COPT Defense Properties (CDP) 2015 Q2 法說會逐字稿

Welcome to the Corporate Office Properties Trust second-quarter 2015 earnings conference call. As a reminder, today's call is being recorded. At this time, I will turn the call over to Stephanie Krewson-Kelly, COPT's Vice President of Investor Relations. Ms. Krewson-Kelly, please go ahead.

Thank you Whitley. Good afternoon and welcome to COPT's conference call to discuss the Company's second-quarter 2015 results and our guidance for the remaining quarters of 2015. With me today are Roger Waesche, President and CEO; Steve Budorick, Executive Vice President and COO; Wayne Lingafelter, EVP of Development and Construction; and Anthony Mifsud, EVP and CFO.

In addition to our supplemental package and press release related to the second-quarter results, please note we have posted three additional items to the investor section of our website. First, there is a flip book that accompanies management's remarks for this morning which you will need to download before management delivers their prepared remarks. Second, there is a flip book and press release related to our intent to acquire 100 Light Street, a 549,000 square-foot Class-A office tower in Baltimore's Pratt Street Corridor submarket. Third, we have posted a study on the Baltimore office market just published by the Sage Policy Group, an economic and policy consulting firm in Baltimore Maryland founded by Anirban Basu.

As management discusses GAAP and non-GAAP measures, you will find a reconciliation of such financial measures in the press release issued earlier this morning and on the investor section of our website. At the conclusion of management's remarks, the call will be opened up for your questions.

We remind you that statements made during this call may be forward-looking statements within the meaning the Safe Harbor of Private Securities and Litigation Reform Act of 1995 and that actual results may differ materially due to a variety of risks, uncertainties and other factors. Please refer to today's press release and our SEC filings for a detailed discussion of forward-looking statements.

With that, I will now turn the call over to Roger.

Thank you Stephanie. Good afternoon everyone. The Company generated solid results in the second quarter.

As you can see on slide 3, our FFO per share as adjusted for comparability of $0.52 was $0.03 above the midpoint of our expected range. Favorable NOI growth and the later issuance of our senior notes supported the higher results. Most operating metrics were in line with our expectations, including the occupancy gains in our same-office and total portfolios and solid economics on renewing leases. Stronger than expected renewal rate and lower recurring CapEx also supported the quarter's results.

Based on these strong results, we are increasing our guidance for FFO per share as adjusted for comparability for the year by $0.01. The revised midpoint of $2.02 implies 7.5% growth over 2014 results. Slide 4 provides the assumptions underlying our revised guidance.

Please turn to slide 6 for more color on our same-office cash NOI growth. If you exclude five assets that represent temporary leasing challenges, the remaining 96% of our same-office portfolio generated 4.4% growth in the second quarter. Even though we expect total same-office cash NOI to grow modestly for the year, excluding the five assets, the remaining same-office portfolio was on track to achieve 2.5% growth.

Slide 8 addresses our renewal forecast for the next few years. Now that we have sold the MITRE building in northern Virginia, Booz Allen's 400,000 square foot lease in One Dulles Tower is the only large block of space we expect to get back between now and the end of 2017. We are aggressively marketing One Dulles to prospective new tenants and also considering other alternatives.

The lack of significant nonrenewals in our portfolios is an important point, so let me review it in more detail. Setting aside the Booz Allen nonrenewal for the next 2 1/2 years, our portfolio contains only eight lease maturities that are greater than 100,000 square feet. Four of the eight leases are secure facilities leased to the government, which historically have a 100% renewal rate, and we expect the same for these four. We have documents out to two tenants for -- two of the remaining leases -- two of the four remaining leases and expect to have them executed this quarter.

We expect the seventh lease to be renewed given the nature of the mission being supported in that building. And finally on the eighth lease, which expires in 2017, we expect the tenant to retain between 40% and 100% of their current space depending on what happens with their government contract.

So after January 1 and through the end of 2017, we do not anticipate any impactful nonrenewals, and as a result, we expect our renewal rate to be 70% or better. While we are encouraged by the growing momentum in our existing portfolio, we're excited about the external growth opportunities in our markets. Development is in this company's DNA and will remain the primary driver of external growth.

Slide 10 summarizes the future cash NOI embedded in 22 development and redevelopment projects that are not in same-office. When stabilized, these projects are forecasted to generate as much as $50 million of annual cash NOI. Today, 15 projects are scheduled to contribute $35 million of annual cash NOI to future results, $15.5 million of which is in our 2015 guidance.

Slide 11 illustrates the demand we are experiencing for new construction, particularly from customers in our Strategic Tenant Niche continues to grow. Our shadow development pipeline now exceeds 1 million square feet and demonstrates the capacity our development platform has for future growth.

Please turn to slide 12 that lists our 2015 acquisition properties. Namely, Metro Place II which is a transit-served Strategic Tenant Niche building and two Class-A high-rise buildings in the Pratt Street Corridor submarket of downtown Baltimore that increase the percentage of urban square footage in our regional office portfolio. From a capital allocation perspective, we chose to acquire these buildings while also funding development in our Strategic Tenant Niche because the two investment choices are not mutually exclusive.

Our development returns remain very attractive, which means an acquisition has to be extremely compelling. It has to be a high-quality building, it generally needs to be urban, mass transit-served and in an amenity-rich location. An acquisition also needs to be value creating and enhance the durability of the Company's cash flow and simplify our operating profile.

Assuming 100 Light Street closes next month as planned, each of these three acquisitions checks all of these strategic boxes. Together the properties represent a $270 million investment with a combined stabilized cash yield of 7.8% plus 2.5% to 3% annual expected growth for many years. These acquisitions generate immediate cash flow, have no execution risk, are high-quality assets with compelling long-term growth prospects, and therefore represent attractive risk-adjusted investments.

Another capital allocation point I will highlight is that we are very intentional about investing outside of our Strategic Tenant Niche. We are highly confident that our niche will continue to generate steady growth. However, we don't want to tie 100% of our business to any single source of demand regardless of how attractive.

The 25% of our business represented by our regional office portfolio serves two purposes. First, it allows us to leverage our local sharpshooter expertise into another office platform. Second, it complements our Strategic Tenant Niche because it is not correlated to government demand drivers.

Please turn to slides 13 and 14 which summarize why we are confident in downtown Baltimore's growth prospects. We are aware that our view is contrarian but also certain it is correct. Baltimore has been experiencing a renaissance that is durable and has been transforming in two ways. First, Baltimore's economy has evolved from one that relied on manufacturing and heavy industry to one that is driven by industries of the future, namely healthcare, education, technology, research and biotech.

This economic transformation is supported by the market data that shows Baltimore ranks fourth among the top 50 markets in the combined employment concentrations of healthcare, education, government, and technology. The top three cities are Washington, Boston, and San Francisco.

Additionally, CBRE ranks Baltimore as being in the top 10 markets for the tech industry and in recent years ranks Baltimore second behind San Francisco for growth in tech talent. Also in the second quarter of this year, Baltimore led the country in job growth.

Baltimore's second transformation has occurred in its demographics. The national trend toward urban living that has been playing out in Baltimore has rapidly gentrified the city's downtown neighborhoods that frame the harbor. The proliferation of high-end residential, mixed-use and retail development and redevelopment has been in response to the demand from new, generally young, affluent workers who want to live and work downtown in a vibrant urban core.

Resulting from the influx of new residents, Baltimore's current demographics now compare to cities like Boston, Seattle, Portland and Minneapolis. For example, the Baltimore MSA ranks in the top 10 in the country in terms of millennial population growth, median household income, and educational attainment.

The residential conversion of former office space and ground-up residential development in Baltimore's downtown have dramatically improved office market fundamentals by reducing supply. Based on projects and planning, this activity shows no signs of slowing down. Approximately 2 million square feet of older office product has been or is being converted to residential use, contracting the supply of office space.

High-profile mixed-use developments are close to commencing on three of the most valuable available land sites on Light and Pratt Streets. Each will be primarily residential in nature, add to the market's growing affluence and create further barriers to new office supply. Additionally, replacement cost trends for Class-A office in downtown Baltimore are 35% to 50% higher than in place rents, which also mitigates the threat of new supply.

Regarding the demand side of Baltimore's office fundamentals, employers are moving into the downtown market to attract and retain highly educated workforces. Against the backdrop of shrinking supply, demand from corporate relocations and expansions has supported 2% annual rent increases in recent years for Class-A product in the Pratt Street Corridor where 250 West Pratt and 100 Light are located. During the same time, Class-A rents nationally have increased less than 1%.

In short, while we understand that Baltimore isn't Washington, Boston, or San Francisco, its profile has improved greatly, especially in the last decade. All the necessary fundamentals required to propel Baltimore's economic growth are in place. The urbanization, the growing population of young affluent workers and the employers are moving into the market to hire those workers. These characteristics are established and bolster our view that Baltimore is poised for growth.

Please turn to slide 15, which highlights our 100 Light Street acquisition. We posted a presentation and a press release on 100 Light earlier this morning, so I will keep my remarks brief and underscore why we are bullish on this building. First, this is an outstanding property that checks all the real estate boxes. It's located in the heart of the Pratt Street Corridor and has great harbor views.

The average lease term of eight years is with good credit tenants. In place NOI is scheduled to increase between 2.5% to 3% a year. Notably, about $75 million has been invested into the property since 2009.

The building has good floor plates and ceiling heights, favorable on-site amenities such as parking, fitness and restaurants, and Baltimore's Center Club, and our purchase price of $190 per square foot is less than half of replacement cost. Although the building is 94% leased, we believe the building has upside potential related to the retail, garage income and restaurant operations, areas where our local sharpshooter expertise comes into play. Additionally, given downtown Baltimore's favorable supply and demand dynamics and the building's average in place rent of approximately $28.50, we expect rent growth.

The last point I would like to discuss is funding. Please turn to slide 16, which summarizes our sources and uses through 2016. Very simply, we're selling suburban assets for which there remains a strong bid. The three buildings we bought this year are not incremental to our portfolio but instead represent the execution of a densification strategy for portions of our portfolio. By selling suburban assets such as the MITRE building that we just closed on yesterday, we will optimize our portfolio's growth potential and also maintain our balance sheet's investment-grade rating.

So to summarize, the three main takeaways from today's call, our existing portfolio is recovering from a cyclical bottom, is gaining positive traction in terms of future expected same-office NOI growth. Development continues to dominate our external growth given the increasing demand we see from our Strategic Tenant Niche. And we're selling suburban office buildings in order to fund our development pipeline, which is primarily driven by Strategic Tenant demand at three compelling acquisitions we've discussed, two of which significantly densify our regional office portfolio.

And will that, operator, please open up the call for questions.

(Operator Instructions)

Gabriel Hilmoe, Evercore ISI.

Steve, just on the $200 million, $225 million of development spend, how much of the 1.2 million square feet of shadow development pipeline do you need to get converted to a pre-lease or build-to-suit to hit that number? It looks like you only have about $100 million left to spend on the current pipeline?

That's about right. I'd say maybe a third.

Okay, and I guess, Roger, on the Booz Allen space and the moveout next year, is that a building you would consider selling? I know you mentioned you are looking to actively market it right now. But just given what you did with the MITRE Building, is the plan to try to re-tenant that? Or is that something you would potentially sell near-term?

We're trying to re-tenant the building, both from a commercial standpoint and a GSA standpoint. And then, secondly, we would consider selling the building as long as we could receive an attractive price. Fortunately, we paid $71 million for the building back in 2003, or just under $180 a square foot, and have had significant cash flow for the last 12 years. So we're in good shape with respect to how we felt on that building, and we would consider selling it, but only for an attractive price.

Okay, and then just maybe one last quick one for Anthony or Steve: can you give a sense of what the mix is on the sales, land versus operating assets, that's embedded into the $350 million to $400 million? And maybe what the broad assumed cap rate is on the operating assets, given the mid-teens cap rate on the MITRE deal?

Virtually all of the assumed dispositions in our forecast for both the remainder of 2015 as well as 2016 are operating assets, and we have an assumption that the average of those dispositions would be an 8% cap.

Thank you.

Jamie Feldman, Bank of America.

Thanks, good morning.

Just focusing on Baltimore a little bit more -- first of all, I think you gave a blended cap rate or yield for the assets. Do you mind breaking them out in terms of what the cash and GAAP yields are, especially for 100 Light?

For 250 West Pratt Street, the approximate going-in yield was about 8%. That was on a GAAP basis because there was some free rent that rolled off by the end of 2015, so once we get to 2016, the GAAP and cash are pretty close. On the MITRE Building, we were just a little over 8%, and then on 100 Light, the going-in yield is about 7.5%.

You said MITRE but you meant --

Metro Place. The Metro Place was 8%.

And you said 100 Light is 7.5% GAAP or cash?

Cash.

Okay. And then, bigger picture -- I know you said you wanted to keep some nonstrategic assets in the portfolio for some diversification, risk diversification. Can you talk about what you think about the long-term growth rates of your businesses, the Strategic Niche versus what you are buying here in Baltimore?

When we had our investor conference back last September, we suggested that our same-store NOI growth once we got finished with our cyclical challenges, which were near bottom now, would be in the 2.5% to 3% growth standpoint. And we still expect that, both in our Strategic Tenant Niche and in our regional office portfolio.

Okay; and then I guess incremental growth from development.

That's correct.

And then I think you guys previously gave 2016 guidance, or at least occupancy outlook in terms of -- you expect the hit from Booz, but then think you could get back to a higher number by year end. Can you update us on how you guys are thinking about the occupancy outlook over the next year and a half?

Well I think, Jamie, what we put out was that we would have a 60% renewal rate for a 24-month period. That renewal rate will go up somewhat now because the MITRE nonrenewal is no longer in the portfolio. And so what we said a few minutes ago was that, if you except out Booz Allen, we expect renewal rate in the 70% or even greater, even beginning almost immediately.

Okay, but in terms of an occupancy pickup in 2016, any thoughts there?

We haven't provided that number yet. Our expectation is that occupancy at the end of 2016 will be higher than it was going into 2015.

Okay. And then I think on the last call, Anthony gave a same-store outlook for this year of 50 to 150 basis points of cash same-store growth. Can you update that, is my last question.

Sure. What we're highlighting in our current assumptions is that the same-office cash NOI for the entire same-office portfolio is at 50 basis points, so at the lower end of that range. But we also broke out those five assets that Roger referred to in his comments, and absenting out those assets, 96% of the same-office pool is growing at 2.5%. So those five assets continue to be the ones that we are focused on with respect to the leasing challenges for the same-office portfolio.

But you gave a full-year outlook for all of 2015?

For all of 2015, it's 50 basis -- so we were 50 basis points to 150 in our original guidance, and currently we're at 50.

And that's your outlook for the rest of the year?

Jamie, we started the year in the hole, if you remember, because we had a seasonally challenged winter. And so we were 1% minus in the first quarter, so we've recovered in the second quarter to 0.6%, bringing the year-to-date to still a little bit negative. So we've got to go positive in the last two quarters in order to get to the 0.5% for the year.

Okay. Thank you.

Thank you.

Manny Korchman, Citi.

Roger, if we can stay on the same topic for a second, I'm more curious: what changed in the last three months that your assumption would come in 100 basis points? You were negative in the first quarter, but that's when you reiterated the 50 to 150. So what changed in this quarter that could have gone better, that didn't?

I think it's just timing of lease-up, getting some tenants in. We had good leasing in the second quarter. We had a positive replacement ratio -- that is what we lease was greater than what nonrenewed. But it's just getting the tenants in place and getting them rent paying.

Got it. And can you give us an update on Canton Crossing, if anything -- any progress there?

This is Wayne.

We will be going in front of the Baltimore planning body here in a couple of weeks to make our first presentation publicly on our plans for the site. So we continue to work through that entitlement process, and at this point don't have any immediate plans to be starting construction.

Great, thanks.

Craig Mailman, KeyBanc.

Hey guys -- just curious on Baltimore. You guys made two acquisitions this year. Is there anything else in that market that you guys are currently looking at? What's the upper threshold of your concentration that you want there?

Right now, we are very much on hold. We are focused on selling assets so that we can fund both the acquisitions that we have made so far this year plus the Strategic Tenant Niche investments that we have committed to and those that we think we will commit to over the next several months or couple of quarters. There is no current plans to add any additional assets for downtown Baltimore. We're comfortable with the three assets; we think they are great assets, but we're where we want to be in terms of exposure at this point.

Okay. And then, as we look at the asset sale guidance you put out there, I noticed about half of the shadow pipeline is the shell data centers. Any thought about recycling some of the ones you guys have already done, to redeploy into that product type?

Right, so if you look at what we have in the queue to sell, number one are some assets in suburban Baltimore. Number two is a few assets in northern Virginia, and number three are some data centers that are in the Company's portfolio. So there are three primary targeted groupings in terms of asset sales for now and into 2016.

Okay. And then just on the Booz Building, looking at the IRR you guys got on the MITRE asset, would it be similar to that type of low single-digit IRR for that building that you guys would accept? Thoughts there on what the floor would be, and even how you are thinking of it, sell versus re-let?

We think about a sale in the context of what we can sell it for as rebuying the property and what our IRR would be going forward. And that's how we looked at the MITRE situation and that's why we decided to sell the building. In terms of the Booz Building, we bought it at a very favorable price point, $71 million, or under $180 a square foot. And we've had cash flow from day one through the end of 2015, so 12-plus years. And the building would sell empty for an amount greater than what we acquired the building for, so we'd have a very positive IRR on that asset.

Okay. And then just the last one: thoughts on DC-6 here? How close are you guys to either seriously considering joint venturing or selling outright?

Well, Craig, we're just about ready to put the final space into place for our large tenant that we signed back in February, and then we've got some other leasing that is a possibility and a possible expansion inside of the envelope that exists now for our large tenant. So we want to see that play out for the next couple of quarters, and then we will give some serious focus to monetizing potentially part of that asset.

Great. Thank you, guys.

Michael Carroll, RBC Capital Markets.

Thanks. Roger, can you describe your strategy to diversify from the Company's Strategic Niche? What markets are you focusing on? And do you want to grow this portfolio further, or are you happy with the current size?

We're very happy -- because our niche is largely located in the greater Baltimore / Washington / Northern Virginia region, we are a local sharpshooter in that market because of our operating platform. Both our property management and development, redevelopment, tenant improvements, customer relationships, broker relationships, et cetera. So the focus has been on for the regional office portfolio to stay within that envelope. And I should say that the Company has never been 100% Strategic Tenant Niche, but today we've never been more niche -- we're more niche today than we've ever been. So today we are 75% niche. Back when we started the strategic reallocation plan back in April 2011, we were 60% niche and 40% regional office portfolio. So we've grown from 60% to 75%, and that's a comfortable number for us.

Okay, and then out of the $400 million of planned sales, is there anything within the portfolio outside of that, that you want to sell currently or just the $400 million is all you are expecting?

When we created the list, we got well over $500 million, and then we pared it down in terms of a hierarchy or a priority for $400 million. But over time, there are more assets that we're willing to sell. It really gets down to -- with our stock price where it is. It has to do with choices, with trade-offs, and we will sell assets that aren't as sensitized for those that we can get to a densification situation.

Are all those sales outside of your Strategic Niche?

They are, yes.

Great. Thank you.

Dave Rodgers, Baird.

Good afternoon. Steve Budorick, a question for you.

It looked like leasing economics in the quarter were pretty weak, despite seeing better velocity in the leasing. So can you talk a little bit about what drove the weaker leasing economics? Was it a particular product type, mix, location that drove that? Or should we expect to see that bounce back? What are your thoughts?

Well, they are actually stronger in the second quarter than they were in the first quarter, if you look at the last supplement. We did a lot of [regional] activity in suburban Baltimore that was a little bit more negative on a cash rolldown than I expected, and than we would have hoped. But the quarter as a whole is about in line with what we have guided to for the year.

And earlier in the third quarter, what did leasing velocity look like? Are you feeling better, similar trends, any thoughts there?

I've been waiting for that question. We're feeling really good about the third and fourth quarter, particularly in the context of some of the larger buildings that we have identified as leasing challenges. On page 7, we identified five buildings that are pulling back our same-office cash NOI growth. Starting at the top, at 310 The Bridge, we are in lease activity now that will bring us over 90% on that building by year end. At 3120 Fairview Park, we are currently leased to 80%-plus, and we are working on one of two deals to put that building away. At Maritime Plaza, our activity has picked up. We've got 87,000 square feet of leasing activity against 101,000 square feet of vacancies. So in coming quarters, we are expecting improvement. The aerospace building that we got back late last year we identify as Greens I. We have 150,000 square feet to lease and about 120,000 square feet of active prospects right now. And at Patriot Ridge, we've had better activity this year than we've had in a long period of time, with about 100,000 square foot of tenants working against 116,000 square feet of vacancy.

All of that is contract-driven work with demand drivers in the area, and as those contracts get awarded, we're optimistic we are going to put some leases away in the second half.

Maybe last question, on the Booz space, taking a sale of that building aside, what's the activity or traction on that space?

It's a little preliminary. It's hard to show the building right now because it has secure elements in it. Our strategy on that building is focused on large tenants; that's where the real value creation can come from. It's one of the few large blocks of that size in all of Northern Virginia, and it's certainly the best or among the best building quality for that size. We're tracking three large consolidation opportunities. They are in very early stages, but we have shown the building several times. All of those are 300,000 square feet or bigger. And with a little further-out timeline, there are several large GSA requirements that could be getting through Congress' funding approval; all of those over 300,000 square feet. So we are looking for big tenants.

Okay great; thanks for the update, Steve.

Brendan Maiorana, Wells Fargo.

Thanks, good afternoon.

Steve, in response to -- I think it was Jamie's question about the occupancy -- I think you mentioned that 2016 occupancy you expected to be higher than the beginning of the year -- or the end of 2015. Is that inclusive of the vacancy with Booz? Or are you saying if you include Booz at 100% occupied or the 400,000 square feet, you still think, even by the end of 2016, you get to a number that's higher than that occupied number?

It presumes that we address some of the buildings I just spoke to in detail significantly by the end of 2016. And then capture some additional occupancy around the portfolio and absorb the hit from Booz.

Okay, so it would be -- to take your statements there, you'd have net pickup of more than 400,000 square feet of net absorption, ex Booz?

That's what is contemplated.

Great. Thank you.

So Roger, with the Booz Building that is there, maybe you can highlight how you guys thought about the sale of MITRE and the return outlook relative to a $28 million purchase price. And is that illustrative to think about the returns that you thought about for that building if you were to hold it, versus how you are thinking about the Booz Building as well?

So we tried to look at the MITRE Building in isolation, but also put it in the broader context of the Company: the fact we don't have our share price, overall risk profile, and take a hard look at the Northern Virginia operating environment. So it was an off-market deal. The tenant, in our view, had a very low probability of renewing, and so then we started to look at the building from a regional office standpoint, and looked at its characteristics in terms of Metro and amenities, and looked at Northern Virginia leasing situation in terms of downtime, free rent, the amount of TI that was going to be required to invest in the building, plus the likelihood of multi-tenanted.

And so when we looked at the offer and added the costs, we determined that our capital was better invested in our existing development portfolio than it was in reinvesting into the MITRE Building. Now obviously there's a buyer on the other side, and they probably have a different perspective than us, and it may be around where the rent ultimately is. But in the broader context, we think we made a good transaction. It was the right value decision for our shareholders.

Do you feel like, just looking at the exit cap rate, and maybe rents were a little bit above market, and maybe there's lots of downtime and a bunch of other assumptions that could go into it, are the challenges that were present at the MITRE Building -- did they also exist in the Booz Building? Or do you feel like an empty Booz Building is better positioned in the market versus the MITRE Building?

I will take that one. I think the Booz Building is far better-positioned. It's a fantastic building with great visibility right off the tollway, very close to Dulles. It's in a submarket that tends to compete for larger tenants. Conversely, the MITRE building is in a submarket that competes for smaller tenants. So re-tenanting a 150,000 square foot building in Tysons Corner without Metro access was nowhere near as predictable or likely for quick success as I think -- ultimate outcome that you can achieve on the Booz Building.

Okay great. And last one for Anthony: the $300 million unsecured issuance -- it seems like the spread was a little bit wider than what we would have expected. Was there consideration, or could you maybe give us some thoughts as to, did you think about a term loan swapping at the fixed? And would pricing there have been more attractive if you chose to go down that route?

Yes, I think the expectation on our end was that it also was a bit wider than what we had thought. But just to give you a little bit of context on the fixed income market, it has been deluged with suppliers throughout 2015. And based on our desire to go long on our maturity schedule, we chose to execute the transaction and eliminate that risk. We are considered in the fixed income market to be an infrequent issuer, and because we are infrequent and because we are going to be seen as an issuer that's going to come in at the index-eligible size or something just over that, we're penalized for that because investors have the option of going to much larger, much more liquid transactions. And when a smaller issuer comes, they have been demanding additional spread to compensate for that illiquidity.

We thought it was the right move for the Company to put the 10-year money away and to extend our debt maturity ladder. I think of we had chosen to go for a bank deal, a bank term loan -- which we did do one this quarter as well -- we could have upsized that transaction. But I think we believe the rate was the right decision for the extra five years of term, because in the bank market, we probably would have been locked in at a 5-year term. We thought that long term was the right capital for the Company.

Sure. Okay. Thanks for the time.

John Bejjani, Green Street Advisors.

Steve, on the leasing front, is there any reason for the slower-than-expected development pipeline leasing velocity? And then on -- the average lease term on renewals this quarter seemed fairly short. Is this reflective of any change in the defense leasing environment? Or is there anything to read into this?

No. Let me address the term. Just think of it as statistical coincidence this quarter. It's not representative of overall change. With regard to development leasing, it's lumpy. It has been in the past and it continues to be. We've got a lot of good activity on existing buildings that are in our development pipeline right now. And we're expecting some pretty positive results in the next two quarters.

You guys have any thoughts toward slowing the growth of the development pipeline, given your current share valuation and sub 60% pre-leasing you have today?

Right now, we will do as much development as we can, as long as it is highly pre-leased. And we will again be selling assets to fund the development pipeline. So we think we will be selling shorter-maturity leases for longer-term leases with the development pipeline, and that's really our goal.

And John, if you look at page 11 of the flipbook, the first two, which are the two largest subsets of our shadow development pipeline, the data center shells and the campus in Huntsville, all those would be pre-leased transactions in order for us to put the shovel in the ground.

Okay, great. And I guess, Roger, a related question: you guys have been a meaningful net external grower this year and expect to continue to be so through 2016. How do you guys justify, or how do you think about net external growth, when you are trading at a 20%-plus discount to NAV? Or more broadly, how do you think about your cost of capital?

Well, clearly our cost of capital has increased, and we have no appetite to issue equity. So that means we've got to look at our existing portfolio and make choices. And that's what we're currently doing. But we still think, even with our elevated cost of capital, that we have a positive favorable spread on development that we can accrete, both from an earnings standpoint and more importantly, from an NAV standpoint for our shareholders. We will keep doing that.

Now acquisitions, on the other hand, we will take a very backward step to where we were when we entered the year.

All right. Thanks.

Thank you, John.

John Guinee, Stifel.

Great, thank you.

We are rooting for the home team, but it feels a little bit like the Baltimore Orioles right now. Let me ask Roger the million-dollar question that no one is asking. If I look at page 11, which is your core portfolio in your sup, and I look at the secondary defense industry markets, so excluding NBP, [client] Columbia Gateway, which are obviously great submarkets, you've got Airport Square, a bunch of tired products at about 88% leased. Westfield, 770,000 square feet, 78% leased despite giving back two buildings that are now 25% leased. Patriot Ridge -- I think that's been stabilized for two or three years now, that's 50% leased. Merrifield -- sounds like from your flipbook maybe it's got some traction. That's been a four-year lease up. Capital Riverfront, 70% leased. St. Mary's, King George County -- these assets are 80% leased with a ton of roll, as shows up on page 17. North Gate Business Park at Aberdeen Proving Ground, 46% leased. And then I flip to the development pipe and National Business Park, 310 Centennial Way finished, and that's vacant. Nova Office B, that is Westfield; that's just finished this quarter, that's vacant. Is maybe this Strategic Niche long in the tooth?

No, we're very confident in the Strategic Tenant Niche. You have got to remember, we're just cyclically challenged. After 9/11, the business took off like a rocket, and then as things do, it overshot and the Budget Control Act of 2011 kicked in. And the contractors saw that coming, so they started to rationalize their business models and rightsize their space. And unlike a hotel company, we get our occupancy back over an extended period of time.

So it's been painful, but we do think that the majority of the tenants in our portfolio have now had a roll since the Budget Control Act. And what we have said for the last couple of quarters is that would be finalized by the end of 2016. But most of the locations have durable demand drivers. You mentioned Westfield, for instance, with the NRO there, and now the FBI has moved in with their cyber operations. And then there's another government anchor that is moving into that park. We're very bullish long-term on Westfield. Were very bullish long-term on Pax River and its growth. The only one where we are concerned about is Aberdeen, and the Company has $51 million invested in three buildings there. And we're doing the best we can there trying to create niche product to satisfy the base there.

I think long-term, where we are where we want to be; it's just in any business, there is a cycle. And we've been on the downside of that cycle, but we think we're at the bottom and we will be bouncing back imminently.

And the second question -- obviously I am looking out the window and you put together a great slide deck on Baltimore. But you can put together that slide deck on 15 or 20 markets throughout the country. How did you pick Baltimore to double down in your own back yard, as opposed to any of 20 or 30 other markets in the Southeast or the Southwest?

Well, actually, we did look at a number of markets, and what we determined was that, while there is growth in many of the Southeast markets, we determined that, from an employment situation -- again, healthcare, education, technology, those industries -- biotech -- those things that we thought were going to grow, Baltimore really showed up very well on all the statistics. Plus, there is the concept that we're a local sharpshooter; we've got the platform to operate locally; we don't have that elsewhere. And we don't need to create a second or third market.

We like our Strategic Tenant Niche. We think it will grow, and supplement it with a modest 20% to 25% regional office portfolio housed in the Baltimore / Washington / Northern Virginia region will give this Company great stability long term and great growth prospects.

Great. Thank you very much.

Tom Catherwood, Cowen and Company.

Yes, thank you. Just a couple quick cleanup items.

In the presentation about 100 Light Street, you talk about 2.5% to 3% internal growth. Is that the contractual lease bumps on what you have in place? Or is that an expectation of what you will get from lease-up?

No. The average in-place lease maturity is eight years, and actually, with the big three tenants, it's 11 years. So that's really locked in. So the risk on the portfolio -- or I should say, the variability and the opportunity on the portfolio, is to grow the rents on the non-three big tenants. So our forecast shows a very stable 2.5% to 3% internal growth rate on that asset for the next 10 years.

Got you. Also in the presentation, you mentioned lease-up of current and future retail space. Is that alluding that there is potential there for a retail expansion similar to what you had at 250 West Pratt Street?

Tom, the garage came with retail space embedded along the main streets in front of it, so the opportunity is to lease up that space. There is probably a second retail opportunity surrounding the building itself, but we're not factoring that in when we said what the near-term upsides were for the asset.

Got you. Okay. Go ahead?

The same potential exists long-term.

Okay. Thank you Steve.

And then one more last one, going back to the debt issuance. Anthony, we heard that one thing pushing up some of the spreads for issuers this past quarter was change in control. The item being pushed by lenders. Was that something you had to pay up to avoid in your issuance? Or was that not a concern from lenders?

That was not a concern for the investor base that was looking at our transactions. We don't believe there was any spread increment that we paid as a result of not having to change our indenture for that.

Okay. That's it for me. Thank you.

Tayo Okusanya, Jefferies.

Yes, good afternoon everyone. Just a quick question on guidance.

Again, when you look at 1Q, you were originally guiding to $0.48 to $0.50, midpoint $0.49. And you come in at $0.52, which is a nice $0.03 beat, but then you only raised full-year guidance by $0.01. Just wondering what all the offsets are in the back half of the year that resulted in the guidance just being raised by $0.01 at the midpoint?

Thanks for the question.

The answer is very simply, it's the variability and timing of selling assets, so we want to leave ourselves room in the expectation that we could sell assets faster and thus NOI would go away sooner.

Okay. And are you making any assumption about variability in asset pricing as well? Is that part of what is also driving that, or no?

No. I think we've got a pretty strong bid for suburban assets in the market, so I don't think that's going to be the issue. It really gets down to timing, and I think we would be more sensitive to faster rather than slower, to the extent we can get that done.

Okay. That's helpful.

And just the MITRE Building -- we've all taken shots at estimating the cap rate somewhere in the low double digits, but I don't think you guys have explicitly said what cap rate you sold it at? Is that something you can provide?

We sold it at about a 14% cap rate. Now obviously it will go to a minus 3% cap rate in a year, so that's probably not the right way to look at it. But in the short run, the investor is getting a very high return on that asset.

Okay. Thank you very much.

Rich Anderson, Mizuho Securities.

Thanks for sticking around.

I don't know if anyone explicitly mentioned the word buyback. Is it something that is on your plate right now, selling assets more than maybe [400,000] and buying back your stock?

We would consider a buyback if our share price remained depressed for an extended period of time. In the short run, we are focused on our customer-oriented development and really getting the portfolio shaped to where we want it. That's why we are trading the suburban assets for the infill assets. Obviously, there's a lot of considerations if you go down the buyback path. Number one, we are a REIT, and structurally retain a little cash; and we would want it to be real, enabled to execute not just a price-signaling exercise. And we're long-term investors, not short-term traders. And so we have a development franchise and we have a customer franchise, and we want to protect them, number one. And so I think that's really where the focus of our capital is currently.

Okay, and then I think it was last quarter when the question was asked -- it might have been from me or somebody -- what the pipeline was for additional so-called urbanization of the regional portfolio. And the answer was, I thought, no pipeline. And then 100 Light happened. I'm curious how fast did this happen -- come full circle with Lexington?

The asset was in the market, and we had no view on whether or not we were going to be a buyer or not. We made a bid and ultimately we were the successful bidder and ultimately buyer. But back at the time, there were no other assets we were focused on that are urbanized, and currently that is also the case. I can assure you that when we have this call in October, we will not be announcing another acquisition. There are no acquisitions at this point.

How much of the 25% of the regional office portfolio that makes up your portfolio is a long-term hold for you now? I know you're not planning to change that number meaningfully in the short term, but how much of it is something you'd like to have five years from now as well?

I think about one third now of our portfolio -- of our regional office portfolio now -- is what we would call infill. And we would like to grow that to two-thirds or three-quarters. So whatever those assets that we have to sell to fund the further densification of the portfolio is what it would be. I don't have an exact number in front of me.

But that's a several-year plan, right? That's a five-ish -- five-year plan?

That's correct.

Great. Thank you.

Bill Crow, Raymond James.

Roger, if we go back a few questions, the subject of the cost of capital came up. And certainly, it sounded like you were frustrated by the stock price. But answer, how does buying an asset in a market which you admit is contrarian -- how is that designed to change your cost of capital for the better? And the follow-up to that would be, you talked about the resurgence in the growth of Baltimore and pointed to new industries -- biotech, tech, healthcare, industries of the future -- but 100 Light is two law firms and a financial services firm. So is the asset designed to exploit any of those changes within that marketplace?

Well, to answer your second question first, we weren't looking at 100 Light as a user, necessarily, of healthcare and education and tech. We were looking at it, that the marketplace, because of the demand from those new industries would tighten up and therefore the supply and demand equation was going to get more favorable for existing landlords and we would be able to take advantage of that in renewals going forward. And letting the whole macro trend of urbanization play itself out in Baltimore.

To answer your first question, the asset that we bought or are about to buy in August is not meant to be an incremental asset. It's meant to be a replacement asset. That is, we will sell suburban assets to fund the incremental urban asset, and by so doing and extending our lease maturity schedule, and showing that we are going to have steady same-office growth for an extended period of time with that asset, we ultimately believe that, that will generate a lower cost to capital because our same-office situation will be much more positive going forward.

All right. I'm just trying to think about how I risk-adjust your submarkets to see where, from today, you have the best growth potential and total return potential. So is that asset more compelling than putting the money into the development program? I understand you are selling existing assets to fund it, but I'm still looking at what the best opportunity is for you, for your capital today. And this is compelling enough and provides diversification, et cetera. Is that the way you are thinking about it?

Well, our number one priority is development, because it deals with customers and it deals with NAV accretion immediately, et cetera. And so if we didn't think we could sell suburban assets, we would not be buying an asset like 100 Light Street to add to our portfolio. Unfortunately, the sequence is a little out of order here. It would be preferable if we could have sold suburban to buy this urban asset, but you can't pick and choose when opportunities come around. So that's what the sequence is. But we are confident we will be able to sell assets to fund 100 Light Street.

Okay. Thank you.

Thank you.

Christopher Lucas, Capital One Securities.

Good afternoon, everyone.

Just a couple of quick follow-ups. Roger, on the buyback question, is there an authorization in place right now? Or would you have to go to the Board to get one?

There is not an authorization in place.

Okay. And then, on the Booz Building, to go back to that for a second, as it relates to the thought process -- just in terms of making a decision about timing on what to do, i.e., sale or lease, it seems like, if you marketed the building today, you would have probably a decision pretty quickly as to whether or not that would happen relative to waiting for your ability to get the building back and then having to go through the process of leasing such a large space. How should we be thinking about how you guys are thinking about the actual decision-making process on what to do with that building?

Well, we've gone to the market to get some indications of value, and so we think we know what the building would sell for in its current state. And so we look at that number as our re-buy number, if you will. So then we add to it the downtime and the free rent and the building improvements and the tenant improvements; and we look at where we think rents will be and cap them in the future, and look at what return we would get by staying in the building and reinvesting in it versus letting another buyer who may have a different set of circumstances acquire the asset. That's how we did it with MITRE. It was real simple. We had an offer in hand and we said, that's our new basis; so what are the costs that we have to add to that basis, and what rent can we get, and yield -- and decided to sell the building. And we will do the same analysis for Booz.

And then you talked about being the local sharpshooter and putting capital to work in Baltimore. Did you guys look at anything that's been available in DC over the last six months or so? And is that a market you are looking at, at all?

We looked at DC for about a year and a half, and obviously concluded that we could not be a core buyer in DC. The cap rates and costs of buildings relative to replacement costs were significantly above where we thought we could create value, so we have not looked at acquisitions in DC for an extended period of time.

And the last question, on the supplement on the redevelopment schedule: Airport Square V went from being a defined program to, to-be-determined. I'm just curious, from first quarter to this quarter, what's going on there?

There's a high probability that it will get converted to retail, and a small retail, which is good because it's in the middle of a grouping of buildings that will satisfy the needs of those buildings that surround it.

Great. Thank you very much.

Thank you. Thank you all for joining us today. If your question did not get answered, we are all available to speak with you later today. Good day.

Thank you for your participation today in the Corporate Office Properties Trust second-quarter 2015 earnings conference call. This concludes the presentation. You may now disconnect. Good day.