Douglas Emmett Inc (DEI) 2018 Q3 法說會逐字稿

Ladies and gentlemen, and thank you for standing by. And welcome to Douglas Emmett's Quarterly Earnings Call. Today's call is being recorded. (Operator Instructions) I would now like to turn the conference over to Mr. Stuart McElhinney, Vice President of Investor Relations at Douglas Emmett. Please go ahead with your presentation.

Thank you. Joining us on the call today are Jordan Kaplan, our President and CEO; Kevin Crummy, our CIO; and Mona Gisler, our CFO. This call is being webcast live from our website and will be available for replay during the next 90 days. You can also find our earnings package at the Investor Relations section of our website. You can find reconciliations of non-GAAP financial measures discussed during today's call in the earnings package.

During the course of this call, we will make forward-looking statements. These forward looking statements are based on the beliefs of, assumptions made by and information currently available to us. Our actual results will be affected by known and unknown risks, trends, uncertainties and factors that are beyond our control or ability to predict. Although we believe that our assumptions are reasonable, they are not guarantees of future performance and some will prove to be incorrect. Therefore, our actual future results can be expected to differ from our expectations and those differences may be material. For a more detailed description of some potential risks, please refer to our SEC filings, which can be found in the Investor Relations section of our website. When we reach the question-and-answer portion, in consideration of others, please limit yourself to one question and one follow-up.

I will now turn the call over to Jordan.

Good morning, everyone. Thank you for joining us. I'm very pleased to report another strong quarter for Douglas Emmett. Compared to last year, we grew revenue by 7%, FFO by 10% and same-property cash NOI by 4.2%. Our leasing success in the first half of the year drove a 60 basis point increase in our office occupancy this quarter.

Overall, we continue to benefit from robust economic trends in Los Angeles. During the last 12 months, L.A. County added 62,000 jobs, and we still did not see any meaningful new supply in our submarkets. As a result, we have a healthy leasing pipeline and with demand coming from a wide range of industries.

Our cash and straight-line rent roll up remained very strong. Our unique operating platform has kept our G&A, recurring TIs, leasing commissions and CapEx very low. In fact, our lease turnover costs represent only 15% of our NOI versus an average of 24% for our benchmark group. Considering our better-than-expected fundamentals, we are raising our 2018 guidance for same-property cash NOI and FFO.

Looking ahead, I am excited about our long-term growth prospects. LAs dynamic fundamentals are driving very healthy rent roll up. We are uniquely positioned for more successful acquisitions in our markets. We are midway through delivery of 851 new residential units in Los Angeles and Hawaii. Our repositioning program is in full swing. And over the next few months, we expect to complete a number of our projects in our current $100 million pipeline. Of equal importance, we have additional opportunities for future repositioning and development within our existing portfolio.

I'll now turn the call over to Kevin.

Thanks, Jordan, and good morning, everyone. We continue to make good progress with our 2 multifamily development projects. In Brentwood, we are building a 34-story, 376 unit residential tower, the first residential high-rise west of the 405 freeway in more than 40 years. We remain on budget and on schedule for 2021 completion. As part of that development, we are also creating the first privately owned public park in Brentwood, which will benefit all of our nearby office and residential properties as well as the local community. In Honolulu, we are more than halfway through the delivery of 475 new residential units. We ended the quarter with 221 of these new units leased at average rents above our pro forma. We expect to complete the remaining units as well as the new fitness center and pool by year end.

As we've mentioned in recent quarters, we are making investments in a number of our existing properties, where we believe the targeting capital will allow us to significantly increase rent. We expect to complete the first of these repositioning projects next quarter and continue to evaluate additional investment opportunities within our portfolio where we can generate attractive returns.

Our balance sheet remained strong and our leverage is low. With the exception of the loan on our development project in Moanalua, our next term loan maturity is approximately 3.5 years away in 2022. We also have a large number of unencumbered properties that will add flexibility for future financings.

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

Thanks, Kevin. Good morning, everyone. Last quarter, we signed 196 office leases for a total of 740,000 square feet, including 294,000 square feet of new leases. Over the last 12 months, we have increased the average annualized rent per square foot in our office portfolio by about 6%. That trend continued in Q3 as we achieved 23.6% straight-line rent roll up and 11.1% cash roll up.

Our leased rate ended the quarter at 91.4% with nice increases in Sherman Oaks/Encino and Westwood. Our remaining lease expirations over the next 4 quarters totaled less than 10% of our portfolio, well below our recent historical averages. At quarter end, our residential portfolio was again fully leased. Over the past year, we have increased our total annualized rent for the multifamily portfolio by 8.6%, reflecting the appeal of our newly developed units at Moanalua and continued rent growth from the rest of the portfolio. During the quarter, we continue to lease new units at the Moanalua development, where we expect to deliver another 246 units over the next few months.

I'll now turn the call over to Mona to discuss our results.

Thanks, Stuart. Good morning, everyone. Compared to a year ago in the third quarter of 2018, we increased revenues by 7%. We increased FFO by 10.3% to $100.1 million or $0.51 per share. We increased AFFO by 10.3% to $82.5 million. Our same-property cash NOI increased by 4.2% based on strong revenue growth from both our office and multifamily portfolios.

With respect to our GAAP NOI, our noncash revenue declined by about $2 million compared to the second quarter of 2018. Excluding the impact of future acquisitions, we expect noncash revenue to decline at an accelerated pace. Our G&A for the third quarter was only 4.2% of revenues, well below that of our benchmark group.

Most of you are aware of the accounting change that will require REITs to expense certain internal leasing costs, but not external leasing costs starting in 2019. Had this rule been in place in 2018, it would have reduced FFO, but not our cash metrics by about $0.04. Our internal leasing platform provides significant benefits. Regardless of this accounting change, we will continue to have lower leasing costs than our peers.

Finally, turning to guidance. As Jordan mentioned, we are increasing our guidance range for same-property cash NOI growth to between 3% and 4% and for FFO to between $2.01 and $2.03 per share. For more information on the assumptions underlying our guidance, please refer to the schedule in the earnings package. As usual, our guidance does not assume the impact of future acquisitions, dispositions or financings.

I will now turn the call over to the operator so we can take your questions.

(Operator Instructions) And our first questionnaire today will be John Guinee with Stifel.

Very, very strong quarter. Can you give a little more guidance as to what you think the full development budget is on the 475 units out in Hawaii and then Brentwood? And what sort of yield on cost you might have assuming a fair market value for the land?

Yes. So for Moanalua, the total cost is about $120 million. And in Brentwood, between $180 million and $200 million.

That's is 0 for the land.

Yes, that's 0 for the land. So we had the land. So remember we bought these projects more than a decade ago, and we bought them and they supported themselves and have been very good investments just with what was built on the property. So as we sit today, you can make some estimates, but we never sort of try to parse off because it is just excess land that we have on those sites. But certainly what you're alluding to, which is correct, which is that, we said to everybody we'll build it way above the 7 cap rate. And of course, that does not include the cost of land. And so that -- maybe that's an easier statement to make than usual. It still turned out to be a very successful project. And if you added land in, it would -- that would change those cap rate metrics. But I will say that these projects have been a very, very successful. And as we told you, it's well above the 7 cap rate that we expect to finish them for.

Second question. Over the last 2 or 3 years, you've averaged about 11% cash spread on releasing and GAAP spread of around 27% and your cost per square foot per lease year is shade under $6. Can you maintain that? Or is that going to inevitably slow?

Well, it's impressive of the amount of years we've had this cash roll up and we're still continuing to have it and I don't see any reason. I mean, it seems higher than it should be just because it's just so high, but if you look at what's going on in terms of the market fundamentals here and the lack of supply and the amount of tenants that are growing and the relative cost of occupancy for our tenants compared to other submarkets -- other markets that they are in, whether it'd be in San Francisco, New York, et cetera, it seems like the numbers have a lot of running room. They are just driven by rents moving up for the most part and in the angle of that line. And that angle of that line is just still seems to be pretty strong.

And our next questionnaire today will be from Jamie Feldman with Bank of America Merrill Lynch.

So you had some meaningful moves in some of the percent leased in some of the submarkets. Can you just talk about some of the changes and then the -- your prospects to backfill some of the spaces that did go dark or did or had some lower on the percent leased basis?

Jamie, I think you're referring to Century City and Santa Monica. We've had a couple of full floor tenants in those markets moved out. Thankfully those are some of our strongest submarkets, but still very highly leased, and we're feeling really good about our prospects to backfill few of those spaces very quickly.

And how large are the leases?

Full floors for us are typically about 20,000 feet. We had 2 full floors moved out in Century City, another larger-than-average tenant moved out in Santa Monica.

Okay. And how are those rents compared to market?

I think we're in a good position to see nice roll up on those spaces.

Okay. And then just generally, just thoughts on kind of net effective of rent growth across the markets and maybe an outlook if you can do that?

Well, net effective rent growth across the markets has been honestly very strong in the Westside -- Sherman Oaks. It's been a little slower, but happily growing in Woodland Hills. And in Hawaii, we are really outperforming the market. And as you know, we're trying to make some -- we're working through a process there that we're hopeful it'll end up with us redeveloping one of the buildings. We're not 100% there yet, we're still looking into what needs to be done to make it happen, but that would be impactful there. But I would say, Hawaii slowest, real happy with growth getting going in the Woodland Hills area and very strong in the other markets.

Including Brentwood and Westwood?

Definitely.

And our next questioner today will be Nick Yulico with Scotiabank.

First question is, what drove the same-store NOI guidance increase? And then also how -- you're thinking about expenses, it's been kind of drag on your growth this year, maybe we can get a preview for how expenses might trend next year?

Nick, so the same-store cash NOI, I mean, were 3 quarters in. So looking at our rent rate so far this year and then looking ahead through Q4, we felt comfortable that an increase in that range to 3% to 4% made sense. I think we said all year long that we don't really want to look at any single quarter, but look at the year as a whole. The guidance was provided for the year and so we're feeling good about the 3% to 4% for the full year guidance. And as far as the expenses go, the 2 major expense areas that we have continued to talk have been payroll and utilities. On the payroll side, we made some moves last year to try to get ahead of the mandated minimum wage increases in Los Angeles. So we think that we've addressed that and then going forward, you should see a better kind of comparable comparison between this year and last year. Obviously, it's a good market with low unemployment. So we'll have to see what the market pressures are. But in terms of just those mandated increases, we think that we've addressed that at this point. On the expense side with regards to utilities, we talked about our sustainability in the past, and we really put in some great measures to try to minimize our utilization. And that being said, the rates are going up. And so that's something that we continue to see quarter-over-quarter. And your guess is as good as mine as to what happens going forward on that one, but it's something that we're keeping an eye on. We're pretty happy with our lower utilization and the sustainability factors that we put into place, and we'll continue to look for ways to improve that. But it's been weird long summer/fall I keep waiting to have to put on a coat and that's going to drive our utilities going forward as well. So we're going to have to wait and see on that one.

That the same-store roll up is driven by stronger-than-expected fundamentals. I mean, if fundamentals just keep getting stronger and stronger and you guys see it in those roll up numbers, which we answered in the last question going back -- just quarter-after-quarter sustaining.

Right. And Jordan, what are your latest thoughts on potential for Prop 13, split roll and a couple of years? And how does that affect any decision-making you make on your portfolio or even acquisitions you mentioned you sound like you're positive on your acquisition opportunity. How does that thinking on Prop 13 affect your decision-making now?

Well, in general, in terms of modifying Prop 13 doing the split roll, I view that as being a relatively low probability thing. Prop 13 is very popular. And in polling at any way you cut it, old people, young people, business people, I mean, it doesn't even matter. It polls very strong and it polls weak to make any changes, including polling for split roll and all the rest of it. It's a complicated, and there is never been much appetite for making any changes to it. We have -- it's worth saying about Prop 13 and its impact on property taxes that we actually have had very -- in general, for the State of California, we've had very similar property tax growth in revenue as many other states. And we're actually, I think, in terms of property -- somewhere around 19, I think, under 20 and in terms of property taxes. So we're -- it's not like we're a very low state on that front. We're also a state with a balance budget and with actually excess tax income because we have very high personal income tax in this state with the kind of excess amount that's added in over certain number. So I'm pretty optimistic that there won't be any changes to that. Now if you go to the very specific question you asked me about buying buildings, regardless of what happens with Prop 13, the most of whatever happened is that building would be valued at whatever you would buy for it, the time bought it or some approximation of that number. So it wouldn't get in the way of anyone buying buildings because they're going to pay the current tax rate. But the whole thing about Prop 13 is that the building value only resets when there is a transfer. If you hold the property it only moves up a 2% a year. So it wouldn't stop everybody buying buildings, that's included, everybody. It puts the pro forma about full property taxes when they are buying it because that's what they are going to be impacted by after the purchase. So it wouldn't impact the value of buildings at all. I mean, I've never seen an analysis where someone who is just clean selling a building where they thought anything, but full property taxes are going to impact it.

I guess, my point was that if you already have some low property taxes within your portfolio, because you owned the assets for a while and there is some risk that your property taxes are going up, does it make sense to buy more in the market ahead of that?

I think it makes sense to buy more in the market, because I'm bullish on the market. We have a mix bag of property tax bases in our existing portfolio, because remember you can have a higher property tax number then you can file Prop 8 when you think the market is down, it can go down. But then when it goes down, they can raise it very quickly on you again, because still you only cap by that higher number. So those numbers actually move around quite a bit. But in terms of buying or building values, even if you -- for anybody that understands Prop 13, even if you were guaranteed that there was going to be a split roll, it would no impact on value. No seller would make their price lower because of that, because it doesn't have any impact on a recently sold building. But I think, in general, if you said, are we bullish for buying buildings? We are and hope to make more deals, but for all the reasons of fundamentals that you guys are familiar with.

And the next questionnaire today will be Craig Mailman with KeyBanc Capital Markets.

This is Laura Dickson here for Craig. So you mentioned that you expect to complete several of your repositioning projects in 1Q. I was just wondering if you could give us some detail on which assets the associated spend? And then how big the pool of remaining assets is currently?

So we've been spending in terms of the repositioning projects. We've been spending anywhere from $5 million to $15 million and in some cases even a little more than $15 million on a building. And when you look at the size of the buildings we're working on, that's a very small amount relative to the impact that we feel it can have in rental rate. So the returns on these things are enormous. So that's all the very good news. Now the bad news is, it's very disruptive to building. You don't want to take on too many at a time and it can -- you can only put out so much capital in that process. We've already told you that the process we're in right now, the combination of buildings that we purchased in the JVs and buildings that we wholly own total up to about $100 million. And we're rolling through that process now and a good chunk of them, both JV and wholly-owned ones will start rolling out of over the next few months. So end of this quarter, beginning next quarter and then as it rolls forward. And as we do that, we have a very strong pipeline to roll more in. And so we're looking at doing the preparatory work for what we want to roll in and we'll also doing the completion work on those projects. At the same time, just because you asked the question, give me a chance to say it, we're also looking at other site for ground-up development. So we have ground-up development at various stages now, we have -- being completed in Hawaii, the first 500 units. We're coming out of the ground, clearly out of the ground now in Brentwood. But we have other sites where we are starting to work through entitlements to be able to keep that program rolling. And I think we have -- in both fronts, which is really the best, the most exciting thing about what we have coming up, because it's our opportunity to take advantage of the position we have in this market. On the front of repositioning buildings and on the front of ground-up construction, we feel real good about those opportunities and I'm not trying to take anything away from acquisition side, but those opportunities we think it will carry for a while. They are not necessarily, I would say, the most appealing to the public markets, because they are slower. I mean, we do the work and the revenue rolls in overtime, but in terms of long-term extremely strong growth to come out of our earnings, especially on a per share basis and all the rest, that's a great source of that. So I'm excited about those programs.

Can you just remind the ground-up development is that primarily multifamily?

It's all multifamily.

All multifamily. Okay. I appreciate the color. And then just to follow-up on Jamie's question regarding move outs in Century City and Santa Monica. What kind of downtime are you expecting to backfill those full floor leases?

Laura, we're not kind of giving any time lines on backfills, but I'll say, I mean, if we look at historically at Santa Monica and Century City, they have been very strong performers for us. There is a lot of activity in those spaces. So I know we have tenants out there and I think we're feeling good about the prospects to do that quickly.

And the next questionnaire today will be Manny Korchman with Citi.

Stuart, just not to beat a dead horse, but I'll try anyway. Those spaces given that they were large tenants, I assume you knew in advance they are moving out. What's the reason that there couldn't have been tour activity that you wouldn't have more confidence in the time frame that they get done? Or do you have the confidence and you just don't want to lock yourself in and tell us what that time frame is?

I'm not sure, I understood the question.

He wants to know how confident you are in your answer that -- look, we have a very good pipeline of interest in those spaces. Now it takes time to get leases done and build the space before they are paying rent, that's a little tougher to predict. But if you're asking about confidence level of those spaces being backfilled with solid good tenancy, the answer is extremely confident.

I guess is there a way, it's Michael Bilerman speaking, your average tenant size is 5,000 square feet, median is like 2,500. So I guess, from a larger tenant space you said one was like 50,000, the other 2 are like 20 a piece. Is there anyway that you can give us a little bit more color because I assume those larger leases you do have a little bit more of negotiating window with that tenant, because it's a big space relative to the thousands of leases that you're doing all the time with a much smaller tenancy. So I guess, that's where our question is really coming from?

Well, larger leases are definitely slower to get done than smaller ones. And sometimes, we choose to break the space up. I'm not completely sure in this case we need to do that, because I think we have a lot of interest like multiple tenant interest in the spaces. But still the predict for you how quickly they will be -- the lease will be signed and there will be paying rent, and we're not in the business of doing that especially on single leases.

I guess, what's the story behind these larger leases but why the tenant decided to leave? What you think the significant mark up? Is there a lot of CapEx that needs to be put in those spaces. Just typically we wouldn't be talking about leases on your call with 2,500 or 5,000 square foot lease, right? We're only going to talk about the larger, which is a very rare and so it did cause a decline in occupancy, which is why we're asking about it?

I don't -- I think tenants are mostly like 20-something thousand. I don't think that's rare.

Are you talking about 20,000 foot tenants. We have tenants that roll like that all the time in our portfolio. It's not uncommon for us.

Yes. Not to say, Michael, we might do other leasing, so you guys don't notice it. I don't think those guys moving around that much is that rare and I think we've a good pipeline for them. But in either case, I don't have -- I mean, I give you the guidance if we had some good guidance, but those guys just don't know. Those tenants what you're pointing out that's correct is they're not as much of a flow business where we can kind of predict what's going on when you're dealing with 2,500, 5,000. They are a little more chunky and therefore they pop up that way. But I don't have a -- the only prediction I can give you if you're asking from timing is, we have a really a lot of interest and a lot of tenants who want the space, we got to make a deal that we like and then we got to get and built them in.

And Michael with the nature of our portfolio, with having the small tenants that we have, that's why we tell you that 95% for us is what we consider full, these markets today are sitting at 94% and 93%. I mean, Santa Monica has been basically more than full operating above that level for a long time consistently and once in a while you have a move out and it will take you little while to back fill it and that's what we are going through now. But look, we're very confident these spaces will move.

If you're going to have a space, this is a great markets to have in.

Yes, no, I mean, look it's only 5 -- out of your 2,900 leases, only 5% are greater than 20,000 square feet, okay. So that's why we're still a little bit more focused on it, right? It is not in your true bread-and-butter whereas 95% of the other leases you have are south of that. But anyways, there is a quick question for Kevin. I don't know if you want to talk a little bit about the investment pipeline and sort of the market overall from an acquisition perspective?

It's a little slower. I mean, the era of EOP is over and we've reverted back to a normalized environment where it's fewer buildings are being offered out on the market. We're underwriting everything. And frankly, there is a couple of things that are in the pipeline that we're pretty excited about that haven't come out yet. We're still in the acquisitions business. As Jordan said, we are doing a lot of development and redevelopment, but acquisitions are definitely part of the growth strategy going forward. But we're going to maintain our discipline and chase after the assets that fit our portfolio and not just look for properties because they're on the market.

Our next questioner today will be Alex Goldfarb with Sandler O'Neill.

Two questions. First, just going on the interest rate side, I think the next floater that you have up is the $145 million in August of 2019 unless I missed something and some refi on this. But just curious with the sharp backup in rates, your traditional model of doing a 7-year floater with a 5-year swap, have the economics of that changed versus a straight 7-year or 10-year fixed mortgage? Or as you get calls from your banks your traditional 7 with a 5-year swap is still a far more competitive option than traditional fixed financing?

Well, first of all, I love how well you know the way we do our financing. That's great. I feel like it's taken 12 years for someone to call instead of asking me what we actually like to do. But the reason we've always focused on that type of -- so first of all, we've never been big on making kind of a bet on interest rates or the direction of interest rates but we have recognized is that just in general, for real estate financing, I think, people undervalue the optionality of being able to pay a loan off, the optionality of or the lack of optionality that you have when you do a fixed rate long-term loan. So I rarely see big fix rate long-term loans where the borrower was -- wasn't somewhere down the line, wondering why did I do this. So the reason we structure the loans the way we do is not because I'm saying, hey, I think interest rates are going to go down or up or sideways or whatever, it's because that is the longest we can go. And still maintain the optionality that you get through swapping and not having lockouts from lenders and stuff. So if we are trying to appeal to the big banks, et cetera, we just can't push them longer than 7 years and they're the ones that allow you to do those floaters where you swap it and why is that important. The swap is a 2-way street, right? So if I do a swap and rates go up, that swap has value. If rates go down, it doesn't have value. If I do a fixed rate loan and rates go up, they still charge me a point to pay it off even though their loan rate is very low. And when rates go down, I get charged yield maintenance plus a point. So that's not an evenhanded right trade. So that's why we've always leaned in the direction of the swaps and the 7-year deals.

Okay. Okay. So it doesn't matter what the rate change would happen in the economics. Your view is that this is the way you like to do it for these reasons and the economics is sort of not as a relative part, is that correct?

Well, it's not correct to say the economics aren't relative because we look at where we're swapping as to what the curve looks like. I wouldn't swap into the real steep part of the curve. But in general, we always start with that structure and I try not to take large positions on what direction, I think, interest rates are going to go. I mean, the markets already figured that out and those rates are laid out for you at all various terms. Because like many people over the last 10 years have thought rates are going up, they went down, they got caught, I mean, it's better just to do the financing that fits with. What we like -- our operation of the company and what fits with the buildings that we're financing.

Okay. And then the second question is, going back to Bilerman's deal pipeline question. There has been some chatter about your LA sort of opportunity set south of LAX, some of the markets down there along the beach that are attracting executives that don't want to sort of cross above LAX and they want an office down there. So 1, curious your take on that? And then 2, is that something that you think is valid. Do you think that you guys may look at opportunities down there, because with your office proximity to the high-end executives? Or those submarkets don't share the qualities that Brentwood, Santa Monica, et cetera share?

Well, you are right. There is a very large executive community that's in the South Bay. And a lot of the kids when they finish from UCLA and USC, the big cities are their first stops. Those are very good labor pool down there. But within the South Bay markets, there is a lot of diversity on where you would want to be. And so if you're asking if we want to be near 190th Street in Torrance, the answer is probably no. Would we want to be in Rosecrans in Manhattan beach. That's an area that could make a lot of sense, although it's dominated by one large owner. And then when you get up towards El Segundo, there is a lot of corporate ownership that has a lot of entitlements and so it's not very supply constrained. So it's definitely a market that we're tracking. And someday will there be an opportunity where we would pounce into that market potentially but it's something that we track, but it's not something that we're quite ready to go into yet although if the right opportunity came along, it would be something we definitely evaluate.

And the next questioner today will be Rich Anderson with Mizuho Securities.

So whether you meant to signal it or not, as a thesis your leverage has come down over the past few years, Jordan, I know it wasn't meant to be thought of as sort of the sudden deleveraging initiative by the company. With that in mind, the developments that you had in mind, looking at redevelopment activity, perhaps buying some assets, where are you comfortable bringing leverage up if you were to use sort of debt-to-EBITDA type of metric over the next couple of years? Maybe that question...

Debt-to-EBITDA now is 0.9. Well, as I said in the past, we look more at the properties that we're financing. We don't put any properties at risk. We wouldn't put company at risk and we look at the way our financing is layered out and then bunch of stuff like that. We have a lot of excess cash flow as you know. We're in a fortunate position that even beyond our dividend we've had a lot of cash flow to do stuff and our cash flow has been growing. And I think as Mona has mentioned earlier on in this call, but our cash flow, real cash flow has been growing at Herculean pace. And that's all, that's a combination of things. As the apartments we're building roll in and as the repositions roll in and then just as our core markets improve, as we continue to lower the cost, the turnover, I mean, all those things and all those programs we got running here for years and keep every year tightening up, they are all coming more and more to fruition. I'm not telling anything you don't see in our numbers, but I'm just saying we see that cash flow coming out. So we feel like there is a lot that we can do with that cash flow, certainly it supports the repositioning projects. When you move on to the construction and you say building something or doing whatever, those construction costs, when we're doing it, there are a little bit short-term because when they are done and the building is built, then you have all that revenue and then you would appropriately leverage that revenue. So that's kind of an up and down when you're looking at it. So I wouldn't say that we're looking at really changing our leverage level. Now if you switch to the third thing, which is the stuff that Kevin is working on, as we've said in the past, anything that was large enough to be meaningful to our system, would be large enough that we would bring in those same JV partners or maybe some others that we've been working with and actually together trying to find and put together some of those deals. So we would be a piece of the deal, we wouldn't be the whole deal.

Okay. Good enough. And then my second question is, Mona, you talked about the minimum wage issue and its implications on your same-store growth profile. I'm wondering if you could -- if there is a way to quantify how that has impacted your numbers this year. If you are running at 5% or 6% same-store NOI growth in the past, now more like 3%, 3.5%. Would you say that large chunk of the decline is from that factor? Or is it relatively small impact on the -- on how you're growing same-store?

I would say, for this year that was a factor. So if you comparing 2018 so far until year end compared to prior years, that absolutely was a factor. We haven't given guidance going forward. So I don't want to really speak to what the implications are going forward. But for this year, that was something that was an impact and we knew that going in...

Well I know the factor, I'm just trying to get a sense of magnitude of the fact. I mean, how many minimum wage folks and related type of people do you employ?

Well, I would say, more importantly, if you ask what the big driver is of same-store roll up, it's rental rates. So expenses -- all the expenses as a percentage of what's driving things are a lot -- we can even lower expenses. It's less impactful than the top line rental rates moving. Now with that said, it was in the executive summary and I think Mona had it in her section. This year has been impacted on the expense side by -- because when you do same-store, like you have a lot of the lower -- the people that were impacted by those changes in pay rates are out at the properties and properties are what are in the same store. So -- and especially even apartments, and there is a lot of them there. And so we kind of last year, near the end of the year, we took that on. There has been some minimum wage -- some aggressive minimum wage moves made in California, not only just in California, but actually in LA. And so we took on last year and we decided to get ahead of it and made some big moves there. And we also rolled out an equity program. We did a lot of things. That actually has been very successful in terms of retention, allowed us to keep pushing our training programs, all that good stuff. But we did it near the end of the year, right? So we bought ourselves another, we'll call it, 3 or 4 quarters that would be tough comparison quarters compared to even third quarter of 2017. And so we have had to wear that for 3 quarters of that big move that we made. The point we've been trying to make in some of our responses is once that big move is now in the comparison quarter, that will lighten up the pain going forward in terms of just same-store and kind of other comparative metrics going forward, because that move was really very outsized. But then beyond that, still, it's low unemployment, there is pressure on wages, there is pressure on some of the other expense things that you talked about. Still we're very good at controlling expenses. And with all that together, the big mover is the roll-up in rents.

And the next questioner today will be Steve Sakwa with Evercore ISI.

Jordan, I was wondering if you could talk a little bit about Honolulu. That market lost about 130 basis points on your percent leased. And I guess, I'm just wondering if you could tie in sort of the leasing activity there -- and I know that you guys have been actively trying to find a rental conversion property to multifamily. I'm just wondering if you could just provide us any updates on that and tie them with the kind of the office leasing environment in Honolulu?

So the office leasing environment in Honolulu has been very flat. And it's flat -- the larger reason it's flat is that while it's the lowest unemployment state of all states, all 50, under 3%, it's very hard to draw population -- permanent population in, employees in. So everybody is looking for employees there. It's hard to draw them in because of the cost of workforce houses. So workforce housing is very expensive there. The cost to live there is high, mostly driven by the cost of workforce housing. So we know and anybody -- everybody there knows that they have a horrific -- for the size of the island, they have a horrific shortage of workforce housing. We bet on that. We basically built -- price-wise, we built workforce housing at Moanalua. You guys have seen a tremendous success we've had leasing those units. Ahead of pro forma, above pro forma all the rest of the good stuff. So they're being really just snapped up and that MHA project, I would say, is like a 15-minute drive from downtown, something like that. So we took that and we said, all right, downtown has had a very steady tenant base. As a matter of fact, there are tenants that are kind of swirling around and saying we want to move in and consolidate in the downtown. But that on the margin isn't enough to push occupancy over 90% and really impact that downtown market. And since it's a longer-term program to draw in more population to allow these tenants to grow. We thought maybe we could do something on the supply side. With the experience that we had at MHA, we looked at building similarly workforce priced units, we have to get -- the cost have to work. And that's why we're not ready to say, boom, we're doing it, but we're working very hard on getting or evaluating the roadblocks to getting there. And we said, can we look at one of these buildings and literally take it out of the supply. Pulling one building out of the supply would shift market occupancy to over 90%. So that's how small that market is. And so we're looking at doing that, and we're trying to kind of go through that process with them. If we're successful, it will be tremendously impactful combined with other tenants that are even trying to move into the market would be really tremendously impactful. So we're working our way through that. And it's a -- it's something that Ken is working on, Kevin is working on, Michelle is working-- and a lot of people are on it, expensive people, because we want to get there. But we're not there yet, because there's still some roadblocks that we have to get through.

Okay. And then maybe just kind of switching gears to Warner Center. I thought in one of your comments to maybe a question, you said that you were seeing kind of good growth on the rent side, but that percent lease figure for you was flat this quarter. It's still around 86%. So I'm trying to sort of just reconcile the rent growth with you're still having 14%, I guess, vacancy, if you will, in that marketplace?

Well, so rent growth in that market, I wish it depended on the occupancy in our portfolio, but it depends on the occupancy in that market. And the occupancy in that market has been strengthening and it's now I think it's 89%, so almost 90%. So that's what's driving rent growth in the market. Now you go, what's wrong with you guys, okay? You're supposed to be super-good at leasing? Why are you underperforming in the market at, wherever, I don't know where, 86? At 86. It's the only market we underperformed. So I can give you the reason for that. The reason for that is, in that market, you still have a number of large tenants that lease 100% percent of buildings. Therefore, when you look at the whole market, those 100% guys come in on some of the larger buildings. We own a disproportionate share of the buildings where we -- I mean, we've done this to ourselves, but where it is smaller tenants, right? So the smaller tenants, there's still more space there. So our occupancy is about 86 against the market that's 89, actually heading with an up arrow. So yes, rates are moving up. Yes, we're getting the benefit of that, but we are holding more of the vacant space than the remainder of the market for the reason I just described, because we have more of the smaller tenants. Now with that said, I do think as we rolled out more and more large tenants, we're less subject to shock. I still like our format for focusing on the smaller tenants, and I think that will serve us well over the coming years. And I think we will catch up to the market. And in fact, I have a lot of confidence we will beat the market when all said and done. But we're working through that process. You know we're probably one of the few landlords that quotes the number of how we've reduced the number of tenants over 100,000 feet. Most people put a big announcement and say how great they just did a 200,000, 300,000 foot lease. So we're happy that those are rolling out. We're backfilling with smaller tenants. It's a process we're comfortable with. We're building out floors, and it gives us more stable set of assets on a long term and a less risky set of assets.

Okay. If I could just maybe quickly follow up, do you see the pipeline of smaller tenants kind of growing in that marketplace? Or do you think that sort of something on to come into '19 and beyond?

We see it growing. We see it growing. And you've seen us -- I mean, I think when we bought it, we had 6 or maybe more tenants over 100,000 feet when we bought Warner Center. And we sit here today with one that is just slightly over. And by the way, we backfilled all that space with small tenants and leased it up. So that's a very robust pipeline. And we've been doing a lot of leasing out there. There were a couple of quarters going back where you guys were saying, hey, what's going on with the numbers and our roll-up wasn't -- it was still very strong, but it was a little less strong, we'll call it. And we said, because we're doing a lot of lease at Warner Center, where the numbers aren't moving up as fast as they are on the Westside. But we're doing a lot of leasing out there, and that leasing has allowed us to build out the smaller space and given us a more stable long-term occupancy rate. We'll get there.

And the next questioner today will be Dave Rodgers with Baird.

Jordan maybe to start with you, just in terms of whether the Century City and Santa Monica leases that you addressed before or just maybe even some broad commentary of that, are you seeing changes in the reasons for move-outs, i.e., price, bad credit, can't accommodate growth. Can you add any color around those issues?

I can directly answer the question and say no. But to the amount of color, I will say this. This -- we are living through -- and I feel like I've said this the last 3 years, but one of the best leasing markets I've ever seen and especially if you're talking about the Westside and West L.A., even broader West L.A. and that's Encino and Sherman Oaks. I mean, it's just a very strong market. And we're not -- I mean, take all the signs, pickup in default, we're not seeing in it. Pickup in concessions, we're not seeing in it. Pipeline, deal flow, all of those stats that we see, because we have so many transactions here, all strong. Everything is strong, rental growth, net effective rental growth all strong.

That's helpful. And then maybe just a follow-up for Kevin, and I appreciate the color on the redevelopment pipeline and how that will start to deliver in '19. I'm trying to make sense of the question, but is there a higher degree of vacancy? Or as you look at your '19 redevelopment deliveries, is there a higher component of vacancy where you can kind of immediately start to grab back some occupancy? Do you have a sense of what that number is versus kind of recapturing leases over time if that makes sense?

The projects that we're redeveloping are all on the Westside, which is very, very highly leased. And so we -- and it's a combination of doing some of the recent purchased buildings and some of the legacy portfolio buildings. So it's more of a roll-in over time. I mean, our leases are not the 10- and 15-year type of leases. And so there's going to be gradual churn through the portfolio of our weighted average lease terms. So we should be in mark-to-market on most of these and call it the either side of 60 months.

Yes. If you -- the buildings -- I'm pretty confident the buildings will perform consistent with the chart we have in our supplemental that shows kind of the roll going out that curve. So there's sort of a curve to our rollout that's extremely reliable. It barely ever moves in terms of -- we show you the 3 years going back average and then we show you what's exactly now what the roll is going out for whatever amount of years, 7, 10 years. And I suspect that the building themselves will exhibit exactly that. So you kind of -- as you approach a year right before around 10%, you tend to be like 13% to 14%. And then the year following and then it tends to drop to like 11%. I mean, that's just sort of the way it rolls for every year, that seems to be the way it goes because of the size of tenants, and larger tenants tend to go a little longer. We have so many tenants that just it drives itself towards that curve.

Great. So I guess, when you say you guys talked about disruption in the redevelopment to some degree, you mentioned it earlier, Jordan. I guess, it really having created a sizable vacancy number, that's monetizable immediately and that was the answer, right?

We have been disruptive, but it hasn't created vacancy. It just means we have to go and talk to the tenants. And show them how good it is going to be later. And I mean, it's just -- I mean, no, it's not in the economics. It's just you don't want them -- just make a lot of people angry. And for better or for worse, since I get it, they don't like it when they pull into the garage and they are used turn in right, now they're blocked, they got to turn left, they can't get directly to their space, because we're doing construction in the garage. Or they can't get into the lobby of the building, they have to go around the back, because the lobby, it just aggravates them.

And our next questioner today will be Mitch Germain with JMP securities.

Kevin, I think you said that there is not a lot of product for sale in the market. I was curious about your thoughts around that. Is it maybe there is not as much active capital. It's a lot more families that hold the inventory? What do you attribute that to?

Well, I think that it's slowed down. As I said before, we had that one seller in Blackstone that had a very, very large portfolio and they sold 11 buildings over 2.5-year period, of which we bought 8 of them. And so we're not -- that's like an unsustainable pace. That would be amazing churn, given the long-term owners in our marketplace. And so it has slowed down. And then there are properties that are on the market, but not everything is necessarily a fit for what we do. And so you might have larger properties that have a long-term single tenant lease so you might have buildings that we looked at in the past, that we weren't excited about because of the floor play, and that's come back again. And so we passed on it for that. So it's just the pace has slowed down, but that doesn't mean that there won't be any trades, and it certainly doesn't mean that when the right product comes out that we won't aggressively pursue it.

And this concludes our question-and-answer session. I would now like to turn the conference back over to Jordan Kaplan for any closing remarks.

I'd just like to thank everyone for joining us, and we look forward to speaking with you again next quarter.

Thank you for attending today's presentation and you may now disconnect your lines.