波士頓物產 (BXP) 2007 Q2 法說會逐字稿

Good morning, ladies and gentlemen. Thank you for standing by. Welcome to the Boston Properties' second-quarter 2007 conference call. During today's presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be open for questions. If you have a question (OPERATOR INSTRUCTIONS). As a reminder, this conference is being recorded today, July 25, 2007.

I would now like to turn the conference over to Kathleen DiChiara.

Good morning, everyone, and welcome to Boston Properties' second-quarter conference call. The press release and supplemental package were distributed last night as well as furnished on Form 8-K. In the supplemental package, the Company has reconciled all non-GAAP financial measures to the most directly comparable GAAP measure in accordance with Reg G requirements. If you did not receive a copy, these documents are available in the Investor Relations section of our website at www.bostonproperties.com.

Following this live call, an audio webcast will be available for 12 month in the Investor Relations section of our website. To be added to our quarterly distribution list, please contact Investor Relations at 617-236-3322.

At this time, we would like to inform you that certain statements made during this conference call which are not historical may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Although Boston Properties believes the expectations are (technical difficulty) any forward-looking statements are based on reasonable assumptions, it can give no assurance that its expectations will be attained. Factors and risks that could cause actual results to differ materially from those expressed or implied by forward-looking statements are detailed in last night's press release and from time to time in the Company's filings with the SEC. The Company (technical difficulty) [does not] undertake a duty to update any forward-looking statements.

With us today I would like to introduce Mort Zuckerman, Chairman of the Board; Ed Linde, Chief Executive Officer; Doug Linde, President and Chief Financial Officer; and Ray Ritchey, Executive Vice President and National Director of Acquisitions and Development. During our Q&A portion of the call, Mitch Norville and our regional management team will also be available.

Now I'd like to turn the call over to Doug Linde.

Thank you, Kathleen. Good morning, everyone, and thanks for joining us this morning. I'm going to begin by commenting on some general trends which have and will be impacting Boston Properties we believe in a very positive way in the coming months and hopefully years.

Many of the most publicized portfolio and active transactions that have been in the works in our sector over the past six months have now been completed. The new investors, many of whom have limited operating experience and whom in the past have not been long-term owners, are now singularly focused on the leasing markets. During our last call, we discussed the attitudinal change with which these new owners are approaching the market and the very strong signals about higher rent levels they have been giving to both renewing and new tenants. Occupancy is no longer king. And net effective rent calculations, which account for all transaction costs, have taken a backseat to high space rents which, in theory, through simple capitalization, will lead to higher valuations and resale prices.

As one of our CBD Boston leasing associates recently said, Christmas has come early. And this same sentiment could be echoed in other supply constrained markets located on the east and west coasts of the United States where we operate. In the CBD's of Boston, New York City, San Francisco and Washington, D.C., and in certain suburban submarkets, landlords are aggressively raising rents. Tenants are not blindly accepting the new rent levels proposed in these markets but are facing a new reality. The absorption of high-quality space, the lack of new additional inventory -- perhaps other than Washington, D.C. -- and the exponential increase in replacement costs over the past two years have been very friendly partners with the landlords in the current market environment.

Now that isn't to say that there aren't risks which could affect landlord pricing power. The investment-grade CMBS market has recalibrated how it is prepared to underwrite future rental rate growth, and this has had a dramatic effect on subordination levels and pricing. If the highly leveraged buyer over the past few years were required to refinance an acquisition today, the capital structure would be very different and reliant on more expensive B pieces and more equity. Nevertheless, recent transactions demonstrate continued capital availability with investors willing to underwrite current NOI cap rates below 4% and to pay prices equal to or greater than replacement costs, deferring any current return on capital.

Until lower cash flows begin to pinch as the time to refinance these current capital structures approach or vacancy becomes a psychological burden, the new owners seem to be satisfied with coming out of the pocket to carry assets until higher rents are achieved and additional value is created. Therefore, every effort will be made to keep rents up.

And what about concerns of new construction taking the edge off rental rate appreciation? This must be examined on a market by market basis. Let's consider the Reston Herndon market in Northern Virginia where 2.2 million square feet of speculative space, not including our Reston Town Center project, has been delivered or will be delivered in the next nine months. Asking rents are in the mid 30s. And this new inventory is less than 5% leased contrasted with Boston Properties' South of Market project which will deliver in 2008 with gross rents in the mid 40s. Ray Ritchie will cover the particulars in more detail in a few minutes. In the face of this new inventory, we completed the sale of our Worldgate asset which lies in the heart of the toll road market for $338 per square foot. Our cost per square foot for South of Market is $328.

Where there is significant new construction, location, product quality and sponsorship continue to be critical differentiating components in creating successful investments. These differences may quickly narrow or disappear, but my point is to highlight the challenge in applying broad brush generalizations about a market to specific real estate projects.

And let's just spend a minute talking about Boston, which has not seen speculative inventory since 33 Arch Street was completed in 2003. Today, there are no less than 2.5 million square feet of potential projects being contemplated by the likes of Vornado, Hines and Boston Properties as well as some strong local players. We expect that the project cost of new construction in Boston to be in excess of $750 per square foot. Tax and operating expenses in 2011, when a new building could be delivered, will be $20 or more. So to achieve an 8% return, average rents of $80 per square foot must be required. In a typical year, Boston absorbs about 1 million square feet. The current Class A vacancy rate is about 10% on a base of 42 million square feet. Just as in Reston there will be winners and losers based on location, quality and most importantly, first mover advantage. How many developers will start? And where will the new inventory really be located? 2011 is a long time from now. I think Ed's going to have something to add on this a little bit later.

One impact of the more hardnosed approach of the new owners in our markets has been continued improvement in our portfolio mark to market. At the end of the second quarter, it has moved up to $8.46 per square foot compared to $6.75 last quarter. So on our inventory of 30 million square feet, the imbedded growth works out to $1.60 per share. Our portfolio average market rent stands at $52.08, a 4% increase versus last quarter, and for the year same store average market rent is up about 7%.

We are clearly seeing the impact of rental rate increases on our same store numbers. Our San Francisco statistics, encompassing 19 transactions this quarter, are a good indicator of the trend in rents in our roll-up. We released 205,000 square feet for a net increase of over 41%. Now, keep in mind that mark to market only translates into revenue increases over time as leases roll and are re-let. So if you look at 2008, we have about 1.6 million square feet of roll-over with an average expiring rent of $41. We estimate our mark to market on this space at about $7 per square foot or about 17% higher than expiring rents.

Now, the disparity in rents within buildings and among competitive buildings in our markets continues to exist. With rents on the best space in the best buildings growing at the highest pace, the condition is actually being exacerbated. This quarter, we signed a lease in Embarcadero Center for $41 at the base of one building while we signed an LOI at $87.50 at the top of another. The magnitude of this gap in rents, especially when it impacts low rise space which we consider to be very attractive, continues to perplex us. Nonetheless, it is a fact today.

Our second generation rent statistics might appear a little bit light in Boston with no increase in the number; at least in terms of what we're showing you. While there is 200,000 square feet in that second generation statistic in terms of their rents from second generation space, about 60,000 square feet of that was in 4&5 Cambridge Center which was previously vacant and not in our ownership. And therefore, it was excluded from our calculations.

Additionally, Boston Properties' move from 111 Huntington Avenue to the Prudential Tower and our new lease at 111, which commenced on July 1st, was also excluded. If we had included that lease, the Boston increase would have been over 50% this quarter. We're currently 94% occupied across the portfolio and as Ray will discuss, we have completed a number of large transactions and our leasing teams are getting great traction on existing space.

Our potential development platform continues to grow. We have made great progress in New York City on our site on 46th and 8th Avenue. The currently completed assemblage allows for an 840,000 square foot tower, but we are evaluating the implications of pursuing an opportunity to increase the project by up to another 200,000 square feet. This project will start about 18 months after 250 West 55th Street where design work is on schedule for a late 2007 start and we are in active discussion with a number of large tenants that rents well in excess of our initial underwriting, which was in the low to mid 90's.

In Anne Arundel County, Maryland, which is close to Fort Mead, we have completed the partnership with the land owner for a BRAC related development and we are now under construction with a 120,000 square foot SCIF building. This building should be ready for initial occupancy by the second quarter of 2008. An additional 300,0000 square feet of development is part of this venture with the potential for an excess of another 2 million square feet over the next decade.

We signed a lease for 160,000 square feet at our 310,000 square foot Wisconsin Place office building and anticipate commencing construction towards the end of the fourth quarter of this year. Ray will cover additional progress on the leasing here as well as negotiations with a tenant that may lead to another building of 230,000 square feet in Reston Town Center. In San Francisco, we ended our pursuit of the Transbay project but are working through permitting of an additional 450,000 square feet at our Zanker Road project in San Jose.

Along with the increased development activities, we have continued to selectively sell assets. This quarter, we signed an agreement to sell our 685,000 square foot Democracy Center asset for $280.5 million or about $410 per square foot. With the addition of this sale, we will have closed over $4.1 billion of asset sales over the past two years. Our stated 2007 property sale expectation, excluding 5 Times Square, was about $500 million. With this sale, we will have closed $550 million of sales other than 5 Times Square in calendar year '07.

We will continue to look at additional asset sales during the remainder of the year. Remember, as a REIT with a requirement to payout what effectively amounts to 100% of our taxable income, sales can lead to special distributions equal to the gains produced to the extent we are not able to redeploy the full proceeds in tax free exchanges. At this juncture, our best estimate is that the gain from sales will be approximately $810 million.

Now let me now turn to the second quarter earning results. Our second quarter Funds From Operation was $1.18, about $7 million more than our projections. $5 million of the out-performance came predominantly from non-recurring items. Specifically, we collected almost $2 million in connection with a revision to the real estate tax base from a lease that commenced in 1999 and was trued up for the last six years. We collected $650,000 from third party leasing commissions and earlier than anticipated tenant improvement fees from some of our joint venture properties.

We had one-time operating expense savings due to the very mild spring which led to lower energy costs of almost $1.5 million, and we had a $600,000 non-cash revision to the treatment of a lease in one of our joint venture assets. The remainder of the income came from higher parking revenue, a little bit of percentage rent, and some earlier rental revenue recognition, about $1.6 million in total. We had slightly higher interest income of about $350,000 than we had budgeted, and we had about $250,000 of savings in our budget for G&A which was net of our write-off of the Transbay pursuit costs.

Now as we look forward, we expect that some of you may be focusing on your 2008 earnings models. We are not providing any 2008 guidance until our October call, but we expect it might be helpful to spend a few minutes discussing our 2007 guidance and the incremental differences between 2007 and 2008, which stem from the many capital transactions completed or expected during the year. With almost $2.5 billion of capital transactions in the first quarter, we thought that looking forward the second quarter run rate would be a useful place to start.

So let's start with some portfolio changes from our extensive sales. The disposition of the Long Wharf Marriott, the Newport Office Park, and 5 Times Square can all be ignored, since having been disposed of in the first quarter, they're not part of our second quarter numbers. Democracy Center is expected to close in early August and it contributed approximately $3.2 million in NOI in the second quarter and had property specific interest expense of $1.7 million.

The only acquisition we made during '07 was Kingstown, and it had a full contribution in the second quarter. If you go back to our April 24 press release, we gave you the full financial projections for this asset.

Consistent with our prior guidance, we are assuming flat occupancy over the remainder of the year. Even without any increase in our portfolio occupancy, same store results for '07 over '06 are expected to be 3% on a GAAP basis and 5% on a cash basis. We expect sequential same store NOI after you adjust for the sale of Democracy Center and those one-time items, the $5 million, which I described earlier, to be flat between the second and third quarters due to lower margins and to increase 1% to 2% between the third and the fourth quarters. We anticipate straight-line rents and FASB 141 adjustments, which are part of those numbers, to be approximately $8 to $10 million per quarter. And we continue to budget about $1 million of termination income which again, is in those numbers. So based on current market conditions, we expect 2008 annual same store NOI to increase 2 to 3% on a GAAP basis and 4 to 6% on a cash basis.

The only development expected to come online during 2007 is our 50% joint venture interest in 505 9th St, which I know Ray is going to have a couple of comments on. This project is going to open in October. It's been permanently financed with a $130 million mortgage at 5.73% and is going to have a GAAP NOI yield of about 12 to 13% and generate somewhere in excess of $4.4 million on an annual basis. In the middle of '08, we will get a full run rate on this development and we should start to begin to see contributions from 77 City Point, formerly 77 4th Avenue in Waltham; South of Market in Reston; and Tower Oaks in Rockville. Just remember when we start recognizing development revenue, you've got to shut off the capitalized interest.

Interest income and interest expense are highly dependent on additional cash investments in our development pipeline. Our cash balance at the end of the quarter was $1.9 billion. As our development activities accelerate, the amount of our cash invested in these assets results in a corresponding reduction in our interest income from which we are estimating approximately 5.2% today -- that's what we're earning -- as well as an increase in our capitalized interest expense which is currently estimated at about 5.7%. So today, there would be 50 basis points of an annual accretion on the invested cash as we deploy it into our development pipeline. Now, the timing of the development expenditures is more art than science, but we are estimating about $50 million per quarter of equity investments going forward for the next four to five quarters.

We anticipate repaying our property specific mortgages on Embarcadero Center 4 in August and the 500 Series at Carnegie Center in October prior to their natural maturities without any prepayment penalties. That's about $197 million of cash use.

This quarter, our interest income was $26 million. We expect it to decrease during the remainder of '07 as we fund our developments. It's budgeted to be $24 million and then $23 million per quarter respectively in '07. Now, while the Board has not yet authorized a special dividend, we do anticipate having approximately $810 million of taxable gains stemming from property sales. If this capital were distributed in January of 2008, following our pattern from last year, it would lead to a $39 million reduction in interest income for 2008 and a corresponding reduction in our 2008 FFO.

Starting in 2007, we have begun to add the investment income from our deferred compensation plan to our revenue and make an offsetting and comparable expense to our G&A. So, on a going forward basis, our G&A expense and our interest income will both increase by the amount of our quarterly investment income. This quarter it ran at about $450,000, which is why I'm calling it out; in the first quarter it was only about $100,000.

With this change, we anticipate that our G&A will run at a quarterly rate of about $17 million for the remainder of the year. Capitalized wages are expected to be between $2 million and $3 million per quarter, increasing along with our increasing development efforts. Our G&A expense is always net of capital wages.

Our third party management and development income is running at an annual level of between $15 million and $16 million, and we expect it to decline by about 25% in 2008. We expect our Cambridge Hotel to contribute between $9 million to $9.5 million in '07, an increase of 13% over '06.

Now, as has been our practice, our forward guidance doesn't include any additional acquisitions, dispositions or financings other than those outlined in our release and these remarks. So if you use the second quarter portfolio run rate as the baseline and after you adjust for the $5 million of one-time items and for the sale of Democracy Center, our third quarter FFO should be flat to adjusted second quarter at between $1.13 and $1.14 per share. We've increased our full year 2007 guidance to $4.60 to $4.65.

Our development activities will continue to grow. With 250 West 55th Street, Russia Wharf, Annapolis Junction, Wisconsin Place, Reston Town Center, and possibly a few others that Ray is discuss in a minute, we may start $1.7 billion of new development over the next six months. Now, other than the impacts on interest expense and interest income on net equity invested, there will be minimal impact on our 2008 earnings, but we anticipate with great enthusiasm the potential earnings pop as these developments come online in '09, in '10 and 2011.

And with that, I'm going to turn the call over to Ray.

Thanks, Doug. Good morning, everyone. I've been asked to give you some additional background on the dynamics we're seeing in our core markets, which I am candidly most excited to do. Starting in D.C. with a 98% occupancy level in our existing portfolio, we have been focusing our leasing efforts on our current development on 9th Street. At this project, we're now 97% committed to the pending move of our D.C. office to this building. (inaudible) moving out of 901 New York because there's so much demand for space here that it necessitates our move down to 9th Street. This leaves us 10,000 square feet of space to lease with [1110] on half of that had over $70 a square foot; among the highest rents ever achieved in the city.

In terms of our new projects, we have received all of the zoning approvals to start construction of Square 54. The final plans call for 440,000 rentable square feet of premier office space and 80,000 square feet of rate retail space. With an anticipated start date in mid 2008, we have been receiving numerous unsolicited requests for proposals from top law firms and corporations. Users are realizing what we have long known -- that this specific project, the last one on Pennsylvania Avenue, is singularly the best office site remaining in the city.

Finally, in D.C. we've been aggressively pursuing a 500,000 square foot GSA requirement. While this is a hotly contested assignment -- I think there's something like 10 different proposals out there -- we think we have a heck of a shot of landing this deal, given the attractiveness of our site, our response of design solution and our impressive track record with GSA users.

In Northern Virginia, Doug has given some flavor about the competitive nature of the Reston Herndon office market. But let me give you some specifics of our amazing success in Reston Town Center.

Please remember that we started a three building 650,000 square foot office and retail complex on a totally speculative basis -- truly amazing -- in April of 2006. We stand here today, 15 months later, with the following results. Of the 570,000 square feet of space -- of office space -- we are 71% leased or committed. Our average rental rates are in excess of $42 a square foot, over 25% above the average market rents for Reston and Herndon. We have over 150,000 square feet of solid prospects for the remaining space and again, this is over one year prior to delivery.

But perhaps the most compelling story occurred when one of our larger prospects, who was extremely disappointed that there was an insufficient space to accommodate their needs in this complex, decided it was better to wait for something at Reston Town center than to go to commodity options on the toll road. This user is now negotiating a lease for 135,000 square feet in our next tower, scheduled for delivery in late 2009. Our rental rate for this deal will be in excess of $50 a square foot; among the highest ever received in Northern Virginia.

We are experiencing the same results in suburban Maryland with our Wisconsin Place development. Again, this is another office retail residential project in a 24/7 environment. Doug mentioned we have executed 160,000 square foot lease with capital source, representing a 55% prelease -- again, two years in advance of delivery. We continue to enjoy tremendous preleasing activity with more prospects than available space at Wisconsin Place.

In Boston, the big news is the Ropes and Gray lease at Prudential Center. Our Boston team executed just a brilliant leasing strategy in securing one of the most prestigious law firms in Boston for the top of the Prudential. Ropes will take over 400,000 square feet of space representing all but four floors of the former Gillette space. Leasing this block of space with only one year of construction downtime -- no [lease up] time, just construction downtime -- is a huge win for both the Back Bay and the Prudential Center. With this commitment, the Prudential complex is now 99% leased -- let me emphasize that -- 99% leased with no significant rollover until 2011.

Similarly in Cambridge we're seeing a vastly improving market. We are close to a [50,000] square foot letter of intent with a major technology company and a 250,000 square foot renewal and expansion deal with another, driving our vacancy rate down to 1%. It's important to note that both of these deals dramatically exceed our aggressive underwriting assumptions at 4&5 Cambridge Center, assets we acquired just nine months ago.

Trying to replicate the success of Reston Town Center in suburban Boston, we are underway with 77 CityPoint in Waltham. This project is the first of a series of buildings that will have both first-class office space and integrated retail uses on the ground floor. We have signed our first tenant for 36,000 square feet with an average full-service rent in the low 40s.

During our past calls, we have highlighted the highly competitive nature of the Princeton market. Yet when faced with a choice between going to any of the new spec projects or build a suit at Carnegie Center, Princeton University made the intelligent call. We have executed a lease for 120,000 square feet to meet their requirements to move their support office space off campus. We're in the process of designing this first building in Carnegie Center West complex. We are extremely confident that this will be the first of many more requirements we'll secure from the University.

Finally, in New York we are riding the wave of ever increasing run rates that the market has experienced the last 18 months. Our regional team has been able to get creative and generate unanticipated inventory. In late June, we secured two floors from an existing tenant, paying $64 a square foot and immediately released that space at a starting rent in the low 90s. We've also recaptured two other space this quarter to an over 60,000 square feet of unplanned availability and fully expect to realize similar success with this mark to market opportunity.

We are seeing tremendous demand for our new project bid on 55th Street in New York. It's just a few months of marketing this project has issued over 900,000 square feet of proposals, responding to an ever increasing list of prospective tenants and getting very little pushback to the economics we are proposing.

In summary, in virtually all of our markets we're experiencing extremely strong demand, rapidly rising rental rates with our only downside being the lack of short-term rollover in our existing portfolio. But with our active development pipeline coming online in the next three years, we are positioned to take advantage of improving conditions with strong preleasing and ever increasing run rates in all of our markets.

Thanks for the opportunity to talk. I think -- Ed, are you up next?

I am. I'm up next. Good morning, everybody. Doug and Ray I think have really covered the waterfront, and so I'm going to leave time for questions or for Mort's remarks. I will be very, very brief. I just want to remind everybody, however, that this particular point in the cycle is playing right into Boston Properties' strong suit. If we can, which we have demonstrated before we can do and which we believe we will do again, deliver development projects even at returns in the 8% range, we're still talking about a tremendous premium over acquisition yields of anywhere from 3 to 5%. And, as we did earlier on in our career as a public company, we fully intend with the $1.8 billion of development that Doug just described, to do it again.

Doug also mentioned in particular the Boston project that we are working on -- Russia Wharf, and also -- but the overhang of 2.5 million square feet or the potential overhang of 2.5 million square feet of additional development in that market. Every developer always of course thinks that their project is the best and their project will be the one that's successful even if there's too much space. And of course I believe that when it comes to Russia Wharf.

But what I think differentiates Russia Wharf from some of these other projects is in fact its location, which as the brokerage community has reinforced our belief is the best new location -- the best location for a new building in Boston and our ability to move forward on that project quickly. And we fully intend to take advantage of that opportunity. Similarly, I won't stress West 55th Street in New York again, only to say that as Ray pointed out, our reaction to that project by the tenant community in a very tight market has been exceptional. The design is great, the location is great, but more importantly, the market is great.

So with that, I will just turn things back to Mort if he has any comments and then we'll take questions.

Yes, this is Mort Zuckerman. I just want to again emphasize what we have been saying actually almost from the first year that we went public, now 10 years. And that is there is a qualitative difference in terms of real estate and real estate development. And we have focused our efforts, not just since we've been a public company but since we started as a company, on building the highest quality buildings in the best locations. And I think that that emphasis on quality has really paid many times of dividends, not just reputational dividends but financial dividends.

It is always been the underlying philosophy of everything that we have done. And I think that as Ray and Ed have pointed out and as I think the markets will continue to demonstrate, there is a direct response in the marketplace to the quality of what we're doing. That is going to be once again demonstrated over the next short period of time. The projects that we have described are just the ones that we know we are getting underway in the short run. We have a commitment and capacity to do more.

The development side of the business is still the DNA of this Company. And in a situation where the acquisition side is something that we are very, very wary of, given the yields at which properties today can be sold, we are perfectly happy to recycle the money out of sales into development where we can substantially increase our yields and mix management with capital for the benefit of the shareholders. So, we are in, as everybody knows, in the markets that we are in, not just the markets which are restrained in terms of supply but in terms of what we do. We have the best quality locations, whether it's Pennsylvania Avenue in Washington or Russia Wharf or Reston, Virginia or even in New York, although you cannot say that these are the absolute best locations. Given the availability of new space they're the best locations available. And given the availability of sites they are the best locations available and given the quality of buildings we're doing, we think we are going to succeed in wonderful terms.

So you know, I don't mean this to just be singing our own praises but this is a philosophy that we have followed for almost 40 years. And I think it is a philosophy that works best in these kinds of markets where we can shift out of acquisitions, which has been a big part of what we have done into development as a larger and larger part of our activity. I think we're going to have an extraordinarily good period over the next few years in the development side. And we think we can really produce a relatively strong performance and we are committed to that.

I don't think there's anything else that I have to say other than we do think that the strength of this market -- and bear in mind, this is the commercial market not the residential market. This is the office building market. It's the office building market in certain markets. It's certain locations within those markets. We think we're going to produce stellar returns on the mix of capital and management that we will bring to these projects.

With that, I'll end my comments.

Operator, you can open up to Q&A, please.

(OPERATOR INSTRUCTIONS) Michael Bilerman, Citigroup.

Good morning. I don't know who would want to take this but you've obviously been very active in the sales market. Can you give us maybe a little bit more flavor of how those processes had gone, to give a little bit of sense of the bidding that occurred for the assets and whether there's hiccoughs and sort of how things came out relative to your expectations?

Sure. This is Doug. I think that I can unequivocally say that in each of the assets we had a pricing discussion with the sales agent that probably was demonstrated a modest amount of conservativism. And while people in the management group -- probably Mort being the most aggressive in terms of expectations -- had numbers that we felt were target numbers; even those numbers were typically exceeded.

We had one asset of all the assets that we sold where we fell out of contract and that was the $37 million purchase of the Newport Office Park. And we got the second person to come up and pay exactly the same price that the previous person fell out of contract with. And that was the only one we had a hiccough with in the entire $4.1 billion of sales that we've pursued over the past two years.

I would say that the level of brochure interests, confidentiality agreements, tours was consistent and it probably accelerated over that time. We had probably more people looking at the latter assets than we did the former assets until we got to Democracy Center, where I think Democracy Center was a more modest number of actual tours and proposals. Instead of getting 150 confidentiality agreements signed, we got 80 confidentiality agreements signed. But the strength of the offers on Democracy Center was consistent with what we had expected. It was above what the brokers expected us to be able to achieve and again, it was a great experience.

Did the composition on the buyer universe change in the most recent deals?

You know, it's interesting. We had, I guess, not looked at a buyer pool that was consistent with the people who were making portfolio acquisitions. And so -- because we were selling single assets for the most part. And to the extent that we -- you could characterize the pool, I guess there was more leverage that was being used initially on the two New York City assets than on Democracy Center or on, for example, the Long Wharf Marriott or the two assets in Baltimore and Richmond. But the profile of the buyer was not terribly dissimilar to what's currently in the marketplace today. And again, that's because we didn't see the Blackstone's, the Carlisle's, the Rockpoint's, the Apollo's, the Beacon Capital bidding aggressively for our assets. Maybe just because of the leasing profile of those assets?

Right. And just a second question is on New York. You've referenced a couple of times during the call about where rents are coming in, at least in the proposals exceeding expectations. How does that come down to your bottom-line return? I think you had talked previously about targeting at a minimum of an 8% yield.

Yes, this is Mort Zuckerman. Let me just make it clear. They don't exceed my expectations. They exceed our perhaps too conservative underwriting.

And so how much more additional spread are you --?

I don't think we ought to answer that question, guys. I really don't. They exceed them by a significant amount. I don't think we have to disclose what our minimal expectations were. All I can say is -- I say this quite seriously, they did not exceed my expectations.

Right. Thank you.

Jordan Sadler, KeyBanc Capital Markets.

Thank you. Just following up quickly on Michael's question. I was just curious on the Newport assets, if there was a specific reason you could identify for the first buyer falling out. Was it lack of financing coming through or --?

No, it was not. As I said, the buyers that we had really were not highly leveraged buyers. And it was simply somebody who put the building under contract and they tried to come back for a haircut and we said we're not interested. I mean it was a simple building. It's a building that's got no capital requirements. It's leased for five years to Blue Cross Blue Shield. It's about as straightforward an investment as there is. And they tried to get cute on us and we told them no thanks, and we went to the second person and the second person performed. It was really as simple as that.

That's helpful. In terms of capital, right now obviously your balance sheet is in phenomenal shape with ample capital to build the $1.7 billion of potential starts in the next six months as well as much more. Can you maybe give us some color on your view on buybacks given sort of the amount of capital you have available? Share buybacks?

We are always considering all sorts of uses of capital but until the Board comes to a decision, I don't want to speculate about what we might do one way or another. I think our primary objective is to invest our capital at attractive rates of return. And that's the analysis that we do on a continuing basis.

Lastly, Doug, you mentioned San Francisco's mark to market potentially next year or at least bumps that are anticipated on the 1.6 million square feet rolling of up to 17%. What's the expectations on the overall portfolio?

That was the overall portfolio.

Oh, that is? It's not San Francisco?

No, I wasn't -- sort of to segueway from that's what happened in San Francisco to this is what we have rolling over in the portfolio. If we had 1.6 million square feet of rolling over in San Francisco --

Yes, I'm [home] with you. Thank you.

Lou Taylor, Deutsche Bank.

Doug, can you just recap the cash uses again? It sounds like you've got 1.9 billion now, call it 800 for possible special dividends, another 200 million for development equity funding, another 200 million for debt repayment, which sounds like it leaves you around 700 million left. Is that kind of earmarked for anything special or is that number really higher or lower than what it looks like?

I think you have an accurate portrait of what our cash balance would be. I think that we are hopeful that we will have additional development investments to put some equity in the not too distant future. And Ray described a couple of those. And so that we will be able to fully utilize as much of that cash as possible.

Sloan Bohlen, Goldman Sachs.

Could you guys talk about just sort of the supply scenario that's going to be around when you deliver at 55th and 8th, just given the SGAP building down the street and some of the other sites?

There's more than enough demand in midtown Manhattan to keep continuing pressure on that market.

Okay. Is there any differential between location in terms of when you're going out with your proposals, you versus some of these other sites and Penn Plaza, specifically?

Well, I think it's a very different location than Penn Plaza, not to denigrate Penn Plaza in any way. I just think that there are -- different kinds of users will be interested in those two locations. And in addition to the size of the building and the size of the floors also differentiates between -- tenants differentiate between different building designs as to what meets their requirements.

Okay. And then just one follow-up question on Boston. You'd mentioned that you'd have probably an easier time getting started on the Russian Wharf project. How does that stack up versus the other 2.5 million square feet could be delivered?

We believe that there are probably two other projects that could get started on a similar or not too far behind schedule, but there I think the locational differences are significant.

Okay. Thanks, guys.

David Cohen, Morgan Stanley.

Doug, you talked about the increasing mark to market in the portfolio. And I just wanted to understand why most of the markets saw decreases in second generation rents. I know you talked about Boston being a little bit -- you know, there are a couple of leases that were excluded, but what about Washington and Princeton? How are those going to trend going forward?

You know, the good news is that -- and the bad news are the same in Washington, D.C.. The good news is we really had virtually no rollover and the bad news is we don't have any rollover. In Washington D.C., in the last quarter there were a couple of [deals] from Democracy Center in there. We had some pretty high rents in Democracy Center that that -- and Democracy Center is the building that's going in the other direction.

In Princeton, the challenge at Princeton is there's speculative development going on and it's putting a cap on where rents are, and quite frankly, why we did not start a speculative building and why we waited for a major tenant to go forward. In markets where you do have contractual increases in operating expenses going up in a market like Princeton, there will be potentially some modest amount of rolldown. So, a tenant that might have signed a lease at $28 or $29 five years ago and is going to rent up to $32 or $33 including escalations and then the current market rent is $30 a square foot is obviously going to be a rolldown. I think that's the kind of rolldown that you're seeing in Princeton. I expect that in all of our other markets you will see continued positive same-store second generation experiences.

Okay. And when you go into -- you talked about 2008 same-store and it sounds essentially flat with this year even though you do have some strong leasing spreads and probably flat occupancy. I mean is that -- do you think that that's the best we get going -- I know it's very far out, but as we look into '08, '09 -- I mean is that the best we're going to get? Or would you expect same-store to kind of increase after that?

I think I said same-store from '07, '08 was going to be 2 to 3%. So, that's not flat; that's 2 to 3%. The -- I think the -- (multiple speakers)

Flat probably from '07, I mean.

Yes. That's from '07 to '08. So --

Lower, then.

Slightly lower.

Slightly lower. I think the one challenge -- again, it's the good and the bad news is that we have no rollover in New York City. And New York City makes up almost 30% of our total revenue and when you don't have any rollover in a market like that in 2008, it's hard to anticipate large same-store gaps. We do have a couple of leases expiring at the end of 2008 which will unfortunately locked away until 2009 to benefit from them. But I think that there's about 300,000 square feet of space in New York that rolls over literally December 31, 2008 that we'll be able to experience there.

And again, unfortunately or fortunately, when we do leasing early we have to wait to actually achieve the run rate increases. So for example, at the Prudential Center where we've renewed the space that Gillette is moving out of, unfortunately it's not until the end of 2009 that Gillette leaves. And so we may not be able to recognize that revenue until 2010 or 2011 depending upon the form of the leasing terms of who is building out the space. So, we're -- the numbers are there. I think that they may not show up as quickly as you'd like in our second generation statistics in our same-store but it's going to roll through the portfolio.

John Guinee, Stifel Nicolaus.

A question for Ray. Democracy sale at 410 a square foot building down the street at 330 a square foot. Is the -- what are the cost dynamics within the 330 a foot? Are you using a historic land basis or current market value for the land? And then can you talk through the difference in quality of the product and locational differences between what you are selling and what you are developing?

Sure, John. This was probably the most compelling reason to sell Democracy. Democracy is a project we built and acquired 26 years ago, so it was really one of the bedrocks of Boston Properties. So the decision to sell it was difficult. But a couple of things. We looked at what we anticipated we can get from a sale process and we viewed it versus what we can build brand new right down the street. And the 410 a foot, you have to remember there's still 10, 12% vacancy in that building and it's a 25-year-old building so there's a lot of CapEx that needs to go into that. So, probably the all-in stabilizer is probably going to be closer to like 450 a foot.

I think the more compelling argument was when we went to the brokers and said, okay, which would you rather have the leasing on? Democracy Center or our Tower Oaks project down the street? And to a broker they all said they'd rather have the new product at Tower Oaks. So when you combine a lower basis and a marketing advantage and the geographic dynamics are virtually the same, it was a pretty strong compelling reason to sell Democracy and proceed with one preserve.

The other thing that you need to know is that we also have in that same corridor about [a million nine] of future development so that we want to get on with that. And we viewed rather than competing with ourselves for Democracy we proceed with the development of new projects in the 270 corridor.

Okay, thank you. Next question, Russia Wharf, you quoted 750 a square foot to develop. You obviously paid for retail for that land and have some very unique characteristics to that particular project. Do you have any sense for what development cost or replacement cost is for some of your competitors in Boston who are going to start in the next couple of years?

I think actually Doug's comment was that the 750 applied sort of across the board without getting specific about Russia Wharf. That's a fair statement. It's going to be very difficult to build for less than that and to create a project for less than that. Somebody ought to have the skill, enough skill, to not go much about that. So I think that applies really to all of the projects there. None of them that have particularly low land costs associated with them or if they do, there are other problems to contend with. For example, a building that might go over South Station will have certain premiums associated with it that will compensate for the fact that maybe the land cost is lower. So, that's a broad range for all of those -- that's the range or -- not the range, it's one number -- but that's the target it seems to me for all of those projects.

James Feldman, UBS.

Can you talk a little bit about what you're seeing in terms of any distressed sales out there and what your expectation is for that? And then also if there's any opportunities that maybe would give you a chance to revive the value added fund?

Boy, if there is such a thing as a distressed sale in any of our core markets it's not something that we've seen. As an example, there's a building that was purchased for $150 a square foot in Waltham. It's Class B minus kind of building. And the current owner, which is in one of these, I guess, opportunity fund private capital groups, has put it in a portfolio. And they've, in the last year and a half, brought the building from 10% leased to 26% lease. And they're now asking $300 a square foot for the building based upon presumed assumption in market rents.

That's the kind of activity that we see going on in the sales market in the B kind of buildings. So we're struggling for our value added fund to find anything that can give us anywhere close to a double-digit IRR and it's really why we have not chosen to aggressively invest that capital.

Okay, thanks. And then Doug, if you look at the same-store expenses for the office technical portfolio, there's a big ramp up there and it was negative year-over-year. What happened there?

To be honest with you, I don't know the answer right off the top of my head. I believe one of us will get back to you. My guess is it's going to be real estate taxes but I'm not sure.

Michael Knott, Green Street Advisors.

Doug or Ray or Ed, could you talk about what you expect to see in the acquisition environment, say, six to 12 months from now? It's considered to be a race, if you will, between the possibility for rising cap rates and increasing NOI and continued rent growth. What's going to -- how is that going to shake out?

Well, since I've been wrong for five years, why don't I start and then people can disagree with me. I think cap rates are going to rise significantly and there are going to be a lot of bargains out there. But obviously I have my tongue in cheek because we have not seen that. And I don't want to predict that it's going to change. I think the private capital still has demonstrated a great need for and an appetite for high quality real estate. And given the fact that the world seems to be awash in money and I don't think people are predicting dramatic increases in interest rates, I think that the private market will continue to seek the kinds of properties that we are interested in, anyway, and it's going to be very competitive for firms like ours to do anything in the acquisition market in the face of that competition.

May I add something? This is Mort. There are other factors that are going to maintain the, in my judgment, the pricing levels that we have seen over the last few years. One of them is replacement costs which has soared to extraordinary levels, in part because what has happened to the residential market has made the ability of people wanting to develop residential buildings on sites more competitive than the ability to buy those sites for office development.

It used to be that the quote/unquote the cliche that the highest and best use was office buildings. That is to say you could pay more for a site if you were an office building developer than you could for a residential. It's no longer the case. It's the other way around. When you can get $5,000 a foot for residential developments in prime locations, no office building developer can succeed at those numbers, so -- in competition with those numbers.

So what you have is a situation where the alternative use is driving up the replacement cost -- alternatives being residentials -- driving up the replacement cost for office buildings. And the other thing is that one has to look at the supply and demand balance in the markets that we are in. I will tell you that we could lease up at appropriate numbers any kind of space on Pennsylvania Avenue. There is no such space after the (inaudible), any major site in midtown New York over the next several years simply because the demand is there. The demand for commercial space, for office space and basically the supply constrained markets that we are in at this point is not only undiminished but seems to be undiminished going forward.

Now of course there are always wild cards that could come in. If the financial industry really hits a huge pothole, that could obviously affect the demand side. But it is hard for me to imagine there's going to be a pothole of the size that will restrict the demand. It's quite the opposite that we're seeing just a continued expansion of the whole range in the gamut of financial firms.

So given that, I will add one more thing that I think will affect it. People have begun to understand that a big part of the valuation of real estate is in the residual value. We used to measure it much more in terms of current returns. And the residual value was something out there that was a much less significant part of the way we valued real estate. Because of what's happened in terms of the escalation of rents, people understand that over any kind of period of time you're going to look to the future and there will be an escalation of rents. And that escalation of rents will reflect itself in a residual value in a different way.

And therefore, given the fact that real estate has become an approved asset class by many pools of capital in the United States and around the world and where the cap rates in the United States compared to countries like Tokyo -- for example, like Japan -- are not as unreasonable. I think American real estate is going to continue to be very strong.

Okay, thanks. And then my last question, can you comment on the status of the CFO search?

Sure. You haven't been as involved in the management team as long as some people but you, I know, Michael, have gotten to know the senior members of my finance team. And we have some fabulously qualified internal candidates for the job. Nonetheless, we felt it was important to take the opportunity to consider some outside candidates alongside senior team. We've engaged an outside advisor to help with the search and we are considering all of our options very carefully.

Mitch Germain, Banc of America.

The remainder of the Gillette space, is that a continuous block?

It's two continuous blocks of 50,000 square feet.

So they're being marketed separately?

Yes. And they're actually -- all those floors are unfortunately sublet right now or we would try and take them back from Gillette.

Got you. And just -- Ray, on the second asset, the second development site that you're planning in Reston, can you give us some details on that?

Yes, it's a 240,000 square foot building that we planned as part of the original South of Market project. It actually is a -- sits atop the parking deck for the first three buildings. So this will be a building that will start effectively eight stories in the air, 240,000 square feet. And again, we'll deliver this in late '09, early 2010 and we are very close to finalizing the lease for 135,000 square feet of it. We're [going that] from the ground floor up so we will have the top four or five floors left to lease the market to which I will tell you again will probably reach the highest rents ever achieved in northern Virginia.

Brian Legg, Millennium Partners.

Doug, can you talk about the change in your borrowing costs on a secured basis just both on -- as far as the actual interest rate, fixed rate interest rate, and also the terms on secured loans over the past six months?

Well, we haven't really done any secured borrowing over the past six months. I mean the last financing we did was the Montville transaction which was a -- really it was done as -- it was interesting. It was actually done by the CDO Group at Goldman Sachs because we wanted to do a five-year deal with a prepayment after two years. But it was, unfortunately it was, from a comparison perspective it was negotiated for the two or three months before that. So we actually haven't had any experience.

We have actually -- we just looked at potentially refinancing one of our secured joint venture assets. We generally are not a highly leveraged borrower, so we're not going up to 85 or 90%. We're generally in that 65 to 75% range. And there's no question that spreads have probably widened by 15 to 20 basis points. We have never been a strong believer in amortization. There's a little bit more pushback on amortization but you can still get interest-only financing rates for three to five years.

I think that the one thing that more lenders are doing is they're looking harder at rollover reserves and there's probably a little bit more potential capital or guarantee that's going to be required if you have major rollover within or at the end of a -- the term of one of your financings on a secured basis.

I know you don't go to the highly levered, but if you were to go to more the 80 to 90% level, would you say spreads have widened maybe 30 to 40 basis points on that end?

I really couldn't tell you that, Brian, because we just haven't been asking for those kinds of proposals. I just don't know.

Okay. Great. Thank you.

Operator, do we have any final questions? Hello?

Yes, our next question is from the line of Anthony Paolone with JPMorgan.

Thank you, good morning. Do you plan on participating in the RFP process for the Westside rail yards in New York?

This is Mort. I will answer that question. We are looking at it.

Is there a timeline for that process that has been put forth?

There is a point at which I think we will have to make the submissions. And if we do decide to go forward, we'll just comply with it. But there's a lot of preliminary conversation going on. It is not something frankly, that we would do on our own. We would partner with at least one other firm. And so we're looking at it seriously but we haven't made any final judgments.

We have a follow-up question from the line of Michael Bilerman. Please go ahead.

Doug, can you just walk through the mark to market by market? You mentioned the 17% overall, given Boston is a big piece next year relative to the size of the portfolio. I just thought it would be helpful to go through each market?

You mean in the second generation stuff?

Yes, and for the 2008 rollover, what the mark to market is between Boston, D.C., San Francisco and New York and Princeton, there's nothing really rolling.

To be honest with you, I don't have the data sitting in front of me by lease because it's obviously dependent upon where the space is rolling over. But I'd be happy to have that conversation with you offline.

Okay. And just when you sort of look at that, I think you said cash same-store growth for next year 4 to 5%?

Yes.

If you go back and you look at what you've been able to do historically in terms of early renewals or maybe blend in extends, how much more upside do you think you'll be able to garner next year, given some of the negotiations that you're in today? And what you sort of have been doing for the number of years you've been in the business?

I'm not even going to try and wager a guess on that. I think that the 4 to 5% includes an expectation that we do a little bit of that. It doesn't assume that we're taking back 10 floors at 399 Park Avenue or those kinds of transactions, which obviously if those happened, the numbers would be different. But those are the [kind] of transactions that are very highly unlikely to occur but nonetheless can happen over a period of time.

And lastly, you talked about the $50 million or so in terms of funding the developments. What sort of pipeline does that fund relative to the $1.7 billion of potential development starts? I'm just trying to --

That's what it basically funds. In terms of the big-ticket items, it funds 250 West 55th Street and Russia Wharf, and then it funds the Princeton asset and another building in Reston and the Wisconsin Place development and potentially the development that Ray was talking about with the GSA in the district. I meant it's sort of all of those assets.

We have another follow-up question from the line of Jordan Sadler. Please go ahead.

Sorry, just quickly. I may have missed this. The agreement you entered into for the sale of the parcel of land in D.C. Did you give any color on that?

We didn't give you any color other than it was in the press release. But Ray, if you want to comment on it, that's fine.

Yes, this is a site that we acquired probably four years ago. It's a midblock location on East -- on F Street, 20F in Capitol Hill. We developed plans for 180,000 square foot building. And we had tremendous response from user groups wanting to have a presence on Capitol Hill. And so rather than beat them we decided to join them and have elected to sell the site to the American College of Surgeons who will be building a building that they'll occupy probably about 1/3 of. And we will be leasing out the balance of the space. We have got a very nice mark to market on the land value and a very attractive development fee in profit built into the numbers. So this is something we are doing on a fee basis turnkey for the American College of Surgery.

Is there a gain you could throw out there, Doug?

It will be a big gain. It won't run through FFO.

It won't run through FFO.

It won't run through FFO. We don't run through our gains on land sales or our -- even the promotes on our joint ventures through if we were selling assets or through FFO at all goes through gain of sale.

Okay, perfect. And that's not on your value creation pipeline? It's a partial or is it?

We build the lands there.

What? Oh, it is. It doesn't show up as being in the district?

While Mike's looking, why don't we keep going. We'll jump in with that answer if we can find it but let's move on to the next question.

Our next question is a follow-up from the line of Michael Knott. Please go ahead.

Can you remind us what your expected costs are going to be on the second New York City land assemblage? Cost per buildable foot?

I can't remind you because we haven't told you. And we won't ultimately know until we just figure out exactly what we're building and how all the various pieces come together, which my expectation will probably occur in the next -- by the end of the year.

And in ballpark terms --?

As Doug pointed out, there's some options that we're looking at in terms of how much the size of that building and what's required to get it to a certain size.

But in rough terms should we expect it to be similar in cost to the first site?

Yes, I think if you were doing a rough estimate in terms of what it's going to cost us to do an office building in Manhattan, you're somewhere between $900 and $1,000 a square foot.

Okay, and then my last question is it looked like the sequential occupancy in Embarcadero went down a little bit. Can you just comment on that?

Bob?

We had a couple of tenants rollout and we also had some tenants that we relocated from one building to another.

And management, there are no further questions at this time. Please continue.

Okay. Thank you for your participation. We know you guys have a busy schedule of other earnings calls today so we'll let you go. And we'll talk to you in another 90 days. Thanks a lot.

Ladies and gentlemen, this concludes the Boston Properties' second-quarter 2007 conference call. If you would like to listen to a replay of today's conference, please dial 303-590-3000 or 1-800-405-2236, entering passcode 11092834. Once again, if you'd like to listen to a replay of today's call, please dial 303-590-3000 or 1-800-405-2236, entering passcode 11092834. ACT would like to thank you for your participation. You may now disconnect.