and January of 2008. These contracts further reduce our risk to changes in interest rates on our variable rate debt and we will continue to periodically evaluate additional hedges against our variable rate debt, which as you are all very aware of is very important to us in funding our non-stabilized value added redevelopment and development assets.

You may have also noticed we closed two fixed rate secured loans during the quarter. The bulk of it related to a CNBS loan for approximately $90 million as a 10-year term with a fixed rate of 5.73%. The other loan was also a fixed rate, a secured loan for approximately $19 million. The majority of the proceeds from these financings were used to repay our variable rate debt that was scheduled to mature in 2006. We will continue, as we have in the past, to convert additional variable rate debt to fixed rate debt in the coming months.

Before I move on to our guidance, row 6, I want to briefly comment that we did amend our credit facilities in the fourth quarter. Our credit facilities were increased to provide us a capacity of now $1 million, which is an increase from the 750 million under the prior documents. Debt consists of 500 million under the revolver and 500 million under the term loan. In addition, we also increased our accordion provision to provide for an additional 200 million of capacity under those facilities.

Briefly, on our guidance and consistent with our policy in our statement quarter-after-quarter, we do not comment on the individual detailed assumptions going into our guidance and as Joel had mentioned our FFO and EPS guidance for '06 has been updated to $5.15 and $2.35 respectively. With that said, I'll turn the call over to Jim.

Thanks, Dean and Joel. As is my practice, I'm going to start with some broad market commentary and then get more specific relative to the markets that we're participating in and our specific niche. In a broad sense we do continue to see consistent improvement in virtually all the submarkets on both, the office and flex side. As I have reported numerous times in previous calls, this does have a steady, positive, incremental influence indirectly on the lease rates for our product type.

Construction and new development appears to be generally under control, given the relative maturity of the submarkets that we're in, as well as, the combination of continued escalation and construction pricing relative to more muted rental increases. We have continued to see yield compression, although, it's somewhat stabilized, but has not yet receded. Quality assets are still getting a tremendous amount of attention. The number of bidders appears to be narrowing, but the appetite and quality of the remaining bidders has kept pricing high for the time being.

What we did see in the second half of 2005 was the impact on land and redevelopment site pricing in an upwards direction and this trend appears to be continuing and I guess we would see this as good from ARE's perspective given our relatively low basis on existing holdings we have throughout the country. However, it does create a dynamic for additional new development opportunities similar to what we're seeing in the acquisition environment on the operating side. Last quarter we had commented that rising interest rates and a slowing economy may serve to equalize the playing field between the buyers and sellers but it has not yet manifested itself in the markets from our perspective.

Turning to the life science markets, our submarkets have continued to improve relative to transaction velocity and rental rate appreciation throughout 2005. There do continue to be pockets within our regions that lag the general office lab market for a variety of very specific submarket reasons. The markets, as Joel mentioned, that concern us most is we enter into 2006 include parts of San Diego and Maryland. The long-term prognosis for each of these regions is very positive, but current dynamics present short-term challenges for us.

As is evident from the schedules included with the Press Release, the comments that Joel made, we have built a tremendous land development bank in premier locations throughout the country. This development bank is concentrated primarily in the most vital clusters providing critical and significant components to the growth strategy that we have elaborated on on previous calls. In essence or in summary, I guess, we would characterize ourselves as generally bullish relative to the health of the life sciences industry as it gets reflected into real estate demand and asset appreciation.

Some of my comments relative to external growth will overlap Joel's, but I think it's important to reemphasize some of the accomplishments that we made in 2005. In spite of the increasingly challenging market for sensible acquisitions, the Company was able to continue to effectuate this multi-faceted road map for growth. In '05 we purchased 23 properties, including 1 million square feet of operating assets, nearly 200,000 of redevelopment product and land and title for more than 1,400,000 square feet of future development.

The acquisitions that we did were at yields approaching double digits with land prices on the development bank less than $50 per FAR foot average. Our additions to short and long-term redevelopment inventory will allow us to provide additional product on a timely basis below replacement cost. More than 60% of this external growth activity occurred in the two most significant life science clusters in the world, Eastern Massachusetts and the San Francisco Bay area. We also initiated our internal platform in 2005 with three acquisitions of operating properties north of the border in Canada and notable fourth quarter acquisitions included the final Mission Bay land component that Joel described, which allows for another 500,000 plus square feet of future development, as well as the two Canadian acquisitions.

Turning briefly to development, the dynamics in several of our submarkets really supported the selective incremental increase in development activity in 2005. As a result, we delivered and leased three projects totaling nearly 200,000 square feet and as of year-end had six projects under development totaling more than 500,000 square feet and as noted on the supplemental schedule the majority of this space is either leased or in late stage of negotiations and as we move forward into 2006 we will continue to employ this anticipatory, but prudent strategy relative to new development starts. I would characterize 2005 as a very successful year for the Company relative to enhancing and integrating its short, mid and long-term growth platforms in the face of headwinds.

Turning to our leasing performance for the fourth quarter and the full year, 2005 was also very successful and active from a leasing perspective for the Company from virtually every perspective. Our activity was up 33% year-over-year relative to total square footage leased. Our redevelopment and development leasing in particular was active, up 63% year-over-year, while tenant improvements and leasing commissions were down 23% versus 2004 and finally our average lease term was up about 5%.

We had forecasted rental rate increases between 0 and 10% throughout '05 and they ended, as Joel mentioned, at 3.4% on a GAAP basis. I'm going to briefly address two specific transactions that dragged this number down a bit. We talked in the third quarter about a large early renewal that we had done with a good credit tenant in a shallow East Bay market and additionally in the fourth quarter we did a multiple building lease with a credit tenant in a stagnant suburb of San Diego. The prior leases that we had negotiated on those properties were at the very top end of the market with a captive tenant and, therefore, carried an above market rate. Given the challenges that we were presented with in this particular submarket, we are very pleased that we're able to conclude the transaction with little down time.

We ended the year with really diminimus gains and losses across all the regions relative to occupancy percentages with the exception of Maryland. The 4.8% loss in occupancy in Maryland between the third and fourth quarters was almost exclusively attributable to the single vacancy that both, Joel and Dean have alluded to.

Let me just give a little more color on that situation. We negotiated a full building lease with this tenant in early 2005. The Company was a development company in the vaccine therapeutic space with several late stage products. Its most advanced product very unexpectedly failed a confirmatory phase III clinical trial reversing the highly favorable outcome of the prior study. We had agreed in the context of the lease document to a termination right in the event of this highly improbable event and were paid a termination fee during the fourth quarter as a result. And just as a point of reference, there are obviously never any absolutes in any industry, particularly the biotechnology industry, but the chance of success of the first clinical trial being a random result are generally or were gauged in this instance at less than 2%, so it was certainly unexpected from all fronts and we're in the process right now of reexamining the best strategy for this property going forward.

Activity in the fourth quarter was particularly strong at 160% of the average for the prior three quarters. Some of this was timing related, but also I think there's a trend there worth noting. A number of the transactions occurred more quickly that we had been experiencing over the past several years, which further supports my earlier comments about the generally improving health of the markets. Some brief summary highlights, the geographic distribution of the activity was roughly two-thirds East Coast, one-third West Coast. Fifty percent of the activity was actually in the Maryland market comprised substantially of renewals and extensions and over 60% of leasing activity was also related to renewal and extensions highlighting both, our focused effort to resolve this rollover in advance, as well as, the inherent value of the infrastructure of a well designed and built office lab product.

Let me turn to 2006 projections and rollovers. The total remaining product is 918,000 square feet. Just to review some of the characteristics I've talked about on prior calls of this rollover, about two-thirds of it occurs in the second half of '06, about 40% in the fourth quarter and 20% of the total on the last calendar day of '06. Geographically the rollover is very well distributed across the country with more than 80% in our four largest regions with San Diego at 30%. Overall, as we look out today the status about 30% of the space is either committed or anticipated to be resolved, 35% slated for redevelopment, with the remaining 35% either in the marketing process or just too early to predict. Fifty percent of the space is actually expiring the first half of '06 is either committed or anticipated to be so shortly and as I projected last quarter we anticipate rental rate increases for the full year to be between 5% and 10%, so we remain very focused on this effort. It is the most significant annual rollover opportunity that the Company has had to date and all of our regional teams are actively engaged in successfully resolving any remaining exposure.

On the vacancy front, vacancies up about 120%-- I'm sorry, excuse me, 120,000 square feet over the prior quarter, again, substantially due to the Maryland lease termination. The product is well distributed across the portfolio with no single block of space that substantially exceeds 30,000 square feet with the exception of the aforementioned Maryland asset. We're making good progress. About 30% of the space is leased or we're in serious negotiations and I think important to note that excluding the Maryland property of the remaining space that we're currently marketing, about 75% of it I would classify as lower renal rate space. Therefore, the relative impact of the vacant inventory in the operating portfolio is modest relative to the overall performance of the Company.

So in conclusion I would say that my comments, Dean's and Joel's have really attempted to convey that 2005 was a significant and successful year for the Company on multiple fronts. We doggedly pursued and converted on our road map for growth into tangible progress by increasing the size of the property portfolio by nearly 20%, expanding the land bank by nearly 1,500,000 square feet or 39%, successfully entering the international marketplace with three very high quality acquisitions in Canada. We were awarded, as it's well publicized now, the right to develop the first non-institutional translational research center in Manhattan. Despite the implementation of this diversified and significant set of external growth achievements, we also successfully leased substantially more space in '05 than any other year in the Company's history so we're very pleased with the overall results. We expect 2006 to be full of challenges but we are bullish on our prospects to continue a solid and consistent performance. So we are done with the formal presentation so we'd like to have the operator open it up to questions.

[Operator Instructions] And we'll go first to Steve Sakwa from Merrill Lynch

I guess, Joel, first, could you maybe just comment a little bit about Mission Bay? I know the last time we had met you were talking a little bit about some large transactions that were perhaps in the marketplace and I was just wondering if those discussions have advanced significantly or maybe just what the status of your, I guess, discussions with tenants are?

Okay, focusing on the tenant discussions, we believe that there will be an imminent announcement from the Mayor of San Francisco announcing the first commercial biotechnology company actually to come to this Mission Bay development. There's, obviously, a high profile effort by the city let alone what we're doing, so it's significant. Recently we have been in discussions with one user for as much as 250,000 square feet initially leading up to maybe over time maybe potentially 500,000 square feet, which is we think a very serious discussion with a company who we have very, very high hopes for, so I think you have to go back to what I said in my opening comments. We actually have no brochures at the moment. We have no marketing materials done. We have no lease signs up. We are very focused on the overall densing and massing studies that we're working closely with the city, the redevelopment agency and so forth and we're also highly focused on the technical build out of the first spec building we're doing, so all this is done really without the benefit of any formal marketing plan, so we think that's very positive and we think the reputation of the location, clearly our reputation, UCCS reputation, the city's dramatic effort to recruit companies, you know we're pretty bullish on the prospect.

Okay and then secondly, I know that you don't give a lot of comment about maybe individual line items, but could you maybe just give us a directional comment about cap interest in 2006 maybe versus kind of where it was in the fourth quarter of 2005?

Yes, actually, Steve, it's Dean here. You know my best guess, and I don't have my model in front of me unfortunately, is that it will probably continue at a pace similar to the fourth quarter. That's probably the best way I can characterize it. Again, I'm going off of memory here, but for reference the fourth quarter we had about $6.8 million of cap interest, 6.9 million of cap interest in the fourth quarter.

Right and then I guess maybe one question for Jim. I guess you said that 35% of the space rolling in 2006 may be redeveloped. Is that sort of typical in terms of percentages or is that higher or lower then what's historically been done?

It's certainly higher, Steve, than it has been recently and as with a lot of our lease rollovers so much is case by case. It just so happens we have a couple of assets that are rather large that are rolling in this year that kind of distort that number, but I would say it's definitely above the norm for us. In fact, I think last year we certainly had less than 10% as I kind of remember relaying it quarter by quarter.

Okay, thank you.

And that is not existing lab space.

David Aubuchon from AG Edwards.

Could you give a little more detail maybe why San Diego and Maryland may be trailing your other target markets in terms of just demand overall?

Yes, I'm going to ask Jim to comment on San Diego, but maybe I'll put in just an observation on Maryland. I think Maryland's market is primarily a-- it is a biotech market but it's been less than robust in that sense. The real focus in Maryland is and continues to be I think broadly the bio-defense sector including vaccines and a lot of the related uses and I think as Jim said, we've had pretty good releasing success there this past quarter and a lot of that is focused in that area. I think the other focus is clearly governmental, whether it be FDA, NIH related type of focus, but I think Maryland overall the one thing that-- well, it lacks big pharma. There are really not any major big pharmas in the Maryland area to speak of. There is some medium sized companies and it lacks I think the dramatic success of some of the other markets with some of the big cap biotech stocks. That may come. Metamune is potentially on the precipice of breaking out and becoming a much bigger company. Potentially Human Genome Science is in the same position, but I would say the development of the biotech sector in that market has lagged a little bit just compared to the two bigger markets and Jim, you could comment on Maryland, certainly San Diego.

Yes, I'll focus on San Diego. I think it's kind of a collision of, I want to call it the perfect storm, but of a couple of wrong directional dynamics here. The San Diego market is unique in its concentration of the pharma industry relative to any of the biotech hubs. Almost every major pharmaceutical company has a research hub there and as we talked about repeatedly in our conference calls, the whole pharma business model is changing and the expansion that we had seen in the early 2000s in San Diego with these companies Pfizer, Merck, Novartis, J&J has ceased and in some cases is actually declining or receding. Pfizer has taken some resources out of there and Merck has exited completely, so you cap-- you couple that with the fact that San Diego also has a fairly robust biotechnology sector and with the funding for this niche being pushed further down the product cycle kind of the classic expansion that we've seen there historically when companies go from preclinical to clinical status and taking 50 to 75,000 square feet during that stage has really ceased in a substantial way so you don't have a tremendous amount of supply, but demand has really been slow for the past couple of years new. I would say over the last quarter I have seen a heartbeat and we've actually gotten more than our share, or converted more of our share of the opportunities in demand that is out there, but it's going to be a continued challenge.

And in either one of these markets is the, I guess government, the infrastructure of the city of San Diego obviously is having a lot of problem from a funding perspective and Maryland has I think the perception at least that it's less than friendly towards business. Is any of those-- does that have any impact on what's been happening out there too?

Well, San Diego it is true. We are, as you know, kicked off the development and have pursued that. I would say the development process in San Diego, and I may have alluded to this last quarter, is almost 180 degrees from what it was several years ago really in the hay day of biotech in San Diego when you could get things accomplished very quickly. Now the bureaucratic and political infrastructure really has been sidelined due to just a lot of different issues including obviously some of the scandals and related things and so to get new development and other permitting in San Diego, it's gone way, way downhill from where it was several years ago so that's clearly a problem.

In Maryland I would say Maryland is still a pretty user friendly state. They have a robust economic development operation. Every time you see a company out there across the country looking for a home you oftentimes find the state of Maryland, the state of North Carolina and others vying for that entity trying to put together incentive packages so I think that's all positive. Certainly the government funding remains robust, not growing like it used to but I think Maryland has just got a number of good things happening but not dramatic things happening but again it's a pretty stable environment.

Okay a couple more questions then as it relates to your 2006 role, San Diego as you mentioned is a third of that. What is your specific outlook maybe for the leases that are rolling in that market and would they potentially be falling on the last day as you referenced on some of the space?

I'm sorry, say that again, David.

Would some of that space be rolling on the last calendar day of the year as you mentioned I think 20% of the roll for '06 does?

Yes, actually a decent chunk of it does roll on the last day and I would say that roughly half of it is redevelopment product and on some of their stuff we are actually, as I say, we are getting our fair share of transactions done and some of this stuff that's rolling we're already working on good transactions for site. I don't want to go so far as to say I'm bullish but I feel pretty good about where we are all things considered.

And overall if you look at all the markets I'd say San Diego is the most challenged market.

And your biggest lease that is expiring in that market? With that 281,000 square feet what's the biggest?

About 87,000 on 12/31.

Okay and it may be a little bit too early but '07 has 530,000 square feet give or take in D.C. Care to kind of detail what encompasses that space?

Yes that is-- that's basically, I'm trying to think of the exact amount but I'd say two large leases comprise more than half of that. One of them we're pretty deep discussions to do an early renewal on. I wouldn't say it's done certainly but we feel pretty good about that. And the other one is a multi-building campus that we've got partially released and we're actively in kind of the whole redevelopment planning and releasing process right now so we've got a good head start on that. The assets that are rolling there are good quality buildings and locations.

Okay and then the 103,000 square foot lease that you got the termination from in the fourth quarter, single tenant user I guess, what are your thoughts about breaking that up into a multi-tenant building?

We're looking at a lot of different things on that, David. The building is actually probably the nicest office lab facility in that region on a shell basis but it could also be converted to office or technology space. It could be divided and so we're kind of in the throes of sorting that out right now.

Okay and then the last question, Joel, is on the discussions that you've had with prospective tenants at Mission Bay, have you approached a point where you may be looking at rents relative to your pro forma expectations?

Yes, I would say-- David, it's Jim. I would say that we're definitely at or above pro forma on the discussions we're having.

[Operator Instructions] Tony Paolone from J.P. Morgan.

First question, on East River Science Park, what's sort of left in terms of hurdles until the decks are cleared there to start?

That's a good question. It is a very, very complex site with a myriad and array of underground utilities and functions that don't even have anything to do with the site but still are being characterized and quantified. That's probably the biggest single site consuming effort. Environmental is a key issue because there was-- much of Manhattan has problems anyway. I think maybe it's something to discuss feedback so there are some ongoing environmental challenges we have to work on and I would say overall those are probably the biggest issues and then there are some major infrastructure issues that we're working closely with the city on including raising one of the streets you know something like 8 feet. So there's a variety of things that aren't even site related in the sense of classic development that are ongoing that really just take a tremendous amount of time and you're not dealing with a single seller or ground lessor if you will. You're really dealing with a multitude of bureaucratic entities, which really control different aspects of the site.

But does any of that change sort of your view towards the project or does it have the potential to derail anything do you think at this point?

Assuming we can successfully resolve those issues, which so far we have, the answer would be no.

Just looking at the rest of your development pipeline and kind of comparing like you said some rents already coming in a little bit ahead of budget so I would imagine construction costs are maybe up a bit and can you maybe just see how those balance out and where your return expectations now stand for the development pipeline?

Yes, maybe I'll ask Jim to maybe comment as well. I would say in general certainly construction costs are-- I mean in almost all our assumptions we assume a 1% per month escalation in construction costs just to be careful and they certainly have gone up substantially over the past couple of years but I think one of the big advantages, and Jim alluded to it in his comments, that we have in many of the locations is we really have a very, very favorable cost basis in the land compared to competitor locations or if there are no competitor locations certainly compared to pro forma rents that we're looking at. I mean Mission Bay there's really not any competitive product to speak of that's significant. There is some in South San Francisco as to examples but our cost per FAR square foot is just so favorable we're very comfortable and I think we certainly view ourselves as achieving double-digit returns on our development. I don't know, Jim, do you want to--?

No I think that's all right is as I think we have said before we don't start construction until we have completely characterized the costs and thus far we have maintained the budget on all of the projects we have delivered so construction costs are keenly on everybody's mind but I have definitely I guess in the places we're doing development rental rate increases are outstripping our construction costs for our product type.

And, Tony, let me also say one thing and we are not even in pre-marketing. We're in no marketing because we don't have an executed ground lease in New York but we do have what appears to be potentially one significant anchor tenant that we're moving along with so we're pretty comfortable with where we are in that process.

Okay and then in 2006 outside of the New York project are there any other development starts that you know of at the moment?

You mean for the future?

Yes, just new projects that you will start to break ground on?

Yes. The answer is there will be new projects in '06. I'm not sure I could tell you today or be able to tell you where they will be but clearly you could expect one or more in '06.

And that does conclude our question and answer session. I'd like to turn the conference back over to Mr. Marcus for any additional or closing remarks.

Well we did it under an hour. We appreciate your time and attention. Thank you very much and we'll look forward to talking to you in May to report first quarter '06 earnings and operations. Thanks so much.

And that does conclude today's conference call. We thank you for your participation and you may disconnect at this time.