Highwoods Properties Inc (HIW) 2006 Q1 法說會逐字稿

Good morning, my name is Andrea, and I will be your conference operator today. At this time, I would like to welcome everyone to the Highwoods Properties conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [OPERATOR INSTRUCTIONS]. Thank you. Miss Zane, you may begin your conference. Miss Zane, you may begin your conference.

Thank you. Thank you all for joining us.

On the call today are Ed Fritsch, President and Chief Executive Officer; Mike Harris, Chief Operating Officer; and Terry Stevens, Chief Financial Officer. If anyone has not received a copy of yesterday's press release or supplemental, please visit our website at www.highwoods.com or call 919-431-1521. This call is being web cast and pod cast for those of you who may want to download the call on to your MP3 player.

Before we begin, I would like to remind you that this call will include forward-looking statements concerning the Company's operations and financial condition, including estimates of asset dispositions, the expected timing of the filing of our SEC reports, the expected use of net proceeds from dispositions, the affect of tenant bankruptcies, cost and timing of development projects, rollover rents, occupancy, revenue trends, and so forth. Such statements are subject to various risks and uncertainties. Actual results could materially differ from those currently anticipated due to a number of factors, including those identified at the bottom of today's release and those identified in the Company's annual report on Form 10K for the year ended December 31, 2004, and subsequent reports filed with the SEC. The Company assumes no obligation to update or supplement forward-looking statements that become untrue because of subsequent events. During this call, we will also discuss non-GAAP financial measures, such as FFO. A definition of FFO and management's view of the usefulness and risks of FFO can be found toward the bottom of today's release and are also available on the investor relations section of the web at www.highwoods.com.

I'll now turn the call over to Ed Fritsch.

Good morning, and thank you for joining us.

We had a solid first quarter, we're strongly seeing activity and continued good progress on our strategic management plan. On the accounting and filings front, Terry and his team, along with Deloitte's group, are working hard, and although we are not done yet, we haven't hit any speed bumps thus far. Since our call on February 28th, substantial work has been completed on our 2005 financial statements, and we and our auditors are confident we'll meet our previously disclosed timetable of filing our 2005 10Qs and 10K by the end of June. Following the filings of the 2005 SEC reports, we anticipate filing our 10Q for the first quarter as quickly as possible.

Turning to operations. It was a very productive quarter with 1.3 million square feet of second generation space leased, 73% of which was office. Occupancy did decline as forecasted due to the large number of lease explorations in the first quarter. We remain focussed on achieving our goal under our strategic management plan, which is to achieve occupancy of 88-90% by the end of 2007. We continue to create significant value to the expansion of our development pipeline. 5 projects encompassing 934,000 square feet in 5 different markets have been announced or commenced since the beginning of this year. They include 3 Class A office buildings totaling just over 469,000 square feet that are 79% preleased, one 418,000 square foot industrial building that is 44% preleased, and a mixed use retail office project in Kansas City totaling 47,000 square feet that is 49% preleased. These projects, plus development already underway, have increased our wholly owned development pipeline to approximately 1.5 million square feet, representing a total investment of $198 million that is 54% preleased. This investment increases to $225 million if you include our share of our joint venture development pipeline.

The stated 3-year goal under our strategic management plan is to announce between 200 and $300 million of development starts between 2005 and 2007. From the starting point of our plan through today, we have announced $272 million of development, both wholly owned and our share of joint ventures, and this number includes the RBC Centura building. So we have already met our goal and fully expect to exceed the high end of our range before the end of next year. While a number of our projects are fully leased build-to-suits, when we are analyzing the feasibility of developing a multi-tenant building, we are very selective and deliberate in the terms of where we are building less than fully leased projects. They must be located in high occupancy, very desirable submarkets, where available inventory is scarce. They must -- they must meet the criteria of differentiated assets that will attract and retain high-quality customers over the long-term, and they are generally on parcels of land we already own. This infill strategy is indeed our model. We believe it is a crucial component of our strategic plan in our strategy to ultimately own a higher quality portfolio which will generate a more stable cash flow. In the first quarter we completed building sales totaling $154 million, which included noncore assets in Atlanta; Columbia, South Carolina; Raleigh; and Tampa. $50 million of these disposition proceeds were used to redeem 2 million shares of our 8% preferred stock back in February. We also sold $5.5 million of noncore land in the first quarter for a net gain of $3 million.

Since the beginning of 2005, through the end of the first quarter of this year, we have sold $510 million of noncore properties at an average cap rate of 6.8%; paid down or redeemed $376 million of secured, unsecured debt and preferred stock, had a weighted average cost of 7.3%. This unencumbered $352 million of assets. We have also sold noncore land for proceeds of $20 million. As many of you know, strengthening our balance sheet is one of our core goals of our strategic management plan; and we continue to make excellent progress in this area. Looking ahead, we believe we'll sell another 90 to $140 million of noncore properties over the next year and a half. Last quarter we did revise our three-year disposition goal upwards from 450 to $550 million to a new range of 600 to 650 million. Nothing has changed for us on the acquisition front. It remains a frothy environment and the majority of deals are being done at prices beyond the risk profile at which we are comfortable. We have planned for minimal -- for minimal acquisitions and so far this forecast remains intact. We recently closed a new $350 million three-year secured -- unsecured revolving credit facility from the Bank of America, which Terry will discuss in more detail in a few minutes. We are pleased that this financing is behind us, and on terms that are more favorable than our previous facility.

In closing my comments, we are pleased with our operating results and accomplishments and look forward to having our 2005 SEC filings completed this quarter. I also thank all of my coworkers throughout the Company for their hard work, focus, and dedication. And I thank our Board of Directors for their continued involvement and support of the Company's strategic management plan.

Mike?

Thanks, Ed, and good morning.

As Ed pointed out, 2005 year-end occupancy exceeded all of our expectations, and as expected occupancy this quarter dropped from the forth quarter. This decline was the result of our having just over 2 million square feet of scheduled first quarter lease expirations, and we had some known sizable move outs from these expiring leases. When you look at these numbers more closely, you'll see that a significant portion of the decline in occupancy this quarter came from our industrial portfolio, which contributes just 8% to revenue. Specifically of the 860,000 square feet of industrial lease expirations this quarter, over 50% or 448,000 square feet rolled out with a substantial portion of this occuring in the Triad division. Most of this roll-over came from one logistics customer who relocated to a warehouse recently purchased by the owner of the company. The good news is that we have prospects for back filling a significant portion of this industrial space. The leasing performance of our office portfolio remains strong. Occupancy in our office portfolio fell just 40 basis points from the previous quarter, despite lease expirations of 1.3 million square feet in the first three months of the year. Most of this net occupancy drop was the result of IBM relocating back to their company-owned campus in RTP and vacating 160,000 square feet in our 4800 North Park building in Raleigh. We've talked about this expected move out previously.

For the quarter, we leased over 944, 000 square feet of second generation office space, and although we barely missed achieving the 1 million square foot mark that we've touted for the previous consecutive 8 quarters, we need to remember that this leasing volume was achieved within an office portfolio that is over 4.5 million square feet, or 19% smaller than the first quarter a year ago. Excluding Greenville and Columbia, a market where we only own 252,000 square feet and looking to exit, occupancy in the portfolios in 7 of our 9 largest markets are now at or above 90%. The two exceptions are Raleigh and the Triad, which had 50% of what was rolling in the first quarter. Office GAAP rents increased 2.2% this quarter, better than we had forecasted, while cash rents declined 6.3% within our '06 guidance. Our office markets continue to improve as evidenced by net positive absorption of close to 2 million square feet in the quarter in all of our markets combined. Our best office markets continue to be Richmond, Nashville, Orlando, and Tampa, where leasing concessions are minimal and we are seeing more favorable deal terms. Tampa has exceeded our expectations with 100% occupancy at the Preserve and a total in-service portfolio that is almost 92% occupied verses 70.5% a year ago. The Tampa office market overall has experienced strong growth with close to 2 million square feet of total net absorption in the last 4 quarters.

Raleigh and Atlanta continue to be challenging, although both markets are showing signs of improvement. The Atlanta office market had just under 1 million square feet of net absorption this quarter, and occupancy in our Atlanta portfolio was 91.1% at quarter end. Our occupancy growth in Atlanta has been solid over the past year and is up 810 basis points from March 31, 2005. Our portfolio in Atlanta is also significantly higher in quality than it was a year ago. In fact, since the beginning of 2005, we've sold a total of 1.7 million square feet of noncore, capital intensive properties with an average age in excess of 20 years. Raleigh again posted positive net absorption, and for the last four quarters, it's had positive net absorption of over 1 million square feet in our own portfolio despite the drop in occupancy resulting from the IBM expiration. Leasing activity in Raleigh has been brisk.

Before I turn the call over to Terry, I would like to talk about one of our recent initiatives. Some of you may be aware that several months ago we hired Steve Dixon as a full-time manager of energy systems to analyze our utility spend in all of our markets and determine areas for savings. Steve is a mechanical engineer and certified energy manager with other 20 years with field engineering and energy consulting experience, most recently with Progress Energy, a major Southeast utility company headquartered here in Raleigh. It's no surprise that rising fuel costs have resulted in electric and gas increases in most of our markets. Steve's job is to identify better ways to track Highwoods' energy spend, our largest operating expense component, and develop measures and procedures for the Company to mitigate rising utility cost. The end result, better bottom line property performance. An example of one of our current projects in this area is a lighting retrofit of our properties which utilize outdated, inefficient interior light fixtures. This two-year, $5 million capital project, which was begun in February, has a pay back forecast of less than 3 years and should result in a significant reduction in electricity consumption. None of us believe that we will see a reduction in energy costs, at least not in the immediate future, so it is imperative that we stay ahead of the curve in this area and continue to search for opportunities for better energy management.

In closing, let me just say that we continue to be encouraged by the signs of economic growth in our market, which translates into job growth, increased lease activity, and improved occupancy. We fully intend to take advantage of these favorable market conditions and capitalize on both embedded occupancy growth and new development opportunities in our in-fill markets.

With that, I'll turn the call over to Terry.

Thank you, Mike.

I'll take a few minutes to update you further on our announcement last week, regarding our new credit facility, progress on the 2005 audit and SEC filings, and guidance. Last Wednesday we announced that we had closed a new three-year 350 million unsecured revolving credit facility with Bank of America. In connection with the new facility, we borrowed funds from the new facility, plus used available cash, to pay off the $178 million balance on our prior $250 million revolving credit facility. And we also paid off our $100 million bank term loan. Both of the prior loans were scheduled to mature in mid July 2006. We will have an approximate $500,000 write off of unamortized deferred financing costs in the second quarter of '06 in connection with paying off these two loans prior to their maturity. The new facility is priced at 80 basis points over LIBOR compared to 105 basis points under the old credit facility. The annual facility fee is 20 basis points verses 25 on the old loan. Several of the financial covenants and definitions have also been enhanced from the prior loans, which we believe provide us with improved flexibility. The new facility has an option for us to extend it by one year and we also have prearranged the ability subject to certain conditions to increase the facility by up to $100 million at any time prior to May 1, 2008. Bank of America plans to syndicate the facility this summer after our SEC filings are completed. With our former credit facility and bank term loan now handled, the remaining financing to complete for the remainder of 2006 is 110 million of 7% unsecured bonds that mature on December 1, 2006, and we expect to refinance those bonds in the second half.

As we reported in February, we engaged new independent auditors, Deloitte & Touche, for the audit of our 2005 consolidated financial statements. They have been on-site since late February, and have made very good progress on their 2005 audit, their reviews of our 2005 quarterly financials, and their audit of our internal controls for SOX 404 reporting. While their work is not yet complete as of this date, we remain comfortable that we will have all of our 2005 filings, the 10Qs and the 10K, filed no later than the end of June. We are reconfirming our prior FFO guidance for 2005 of 2.39 or 2.42 per share, which is adjusted to exclude impairments and gains on depreciable properties sold or held for sale in 2005 and the noncash charge from redeeming preferred stock in August. We are also confirming our FFO guidance for 2006 of 2.28 to 2.42 per share, also adjusted to exclude any similar items.

This concludes our prepared remarks. Operator, we are now ready to open the call for questions.

[OPERATOR INSTRUCTIONS]. John Guinee.

Yes. Thank you. Nice job this quarter. You had announced a start, I think it was in Tampa. Can you run through what it's going to cost you to build that asset on a -- and I think it's a little bit complicated because you're doing some structured parking, et cetera. But kind of give a little more detail than the press release did on that?

Sure, John. Thanks for your comment about the quarter. The project as disclosed on page 22 of the supplemental is just in excess of $21 million. It's 115,000 square foot built-to-suit lease for MetLife, who as you know, occupies some lease space on the Highwoods Preserve campus. And also purchased 2 buildings from us last year at the campus. What we're doing is we're taking an existing tract of land that abuts one of the existing buildings, and we're building an in-fill building on that site, and then in accordance with that, we're converting some surface parking that was allocated for use to building 5 and converting it into deck space.

Okay. And so what do you think of the $21 million, how much would you attribute it to the structured parking and then how much would you attribute to TIs, and how much would you attribute to shell and core or base building?

The -- I don't have the -- part of the call, but there's no TI in the deal.

Okay.

The -- MetLife is funding that themselves. And then the --

You're looking at roughly $35 a foot for the -- for the deck. And then the shell building is going to be approximately $85 a foot. The balance would be basically design fees, soft costs, et cetera.

Perfect. Do you have any carry in those numbers?

We do have a carry. We use an internal carry cost basically depending on how we fund this, but this would be principally out of our line of credit.

Okay. And how much did you attribute for your land valuation on this, if anything?

It's approximately $860,000.

Perfect. Okay.

Which is roughly about 7.50 a foot. A building foot.

For [FAR] foot?

Yes.

Okay. Thanks a lot.

Dan Sullivan.

Good morning, guys. I had a couple of quick questions, specifically regarding the financing. And I guess, the first question is if you could help me through a little bit relative to sources and uses over the next, say, 12-18 months, if I got the numbers right, you have a new $350 million credit facility, and with that you paid off roughly 270, 280 worth of existing financing, so you've got about 70 million there, is that about right? That's available?

That's about right, yes.

Okay. Then in addition, I guess you said you had another 90 to 150 million -- did I hear that right? -- of sales that are expected over the next 6 to 12 months?

Yes.

Now on the uses side, we've got -- there's that December '06 maturity, which I guess is 110 million in total. And how much construction funding is needed? It didn't look, and maybe I'm missing it, but it didn't look like you guys have a lot of construction loans. Is most of that going to be funded under the line?

You're breaking up a little bit, but we have --

Sorry. Is this a little bit better?

Yes. Thank you. We do have the availability under the credit facility. We have additional asset sales projected over the next year and a half, we have an unused $50 million construction facility at this point in time. We also have the ability to borrow additional funds under existing secured loans in certain cases. The RBC building is expected to be financed on a separate credit facility, as well.

Which one is -- the IBC -- I'm sorry. That's the Raleigh --

The RBC Centura building --

RBC. Sorry.

Yes.

Okay. What is the amount of expected construction expenditures over the next 12 months? Roughly.

I'd say roughly 150.

Okay. So between -- between -- so between the credit facility and the sales, you're going to have to get some additional financing besides the credit facility whether that's an expansion there, because it looks like the sources exceed the uses --

Well, between -- between the loan that we expect to get for RBC and the $50 million construction loan, which has no balance on it right now, I think we're -- we do have a balance funding plan, Dan.

Got you. Okay. No, no. That -- I was adding them up wrong. My apologies. In terms of your preferred stock, you guys have redeemed, it looks like about 180 million of the 8% perpetual preferred stock. Can you give me a little thought about why you decided to redeem that at this time, and if you're planning on redeeming more?

As we were selling our assets during 2005, and we were -- and we've sold over $500 million since early '05, we were looking to put those proceeds to work in good places, and the 8% preferreds to us was a good place to put some of those proceeds to work and help delever the balance sheet. We have about $92 million left that we can redeem if we want to. But -- and we may redeem some of those in the future, but we have no current plans at this time.

Okay. Final question, you guys had mentioned refinancing the 110 million in 2000 -- the 1206 maturity. How are you looking to refinance those?

There's a number of ways that we're looking at, we have made no decisions on how to do that, but it could be other unsecured loans from insurance companies, it could be other bonds, perhaps, or borrowings under existing secured assets, we just haven't made any decisions on that. But we have several different alternatives we can employ there.

What are -- when are you guys able to go back the public debt markets?

We can go back any -- once our filings are current, we can go back. We'd have to use a long form report until we become shelf eligible again which would be in 12 months.

So you could do it immediately with a long form report or 12 months later with a short form?

Yes.

Okay. Thank you very much. I appreciate it.

David Cohen.

Hey, good morning. Just a couple quick questions. Your expected yield on developments, can you give us a sense of where they are given kind of higher construction costs, on the current development pipeline, I'm talking about?

Yes, David, we're running on a cash basis in the low 9s, and on a GAAP basis, high 9s to low 10s.

Okay. I mean, have you seen any material shifts in the last couple of months?

We haven't. In what we've approved from a development perspective, we haven't. And virtually every project that we have announced is completely bought out or under a GMP contract.

Okay. And can you just refresh me on the level of land sale gains that you expect in 2006?

Sure. We have -- we expect total land sales to be between 15 and $30 million. And on the gains side we had forecasted about 4.25 to $9 million worth of gain.

Okay.

Thus far we've sold 5.5 and we have $3 million worth of gain.

Okay. And you've talked about the energy program. I'm just -- I'm assuming that that's going to take a couple of years to kind of actually hit your margins. I'm just kind of wondering in terms of 2006, how are the operating expenses trending this year? I mean, how much margin compression do you think you'll see?

Dave, this is Mike Harris. I think that with regards to the lighting retrofit program, we started it early in the year in February to try to get as much impact as we could. And we started in those divisions and those assets where we could make the most impact, particularly down in Florida, in Tampa specifically where the -- we expect the highest utility increases to come. So we expect to see decent benefit from those. And we would expect that on average, we should be seeing somewhere in the $0.20 to $0.25 a foot for those assets on the utility spend saved. Those markets, clearly, the Florida markets are ones that we're keeping a close eye on. In terms of the balance of operating expenses, I think we clearly look at those -- what we consider non-controllable expenses such as property taxes, which we keep an eye on because of the fairly frothy cap rates you see out there, I think there's a lot of pressure on tax assessors to look at that increasing valuations where they have reappraisals cycling in those cities.

Would you say that it's just kind of higher than you would have expected or in line --?

No, we have it -- we have it factored in, but we do expect that that's going to happen as a result of -- again, when they do reappraisals, they take a look at current cap rates in the markets and with the acquisition market being what it is, it will likely carry over into, into higher assessed values.

Okay. And just in terms of your occupancy assumptions for 2006. Given the asset sales that you're expecting this year. Is that built into your occupancy assumptions for the year end or is that just on the -- the operating portfolio as of now?

It is incorporated.

Okay. Okay. Can you kind of give us a sense of how much of the occupancy increase would be due to the asset sales verses just kind of core occupancy growth?

It'd be nominal, David. And as it has been in the past, our overall occupancy during this strategic management plan phase is up 450 bips. And less than half of that is due to sales. Some sales that we've had have been, for example in the first quarter of last year, we had industrial properties that were large and were 100% leased. So there was a negative impact to the overall occupancy level there. So all in all, the dispositions have had a relatively nominal impact on the overall occupancy. And what we have in our scope to dispose of between now and year end isn't that far out of line with where the overall portfolio occupancy is today.

All right. Thanks a lot.

You're welcome.

Kristin Brown.

Good morning. I just wanted to ask about the rent spreads this quarter. Have you changed your outlook at all for rent spreads this year? Because I think you said before it was sort of negative to flat after this quarter?

No, Kristin, this is Ed. We're going to stick with our -- with the guidance that we gave where we said that rent growth on a cash basis would be negative 3 to negative 8, and on a GAAP basis would be plus 1 -- I'm sorry on GAAP basis it would be flat to minus 2. We did outpace that in the first quarter with plus 2.1% on the portfolio as a whole. On the cash basis, we were really in between the range. We'll stick with that until we get any change in that that may arise later in the year. But I think it's early in the year to revise that based on what we're seeing.

Okay. Thanks.

You're welcome.

Jordan Sadler.

Good morning. I just wanted to follow-up on that last question, if I could. Which is, what are you seeing in terms of rent spreads given that you did do better than originally expected in the first quarter? What are you seeing happening in the rest of your markets?

Jordan, I'll give you a general response, and then Mike'll give more detail on that, but in general, as we've said, we've seen in our scripts, we've seen an improvement in a number of our markets. Nashville, Richmond, Orlando have been strong and remain strong, and Tampa has certainly come on and become a very strong market for us, as well. South Carolina continues to be our Achilles heel to some degree, and Raleigh and Atlanta are seeing improvement, but still nowhere near the other four markets that I outlined. So overall, we're continuing to see things sputtering in the right direction for us as landlords. We've said that this entire occupancy move would be lumpy. When we started talking about having a goal of getting to 88 to 90 by the end of next year, we were sitting around 81.5. So we're on track. We finished '04 better than we thought, we finished '05 better than we thought. We said it would be lumpy, but we're clearly on track to meet our goals. Mike, you may want to be more specific.

Jordan, I think it's also true that in virtually every market within those market, there are submarkets that are performing better where we're seeing rent growth coming around sooner than others, and obviously those submarkets where we have a high concentration of assets, we expect more rapid and better improvement. Also see that in virtually every one of our divisions we're seeing decent annual rent escalation, so from a GAAP rent standpoint, that's important to us that our divisions maintain those annual rent bumps.

If you had to take a guess at the mark-to-market on the overall portfolio, let's say split between the office and the industrial, what do you think they might be? Do you have a sense?

Jordan, we've studied that some. I think it's difficult to give you a fair answer on that unless we absolutely look at it on a deal-by-deal basis. And obviously we don't have an opportunity to move those that are under contract that don't expire until 2007 and beyond. So what we really can look at is that which is vacant today or rolling in the near term. And that ties back to the rent growth, both on the cash and the GAAP basis that we've forecasted.

Maybe could you -- do you have a sense today of what you think will happen in '07 as a -- in terms of rents at least based on today's in place?

Sure, that's a fair question. If you look at what we forecasted with regard to rent growth in '05, we said it would be down -- on a cash basis down 5 to 10% and actual proved out to be dead in the middle of that at down 7.5%. This year we improved that to 3 to 8% and we were at 6, so it's an improving trend. I would expect it to continue to improve next year, but the range that we give for '07, I suspect that it would -- that the low-end would still have a negative number to it, but a very small negative number. On the GAAP we said last year it would be negative 2 to negative 4. And we were at negative 2.2. Again, virtually dead in the middle of the range we gave, and this year we've said flat to negative 2 and had a good quarter at plus 2.1. So I suspect that as we get into '07, that we'll be positive on the GAAP side.

Okay. Thank you very much. Oh, lastly on the -- on dispositions. Incremental sales will -- do you expect that they'd be lower occupancy type properties? Similar to the ones that have been sold this year?

As we mentioned earlier, I don't think that there'll be a significant delta between the occupancy of what we sell between now and the end of next and where the overall portfolio stands today.

Okay. Thank you.

You're welcome.

At this time, there are no further questions.

Okay, if there are no additional questions, we just thank everybody for dialing in and your continued interest in the Company. And as always, we stand ready to handle any questions -- respond to any questions you may have subsequent to the call. Thank you.

This concludes today's Highwoods Properties conference call. You may now disconnect.