Brandywine Realty Trust (BDN) 2014 Q1 法說會逐字稿

Good morning. My name is Felicia, and I will be your conference operator today. At this time, I would like to welcome everyone to the Brandywine Realty Trust First Quarter Earnings Conference Call. All lines have been placed on mute to prevent any background noise.

After the speakers' remarks, there will be a question and answer session. (Operator Instructions)

Thank you. I would now like to hand the conference over to Mr. Jerry Sweeney, President and CEO of Brandywine Realty Trust. Please go ahead, sir.

Felicia, thank you very much. Good morning, everyone, and thank you for participating in our first quarter 2014 earnings call.

On today's call with me today are George Johnstone, our Executive Vice President of Operations; Tom Wirth, Executive Vice President and Chief Financial Officer; and Gabe Mainardi, our Vice President and Chief Accounting Officer.

Prior to beginning, certain information discussed during our call may constitute forward-looking statements within the meaning of the Federal Securities law. Although we believe the estimates reflected in these statements are based on reasonable assumptions, we cannot give assurance that the anticipated results will be achieved. For further information on factors that could impact our anticipated results, please reference our press release as well as our most recent annual and quarterly reports filed with the SEC.

As is our normal practice, I'll provide an overview of our three key business plan components: operations, balance sheet, and investments. George will then discuss the status of our leasing and operating efforts. He will then turn the call over to Tom to summarize our financial results.

We had an excellent first quarter. We achieved outstanding results on leasing, operations, and made additional progress on our development projects. We continued our growth plans in Austin, Texas, including the acquisition of a 54-acre development site at Encino Trace and the previously anticipated contribution of our Four Points project to our joint venture platform.

Given our strong first quarter results and year-to-date 2014 goal achievement, we have adjusted our 2014 FFO guidance range from $1.40 to $1.49 per diluted share up to $1.42 to $1.48 per diluted share.

Broadly speaking, our market's steady recovery continues. Demand drivers continue to emerge with a clear bias towards quality product, which is benefitting our portfolio. Operationally, the first quarter did present some weather-related challenges. Like all other Northeast based companies, we had increased utility and snow removal costs. However, given our multi-year migration towards [triple net] leases and segmented expense stops, we were able to recover the majority of these increased expenses. The remaining non-recovery did impact our margins for the quarter but we anticipate for 2014 our operating margins will be a 50 basis point improvement over that achieved in 2013.

During the first quarter, we leased over a million square feet further evidencing our market's ongoing recovery, and leasing activity was strong across the board. As George will discuss, we have a number of larger near term transactions in our pipeline. Furthermore, the level of [through put] in most of our markets is improving with increased visibility on declining vacancy rates, positive absorption, and a continued moderation of all leasing concessions. So all in all, a positive, steadily-improving picture in our markets.

Our regional teams also did a great job in aggressively outperforming their respective markets. Particularly strong performance continued in our Pennsylvania Town Center locations, CBD Philadelphia, and Austin, Texas. Just as notably, though, our metro D.C. and New Jersey operations continue to see good activity while remaining on the path to recovery.

Our mark-to-market rental rate spreads were very strong on new leasing, a bit below our target on renewals for a tenant-specific reason that George will touch on, but they both showed solid improvement over the last several quarters.

Tenant retention was lower than our plan due to several known large move-outs. However, given more visibility, we have increased our year-end tension retarget to 63%. Leasing capital costs, once again like last quarter, remained under our business plan range of 225 to 275 per square foot.

Despite the very tough winter, we continued our positive trend in same store growth on a GAAP basis of 1.6 and 4% on a cash basis continuing to harvest the benefits of our strong leasing progress and improving rent spreads.

Looking ahead to 2015 and 2016, we continued to de-risk our portfolio by reducing our [forward] rollover exposure to only 7.5% in 2015 and 7.8% in 2016. We are also targeting a year-end occupancy level to range between 91% and 92% with an overall leasing level to be between 93% and 94%.

Bottom line, the key operating metrics we outlined as drivers of our 2014 business plan remain very much on track. Also, as George will touch on, we've increased several of our key targets due to our strong first quarter performance and improved visibility in our leasing pipeline.

In looking at our balance sheet, we remain in excellent shape with strong liquidity. We have no outstanding balance in our $600 million unsecured line and over $230 million of cash and cash equivalents on hand at the end of the quarter. Our cash balances remain [available] for acquisition activity, funding our development pipeline, liability management, and straight debt pay downs. We believe that continued occupancy gains, continued positive operating metrics, and capital recycling will be major contributors in achieving our long-term leverage targets of getting us below six times EBITDA and mid-30s on a debt GAV basis. Those leverage reduction targets remain driving predicates of our business plan.

Given the favorable interest rate environment, we continue to assess a number of liability management and bank term loan extension options. Our objectives remain lengthening our maturity curve, reducing our weighted average cost of debt capital, increasing the size of our unencumbered pool, all while reducing overall levels of leverage.

In looking at our investment program, like the other components of our business plan, that program is also on target. We remain opportunistic and are continually evaluating on both the buy and the sell side growth opportunities. Our plan continues to assume we will be a $150 million net seller during 2014 with most of those sales projected for the second half of the year.

Our press release and supplemental package provide specifics on several recent transactions. I'll cover those very quickly. The acquisition of Encino Trace is a development site in Southwest Texas that can accommodate 320,000 square feet. We purchased that for $9.3 million or $29 per FAR foot. Concurrent with that acquisition, we executed a lease for 120,000 square feet, which equates to a 76% pre-leasing. Construction on that building has commenced.

We are also evaluating the start on the second building depending upon the extent of our leasing activity. The total construction costs for the first building is roughly $43.6 million or $270 per square foot, and we anticipate this project generating an 8% cash return on cost and upon completion contributing this asset to our joint venture with DRA.

Furthermore, consistent with our expectations, we also contributed our Four Points center in Austin, Texas aggregating 192,000 square feet into our joint venture with DRA during the first quarter. We also sold a 17-acre parcel of ground in Austin that had been re-zoned residential for $3.5 million as part of our overall land monetization program. All well-executed trades that advance our business plan objectives in Austin. Also, on our development activity as detailed in our press release and on pages 10 through 12 of the supplemental package, all of those projects are progressing on schedule and on budget.

As we discussed on the last call, we have several projects in the pre-development stage. We remain focused on our project at 1919 Market Street, which is a mixed-use project. We've obtained all final approvals, finalized our development plan, identified our joint venture partner, are completing documentation of financing programs, and we plan to break ground on that in the next 120 days.

The FMC Tower at Cira South will break ground in the next several weeks with a targeted mid-2016 delivery. Since our announcement, due to FMC's expansion [some] refinement to our residential component, we have increased the size of the building by adding several additional floors. We have also added an expanded amenity program, incorporated additional residential units, and enhanced street engagement and public space. The revised building will contain 870,000 square feet consisting of 635,000 square feet of office, 4,000 square feet of retail, and 268 residential units. The total cost is anticipated to be approximately $385 million.

Given the increased office square footage, the increased residential units, we do continue to project the same baseline free and clear return of 8% on a combined basis with an initial 8% to 8.5% return on the office space. We have entered the market to assess both debt and equity financing options and anticipating having more feedback on our next quarterly call.

The stock exchange building at 1900 Market Street in Philadelphia has commenced the redevelopment process. We purchased this 456,000 square foot building at the end of 2012. It remains 77% leased but has a major tenant rollout at the end of 2015. The full range of facade, entrance, lobby, mechanical system upgrades will put our overall investment base between $180 to $200 per square foot, and we expect full completion in time for that tenant vacation by year-end 2015.

On a broader front, we continue to evaluate a wide range of investment opportunities both in Austin, Texas, metro D.C., as well as some of our other core market areas. We continue to be encouraged by the level of activity we're seeing on the assets we have on the market for sale. The range of buyers is from smaller, private investment and development companies to financial institutions looking to place larger amounts of capital.

Solid progress continues to be made on our land management program, and we remain on track to achieve our overall land monetization goals as we have outlined on page 13.

In summary, the first quarter was very solid and built a great foundation for the balance of the year. All of our first quarter business plan goals and objectives have been met and the plan for the balance of the year is on schedule.

So, at this point, let me turn it over to George to provide an overview of our operational performance.

Thank you, Jerry, and good morning, everyone.

Fundamentals continue to improve in all of our markets as the momentum of our regional leasing teams continues to move the Company back to historic occupancy levels. We're outperforming market vacancy in all of our markets with the exception of Richmond and Maryland both due to significant first quarter move-outs that I'll touch on shortly.

In CBD Philadelphia, we're 94% leased with only 1% and 4% of the remaining lease expirations in 2014 and 2015, respectively. Our regional mark-to-market for the quarter was 5.4% on a GAAP basis and 13.4% on a cash basis.

In the Pennsylvania suburbs with our Crescent markets at 98% leased, the deal flow is being pushed to our western suburbs, which are now 91% leased. Our regional mark-to-market for the quarter was 9.5% on a GAAP basis and negative 3.4% on a cash basis. The cash number was adversely impacted by one 17-year lease renewal with a 78,000 square foot tenant in Conshohocken.

Activity in the Toll Road corridor continues at an encouraging pace. Inspections were up 87% for the quarter. We continued to aggressively pursue occupancy and have the Toll Road corridor portion of our Northern Virginia portfolio 91% leased. A known move-out of Northrup Grumman [and] 100,000 square feet will occur on June 30 but deal activity and our projected building capital program to reposition the building will increase its marketability.

We also continue to see good levels of activity in New Jersey from tenants ranging from 5,000 square feet to 50,000 square feet. Markets still slower on the path to recovery are Delaware and Maryland.

Now turning to the specifics of the quarter, we signed over 1 million square feet of leases including 413,000 square feet of new leases and 609,000 square feet of renewals. We commenced 838,000 square feet of leases during the quarter, including 336,000 square feet of new leases, 166,000 square feet of expansions, and 336,000 square feet of renewal leases.

This leasing activity resulted in occupancy of 89.2% and a 91.2% lease percentage. Absorption for the quarter was negative 52,000 square feet as a result of Lockheed Martin vacating 137,000 square feet in Maryland and Travelers vacating 85,000 square feet in Richmond. Offsetting these move-outs was the commencement of Reed Smith's 130,000 square foot lease at Three Logan.

This leasing activity has allowed us to raise two of our business plan metrics while maintaining the rest. Our spec revenue target has increased an additional $1 million to $44 million based on additional renewals and earlier commencements on several new leases. We're 89% complete on this target and 65% complete on the 3.5 million square feet required to generate that spec revenue. Based on additional clarity on expiring leases, we've increased our retention target 300 basis points to 63%.

Some additional color on other metrics that performed outside our annual range during the quarter. Cash leasing spreads for the quarter of negative 3% were adversely impacted by the previously mentioned lease renewal in Pennsylvania. GAAP leasing spreads were within our targeted range for the year. Leasing capital performed very well for the quarter at $2.08 per square foot per lease year as our regional teams continue to push for reduced capital and longer lease terms.

Our weighted average lease term for the quarter was 10.3 years. Retention for the quarter was impacted by the two large move outs I mentioned, but we have increased the annual target to 63%.

In terms of the backfill of Lockheed and Travelers, we have a prospect currently in lease negotiations for 100,000 square feet of the Lockheed space in Maryland. We continue to negotiate with several tenants in Richmond for the backfill of Travelers ranging from 7,000 square feet to 35,000 square feet.

So in conclusion, another solid quarter with strong operating metrics which has us confident in completing the balance of the business plan. And at this point, I'll turn it over to Tom.

Thank you, George. Our FFO totaled $53.6 million or $0.34 per diluted share. Our FFO payout ratio is 44.1% based on our current $0.15 distribution.

Some additional observations regarding the first quarter: Our results include a $1.2 million gain on the sale of a vacant 16-acre piece of land located in Austin, Texas. The vacant land was rezoned to residential and we sold it to a residential developer and this continues our land monetization program.

G&A expense totaled $8.2 million which came in higher than our $7.5 million first quarter guidance. The increase was primarily due to $800,000 of employee severance costs and $100,000 of additional transaction costs associated with the Encino Trace acquisition.

Same-store growth rates for the first quarter were 1% GAAP and 4% cash, both excluding termination fees and other income items. We've had 11 consecutive positive quarters of GAAP metrics and 7 of cash metrics improving quarter-over-quarter.

Operating expenses increased $5.8 million from the previous quarter and the increase is due to a full quarter effect of the operating expenses of Commerce Square and Four Points for about $4 million, weather-related operating costs in the same-store portfolio of about $3.2 million. This is partially offset by the Austin transaction being partially included in our wholly-owned portfolio in the fourth quarter and lower R&M costs.

Our same-store and recently acquired properties were negatively impacted by the weather as operating expenses, primarily snow and electric, increased $3.2 million. However, through our lease reimbursement structure we were able to pass through $2.4 million in tenant reimbursements representing a 75% recovery rate. That net impact was approximately $800,000.

Interest expense totaled $32 million, an increase of $1.8 million as compared to the fourth quarter. The increase is primarily due to the mortgages we assumed in connection with Commerce Square acquisition in December 2013.

FFO contribution from our joint ventures totaled $5.5 million. With $14.7 million of revenue maintaining capital expenditures in the first quarter, we achieved a $0.22 per share in CAD per diluted share and a 68.2 payout ratio. With respect to the quarter-end balance sheet and financial metrics, our 7.1 debt to EBITDA ratio represents a more normalized result with a full quarter impact of the Commerce Square acquisition. Our debt to GAV was 42.6%.

We have $100 million of floating rate debt, no balance on our unsecured revolving line of credit, and $236 million of cash and no maturities other than our $219 million bond maturity due in November 2014, which is fully covered by our current liquidity.

As Jerry mentioned, we are tightening our FFO guidance to $1.42 to $1.48, which is based on the following in addition, the business plan assumptions outlined in the supplemental package. We note the following:

2014 G&A expense increased full year to $25.5 million to $26.5 million to account for the first quarter items with the remaining G&A expense being evenly recognized over the balance of the year.

Interest expense is in the range of $125 million to $127 million down from $126 million to $128 million with second quarter expense approximating first quarter expense. We expect to have $150 million of net sales. With the expectation of Four Points and the Dallas land sales while we continually have properties on the market in various stages of price discovery, we continue to project generic sales at an assumed 8.5% cap rate.

For our core properties, operating income from our core properties should benefit from the improved weather conditions, however will be offset with the contribution of Four Points to the Austin joint venture with DRA. As such, our first quarter core property NOI represents a good run rate for the second quarter.

For the joint ventures, our FFO contribution should remain consistent with our first quarter results.

Second quarter third party management income, leasing and development fees should approximate our first quarter results and our termination and other income line items should also approximate the first quarter.

No issuance under a CEO program and no buyback or capital markets activity are anticipated. There's 160.2 million of weighted average shares for FFO in 2014 and for the second quarter. Our annual FFO payout ratio is expected to be 41.5%. We continue to project CAD to be on a per diluted share between $0.70 and $0.80 per share reflecting $70 million to $80 million of revenue maintaining CapEx. Our plan provides for approximately $25 million of free cash flow after dividends and recurring capital expenditures.

Our capital plan for the remaining nine months of 2014 has a total uses of 526 million and currently assumes 100% ownership of FMC Tower with no capital event in 2014.

For leases, we have $219 million to pay off the secured notes. We have $86 million in development costs, primarily made up of $53 million for FMC and Cira Green, $23 million for Encino Trace, and $5 million for 1900 Market, $77 million of aggregate dividends consisting of the common dividend for $72 million and $5 million for the preferred shares, $24 million of projects at the JV investment level, primarily 4040 Wilson and 1919 Market Street, $56 million of revenue maintaining CapEx, $51 million of revenue creating CapEx, and $13 million of mortgage amortization.

Sources of capital for that $526 million are as follows: $214 million of cash on hand, $128 million of cash flow before financing dividends and interest payments, $150 million of sales, including $26 million which was incurred from Four Points and the two land sales, $14 million net proceeds from the Four Points mortgage, and $6 million for the repayment of a note receivable.

With that, I'll turn this back over to Jerry.

Tom, thank you very much. George, thank you as well. We know it's a very busy day so to wrap up our prepared remarks, first quarter results were very strong, consistent with our business plan, and I think create a great platform for us to continue the execution of our 2014 plan and just as importantly at this point really lay the foundation for a very strong 2015 and 2016.

So with that, we'd be delighted to open up the floor for questions. As we always do, we ask that in the interest of time, you limit yourself to one question and a follow-up.

(Operator Instructions)

John Guinee, Stifel.

Oh, hi. Thank you. Things appear to be going very well. Congratulations. A couple comments. Jerry, you guys are clearly becoming more and more Philadelphia and CBD-centric. Can you drill down, maybe George, on the same-store numbers or what the CapEx commitments are to make deals in the Philadelphia CBD. Also, Jerry, can you touch on the level of interest you'd have in the Commonwealth portfolio? I think Commonwealth owns maybe 4 million square feet in your backyard.

Jerry Sweeney: Sure, George?

Sure. Yes, John, on the leasing side of things, I mean, clearly we're able to achieve longer lease terms, so I mean, the deals we had done during the first quarter approximated nine years in duration. The capital on those deals on average is about $4 per foot per year but again kind of depends on that length of lease term level of finish. And we also look at free rent as kind of part of the capital stack so we try to balance how much free rent we're giving as part of that concession package, but I think all in all most tenants are recognizing that the more the TI cost, the more the rent needs to go up. I think people are starting to kind of balance space needs and going with a little bit more of an open floor plan which can sometimes help control those costs as well.

John, on your second question relative to other assets in Philadelphia, look, we continue to look at our business plan having growth avenues in both Austin, Texas, and in metro D.C. and augmenting that clearly is a strong position we have in Philadelphia. We have targeted a number of assets that we would have an interest in if they would come to market. Certainly, Commonwealth owns a number of properties in Philadelphia that could be good additions to our portfolio but let's see what happens with what they want to do relative to their own business plan. We certainly think that we're in a very good position to continue being extremely competitive and successful in Philadelphia without any ownership change in any of the assets down there but certainly to the extent that any owners of good, high quality assets in Philadelphia would like to put those on the market, I think we would certainly be open to evaluating those as potential additions to our portfolio certainly in the context of what our other commitments are, how the rest of our business plan is going, how our asset recycling plan is going in terms of maintaining portfolio growth, moderate leverage reductions, and moving toward the execution of our overall growth plan.

Then as a follow-up, and Tom, you might have said this in your prepared remarks, so I apologize, but if I look at $236 million in cash, $150 million net seller contributions into JVs, development capital spent, redevelopment capital spent, what's your cash balance at the end of the year? It's 236 now. Can you just give us a range as what you're expecting for the cash balance at the end of the year?

Yes, I think we're going to be somewhere in the $20 million range with the additional capital we've outlined for this year, John.

Okay. Great. Thank you very much.

Thank you.

Jordan Sadler, KeyBanc Capital Market

Thank you. Good morning. I wanted to just drill down on the development a little bit, if I could. Tom or Jerry, how much is embedded in guidance in terms of development starts, development spend for the year, and was some portion -- I might've missed this -- of the tweak to guidance this quarter reflecting the Encino Trace start?

Tom, certainly feel free to pick up. Tom did walk through, Jordan, as part of our use of capital this year all of our projected development spend that we anticipate for all of our development and redevelopment projects for the year. Encino Trace really won't be delivered until next year, so it really had no impact at all on our tweaking our guidance.

So, I mean, if you spend $14 million, I presume there was a cash component there. I mean, is there a capitalization of development? I mean, what's the treatment there from an accounting perspective?

Sure, Jordan, this is Tom. In my prepared, I said we have about $86 million of development starts. Of that, $23 million, for example, was Encino Trace spend. And you are correct, it'll just become CIP and we will have an element of interest capitalization on those costs for the balance of this year as well as next year with the delivery date expected to be in the second quarter of 2016. And that would go with all of the other projects. I mentioned $5 million for 1900 Market, and I mentioned $53 million for combined FMC and Cira Green spend.

Okay, I did catch that. Thank you. I think Craig Mailman has one as well, a follow-up.

Yes, Jerry, a quick question on FMC Tower. Just some more color on the decision there to add more office space into the market where you guys have some redev going on at the Stock Exchange, Liberty's bringing on buildings, Commonwealth's going to have some vacancy. Why not just have the FMC expansion just take down the space you guys had originally planned? What was the reason for the expansion?

Well, a couple factors. One is we've had, certainly, a lot of interest in the projects on the pre-marketing basis, so I think we got some visibility into how well this project would be received on both the office and the residential standpoint. FMC did exercise an additional expansion, which they took another floor and we'll see what they want to do over the next several months, but certainly as part of their announcement a few months ago about splitting their existing company into two pieces, there'll actually be two corporate headquarters in that building which we think changed the near and the intermediate term demand drivers for space in that building.

And then frankly, Craig, as we really assess the marketplace, we really do see this continued movement to quality in the market, as George alluded to, really across all of our markets, but certainly we think that the renovation of the Stock Exchange building provides a different price point for tenants who live in high quality space. That price point will be below the price point we're offering at Commerce Square, which is slightly below the price point that we're offering at the Logans which again is a little bit below what we're offering at FMC Tower. So I think as we segment our portfolio and compare it to that competitive set for that segment, we think that we're in very, very good position and so the increase of the additional office square footage at FMC Tower, we think we'll be able to increase our overall level of returns and our expectations we talked about early on is that we hope to be able to be in a position with FMC that when that project is delivered in mid-year 2016, we anticipate having the same level of success we had with the original Sears Center where it was almost completely occupied upon lease up.

So, it was really a market assessment call on both the residential and the office front and really taking a look at the competitive set and the pre-leasing pipeline we have for the FMC Tower.

Great. Thank you.

You're welcome.

Jamie Feldman, Bank of America Merrill Lynch.

Great. Thank you, and good morning. I guess just first starting out a question for Tom with taking over the CFO role. Can you talk a little bit about what may be different going forward? Do you have any plans to change anything or kind of business as usual?

I think, Jamie, it's going to be business as usual. I think the goals of reducing leverage is still paramount, still be involved in investments a bit, but I would say generally it's going to be business as usual going forward.

Okay, and any plan changes in any kind of reporting or supplemental or the way you provide any data?

I think we'll continue to look to improve the supplemental package. If you have thoughts to improve it going forward, any suggestions would be welcome. I think other than that, it'd probably be the same. I may do a little more in terms of guidance on some of the various components on more of a run rate basis for you guys, but other than that, no. Don't expect any -- too many changes.

Okay. And then I'm sorry if I missed it, but did you say the tenant in Austin and can you just talk a little bit more about your opportunities for leasing the second building and what that market looks like for future developments?

Sure. We did not actually name the tenant yet. There'll be a press release forthcoming on that, but it's an existing tenant in one of our other buildings that's essentially doubling in size and we're layering some backfill strategies for their space, which doesn't mature for a couple years. Look, the leasing pipeline in Austin remains incredibly robust with continued upward pressure on rents. The location of this -- of Encino Trace in the southwest quadrant really positions that project to tap into all the leasing activity in that market. Since we have broken ground on the first building, we've been approached by a number of tenants that range from 50 to 150,000 square feet looking for forward occupancy dates. The benefit we have with Encino Trace given the size of the site itself, the low level of impervious coverage around 13% or so. We have a huge -- a good opportunity there to present a campus environment with a full range of amenity package in terms of outdoor recreational areas, fitness centers, onsite food service opportunities, so it really does very well play into the open space, technology-oriented tenants that seem to be major drivers of space in that market.

So, we'll be assessing what we think the visibility on that additional leasing pipeline is over the next couple months, and if we feel as though we can get one of those across the finish line, I think we'll assess starting the second building, but that'll be a function of what we see over the next, as I said, couple months. We've already priced out the program there to start both buildings at the same time versus a delayed start so we have all of our construction cost numbers pretty well nailed down.

Okay, and my understanding on Austin is the Southwest is one of the few submarkets where you can see more new construction given some of the barriers on new supply. Is that true and how do you think about competitive new supply coming into that market or that submarket?

Well, there's been a couple projects already announced that have fairly significant levels of free leasing. You're correct. The Southwest market primarily due to infrastructure and aquifer constraints tends to be a much more conservative, environmentally-focused part of Austin, which tends to serve as a barrier to new construction. But look, we do operate on the premise that those barriers may be a bit higher but they're not insurmountable. And then other competition could come online, so when we looked at the Encino Trace acquisition, how that would layer into our overall rollover schedule in Austin, we clearly took a look at what the known construction starts are, what we anticipate the construction starts could be in 2015 and 2016 and really looked at the deliveries in 2015, 2016, and 2017 and felt that we were very well positioned in that market through this development and through some of the rollover on our existing portfolio.

Okay, and then can you talk a little bit more about Northern Virginia and where you guys think that market is now and in the cycle and either risks going forward or maybe even upside?

Well, I think it's still recovering. I think clearly tenants are making that flight to quality and that really is what has aided us in kind of getting that Toll Road corridor kind of to 91% leased. We're hoping and only expecting that Northrup is really kind of the last of our big, large move-outs and contractions but we're seeing good levels of deal size from full floor users to multi-floor users. We're seeing expansion within our own tenant base that we're able to accommodate, so look, I think we're still probably another 12 to 24 months until it's all kind of turned around in that market. There's still a lot of inventory beyond what we have, but we're seeing contracting agencies through the portfolio. Cyber security has kind of been an increased tenant mix that we've been trying to accommodate, so we're most of the way there but not fully there I guess is how I would categorize it.

But it's also a good window in the market for us to be as aggressive as we have been and we're -- we've identified a couple of major capital renovation plans that we're moving forward with that present a new palette to the marketplace. Our leasing team down there has done an extremely effective job in broadening our reach, working with our existing tenant base, and certainly working both directly and with third party brokers to get a higher level of exposure to our own inventory, most of which is right up on the Toll Road, so it has some clear advantages to some of the other properties in the marketplace.

We continue to see a good, strong recovery in Tyson's Corner and look forward to the opening of the Metro sometime later this year. But, look, it's a price taker's market. I think we have good inventory. I think we've seen a diminishment of larger blocks of space. All of the feedback that we're getting, both from our tenant base, from tenant prospects, from our government relations people is that there tends to be a much more positive bias to the tone of the market, but as George touched on, it's still in the stage of recovery. We think it's well passed the nascent stages. We think it's more towards the latter stages of recovery with very good visibility, particularly given the fact that a lot of the [brack] situation is behind us and that there tends to be some more positive dynamics relative to forward looks at government spending.

Okay, so I guess back to, I guess, George's comment, the -- in terms of who is expanding, you're saying it's cyber and -- or is it more you're seeing a flight to quality? I'm just -- are you seeing actual expansion or is it more musical chairs?

I would say it's more musical chairs flight to quality, but we are seeing some expansion within our own tenant base.

Okay, and I guess given where you think we are in the recovery, I know in the past you said you'd want to expand in that market or D.C.'s a core market for you to grow, especially maybe Tyson's as the train opens up there. Does this make you want to get more aggressive on acquisition here?

Well, look, we are -- we've been aggressive on acquisitions in terms of underwriting them, both in auction situations and private negotiations. We are still very mindful of where we see rental rates going. We're very mindful of replacement costs. So, we'll continue to be aggressive, Jamie. Whether we actually get our expectations to meet the sellers' expectations remains to be seen but we will continue to focus on trying to grow that marketplace and looking for those spot opportunities where we can get engaged on pricing that seems to make sense for us.

Okay. Great. Thank you.

You're welcome.

Michael Bilerman, Citi.

Good morning. Manny Korchman's on with me. Jerry, so you decided to relieve Howard Sipzner of the CFO duties in March and promote Tom and give him the role. Can you sort of talk about what drove your decision to do that and why you did that?

Certainly. I mean, look, I think the -- as we assess the Company going forward, I think that we felt that Tom's broader base of experience and knowledge in a lot of our markets would help us in executing our growth platform going forward, but I think as the results of this quarter have shown, there was a very effective job being done by Howard and his assistance in terms of maintaining solid financial reporting, forward financial projecting, and we saw the evidence of that with this quarterly update right now.

So you decided to spend almost $1 million to make the change for future savings or for -- I mean, because there was obviously a cost of doing that.

Well, there was a cost of doing that and certainly it's always challenging when you need to make those types of decisions, but I think as we assess the -- where the Company was, where we anticipate it to go, we felt it was a good move to make at that point in time.

And then, Tom, just in terms of making sure we understand guidance, if you turn to page 24, you have two reported FFOs, one that is the reported FFO of $0.34 and then one that's FFO excluding a number of items that's $0.33. As we think about the guidance of $1.42 to $1.48, I'm assuming that relates to the $0.34, just the pure reported FFO, but within that, can you share with us if there's any other sort of land fail gains or any other one-timers that would be propping up that number because I guess if we just look at it you're going from $0.34 in the quarter up to $0.37 in the next three quarters on average to hit the midpoint, and I just want to understand a, what that growth is, so where is that increase coming from as we move through the year, number one, and number two, is there any other one-timers that are in there?

Yes, I'll start with the page 24. My guess the $0.34 is what's embedded in our guidance for the $1.42 to $1.48. We left this -- and we feel like going more to a -- I think in the past we had sort of a core, non-core FFO sort of reporting. I think it's better to just go with an FFO as definition and then give you the components of what's in there and you can make [us sort out] whether some of those are one time and whether they would go forward. We left this footnote in on page 24 just to kind of highlight some of those one-time and also keep the chart in to see what people -- to take it out would take out all the previous quarter information so I thought just to be consistent we would leave it in. In terms of in the press release, we did talk about what we thought were some of the more not one-timer extraordinary, but just one-timer or hopefully non-recurring items relative to what was in the $0.34.

Looking at -- so that's kind of why 24 was done that way. Looking at the guidance going forward, there are no -- in our plan right now, there are no more -- there are no one-time items like a land sale that would create a gain that would be included in FFO. When you think about the run rate going forward, that 37 average does include the HTC credit income that will hit in the third quarter of about $0.07 so we would still have that anomaly hit in the third quarter but more immediate looking at the second quarter, I think as I mentioned looking at the core NOI run rate of the core properties, that will be fairly consistent with what you saw this quarter as sort of a guiding rent starting point.

Right, so you're back to basically flat at $0.34 for the year and you get the $0.07 third quarter payment? Recognition?

Yes. Yes.

Got it. Thank you.

Yes.

Thank you.

David Toti, Cantor Fitzgerald.

Hey, good morning, guys.

Good morning.

Just a couple of quick ones, and I might've missed this. What drove the spec revenue target change? Was it based on the sort of higher renewal rate or changes in the retention rates?

Yes, it really was that clarity on additional renewals which led to both the spec revenue increase and the retention increase.

Okay, and then also, I know you touched on this a little bit as well, the assets you have in the market for pricing discovery, how would you characterize those markets? Are they skewed in particular regions? Are you sort of testing across the board? Does it tend to be more suburban than CBD in terms of what's out there?

Yes, Dave, you were cutting out there a little but I think we were getting the thrust of it. The properties we have on the market tend to be certainly more suburban than urban. They're in almost every market in which we have a current platform so we are continuing to follow our program that we have in the past few years of really going through a price discovery process by putting a number of projects on the market, understanding what we think the inherent value of those projects are, and then testing and see what the marketplace will deliver for those.

So we typically tend to have a pretty active dialogue with both buyers and investment bankers, brokers, etc., on how to assess the various offers that come in. When we do take a look at our sales plan, there are properties that we have on the market for sale in Pennsylvania, New Jersey, Delaware, Maryland, Virginia, California. As you saw, we sold a piece of ground in Austin, Texas in the first quarter. Sold another piece of ground in Dallas, Texas, which was our last piece there, after the quarter closed. So, we tend to take a pretty comprehensive look at our entire portfolio and put a number of things in the marketplace to really test and see what the market will deliver to us and then certainly respond to reverse inquiries from either individual buyers or from larger institutions who are looking to deploy capital.

And I assume the primary criteria is the -- for selection is it the forward growth profile or are there other characteristics that are pushing those assets forward?

Yes, great question. I think when we really assess what we would actually trade, we take a look at forward NOI growth. We take a look, frankly, at capital ratio so the amount of capital that's required to sustain that growth rate on a relative basis, and we certainly developed, as I mentioned a moment ago, our view, our quantitative view, on what we think the value of that piece of property is and we use that to benchmark the offers we get in but certainly forward growth and the capital required to grow that are the key primary determinants. The secondary considerations tend to be market-specific, so do we want to be in that submarket long-term? Do we see a lot of pricing power that we would have as a landlord in that submarket, and if we don't think that's achievable, then that certainly is a submarket we would look to exit, and then we always take a look at whether there's an element of functional obsolescence in the building, whether it's through ceiling heights, HVAC systems, parking ratios, ease of access, change in neighborhoods, etc., to really develop, we hope, a full four corners view of what we think the full value that piece of real estate is.

Okay. That's very helpful. Thank you.

You're welcome.

Michael Knott, Green Street Advisors.

Hey, good morning, guys. Jed Reagan here with Michael. Wondering if you've seen any changes in cap rates and valuations in your core markets so far this year and in particular I'd be curious if you could comment specifically on Philadelphia.

We have not really seen anything that really changed the trend line from what we were seeing last year. I mean, I think we continue to be possibly surprised on the wall of capital and its aggressiveness in pricing assets, so certainly from a buying a standpoint, that creates a bit of a hurdle for us but as we're looking to continue our movement to -- through our portfolio transition, that remains encouraging. I mean, certainly, we're seeing continued cap rate compression in almost every market in which we do business, which is one of the reasons why we're continuing to really push for some forward asset sales as an effective cost of capital for us. But nothing dramatic from the last call, Jed. I think it's the continuation of a strong line of -- or strong pool of potential buyers. Interest rates have remained incredibly benign. In fact, the Treasury continues to hover around that 2.6 to 2.7 range with spreads coming in.

As you all well know, the CNBS market is a major fuel for the acquisition market on the private side. That remains incredibly robust. Commercial bank financing is readily available so we think all of those items I think play very well into those companies like as you're looking to continue to upgrade our portfolio and as I mentioned present some challenges as we -- one of the earlier questions about can we be aggressive in expanding our footprint in D.C., what we're seeing is with that wall of capital, with those large pools of equity that want to be placed in a more highly levered model, that it's very difficult to compete on auction price transactions and have them make sense for us. But I think capital to some degree is driving the pricing metric, but I also think in a number of other markets there is clearly a higher degree of confidence in the continued economic recovery on the part of buyers who are beginning to underwrite more aggressive rents, higher levels of stabilized occupancy, lower capital run rates.

So I think that does bode very well for the office sector in general that you'll continue to see increasing values over the next several quarters.

Okay, that's helpful. And to that point, are you seeing rent growth trends changing in your market? Is there any pickup in momentum or is it sort of a steady trend that you're seeing?

George and I'll tag team this. Look, I think we're seeing a real firming across the board of rental rates as George and I both mentioned a diminishment of concessions. We're very pleased that we've been able to migrate up our annual rent escalations from a range of 1% to 2% to clearly 2% to 3%, lengthen our lease terms. So whether it was in CBD Philadelphia or in some of our town center markets or even now the residual out in the western suburbs of Philadelphia where we're being able to firm rents and push higher, we're seeing that generally across the board.

New Jersey we've had some good activity in our remaining portfolio there and emerged [of] some larger tenants who have kept pricing very firm for some of the larger blocks of space that we leased.

Yes, Jed, I think some of the markets that I touched on in my commentary, I think the fact that vacancy is getting sub 10% is really helping us push those asking rents, but even in a market like Northern Virginia where we haven't necessarily been able to push the asking rent, we are getting kind of that 2.5% to 3% annual escalator to kind of keep those bumps going and trying to get the highest ending rent as possible.

Okay, thank you, and just one more from me. Can you talk a little more specifically about your leasing prospects for the 4040 Wilson development in D.C. and how we should think about the start of the garage build out in the context of you guys potentially moving forward on the rest of the space.

Certainly. Well, look, we did make a decision in conjunction with our partner to commence construction of the garage. We did that for a couple reasons. One, we had negotiated a very good deal on the construction cost side so we [wanted to maintain] the favorable cost components we had on building that garage, but also, to your point, Jed, when we looked at the forward leasing pipeline, a lot of the larger tenants we were talking to and remain in discussions with have delivery dates in 2016 and early 2017. So one of the major reasons why we started the garage was really to compress the delivery period of the project to the extent that those tenants would sign leases with us. We did not make and purposely did not make the decision to proceed with the vertical construction of the building until there's much more visibility on the leasing front.

Okay, great. Thank you.

Thank you.

Young Ku, Wells Fargo.

Great, thank you. Maybe this question's for either Tom or George. So, it looks like your Q2's going to be pretty much similar to Q1 in terms of core cash flow levels, so assuming that then, that assumes 230 BPs of kind of occupancy gains in the back half. I know you guys have 90% of your spec revenue target all locked up but I know that doesn't necessarily jive with your occupancy so I was wondering how much of that 230 basis points of occupancy gain is kind of in the bag versus what's kind of left to go.

Yes, sure. It's George. We've got, as we kind of lay out on page 5 of the supplemental, we've got 821,000 square feet of new leasing still to execute, but, look, we've maintained kind of that total amount of new leasing for the year based on the pipeline of deals we currently have. So, we kind of go through a suite by suite assessment, who's the prospect, where do we stand in the negotiation stage, and we still feel confident that based on the pipeline of deals, the weekly inspections we're seeing, the quality of some of that space that we'll be able to source, negotiate, and close and then obviously get the leased commenced. Some of that's going to be a third quarter event and then some of it's obviously going to be a fourth quarter event. That's why at a 65% achievement to date on the square footage, we're close to 90% achieved on the revenue because these later occupying deals obviously just don't have as much calendar time to them to contribute on the revenue side.

Okay, thank you for that, George. And maybe this is somewhat related, so just looking ahead into 2015, I know you guys said previously that you were expecting kind of year end occupancy to be about 93%. So I was wondering how that occupancy projection should progress and whether there are any major move-outs or contractions that you guys are expecting.

Well, I think we're projecting to get between 91 and 92 occupied at the end of 2014 with 100 basis points on either end of that range from a pre-lease perspective. We haven't kind of formalized the 2015 business plan yet, but I think the expectation as we kind of do our forward modeling is that we would get occupancy into that kind of 92 to 93 range based on where we are. Look, we've mitigated a lot of our rollover exposure on 2015 already and have now really kind of started the focus on 2016, as well.

We don't have the level of known move-outs in 2015 that we've had in 2014, kind of the Lockheed and Travelers of the world, I think, hopefully, knock on wood, are in the rearview mirror.

Okay. Thank you for that.

Jon Petersen, MLV & Company.

Great. Thank you. I wanted to ask specifically about the EVO student housing development at Cira Centre. Campus Crest reported earlier this week pre-leasing looked like it was at 17%, which is pretty far below where a typical student housing property would be leased at this point. I'm just kind of curious how -- just your thoughts on how that is projecting relative to your underwriting and what kind of lease percentage you guys would need opening to get to your cash yield of 7.6%.

Certainly happy to answer that. From a construction standpoint, the project is moving on pace, on schedule so that very important element is very much on track. I think your point is on target if EVO was purely an undergraduate student housing project. By design, as I'm sure Campus Crest alluded to in their call, this is a project that both has a mix of graduate, undergraduate, and young professionals. So, the undergraduate leasing cycle is occurring kind of April and May, and I think we've been very pleased with the acceleration of leasing activity just over the last 30 days, and the increasingly large pipeline that the leasing folks at Campus Crest are pulling together. So I think the next 30 days or so on the undergraduate side are going to be fairly telling.

The leasing cycle for graduate students is really later, kind of mid-summer and August, and I think we're very pleased with the pipeline of activity we're seeing out of the graduate schools at both University of Pennsylvania and Drexel University as well as the outreach that Campus Crest is doing very effectively to some other Philadelphia-based universities. So I think from our perspective and certainly I would expect Campus Crest would share it is it's a little bit too early to tell in terms of where we'll wind up in September because so much of the thrust of the marketing program is geared towards graduate students. The feedback that we are receiving from tenant prospects is incredibly favorable in terms of the design, location, amenity package of the project. So I think we're all pretty happy, being Campus Crest, Harrison Street, and Brandywine, with that level of market feedback, but we are learning to be a little bit more patient in terms of when we're getting leases signed particularly with the graduate students.

We had programmed in the 80% to 85% lease range for the opening year, so there's still some work to do on that, but again, I think as we look at the sequencing of the pipeline, the growth rate in that prospect list, I think, all the partners right now are very much still maintaining a very positive tone on being able to meet or come very close to that objective.

Okay, great. Thank you for that. And then can you remind us on just what your long-term intentions are in terms of that property? Obviously, the location fits with the Brandywine portfolio but student housing doesn't necessarily. Is it something over the long term you would want to sell your interest to maybe one of the partners or a third party or do you want to hold on to it just because of the strategic location of it?

Look, we obviously love the location. We love the project. We're very happy with our partners, but I think as we announced when we initially rolled this program out is student housing is not our business. We're fortunate enough to have a good financial partner and a good operator to kind of augment the leasing process here, and I think it's a TBD. The partnership structure provides for buy/sell options as they all do, so we're very happy with the way things are going, and we'll assess what our long-term intentions are as the project reaches stabilization and we see the value accretion and then certainly respond to what the market is telling us in terms of pricing and hold strategy.

Got you. All right. Thank you. Appreciate it.

And there are no further questions at this time. I would now like to hand the conference over to Mr. Sweeney for any closing remarks.

All right. Well, certainly thank you all for participating in our first quarter conference call, and we look forward to continued execution of our business plan as well as updating you on those activities in our second quarter call. Thank you very much.

Thank you. This concludes today's Brandywine Realty Trust First Quarter Earnings Conference Call. You may now disconnect.