Brandywine Realty Trust (BDN) 2017 Q3 法說會逐字稿

Good morning. Thank you for standing by. At this time, we'd like to welcome everyone to the Brandywine Realty Trust Third Quarter 2017 Earnings Conference Call. (Operator Instructions)

I'd now like to turn today's conference over to Jerry Sweeney, President and CEO. Sir, you may begin.

Holly, thank you very much. And good morning, everyone, and thank you all for participating in our third quarter earnings conference call. On today's call with me are George Johnstone, our Executive Vice President of Operations; Tom Wirth, our executive VP and Chief Financial Officer; and Dan Palazzo, 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 estimates reflected in these statements are based on reasonable assumptions, we cannot give assurances 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 we always do, we'll provide an overview of our '17 business plan. And we'll also introduce 2018 guidance and we'll provide some color on those key assumptions.

Before starting that component though, several overriding comments. As noted in our press release, we exceeded our sales target by over $230 million, more than doubling our projected 2017 volume of $200 million. We have said all year that if the market presented us with an opportunity to exceed our target that we would do it. It did, and we think it's actually great news for the company. We harvested significant value creation, continued our portfolio refinement, prefunded our 2018 development pipeline and further delevereged, both directly and through joint venture, debt attribution. That velocity of sales though clearly has had an impact on our near-term earnings forecast. For several years, we've maintained that balance sheet considerations are paramount. And as we looked ahead, we see a tremendous opportunity to create great value for our company through our development pipeline. That costs money and our overriding goal is to deleverage. So we did see a window to accelerate sales, while at the same time, continuing to grow earnings, increase our dividend, prefund our development pipeline and get on a clear disciplined path to our 6.0x EBITDA target. The impact was that our 2018 FFO forecast of 6% growth is below street estimated growth rates. But we felt it was effectively counterbalanced with a 16% cash flow growth rate, no funding exposure in our development pipeline and the financial discipline of creating a stronger balance sheet by year-end 2018 in accordance with our 5-year plan. All of these efforts have culminated in certainly reinforcing our cash flow trajectory. And given our visibility on cash flow growth, we also are announcing our intention to raise our dividend by 12.5% or $0.02 a quarter or $0.08 annually during 2018.

So in stepping back and looking at where we are going, the story of 2018 is really one of FFO growth, CAD growth, dividend increase, prefunded development pipeline and an EBITDA target range of 6.0 to 6.2x. I know that we missed consensus estimates, but that was really driven by several key factors, the major one of which was obviously the doubling of our sales target, but also augmented by our 2017, 2018 spot known vacancies that reduced our year-over-year average occupancy rate and the burn-off of some third-party development fee income.

But with FMC coming online and the other strong portfolio metrics, we felt we created the earnings momentum to accelerate the sales whilst still posting earnings and CAD growth. The vacancies that George will walk you through are in projects and submarkets where our operating teams excel and our business plan for '18 forecast lays out a baseline absorption pace that we believe is conservative and very achievable.

So moving ahead, there are very few pieces left in our '17 business plan. And we have good visibility on projected results. Certainly as a consequence of that, we've either increased or tightened most of our 2000 (sic) [2017] business plan ranges. For the year, our focus, as we've articulated on previous calls, has been on operational performance, growing cash flow on our disposition program and we believe that focus has paid off.

A very quick recap of '17, all of our operating goals are essentially in the bag, with 99% of our speculative revenue target achieved. We ended the quarter where we thought it, 92% occupied and are at 94.1% leased. Mark-to-market for the quarter on a GAAP basis was 10.7%, 3.2% on a cash basis, which helped us maintain our '17 range of 6% to 7% of GAAP and 10% to 11% on a cash basis. Retention was slightly ahead of our plan at 81%, and as anticipated, our same-store numbers for the quarter were a negative 1.3% on a GAAP basis and 6.3% on a cash basis. And for the year, we are maintaining our GAAP NOI growth rate of 0% to 1% and our cash NOI growth rate of 7% to 8%.

Our leasing capital metrics continue to perform on plan, so we're leaving that range intact. And on the investments front, we sold the $220 million of additional assets during the quarter, primarily highlighted by 2 sales within our 50% ownership joint ventures, a $333 million portfolio sale in Austin and $106 million sale of an office property within our Allstate DC joint venture. So year-to-date, we've sold a total of $370 million and are increasing our disposition target by the $230 million to $430 million for 2017.

We have several other properties in the Pennsylvania suburbs, aggregating about $60 million under agreement that we anticipate closing during the fourth quarter of '17.

As part of our Schuylkill Yards development, we closed on 2 redevelopment opportunities in University City, containing a total of 340,000 square feet for total pricing of $67 million. These opportunities were funded with $30 million from the borrowings under our credit facility and $32 million of a 1031 exchange from our Concord sale in Q1 '17. We do expect to start the renovation of One Drexel Plaza in the first quarter of '18 and anticipate about an 8.5% yield upon completion in 2019.

Some other news on the development front, we did announce our anticipated construction start of a 165,000 square-foot building at our Four Points campus in Austin, Texas. This project is 100% leased to an existing tenant under a 10-year lease. They needed expansion space, with our estimated construction costs of roughly $48 million. We anticipate delivering that project in Q1 '19 at an 8.4% return on cost.

We continue to make great strides in Broadmoor 6. Our renovation of this 144,000 square-foot building is really the first step in us executing our overall master plan for the Broadmoor campus. And during the quarter, we leased additional square footage bringing us to 79% leased with a strong pipeline of activity. We expect to deliver that building by the end of this year and stabilize in Q2 '18 at a 9.8% cash yield on cost.

We're also continuing with construction of our second building at Subaru of America at our Knights Crossing Campus. That project is also 100% leased to Subaru on an 18-year lease at a 9.5% return on cost that also incorporates 2% annual bumps. We expect to deliver and stabilize that project in Q2 '18.

On FMC, we have placed the final residential units fully into service. The hotel and service segment will close October at about 70% occupancy and for the market-rate rental residences, we're currently 68% occupied and 75% leased.

Our revenue pace for 2017 is behind the original plan but with all units now delivered, rates and absorption are in line with our pro forma and we do expect the residential component will be stabilized by Q1 2018.

We also continue to advance planning and predevelopment efforts on several development sites including 405 Colorado, Garza, our Broadmoor master plan and our Metroplex project in the Pennsylvania suburbs. We are also finalizing plans for 2 smaller renovation projects in the PA suburbs that we expect to deliver in late 2018 and early '19.

From an overall standpoint, the development pipeline is 83% preleased and our projected 2018 development spend has been fully funded through the sales accelerations. As Tom will review in much more detail, we did tighten our guidance range from $1.34 to $1.38 per share to $1.32 to $1.34 per share primarily driven by those factors I mentioned earlier. Looking at 2018, the headlines of the plan are the 6% increase in year-over-year FFO growth, 16% increase in cash flow, punctuated by a 12.5% dividend increase. And we had this year an FFO range of $1.36 to $1.46, which, as I acknowledged earlier, is below street consensus primarily again driven by those factors.

We have also included to provide some additional guidance to the analysts or investors, a new page in our supplemental package, which compares our 2018 plan to the 5-year metrics and targets we laid out at our recent Investor Day so you can easily track our forecast versus our 5-year plan that we outlined during that meeting.

In quickly looking at our 2018 plan highlights, based on $26 million speculative revenue, which is 49% complete; 2000 year-end occupancy levels will range between 94% and 95%; leasing levels will improve to between 95% and 96%. However, as I noted, our average same-store occupancy in 2018 will be around 92.5% versus our 93.5% average in 2017, which is primarily driven by the large tenant vacates that we've highlighted on previous calls that are occurring during 2017. Now obviously, from a mathematical standpoint, that lower average occupancy has impacted our annual same-store growth rate for '18. We are forecasting a retention rate of 67% and a blended GAAP mark-to-market to range between 8% and 10%. And while we expect 4% to 6% cash mark-to-market on new leases, our blended cash mark-to-market will be between negative -- between 0% and 2% after adjustments for the Northrop Grumman lease that George will talk about during his presentation. Same-store numbers as a consequence will range between minus 1% to plus 1% on a GAAP basis and 1% to 3% on a cash basis.

Leasing capital is up slightly year-over-year primarily driven by the lower levels in '17 due to the no capital IBM renewal that we did for 586,000 square feet in the first half of '17. But the capital costs remain well within sight or 10% to 15% of revenue target. We do anticipate our net effective rents will increase 6.6% from 2017 levels. We are not programming any acquisitions or sale activity during 2018. We are projecting, however, one additional development start, that we anticipate will range between $50 million and $100 million during the year based on a pretty strong pipeline of potential deals. Just to reinforce, we will not start any new development without a significant prelease. Tom will touch on our financing plans, on our unsecured bonds due on term loans. And as a final point as been noted, a real beneficiary we see of our 2018 plan is the achievement of our real goal to grow cash flow and improve our CAD payout ratio. So with our 2018 CAD pay ratio will range between $1.05 to $1.15 per share. When you factor in our targeted $0.02 per quarter, $0.08 per year dividend increasing that to $0.72 a share, we do anticipate our CAD payout ratio will be 65% at the midpoint. And on an FFO basis, again at the midpoint, our 2018 payout ratio will be around 51%.

So with that overview, let me turn it over to George to look at our operating performance including some color on 2018 business plan. George, will then turn it over to Tom to review our financial performance.

Thank you, Jerry, and good morning. We're pleased with our third quarter results, the substantial completion of the 2017 business plan and the momentum of our operational performance has generated -- that has generated into the coming year of '18. Leasing activity remains robust in all of our markets. The pipeline excluding development properties stands at 1.7 million square feet with 557,000 square feet in advanced stages of negotiation. During the quarter, we generated 82 space inspections, totaling 506,000 square feet, which represents 55% of available square footage.

Turning to our 3 core markets and the underlying base assumptions contained in the fourth quarter of '17 and our 2018 business plan. For CBD Philadelphia, we're currently 93% occupied and 96% leased. During the third quarter of 2017, FMC Tower and 1900 Street -- 1900 Market Street were placed into service and we acquired 3000 Market Street. We expect to finish 2017, 94% occupied and have several transitional vacancies in our 2018 plan.

First, as discussed on previous calls, a 100,000 square-foot tenant will vacate Three Logan Square on December 31. We've assumed in our 2018 plan that 60% of this space is reabsorbed; 40,000 square feet in June and 20,000 square feet in November. Based on the tenant's expiring lease, we have a slight roll down in cash rent and a 20% increase in GAAP rent.

At Cira Centre, 2 full contiguous floors totaling 55,000 square feet roll on June 30. Our 2018 plan assumes these floors will remain vacant for the duration of the year. Our leasing plan for 2018 in the city will result in a year-end occupancy between 95% and 96%, up 100 basis points from our projected year-end 2017 occupancy. However, as a result of these transitional vacancies, the average occupancy of our CBD same-store properties will be 94% in 2018 versus 96% in 2017 or 200 basis points lower.

Turning to the Pennsylvania suburbs, the focus remains on Radnor, based on move-outs that occurred earlier this year. As we discussed previously, 5 tenancies totaling 189,000 square feet vacated during 2017. To date, we have leased 64,000 square feet, with 28,000 square feet taking occupancy in the fourth quarter of 2017 and 36,000 square feet occupying next January. We have assumed 96,000 square feet will be reabsorbed in the third quarter of next year, with the final 29,000 square feet taking occupancy in 2019. The cash mark-to-market on these spaces range between 6% and 8%. Similar to the City, these Radnor vacancies will result in an average occupancy of 89% in 2018 versus 92% in 2017 or 300 basis points lower.

Turning to Metro D.C., the Northern Virginia office market drivers continue to be Metro access and fully amenitized buildings and office parks. Regional job growth continues to be driven by the professional and business service sectors adding roughly 19,000 jobs or 22% of all jobs added over the past year. We extended our largest lease rollover in the region by renewing Northrop Grumman for 5 years in Dulles Corner. We're presently 51% complete with the regional business plan. Additional renewals account for over 50% of the remaining plan in our D.C. leasing for 2018.

Tour activity during the quarter were 21 tours totaling 150,000 square feet, which was both flat quarter-over-quarter and year-over-year. Our leasing plan for D.C. in 2018 calls for year-end occupancy between 91% and 92%, a 100 to 200 basis-point improvement over 2017 year-end levels.

Market dynamics in Austin remained strong and positive. At Broadmoor, we're now 79% leased and with the existing pipeline of prospects, we expect to be 100% leased by year-end 2017. The remaining portion of our DRA joint venture continues to perform well and projects to continue along those lines in 2018. A handful of short-term renewals are anticipated to be finalized in the coming months and cash rent growth will continue to be north of 10%.

Our overall 2018 plan's off to a good start. While the handful of transitional vacancies described earlier impacted our same-store NOI performance, our leasing plan lays a clear path to year-end occupancy between 95% and 96%. As Jerry mentioned, the primary driver of our 2018 same-store numbers is the impact of these transitional vacancies and having the average same-store occupancy being 90 basis points lower than our 2017 levels. Our mark-to-market cash metrics adversely impacted by the as is renewal with Northrop Grumman, but as we detailed on Page 3 of the supplemental, our new leasing cash mark-to-market will range between 4% and 6%. The same-store will return to growth levels ranging between 3% and 5% on a GAAP basis and 2% to 4% on a cash basis in the fourth quarter of 2018. Leasing capital per square foot has escalated over prior year levels, but at 12% of rents we remain well within our targeted 10% to 15% range. Our budgeted leasing assumptions also contain a third-party brokerage commission assumption for every deal. Our historical run rate of direct deals is 30%, which could lead to an overall reduction in leasing capital going forward.

And at this point, I'll turn it over to Tom.

Thank you, George. Our third quarter net income totaled $18.8 million or $0.11 per diluted share, and our FFO totaled $61.9 million or $0.35 per diluted share.

Some observations for the third quarter are: same-store NOI growth for the third quarter was negative 1.3% GAAP but positive 6.3% cash. Growth excluding net termination fees and other income items, we've had 19 positive quarters of the cash metric improving. While we've had negative quarterly same-store GAAP NOI growth, we continue to anticipate positive growth for the full year.

G&A expense decreased from $6.7 million to $5.8 million, and our third quarter G&A was below our $6.5 million forecast, primarily due to the timing of professional and other fees that will be incurred in the fourth quarter. FFO from our unconsolidated joint ventures totaled $8.9 million, below our third quarter projection by $0.6 million primarily due to the sale of 7101 Wisconsin during the quarter.

Interest expense totaled $19.7 million, a $600,000 sequential decrease from the second quarter primarily due to the unsecured bond repayment from the previous quarter.

Our third quarter CAD totaled $42.3 million representing a 67.1% payout ratio. During the quarter, we've incurred $9.8 million of revenue maintaining capital and $5.1 million of revenue creating capital.

Looking to the fourth quarter, property level operating income for the fourth quarter will remain relatively unchanged, with an increase in FMC being partially offset by a -- the sale of one property that's held for sale in our wholly owned portfolio. G&A expense for the fourth quarter will be approximately $6.5 million and for the full year, we're approximating $28 million. Other income, excluding FMC retail, we expect fourth quarter to approximate $0.5 million and for the full year estimate it's $3.5 million. Termination fees also $0.5 million for the fourth quarter, with a full year estimate of $2.5 million. Interest expense for the fourth quarter will be $19.5 million and our full year numbers should approximate $81 million. FFO contribution from our unconsolidated joint ventures should total about $6 million. The sequential drop of $2.9 million is primarily due to the sale of 7101 Wisconsin, the partial quarter sale of Austin Joint Venture, and included in that is also a $1.2 million prepayment penalty for the early extinguishment of debt, which will be a deduction for our FFO in the fourth quarter. We project that our joint ventures will contribute about $36 million for 2017. Third-party fee income should approximate $27 million with $9 million of related expense.

Our general business plan assumptions include the increase of our targeted sales range to $430 million, acquisitions total to $67 million. Both acquisitions represent development and redevelopment opportunities as mentioned by Jerry and the initial 2017 combined GAAP deals will create no accretion in 2017. Our share count on a weighted average basis 178.4 million for the fourth quarter with no additional buyback or ATM activity. Our 2017 capital plan ratio will be between 71% and 80%, reflecting a $9 million revenue creating CapEx for the balance of the year. Our capital plan for the fourth quarter is comprised of $40 million of development and redevelopment, primarily FMC, the Subaru Training Center, Broadmoor and Four Points, the acquisition of One Drexel Plaza for $37 million, a $28 million common dividend, $6 million of revenue creating CapEx and $1 million of mortgage amortization. Sources of that will be $35 million of cash flow after interest, $86 million of net proceeds from the joint venture sale and $59 million for the anticipated sales of properties held for sale at the end of the quarter. This activity will result in $60 million net reduction to the outstanding line of credit and our year-end net debt to EBITDA will be roughly 6.5. Our third quarter fixed charge and interest coverage ratios were 3.2 and 3.5, respectively.

Starting with the 2018 guidance, net income will be $0.39 per share at the midpoint, FFO will be $1.41 at the midpoint also. Our 2018 range is built with the following assumptions. Property-related GAAP NOI will increase $20 million due to the following: FMC will generate an incremental $15 million to $17 million of GAAP NOI as compared to 2017 projections; One Drexel Plaza in 3000 Market will generate an incremental $2 million; and redevelopments including Knights Crossing will generate an incremental $8 million of income between '17 and '18. Partially offsetting those increases are the dilution from the sales that took place within our wholly owned portfolio of roughly $8 million. FFO contribution from our unconsolidated joint ventures will total $28 million, the decrease from our projected $27 million is primarily due to the sales of the joint ventures in D.C. and Austin. G&A, between $27 million and $28 million. And now on investments, we have guided no new acquisitions and one development start. Interest expense will decrease to approximately $81 million to $82 million. Included in that assumption is the refinancing of our $325 million unsecured bond, which matures in April, with a new $350 million unsecured bond offering, we're probably targeting at 10% -- a 10-year bond for that. Issue $200 million bank term loans during the year, roughly at 3.75%. That's to reduce the outstanding balance on our line of credit as we go into the end of 2018. And capitalized interest will decrease from $3 million to $2 million as development pipeline becomes operational. We have land sales and a tax provision which will generate $1.3 million of positive income. Termination fees and other income will be $3 million each and net management fees will be $11 million this year on a net basis. That's primarily due to the couple of factors: One is lower construction management fees of roughly $5 million and that's substantially due to the Subaru headquarters building at Knights Crossing, which will be completed later this year and finalized in the first quarter and that will result in a $5 million decrease in '18; also lower property management fees due to the third and fourth quarter joint venture property sales that will eke about $2 million. Our plan also includes, as announced, the 2 share -- and intent to have a 2 share increase to our quarterly dividend. There is no anticipated ATM or share buyback activity.

Our capital plan for 2018 will include CAD increasing 16% and our coverage ratios will be 63% to 69%. The coverage is very similar to our 2017 coverage on our current dividend. Using the 2018, looking at our uses, we've about $130 million of development, mainly that's going to be sale point, the Subaru Training Center, the redevelopment of One Drexel Plaza as well as 500 North Gulph Road and the Drexel Square development. Common dividends are $114 million, revenue maintained will be $36 million with revenue created $23 million. We have -- we will repay our $325 million unsecured bonds and we will have $7 million of mortgage amortization. The primary sources will be cash flow from operations after interest payments of $220 million, a secured bond offering of $350 million and a $200 million term loan, which proceeds will be used to pay down the line of credit. As a result of all this, we will reduce our line of credit balance by $140 million to just about $30 million at the end of the year. We also predict to have a net debt to EBITDA between 6.0 and 6.2x. In addition, our net debt to GAV will be in the high 30% area. In addition, we anticipate our fixed charge ratio improving to 3.3 and our interest coverage improving to 3.6. I know I threw a lot of numbers and I'll be available to help anyone sort those through after the call. I will now turn it back over to Jerry.

Great, Tom, thank you. Thank you, George, as well. So, sorry our comments went a little bit long, but we're trying to cover '17 and '18. So to wrap up, our third quarter results were strong, '17 plan is essentially completed. And our 2018 forecast we think really represents earning and cash flow growth, little forward leasing risk, a stronger balance sheet and a steady pipeline of development and redevelopment value-add opportunities.

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. Holly?

(Operator Instructions) Our first question is going to come from the line of Rich Anderson, Mizuho Securities.

So first question is, a lot of moving parts in terms of investment activity, do you see yourself committing even more to the Philadelphia region including the suburbs over the next few years? It seems like that's the direction this company is going that -- already leveraged to that market. But do you see reason for that percentage over the next few years to continue to go up? And if so, by how much, if you can give that kind of color?

Hi Rich, Jerry. I don't think we really anticipate it going up that much. I mean, we do think that it was a little -- the activity was a little skewed this year because of the -- I think what we saw was a significant pricing window in Austin, where we wound up selling 1.1 million square feet through our JV. But certainly, we have a lot of expectations to continue to invest in that marketplace. We just frankly thought that given where pricing had gone to, that our better deployment mechanisms in the Austin market were primarily on the development front. And certainly given our landholdings at Four Points, Garza as well as the significant master planning opportunity at Broadmoor, we have a really good clear path there to increasing the revenue contribution coming from Austin. We'll certainly continue to take advantage of, I think, the opportunities we see in Philadelphia. I mean, given our footprint, we do have a unique position to see a lot of activity. But I think we have also sold a lot in the Philadelphia area and we would certainly anticipate that even as part of our 5-year plan, as we're moving forward on liquidating the remaining properties in New Jersey and Delaware and that there'll be some selective pruning over the next couple of years. I would expect that at some of the Philadelphia assets as well.

Okay. Fair enough. And then, a lot of talk about Amazon HQ2, can you provide any color about how Brandywine and the city, and the state is approaching that opportunity? Obviously, many cities interested in having a discussion with them. Anything you can share on this call to talk about that potential for you and for the city?

Well it is the buzz nationally, isn't it? So -- look I think from how we view it, I mean, first of all we thought it was an extremely smart move by Amazon to kind of create an open auction. And at least publicly, without any broker or site selector or outside advisory firm. So we thought from Amazon's standpoint, it really created almost kind of a perfect screening device for them to get the best bids and proposals. And I thought it would really kind of reflected their disruption of existing real estate practices, which is really what has always kind of defined Amazon all the way through. But we're fortunate, from Brandywine standpoint, to be in the mix in Philadelphia, Austin and some participation through our land sites in the overall submission by DC. And I guess our observations have been worked through it now. It's great to see cities come together and align themselves in a political, business, academic, civic level to really present their cities well. And I'm sure that's happening in every city around the country. We're obviously most familiar with the city of Philadelphia. In Austin, we have a great Brandywine team working with the local officials on the submissions. And I think there will be excellent submissions coming from both cities. I think, from a Philadelphia standpoint, I think everyone in the city should be proud of the great effort that was put forth. And I think the city will be presenting a very, very attractive package to Amazon along with great cooperation from the state. And who knows where it goes, I think when we assess Philadelphia, we think it's tremendously well suited. It's a great location in the Northeast corridor, excellent healthcare and university system, great mass transit access, great quality of life, walkable communities, vibrant neighborhoods, emerging business climate with some good traction in job growth, affordable housing and tremendous labor pool access. And Austin, well Austin defines vibrancy in growth. It's fast growing, supported by University of Texas and emerging health systems downs there, great tech sector, really the Silicon Valley East, great culture and an amazing can-do attitude in that city. So I think our goal is we're just enthusiastically supporting each city's bid and stand kind of at the ready to assist the cities in whatever they need us to do to sell the positive aspects of Amazon making decision to locate in the -- into either one of those cities or Washington, D.C.

And our next question is going to come from the line of Jamie Feldman, Bank of America Merrill Lynch.

I guess, just following up on Rich's question, can you talk about specific sites that Brandywine owns that have been part of those bids?

Well I think -- Jim, I think some of the bidding is actually confidential. But I think certainly it's been in the press that we believe our Schuylkill Yards development here in Philadelphia and kind of the domain Broadmoor section of Austin where we obviously have a big presence will be part of that city's bid as well.

Okay. That's helpful. And then, can you just talk more about the leasing market in both the suburban and CBD Philly? Just kind of what you're seeing on the ground. And as you're thinking about backfilling some of these vacancies, maybe just some more color on what gives you comfort on the numbers and maybe the prospects of even beating those numbers?

Sure. And George and I will tag-team. I think, the numbers are still showing we've got good velocity through the portfolio from a leasing standpoint. There are a number of reports that have come out in the last couple of weeks that talked about some increasing resurgence in key parts of the Philadelphia suburbs. King of Prussia in particular, I think, is getting some increased traction driven by a number of factors but also by the fact that there is an announced effort now to expand the rail line to King of Prussia. Radnor continues to be a surprisingly strong performer for us. We have, as George touched on, we've had about 186,000 square feet come back to us, which you never want to see. But if it had to be in one market, we'd rather be in Radnor than in [Horsham] or Great Valley or the 202 Carter. So same thing in Philadelphia, some of the space we have coming back that was in Three Logan, which was a big nut we knew that was coming our way. The move-out of the company at Cira for the 2 floors, we again knew was coming. We've got lot of pre-marketing going on and some good traction. So we're feeling very good about the numbers we've put in the plan. And as George and I both touched on it, you never want vacancy and you never want vacancy when it affects some operating metrics like same-store growth. But the reality is, it happens. We've locked down a lot of rather leasing exposure for '18 that we feel really strong about. And I think the challenge for the company now is just to kind of outperform these assumptions that we know are achievable in the '18 plan. But George?

Yes, I think Jamie, to add to that, I think there are good blocks of space in good buildings. And I think, if you want to be a tenant in Radnor, Pennsylvania, you've got to talk to Brandywine and if you want to be in a trophy building in the city of Philadelphia, you've got to talk to Brandywine. So we've had -- we currently have 31 vacancies within our portfolio in the city. 18 of those have been vacant less than a year. So I think when we do get vacancy, we're able to kind of turn it around. Our '18 business plan, we identified the floors where we've got active prospects and active dialogues and those where we didn't, we took a little bit of a conservative route and slid some of those to 2019.

Our next question will come from the line of Craig Mailman, KeyBanc.

Jerry, I just want to follow-up on the disposition outlook here. I mean you guys have done a really good job repositioning the portfolio over the last several years. But as a consequence, there's really been almost no FFO growth. And I'm just curious as you guys look at the portfolio today, kind of how much more you think you need to sell, and I guess because your guidance in '18 has almost nothing in it. But you've ratcheted it up kind of '17 dispositions as we've gone along. Just curious, your shadow pipeline of potential disposition towards that could be relative to what you guys have kind of baked in the guidance.

Craig, great question. I think, from our perspective the push has really been to make sure that we put the company in the best position going forward. So a consequence of a lot of our sales has been a muted FFO growth rate. And we're always trying to balance that versus the real folks we've had on really getting our balance sheet to where we wanted it to be. So one of the drivers, I think, behind our thought process this year was, we're going to put a lot of things in the marketplace. We see where pricing discovery came in and then make the appropriate decision on kind of point pricing for what we had in the market and how we view that point pricing versus value. But then also factor into that our desire to get our balance sheet down for that 6.0x and preserve some capacity for executing a development pipeline that we think will create great growth going forward. So as we're looking at the 2018 business plan, I mean, we're really down to a very small component of our existing portfolio that will continue to embrace price discovery on. And that really relates to those 3 markets I mentioned in one of the other questions, kind of New Jersey, suburban Maryland and Delaware. And then the only other proviso to that is, if you take a look at a couple of our larger sales this year, they've really come out of our joint ventures, which has been a great harvesting profit opportunity with both our partner DRA and Allstate. And that was very consistent with what we were hoping to do in terms of reducing the debt attribution we were getting from those JVs as a key point of balance sheet strengthening. So we do actually look at this point, 2018 being fairly benign in terms of sales. That being said, we'll continue to kind of keep track of the marketplace and see where we can, at the margin, make money through a sale and deploy that money into more accretive opportunity.

That's fair. And then Tom, maybe could you walk me through how 6% FFO growth from midpoint to midpoint year-over-year translates into the 16% AFFO growth?

Sure. The change in the AFFO growth rate is really coming from our reduction in some of our cost related to free rent. And we expect that we will see our -- as we look at our straight line and deferred rent which is sitting this year, we're expecting it to be close to $15 million, we see that going down to roughly $9 million. So that is part it, that we expect to see smaller growth. Plus I think our CAD numbers are going to be a little lower in terms of revenue maintaining also.

If I could sneak one third one in here. Jerry, you're still adding to Schuylkill Yards additional sites. Just curious, that submarket, that development kind of how much more would you be a buyer of to kind of (inaudible) the rest of the pieces?

Craig, I think from our standpoint, the One Drexel Plaza site was always contemplated as part of the Schuylkill Yards. And when we look at the overall framework of what we're trying to achieve at Schuylkill Yards, the other acquisition was the redevelopment opportunity that came our way and fit very well into as a receiver for a 1031 property. So we think that block between JFK Boulevard and Market Street bounded by 30 and 32nd Street is kind where we are. So we don't really anticipate, as part of Schuylkill Yards, any additional pieces we need to fill in. They were the pieces that were both originally contemplated. And with One Drexel Plaza we'll place that into redevelopment pretty much immediately and really commence the physical work next year. And the 3000 Market Street building we think is a fabulous redevelopment site as the build-out continues to occur.

Our next question will come from the line of Michael Lewis, SunTrust Robinson Humphrey.

The decision to telegraph the dividend raise, your yield is already pretty competitive, I think. Is there anything -- is your taxable income to the point where it's pushing that up? Or is it really just the decision to -- you've had [good] cash flow growth and you want to share that?

It's that simple. I think when we had the board and the management team sat down to evaluate increasing our dividend creates an additional cash call of about $14 million. We're growing cash flow by, call it, between $26 million and $30-plus million dollars. And I think the perspective the board made based upon our pathing to get down to our original debt target was that, we've had patient, engaged shareholders. And certainly, we felt that it was an appropriate step to increase their share of cash flow. We're in good shape in terms of taxable dividend standpoints, so that really was not a driver. It was more just the visibility we have for '18 and beyond in terms of where we believe our cash flow is going really gave the board great comfort particularly when juxtaposed against how we view the solidity of the operating platform, with the operating metrics we're posting as well as, frankly, the very little forward rollover exposure over the next several years that our market leaders and George have really pulled together to create a fairly low risk profile for the company in terms of revenue generation.

My second question, Jerry, I saw that you're one of the leaders working to help bring high-speed rail to King of Prussia. So maybe it's early in that process but maybe you could talk a little about the likelihood, the time frame? Are there sources of funding for that?

Yes, I think it's a coalition that's formed of about in aggregate about 600 individuals and organizations that are -- Michael, are trying to get the -- one of our major commuter lines, a spur created off that to go through the King of Prussia Mall and then through the King of Prussia Business Park where we have a number of assets. I think it has a lot of the momentum. I think it's been identified as a regional transportation priority. King of Prussia is a major employment center in the Philadelphia suburbs. Obviously, has a signing properties King of Prussia Mall, which is now the largest mall in the United States. It has a resurging residential and commercial base and there's a tremendous number of employees that commute from Philadelphia by car out to King of Prussia and I think between the business community, the political community and the regional transportation authority, SEPTA, we've all really identified this as a real economic imperative to ensure that King of Prussia accelerates to competitive advantage going forward. So the costs are north of $1 billion. The environmental impact studies have been completed. The (inaudible) prefunding for all the engineering work is pretty much in place. So there's never any certainty in this kind of climate. But I think that the powers that be, so to speak, have really viewed this rail spur as an incredibly important component of ensuring the region accelerates its competitive position. So from a public policy, regional transportation authority and business community, it certainly seems like it has a lot of momentum behind it to achieve the goal by the early 2020s.

Our next question will come from the line of Manny Korchman with Citi.

Jerry, if you look at sort of your completed dispositions over the last couple of years, it seems like the volume has been doing great, pricing has been good, but it doesn't seem like the rest of the portfolio is sort of getting the growth you'd expect from selling off sort of the bottom, if you will. Am I reading that right or is sort of the result in growth in line with what you expect it to be post all these noncore sales?

I think it's a little bit of a cloudy picture, Manny, in '18, because of the year-over-year weighted average occupancy decline. But I do think when we take a look at the cash mark-to-market on new leases that we're projecting to get for 2018, I mean certainly, look, if you're a landlord the numbers for rent are never high enough. But when you look at it for us to be kind of forecasting a 4% to 6% new lease rate in terms of cash flow and then as part of that we also add on a kind of a 2.5%- plus annual escalator. To us, that is really very strong. When you take the look at our average rental rate that we've had in the portfolio a few years ago versus today, there's been a dramatic increase in our average rental rate, which is frankly, from our perspective portfolio management wise, given us a tremendous ability to keep our capital costs within that 10% to 15% range. So I do think that the growth rate that we were hoping for is, I think, implied in the numbers for 2018. It's just not translating down to the same-store numbers that we were -- that we ultimately think will be our long-term run rate, which is why we really -- when we laid out our 5-year plan, we laid out that our same-store growth rate would be somewhere between 2% and 5%. So we actually viewed that having kind of the midpoint of our same-store for '18 being at 2%, if not the 5%, but the midpoint being 2% is kind of the bottom end of our range. And as George kind of walked through, I think, once we get some of these vacancies, we stop at the mark-to-market that the team's anticipating. We're hoping to kind of move that up higher as I think George outlined, by the fourth quarter, we expect getting above north of 3% same-store growth rate. So I think we see -- in those metrics we're not seeing it this year in the same-store. But certainly in terms of the average rental rate versus our capital cost in the percentage of revenues we're investing, we think that our real focus, as we've laid out, has been growing cash flow like what we actually net after all this work. And I think from that standpoint, I think we're really pleased with the way things worked out.

And then just switching our focus maybe to Schuylkill Yards. Help us think about how you're approaching that? Are you thinking of that as sort of a complement to Philadelphia CBD? Or do you think that ends up being more of a drag or a draw for sort of tenants that want to be, whether it be closer to the universities, whether be in higher tech space, whether more of cluster, and that in time would lead to sort of more vacancies within the CBD itself?

I actually think it has the dynamics to kind of be its own vibrant submarket. I mean, there's clearly going to be interplay. But I think, all of us who were involved in the University City, really view that we're at the kind of the embryonic stage of growth acceleration. We have great anchors with Penn and Drexel, Amtrak's plan, Children's Hospital, University of Pennsylvania Hospital, all those things that we've all talked about. So I think it's one of those unique opportunities where when we look at Schuylkill Yards both near and long term, you have the ability to kind of create a new market, that is very transit accessible. We hope it will appeal to an additive type of tenants to the city as opposed to just bring in people between the Center City, University City. There will undoubtedly be interplay between the 2 markets and we think both have their very strong points. But we think University City has the capacity to bring people in from outside of the city at a pretty good pace. So we're hoping to see that happen. We have 2 other development partners there at Gotham on the residential side and Longfellow on the life science side and they are both actively engaged in kind of thinking through what they view their first steps to be. So I know it was kind of an [unpushed] answer but I think we do view that we can kind of redefine the future of University City by the quality and the mix of product we build and all of that with the national marketing campaign.

Jerry, it's Michael Bilerman speaking. I guess, when you step back and you think about guidance trends from 2017 and clearly the lower guidance from '18, you've talked a lot about the accelerating sales activity which you've proven out some of the values and helped you deleverage and fund the development pipeline, but that's not all of it, right? I mean there is clearly sales happening later in '17, there's been other drivers that have cut 5% off what you originally thought was going to be earnings for 2017 and now you've chopped off another 5% relative to where street expectations are for '18. So what are the other variables that's been at play in your mind other than dispositions because it's not all sales that are driving expectations lower than where you have been and where the street was?

Michael, I think -- as I think, Tom and George both outlined, we looked at '17 and '18 year-over-year, sales were the primary driver. But certainly, the lower average occupancy contributes to that lower FFO guidance and then one of the big kind of specific situations was the burn-off of our development fee related to the third-party development we're doing for Subaru of America. So those 3 factors, kind of the sales, the transitional vacancy impact on same-store and the burn-off of that fee were really the primary components of where we came at for 2018 versus what expectations were in our '17 numbers.

And in your 5-year business plan, one that goes up to 2021, you don't have earnings, the cash flow and FFO target for that, it was all operational. Is that right?

No, we actually did lay out that we wanted our CAD number to grow between 5% and 7%.

On an annual rate? But, I guess, with the moves today, you still feel confident that from the point of when you put that out given how much lower '17 and '18 FFO are going to be relative to original expectations? You'll still be able to hit that compound annual growth by 2021?

Yes, I think actually we look at the -- we laid out the average AFFO growth rate, Mike, that we were forecasting was between 5% and 7%. And we're posting a number much better than that this year. So we have full confidence that every metric we've laid out as part of that investor presentation we'll be able to achieve.

Your next question comes from the line of John Guinee with Stifel.

I guess first, Tom, you'd mentioned in your sources and uses, $114 million of dividends in 2018 versus 179 million shares. That equates to $0.64 a share for the year. And then I'm trying to reconcile that with a 12.5% dividend increase. I guess if I do the math, it really means the dividend increase isn't until year-end '18?

No, it is, this year. If I did that incorrectly then I'll let you know. But no, it is -- the dividend increase is in for the entire 2018 year.

We would expect the dividend to go up $0.02 a share starting with the first dividend payment in 2018.

So has the board formally, in writing, cast and concrete, increased the dividend? Or are they thinking about it?

No, the board had a special meeting to discuss the dividend and adopted the 2018 business plan, which included the $0.02 per quarter dividend increase. They will actually formally declare the dividend at our December board meeting.

Okay, so it's a done deal?

It's a done deal.

Okay. Second is, looks like you're buying One Drexel for about $124 a foot and you're buying 3000 Market for $546 a foot. Can you elaborate a little bit about what these buildings are and what their plan is? Looks to me that 3000 Market is 1 or 2 stories, not much to it. Can you elaborate a little bit more on what the plans are for those 2 assets?

Sure. Absolutely, One Drexel Plaza also known as the Bolton building in Philadelphia, we're going to renovate that, we will not add any square footage to it. But we'll start the reimagination renovation process as I mentioned planning now and then physically starting early next year. And we're targeting roughly 8.5% return on our invested cost. The 3000 Market Street building is essentially a future development site that we believe can accommodate between 700,000 to 1 million square feet at some point in the future. So essentially for us it's a land acquisition that will create some earning revenue for us over the next couple of years while we go through this Schuylkill Yards master planning process.

Got you. Okay. Then I noticed lastly that your dispositions, your asset sales for '17, anywhere from $166 a foot for Newton Square, $117 for King of Prussia, the New Jersey assets about $84 a square, [Calverton] $28 a Square, Concord Airport Plaza about $95 a square, are you done with the sub-$100, sub-$150 a foot assets or are there more that will likely be sold?

Well, we think we're through with most of them. We still have a couple of assets in New Jersey that may wind up trading around the same levels as the previous Jersey sales, but yes, we think that wood has been chopped.

Our next question will come from the line of Mitch Germain, JMP securities.

Jerry, maybe if you could provide some perspective as to what was sold in Austin and how does that compare to what's left?

Yes, okay. Great, Mitch, thanks. Yes, I think in Austin, we -- look, first of all, we have a great partner with DRA. And I think you always hope you make the right calls, we formed a great partnership with them. Since we formed it, we acquired a ton of properties at what in retrospect was truly outstanding pricings compared to where prices have gone to and rents and values have clearly gapped up over the last several years. So as we -- at our partnership meeting, we looked at kind of the embedded value that we had in the overall portfolio and kind of broke it down between what we do to kind of growth accelerators and moderate growth drivers in the portfolio and put that second package kind of out on a very quiet marketing basis, received very good bids and collectively our teams work to a process where we sold that portfolio and made a fair amount of money for both the partnership and for DRA and Brandywine, respectively. I think the remaining assets, Mitch, the partnerships will meet and we have an ongoing dialogue and we'll start to think about now with this tranche done whether we want to recapitalize and refinance elements of this venture, whether we want to take a look at spending more assets into the marketplace depending on where prices is, or whether we hold tight and continue to ride out the market with what we think -- what we collectively think are some of the best assets in suburban Austin.

Great. That's helpful. And another guidance question, Tom. Your comments had said $200 million term loan the supplement, the business plan -- on the supplement suggests $150 million. So just trying to understand exactly what the size of the term loan is likely to be?

I think we're leaning towards the $200 million. I mean, we have $150 million here, but I think we'll probably range between $150 million and $200 million. But I think $200 million is probably where we're going to end up with that.

(Operator Instructions) Our next question will come from the line of Chris Belosic, Green Street Advisors.

Just curious if you could touch on a little more on the '18 development start that you guys have in guidance, is that essentially Schuylkill Yards, is that all exclusive or anything that could potentially kick off there and any kind of build-to-suits that you guys are still thinking in the pipeline?

Chris, we have a hard time hearing you, but I got the gist of the question. The projected development start we have right now, we have probably 4 or 5 projects that we're getting very strong interest in. We haven't really identified, which start that will be. It could be in the Philadelphia area, it could be in Austin, could be downtown or could be elsewhere. So we haven't really identified exactly as we've kind of framed out a dollar range for that. The predicate that governs all of those opportunities that we want to be in a situation where we have a high level of preleasing at 50% range to really get anything off the ground. At the current time, we don't really anticipate a ground up construction start in 2018 at Schuylkill Yards. That could change, but that's not currently part of the thinking. Again, as I alluded to on one of the previous questions, there are -- we have 2 other development partners there and how they're assessing the life science and the residential market may be slightly different than we're assessing the office market right now.

Okay, great. And then maybe just one more. Correct me if I'm wrong, but I believe that at the Investor Day you guys had earlier this year that you're targeting a low 30% deleverage range by the end of '18 and now you're showing high 30%. Is the low 30% range being a longer-term target? Is that correct? It still kind of what looks like that is.

Yes, no, I think of the 2 -- we view the EBITDA number being much more important. I think as you know when you're selling a lot of assets and not quite deploying that same amount of money it has -- it's hard to move those leveraged metrics down. But Tom, maybe you can add on to Chris' question.

Yes, Chris, as we look this year, we're not going to -- as we go in '18, we're going to be a little higher on that side, but again, the cash flow growth and where we see the fourth quarter growth on GAAP is going to get us down to that low 6s. And I think, as we look out the next 2 years, we'll now start to try to get that debt to GAV down. As the cash flow kicks in, we should be able to then lower debt primarily on the line of credit and bring our debt balances down forever. So we were going to hit it -- we were looking at that as a near-term target with the sales we've done.

I'd now like to turn the conference back over to Jerry Sweeney for closing comments.

Look, thank you all very much for participating on the call. We look forward to updating you on a business plan activities with our fourth quarter call in early 2018. Thank you very much.

Once again, we'd like to thank you for participating on today's conference call. You may now disconnect.