Alexandria Real Estate Equities Inc (ARE) 2007 Q2 法說會逐字稿

Good day, everyone, and welcome to the Alexandria Real Estate Equities second-quarter 2007 conference call. Just a reminder, this 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.

Thank you 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 Alexandria'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, CEO. Please go ahead.

Thank you, Rhonda, and welcome, everybody. With me today -- Jim Richardson and Dean Shigenaga, who you know well.

Thank you for joining us today for actually our 40th reporting quarter, an important milestone in the Company's growth. It has been my honor and privilege to have had the stewardship for these 40 quarters. We are enormously proud of our consistent and outstanding operating and financial track record, and this quarter really was no exception.

I want to address my opening comments a little bit to current market conditions and how that dovetails into Alexandria today. As most of you, obviously, know, there is a major disconnect these days between the capital markets and the underlying assets. I've asked Jim to spend a bit of time on that issue.

Over the last 10 years, our total return and compounded annual growth rate has been at the absolute top echelon of our office peer group. It's useful to look back at 1998, where ARE actually posted a positive total return, where virtually all other peer group companies substantially underperformed. Dean will talk about some of the operating statistics, but this is our 40th straight quarter of positive same-store growth. I think we are the only office or industrial company to so post such a record.

Similarly, 10 years of positive annual mark-to-market on leases is also another pretty big milestone of the Company. I'm proud to also say we have never lowered guidance in the 40 quarters, other than the D-42 charges to preferred stock redemption, and that's a pretty unique record. We've tried to exercise great financial and strategic discipline in raising capital and deploying that capital in an accretive match funding manner.

We have taken the lab space platform, which we invented and pioneered internationally, which has given us, I think, international diversification and exposure, especially important as we move forward into the next decade. We have a huge first-mover advantage in our niche, being first in class. Jim will talk more about this, but best locations, best submarkets, highest-quality buildings and an ability to produce higher return on invested capital, due to relatively low basis of assets, especially our very valuable land bank. We are the dominant platform in each of our life science cluster markets.

I think the 40th reporting quarter marks really a watershed for our tenant base. This is the best that it's ever been. To give you an example, the tenants who contribute over 2% of the net rents include Novartis at about 8.6%; GlaxoSmithKline at about 4%; ZymoGenetics about 3.4%, partially owned by a major European company; MIT at 3%; Theravance at about 2.3%, owned partially by Glaxo; Genentech at 2%; Amylin at 2% and Amgen at 2%.

Really, no tenant quality or concentration issues, and we are very proud of that record. The lease durations of the top 10 tenants average approximately 7.5 years, ensuring long-term reliable cash flow. We're also proud to welcome two tenant additions this past quarter or so -- AstraZeneca and Roche, two important major worldwide pharma firms.

Kudos to Dean and his team; they have scored three years in a row, a perfect score on both the financial audit and the 404 audit. Our unique and superior business model which we pioneered has withstood the test of time over the last 10 years. We do have the preeminent premium product strategy in the best coastal markets with great fundamentals, a preeminent team with premier acknowledge capital and, really, and unparalleled world-class sector expertise and experience. We like to say knowledge, relationships, execution and results.

I think our excellent financial strategy, with the strong and flexible balance sheet, has also enable us to endure with a great track record for these 10 years. I think also we have been selected and retained and engaged by some of the leading and most important governments, institutions and global companies to partner with them, and we hope to potentially announce next quarter a major tie-up with a first-in-class multinational corporation for a worldwide alliance.

I would say at this point, as I look to our future, it's very bright and we look forward to doing even greater things in our coming next decade. In fact, I think we prefer to operate in a tougher macroeconomic environment, so we can even more positively distinguish ourselves than in boom times. This is really a better measure of a company and its management team. I would say ARE is the right place to be as a safe haven for investors of all investment styles during highly uncertain times.

Dean will talk more about the earnings, but again, it was a solid operating and financial quarter. Our margins strengthened to about 75%. Our coverages remained very strong at 3.3 on the interest coverage and 2.6 on fixed charge. Our guidance will stay at $5.61 post D-42 charges; that's about a 10.7% growth, and that also is being kept with an increasing focus on greater asset sales. So I think that's good news for everybody. We will be expanding our asset sales, and Jim will talk a little bit about that.

Our dividend policy -- as you know, the Board increased the dividend 3% during the second quarter, and we will continue to evaluate further increases. As you know, ARE maintains one of the lowest payout ratios in the REIT universe, with about 53.8%, and we are very pleased with that.

Moving on to specifics of the operations, we had a great leasing quarter. Again, Jim will talk about specifics there, and we look for even stronger future increases on rent rolls. Dean will talk about the revenues being impacted by certain lease expirations and the movement of a major asset or collection of assets out of our operating portfolio into development and the accounting applications of that.

Our key focus for the coming quarters will be to push occupancy with rental rate increases, and we think we will be able to do that successfully. We did deliver two properties out of redevelopment in Massachusetts and Seattle. I wanted to take a minute, because many of you ask about the economic sometimes of redevelopment.

A bit of time ago, we made a great purchase in the Cambridge market of a building that we were able to convert and in fact deliver on time and on budget this quarter. Our all-in costs for land, building and renovations approximated about $450 a square foot. Our all-in lease rate approximates about $[51] a foot, so our yield on cost and delivering this with a single successful tenant will be north of 11%. We also delivered four other spaces in Massachusetts, Maryland, Seattle and San Francisco out of redevelopment this quarter.

On the development side, we have 1.2 million square feet in active development, same as last quarter. Mission Bay, which we expect to deliver either third or fourth quarter. Leases in place or in progress give us an occupancy of north of about 87%. So we expect to kick off another Mission Bay multitenant building over the next quarter or two, and then stay tuned for maybe other progress there.

We have two South San Francisco developments which are in marketing and negotiations, and on East River we have one very large institution with a requirement. We are into programming, and we hope to start the LOI negotiations over the next week or two of about 150,000 square feet. We have another important requirement from another New York City institution, a requirement from a New York City life science company and two European company headquarters.

We don't even have a marketing team in place yet or our effort crystallized, which we hope will come together over the next 60 days. So that's all good news. We're likely to start, as I said, Mission Bay 2 in the third quarter, and also we hope to break ground in China this month, and we will report the details of that in November.

We added over 1 million square feet, and Dean will talk to this, to the development pipeline including Cambridge and China. We have a current 5 million square feet in development and preconstruction, and our total development pipeline is about 6.8 million square feet.

Jim will talk a little bit about external growth, but we made two small acquisitions, one in Massachusetts, one in Canada, one small parcel in the Bay Area. We did complete one disposition in the Bay Area at a nice gain, and we expect significantly more to come.

Moving now to the balance sheet for a moment and capital markets, we have continued to maintain a strong and flexible balance sheet. We had a big jump in property under development or land held for development, and again, Dean will talk to that. Our goal is to always maintain, and with the newly redone line, we have increased our debt capacity substantially.

Our capital plan for the balance of 2007 and 2008 will be to utilize that debt capacity we have just adjusted ourselves for. We will be increasing the pace of selected asset sales and maybe a little bit more than would be expected. With respect to East River, we have initiated discussions on a possible minority joint venture as well.

So, as I say, we thank you for joining us. The 40th quarter has been a pleasure to report. I want to turn the comments over now to Jim Richardson.

Thanks, Joel. I'm going to start with just some broad comments about conditions in our core clusters and the general investment climate, and then move into our standard discussion of metrics. Every one of the markets, the submarkets that ARE is in, has either maintained a very healthy stature or has generally improved and tightened over the last six months.

As I have made comments on numerous calls related to this, the vast majority of the asset base is located within the very best locations within the densest and most innovative science and technology clusters in the country. For those that have studied clusters and have listened in on our calls in the past, close proximity to the highest-value resources in these brain trust markets is critical to long-term enduring and growing asset and franchise value.

A couple of examples of that that reside within our own portfolio would be Mission Bay and its adjacency to UCSF and the financial center of the West Coast; the East River Science Park, its close proximity to the nine major academic medical centers in New York City, and also the financial capital of the world; Torrey Pines, immediately proximate, four world-class research and academic institutions; and then Technology Square, across the street from MIT and really surrounded by the highest concentration of commercially prolific scientific enterprises in any square mile in the world. So these locations clearly attract and retain the highest-quality tenants, as we have seen and are continuing to see increasing lease rates.

So with a roster of top tenants as strong as any in the commercial real estate sector, and market conditions and fundamentals that are really beginning to rival those of the late '90s, the current disconnect in the capital markets is really particularly ironic. Getting to those capital markets or, more so, to the investment side, we haven't seen any real increase in cap rates in our key cluster of premier locations, and obviously our efforts are focused in those areas. The uncertainty in the debt markets has really not eroded investment demand. It's seemed to have been counterbalanced by steadily improving fundamentals including appreciating rents, declining vacancy rates, limited new supply and then a real diverse and broad demand from the science and technology sectors.

Clearly, the underlying strength of ARE's assets directly related to these factors is as high as it was before the capital market correction. In fact, we believe that the strength and value of our assets is as good as it has ever been in the history of the Company. I think Joel's comments certainly reflected that.

So as we look at our strategy and activities moving forward, our unique strategy remains consistent. We're going to continue to build our franchises in these premier brain trust markets in the absolute best locations, through a combination of value-added acquisitions, land development assets, highly accretive and selected stabilized acquisitions, as well as the departure from a couple of submarkets where we believe that we have maximized the value, and I will talk a little bit about that later.

We obviously offer a differentiated product and service offering, through innovative and technically superior resources. I think that the delivery of the two assets from the redevelopment pipeline on time and on budget and in multiple spaces, the two value-add requisitions in key or core locations, the disposition of a non-core asset and then the continued strong leasing performance exhibit the discipline and adherence to this plan quarter to quarter.

So with that, let me turn to our leasing over the past quarter and the first half of 2007. We had, as reflected in the press release, very solid activity, with 334,000 square feet in the first quarter, aggregating up to about 800,000 square feet year to date. In the quarter, 45% of this activity was renewed or released space, with the remaining being on previously unoccupied space, and the distribution of the activity was heavily weighted towards the East Coast, with about 80% occurring East and 35% of that total, of the entire total, in Massachusetts, as well as 30% of the total in Maryland. So good activity in those core markets.

As those who have listened to our calls in the past know, going into 2007, our biggest exposure on the leasing side was in Maryland. We have now reduced that exposure to 76,000 square feet, while incrementally increasing occupancy in the operating portfolio.

Rent growth at 5.5% is within our stated overall range projected at 5% to 10%. Over the first half of the year, rent growth was at the upper end of that spectrum at 8.4%.

So for the balance of 2007, we have got 400,000 square feet remaining, very well distributed, nearly 90% of it in our four largest core markets, with no single market accounting for more than 25% of the remaining rollover. Important to note that it's high-quality product in really good submarkets, in size ranges that are desirable. About 30% of the space is either committed or anticipated to be resolved shortly, and on the uncommitted space, we are engaged in good activity on several of the more significant spaces -- again, I think, speaking well to the fundamentals in the markets. Then, just as a sidenote, nearly half of the unresolved space expires on the last day of 2007.

We expect to see rental rate growth on new and renewed leases to continue in the 5% to 10% range for calendar year 2007. So let me move to 2008. We have a little bit more than 800,000 square feet rolling over in this coming year. It is also reasonably well distributed with the two largest concentrations remaining in our two largest and most dynamic regions, the Bay Area and eastern Mass.

We're making very good progress. 40% has been resolved or we're anticipating successful resolution, with the balance too early to project incomes, but consistent with 2007, many of the spaces are in great locations and are considered core functions for the existing tenants. We're in early stages of discussions with many of them, and we continue to project rental growth rates at about 10%.

On the vacancy side, the total vacant space is down nearly 10% over the first quarter, at about 670,000 square feet. About a third of it is leased or we're in negotiations. It is also well distributed across the entire portfolio, with the most significant current vacancy in Maryland, which represents about a third of the inventory. Within that piece in Maryland, about 40% of the vacant inventory is leased or we're in serious negotiations.

The activity has been pretty encouraging. We have not yet resolved several large vacancies at our property at 9800 Medical Center Drive that rolled in the first quarter, but we are in active dialogue on much of the remaining available space.

So overall, on the leasing side, I would just close by saying it was another very solid quarter, with good progress made towards the resolution of these future rollovers. I think we have demonstrated again our ability of this fully-integrated regional teams that we have to execute a multifaceted growth strategy, inclusive of consistent leasing at increasing rates.

Let me make a couple of quick comments on the redevelopment activity. We made as Joel mentioned, good progress in the quarter in what is really our very important and dynamic redevelopment program. It's included the completion of the two projects that Joel highlighted and the integration of these properties back into the operating portfolio. We added two additional properties and, importantly, we completed a number of projects in components of the ongoing redevelopment projects, which is going to bring each of them closer to stabilization. As we projected earlier in the year, a number of the properties and/or spaces will consistently come out of redevelopment and be placed back in service through the balance of 2007 and into the first half of 2008.

Turning to development, we are making good continued progress in all stages of the development pipeline from preconstruction, construction through to tenant fit-up. We did not add any additional assets to the active pipeline in the second quarter.

Joel commented on Mission Bay. We have made great progress on our entitlement process there, as I highlighted in the past quarter, and we are likely to initiate development on one or more buildings in the second half of 2007 as we continue to gauge demand levels.

Mission Bay is a truly remarkable place. It has continued to develop at a very rapid pace. UCSF is constructing multiple additional research buildings, while several residential and commercial projects are underway there as well. It is really becoming the science and technology destination of choice on the Peninsula, and we believe this is going to bode very well for our overall construction and absorption metrics.

In South San Francisco, again, as Joel mentioned, we've got three buildings and two projects that continue under construction and are advancing as we expected, with steel recently erected and good interest and activity levels.

On the disposition front, we sold a property in the Bay Area in the second quarter, as we shifted our emphasis out of a specific submarket and really maximized the gain and the value of that asset and the disposition. This is a process and a dynamic that we are going to be methodically deploying in various submarkets through the country, where we don't see the opportunity for significant growth in either our franchise or asset values, that we will take the opportunity to seek the benefit of the heavy demand for product to maximize our gain on these assets, exit specific submarkets and then drive occupancy gains throughout the balance of our core portfolio.

So I would say, in conclusion, that the second quarter represented another consistent and positive set of outcomes across the breadth of our real estate operations. As I noted several times in my comments and Joel did as well, there is obviously a disconnect between core fundamentals and the capital markets, and this is particularly acute relative to ARE, given our extraordinary position in the most vibrant science and technology submarkets in the country. I think the important takeaway from my comments should be the health of the markets that we're in and the continued tightening and economic growth therein.

With that, I will turn it over to Dean.

Thanks, Jim. As Joel had mentioned earlier, the second quarter of 2007 was another very solid quarter for the Company. We continued to execute on our unique roadmap for growth, providing for our 40th consecutive quarter in growth and FFO per share diluted, as well as the 40th consecutive quarter of positive same-property growth on a GAAP basis. We continue to make steady progress in our tenth full calendar year as a publicly traded company with positive leasing activity.

Our results for the first half of 2007 reflects our continued ability to execute and deliver consistent and predictable results period after period. The second-quarter FFO per-share diluted that we reported was $1.42, up 13% over the second quarter of 2006.

Let me take a brief moment to highlight very important capital and balance sheet matters before I review a few important statistics from our operations. First, our average monthly run rate on capital for our four active development projects was approximately $10 million a month, which is about $120 million an an annualized basis. Our active development projects will continue to grow over the coming quarters, and our capital plan going forward includes a variety of sources of capital.

As previously reported in May of 2007, we completed a very important amendment to our credit facilities to increase our facilities from $1.4 billion to $1.9 million billion, consisting of a $750 million term facility and a $1.15 billion revolving credit facility. We also updated our accordion provision for an additional $500 million.

As discussed on prior calls, we will continue to selectively settle certain non-core assets. We have identified potential assets for disposition that may generate proceeds of up to $150 million to $250 million, and we will recycle these proceeds from our asset sales into our value-add development and redevelopment programs.

We have held various discussions internally and with project lending institutions regarding potential project loans for our development projects. We have also held various discussions, as we have mentioned on prior calls, and we will continue to hold discussions on potential JV opportunities.

Lastly, we will continue to pursue opportunities to convert variable-rate debt on our credit facilities to fixed-rate debt.

Briefly, on debt strategy and variable-rate debt exposure, as of quarter end, we had outstanding borrowings totaling approximately $778 million under our $1.9 billion unsecured term and revolving facilities. Our debt to total market cap was approximately 43.5%, and our unhedged variable-rate debt remains very low at approximately 13% of total debt. Consistent with our ongoing policy to mitigate our risk to variable interest rates, we will continue to evaluate opportunities to execute additional interest-rate swap agreements. We will also continue to diligently pursue fix-rate financings for our stabilized assets in order to convert variable-rate debt to fixed-rate debt.

Briefly, let me comment on G&A expenses. We will continue to focus on our employees, consultants and advisors that allow us to grow our business and operations in an efficient manner. Over the past year, we have added key personnel at the management and non-management level with primary responsibilities in development, redevelopment and operations.

G&A expenses on an absolute basis are expected to grow, as we continue to focus on the growth and the depth and breadth of our company, geographical expansion and an increase in staffing in key areas at both the management and non-management levels, including construction and development personnel. Going forward, I also expect G&A expenses as a percentage of total revenues to remain consistent with prior periods in the 8% to 9% range.

Next, moving to certain stats on our operations, our same-store results, same-property results continue to be positive quarter after quarter for 40 consecutive quarters, and we are 4.2% on a GAAP basis and 8.4% on a cash basis, with the majority of the increase in same-property results, primarily due to increases in rental rates. Same-property occupancy was solid at approximately 93.8%.

We continue to execute on key terms of our lease structure, which provides for strong and consistent operating results. As of quarter end, approximately 89% of our leases were triple-net leases, and an additional 4% of our leases require our tenants to pay the majority of operating expenses. This key lease provision provides for a significant recovery of property-level operating expenses, including potential increases in operating expenses.

In addition, 91% of our leases provide for the recapture of capital expenditures, including and not limited to roof replacements and HVAC systems. Approximately 93% of our leases contain annual rent steps that are fixed generally in the 3%-plus range or based on CPI.

Our guidance for growth in same-property performance for the next several quarters remains in the 3% range on a GAAP basis. We really expect to see same-property rental rates to continue to be the primary driver of same-property performance.

Occupancy on our operating assets was very solid and consistent with the prior quarter at approximately 93.3%, and we continue to see this level of occupancy as an opportunity to grow internally through an increase in overall occupancy, which we really expect to see coming over the next few quarters.

As mentioned on prior calls, certain assets contain spaces for future redevelopment and contain vacancy. These spaces have a negative impact on our occupancy statistics and operating results, but clearly provide for future growth through our value-add redevelopment program. These assets will have an ongoing impact on operations until completion of redevelopment.

Margins remain very solid at 75.3% for the quarter, but have been slightly impacted by gross leases that were inherited through acquisitions and by operating expenses from certain suites vacated in the first quarter of 2007 by HGS. On a prospective basis, we're projecting margins to be in the 75% to 77% range.

Straight-line rents for the quarter were about $2.7 million, really reflecting the impact of a $1.4 million payment from one tenant, the US government. Under GAAP, rental payments under this lease are recognized on a straight-line basis over the lease term. Going forward, we're projecting $4 million to $5 million per quarter for straight-line rent adjustments.

Briefly, on this one payment received from the government, this tenant is at a property that contains space that is both operating and space that is currently under redevelopment. Our policy has been to exclude 100% of the property under partial or full redevelopment from our same-property statistics. We really believe that this methodology is important to prevent significant increases in same-property performance as a result of redevelopment.

Other income was relatively consistent with the last couple of quarters. Going forward, our projection for other income is in the $3 million to $4 million range.

Moving next to capitalization of interest, it was approximately $13.5 million for the quarter, and really reflects our ongoing effort with our important value-add redevelopment and development projects, including our strategic effort to move along our preconstruction activities for embedded future developable square footage. The increase is also primarily due to a significant increase in construction activities related to East River Science Park and our preconstruction activities related to projects in Cambridge.

As Joel had mentioned, and as you may have noticed on page six of our supplemental package, we transferred three properties from operations to development/preconstruction. Our original plan for these assets included redevelopment with potential for development, and during the quarter, we finalized our plans and now are proceeding with the entitlement process to significantly increase our developable square footage on these parcels.

This is the primary reason for the significant increase in our balance sheet line item titled Properties Undergoing Development and Land Held for Development. It's also important to point out that GAAP requires income during construction activities to be netted against the cost of a project. Several of our projects under preconstruction fall under this category, really resulting in a reduction of our overall cost basis in these projects.

It's also important to note that this reduces the impact of capitalization of interest associated with some of our development projects and also results in a reduction in rental income. For example, during the quarter, the income associated with Life Science Square, which was roughly in the $1.5 million per quarter range, is being netted against our basis. In addition, rental income was also impacted during the quarter, as a result of the expiration of the lease with HGS in the first quarter of 2007, and that was approximately a $1.5 million quarterly impact.

Our redevelopment program is integral to our unique roadmap for growth. This program generally involves the conversion of non-lab space to lab office space at very attractive yields. It's important to note that we do not place vacant leasable lab space into our redevelopment program. Our current forecast reflects over 400,000 to 500,000 square feet of redevelopment space being delivered over the next four to six quarters.

In closing here, our FFO guidance for 2007 is $5.61, net of the impact of the D-42 preferred stock redemption charge that we recognized in the first quarter. Our guidance for 2007 on a normalized basis to exclude the D-42 charge represents a very solid increase of approximately 11% over 2006. Our EPS guidance has also been updated for 2007 to $2.27, and our earnings guidance is back-end loaded here.

With that, I will turn it back over to Joel.

Thank you. Operator, we would like to open it up for questions, please.

(OPERATOR INSTRUCTIONS). Dave AuBuchon, A.G. Edwards.

Joel, you mentioned at least the discussions right now about a minority interest joint venture at East River Science Park. Can you provide us any more details as you possibly can at this point?

Well, in light of certainly the movement of the capital markets, and taking the most downside scenario as a kind of a go-forward operating view of the market, if the current kind of REIT bear market stays in play, it's clear to us that the largest development project we have going on, we ought to tap the joint venture market. So we have initiated discussions. What we're looking to do is create a venture where we retain the majority of the economics, certainly the control of the project, and that partner would be really essentially an equity partner, but in a minority position.

We think the economics of the project are very compelling. We wish that the markets were not as they are, but they are what they are. So we will, hopefully, go forward with that, and we will have news probably over the coming quarters.

So this was an initiative that is, I'm assuming, fairly new within the last month?

I would say maybe over the last quarter, in anticipation of potentially the market moving sideways. But it's recent.

The increase -- the way I read your comments regarding the asset sales, it sounds like you have raised that potential capital source versus maybe what you had in the first quarter. Is that the same reaction to the capital markets, or just a realization that you are trying to maximize the growth in your portfolio?

Yes, I think it's the former, but also the latter is important. We have been undertaking and will have a series, as we have shared with you before, a series of what we call one-off non-core assets in a variety of markets that we don't wish to pursue, where we have the opportunity to exit in still a fairly good asset sale market.

So we will continue that, but I think as Jim mentioned in more depth, we're looking to raise additional capital by looking at certain submarkets where we feel they are not as good as the top-end submarkets, and we have a chance to liquefy those assets in a way that we can achieve maximum value and at the same time, where we really don't have the opportunity to expand, I think Jim words were, our franchise or maximize any further value. So I think you'll start to see a series of those ongoing over the coming quarters.

I don't know, Jim, if you want to make any more comment on that?

Yes, I think I just would reaffirm what I said before, and is implicit in Joel's comments, is that the values in these submarkets are very strong. There is a whole bunch of activity and capital looking for assets like this. So it does give us a good opportunity to max that value and redeploy those proceeds in a way that may be more productive for us.

Similar to your strategy with the East River Science Park project, does it -- why not sell off a majority position of those assets and perhaps retain some management fee or leasing income?

Yes, I think that strategy, to me, would be if we saw those assets as being particularly strategic long-term for us. I think the ones we're talking about are not in submarkets where we see the need or the interest in trying to expand our presence or franchise. So I don't think that that strategy, although interesting, would apply in these specific situations.

Yes, and I would say, just to underscore, the joint venture which we will likely undertake at East River will have the majority of the economics. So we will have well over a 50% position.

Then can you just provide what the potential dollars are on the asset sales, and maybe bracket the potential cap rate range?

Yes. I think Dean gave a range that could be somewhat up to, say, $0.25 billion. Cap rates -- I don't know, Jim --

I think it's hard to say. These are really all case by case, some kind of varying stages of lease-up. So I couldn't give you a general comment.

That $0.25 million [sic] should be completed by the end of this year?

We would hope that, certainly, a significant chunk of that could be. We still think, again, the sale market out there is strong, the private market is strong. So we would hope that. But can't guarantee that, but that's what we're hoping to do.

I think, given the receptivity that we have seen in the markets and how quickly these things move, I think we feel pretty good about it. But we're going to do it the right way.

Do you view the buyers of these assets as local private buyers, smaller guys?

They are all over the board. Some of them are; some of them are certainly local players. But there's also larger buyers that are looking to aggregate assets in specific regions of the country that I'm sure we'll see. At least that's what I see when we compete for assets, and that's what we have been advised by various brokers.

John Stewart, Credit Suisse.

Joel, just with respect to the requirements you alluded to at East River Science Park, can you give us any more color there?

In addition to what I just shared with Dave?

Well, I thought you were talking about the joint venture, specifically. So I guess what I'm after is, do you expect that you will have some signed leases before you go into this joint venture?

Probably not. We might have one, which is the big one. But I think that the lack of competitive product, the really premiere location and the fact that we've got a ground lease at extraordinarily favorable terms, the economics -- both construction costs and lease rates -- and we have benchmarked our lease rates over or to a year-old Cambridge lease rate at kind of the low end. We think the economics will be compelling.

So you will be able to line up a joint venture partner without having a signed lease in place?

We feel pretty confident.

You referenced, with respect to the asset sales, a couple of times basically exiting certain submarkets. Which submarkets are those?

Well, we would like not to say at this point, but they would be a number of submarkets. When we announce, hopefully, either in November or the following February -- they are submarkets within a larger life science cluster market, and I think Jim was simply saying they're a number of submarkets, some of which are not necessarily the top market, where we feel we can easily exit, we feel there is a strong desire for the product. We wouldn't be increasing our presence in those submarkets, no matter what.

So there are two on the West Coast I can think of, and potentially one or more on the East Coast. But I think I'd prefer not to say at this point.

Joel, you referenced the disconnect between the capital markets and pricing on the ground, and also alluded to your ability to outperform in a challenging environment. I absolutely hear you that cap rates may not have moved on the ground yet. But my question is, what's your expectation going forward? What do you think is going to happen for cap rates for your asset class, assuming that this dislocation in the debt markets remains in place?

Yes. I'm going to ask Jim to maybe comment.

I think it's kind of submarket-specific. I think you are right -- it's hard to imagine that kind of the lower-echelon submarkets won't have some cap rate expansion. But I just see continued very heavy demand for the best locations, and those are the ones that we are -- not only that we have assets in, but that we're looking for additional opportunities in. So I think at this point, it's hard for us to project that there will be much cap rate expansion in the places that we are most interested in being. I think, in the maybe secondary markets, I would expect that adjustment -- if it hasn't already started to occur -- to be coming shortly.

Michael Bilerman, Citi.

Dean, you talked about the Cambridge assets moving from the operating into the redevelopment pool. What was the total amount, in terms of dollars, that went into construction in progress?

Let me give you, I think, a high-level view of that. I think from quarter to quarter, so from March to June, the balance sheet item went up about a little over $200 million. I would say, by and large, close to maybe 75% of that or so was a movement of operating assets to land under development.

These are assets where I think you and others may have seen them, but where the income has moved out of rental income and into an offset to basis per GAAP, and also that one set of assets -- I think we said a quarter or two ago we've already notified tenants of potential terminations. So that is now well underway.

The $1.5 million you referenced -- that was in totality for all the operating assets that moved into redevelopment?

Of assets that went into development, correct.

So there's probably a small accretive arbitrage, at least initially, from taking the $1.5 million and then capitalizing on the $150 million or so at 5.6%?

When we bought the asset?

Well, I'm just saying, today you took -- if we take the $1.5 million, say, it's $6 million annualized, it was about a 4% yield on $150 million. You take the $150 million, you capitalize it at 5.6%, you're getting some accretive impact. I just want to make sure I'm thinking about it the right way.

Yes, I think there might be a little bit, but it's not significant.

You talked a little bit about capital needs and bringing a joint venture partner, potentially, into New York. If the equity markets remain closed -- which it sounds like is one of the reasons why you are looking to do a joint venture -- what is the capital needs, as you see them, for the development and redevelopment over the next two years?

Are you talking in a run rate or --?

In an aggregate sense, how much do you have forecasted to spend relative to the capital that you can get out of maybe from asset sales or other sources that you're going to have to look towards?

Well, I guess, a two-part question. One would be, what do you think the aggregate dollars might be; and, secondly, what might be the offset in dollars raised?

I think, as Dean said, we're looking at probably a number that would be in the range of probably $1 billion plus on the expenditure side, and I think from asset sales, if you looked at potentially anywhere around $200 million, $250 million plus potentially a joint venture, if we ended up at a 60/40 joint venture, that would essentially allow us to fund East River, which has a total construction cost of somewhere north of $400 million to the tune of, say, 40%, which is maybe another $150 million plus. So totally, I think we may be able to cover half of our capital needs, say, over the next the 12-plus months, through asset sales and joint ventures, and the balance potentially with our debt capacity.

Then on the joint venture for New York, what sort of promote structure would you get to bring in a partner at this level? At what point would that promote trigger?

I'm not sure I want to get into that, because we are in discussions. But clearly we would require a promote, number one, for winning the transaction, bringing it to the point of we are under construction. We will have a leasing team in place probably third quarter. My own view of the prospects are pretty solid that we can lease up these buildings over a reasonable period of stabilization.

So I think if you look at development kinds of joint ventures and promotes and asset management fees, et cetera, that are associated therewith, I think you can get probably a general view of the kinds of things we would be looking at. I'm not sure I want to throw out numbers at this early stage in the game, though.

Joel, just a last question. You mentioned in your opening comments a tie-up with a multinational corporation --

Right.

-- for a worldwide alliance. What are you driving at, in terms of that sort of tie-up?

I think it would be two parts, one part being an ability to work with this entity on their worldwide facilities needs, both US and ex-US. So that would help drive our ability to bring that partner, potentially, or a strategic alliance partner to locations overseas where we may have developments either -- that we may initiate or we may have developments in the future, potentially allowing us to work with them more directly in the United States, and potentially working with them on rationalizing and potentially disposing of assets that are not now needed. So I view it as a multifaceted kind of set of relationships.

(OPERATOR INSTRUCTIONS). Anthony Paolone, JPMorgan.

I didn't see Scotland in the press release anywhere; I may have missed it. Was it closed on, or what is the status of that?

Yes, we issued a press release, I think, on May 7th, if I recall, and essentially a joint press release with Scottish Enterprises announcing the signing of the definitive agreement to enter into a development for the Little France site of up to about 1.4 million square feet in Edinburgh. We are in the middle of due diligence, and we will home to bring that project to our Board sometime in the fall and close sometime in the fall. Then there is a commitment to purchase a set of parcels on which we would begin construction, but that probably won't happen until late fourth quarter or early into the first quarter.

So it's not a particularly large cash need over the, certainly, near term. My guess is we won't close on that until sometime well into the third quarter. So that's why, therefore, no specific announcement other than the one announcing the signed agreement in May.

On the leasing side, look out into 2008 and you have about 260,000 square feet expiring. It sounds like you want to start some projects there at Mission Bay. Given how specific your tenant base is, do you worry about competing against yourself with having to do that amount of leasing and putting up some new multitenant projects that you're going to also be doing leasing on?

I'll let Jim answer that. You are referring to the 262,000 rolls in the Bay Area?

Yes.

I think it was a good question, generally speaking. Frankly, having a majority of the product gives us good flexibility on where we would like to direct users ultimately. But I do not see that as an issue here.

Specifically, I'm looking at the specific rollovers that are coming up in 2008. They are kind of sprinkled throughout various submarkets in the Bay Area. As I mentioned before, it's pretty early on, on most of these. Most of these spaces are core spaces, no real significance space in and of itself. So I don't see any concern on that issue.

Also on leasing, when I look out to 2009 and the drop-off in average rents that are expiring, is that mix or is there an opportunity there?

I think I commented on that last call. We think there is opportunity there, but some of it is mix. Some of it is lower rental space, just by its nature in the submarket. But we do see the opportunity for at least the kind of mark-to-markets that we have been experiencing in the past couple of years, you know, that 10 plus.

Then you mentioned that it seemed like it was 90-some-odd percent of your leases that you signed have contractual bumps of 3% or more. Then, when I look at your cash versus GAAP rent spreads -- I think we have talked about this in the past. I'm still trying to get a handle on it would seem like the GAAP rent spread would actually be bigger than 5.5%, if you're getting those kinds of bumps in the leases.

If you turn to page -- I think you're referring to the stats on page 12, which reflects 150,000 square feet, average lease term of just under five years, cash rental rate changes about 3%, and then your GAAP impact being about 5.5%. If that's the statistic you're referring to --?

Yes.

Those members actually work out pretty close, if you did the math and just assumed $1, year one, stepping 3% over four, four and a half years, you would get pretty close to about 5.5% on a GAAP basis.

Okay, I'll revisit that. Just going back to the discussion, then, about selling assets in certain submarkets -- for instance, I look across your portfolio. How strategic is a market like the Southeast? It doesn't seem to come up very often; it has gotten small relative to some of your other concentrations. You talked about selling out of submarkets. Why not just exit that market completely? Are those opportunities out there?

Well, I think they are. I think that's not on our current radar. We think it's a small market. It's a kind of a unique market, given the interaction of three pretty main universities. But we think you may be referring to the occupancy in that part of the world is always a little bit weak.

But that is something that, if a bear market persisted over a long period of time, I think that clearly would raise itself to a level that would be more pronounced. But I think, at this point, we feel like that is still a market that we can grow our franchise in, slowly, and that there are some interesting things to be done there. So that's why we haven't put that up as the highest priority compared to, say, a couple of the submarkets in the more major markets. But I think that's a really good question.

Then just a last item, and not to beat up this East River Science Park too much, but just trying to understand the rationale. It seems like your yield on that -- it seems like such a great project, and your yield would be in the double digits. You hear about New York cap rates still being anywhere from 3% to 5%. So how do you extract the potential value creation so early on, I guess?

Well, I think what's important is, I think, through the -- and, I think, maybe one of the earlier analysts asked the question about the nature of the promote structure. I think there is a significant valuation issue that one would look at when you form a joint venture. You contribute certain assets to that joint venture, and there's a valuation of that asset.

So we would view the contribution of our interest in East River, a fabulously negotiated ground lease as far as the economics to us deserve a significant valuation bump, and also the location and just what we've been able to do to put the team together and actually execute. Then also, not to be sidetracked or diminished, we were able to put together a $40 million plus incentive package, which took an enormous amount of our time and really slowed the ability to get the deal signed. But we felt that was critical before we would sign a ground lease, to have that in place.

So we would hope, in the valuation of the assets in the joint venture upfront, that would be taken account of, and that's certainly our intent.

Just one last question for Dean. You mentioned that straight-line rent, the $1.4 million that you picked up from the US government tenant, I think it was -- I didn't quite understand like what happens to that next quarter? Does that come out, or how does that work?

From a straight-line rent perspective, it would normalize back to the normal level on a quarterly basis. So I expect, if you were to pool that $1.4 million and add it back to the $2.7 million, you would be in that $4 million to $4.5 million run rate going forward. Does that answer your question?

So the $1.4 million wasn't in there in the second quarter?

It was a cash payment which reduces the straight-line rent recorded on the entire portfolio.

So the straight-line rent figure that you gave incorporates that and just seems smooths it out over the course of the lease?

Well, what happens is the $1.4 million, from a GAAP perspective, is reversed because it's a cash payment. That payment is just included in the total contractual rents that are amortized straight-line over the lease term. So it really has no impact to our GAAP results or FFO as a result of receiving an unusually high payment from a tenant, because it's all recorded evenly over the lease term.

Matt Thorp, Cantor Fitzgerald.

This is Matt Thorp for Philip Martin. He couldn't be on the call today.

Could you give us an update on spending on biotech, pharmaceutical and healthcare spending on a go-forward basis, not only at the Company level but also the national level?

Yes, let me give you a couple of stats. Interestingly enough, very strange for the first six months of this year, biotech has -- or broad life science, as defined in the venture world -- the investment has actually outpaced the IT. I don't have the statistics instantly with me, but I think for the first time in a very long time, biotech was -- actually, I do.

Biotech was 21% of investment and actually software and others were back at about 16%, which is kind of interesting. Then also, interestingly enough and strangely enough, San Diego had 24% of all life science investment, Boston 21% and San Francisco 19%. That's the first time I'd seen San Diego up there in a long time, so kind of interesting.

I think the concern at the larger level is I think big pharma is certainly rationalizing itself, as you know by many announcements. Big pharma's contribution to R&D approaches well over $40 billion a year, the biotech industry another $25 billion a year and then the NIH, where I think we have the concern, approximates about $30 billion. So if you look at all the components plus DoD, DoE and a lot of other NSF, there's $100 billion plus pouring into the life science industry, into various aspects of it.

The concern that we have is from the government side, as you know, with the war in Iraq and the Congress unable to get anything done, it seems like, NIH spending has clearly flattened out and the rate of increase is even less than the rate of inflation. So there isn't a real increase.

So we are seeing that trickle down. If you stay with the top institutions, and the recipients who historically have been at the top, generally that money continues to flow reasonably well. It's kind of the mid-tier and lower-tier groups that have historically garnered a lot of NIH funding, and those seem to be falling away. Then there's the overlay of much more focus on translational application. So rather than pure research, it's being focused much more on bench to bedside, and we think that's good.

So that's kind of a quick lay of the land, if that's helpful.

Chris Pike, Merrill Lynch.

A quick question, Joel. Revisiting some of Dean's comments in terms of G&A and even onto the development side, I'm just curious. With respect to your geographic expansion, are the costs materially different to staff, develop and run businesses in the various global regions (multiple speakers)?

That's actually a pretty great question. I think one of the most difficult challenges is, frankly, in addition to just paying people, and that various all over the world -- I think Europe is pretty similar to the US; Asia is somewhat different, somewhat lower. But I think those gaps are closing, as you saw from the Wall Street Journal and hiring in India, actually.

But what really is -- we find to be a challenge, and luckily we have been able to get through it, but it is a tough challenge -- is rationalizing the tax structure and rationalizing the currency issues of just operating in those locations. There are a couple of certainly, great REITs out there who have a long history in the industrial area -- ProLogis and AMB and so forth.

But I think this is a challenge for any REIT or any company going overseas. There's a lot of foundational work that needs to go into it, to really do it correctly.

I guess putting the cart before the horse, then, in terms of setting up hedging strategies and things of that nature, we still have a little more time before we can here or expect you guys to talk about that type of stuff, right?

I think that's a fair statement, as I just mentioned -- I think one of the analysts asked about Scotland, and giving you our timeframe there. We will break ground this month in China, so I think we'll be able to share with you all, probably in some depth in November, some of the details of that. We were hoping to do it this call, but we hadn't broken ground yet and haven't finalized what we need to do. But that, hopefully, will happen on the 21st of this month and we will be able to share that.

But I think, as we look out to the world, every country is different, rules and laws are changing. So to be knowledgeable, both in an employee/labor law standpoint, employee benefits, salary structuring -- it's complicated to go over there. But once you figure it out, then, hopefully it makes it easier to do follow-on transactions, because you've got essentially the foundational costs already invested.

Back to Dean's comments, I think he indicated that the earnings are going to be back-end weighted in the second half. So should we assume that that's a function of, perhaps, sales dilution in the near term? So given that $200 million to $250 million capital recycling program, is it fair to assume that that probably happens a little sooner rather than later, into the second half?

I would probably say the other way, because as Jim kind of teed up, we're working on teeing up a number of transactions. So that takes a bit of time, putting together those packages, the marketing and then the execution. So I would say I would certainly back-end it to the fourth quarter.

Obviously, the model is awfully complicated and it assumes a variety of assumptions. So it's probably more than what we went to get into on the call here.

At this time, there are no further questions. Mr. Marcus, I will turn things back over to you for any additional or closing remarks.

Thank you all for taking time on this Friday afternoon. Wishing you a good rest of the day and weekends, and we'll talk to you in November at our third-quarter earnings call. Thank you again very much.

That does conclude today's conference. Thank you all for your participation, and have a great day.