Alexandria Real Estate Equities Inc (ARE) 2006 Q3 法說會逐字稿

Good day, and welcome everyone to the Alexandria Real Estate Equities' third quarter 2006 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, ma'am.

Hello everyone and thank you for joining us. This conference call contains forward-looking statements, including earnings guidance, within the meaning of the federal securities laws. 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 annual report on Form 10-K and other periodic reports filed with the Securities and Exchange Commission.

Now I would like to turn the call over to Joel Marcus. Go ahead.

Welcome everybody to the third quarter earnings call, our 37th straight quarter of solid growth, both operationally and financially. As I do all the time, I would like to start out with a couple of macro industry comments for the past quarter. In the pharma industry it actually was a pretty strong quarter with positive gains of about 7% where the Dow gained about 5%. And pharma stocks I think are generally still considered to be undervalued with the average P ration for the group of about 16.5.

One of the most significant aspects of the quarter in big pharma world was the stepping down or the resignation of the CEO of Bristol-Myers Squibb CEO, as I said, for some issues relating to patent protection and strategy on their blockbuster drug Plavix.

It also was an actually quite a strong M&A quarter for European mid level M&A transactions in the -- as I said the European market. The biotech industry on the other hand had a fairly sluggish quarter, raising only about $3 billion, which was the smallest raise in any quarter for almost three years. And generally as a result of some negative announcements during the spring and summer. In the past, a couple of the industry leaders have had some stock price erosion.

One notable exception was positive news for one of our top tenants, ZymoGenetics, which is a biopharmaceutical company in the Seattle market. One of our leading tenants in the portfolio and certainly up there, which is owned about 40% plus by Novo Nordisk, had their lead drug, recombinant human Thrombin approved and expect to file their BLA by year end.

Also Amgen, through their acquisition of Abgenix, again one of our key tenants in the portfolio, had approval on their new monoclonal antibody drug, Vectibix, which is a cancer drug. And approval is expected by the end of the year.

Amgen also announced the acquisition of a $400 million acquisition of Avidia, which is a client tenants of ours in the San Francisco Bay Area. And most recently Merck announced a $1.1 billion acquisition of Sirna Therapeutics, our anchor tenant at our first building at Mission Bay. And we are hopeful that Merck will make a further commitment potentially to the Mission Bay location.

Dean will speak to our positioning, both our strong positioning geographically with respect to our asset base and our very strong positioning with respect to our client tenant base, both diversification and minimum exposure to any tenants in general, but with very high credit quality. I think it is also fair to say one of the most important healthcare issues you hear about in the future, which will I think the driving healthcare costs containment is the outsourcing actually of healthcare treatment. And you are starting to see a lot more of it these days, which I think is kind of surprising to a lot of people.

Moving on to earnings guidance and dividend policy, as you know from the press release we had an increase of 9% this quarter, and FFO per share diluted to $1.32. Again a solid and stable quarter, with strong and stable financial and operating metrics. Dean will speak to the margins. They have been very strong. They dipped just slightly to about 76%, because of the absorption of Tech Square, but in general very strong comparatively.

We want to reconfirm our guidance as we have in a press release of $5.16 per share diluted for 2006. And we intend, as we always try to do, to give very precise guidance for 2007, and we will do that on our fourth quarter and year-end conference call. Certainly due to a number very significant transactions in process, and again our desire as we have historically tried to do to give precise guidance as opposed to a broad range, we will give that at the next call.

The Board recently increased the dividend 3% to $0.72 per share. And Alexandria continues to have one of the lowest payout ratios in the REIT universe at under 60%.

Moving on to operating and financial performance and some of the key metrics for the Company on its internal platform for growth. 37 consecutive quarters, which is I think a record in the REIT universe of same-store growth, a key component of this internal growth, 2.2% on a GAAP basis, 4.5 on a cash basis. And again Dean will give some additional color.

On the leasing front Jim will give you some fairly interesting details of a very, very strong leasing quarter, 36 leases, 441,000 square feet and a 19% GAAP rental rate increase. Stronger than we expected. Occupancy steady at about 93.1%, which somewhat reflects the absorption of some acquisitions which have vacancy, but we expect that occupancy to climb in the coming quarters.

On the redevelopment side, again another key cornerstone for the growth platform, we developed or delivered multiple spaces at multiple properties aggregating about 125,000 square feet out of the active redevelopments pipeline. And our cash on cash yields continue to, on incremental dollars invested, continue to remain in the double-digit range.

We delivered a ground up development, a very important one, 127,000 square feet in South San Francisco to Genentech during this past quarter. The facility is going to be an integral part of Genentech's West campus. And we're developing a very strong relationship there, which should bode well for the future. We are pleased to confirm that that development was delivered on time and on budget, with a double-digit cash yields.

We initiated a new groundout development, two waterfront building campus, and 133,000 square feet in South San Francisco, with certain targeted tenants in mind. We have strong economics in a market that vacancy is sub 5%.

Jim will spend some time on Mission Bay. But it is fair to say that first building has exceeded our internal expectations, with significant tenants demand for Mission Bay lab space. We're pushing the redevelopments agency very, very hard to get our next building approved and kicked off. And again we're very -- and this concludes expectation both as to leasing staffs and yields. And the demand appears to be from the biotech, institutional and big pharma as well. The Merck acquisition of Sirna I think is going to drive some of that demand over time as well.

On East River Science Park I'm pleased to announce that the New York Economic Development Corporation will put the project before their Board on November 8, now that all of the material terms have finally been agreed to. And we expect them to approve that ground lease on November 8. The biggest hangup has been just the very complicated public infrastructure and funding matters, but those have now been overcome. And we expect a ground lease signing and development kickoff before mid-November, before November 15.

On external growth, and Jim will give fairly good details on this, we have completed the acquisition of Tech Square. MIT is significant value out added crown jewel on a triple A location. Building 200 is now under full redevelopment, which will drive the yields there among other things I think significantly. It is a unique opportunity, as I think we commented the last quarter, to be selected not on the base of price alone, but on our unique platform and future synergy with MIT.

This was an acquisition in the plus $500 a foot range with very little additional financial burden from the ground lease structure, so similar to East River. So in essence we can achieve strong yields approaching 9% upon stabilization as opposed to buying a very low cap rate transaction which has stabilized. We have tried to steer away from those transactions.

During the quarter we made one other acquisition in the mid-Atlantic region on a small San Francisco land parcel.

Finally on the balance sheet and capital markets side, and Dean will address this as well, we continued to have a strong and flexible balance sheet with our fairly conservative debt to total market cap. We have substantially reduced our variable rate debt exposure, as you can see from the press release. And Dean will also highlight really an astounding achievement in revision of our credit line, which was just recently completed as well.

Without further ado, let me turn over some of the detailed highlights of the quarter to Jim.

Let me jump right in to leasing to start with. As we reported and Joel said, we leased 441,000 square feet in the quarter, split roughly 50-50 between renewal/release space and previously unleased space, which really mirrors our overall year-to-date trend. There was a heavy orientation in leasing towards the East Coast with over 70% of the transaction volume occurring there. Specifically in Maryland where we made great progress, nearly 40% of the overall activity exceeding 170,000 square feet in Maryland.

As Joel said, had some pretty phenomenal success on the mark-to-market front with a 19% GAAP for the quarter and 14% overall increase. We really are on pace to match or exceed the substantial lease volume that we had in 2005.

Just briefly some comparative metrics between '05 and '06. The average lease term is virtually identical between the two periods, 6.2 versus 6.1 years, as well as the ratio leasing between occupied and unoccupied space trending towards a higher concentration of unoccupied space, which would be expected, given the redevelopment and development activities that we have been undergoing.

Let's turn to 2006 rollovers. More than 400,000 square feet remaining. Of that space, 55% of it is either committed or anticipating short-term resolution, with 20% falling into redevelopment, which is really substantially two properties that are both undergoing significant conversion from single to multiple tenant use. Each is in the process of being substantially transformed. And notably each is also receiving heavy releasing activity, which is a great indicator. The remaining 25%, or 100,000 square feet is unresolved, but most of that space is engaged in strong activity and discussions.

For the balance of the year, our rental rate increase performance ought to be consistent with what we have seen over the balance of the year, which is midteens. We had projected 5% to 10% at the beginning of year, upgraded to 10% last quarter. And it looks like we will be in excess of 10% for the overall 2006 timeframe. That has been somewhat boosted by the resolution of some of our 2007 rolls at favorable rates.

Turning to 2007. About 1 million square feet geographically distributed into our four largest markets, over 90% of it. San Diego Bay area and Massachusetts between 15 to 20% of the roll, with Maryland at about 40%. We're making great progress, about 50% of the space is resolved or anticipating it to be so in the near term. 10% will be rolling into redevelopment, and that is essentially one large single building that is going to undergo a complete gut and rebuild in one of our West Coast markets. The remaining space represents less than 40% of the roll, which is too early to project at this point. As a side note, 40% of that unresolved space rolls in the second half of the year.

I want to give just a couple of quick highlights there. 40% of the Maryland rollover has been resolved or we are active negotiations and well down the way in doing so. We're looking at rollover projections for rent increase between 0 and 5% for '07. Due to the aforementioned fact that we have accelerated some of our '07 rolls into '06 already and achieved that benefit, that economic benefit.

Finally on vacancy, about 6.9% in the operating portfolio. 40% of the space haws either been least or we are in active negotiations, with the balance unresolved trade. And as has typically been the case the space as well distributed across the portfolio and primarily consists of smaller to medium-sized blocks of space. And we're getting good, solid activity across the board given the health in most of our markets.

Let me turn to acquisitions, external growth. Joel covered many of the pertinent features of the Tech Square transaction. Let me just highlight a couple more of them. This is clearly one of the most important Life Science's markets in the world. I would characterize Tech Square specifically by a high proportion of credit tenants, MIT and Novartis, with extraordinary prominence in our community. Solid going in yield on a stabilized portion of the project with a continuing opportunity to rollover and convert office space to higher value office lab space, giving us extra rental growth over an extended period of time.

As Joel said, Building 200 we have the opportunity -- or in the process with converting the entire building to also capture the higher value added space in the office lab side. Overall intrinsic value at or below replacement cost, which is always a key metric from our perspective. And then a partnership opportunity with MIT that we're going to look to extend more broadly over time.

Just in kind of quick summary, this is the manifestation of this guiding vision that we have to capture and create the absolute best properties in the best, most desirable locations in a way that still allows us to create more value in a number of creative ways. And also I think closing on that, I would note that we have already received and are responding to our RFPs from a highly desirable set of users for requirements that exceed the amount of space that we're redeveloping at Tech Square. So just further providing evidence of the value of the approach we're taking here.

As noted in the press release, we made an acquisition earlier this week, another one in Cambridge of significance, 185,000 square foot multibuilding, multitenant project that is going to allow us to redevelop and develop additional Class A product in the heart of Cambridge. The properties are characterized as being under utilized at the present time with under market rents across most of the project. About 40% of the space in the existing buildings can be converted to office lab. We also have -- will have a substantial land bank they'll support future growth and development again in the heart of Cambridge.

I think an example of what that might look like -- our future growth might look like for those of you that have been out to Cambridge, is the 303rd Street Building across the street immediately from this project, which is a Class A office lab building fully leased to two emerging Life Science companies. Again, right in the of Cambridge.

Our preeminent position as the full-service developer and landlord in the highly specialized office lab niche allows us to continuously procure and execute these true value-added opportunities in these critical core markets.

Turning to development and reemphasizing some of Joel's earlier comments, we delivered 127,000 square foot Class A office lab building to Genentech in the third quarter, and are continuing to aggressively and diligently advance our entitlement and permitting efforts on a substantial portion of the land bank to capitalize on the solid demand that we are seeing throughout our core markets, specifically in Mission Bay. We will deliver space to the first group of tenants at 1700 Owens during the fourth quarter. We're substantially leased in that project and have high levels of interest and velocity on the balance of the building, which is going to result in a real strong tenet mix at great economics.

The building's first tenant, Sirna, as we just recently reflected upon, was purchased by Merck. They occupy a floor and a half in the project, and have a near term expansion right into the remaining portion of the floor they do not fully occupy. I think it is important to note that this first building has been successful with very limited marketing focus and emphasis, just further building on the value of the Mission Bay location.

Across the balance of the project, we are very actively and aggressively advancing the entitlement process. We're looking to kick off our next building at Mission Bay during the first half of the next year to position ourselves to continue to capture the heavy stream of multitenant demand that we have seen to date. We have also had -- and Joel briefly reference this -- significant activity and interest across all industry sectors, from the very earliest stage companies all the way through to the largest bio and pharma companies. And I think that recently announced FibroGen transaction adjacent to our Mission Bay project is really indicative of the kind of interest that we have been seeing. High-quality companies, interested in a primer location year, near or adjacent to UCS South, in a well conceived urban campus environment really seems to the paper veiling seen.

I guess just to conclude before I turn in over to Dean, team, the core of our business is built upon the phenomena of clustering, combined with our unique and strategic relationships. We continue to seek to build the highest quality projects and the best locations for the premier companies in our niche.

And I think that the current activity levels that we're experiencing in the Northern Peninsula of the Bay Area and Cambridge or a hardy endorsement of this time tested strategy. Given our selective approach to acquisitions focused on continuing to add value where sellers have not fully realized the property's potential, and to develop projects in these most desirable where sellers hae not fully realized the property/s potential and to desirable locations make us remain bullish on these components for our growth platform. And with that I will turn it to Dean.

Let me take a moment to highlight certain financial items before I comment on a few key statistics important to our overall performance and our unique roadmap for growth.

As Joel had mentioned, we continue to execute on this unique roadmap for growth providing for the 37th consecutive quarter in growth in FFO per share diluted and our 37th consecutive second quarter positive same property growth on a GAAP basis. We continue to have excellent progress in our ninth full calendar year as a publicly traded company with positive leasing activity. Third quarter FFO per share diluted was $1.32, up 9% over the third quarter of 2005.

Briefly on a couple of capital matters, as we previously disclosed, last quarter we completed a fixed-rate financing totaling $146 million at a fixed rate of 6.35%. We're very pleased with the pricing and the size of the loan, given the rate environment when we closed the financing.

This week, as Joel had mentioned, we completed a very important amendment to our unsecured revolving credit facility and unsecured term loan. This new facility has a total commitment of $1.4 billion, up from $1 billion. And it consists of a $800 million revolver and a $600 million term loan. It has higher levels of borrowing credit for a variety of revenue and nonrevenue producing assets, and has more favorable debt covenants.

Our amended facility contains an accordion that allows us to increase commitments by an additional $375 million, raising the total commitments available to $1.75 billion. It also contains a one year extension of the maturity of the revolver and the term loan at our discretion. We believe this facility provides us the capacity and the flexibility we need for acquisitions, and more importantly, capital for our value-add redevelopments and development programs.

Briefly on a few debt and debt matters. Our debt to total market cap, which Joel had highlighted, was approximately 37%. 16% of our total debt is unhedged variable rate debt and 84% is fixed. As discussed in prior calls, we have at least $500 million in notional amount hedged through late 2009. Consistent with our ongoing policy to mitigate our risk to variable interest rates, we will continue to evaluate additional interest rate swap agreements in order to hedge risks associated with variable rate debt. We will also continue to diligently pursue fixed-rate financings for our stabilized assets in order to convert variable rate debt to fixed-rate debt.

Consistent with comments in prior calls, we continue to focus on the growth and the depth and breadth of our Company as we expand into new markets and increase staffing in key areas, really at both the management and nonmanagement levels. As a result, G&A expense has increased over the past year at a pace fairly consistent with the overall growth in our business and operating results. G&A expense as a percentage of total revenues for the quarter was fairly consistent with the past -- last few years in the 8% to 9% range of total revenues.

The third quarter of 2006 really reflects our ongoing execution of our unique roadmap for growth and the overall strength and stability of our operations in our Life Science Real Estate Niche. Let me quickly cover some key areas that are important to our performance and this unique roadmap to growth.

Briefly on our asset-base and tenant base, management of the Company really has been very diligent since the formation of the Company with its strategy to maintain a strong, well diversified asset-base in the best possible locations in key Life Science submarkets.

We have found that our Life Science Real Estate Niche is extremely dependent on location, location and location. Successful and growing companies within the industry place extreme importance to proximity to the drivers of each Life Science cluster submarket, major institutions like UCSF in the Bay Area and successful companies like Genentech in South San Francisco. In addition, the ability to walk across the street to collaborate with other scientists is also very important to the successful companies within the industry.

We have also been very diligent in our ongoing pursuit of high-quality, broad and diverse Life Science sector client tenant base. Our top tenant, Novartis, which is a triple-A rated company, represents only 8% of our annualized base rent.

Our internal proprietary research team is responsible for the evaluation of Life Science companies in the industry, and is as solid as the teams in many top research firms. Our underwriting success is clear as we have achieved positive same property performance and quarter over quarter growth in FFO per share on a diluted basis, again now for 37 consecutive quarters as a publicly traded company. Our success is also clear through the ongoing enhancement of the credit quality of our tenants through recent acquisitions, as Joel had mentioned. Recently Merck announced the acquisition of Sirna Therapeutics. Amgen completed the acquisition of Avidia, and GlaxoSmithKline completed the acquisition of ID Biomedical.

Briefly in our redevelopment program, as you are well aware our redevelopment program is integral to our unique roadmap to growth. Historically we have had approximately 500,000 square feet the space undergoing a permanent change of use through active redevelopment. Our redevelopment program generally involves the conversion of nonlab space to lab office space at very attractive yields. It is important to note that we do not place vacant leasable lab space into our redevelopment program.

Next briefly on same property results, we continue to have positive quarter after quarter same property results for 37 consecutive quarters. We had 2.2% results on a GAAP basis and 4.5% on a cash basis, with the maturity of the increase in same property results primarily due to increases in rental rates.

Guidance for same property performance going forward for the remainder of '06 and into 2007 remains in the 2% range on a GAAP basis.

Next on really operations, as we had shown on page 11 of our press release, our occupancy of our operating assets was solid and consistent with the prior quarter at 93.1%. We view this level of occupancy really as an opportunity to grow internally through it am in increase in overall occupancy.

Certain recently acquired assets contain spaces for future redevelopment and are currently vacant. These spaces have a negative impact on our operating occupancy stats and operations, but clearly provide for future growth through our value-add redevelopment program.

Margins remain very solid at 76%, as Joel had highlighted, but has somewhat been impacted by the acquisition of Tech Square and gross leases associated with the office space in the campus projects.

On a prospective basis, we're projecting margins in the 76 to 78% range. Straight line rents for the third quarter of 2006 were approximately $4.5 million. They really reflect an increase over the prior quarter related to recently acquired stabilized assets. Going forward, $4 million per quarter is pretty good runrate for straight line rent adjustments. Other income has been fairly consistent quarter to quarter and consists of construction management fees, storage, parking, interest and investment income. When I say consistent the mix of other income has been fairly consistent even though the budget in total amount of other income has risen over time.

We have seen each of these components, again as noted in our press release, increase from time to time. And I think going out into 2007 we had expected to remain fairly consistent with where it is today. Other items that are important to our overall performance and unique roadmap to growth include the ongoing (indiscernible) leasing stats that both Joel and Jim mentioned, and the ongoing value-add redevelopment and development pipelines and our very selective acquisition of operating redevelopment and future development assets.

Lastly, on FFO and EPS guidance, consistent with our policy, we do not comment on our individual detailed assumptions going into our guidance. Our FFO and EPS guidance for 2006 was $5.16 and $2.22 respectively. As you are very aware, we're very diligent and precise on guidance and have historically provided 10 point guidance as opposed to a broad range of guidance. Our guidance again is based on various assumptions and under multiple scenarios.

As Joel had mentioned, there a number of significant transactions in process and we will provide precise guidance for 2007 really in our fourth quarter and year-end 2006 earnings call. With that I will turn it back Joel.

Thank you very much. I think we're ready to open it up for questions.

(OPERATOR INSTRUCTIONS). Philip Martin, Cantor Fitzgerald.

Boy, I don't think I've ever been first, ever.

There is no prize though.

Exactly. That is the problem. Good afternoon. Good morning. A couple things. Let's see there is quite a bit, but some of these I can take care of off-line. Joel, just going back to your introductory remarks, you talk about outsourcing of healthcare treatment that is a trend. I have been seeing it in other healthcare sectors that I follow. How is that an area -- where can Alexandria potentially capitalize on opportunities there?

My actual reference was the actual outsourcing, different than outsourcing of manufacturing or R&D, it really is treatment of the care of patients. And I think what that is going to do is over time that is going to actually be good because it is going to reduce some of the pressure on healthcare costs and also make it clear that novel, effective and hopefully cost-effective pharmaceutical treatments will be the other piece of the puzzle that can contain healthcare costs.

I think it is just a natural evolution. It is one of a few sectors that really we haven't seen outsourcing on, but I think you're starting to see it now in a dramatic way.

Certainly a lot of what your tenant base is working on, developing, creating, etc. is allowing more effective treatment and allowing for the outsourcing of treatment, or a greater outsourcing of treatment.

I think what will happen is also you will see a more robust and larger worldwide pharmaceutical market as other nations step up and start treating people that are essentially coming into that market for healthcare services alone. I think that is good news for the drug sector essentially.

A question for you, Jim,. The leasing environment is strong. Some of the other office REITs, I know you're difference than all the other office REITs, but some of the other office REITs are seeing somewhat of a slowdown now with the new development absorption, impacting things. But with respect to your portfolio and the locations, what inning do you think you're in in terms of rental rates and rental growth, etc.? Is this peaking here? 19% is certainly a phenomenal number, and you are coming off a low number I guess, but where do you think we are in --?

I would say that as it relates to rollover space, that is a little bit of a different animal because it is a little bit case-by-case. But I think it just applies generally across the markets for new development and redevelopment. We're definitely not in the late innings. If anything, we're in the early innings. We're saying to see rents really move up pretty consistently in our core markets.

The core markets we are in are so mature to begin with, even the office sectors and the tech sectors have tightened up significantly. As I have remarked many times in the past, although there is not a direct correlation, there definitely is an indirect correlation with the health of the overall commercial markets, and those across the board have improved markedly in the last couple of years. That combined with the fact that there has been a real tightening in the lab space market as well is starting to push rents up in a fairly significant way. So I would say early innings.

I know it is a combination of markets and portfolio locations, but how much of this rental increase is really driven by just your portfolio, your location, the want by tenants to be in your locations and in your portfolio?

We're certainly -- we hope that is exactly why it is happening. I think the fact that the assets that we own are in the epicenter of these clusters is really what is driving that growth, because that is where these companies want to be. And if they can go a couple of miles down the road at a 25% rent reduction, they are just not doing it. That is not where they want to be. That is not where the critical orientation of the cluster is. I would say as a general statement, that is accurate. But it also is somewhat case dependent on what specific leases are rolling.

My last question is the pipeline of investment opportunities that you're looking at, and -- whoever would like to answer this -- but in terms of that pipeline of investment opportunities, I would have to imagine a significant chunk of that would include land banks, redevelopment opportunities. I'm just trying to a sense for how much of that investment pipeline would consist of that.

Would consist of future development?

Yes, redevelopment, repositioning, land banks, that sort of thing. Similar to what you have here with your recent Cambridge acquisition.

That is a great, I think, example. I think a good chunk of it. But again, it is somewhat opportunistic. I think when we had this call last quarter I don't think that was even really on the horizon, or maybe it was just kind of starting to matriculate. But I think generally speaking the pipeline is pretty robust with those types of activities.

Are tenants driving these opportunities for you, is that -- when you say opportunistic there are a lot of different reasons why it could be opportunistic, but are tenants driving these opportunities for you?

They are, in some instances, yes. They are absolutely. It is a combination. It is very much a combination.

Thank you for the answers and congratulations on yet another good quarter.

Steve Sakwa, Merrill Lynch.

It is Steve Sakwa. Just a couple of questions. Could you comment a little bit on the Merck's Sirna deal? What type of space does Merck have up in that market? And I guess as a corollary to that, you have talked previously about some large potential campus users coming into Mission Bay. Can you just may be update us on the status of those?

Your question on Merck Sirna, I'm sorry I didn't quite understand it?

They are buying them. I'm just not sure what their other space in the market is -- what other presence do they have? How big could this become (multiple speakers)? Could the Mission Bay area become a sort of node for them, if it is not a node today?

Sure. I think -- well, the acquisition is a big acquisition. What is interesting is Merck also has a major strategic alliance with the other major competitor to Sirna, another one of our clients called Alnylam Pharmaceuticals, which is a first-class RNAi Company similar to Sirna located in the Cambridge market. Merck now has essentially tied up some of the most important technology with respect to Interferon with RNA, which has the opportunity to create some much more targeted pharmaceutical products.

Historically Merck has had much -- I think much less of an acquisitive our outreaching view of the world. But I think in light of what has happened with Vioxx, and I think a change in management, and their philosophy, I think you'll see them outreaching much like Novartis has done and many of the other big pharmas to the biotech industry and broadly to really help fill their pipeline for the future.

There is no way -- we don't know -- it is certainly too early in our communications with the folks at Sirna and the messages we have gotten from Merck to know whether this will be a major future expansion. But I think, as Jim actually is just reminding me, some years ago Merck acquired a very powerful informatics platform up in Seattle called the Rosetta Pharmaceutical and actually expanded their presence pretty dramatically in the Seattle market.

It really depends on the therapeutic focus and the strength of that research group that will make the difference. But I think that if it happens, this could be a user for a large amount of space in that market because there is -- next to Boston, Cambridge is -- those two markets really contain the most talented scientific capability in the country. We're very hopeful. There is no assurance, but certainly we're hopeful.

I think with respect to other users, we don't have any announcement today, but we can tell you we have ongoing discussions with at least one or more big pharmas. There is certainly reasonably brisk institutional demand. And a lot of -- I would say, as Jim characterized it -- multitenant demand out of the biotech industry. There is some larger campus users. We have -- in fact we had a meeting last night regarding one that is looking for up to 1 million square feet. But those are issues that are still a little too early to call. Our major focus will be kicking off our second building and getting entitlements and allocations for some follow-on buildings so we have the capacity to meet the demand. That is where we're headed there.

Secondly, with regard to the development page, you have got projects that basically I guess deliver 4Q '06 out to some that go as late as '09. Is it fair to assume that anything started now is really an '08 plus delivery?

I think that is a fair statement.

I don't know if this one is maybe for Jim. When I look at the rollover, which I believe is on page 12 of your leasing activity, the 219,000 feet that were in that redevelop/developed vacant space bucket, the cash rents and the GAAP rents were almost identical. There was about a $0.40 spread, which if you kind of do the math on the weighted average lease terms implies that there was only about a 50 basis point per annum increase. And when you do the same math for the nine months it is closer to 2%. Is there anything different about the way the leases are being written, or was that just one specific lease that maybe was more flat over the term of the lease?

I'm trying to find it right now. See if I can figure that out for you.

If you are looking at that, let me just ask Dean a couple of (multiple speakers).

We will come back to you either on the call or after the call.

Dean, could you just comment, the interest and other income line jumped up a bit to $3.4 million. I guess is that a decent runrate, and could you may be just breakdown maybe the larger components of that item?

Honestly, the biggest factor over time recently over the past few quarters in growth in other income, as we highlighted I think over the last two or three calls now, has really been our construction fee income. That has grown more dramatically than any other component within other income. I would say the overall mix, outside of that one bucket, remains fairly consistent with interest, service fees, storage, parking and investment income. I would say going forward that is probably pretty a pretty good runrate out into '07.

Joel, just maybe lastly on the dividend growth, obviously earnings were growing a lot faster than 3%. Just maybe help us think through maybe where you are versus taxable net income? And should we expect if there is a lot of room before you hit any kind of minimum to expect more modest dividend increases as you plow that free cash flow back into the development pipeline?

Right. I think, again, given our coverage there we have, and the relative newness of the portfolio, and obviously the depreciation generated thereby, we have got I think a lot of room for growing the dividend before we bump up against any taxable income requirement.

I think the Board is consistently over the past few years had the mindset to try to grow the dividend reasonably -- in a reasonable fashion, but probably somewhat less than the growth in FFO. I think you'll see both grow, but hopefully the dividend to grow at a good pace, but yet not at the pace of FFO on a diluted per-share basis, so that differential we can use to -- because that is our cheapest form of capital -- to plow back into the Company for its future growth.

I would expect dividend growth to be somewhere in the -- potentially in the 5%, 6% range. At least for the foreseeable future on an annual basis.

Okay. Thanks very much.

We will come back to on the other question.

That's fine. Thanks.

(OPERATOR INSTRUCTIONS). Michael Bilerman, Citigroup.

I was wondering if you can just go over -- I think you talked about MIT Tech Square arising eventually to a stabilized 9 yield. Can you just walk through going from where you are today in the 5 to 6 range, going up to that 9, how much more capital needs to be put in, and how you get there and by when?

I think just to make sure the numbers are correct, I think today, or upon acquisition, I think the going in yield was somewhere in around the 6, 4 range. And I think our goal over to stabilization over a two to three year period is about mid 8 -- mid to high 8. It is probably a little sub 9.

I think one of the most important components will be the redevelopment, which is ongoing very dramatically of Building 200, which converts all of that from previous -- the plan was office to go to a lab. Again, the rent is going from something like about $30 on a triple net equivalent basis on an office up to mid 50s to about $60.

Then much of the other growth will come from as we have sequential rolling in space of office we will be completing that and -- not completing it, but converting that, and again rolling those from office to lab rents. There is some additional retail going in that will add additional dollars. And we can layout -- I won't take time on the call here, but we can kind of layout on a year by year basis how we get there, but I think it is reasonably achievable.

Your 6, 4 is cash or GAAP?

That is cash. GAAP it is mid 7s as I recall -- mid to high 7s.

Maybe you can touch on, you talked about significant transactions, a few broad strokes what you're looking at in terms of dollars and --?

I'm hesitant to do that, but I would say they are significant.

Would you characterize Tech Square as significant?

For sure.

How do you think the balance sheet is positioned today going into those significant transactions?

I think that is a great question. I think Dean and his entire team have done a phenomenal job in positioning the debt side of the balance sheet to be positioned very well, as he described kind of the -- we have really been able to kind of minimize our variable rate debt exposure. Certainly some of today's news, or the last few days, have given worries of inflation fears. And obviously, having a much greater balance sheet capacity, given the new term and line of credit, I think positioned us exceedingly well to do that. So I feel very good about our capacity and capability to do that.

Would you think you would have a need to come back to the equity markets to fund these transactions?

We don't foresee it at this point. But again at the beginning of the year if you asked were we going to acquire Tech Square, we didn't even know that was ever going to come to market, so you never know. I would say at this point we have no current plans.

These are competitively bid situations or these are things that you have (multiple speakers).

Many of them are. Some of are not and some of them are exposed only to a handful of parties. So it really varies. Obviously Tech Square, I think there were 24 original bidders on that. That was pretty well marketed. And the ultimate selection again was not based on price, because I think there were a handful of folks willing to pay MIT's final price. So it varies.

It sounds like there's multiple transactions occurring?

I would say there are a few, yes.

Tony Paolone, JP Morgan.

At Mission why is the approval process so difficult given that that area was seemingly meant to be very Life Science oriented, and it seems like the municipality had bought into that idea?

That is a great question. We had a four-hour dinner meeting last night on that very topic. I will let Jim maybe give you a few highlights. This is the first go around really for the city in this product type. And so -- again, there's always the difference -- and this is true actually in many locations -- the difference between the elected officials and the entrenched bureaucracy. That exists really throughout the country. That is actually true in the York as well. The mayor and his people can say one thing and champion one issue, but when you get down to planning people and planning checkers or fire departments or people like that, sometimes they do business the way they have done business. But Jim can highlight a few of those items.

I think Joel hit it on the head. They just haven't done a lot of that up here at this point, and it is a lot of process. (technical difficulty).

Pardon the interruption, this is the operator. It appears that we have lost our feedline. If I could have everybody hold on one moment.

I think Jim was just about to give a couple comments on my question.

Our power went out for some reason.

Everybody can evaluate it if they answer it the same way in the room. What Joel basically said is exactly the dynamic up there is that it is a new process. It is a lot of different folks that have an opportunity to express an opinion as you navigate through. It is not uncomplicated. But there is roadmap. There is a way to get from point A to Z, and we are getting there. It is just is a lot of hard work and kind of diligence.

The fact that we are going to be ready to kick off a second building here in the first half of next year I think is evidence that we can navigate that effectively and efficiently, and there will be other projects immediately behind that. So the city remains very interested in what we're doing and how we're doing it. But they just want to be actively engaged in the process. I think as we do more and more of this it will become more streamlined. It will be easier for them to work through their own internal processes. And we are already seeing some evidence of that. We are essentially helping them learn as we work our way through.

And we are seeing again a very similar situation with medium or so-called high-rise office labs in the York City. It is pretty similar.

Another question. You talked about the significant transactions in process. What drives your appetite to make a lot of acquisitions now, given the large development pipeline that you have?

I think that is an easy answer. If you look at the two items really bulleted this quarter, one is the Tech Square and MIT transaction. It is a kind of a unique opportunity in the history of our business where you would ever see such an asset opportunity come to market where you could add value, and where you could partner with such an institution as MIT.

Again, six months before no one knew -- we certainly didn't know that asset would ever be available. The recent one Jim just described that we closed here just over the last day or two is again an extraordinarily well located set of redevelopment -- well, some existing in-place income, redevelopment and developable land in Cambridge that just sits in a location that is totally irreplaceable. You can almost never get land in Cambridge.

Again, three, four, five, six months ago we could have never foreseen the opportunity to buy this asset, and we have had a number of relationships with the seller. It is one of those serendipities situations. It is not like you could plan on it. I think you have to react if you're going to be an important and dominant force in the Cambridge market, which is really by all stretches one of the strongest today. It makes sense for us to do this.

It sounds like you have variety of them that you are looking at. Is there any common thread that prompts these to hit the market now versus before or later?

I guess if you read the Wall Street Journal two weeks ago in the real estate section, which I am sure everybody did, the concept that commercial property prices might tend to flatten, or cap rates might tend to bump up a bit -- I think the article talked about some time in '07. No one really knows whether that is going to happen.

I think there may be a desire by some sellers to take advantage of a robust market. But I think what offers us the great opportunity is the ability to add value, especially to this one I just mentioned, which has a very significant development capability there over time. And we just have been frustrated and stymied trying to get development land in Cambridge at a reasonable price.

I would also say that every situation is unique. I think MIT, certainly if property values were perceived to be at their low, people wouldn't be sellers. But I think MIT had a specific reason for wanting to sell when they did. And the seller of the property that we have been talking about here recently also had a very specific need to sell -- or desire to sell the property that was certainly related to value, but more so do what was going on internally. Again you can't really predict those. You could probably predict they won't be sold when they're at the rock bottom, but I think that is as much an indicator.

Last question for Dean. You did a couple of fixed-rate debt deals. Are you finding it easier to get more conventional debt on your portfolio now versus historically, has anything changed there?

I think the company and the property type has been well-received. It is still a very unique asset type. But the banking world has actually received the product well. We have really educated lenders and they underwrite them very well.

I think what you have seen over time is that pricing has improved, along with all product types, in the fixed-rate debt market today. I think over time and going forward it may tighten up a bit in the favor of the lenders, or spread a bit further I should say. But again, we find fixed-rate financing to be a very acceptable bank product for the Company and our property type.

Three years ago, if you remember, this is probably close to four times the size of loans we used to do three years ago. We are able to even put very large deals into the market and it is very accepted.

John Stewart, Credit Suisse.

Jim, could you clarify what you meant by substantially leased at Mission Bay? How much space do we have left to go in that building?

We have got most of the first floor, and really kind of a smattering of smaller suits on two and five.

The percentage leased today?

I knew you're going to ask that. My guess would be 70% maybe.

I would say 70% to 80%. Actually there are some discussions going on with respect to virtually all of the vacant space.

Right, exactly.

That's helpful.

That is really committed space.

Joel, can you give us any color on the terms of the ground lease at East River Science Park?

I think what we will do on that is I can tell you in general the ground lease payments are pretty -- compared to the value of the property and the value of the project, they're pretty diminimus. When we do our call next quarter, and after the EDC approves this, I will be able to go public more officially. But it is extremely favorable.

In essence they have really held out this property from the market. They could have sold it or ground leased it to a high-rise residential developer and made a killing, but they didn't do it in order to promote this sector of the industry in New York. It really is -- it really is not a burden on the property virtually at all. It is almost like -- it is just not much of a burden at all.

The term should definitely -- the yields you had talked about on that historically should definitely be achievable based on the ultimate outcome of the ground lease?

I would certainly hope so, based on if we can manage our cost structure well, which I think we feel we can, and achieve even -- anything comparable to the low end of Cambridge rents, we should do really well.

The 16% floating-rate debt that you mentioned, that was as of September 30?

Correct.

The term loan was done in October, so is there a change in that? What does the mix look like today, do you have a sense?

That is a good question. The credit facility that we completed did not have in itself a change in the mix of variable versus fixed. Activity post 9/30 would have.

It is not as if you took out a $600 million floating-rate term loan since the end of the quarter.

That's correct. The $1 billion facility was increased to $1.4 billion. I think what you'll find, as I hinted in my comments, that we will continue to look at probably both increasing the notional amount in effect through additional contracts, up and above $500 million, and also extending out contracts further in the future as this facility now takes us out to late 2011 through a five-year term. We have a four-year term on the revolving facility and a five-year term on the term piece.

In that is pretty exceptional in the marketplace today.

Lastly, Dean, since you referenced the in-house research platform, do you have a sense for what your track record has been on the investment portfolio in terms of the IRRs on investments that you have sold?

It has been exceptional. I won't give it out, but it has been exceptional.

Can you give us kind of a range?

Because -- I'm hesitant to try to do that. It wouldn't -- I think it wouldn't be -- really it is not kind of the reason we do it or the focus, but I think it has been exceptional. The reason, you know, because you certainly paid a lot of attention to this over time, the focus really is to obtain and maintain and really utilize the most leading-edge state-of-the-art information on the technology sectors kind of horizontally and vertically in the product and clinical trials side. But I can say it is done very well.

There are no further questions at this time.

We would like to thank everybody very much for joining us and look forward to our fourth quarter and year-end conference call sometime late January or early February. Thank you again.

That does conclude today's teleconference. Thank you for your participation and have a lovely day.