Highwoods Properties Inc (HIW) 2013 Q2 法說會逐字稿

Welcome to the Highwoods Properties second-quarter conference call. (Operator Instructions). As a reminder, this conference is being recorded today, Friday, July 26, 2013. I would now like to turn the conference over to Ms. Tabitha Zane. Please go ahead.

Thank you and good morning. 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 the supplemental, please visit our website at www.Highwoods.com, or call 919-431-1529 and we will email copies to you. Please note, in yesterday's press release we have announced the planned date for our third-quarter release and conference call. Also, following the conclusion of today's conference call, we will post senior management's formal remarks on the investor relations section of our website under the presentation section.

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 and effects of asset dispositions and acquisitions; the cost and timing of development projects; the terms and timing of anticipated financings, joint ventures, rollover rents, occupancy revenue, and expense 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 yesterday's release and those identified in the Company's 2012 annual report on Form 10-K and subsequent SEC reports. The Company assumes no obligation to update or supplement forward-looking statements that become untrue because of subsequent events.

During the call, we will also discuss non-GAAP financial measures, such as FFO and NOI. Definitions of FFO and NOI and an explanation of management's view of the usefulness and risks of FFO and NOI can be found toward the bottom of yesterday's release and are also available on the investor relations section of the Web at Highwoods.com.

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

Good morning, everyone.

As we look back over the past 90 days, we think of headlines such as, Sequester. What sequester? Bernanke shouts, tapering is coming, tapering is coming! Housing industry rebuilding itself. Increasing employment is hard work. Auto industry hits the gas. Detroit runs out of gas. And REITs remain active.

All in all, we see the economy chugging along in the right direction and our customers continued to grow more confident.

2013 continues to be a strong and productive year for Highwoods Properties. Given solid leasing, efficient operations, lower capital costs, and investment activity year to date, we are pleased to raise our 2013 FFO outlook to $2.76 to $2.84 per share, a $0.05 increase at the midpoint.

During the second quarter, we delivered FFO of $0.70 per share and leased over 1 million square feet of second-generation office. This leasing performance was accompanied by year-over-year same-store cash NOI growth of 2.8%, excluding term fees.

We also acquired our second trophy asset in Buckhead. We sold 36% of our Atlanta industrial assets, based on a square footage basis, and ended the quarter with leverage at 43.4%.

Another highlight of the quarter was Moody's upgrade of our senior debt rating to Baa2 with a stable outlook. As you know, we have been very focused on improving our conservative and flexible balance sheet to position us for lower capital costs and to capitalize on favorable growth opportunities. We appreciate Moody's recognition of the success of these efforts.

Turning to investment activity, in June we acquired One Alliance Center, the sister building to Two Alliance Center, which we acquired last September. We now wholly own over 1 million square feet of contiguous Class A space in one of the most competitively advantaged sites within Buckhead, where available Class A office space is rapidly shrinking and no development is currently in process.

At One Alliance, with 67% occupancy and below-market rents and operating synergies with Two Alliance, we have tremendous opportunity to grow NOI and we project occupancy at One Alliance to exceed 93% within three years' time. As a reminder, our combined basis for both of the Alliance Center towers is $278 per square foot, which is 15% below replacement costs.

Earlier this week, we announced the acquisition of our joint venture partner's 60% interest in five CBD Orlando office buildings, encompassing 1.3 million square feet, for an incremental investment of $117.5 million. We garnered these assets at an attractive $153 per square foot, a 40% discount to replacement cost.

On average, these buildings are 82% occupied, and with Orlando in the early stage of recovery, they present a great opportunity to grow NOI as we increase occupancy. In addition, owning 100% of these five buildings materially streamlines our leasing process, strengthens the Highwoods brand, and simplifies our overall business.

Including these two acquisitions, we have now completed $350 million of acquisitions in 2013, which exceeds the former high end of our full-year acquisitions guidance. We continue discussions with owners and brokers with respect to opportunities, and therefore have increased our acquisition outlook for the year to a range of $400 million to $550 million.

Our $129 million development pipeline includes 501,000 square feet of office and amenity retail that is presently 93% preleased, including the $60 million announcement thus far this year. We are very encouraged by discussions we are having for potential development starts with a number of prospects and have therefore raised our outlook for development announcements to a range of $125 million to $235 million.

Turning to our disposition pipeline, we've sold $68 million of non-core properties year to date. For the full year, we now project selling an increased volume and therefore have increased our guidance to a range of $190 million to $225 million of non-core assets. This includes the planned sale of the bulk of our remaining industrial assets in Atlanta, consisting of 1.7 million square feet across 16 buildings, which we expect to close this quarter. As we mentioned during our last call, we are finding it to be an opportune time to exit our Atlanta industrial assets, given the very strong pricing environment and our portfolio's healthy rent roll.

Before turning the call over to Mike so that he can cover markets, I must say that I'm really proud of our team for having delivered on an active and highly successful first half of the year. In addition, based on the irons we currently have in the fire, the second half should be at least as successful and productive. Mike?

Thanks, Ed, and good morning. I'd like to echo Ed's comments that we had a solid second quarter with strong leasing, modest leasing CapEx, and good net effective rents.

Modest but steadily positive employment growth, coupled with dwindling levels of large blocks of available Class A office space, is leading to fewer concessions and, in a number of our markets, increases in asking rents.

We ended the quarter with occupancy at 90%. Our acquisition of One Alliance Center, with its 553,000 square feet and 67% leased and PWC's move out of 244,000 square feet in Tampa, negatively impacted occupancy by 100 basis points. However, the impact of these previously disclosed transactions was offset by net leasing activity within our portfolio, which added 40 basis points to quarter-end occupancy.

On a same-store basis, office occupancy declined 40 basis points. Excluding the impact of the PWC moveout, same-store office occupancy increased 70 basis points from the first quarter, to 89.9%.

Looking ahead, we have reduced the low and high end of our year-end occupancy outlook by 50 basis points due to the One Alliance and Orlando CBD acquisitions, a combined 1.8 million square feet, collectively having a 60 basis point negative impact on year-end occupancy.

At quarter-end, average in-place cash rental rates across our total portfolio rose 7.9% from a year ago. Cash rent growth for leases signed during the second quarter declined 6.1%, while GAAP rents increased by 2.3%. CapEx related to office leasing in the second quarter was a modest $13.12 per square foot, even with 34% of leasing consisting of new deals.

Turning to our markets, I'll start with Tampa, where unemployment fell to 6.7%, a 23% year-over-year decline. Our Tampa division had a very strong quarter, leasing over 300,000 square feet, the majority of which related to two large renewals. We have begun construction of the improvements to transform LakePointe One and Two into a more urban environment. These renovations should be completed by year-end and we reaffirm our expectation that we will have 100,000 square feet leased by year-end.

Pittsburgh's economy continues to improve, posting 36 consecutive months of year-over-year job growth. Occupancy in our Pittsburgh portfolio grew 240 basis points from the first quarter. Second-quarter NOI from this division grew 71%, compared to second-quarter 2012. This increase was fueled not only by the December 2012 acquisition of EQT Plaza, but also from the increase in PPG's NOI, driven by a year-over-year occupancy increase from 83.6% to 92.3% and significant operating expense efficiencies.

Job growth in Atlanta has led to almost 5 million square feet of office absorption in the last two years. Much of this recovery has been in Buckhead, where we now wholly own over 1 million square feet that is 78.9% occupied.

There have been several forces driving the Buckhead recovery -- corporate relocations from out of state, organic growth, and relocations from other Atlanta submarkets. Effective rents in Buckhead are increasing due to this rapidly tightening submarket.

We have 223,000 square feet of space at our Windward Parkway building that AT&T is expected to vacate in October. We have had showings with several users interested in taking a substantial portion of this space, or the entire building, and a couple are already running test fits.

This building is in a good location with numerous walkable amenities, has good bones, a generous parking ratio, and attractive floor plate sizes. Our repositioning improvements are underway and are expected to be completed by year-end.

Raleigh remains a strong market and is also experiencing a rapidly shrinking count of larger blocks of space in the BBDs. Companies are continuing to move into the area and others are expanding, evidenced by a 98,000 square foot urban renewal we signed with a strong credit customer just last week. They added seven years to their original lease term with positive cash rent growth and low TIs.

Excluding our properties in the RTP submarket, which we plan to exit, our Raleigh occupancy is 92.9%, indicative of the strength and quality of our core portfolio in that market.

Our Nashville portfolio continues to boast our highest office occupancy at 95.5%. The entire office market is tight with direct vacancy at 9.2% and limited new supply. We expect to complete the new corporate headquarters building for LifePoint Hospital systems by year-end and we are having good traction on the 39,000 square feet of standalone amenity retail, which is now nearly 60% committed under leases or LOIs.

Overall, we had a productive quarter and the tea leaves are suggesting that the second half of this year should be even better. Terry?

Thanks, Mike.

Total FFO available for common shareholders this quarter was $61.1 million, up $5.8 million from second quarter of 2012. This increase primarily reflects $4.3 million higher NOI from acquisitions, net of our dispositions; $1.2 million in lower interest expense from lower average interest rates and more capitalized interest; and $0.8 million in lower G&A, partly offset by lower interest income.

As a reminder, FFO and G&A amounts in my comments exclude property acquisition and debt extinguishment costs, which are disclosed in a table in our press release.

Weighted average shares outstanding this quarter were 86.6 million, up 8.1 million from second quarter of 2012.

On a per-share basis, FFO for the quarter was $0.70, the same as second quarter of 2012 and $0.02 better than first quarter of 2013. Second-quarter 2012 FFO benefited by approximately $0.05 per share because average leverage that quarter was still over 46% from the PPG Place and Riverwood acquisitions we did in September 2011. As you recall, in 2012 we reduced leverage through equity issuances and non-core dispositions, and by July 2012 were back under 45% to the level we had prior to the 2011 acquisitions.

Same-property cash NOI without lease termination fees was up $2.1 million, or 2.8%, in the quarter compared to second-quarter 2012, even with a 0.4% drop in average same-property occupancy due to PWC's moveout on May 1. The cash NOI increase was driven by the conversion of straight-line rents into cash rents and from lower operating expenses. Same-property GAAP NOI was essentially flat, as our cash NOI growth was offset by lower straight-line rents. Straight-line rental income in the same property pool is expected to be approximately $7 million lower for full-year 2013 compared to 2012.

G&A this quarter was $8 million, or $800,000 lower than second-quarter 2012. The net decrease was driven mostly by lower annual incentive and long-term equity-based compensation, offset by modest non-officer salary merit increases and higher health care premiums.

As Ed mentioned, we are pleased to have just acquired our partner's 60% interest in our HIW-KC Orlando, LLC, joint venture, which owns the Orlando CBD portfolio. Our incremental investment will be $117.5 million, inclusive of planned building improvements. The balance-sheet impact is somewhat different because we will obviously now consolidate 100% of the assets and liabilities of the LLC in our financial statements. Those assets are $188.9 million of real estate assets and $127.9 million of secured debt with an effective interest rate of 3.11%. This debt matures in July 2014 and is pre-payable without penalty starting in April 2014.

Previously, we accounted for our 40% interest using the equity method of accounting, and accordingly, we will make a related reduction in investment in unconsolidated affiliates.

Our 2013 FFO outlook includes $1.1 million of deferred leasing commission income that will be recognized in the third quarter in connection with the Orlando transaction. This amount relates to leasing fees that were scheduled to have been paid to us by the joint venture over the term of the leases signed before the acquisition. These one-time deferred fees were trued up and paid out to us upon closing of the deal.

Turning to the balance sheet, on a pro forma basis, inclusive of the Orlando deal and ATM activity in early July, our leverage is under 45%.

We are very pleased to have received in late June an upgrade in our senior unsecured debt rating from Moody's from Baa3 stable to Baa2 stable. This upgrade immediately reduced the LIBOR spread and facility fee of our unsecured revolving credit facility and bank term loans, which lower annualized interest by approximately $1.8 million, assuming $150 million average usage on our credit facility. Moody's also upgraded our preferred stock rating to investment grade at Baa3 stable.

We still plan to pay off two unsecured loans later this year, a $115.3 million 5.75% loan and a $67.5 million 5.2% loan, which become pre-payable at par on September 1 and October 1, respectively.

Since the end of the first quarter, we have issued 2.3 million common shares under our ATM program for $84.2 million in net proceeds, which include $17.9 million raised early in the third quarter. We are pleased to have a variety of equity-raising alternatives, including non-core dispositions, such as the second large tranche of our Atlanta industrial, to grow on at least a leverage-neutral basis.

Lastly, we increased the midpoint and narrowed the range of our 2013 FFO outlook to $2.76 to $2.84 per share from the prior guidance of $2.68 to $2.81 per share. As a reminder, and consistent with past practice, our FFO guidance excludes the impact of any acquisitions, dispositions, or equity issuances that may occur after the date of the release.

Operator, we're now ready for questions.

(Operator Instructions). Jamie Feldman, Bank of America Merrill Lynch.

Great, thank you. I was hoping we could talk a little bit about rent growth. I think Mike had mentioned you're seeing effective rents starting to rise in your markets. Can you talk a little bit about the pace of rent growth you're seeing?

And then also, as you think about the back half of the year and even into next year, when do you think you'll start to see leasing spreads either turn neutral or positive?

Good morning, Jamie. This is Ed. We are seeing asking rates year over year improve in most of our markets on an average of 2% to 5%.

As far as rent growth, we have seen -- our statistics quarter over quarter are improved, and in fact, the 7.7% negative that we have this quarter was heavily driven by two deals that totaled 162,000 square feet, where we had less than five -- or less than $4.50 in total TI for both of them.

You know, a lot of it depends on what space it is, what market it's in, what building it's in, but we're seeing a trend towards improvement. When we'll go from red to black on that is tough to predict. But the regression analysis is going in the right direction.

Just as a reminder, when we calculate that, we do include prior CAM and full escalators when we compare old rent to new rent. And the escalators have been stout throughout the downturn, as far as their compounding effect. We've averaged about 2.5%, 2.75% compounded annually on the deals that we have in place.

Okay, great. And then, I guess just on a macro picture, when you -- if you think of across your markets, would you say most tenants are neutral, expanding, maybe shrinking? Like how would you say -- where are we in that part of the cycle?

I would say if 12 o'clock is neutral and 10 o'clock is contracting, I'd say we're about 1 o'clock.

Yes, slightly tilted toward the expansion.

Okay. And then, Terry, two questions here on the guidance. One is, have you updated your FAD guidance or your thoughts on where you'll be on that front?

We don't -- we haven't updated that in the press release, Jamie, but we are thinking we're going to be slightly positive for the year.

Okay. And then, can you just (multiple speakers)

Which is better -- and just to confirm, we were slightly negative last year, so again, the trend line on that is going in the right direction.

Jamie, just a quick adjunct on the rent growth, what you'll see is before you start seeing topline rent growth, because most deals still had some level of concession, those will start to contract first before you start seeing the rent growth turnaround. So that (multiple speakers)

Which we've already seen. Which we've seen.

Right. So you said asking rates are up 2.5% -- 2% to 5% year over year. Do you have a sense of net effective rents?

Net effective rents are basically flat, but we are seeing that continue to improve. GAAP rents has been positive.

Okay. All right, and then finally, Terry, can you just walk us through the biggest pieces of the guidance change? I think you said something about getting a gain -- or a payback from the JV purchase. I just want to make sure we understand, if you can just talk about the different (multiple speakers)

The biggest part of the increase from where we were last time relates to the acquisitions, and there, it's primarily Orlando, probably around -- in total, around $0.04 of FFO growth from the acquisitions, net of the dispositions.

And part of that $0.04, a little over $0.01, was the deferred leasing commission income that we were able to recognize in full upon the closing of the deal here in the third quarter. So that $0.04, a little over $0.01 were prior commissions that had not been yet recognized that we were able to bring in.

We picked up about $0.008 in lower interest expense upon the Moody's upgrade. I mentioned that in my comments, about how the upgrade lowers the spread on all of our bank debt. Those were the big positives on -- the last positive, I'm sorry, was just about another $0.015 in just regular GAAP NOI growth from the existing portfolio. Because you saw that we updated and increased the cash NOI growth range in the guidance, as well. So that had a corresponding impact on FFO.

And then, we did take G&A up a little bit, which lowers the overall increase, and part of that increase in G&A was just from slightly higher short-term incentive comp, which tends to follow the change in the overall FFO in operations.

Okay, great. Thank you very much.

Vance Edelson, Morgan Stanley.

Could you provide a little more color on what you can do differently to improve occupancy across each of One Alliance, Meridian, and the CBD Orlando assets? I think the Orlando upside is pretty clear, but just given the relatively modest collective occupancy across those assets, if you could elaborate some on what the plan is.

Sure, Vance. This is Ed. Two different situations there. One with the assets that we just bought out our partner on in Orlando, it's 1.3 million square feet.

We think that there's two things happening there. One is that the market is improving and there are clear signs of that. And two is -- I think anybody would attest to this, that being able to operate a wholly-owned building without having to negotiate with an investment partner makes it so that we can be more streamlined when marketing the space, investing dollars for the BI capital improvements. So even though we've been involved in these buildings, we have committed $7 million towards habitizing them, and I think that we'll be able -- there is no doubt we'll be able to be more stealth and more responsive in the way that we act with our prospective customers and existing customers.

On One Alliance, which we just recently closed, we already have had showings that total 232,000 square feet. I would call these more suspects than prospects since we've just recently gotten into the building. But just in our short tenure of ownership, we've had a significant number of showings.

Okay, that's very helpful. And then, any feel you can provide for the pace of leasing activity in your markets? Not necessarily your own leasing, but kind of market wide during the quarter, was it accelerating or pretty flattish, and if you can discern a trend there, would you say it largely continued into July?

Yes, I would say that leasing velocity has remained attractive. Having leased over 1 million square feet of office in the first quarter, the number of prospects that we already have that we just talked about for One Alliance, I would say across the board that the volumes of prospecting and RFPs and showings and test fits is attractive for seven months -- summer months.

Generally, we start seeing first of June get into the summer doldrums when things start to slow down, but this one, we just kind of went right through it. It's been good, surprisingly good for this time of year.

Terrific. Okay, I'll get back in the queue, thank you.

Brendan Maiorana, Wells Fargo.

Mike, you mentioned Tampa, 300,000 square feet of renewal. I imagine there is a portion of that that was T-Mobile, it looks like. Can you elaborate on how much of that was T-Mobile, which of the two expirations that related to, then the other large lease -- the other large renewal you did as well?

Sure, Brendan, the renewal was the T-Mobile at Highwoods Preserve, the 115,000-square-feet slightly early renewal. So that was the one that we took care of.

The 92,000-square-foot lease with T-Mobile in Lakeside, which is in Tampa Bay Park, is likely not to renew, and we've already started working on plans for that project in terms of improvements which will be needed, expanding the garage down there to provide for more parking, given that that's -- that submarket has a large back-office component to it. So that's already in place.

Ed and I both toured that building with Dan Woodward and his team, so we already have a good plan in place for repositioning that building when T-Mobile eventually moves out.

The other large renewal was also in Tampa Bay Park, which was AT&T in the Pavilion building, 127,000 square feet.

Okay, great, and the T-Mobile in Tampa Bay Park, that's late 2014 is the expiration?

Year end -- no, excuse me, that's first of 2014, beginning of 2014.

Oh, beginning of 2014, okay, got it. Okay, thank you.

A couple of questions for Terry. Is there any impact on fee income that you guys typically recognize from taking -- from the Orlando acquisition, bringing that as a consolidated wholly-owned portfolio now?

There are two things. One, we had always been managing and leasing those assets on behalf of the joint venture, so there was always some amount of fee income coming through from our leasing efforts, but there was also deferred fees that would have f been paid in future quarters, which upon the -- us buying out our partner's interest, it was all trued up at closing, paid in cash, and then we fully recognized that.

So that's that one-time impact from -- that I mentioned on the call and then in response to Jamie's question. When we -- when I talk about the overall increase in FFO guidance for this quarter versus what we had last time, we factored in any impact of us not getting 100% of the fees and only having 40% of the interest. That was factored into the overall change in FFO guidance.

Yes, I'm just thinking more longer term if -- not for 2013, necessarily, but if I look at roughly $4 million of income from fees and leasing that you kind of get annually, is there $1 million of that that sort of goes away with this JV being bought in?

That might be a little bit on the high side, but it's probably not too far off on an annualized basis.

Sure, that's helpful. And then, you talked about some of the loan payoffs at the end of the year. Your line of credit, it's not high relative to your -- the balance isn't high relative to the total $400 million, but it's $135 million. What's the plan to pay off the mortgages that you have coming, and what's your longer-term outlook for a balance that you'd like on the line of credit or credit facility?

Yes, on the credit facility, the total amount that we have -- the total line is $475 million, not $400 million. So we have a little bit more of capacity than you mentioned.

But it is up around $130 million, as you say, today.

In terms of those two secured loans, we haven't made a final decision on how we might pay them off, but we do plan to pay them off when we can because of the interest rate savings that we'll garner upon prepayment. Long term, we again like to maintain our availability on the line fairly robust, so generally not trying to run that line at over 50% of total capacity.

Okay, great. Thank you.

Dave Rodgers, Robert W. Baird.

Ed, wanted to follow up on both the acquisition and the development guidance that you kind of talked about earlier in the call, but maybe first on the acquisition side. Clearly a better run rate going into the middle of the year and resulted in the guidance increase, but can you talk maybe in more detail about what you're seeing on more transactions like a One Alliance where you can step in maybe and do a broken debt situation? Are you seeing more and more of those and more abilities to put money to work even subsequent to the end of the first half?

Good question, Dave. We haven't seen more One Alliance-type trophy assets come to market where there is a broken situation, as you state, but we have seen more offering memorandums come out in the last 90, 100 days than we had earlier in the year.

It's been a bit of a mixed bag, some of the assets that we would be interested, with more assets that are of a lower quality than what we would like to pursue.

Yes, we've beat the top end of our year guidance already. And I think that with what we've put out for the remainder of the year, we're hopeful, but we've got to get some more time down the road, but certainly, at least, we're hoping a couple of hundred million dollars of assets that we would be proud to own.

I know it's hard to compare sometimes, but maybe on an apples-to-apples basis, what do you see happening with pricing of assets that are coming to market in the areas in which you operate?

They are still very competitive, and as we mentioned with the One Alliance Center, that was a highly sought-after asset and I think that what helped us there was being able to garner the synergies of owning both buildings side by side and the benefits that we would capture by having over 1 million square feet of contiguous to one another.

I think that going forward that we've seen a pretty widening spread between cap rates and interest rates. It's likely to narrow at some point, but we don't see any impact that it's had on cap rates to date. You know, as that narrowing starts to occur, the leveraged buyer will be more negatively impacted than we will be.

Fair enough. And then, I guess on the development side, are you seeing more and more activity to do developments on some of your own land parcels? Are those negotiations heating up once again, with big blocks of space starting to be either absorbed or just people looking for different types of space?

We are, Dave. Part of it is the latter part of what you said, that the larger blocks of higher-quality, better-located space have been absorbed in the absence of any new development.

And so, entities looking to consolidate or reposition their image or take advantage of their own growth are having to turn more towards build to suits, given that those large blocks of quality space are evaporating. And the clientele that we are working with is pretty eclectic in their SIC codes. It's advertising, medical, healthcare, professional services, technology, insurance, you name it. It's been pretty much across the board.

So we're pleased with the volume of conversations we're having. It still is a protracted process. But they seem to be more earnest than what they've been in the past and that's what's given us comfort to raise the guidance, and we feel quite confident on the guidance that we've raised.

Great. Thank you.

(Operator Instructions). David Shamis, Jefferies.

Just turning back to the acquisitions, for the additional $50 million to $200 million of acquisitions that you're hoping to achieve this year, just wondering how much of that has been identified so far and where you are in the process, sort of what markets are you looking at? Are there any other Pittsburgh type of markets out there where we could be surprised?

A, we don't like to surprise you all. B, we hope that was a pleasant surprise. It's turned out quite well. So, we prefer not to give the street address so that we open up a feeding frenzy on some of this stuff, but suffice it to say that yes, we've identified the opportunities and they are in existing markets.

Okay, that's helpful. And are there any other additional opportunities to buy out any other JV partners like you did in Orlando?

Well, JVs -- that's a great topic. When we rolled out, and I won't go back to the beginning of time on this, but just briefly, when we rolled out our strategic plan in January of 2005, we included words like war on complexity and simplification. And our goal has been to reduce our exposure in JVs.

Now, having a good partner and having good assets, they certainly have their merit. But our overall goal was to reduce the amount of JVs that we were involved in, and at the point of the rollout of the strategic plan, we had right at $1 billion worth of assets in joint ventures and we've now slashed that in half. We've reduced the number of entities in JVs by one-third. We've reduced the number of assets by two-thirds. We reduced the square footage by half and the asset value by about half.

So I think that it's fair to say that we would continue to look at consolidating those into the most productive JVs that we can have. So, we have some excellent partners where we'd like to grow those JVs, where they have skin in the game with us. And others where the JVs really haven't grown and don't have a prospect of growing, we are more likely to try to work towards unwinding.

Great. And then just on the dispositions, is there anything else that's on the slate other than the Atlanta industrial assets? Are there any office markets that you would look to exit at this point?

There are a number of one-off assets that we would like to get out of, in addition to this second large tranche of Atlanta industrial assets. There are more one-offs.

The only exception to that would be our continued interest to exit Greenville, South Carolina, and we're still working on the leasing on that. We do have a package out in the market to see how the reaction is. It's still very early in the process, but with that exception, it's mostly one offs in addition to the Atlanta industrial, which we, as we said, hope to close that by the end of this quarter.

And then, just back to the developments. What kind of yields are you underwriting for those?

Well, what we like to do, David, is not say here's the specific number because -- and this sounds a little bit like a political answer, but there are always different circumstances with regard to, is it on Highwoods' own land? What's the credit quality? What's the length of the lease? How specialized is the building, etc.?

But of all the development that we've done since the deployment of the strategic plan, we've been all over a 9% cash return. So we continue to work towards that. But if we have an opportunity to do a build-to-suit with much higher credit, we would be a little bit more lenient on that, and if we can get longer terms, we'd be more lenient on that, and vice versa. If it's the other way, then we're going to go higher than that.

Great. Thanks a lot, guys.

We're obviously in the process of negotiating a number of those things, so I don't want to put a number out there that a competitor could listen to and say, well, I understand Highwoods is only going to do a build-to-suit for you guys if they can get a 16% cash-on-cash return year one, so we're going to underbid them.

Got it (multiple speakers). Thanks a lot.

(Multiple speakers) 16.

Michael Salinsky, RBC Capital Markets.

Just to go back to the rent topic there. As we look at the second half of the year, what kind of rolldowns are we expecting there, just given the comments on positive rents? And also, if you look at the portfolio where rents are today, how does that compare to market?

Our cash rolldowns have -- we anticipate them to be slightly negative to what we experienced this quarter.

Again, we've been very successful, and the brokerage community has helped us with this, in garnering stout annual escalators in 99% of the leases that we have in place. So, the escalators, plus the fact that we include the fully escalated base rent, plus the CAM in comparison to prior rent is typically what compounds and outruns the market growth.

And then, the GAAP side evidences that. We recapture that within the first year or two because we are positive on the GAAP side.

A lot of it depends on the quality of the customer, et cetera, but we are moving in the right direction. The volume of deals that we continue to do where we can garner a 2.75% or a 3% annual compounding escalator, we are continuing to go for those. We can fix this cash rent by doing away with those escalators. If we did away with them, we would certainly show you a difference.

But also, as I mentioned earlier, I think when Jamie was on, we've seen asking rents going up in most of our markets in the 2% to 5% range.

And I would say, Michael, we also -- our leasing folks are clearly focused on topside rent growth and escalations, but they're also keenly focused on net effective rents as well. So, it's the whole ball of wax, not just the top side. It's keeping the leasing CapEx, not just having to spend a tremendous amount to get these deals that we don't have to, and concession levels, as well.

Michael, one more footnote. If you look at page 17 in our supplemental, you'll see that the average cash rental rates in place, that those rents are continuing to go up. So we are now -- at the end of this quarter, we were at $21.25 average cash rental rates in place versus -- last year at this time, we were $0.75 a square foot less than that.

That's helpful. Do you have the mark-to-market statistic on the in-place rents versus mark today, just given the rent comments or --

We don't go through the exercise of taking our entire portfolio and comparing it to market. So much of it, like right now, 80 -- whatever percent of it won't even roll within the next 18 months. So we don't go through that exercise, sorry.

Okay. That's fair. I think you talked a little bit about the next six to 12 months, but any large vacates on the horizon that are known at this point?

Looking forward, the largest we have between now and the end of 2014 is LifePoint Hospital systems will move out of about 147,000 square feet the first of 2014. That's a customer that we are building a 203,000-square-foot build-to-suit for their headquarters. So that's the largest.

But that's in a market where the submarket itself is right around 5 million square feet and less than 5% vacant, and we own a little more than 20% of that market and we are also less than 5% vacant and we have about 100,000 square feet of prospects. So we are comfortable with the largest vacancy that we'll have in 2014 based on the statistics I just provided you.

The next would be the one that Mike alluded to earlier with T-Mobile at Lakeside in Tampa, which expires in January of 2014, which is about 91,000 square feet.

(Multiple speakers). And we did discuss the AT&T and T-Mobile in Preserve, which were also two very large 2014s, so we went ahead and got them renewed early.

Okay. That's helpful. Third question. With the Orlando purchase, leverage ticked up close to 45% post-quarter. What's kind of the planned long-term financing for that and where do you see leverages at the end of the year, just given your investment plans currently?

Michael, this is Terry. As I said in my call script, we have lots of options to raise equity to keep our leverage in line and to grow leverage neutral.

And we do have, as we've mentioned as well, the Atlanta industrial portfolio out in the market. So we have some dispositions coming, which will help a lot on that leverage. So we did spike up just a little bit as a result of that late -- the recent acquisition of Orlando, but we are not that much above the range that we like to operate on a leveraged basis.

Okay. Just final question, you talked about increased build-to-suit demand. How comfortable are you with your land bank at this point? Is there a need to start adding to that at this point in the cycle or do you feel comfortable you have enough land at this point?

Yes, we feel comfortable with the land that we have. We did make an acquisition in December of last year, just shy of 68, 70 acres in Nashville in the Cool Springs submarket, but we feel comfortable with what we have, that it would support over $1 billion of development.

We still have a little bit of land that's even non-core. We sold a tract of that last quarter and we'll continue to work our way out of that as demand comes around. But we don't have any significant expenditures for the acquisition of land on the near-term horizon.

Okay, thanks, guys.

Michael Knott, Green Street Advisors.

Question on the investment environment. Just curious if you're seeing an impact on cap rates or investment demand from higher interest rates? Were you able to get yourself any discount on the Orlando pricing because of higher rates or did that not factor in?

It didn't factor in. There was a significant piece of debt on those assets, and I think it was a bit of the unique situation.

Those folks have been a terrific partner of ours. We've been in partnership with them long term. Their fiduciary out of New York has been a very good partner of ours, and we've had, I think, a good friendship with them for a long time. We still own assets with them.

But the organization in Germany was restructuring so that they could go public, and having fewer US owned assets was better for them, so they were a motivated seller. So, I think that was more of two parties working out a deal, as opposed to it being a fully vetted 0M that went out into the market.

But more broadly, do you -- are you seeing any impact in the market in terms of pricing or is it too early to tell?

I think it's too early to tell, and I think, Michael, if you're going to identify anything or we are going to identify anything, it's just the leveraged buyers are less able to compete. That's the biggest difference, but I think the move has been nominal. And given the percent of debt that goes towards these, we really haven't seen a change in cap rates.

Okay. And then on the balance sheet, I appreciate that you guys have done some ATM issuance to at least keep the leverage close to where it is, but just curious why -- conceptually why 45 is the right leverage level for your Company as opposed to maybe 40 or something. Just curious. You must think your cost of capital would be higher if you had slightly lower leverage levels.

Michael, this is Terry. I didn't mean to imply necessarily that 45 is our desired level. We have a range that we like to operate, and as we've said on some occasions, our bias is to operate more in the lower end of that range than in the upper end of the range.

So we are in the range now. Over time, we'd like to bring it down and we have the dispositions that I mentioned. We've hit the ATM in the past, as you pointed out, and have other ways, regular way deals if we had the need for larger amounts of capital. So there's just lots of options that we have to keep our leverage in line going forward.

Just a question on Tampa and Atlanta. I know there's been some comments on this throughout the call, so sorry to re-ask for clarification, but typically you guys give sort of a quantifiable update on how much of the vacancies are sort of put to bed. Did you guys prepare that this time?

Yes. We just expected you to be earlier in the queue (laughter).

So on 2800 Century Center, we are right now inked for 75%, 74% of that is re-leased. Then, we have letters of intent out that will get us to north of the 92% by year-end, so there is an LOI. It's basically one customer that is an LOI out that gets us north of the 92% by the end of the year.

And then at LakePointe, at LakePointe, we -- you know that PWC ended up keeping the 75,000 square feet, which is about 23%, 24%. We have strong prospects for well over another 100,000 square feet and we have -- there is one large prospect for 180,000 plus square feet, but we don't know how many -- it's a blind prospect, so we don't know how many options they are looking at as far as cities, but we know that we're the only option for that market.

And then at Windward, we have already had a couple of showings and we're running right now two prospect test fits, one for about half of the building and one for about 90,000 square feet.

Thanks, I guess you did have that prepared. That was very helpful (laughter).

Last question, if I could, would just be you mentioned you're seeing some expansions. Do you feel like we're getting to a point where the cycle for office demand is about to pick up, that tenants are going to start leasing space more for growth and growing their business, or do you still feel like we're in kind of that 2% type of economy that you've described before, which is just okay for office?

Good memory on the 2%. I think the 2% is true. But biasedly, selfishly, and supported by some actual forensics, I think that we are in a footprint that would do better than the 2%.

In other words, there's parts of the country that bring down the average and parts of it bring up, and I think we're in the part of the country that brings it up to the 2%, making up for some other, weaker areas. So we do see a higher level of confidence.

I think that some of that is the fact that we are away from so many of those economic crises du jour, from the sequester and the fiscal cliff, et cetera. So I think as long as that noise stays quiet, I think it's helpful for the business community, and we're certainly seeing customers that have a desire for growth. For example, we have one office park where we have roughly over 0.5 million square feet, and we're 100% leased there and customers needing more space.

So we are seeing -- not everywhere, but we certainly are seeing a considerable volume of conversations where customers are talking in serious terms about expansion.

Thank you.

Our last question comes from the line of Josh Attie, Citi.

Thanks. Good morning. Can you talk about where the better NOI growth is coming from that drove the higher guidance? Was it broad based across the portfolio? Or was it one market or a couple leases that you got done? Maybe just where was the source of the strength that caused you to raise the NOI guidance?

There is no doubt that we've had tremendous NOI growth in Pittsburgh, even though somebody referred to it earlier as a surprise, which that was a fair comment.

But we've had -- Andy and his team have done a phenomenal job with increasing NOI, both by improving the way that operating expenses were spent or are spent. So we're providing better service at a lower OpEx, and it certainly has bolstered occupancy on the top end.

We are able to have better discussions with prospects in some of our stronger markets like Raleigh, Richmond, Nashville, Tampa certainly come along, and better parts of Atlanta. Terry, do you have anything to add?

The only thing I would add, Josh, is we had a good -- an NOI margin in the second quarter, just OpEx are running well, bad debts were down a little bit as well, and that's going to carry over into the full-year guidance on our NOI growth. So it's just partly reflecting in the full-year guidance some favorable results here in the second quarter, along with some leasing in Pittsburgh and other markets as Ed just mentioned.

I would also add one more small footnote to that, Josh, that the sales per square foot and percentage rents in our retail in Kansas City just year after year, quarter after quarter continue to just -- those numbers are stellar.

So that asset continues to really perform and be good ballast for the Company, and we continue to see very good growth there, and Glen and his team have done a phenomenal job with tenanting and operating that.

Thanks. That's helpful. And just one last question on the development pipeline, how big is the pipeline of potential deals? I know that you gave kind of guidance for what you think starts are going to be and the pipeline's around $100 million today, but if you can give us some sense for what's the opportunity set that you're looking at, and also maybe what are some of the characteristics? Are they mainly Highwoods existing tenants? Are they tenants that would be new to Highwoods and which markets are you kind of seeing more or less activity?

Okay, I'm going to answer that question, but at the Citigroup conference now, you have to be sure you get everybody to agree not to ask us this number deal by deal going forward every quarter from now on.

But just in what we are talking to, Josh, so talking to means that we could be pretty far down the road, or these can be in the infant stages and they can be considering multiple markets or multiple states, okay? So you understand the setting? So, it's broad from we're working on it and it's preliminary to we're working on it and we're hopeful but we haven't quite ordered the champagne yet.

And so, if you add all that up, it's about $700 million. But there are a lot of -- I can't -- if you and I ran a car dealership, we can't say that we had 20 people come out and look at cars today because that doesn't mean -- you've got the potential for 20 sales, but I'm not sure you're going to say -- you're going to bat 1.000 on that. But we feel quite confident enough on this to have raised our guidance twice now during the year and it's only July. So we feel quite good about what we put out in the way of guidance and we feel quite comfortable, actually, with the high end of that.

Are there others out there that could materialize yet within the year? Yes. But I wouldn't want to bank on that, which is why we excluded it from guidance.

And how big would you feel comfortable growing the pipeline to? You know, $400 million or $500 million or $700 million if you looked out one or two years, if a lot of these deals you were able to get just from a development risk perspective. And I know a lot of it depends on how much of it is preleased, but assuming you can get a reasonable degree of pre-leasing, what size would you like to see the development pipeline at?

I think that there is -- sorry. I think that there is -- well-oiled machine here. I think that -- Josh, we have the capacity from a balance-sheet perspective, from a personnel perspective, resources, vendor relationships, community municipal relationships to do -- to grow it to a fairly large size.

And the development risk, some of these projects or a number of these projects are done open book. So if we're significantly pre-leased and we're open book, there's not a significant amount of risk there, other than interest-rate movement.

I don't see a whole lot of risk in growing this pipeline from an investment side and I see significant upside. I mean, we've been core developers from our beginnings, and it's one of the things that we have a good discipline, a good skill at. So we're not shy about chasing development projects as long as the credit is there and that the economic terms will support it.

Josh (multiple speakers) -- well, excuse me. Go ahead.

I was just going to add, Josh, that I think that when you get up around maybe 10% of our market cap, that would be kind of maybe an upper limit, but that gets you close to $500 million -- $400 million or $500 million at any one time that would be in the pipeline.

And most of the things we are chasing are build-to-suit deals right now, and that really lowers the risk dramatically. If it were that much in spec, I think we wouldn't be comfortable nearly at that level.

So I hope that gives you some perspective on what we would be comfortable with. But I just like to think roundly around 10%, plus or minus, is kind of maybe the upper limit on development that we might have at any one point in time.

And there is benefit to us being the developer. Obviously, in most cases we are putting land into use that's coming out of our inventory, so the incremental spend isn't as high.

And in addition to that, when we develop it, we're speccing all our things, from lock sets to roof tight to parking lot scope, all of it, so we're doing that, and then we have -- we basically have cash flow because you have no real CapEx exposure because you're at zero days ticked off of life expectancy of all the components of the property.

And Josh, also looking at the logical source for our pipeline, you mentioned our existing customers. Look at International Paper, the deal we are doing in Memphis, LifePoint Hospitals, those are existing customers.

So I think we've evidenced to the market and to our customers that we like to grow with them, and so we have a good customer base. And when they come to us and say, look, we are growing, we need help, we're the first developer of resort that they come to. So I think they are the best source of feeding this pipeline as we go forward.

But of the number I gave you, more are not existing customers than customers.

Okay. That's great. Thank you very much.

Mr. Ed Fritsch, there are no further questions at this time. I will now turn the call back to you. Please continue with your presentation or closing remarks.

Thanks, Operator. I appreciate your work. And thanks, everybody, for dialing in. If you have any more questions, never hesitate to call us. Thanks. Bye.

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines at this time.