Hudson Pacific Properties Inc (HPP) 2011 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by. And welcome to the Hudson Pacific Properties fourth quarter 2011 earnings conference call. During today's presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be open for questions. (Operator Instructions) This conference is being recorded today, Thursday, March 8, 2012.

I would now like to turn the conference over to Andrew Blazier. Please go ahead.

Good afternoon, everyone, and welcome to Hudson Pacific Properties fourth-quarter 2011 earnings conference call. With us today are the Company's Chairman and Chief Executive Officer, Victor Coleman, and Chief Financial Officer, Mark Lammas. Howard Stern, the Company's President, is also available to answer questions.

Before I hand the call over to them, please note that on this call certain information presented contains forward-looking statements. These statements are based on management's current expectations and are subject to risks, uncertainties, and assumptions. Potential risks and uncertainties that could cause the Company's business and financial results to differ materially from these forward-looking statements are described in the Company's periodic reports filed with the SEC from time to time. All information discussed on this call is as of today, March 8, 2012. And Hudson Pacific does not intend and undertakes no duty to update future events or circumstances.

In addition, certain of the financial information presented in this call represents non-GAAP financial measures. The Company's earnings release, which was released this afternoon and is available on the Company's web site, presents reconciliations to the appropriate GAAP measure. And an explanation of why the Company believes such non-GAAP financial measures are useful to investors.

And now I'd like to turn the call over to Victor Coleman, Chairman and Chief Executive Officer of Hudson Pacific. Victor?

Thank you, Andrew, and welcome, everyone, to our fourth-quarter conference call.

We made solid progress in all areas of strategy during the fourth quarter. As Mark will discuss later in the call, we also completed several financial transactions early in the quarter, providing us with significant capital flexibility. And I'm excited to say we're well positioned for continued growth.

We continued to deliver on our asset acquisition and growth strategy during the fourth quarter, completing the purchase of 6922 Hollywood Boulevard, and increasing our already-sizable presence in the supply-constrained Hollywood submarket. This 205,000 square-foot property is leased to high-quality group of media, entertainment and retail tenants. As we said last quarter, one of our primary growth objectives has been to establish and increase our presence in markets with a diverse base of office tenants, with an emphasis on media, entertainment, and technology tenancy. And this highly-desirable stabilized asset in the heart of Hollywood delivers on all measures.

In terms of leasing, we completed new and renewal leases totaling 105,000 square feet in the fourth quarter, bringing our office portfolio occupancy, excluding our 275 Brannan asset in Northern California, to 92.3%. As previously announced, at 1455 Market in Northern California, we executed a 40,000 square-foot lease with the Metropolitan Transportation Authority for space currently occupied by Bank of America. This lease entails the early surrender of space, to which Bank of America has a right to early termination in December of 2013. The new MTA lease commits this space for a term of 10 years at $30.50 modified gross, net U&J, starting rent well above our underwritten rents for the same space.

Also, at 1455 Market, we also completed a 24,000 square-foot lease with the San Francisco County Transportation Authority, the terms of which also exceeded our original underwriting assumptions for this space. Rental growth throughout San Francisco continues to outpace our original expectations, and these latest leases at 1455 support that trend. Our success in attracting governmental, technology and traditional financial sector tenants to 1455 Market is transforming and diversifying the tenant base of this asset and unlocking its full value potential.

We also continue to see strong demand for space throughout San Francisco, especially from the technology and social media companies such as Twitter, LinkedIn, XING and Foursquare. This is especially so with respect to the demand for space in the SoMa submarket where several of our assets are located, including our recently-acquired 275 Brannan Street property. A brick-and-timber office project we are in the process of fully renovating now. Current tenant requirements in this submarket constitute approximately 2 million feet of space, or 14% of the total SoMa inventory, with approximately 25 tenant requirements between 20,000 and 150,000 square feet, for a total of 1.5 million square feet.

There are currently only 12 buildings that can provide contiguous space in excess of 30,000 square feet. Which makes our 275 Brannan Street supremely positioned to take advantage of the current tenant demand. The high demand for space is the SoMA submarket is beginning to drive migration patterns similar to that of the 1998 to 2000 cycle, with tenants moving into the financial district or mid-market submarkets as an alternative to SoMa.

Our San Francisco assets outside the SoMa submarket are well-situated to benefit from that demand. We have seen a distinct increase in leasing activity, an increase, from each tenant occupancy for 1455 and nearby buildings in the mid-market area, confirming that the so-called Twitter effect is indeed materializing.

Turning now to Southern California. While the overall performance throughout our Southern California office portfolio remains strong, we're especially encouraged by recent activity we are seeing in the Orange County market. And more particularly at our City Plaza property in central Orange County. As we've discussed on prior calls, the Orange County office market has been a period of protracted recovery. Vacancy for the entire county in central Orange Country reached a recessionary peak of more than 18% in the second quarter of 2010, on account of the elevated vacancy rents across Orange County decreased nearly 28% from their pre-recession highs.

Since the recessionary peak, vacancy has been slowly but steadily improving, with direct vacancy for the entire county in central Orange County reaching 15.3% and 16.2%, respectively as of the most recently-completed quarter. Likewise, the decline in rents also appears to be abating. In central Orange County, for example, average overall rents as of the fourth quarter held relatively stable on a year-over-year basis at $1.76 per square foot per month. Compared to $1.80 per square foot per month in the fourth quarter of 2010. Current rental rates have reached levels similar to what was arguably the last market bottom in 2000, which was shortly followed by five consecutive years of growth beginning in 2002.

So today's recovery appears slower due primarily to the weaker job growth, we may finally be seeing real evidence of this taking hold. At our City Plaza asset in central Orange County, we completed 10,500 square feet of new and renewal leases during the fourth quarter. And added another 13,500 square feet of leases thus far this quarter. Weighted average rents under the 24,000 square feet of leases executed in the most recently-completed and current quarter were $1.75 full service gross within improvements of $15.

Even more noteworthy, we are in negotiations on 110,000 square feet of new leases, including one for 106,000 square feet, 40,000 square feet of which would commence almost immediately, with the remaining 66,000 square feet expected to backfill space currently leased by Condor Capital. Based on this recent activity, we believe City Plaza may shortly be returning to stabilized occupancy levels.

As you may recall, when we purchased this asset three years ago, it was approximately 34% leased. We proceeded to successfully lease it to more than 90%, at a level it maintained until relatively recently. Responding to the recent deterioration in occupancy, we've looked to capitalize on the latent market recovery and believe that we may ultimately lead in the market in restoring this asset to stabilized occupancy with improving tenant base.

Occupancy throughout the rest of our Southern California portfolio remains high, with limited lease expirations for the remainder of the year. Of particular importance is the July expiration of a 45,000 square-foot lease with Google at our 604 Arizona project in Santa Monica. With the limited supply of creative office space throughout the west Los Angeles marketplace, tenant interest in our project was very high, and we're pleased to report that we just finalized a lease for execution for the full 604 Arizona project to the creative office user for 10 years at $40.20 triple net, with a $15 a square foot tenant improvement allowance, all terms exceeding our original underwriting expectation. We expect this lease to commence by early fourth quarter upon the completion of tenant improvements.

Before I turn the call over to Mark for the summary of our fourth-quarter results, I want to provide some color on the latest results from our media and entertainment properties While demand at our Sunset Bronson properties proved to be solid throughout the fourth quarter, you may recall from our last earnings call that we expected some headwinds at our Sunset Gower property heading into the quarter.

We did, in fact, encounter unusual seasonality-adjusted softness for our Sunset Gower property. Fourth-quarter weighted average occupancy for Sunset Bronson remained a healthy 78%, while occupancy at Sunset Gower fell to approximately 60%, compared to an average occupancy of 70% for the prior three quarters of 2011 and full year 2010. Net operating cash flow at Sunset Gower was down as a result of this softness.

A combination of tenant-related matters contributed to the fourth-quarter slowdown, including a mid-October expiration of a lease with a television production company, and the expiration of a few longer-term office leases. Since some of these vacancies occurring in the fourth quarter related to the office space, which has been occupied under longer-term leases, and which we anticipate releasing to longer-term tenants, some of that vacancy may persist a bit longer than the typical short downtime associated with the rollover of the media entertainment properties.

While the slowdown in Sunset Gower adversely influenced our fourth-quarter results, as indicated by our combined results, it also underscores the strength of our office portfolio. The growth and consistent out-performance of our office segment has enhanced the quality of our earnings, and the Company's capacity to address seasonality in our media and entertainment properties with a strong fourth quarter performance throughout our office portfolio, serving as a clear example of that.

Now I'm going to turn the call over to Mark, our CFO.

Thank you, Victor.

For the fourth quarter of 2011, funds from operations, excluding acquisition-related expenses, totaled $9.1 million, or $0.25 per diluted share, compared to $5.1 million, or $0.21 per share a year ago. Expenses associated with the acquisition of operating properties were $900,000 or $0.03 per diluted share, compared to $1.6 million, or $0.06 per share a year ago. FFO, including the acquisition-related expenses, totaled $8.2 million, or $0.23 per diluted share, compared to $4.6 million, or $0.19 per share in the fourth quarter of 2010. Net loss attributable to common shareholders was $3.2 million, or $0.10 per diluted share, compared to net loss of $1.2 million for the same period a year ago.

Turning to our combined results, please be reminded that the operating results for the Spectra office segment for the fourth quarter of last year will not be comparable to the current period operating results due to significant property acquisitions during the fourth quarter of 2010 and third and fourth quarters of 2011. For the fourth quarter of 2011, total revenue increased 75.7% to 37.1 million from $21.1 million a year ago. The increase in total revenue was primarily attributable to an $11.5 million increase in rental revenue to $26.4. And a $4.3 million in tenant recoveries to $6.3 million.

Total operating expenses increased 92.4% to $33.1 million from $17.2 million for the same quarter a year ago. The increase in total operating expenses was primarily the result of a $7.6 million increase in office operating expenses to $12.1 million, a $5.7 million increase in depreciation and amortization to $11.6 million, and a $1.9 million increase in general and administrative expenses. Operating expenses at our media and entertainment properties in the fourth quarter of 2010 benefited from a $1.1 million one-time property tax savings recovery, with no comparable savings in the fourth quarter of 2011. As a result, operating expenses for that segment increased in the fourth quarter of 2011 by $800,000 to $5.4 million compared to the same quarter a year ago, but would have decreased compared to the same quarter a year ago if the $1.1 million property tax savings recovery in the fourth quarter of 2010 is disregarded.

Interest expense during the fourth quarter increased 60.7% to $4.2 million, compared to the interest expense of $2.6 million for the same quarter a year ago. At December 31, 2011, the Company had $399.9 million in notes payable, compared to $342.1 million in notes payable a year ago.

Looking at our results by segment, total revenue in our office property segment increased 146.7% to $28.8 million from $11.7 million in the fourth quarter of 2010. The increase was primarily the result of an $11.6 million increase in rental revenue to $21.1 million, a $4.4 million increase in tenant recoveries to $6 million, and a $1.1 million increase in parking and other revenue to $1.8 million. Property operating expenses in this segment increased 166.3% to $12.1 million from $4.6 million a year ago. At December 31, 2011, our office portfolio was 91% leased, up from 90.4% leased last quarter. During the quarter, the Company executed 17 new and renewal leases at our office properties, totaling 104,849 square feet.

Total revenue at our media and entertainment properties declined 12.3% to $8.3 million in the fourth quarter of 2011 from $9.4 million in the fourth quarter of 2010. The decrease was primarily the result of a $900,000 decrease in other property-related revenue to $2.5 million, and a $100,000 decrease in rental revenue associated with the lower occupancy and slower production activity at our Sunset Gower property described by Victor earlier. Total media and entertainment expenses increased 16.3% to $5.4 million in the fourth quarter of 2011, compared to $4.6 million in the same period a year ago.

Fourth quarter 2011 operating expenses for the media and entertainment properties would have been lower than expenses in the same period a year ago as a result of the lower occupancy and slower production activity at Sunset Gower, but for the one-time property tax savings recovery in the fourth quarter of 2010, as mentioned earlier. As of December 31, 2011, the trailing 12-month occupancy for our media and entertainment portfolio was 70.1% compared to 72.6% for the trailing 12-month period ended December 31, 2010.

Turning to the balance sheet. At December 31, 2011, the Company had total assets of $1.2 billion, including cash and cash equivalents of $13.7 million. In addition, the Company had total capacity of approximately $159.9 million on its $200 million secured credit facility, $121 million of which had been drawn. Subsequent to the end of the quarter, the Company repaid the credit facility with proceeds from the equity and financing transaction activity I'll describe in a moment, as a result of which, the Company currently has nothing drawn on its credit facility.

During the quarter, we paid a quarterly dividend on our common stock of $0.125 per share. Subsequent to the end of the quarter, we completed three significant transactions. On January 19, the Company closed a 10-year term loan totaling $43 million with PNC Bank, secured by our First Financial Plaza property in Encino. The loan bears interest at a fixed annual rate of 4.58% and will mature in February, 2022. This loan replaces the previous $43 million loan at First Financial which we fully repaid during the third quarter.

On February 24, we closed a 10-year term loan totaling $30 million with Cantor Commercial Real Estate Lending, secured by our 10950 Washington property in west Los Angeles. The loan bears interest at a fixed annual rate of 5.316% and will mature in March 2022.

On January 23, the Company completed the public offering of 2.3 million shares of its 8.3755% Series B cumulative preferred stock. Total proceeds from the offering after underwriting discounts, but not including other transaction costs, were approximately $56.1 million. The Company applied proceeds from this offering in the financing on First Financial and 10950 Washington to repay indebtedness under our secured revolving credit facility.

Turning to our outlook, as highlighted in our earnings release this afternoon, we are providing initial full-year 2012 FFO guidance in the range of $1 to $1.04 per diluted share. This guidance includes all completed acquisitions, the $43 million term loan secured by First Financial Plaza, the $30 million term loan secured by 10950 Washington, and the issuance of 2.3 million shares of Series B preferred stock, as previously discussed. We estimate the impact to the dividends of the new Series B shares will be $0.13 per common share in 2012. However, as is always the case, our guidance does not anticipate any benefit to FFO from speculative acquisitions.

The full-year 2012 FFO estimates reflect management's view of current and future market conditions. Including assumptions with respect to rental rates, occupancy levels, and the earnings impact of advanced reference in this release. But otherwise exclude any impact from future acquisitions, dispositions, debt financings, or repayments, recapitalization, capital market activity, or similar matters.

And now I'll turn the call back to Victor for some final thoughts.

Thank you, Mark.

We closed 2011 on a solid note, both in our asset acquisition growth and our leasing strategy. With respect to leasing we made great gains in office occupancy and rental rates, particularly in northern California. As we neared full occupancy at several of our assets, we worked to renew tenants well in advance of their lease expiration, and backfill space with higher-quality tenants. As for the acquisitions in 2011, we acquired 440,000 feet of assets, with a combined gross purchase price of more than $180 million. We did this through maintaining our focus on target markets, acquiring assets with high-quality traditional tenancy, complemented by value-add opportunities in our most dynamic submarkets.

Our acquisition pipeline currently remains very strong. We are in promising negotiations on several additional properties, both in the office and media and entertainment sectors, and look forward to announcing progress on our acquisition goals in the near future. As we move into 2012 I'm excited about our progress and our opportunities. And look forward to updating you again next quarter. We want to thank everybody for your continued support of Hudson Pacific Properties.

And now, Operator, we'll open the call up to questions.

(Operator Instructions) Chris Caton with Morgan Stanley.

Victor, could you just catch us up on the underwriting for the Brannan Street redevelopment? How quickly are rents moving in that market? Do you think you'll end up above pro forma? Can you just share a little bit more visibility there?

Thanks for the question. We're looking at, from a timing standpoint, somewhere between 12 and 18 months from where we sit right now. I think if we're sitting a year from now, we'll be in the tenant improvement processes to get the tenant in. As I mentioned in my prepared remarks, we've got a lot of indications of a bunch of tenants right now that are interested in all of the space. That's what we're entertaining, first and foremost, before we look at the economics on a multi-tenant basis. But that being said, directly, when we underwrote that asset, I think we're probably looking at, without talking specific numbers, we can get into those at another time. But we're looking at an increase of over 10% of rental rates to where we underwrote it right now. That number probably could move up another 5% easily from where we initially underwrote it six months ago.

Thanks. Then just a follow-up on the acquisition pipeline. Is there any specific submarkets or strategy that you're liking now as 2012 is starting to unfold. In terms of either taking additional vacancy risk or focusing on certain submarkets that you're seeing something there?

Yes, there is. We're balancing our portfolio in acquisitions for Northern and Southern California specifically. In those markets we've got a few deals that we're working on in the Bay Area. Specifically in the City and then down the Peninsula. That I think are a mixture of value-add and stabilized cash flow. Some of the assets in particular that we're working on have a combination of that within their own mix. They've got several floors leased and they've got several floors vacant, which is a good opportunity for us to enhance growth. Here in Southern California, we're working on two specific deals. One we're a little further down the road, which is complete value-add. Another one that we're working on is much more of a stabilized asset.

Thanks very much for that last remark. In terms of uses, sources of capital, what would you use to finance the acquisition pipeline? What would your marginal debt cost be at this point?

Chris, it's Mark. Yes, we'll look to use a combination of the line and project financing. We, of course, have complete availability to the line, as we said today. So, depending on the timing, we may tap the line initially. But we'll look to balance our utilizational line with project financing where it makes sense.

Thanks, guys.

Brendan Maiorana with Wells Fargo.

Mark, just to follow up. So how much capacity do you think you have now after the preferred and after raising a couple of mortgages earlier in the year?

The line is at $160 million. It resets every quarter and will probably pick up an incremental amount of availability because it's pulling a trailing 12 number which has progressively moved up. But so we've got the $160 million, and then like I said in response to Chris' question, we'll look to put project financing on incoming assets where it makes sense. So ballpark, I think it's safe to expect that we would have, call it, $200 million of gross acquisition capital in a combination of the line and project financing.

But does that stretch your balance sheet too much from a longer-term source of capital basis, given that you guys now have a decent amount of preferred out there? You can do mortgage financing, and you've got unencumbered assets. But would you be able to put, seeing the line as a swing source of capital, a bridge source of capital, does that stretch your balance sheet too much in the sense of putting longer-term debt with $200 million of acquisitions? If you did that much, would you have to look at equity at some point? Or do you think $200 million is safe enough with your balance sheet capacity as it stands today without doing equity?

Yes, I think we're safe in that limit, if you run it out and look. Certainly it you look at it against undepreciated book, we're still within a conservative leverage ratio. Even now, as the shares have improved, it's still a pretty attractive ratio to enterprise value. So I think we're still within a very reasonable range all the way through that amount of debt.

Are you guys still contemplating monetizing some assets, maybe the media assets in the form of some form of JV? Is that still an option, or is that something that's been tabled for now?

No, Brendan. We're definitely entertaining a couple of different options on joint venture structures. Both with the media and with some of the office assets that are stabilized and we have embedded equity in them.

Okay. Then, Victor, I'm sorry, I missed some of the ins and outs that you were talking about with City Plaza. I think you mentioned that you have 106,000 square feet of leases that are far along. There was maybe 40,000 that was going to be near term. There was a portion that, that was going to replace Condor. Can you just maybe give us an update on Condor and then what you've got back-filling in the prospects for them with their expiration next year?

Yes. Condor is -- we've got one tenant for the entire 106,000. Of the 106,000, 40,000 is going to be occupied right away, which will take over the Condor space. 86,000 feet of Condor ends up staying, at the end of the day. The remainder is the 110,000 combination of the 40,000 and the remainder of the space. So CashCall is the tenant that we're working with right now. We're in leases with them. They'll take the whole 106,000 once Condor leaves, vacates the remainder of their space. That will be a positive, totaling 106,000.

Just to clarify a part of that. It doesn't entail the entire rollout under our configuration of Condor. It's just a partial backfill of Condor, with Condor paring down to potentially a couple of floors.

So, yes, I'm sorry, I think I heard 86,000 was 86,000 square feet for Condor. Is that something that seems like a stable number for them as they get their lease expiration, which is next year?

Brendan, that will be an interim ongoing amount until the backfill occurs at the date of their expiration in March of 2013 for approximately, say, 66,000 feet of this CashCall tenant. So what happens is they come in initially -- CashCall comes in initially for 40,000. Then at the date of expiration in March of 2013 on Condor, they step into an additional 66,000 of the Condor space. At which time, Condor scales down their overall requirement.

Okay. Got it. Thanks a lot, guys.

(Operator Instructions) Rich Anderson with BMO Capital Markets.

Could I ask a little bit about the financing question a little bit more. So, say, you use $200 million of debt on the line plus property financing. Then you hit a wall there, in terms of at least debt financing. So maybe you go to a joint venture structure you talked about. But in that case, if you're doing a joint venture on existing assets, does it not take you in the reverse direction of what you want to do in terms of growing the Company? It's basically an asset sale. I was wondering if you considered joint ventures for future properties.

So, Rich, it's a combination. We're not going to JV our existing assets and leave it at that. We would JV the existing assets with the acquisition of additional assets, and using our embedded equity in those assets to do so. So, we're not going to go out and just do a straight JV on the existing assets. It's a growth mode to continue going forward.

Okay. So, it would be some type of longer-term arrangement. It would seed with existing assets, maybe a studio or two, and then grow from there?

Correct. That's one option. The other option, which we are in conversations with two parties right now, is just a straight JV on new assets.

Okay, fair enough. I don't know how exactly you can comment on this, but the last time you held a conference call, your stock was trading about $12 a share. It's closer to $15 or $15.50 now. Not that you're going to give a number, but to what degree is equity, straight common equity, coming into the mix in terms of your mindset for raising capital?

I don't think we're going to give you a number as to where we think that number is right now. But, clearly, we had indicated, and we are still of the mindset that at a certain number there's no way we're going to raise equity. Another number, depending on what our opportunities are and what we have in our pipeline, we will consider it at that time. Right now we don't have to deal with that because we don't have a need for it under our current portfolio of acquisitions that we're working on.

If you were to raise equity at, call it, $15.50, $16 a share, and you just, hypothetically, use that entirely to finance 100% an acquisition, call it $50 million. Would that be an accretive transaction or a dilutive transaction?

Obviously it will come down to what that $50 million acquisition looks like, right? But our view is that when we earlier raised equity and put that to work, we clearly view all of those acquisitions as accretive to that last equity raise. We would, hypothetically, expect that if we were to embark on raising further equity, we would also redeploy it into accretive acquisition.

Okay. On the two term loans in January, what is the LTV on those assets?

Are we talking about the 6922 and 625? Oh, sorry, on the more recent ones?

Yes.

On the acquisition price on 10950, the $30 million loan on the $46 million that we paid is 65% LTV. But I'm sure that it would appraised quite a bit higher than that. On the First Financial, it's almost irrelevant. The $43 million debt, you'd have to compare it to a number that was negotiated for a purchase back in late 2009. So, I'm not sure that's of any real importance. But suffice to say it's sub 60%, for sure.

Okay, great. Last question is, on the weakness you saw in the quarter at Sunset Gower, does that give you any pause about growing the studio business in the future given that it can be a little bit choppy at times? Or how much of the performance during the fourth quarter may have had an effect on you with a longer-term perspective?

Rich, it's Howard. How are you? No, I think you can look at this quarter -- as Victor said, there were two factors. You need to look at it really on an isolated basis. The main reason that we had an early expiration of a show that initially was going to be a Fall show that was moved the last minute to a mid-season show. So they did an early cancellation. And again, that's an isolated incident. So they moved out with the stage and the respective space in addition to that. Lastly, one of the reasons for that was, as Victor mentioned, the move-out of a long-term tenant which was a subsidiary of Technicolor in 10,000 square feet. It had been there for over five years. It had moved out to another location.

Okay. Thank you.

Thank you. At this time, I am showing no further questions in the queue. I would like to turn the conference back over to Mr. Coleman for closing comments.

Thank you. I want to thank everybody for their continued support in Hudson Pacific. We look forward to a successful first quarter and talking to you at the end of it. Thanks again.