COPT Defense Properties (CDP) 2009 Q2 法說會逐字稿

Welcome to the Corporate Office Properties Trust second quarter 2009 earnings conference call.

As a reminder, today's call is being recorded.

At this time, I will turn the call over to Ms.

Mary Ellen Fowler, the Company's Senior Vice President and Treasurer.

Please, Ms.

Fowler, go ahead.

Thank you and good morning everyone.

Today we will be discussing our second quarter 2009 results.

With me today are Rand Griffin, our President and CEO, Roger Waesche, our COO, and Steve Riffee, our COO.

As they review the results of the second quarter, the management team will be referring to our quarterly supplemental information package.

You can access our supplemental package as well as our press release on the Investor Relations section of our website at www.copt.com.

Within the supplemental package, you will find reconciliations of GAAP financial measures to non-GAAP measures referenced throughout this call.

Also under the Investor Relations section of our website, you will find a reconciliation of our annual 2009 guidance.

At the conclusion of this discussion, the call will be opened up for your questions.

Before we begin, I must remind all of you that certain statements made during this call regarding anticipated operating results and future events are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

Although such statements and projections are based upon what we believe to be reasonable assumptions, actual results may differ from those projected.

These factors that could cause actual results to differ materially include, without limitation, the ability to renew or release space under favorable terms, regulatory changes, changes in the economy, the successful and timely completion of acquisitions and development projects, changes in interest rates, and other risks associated with the commercial real estate business as detailed in our filings from time to time with the Securities and Exchange Commission.

Please note the Company assumes no obligation to update any forward-looking statements.

Now, I would like to turn the call over to Rand.

Thanks, Mary Ellen, and good morning, everyone.

We are pleased to report a strong second quarter for the Company, achieving FFO of $0.67 per diluted share.

FFO per share for this quarter grew by 14% over the second quarter of last year.

This result is primarily due to lower interest expense, buildings acquired or placed into service, and strong results from our development services group.

As we move into the second half of the year, like most REITs we will face some challenges.

We expect FFO will be impacted by increased interest expense as we close on permanent loans at higher interest rates and pay down our revolver.

We will also experience some pressure from non-renewals, in particular a decrease in NOI from our Blue Bell, Pennsylvania property.

Despite these pressures and primarily as a result of our strong performance during the first half of the year, we are moving the bottom end of our guidance range up from $2.41 to $2.43.

We remain cautious about the impact of the recession on some of our fundamentals and so we are maintaining the high end of our guidance at $2.51.

In a year where we are seeing negative to flat growth in our industry, we believe we are on track to deliver 2% to 5% FFO per diluted share growth.

In addition, our AFFO remains very strong as we've been able to renew leases with very low capital cost.

Although we are very confident about the year, we believe the worst of the impact from the recession is yet to come for our sector and our Company.

We've taken several steps to prepare.

First, we have lined up permanent debt, and as we close these loans we expect to increase our capacity under our revolver to close to $400 million.

This revolver capacity, coupled with our construction revolver, is more than sufficient to fund the costs for our wholly owned buildings that will commence construction this year, as well as provide capacity for acquisitions if they become available.

Next, we believe the additional controls over operating expenses we put into place earlier this year will help us through this downturn.

And lastly, we have continued to focus on our core customer relationships to be their landlord of choice during this tough economic downturn.

Looking ahead, we continue to position the Company to take advantage of the BRAC related moves in several of our markets.

Although we have not yet seen significant demand, we do expect to see demand pick up later this fall once the contracts of the defense contractors are validated.

In anticipation of this demand, we recently started construction of 308 MBP, a 151,000 square foot building at the National Business Park, and we have our first building for 78,000 square feet under construction at North Gate in Aberdeen.

Looking forward, as we have discussed on previous earnings calls, we expect the cyber initiative to have a major impact in our area as well.

The government has announced that this will be a $15 billion to $30 billion initiative over the first five years.

Last month, Secretary of Defense Gates wrote a memorandum announcing that General Alexander, Executive Director of NSA, will be leading the cyber initiative in a dual role of responsibility.

The preferred location for cyber command is Fort Meade, but they are conducting a 60-day review process expected to be completed by September 1.

The initial command needs to be operational by October 2009 and fully operational by October 2010, which is a very rapid ramp-up.

While the exact number of personnel is classified, this new initiative is expected to generate significant job growth with the majority coming through defense contractor outsourcing, which should benefit us significantly.

In summary, we're pleased with our results through the first half of the year and believe we are on track with our plan for the year.

And with that, I'll turn the call over to Steve.

Thanks, Rand, and good morning everyone.

Turning to our results, FFO for the second quarter of 2009 totaled $46.9 million or $0.67 per diluted share.

These results represent a 14% increase on a per share basis over the $0.59 per share or $37.8 million of FFO for the second quarter of 2008.

2009 second quarter FFO results exceeded consensus expectations by approximately $0.07 per share.

NOI was higher than forecasted primarily as a result of lower operating expenses for the quarter, accomplished through continuing our concentrated expense control efforts.

Interest expense was lower for the quarter as a result of delaying closings on the permanent loans to the third quarter of 2009, and due to lower than expected LIBOR levels for variable rate debt.

Development fees were also higher than expected for the quarter.

During the quarter, we renewed 70% of our expiring office leases and ended the quarter 92.3% occupied and 93.2% leased for our wholly owned portfolio.

We reported net income available to common shareholders for the second quarter of $12.6 million or $0.22 per diluted share compared to $8.1 million or $0.17 per diluted share for the second quarter of 2008.

Turning to AFFO, our adjusted funds from operations of $36.2 million represents an increase of 46% from the $24.8 million in the second quarter of 2008.

We continue to manage our capital expenditures to low levels while maintaining our high quality standards, which coupled with our strong FFO results, benefited AFFO.

Our year-to-date AFFO payout ratio is 56% and our year-to-date diluted AFFO payout ratio is 66%.

Looking at our same office cash NOI for the second quarter of 2009 for the 228 properties or 92% of the consolidated portfolio square footage, same office cash NOI increased by 5% over the second quarter of 2008.

For the six months ended June 30, 2009, same office property cash NOI increased by 7% compared to the prior year, including the gross lease termination fees.

Excluding the gross lease termination fees, same office property cash NOI increased by 3% over the prior year six months.

Turning to the balance sheet, at June 30, our weighted average cost of debt for the second quarter was 4.68%.

That's down from 5.11% a year ago.

As of June 30, our debt to gross asset leverage ratio was 41.2% and approximately 75% of our total debt was at fixed interest rates.

Our coverage ratios remain strong with a second quarter EBITDA to interest coverage ratio of 3.7 times and a fixed charge coverage ratio of 3.0 times.

With regard to capital, we had several events occur during the second quarter and although our plan did not initially include an equity raise, on April 1, 2009 we were added to the S&P midcap -- S&P 400 midcap index and we opportunistically issued 2.9 million shares at a $0.05 per share discount to our closing price, raising $72 million of equity.

During the quarter, we closed a $50 million, five-year term loan and a $23 million construction loan for one of our joint venture assets.

Subsequent to quarter end, we closed a $90 million, 7.25% secured five-year loan.

And we also continue to make progress on our second secured loan package, and have now locked a rate of 7.25% on a $185 million, seven-year term loan that we do expect to close later in the third quarter of 2009.

Subsequent to quarter end, we repaid a $22 million loan and now have no debt maturing to the balance of 2009 and for 2010, we only have $65 million of debt maturing.

And with the combined proceeds of these recent and the anticipated financing transactions, as well as the availability under our $225 million construction revolver, we expected to continue to have ample liquidity to fund our development pipeline, to pay down our $600 million revolving line of credit, and have capacity for acquisitions when they become available.

We anticipate the revolving line of credit capacity to grow to approximately $400 million after the secured financings are completed.

And as a reminder, we can extend both the $600 million revolving line of credit and the construction revolver from 2011 to 2012 for minimal fees.

Turning to our diluted FFO per share guidance for 2009, as Rand mentioned, we are raising the bottom end of the range of our guidance by $0.02 per share and are providing a new range of $2.43 to $2.51 of FFO per diluted share.

This represents FFO per diluted share growth of 2% to 5% over the comparable $2.38 per share result for 2008, and that 2008 result excludes gains on debt extinguishment and has been adjusted for the accounting change required for exchangeable notes in the FSP for the APB 14-1.

Our updated assumptions for our 2009 guidance are as follows.

First, for our same office portfolio plus the developments placed into service during 2009, we expect occupancy to end 2009 between 91% at the low end and 92% at the top end of our range of guidance.

We believe occupancy will be under more pressure under the second half of the year.

And although we achieved a 74% retention rate in the first six months, and given market uncertainties, we are conservatively projecting our retention rate for 2009 to be approximately 70%, excluding the repositioning of the Blue Bell, Pennsylvania assets and one warehouse space that's terminating at the end of 2009.

Second, we estimate development projects opening during 2009 to contribute approximately $3 million of NOI.

Virtually all of this contribution is currently under lease.

Based on the timing of the completion of these projects, the majority of the 2009 NOI is expected to be generated during the second half of the year.

Third, same office cash NOI for the year, excluding termination fees, is projected to be approximately 1% to 2% positive, indicating that it is expected to decline in the second half of 2009 when you consider the year-to-date levels.

For the balance of 2009, same office cash NOI will be under pressure as occupancy is expected to decline, while rental rates and net effective rents are expected to be stressed.

It will be partially offset by the benefits from continuing expense saving initiatives.

Fourth, lease termination fees are projected to be approximately $4 million for the year with $3.7 million already realized in the first half of 2009.

Fifth, in addition to the property acquired in Colorado Springs late in the second quarter, the range includes room for a modest level of acquisitions that would be weighted towards the fourth quarter of the year, assuming some attractive opportunities do become available.

Sixth, gains from other than operating assets are now estimated to be approximately a penny per share for the year, at the high end of our range of guidance, and this is less than our prior guidance.

Seventh, net service income, primarily development income from our government business, is projected to be between $6 million and $6.5 million for the year.

$3.7 million of this has been earned through the first six months of 2009, indicating slightly lower levels in the last two quarters.

Eighth, we continue to project G&A to average approximately $6 million per quarter at the middle of the range of our guidance.

This is unchanged from our prior guidance.

Ninth, we estimate that our floating debt as a percentage of total debt will drop from the current levels to as low as 15% upon completion of the secured finance -- secured and fixed rate loans financings that I just discussed.

And finally, our guidance assumes no additional equity issuance during 2009.

Now, based on this annual -- the annual guidance assumptions that I just reviewed and the results for the first half of 2009, results for the last two quarters of 2009 are expected to be lower than those in the second quarter.

Interest expense is expected to increase by approximately $0.03 per share beginning in the third quarter and then continuing to increase in the fourth quarter by another $0.04 per share.

That's as a result of executing our capital plan of fixing debt at higher interest rates through the secured financings, while paying down our line of credit.

Additionally, NOI from our Blue Bell, Pennsylvania asset is expected to decrease by approximately $0.03 per share per quarter for the balance of the year, due to the lease expiration and repositioning of the asset.

Other trends in the second quarter of the year, as we just discussed, are expected to include decreased same office results and the related occupancy of rental rates, as well as slightly lower development fees.

And that will be partially offset by increased NOI for development projects opening in 2009.

And with that, I'll turn the call over to Roger.

Thanks, Steve.

At quarter end, our wholly owned portfolio consisted of 243 properties totaling 18.7 million square feet that were 92.3% occupied and 93.2% leased.

Our occupancy was down 0.5% quarter-over-quarter.

This decrease was largely a result of one tenant vacating in Northern Virginia, one tenant vacating in suburban Baltimore, and one tenant that renewed and downsized in our suburban Maryland market.

During the second quarter, we leased 639,000 square feet, of which 499,000 square feet were renewals, 131,000 square feet was re-tenanting, and 9,000 square feet was first time lease up of previously acquired properties -- space.

Year-to-date, we leased just under 1.2 million square feet, of which 822,000 square feet were renewals, 200,000 square feet was re-tenanting, 112,000 square feet was first time lease up of previously acquired space, and 34,000 square feet was development space.

For the quarter, we renewed 70% of expiring leases at an average capital cost of $9 per square foot.

Rents on renewals increased 10.7% on a straight line basis and were flat on a cash basis.

Total rent per renewed and re-tenanted space increased 8% on a straight line basis and decreased 3.7% on a cash basis.

For all renewed and re-tenanted space, the average capital cost was $10.79 per square foot.

Year-to-date, we renewed 74% of expiring leases with an average capital cost of $7 per square foot.

We have averaged $8.71 per square foot in capital costs for renewed and re-tenanted space.

Looking at our lease expiration schedule across our portfolio for the balance of 2009, we have 8.5% of our revenues expiring, down from 13.6% at year end, representing 1.8 million square feet.

We still expect an annual renewal rate of approximately 70% excluding, as Steve mentioned, the Unisys non-renewal space and the warehouse space in Columbia that matures December 31 that we expect to take out of service and convert to another use.

We believe our leasing metrics will deteriorate in the second half of 2009 and continue into 2010 with occupancy dropping, renewal and re-tenanting rents rolling down somewhat on average, and modestly higher capital costs.

We are pursuing some blended extend transactions to mitigate future revenue at risk from an overall portfolio management standpoint.

Most tenants do not want to take long-term commitments for space given the overall economic backdrop.

We are seeing modest BRAC related activity but expect activity to increase after October 1st as contractors become more comfortable with their contracts with the government in a new location.

Overall, leasing inquiries and proposals are inconsistent across our portfolio and we would categorize the activity as steady, but somewhat below normal.

Our most significant downsizing this year is approximately 500,000 square feet of space in two buildings we took back in July from Unisys in Blue Bell, Pennsylvania.

Unisys is occupying temporary space in one of our buildings while we renovate one of the buildings with 220,000 square feet for their permanent headquarters with a planned occupancy of second quarter 2010.

We will not renovate the temporary space or the balance of the Unisys vacated space until mid-2010.

We will take the space out of service during these renovations.

Given the challenging leasing environment, we are aggressively pursuing operating expense reductions, working with our staff and vendors.

This was reflected in our second quarter results and in our guidance for the remainder of the year.

We are setting 2010 operating expense budget goals significantly below 2009 forecasts.

The credit quality of our top 50 tenants who represent almost 70% of our revenues remains strong.

57% of our 2009 NOI run rate comes from buildings primarily leased to tenants in the government, defense IT and data sectors.

This percentage continues to increase reflecting our strategy.

We have experienced and do expect some modest credit issues over the next 24 months coming outside of our top 50 tenants.

As we mentioned on our last call, the industry we are most exposed to, Federal Information Technology is doing reasonably well.

The outlook for contractors well positioned with intelligence agencies is positive.

There is a continuing demand for intelligence, surveillance, and reconnaissance products and services.

And as Rand mentioned, the industry will benefit from the upcoming growth in federal cyber security spending.

With regard to acquisitions during the quarter, we acquired a 60,000 square foot building from RT Logic, a wholly owned subsidiary of Integral Systems, one of top 20 tenants.

The building was leased back for a 12-year period.

Included in the acquisition was land sufficient to support another 90,000 square foot building which Integral hopes to have us build in the next several years.

This acquisition represented an opportunity for us to enhance our relationship with a key tenant.

We are seeing evidence that there is a lot of cash still available for real estate.

While much of the equity is on the sidelines, waiting to acquire distressed properties as lenders ultimately force repayment of loans, quality properties are nonetheless receiving more offers and the pricing for several recent and pending deals implies that buyers will get good but not great deals on high quality, well located properties.

We remain patient and our overall cost of capital will allow us to participate in a meaningful way as opportunities present themselves.

Turning to our markets, with regard to the BWI submarket, as of June 30, within the total market of 6.9 million square feet, vacancy stood at 18.3%, up from 16.9% in the first quarter.

There is 643,000 square feet under construction which is 50% pre-leased.

Our BWI portfolio totaling 4.6 million square feet and representing 67% of the BWI submarket was 92.3% leased at June 30.

Turning next to the Columbia submarket in Howard County, at June 30 vacancy was 14.2%, up from 13.5% in the first quarter.

There are no buildings under construction.

Our properties in the Columbia submarket total 3.2 million square feet and are currently 95% leased.

Our suburban Baltimore portfolio is 83.3% leased, down from 84.4% at March 31.

Within the submarkets that we operate, there is only 54,000 square feet under construction out of a total 14 million square feet, representing less than 1% of existing stock.

Within COPT's Northern Virginia submarkets, the direct vacancy rate ended the quarter at 16.2%, up .6% from the first quarter.

Quarterly absorption was a negative 300,000 square feet.

Our portfolio of 2.6 million square feet is 97.4% leased at June 30.

Looking just at the Dulles South submarket in Northern Virginia, the direct vacancy rate ended the second quarter at 18.7%, down from 19% in the first quarter.

Our operating portfolio of nine buildings totaling approximately 1.5 million square feet is 97.6% leased.

Our remaining 2009 Northern Virginia expirations total 145,000 square feet or 5.5% of our Northern Virginia portfolio, of which 110,000 square feet expires on December 31.

Within the Colorado Springs submarket, office vacancies were up in the second quarter at 16.4% compared to 15% in the first quarter.

There is 400,000 square feet currently under construction in our submarkets.

Our properties in the Colorado Springs submarket total 1.3 million square feet and are currently 93% leased.

With that, I'm going to turn the call back to Rand.

Thanks, Roger.

Turning to our construction pipeline, at June 30th we had 11 buildings under construction for $287 million, of which $187 million has been invested at June 30th.

No new buildings were added to the pipeline this quarter.

We have signed leases for 24% of the space, however if you include buildings built in anticipation of leasing to the government, our committed level is 52%.

With regard to construction leasing due to overall market conditions, the Colorado Springs properties, the UMBC building, and the Arundel Preserve building have been slower to lease than we initially projected.

The 300 MBP building at 39% leased and 209 Research Boulevard in Aberdeen at 69% leased are both well positioned for the upcoming BRAC moves.

We have 739,000 square feet in our development pipeline, of which 60% will move to under construction this year.

Importantly, 100% of our construction starts this year are for the government and defense IT sectors, thus reinforcing the continued strong demand we see from these core tenants.

In summary, we are prepared to weather the storm and have taken steps to position our company to take advantage of opportunities that will be available later in this recessionary cycle.

We've always grown during recessions and see this severe recession as a significant opportunity to accelerate growth through acquisitions and development.

And with that, we'll open up the call for your questions.

Thank you, Mr.

Griffin.

(Operator Instructions) Your first question comes from the line of Brendan Maiorana with Wells Fargo Securities.

Please proceed.

Hi, yes, good morning, this is Young Ku here with Brendan.

I had a question regarding the development leasing.

You guys have typically announced chunky leasing to be in your pipeline once a project is near completion.

You must have a pretty good sense of some specific users taking space along the way.

Can we expect something similar to happen with your current pipeline, as in once a project is near completion we will see a big jump in development lease rate?

I think that's been our pattern over the last six or seven years and I expect that to also continue this year.

As I said, we do do buildings in anticipation of demand for the government, as well as in this case for the BRAC, and unfortunately the BRAC contractors have not yet had their contracts validated.

That will start to occur after October 1.

There's a lot of discussions, a lot of tenants circling but they're not in a position to sign leases.

So I think as in the past years, we'll be in good shape on buildings that we put into service from a percentage leased.

Could you give us some specific numbers in terms of square footage that you feel pretty confident about?

Well, if I look at the last six years, five of the six years we were 95% leased on what we put into service by the end of the year last year was 88% leased because of one space that we held in reserve for the government.

So I think it's going to be in those ranges.

Okay, thank you for the color.

In terms of investment opportunities, how would you guys compare the yields you're seeing out there for acquisitions versus, say, if you were to start new developments today?

Well, I think for high quality, well located real estate, acquisition yields are probably 100 to 200 basis points lower than they would be for development on average.

And so you would still favor developments in this market?

Well, you got to remember, this is Rand, that we've historically been around the 10% level on development yields, which is probably higher than others.

And so that's what we're competing with when we look at acquisitions.

And of course those developments are generally well leased to new buildings and represent our core strategy.

So and we do see with the construction costs continuing to come down, we do see those yields continuing to move up over the year and into the next year toward the 11% range.

So that's what you're competing with when you're looking at the acquisitions.

Great.

Thank you.

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

Please proceed.

Hi.

Excellent quarter.

Wonderful job, guys.

Let's see, a couple.

Rand, refresh our memory on your historic dividend policy and then what you're expecting for this year.

John, we, they got your name right too; that's one of the few times, so congrats.

We normally review this in September with the board, which we'll be doing again this year.

It is of course the board's prerogative for dividends.

As a Company, we've increased the dividends 111% in the last ten years.

So I would expect, A, that there will be an increase, and B, that we will continue to pay in cash unlike some of our REIT brethren.

I don't know the percentage increase obviously, John.

I don't think it will be at the 10% level but it certainly is still going to be relatively significant.

Okay, and then I think Steve did just an excellent job explaining the realities of sort of a $0.56, $0.57 quarter for the third and fourth quarter on average.

Can you walk through as to whether you can get that back over $0.60 a quarter in 2010, which may or may not be driven by the Blue Bell portfolio?

John, this is Steve and I think you walked you down from $0.67 and talked about the third quarter, and gave you some details on the $0.03 per share for interest expense, $0.03 for Blue Bell and a few other offsetting factors.

So I'm not sure that I'd absolutely confirm the number that you just threw out, but you're right in terms of it walking down and what's left for the rest of the year.

We're not going to give guidance yet on 2010.

The one thing that factors into this that we're not talking about is we do continue to deliver development.

And so there will be development placed in service in 2010 as well as the full year impact that development placed in service in 2009 that will benefit 2010 and we may have some acquisition opportunities.

We're just not ready to clarify that.

Roger, do you want to add anything for '10?

No, the other thing, John, as we mentioned on operating expenses, we are going to really dial down our operating expense benchmarks for 2010.

So we think that will help us.

So we are looking at a challenging year, but we are taking the steps now to make sure that we can hopefully have some growth in 2010.

Well, specifically Roger, you had pointed out I guess about a $1.9 million, $2 million decrease in NOI from Blue Bell, which I think the lease expired toward the end of the second quarter.

And can you get any of that back in early 2010?

Or when can you start getting that back?

I think the earliest we can get that back would be the latter half of 2010 as we bring some of that space back online.

Some of the space really isn't in a position to be leased now unless we wanted to sort of lease it as is at a lower rental rate, and I think our position is to sort of wait and try to find some renovation build a suits, because we do have capital and we do have FAR capability, and we do earn a position with some plans that are ready to go to have an impact quickly if there's demand in that market.

All right, are you still planning on, at one time you were thinking about really tearing down one of those buildings.

Is that still in the cards?

One of the buildings is a large single-story building and I don't know that we will tear it down, but we may tear down some part of it to make it more manageable from a leasing standpoint.

Right, okay.

Thank you very much.

Your next question comes from the line of Michael Knott with Green Street Advisors.

Please proceed.

Thanks.

Hey, Lucas [Harwitch] in for Michael Knott.

I was curious if you guys could comment on the cap rate on the acquisition during the quarter?

The cap rate was in the 9% range.

That included a 12 years with annual rent increases of 3.5% and it also included, though, land sufficient to build another 90,000 square foot office building.

Okay, thanks.

I was also curious if you guys could comment on the recent cyber attacks and the impact they might have on the cyber initiative?

Well, I think it's somewhat indicative of Washington in that they tend to pre-leak information to help justify some of their positions and I think this is reflective of the severity and the importance you'll see.

When I mentioned the cyber initiative and how quickly that's ramping up, I mean to be fully operational for a major four-star command in a year is just light speed and very, very quick ramp-up.

And so it's one of the highest priorities.

The president has said this in a number of times in the intelligence arena that they've got to get this under control.

And so I think you're going to see a lot of expenditures, a lot of efforts in Washington.

You hear ads constantly on the phone now for major defense contractors positioning themselves as experts in that field and already starting to hire people in anticipation of the oncoming contracts.

So we think it's a very, very strong indicator of what we see the demand will be here relatively quickly.

Thanks, and final question is, can you comment on St.

John's recent announcement that they'd be taking over the Opus East Project in Aberdeen?

Well, we had the opportunity to look at that first and as we ran the numbers, I think we were a little concerned about some of the elements.

There are some fairly heavy up front costs related to transportation and once you get to a certain level of volume, you need to pay a significant number.

In addition, you have ongoing expenditures per square foot to the army that become quite significant for operating expenses in addition to the calculations for the land rent.

And when we looked at it, frankly their all-in costs were higher than our all-in land costs, and generally that's going to be for single story products.

So I think St.

John is a great company.

They do flex particularly.

That's their expertise and that is a needed product in that marketplace.

They'll do, realistically if you take away Wetlands and the structured parking, they'll do a million square feet.

We're doing roughly 800,000.

The demand is somewhere between 2 million and 2.5 million square feet for office space in total, and so we welcome their presence in the marketplace and there's lots of room for both of us.

Plus, we need some more square footage.

All right.

Thank you.

(Operator Instructions) Your next question comes from the line of Bill Crow with Raymond James.

Please proceed.

Hey, good morning, guys.

Rand, as I listened to the prepared remarks it sounded like maybe your expectations for the yields on acquisitions have been tempered a little bit.

Is that fair?

If I was to go back a couple of quarters, would you have thought the yields would be higher, there'd be more distress out there?

I think that's a fair comment, Bill.

I think that we were hopeful that we would see yields, going in cap rates over 10% and we've been quite active on bidding on some things.

We've not gotten anything.

There have been a few of the deals, trade and a few as indicators that we did not get them and we've been generally surprised at the cap rates that the deals are going for.

So I think as Roger said in his remarks, there's lots of money out there on the sidelines and it's starting to move on taking advantage of some of those opportunities.

I think we're being a little patient and not necessarily jumping in on the front end of some of these deals.

And the reality is that the special servicer component of the CMBSes, we're just starting to see a hint of a few of those deals maybe coming on the market.

Those will probably be at more attractive cap rates, but the pain of this recession really hasn't been felt yet and so we'll just have to wait and see where the cap rates move towards.

And Bill, I would also add that we're getting a lot of opportunities for what we could call lower quality average located real estate and that has a weak bid, and therefore the pricing on that is extremely favorable, but it's not something that we would pursue.

On higher quality, well located real estate that has a stronger bid, the pricing will be good but not great and it certainly will still be a lot better than it was in the 2005 to 2007 period.

Sure, sure.

Okay, that's helpful.

And then my other question is, the certification of the defense and maybe my terminology is off here, but you were talking about the certification of the defense contractors for the GAAP, or excuse me, the BRAC and how that will stimulate demand post-October 1.

Was that October 1 deadline unchanged from where you had expected it?

And what is the risk that that gets shoved further back even into 2010?

I don't know, Bill, than it's any different than we expected, although we were hopeful that we would have had some of the BRAC leasing be a little bit earlier.

But what all of the defense contractors, 80% of whom by the way are existing tenants of ours, have said to us is they'd love to sign leases right now, but they don't have kind of the nod from the government that the contracts are valid.

And the October 1 deadline is the next fiscal year.

So it's not a deadline that's going to be extended because both C4ISR up at Aberdeen and DISA which is the major of the three agencies moving to Fort Meade, the major one, have said that they're, instead of being September 2011, they're now six months ahead of schedule and will be moving in March of 2011.

So if you look at that timetable, the government really needs to give notices here in that October 1 timeframe to allow defense contractors to start to line up lease space, as well as start to give notice for their employees to move, to accommodate the move.

So it's going to happen in a very compressed manner.

It'll be interesting to see.

So no change in your confidence over what BRAC will mean to your submarkets and your properties?

No, not at all.

Terrific.

Thanks, guys.

Your next question comes from the line of Dave Rogers with RBC Capital Markets.

Please proceed.

Good morning.

Rand, first question for you.

On the acquisition discussion that you and Roger just provided for us, do those comments ring true both within the Mid-Atlantic and the other markets in terms of both the market dynamic as well as your interest in those markets?

I would say, and I'll let Roger comment, I would say that it's probably more true for the Mid-Atlantic area.

We're very, very selective on where we're interested in increasing market share.

We do have a couple of the submarkets in our area here outside of Washington that we are very interested in increasing market share.

And so those are going to have probably a little bit tighter pricing.

We're probably not as interested in increasing our market share in Colorado Springs.

I will also say, though, that we, as we've said in some other calls, that one of the opportunities that we're seeing relates to developers who are unable to get financing and have turned to us.

And these are excellent opportunities that probably meet or certainly almost exceed our cap rates that we would expect from our normal development.

And so those are out there that are kind of in a different category than the cap rates that we've been talking about for existing properties.

And Roger, as a follow-up to your comment on market conditions, when you speak with respect to the Fort Meade area and tying it into the cyber security, you gave percentage availability, I think, in your comments.

And if you could go a little bit deeper, if you don't have it that's fine, but if you could go a little bit deeper in terms of what on a per footer, a square footage availability basis is there in and around Fort Meade?

So [MBP] on base availability if you have any stats regarding that for office, Arundel, and anything you would think competitive to the cyber security bid going forward in terms of the square footage availability in that particular marketplace?

Well, I think the market that will be impacted by both this and by cyber security includes both the BWI submarket, which we talked about where we have two-thirds and we have 4.6 million square feet, two-thirds of that in terms of market share.

But also the Columbia submarket will be impacted because the Columbia Gateway Business Park is really only one major interchange to the south and to the north and to the west of Fort Meade.

So I think Columbia will also have an impact and that, obviously, is a pretty sizeable market.

But there's a lot of product, but some of it is not as functionally right as it should be for what the contractors and the government certainly want.

So I think you'll see maybe a higher incidence of vacancy, but at the same time there'll still be a demand for product for core quality product that's close and that is very functional in terms of what the contractors want to solve for in terms of floor plates, number of parking spaces, ceiling heights, et cetera, et cetera.

And so there's a lot of secondary product that may not compete.

So the headline statistics may be a lot worse than what the actual reality of supply and demand is in that market.

I think, Dave, the contractors do need the skiff space.

There's virtually no empty skiff space in the markets which are outlined, and so that's going to drive towards new square footage.

We still believe that the demand, the BRAC demand for Fort Meade is around 4 million square feet offsite and that number would be increased yet to be determined with the cyber initiative that I mentioned, if the cyber plan ends up at Fort Meade.

So we've got a lot of square footage in front of us.

We'll get more than our fair share of it, I'm sure, and it'll be good for our growth.

Thank you.

Your next question comes from the line of George [Auerbop] with ISI.

Please proceed.

Thanks.

Good morning.

Going back to your comments on the higher quality assets that you've bid on but failed to win, what kind of unlevered returns were the winning bids looking for?

And I guess also how far away were you from the winning bid?

Well, a lot of the transactions haven't closed yet, but our sense is that the bids for stable properties that are, again, reasonably well located and reasonably high quality buildings will be in the low 9% range as opposed to, I think, an expectation was maybe they would be higher than that.

That's 9% on a cap rate or IRR?

That's on a going in yield with a cap rate somewhat higher than that.

I mean, sorry, with an IRR somewhat higher than that.

Got it.

How are bidders thinking about market rents in the Mid-Atlantic over the next few years?

Well, I think what people are trying to do is buy as much in place income as they can to get out three, four years so that they're not subjected to the supply and demand imbalances where rents could roll down.

And so you go in buying a 9.5% deal only to find out that you really bought an 8.5% going in yield because you got one year or two years worth of benefit and your rents roll down.

So I think that's the big risk that all investors are trying to under-write now is where rents will ultimately be, and so to the extent that you can buy assets to get you past the next couple of years, they have a higher incentive to buy those assets.

Right, and finally, can you characterize what kind of capital is bidding on these assets?

Is it local players, pension funds, foreign capital?

Any color would be helpful.

There's some private but there's a lot of private REITs have raised a lot of money and continue to do so, and they are pretty active in the markets I think and probably competing against us.

And again, we are just talking about a few transactions at this point.

So I don't know if our sample is enough to talk about the entire universe.

Okay, that's great.

Thank you.

Your next question comes from the line of Chris Lucas with Robert Baird.

Please proceed.

Good morning.

Maybe just a follow-up on that line of questioning, Roger.

Do you have any sense as to how competitive the bidding is in the various areas that you've looked at, whether it's Mid-Atlantic or some of the other markets?

I don't know that it's that deep, meaning it isn't like it was in 2007 where there were 25 bidders all within a very narrow band willing to buy an asset so that if somebody dropped out there was a ready buyer at the same price right behind him.

So I think the number of bidders is much less, but it only takes one and there has been one in some of the deals we have participated in, again, to acquire an asset, to compete away what we thought were going to be excessive returns for certain investments.

And is your process, do you have a wish list of assets that you're looking at?

Or is it a little bit more open in terms of your thought process on acquisitions?

Well, we put everything through a lot of filters and the primary filter is, is it strategic, does it advance the franchise, is it a niche or specialty building.

And so we obviously try to emphasize as much as we can that, because again we're trying to increase the super core element of our investment strategy.

And then once we get past that, we then of course like everybody else look hard at replacement costs and at going in yields, and internal rates of return.

But we are trying to focus real hard on core assets to accentuate our franchise.

And Rand, can you just -- you provided a nice review of what's going on with the EUL at Aberdeen.

Can you do the same for us at Ford Meade?

Fort Meade, obviously that was awarded to Trammell Crow.

The site does not have road frontage on 175 and it's scattered with Wetlands, but they potentially could do up to 2 million square feet.

A million of that would require structured parking.

And to our knowledge, and what's reported in the marketplace, the EUL has not been signed by Trammell Crow.

There was an article in the paper last week from the BBJ and when I talked to the reporter afterwards, he said it was really an update one.

It wasn't really any new news.

The one thing is that the army, I think, as a result of the experience that they had with Opus's bankruptcy has really put the pressure on anyone signing an EUL to be able to demonstrate financing.

So that's what the articles have been saying is that the army is out there trying to push Trammell Crow to demonstrate financing.

They have the same situation.

There's a substantial free frontend payment for payment in lieu of taxes that would be paid to the county.

And that plus the land rent and the percentage of return expected on the FAR basis makes it a very, very tough economic deal.

So I think it remains to be seen, Chris, whether or not that transaction is going to be finished or whether they're going to have reopen it and go back through the process again.

And then, again, great reviews on kind of status of the BRAC moves for Fort Meade and Aberdeen, but what's the update at Fort Detrick?

Fort Detrick is still on track for by the end of September 2011, they have 4,500 new jobs coming in, 3,000 of which are offsite and 1,500 of which are onsite.

The buildings onsite are under construction and Fort Detrick, that area around Frederick has been really hampered by the no growth on the attitude of Frederick County and by somewhat the lack of water until recently as they extended from the Potomac.

So they're behind schedule up there on making square footage available offsite and everybody's scrambling to try and figure that out.

So I think that one is dragging a little bit compared to the other ones in Maryland.

Very good.

Thanks a lot guys.

I would now turn the call back to Mr.

Griffin for closing remarks.

Okay, thank you everyone for joining us today.

I know it was a really busy day with sixteen firms reporting and so we appreciate those of you that were on the call today, and as always we appreciate your participation and support.

All of us are available to answer any other questions you might have and we hope you have a great day, and a great rest of the summer, and we look forward to the next call.

Thanks and have a good day everyone.

Thank you for your participation in today's Corporate Office Properties Trust second quarter 2009 earnings conference call.

This concludes the presentation.

You may now disconnect.

Good day.