Kilroy Realty Corp (KRC) 2005 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the first-quarter 2005 Kilroy Realty Corporation's earnings conference call. (OPERATOR INSTRUCTIONS) As a reminder, this conference is being recorded for replay purposes. I would now like to turn the presentation over to your host for today's call, Mr. Dick Moran, CFO of Kilroy Realty Corporation. Please proceed, sir.

Thank you very much. Good morning, everyone. Thanks for joining us. With me today are John Kilroy, our CEO; Jeff Hawken our COO; Tyler Rose, our Treasurer, and Ann Marie Whitney, our Controller.

At the outset I need to say that some of the information we will be discussing this morning is forward-looking in nature. Please refer to our supplemental package for a statement regarding the forward-looking information in this call and in the supplemental.

This call is being webcast live on our website and will be available for replay for the next seven days both by phone and over the Internet.

Our press release and supplemental package have been filed on a Form 8-K with the SEC and are both available on our website.

We released our first-quarter financial results yesterday afternoon. FFO was $0.77 a share, $0.07 higher than consensus. John will begin this morning with an overview of the quarter and conditions in our key markets. I will follow with the financial highlights and updated earnings guidance, and then we will be happy to take your questions. John?

Thanks Dick. Hello everyone. Thanks for joining us. I'll start with a few comments on economic conditions in our markets. I will also review highlights for the quarter, including our recently announced lease with Intuit for a major new office campus we're developing in San Diego. Then I will finish with my customary review of KRC's individual sub-markets.

As we have reported over the last several quarters, the economic story in California has continued its slow but steady improvement with positive job creation and an ongoing decline in unemployment. During the first three months of 2005 the state added an average an average 18,000 net new jobs per month, not a dramatic increase, but better on a relative basis than the nation as a whole. And Southern California continues to lead the state in new job creation. Last month Los Angeles County added 17,000 net new jobs, while its unemployment rate dropped to 5.7% from 6.6% a year ago. The job growth was broad-based, with 10 out of 11 industry categories showing improvement.

It's interesting to note that some analysts believe Los Angeles is actually receiving some benefit from the weakened dollar through larger tourism and manufacturing, more local entertainment production, and higher activity at our ports. Similarly, San Diego County added 20,000 net new jobs in March and saw its unemployment rate drop to 4.3%. And Orange County added nearly 26,000 net new jobs and has the lowest unemployment rate in the state at 3.8%.

Commercial real estate markets in Southern California were relatively stable in the first quarter. Vacancy rates were generally flat except for the Santa Monica Class A market where we saw almost 350,000 square feet of net absorption, which led to a 9% decrease in total vacancy from 18% to 9% in that market.

San Diego also continues to be a strong office market with declining vacancy rates and strong tenant demand. And as most of you know, KRC has been a leading participant in this market for nearly a decade. We've made significant investments in land, new development, and less frequently property acquisitions. And as our presence has grown, we've become the leading developer in the region where we have made calculated judgments about where and when new demand would likely arise. A number of those judgments are now culminating in a new wave of growth for us.

As you already know, we initiated construction last fall on 103,000 square feet of new office space along the I-15 Corridor. In addition, we acquired a recently built office project in the region that is a site for another 143,000 square foot building. And we have been in discussions with a number of interested parties about potential new development on land parcels we own in the area.

One of those discussions resulted in our recently announced 10-year lease with Intuit. As a result of that agreement, we are now developing a master plan 466,000 square foot office campus along State Route 56 that will serve as Intuit's new regional headquarters. It is one of the most significant real estate developments in the region in several years, and it is certainly an exciting transaction for us at KRC.

The new four building campus is called Santa Fe Summit, and it is located along the recently completed 7.5 mile 56 Freeway that connects San Diego's two major north-south arteries, Interstate 5 and Interstate 15. From a sub-market perspective, the project is the easterly extension of the Del Mar office market, which we dominate.

We have believed strongly in the prospects for this area for some time and have filled the leading position along SR 56 with more than 1.3 million square feet of current office space, as well as land on which the Company can build an additional 143,000 square feet of space. The Santa Fe Summit project will increase our presence by another 466,000 square feet and will expand our overall San Diego office portfolio to more than 4 million square feet, of which we have built three-fourths since our IPO.

The master plan for the new campus is exceptional and includes the features that are so appealing to the knowledge-based companies so prevalent in Southern California. It includes four four-story buildings situated around a series of heavily landscaped public areas that feature courtyards, gardens, fountains and recreational amenities. All four buildings are designed for both single and multi-tenant occupancies.

Under the terms of the lease, Intuit will lease three of the four buildings, comprising about three-quarters of the square footage plan for the new campus, and will take occupancy when the buildings are completed in the fall of 2007. The agreement also provides Intuit with an option to expand its occupancy to include the fourth building.

Intuit's existing San Diego lease with KRC for 212,000 square feet in two buildings located in the University Town Center sub-market expires in 2007, and includes certain extension rights. The current rent for this space is well below market. And given the leadtime we have to remarket the space, we anticipate that we will be able to re-lease this space at attractive rates. Dick will discuss the specific numbers for this new development later in the call, but I'd like to summarize why we believe it is such a strong transaction for both Intuit and Kilroy.

For Intuit, this will be a world-class facility featuring state of the industry design and technological capabilities. It is centrally located in one of the most desirable areas of Southern California and will accommodate Intuit's growing San Diego space requirements.

For KRC the deal represents an opportunity to add another high-quality property to our portfolio in one of the strongest real estate markets in the nation using land that we already own. Most importantly, the lease with Intuit represents an excellent return on investment for KRC at a time when acquisition cap rates remain low.

We think this transaction highlights what we have been saying and doing since our IPO -- we prefer to build high-yielding, brand-new, state of the market buildings in our targeted sub-markets rather than buy older, lower-quality assets at lower yields. We have remained very disciplined in this strategy, and you can expect more of the same in the future.

Before moving on to a market-by-market review, I would like to highlight one other transaction from the quarter.

In March we completed the sale of three smaller properties, two office and one industrial, to a single buyer in a portfolio deal that yielded a purchase price of approximately 39 million at a cap rate of 8%. The properties are located in Santa Ana and Glendale, California and Phoenix Arizona. None were strategic to our portfolio, and none have significant upside. The strong market for commercial real estate presented a good opportunity to recycle capital into higher value properties with stronger long-term returns such as our new San Diego development. Dick will give you the financial details on this disposition later in the call.

Now let's briefly walk through KRC's individual markets, starting in San Diego, which now generates about 46% of our net operating income and is the location of our near-term development pipeline.

As I mentioned earlier, San Diego remains one of the strongest real estate markets in the state. The brokerage community reports a continued upward trend in active demand for space with 7.2 million square feet of demand in central San Diego, which includes all the market locations of our current properties and our future development sites.

In Del Mar, after strong absorption and rent growth in 2004, this market took a bit of a breather in the first quarter. Absorption was basically flat with direct vacancy at 6% and total vacancy at 13%. Our properties in this market, which total more than 1 million square feet, remain 99% leased.

Just south of Del Mar, Sorrento Mesa had positive net absorption in the first quarter of 38,000 square feet. The two-story product type in which we compete now has a direct vacancy rate of 9.4% and a total vacancy of 11.1%. Both improved slightly over last quarter. Our properties in Sorrento Mesa are currently 91% leased.

The UTC submarket also showed an improvement in vacancy rates in the first quarter. Direct vacancy is down 8.4% and total vacancy is down 11.1%. Our UTC properties are 94% leased. This is the location of Intuit's current campus.

Finally, the I-15 Corridor, which includes our Saber Springs and Rancho Bernardo assets, had direct vacancy rate of 4.9% and total vacancy of 8.3% in the two-story product type. The Class A direct vacancy is 9.7% and the total vacancy is 10.4. Our properties in this market are 96% leased.

Moving north to Orange County, our 3.9 million square feet of industrial properties continue to perform well and are now 98% leased. In the Long Beach Airport market, our 1 million square foot 7 building campus remains 94% occupied. Demand in this market continues to be steady. Overall the Class A market has direct vacancy of 4.8% and total vacancy of 11.9%. As we have previously discussed, Boeing will be vacating the balance of the space they lease in our project totaling about 54,000 square feet. This month we entered into a lease with an engineering firm to take about 28,000 square feet of this space in June.

Further north in the El Segundo market vacancy rates continue to be high. Direct vacancy in the Class A market is 22.8% and total vacancy is 28.6%. The good news here is that there are more deals in the market than we've seen in recent quarters with brokers reporting current demand of approximately 650,000 square feet. Just as we captured more than our share of leasing in 2004, we think we are well-positioned to lead the market again this year. And if neighboring markets continue to improve, and we expect that they will, we believe activity in El Segundo will pick up.

The West Los Angeles market had a terrific first quarter in which over 300,000 square feet of space was absorbed. And we began to see the first signs of rent growth in several years. Direct vacancy is 12.8% and total vacancy is 14.4%. Our properties in this market, totaling 678,000 square feet, are 96% leased.

Finally, the 101 Corridor in Northern Los Angeles and Ventura County continues to improve with numerous users looking for expansion space. This is the market where Intuit just expanded into one of our Calabasas buildings, bringing that property to 100% leased. The overall market has a 10% direct vacancy and an 11.2% total vacancy. Our properties are 94% leased in this market.

That brings you up-to-date on our sub-markets. We continue to make progress in each of them. And with new Santa Fe Summit development we have underway in San Diego, I think we are off to a good start this year.

Let me conclude with one final comment. As I said earlier, we have been very consistent in our corporate strategy since our 1997 IPO -- we have maintained a strong emphasis on effective marketing and leasing; we have had a financially rigorous approach to potential new development and acquisitions; we've been opportunistic in terms of dispositions of older non-strategic properties; and we've had a clear focus on our core business strategy to generate superior risk-adjusted returns by developing and offering state of the market product in high growth Southern California locations. As we pursue additional opportunities for growth and expansion over the next several years, you can expect to see the same disciplined approach.

We have a unique land position in one of the best markets in the country. And we expect to make steady progress developing our pipeline to create long-term value for our shareholders. We also expect, as the Southern California market continues to improve, to be able to leverage our long-term presence here to expand within the region.

Bottom line, while some quarters will be better than others, we're feeling pretty darn good right now.

Now Dick will cover the financial results. Dick?

Thanks John. Our first-quarter financial results included FFO of $0.77 a share compared to $0.65 in the first quarter of 2004. Excluding the impact of the Company's special compensation plan, that was about $0.08 higher than our internal forecast of $0.69, $0.04 of which was related to improve core results and $0.04 of which was timing differences mainly related to repair and maintenance costs. As a result of all the rain we have had here in Southern California, we postponed a fair amount of our normal maintenance work in the first quarter. We anticipate catching up with that over the balance of the year.

Also affecting first-quarter FFO was the Company's special compensation program. We ended the quarter with a stock price of approximately $41, down from $42.75 at year end. So the quarterly expense for the plan in the first quarter declined to $1.7 million from $7.8 million in the fourth quarter. As we have discussed in prior calls, the special compensation plan, which began in 2003 and expires at end of this year, is essentially tied to the level of our stock price. A $1 change in our stock price translates to approximately a $0.05 a share change in 2005 FFO.

Occupancy in the portfolio at the end of the first quarter was 94.1%, off slightly from 94.6% at year end. Our occupancy in San Diego was off slightly, largely due to the addition to the stabilized portfolio of 5717 Civic Center in Sorrento Mesa that has not been least yet. Beyond the San Diego market, occupancy continued to improve in Los Angeles with new leases for the start of the West Side Media Center and 999 Sepulveda and was over 98% in our Orange County industrial portfolio.

Broken down by product type, office occupancy at end of the first quarter was 94.1%, about the same as year end; industrial occupancy was 94.3%, down from 95.5% at year end.

With the year-over-year improvement in occupancy same store NOI also showed improvement with GAAP NOI up 1.7% and cash NOI up 1.3%.

GAAP rents in the fourth quarter increased 10.5% and cash rents were down 2.8%. On a portfolio basis we estimate that our lease are currently roughly at market.

We continue to make good progress in our 2005 expirations. As of the end of the first quarter we have just 523,000 feet expiring over the remainder of the year compared to 1.3 million square feet that was due to expire at the beginning of 2005.

CapEx for the first quarter decreased to 5.2 million from $10.8 million in the fourth quarter. Our FAD payout ratio was 98% for the first quarter.

As we announced last month, our Board increased our quarterly common dividend by 3% to $0.51 a share, or $2.04 on an annualized basis. The first dividend at the higher rate was paid in April.

With the addition of Santa Fe Summit to our committed development pipeline we now have 3 projects totaling 569,000 square feet of rentable space under development, and 1 building totaling 242,000 square feet of rentable space in redevelopment. We expect to spend about $236 million on these 4 projects with about 89 million spent to date.

Now let me talk for a moment about the Santa Fe Summit project where we recently completed a lease with Intuit.

The project will have 4 4-story buildings totaling 466,000 rentable square feet. Our preliminary capital budget is $145 million, or $311 a rentable square foot. Intuit's lease covers 3 of the 4 buildings, totaling 365,000 rentable square feet, or about 78% of the projects. Intuit also has an option to lease the fourth building under certain conditions.

Given the significance of this project we thought it might be helpful to walk through the numbers at a high-level to give you a sense for our preliminary estimate of the project economics. This will be the first office space developed along the portion of the 56 Freeway that was recently completed. Based on comps in the Del Mar market just to the west and the I-15 Corridor market just to the east, we think that current market rents for multitenant space in Santa Fe Summit market are somewhere in the mid to high $2 a foot range on a triple net basis.

Intuit's initial rent on the first three buildings will be approximately $2.28 a foot on a triple net basis, subject to downward adjustment if our projects costs come in under budget. Intuit's initial rent under its option for the fourth building is approximately $2.58 a square foot triple net, also subject to downward adjustment if our development costs come in under budget.

In our projections we also take into account that if Intuit doesn't take the fourth building then at least on a pro forma basis we would have a vacancy and credit loss reserve that would partially offset increase in the market rent over the Intuit option rent. So when you add all that up, we currently project that our return on cost for the project will be approximately 9% on a cash basis and 10% on a GAAP basis.

We expect to begin construction on Santa Fe Summit in the third quarter, and we estimate a completion date in the third quarter of 2007.

Our existing lease in San Diego with Intuit covers 212,000 square feet in 2 buildings in the UTC sub-market. The lease expires in 2007 and Intuit has a 2-year extension option on 1 of the 2 buildings that totals 71,000 square feet. Intuit's current rent is under market. The rent level for the extension option would represent a 33% increase over Intuit's existing 2007 contractual rent.

As John mentioned, we also completed a disposition in the first quarter, selling 3 properties to single buyer for approximately $39 million, which translates to a cap rate of 8% and a book gain of $5.8 million. Proceeds from the sale were used to pay down our credit line.

We continue to manage our balance sheet carefully. And our activity this quarter is a good example of how we try to use our capital recycling development strategy to increase shareholder value over time. We're building brand new state of the market product in high-growth markets at what we think are very favorable risk-adjusted returns, and funding that in part by continuing to selectively sell some of our most mature non-core assets at attractive prices.

Now let me finish with an update on earnings guidance.

Last quarter we increased our 2005 FFO guidance to a range of $2.80 to $3 a share. As we have said before, our guidance for the balance of the year is in part a function of the stock price based special compensation plan that expires at the end of this year. Our guidance last quarter was based on our stock price of $39 at the time. Since then our stock price has increase, and we had a minor technical change when our Compensation Committee clarified that from now on the Company's stock based compensation will be based on a 10 day moving average calculation of the Company's stock price.

So to bring the numbers up-to-date, based on our last 10's days average stock price of roughly $42.50 a share, the stock price increase since our prior estimate would reduce our 2005 earnings estimates by $0.18 a share. Earnings will also be a penny or two lower as a result of dilution from the asset sales we have completed in the first quarter. Taken together, those changes would reduce our prior guidance of $2.80 to $3 a share by roughly $0.20 to an adjusted range of approximately $2.60 to $2.80 a share. Our core operating performance continues to improve, though, and that partially offset the effects of stock based compensation and disposition related dilution. Our first-quarter earnings were $0.08 ahead of our internal estimates, although as I said earlier $0.04, or half of that, was timing differences that we expect will reverse as the year progresses.

So taking all of that into consideration, we are essentially expecting that our core earnings improvement will continue to be sustained through the year. And we are providing new 2005 FFO guidance of $2.72 to $2.87 a share. That's the latest news from here, and we will be happy to take your questions now. Operator?

(OPERATOR INSTRUCTIONS) Jay Leupp, RBC Capital Markets.

It's David Copp here with Jay. Could you give us an update on where you're in with discussions for leasing on your two Avenue of the Science constructions?

Two -- oh, excuse me. We call them something different internally. ICC. We have about a half a dozen prospects that we're negotiating with that represent anything from a portion -- a quarter of one building to the largest one would take both buildings and another building that we have to build. So we're in active negotiations on those buildings, and they're scheduled to be completed later this summer.

Okay and then coming back to the Intuit development, if we could, can you give us an idea of how much of that is going to be kind of organic net new demand from them, and how much of that you expect to be just simply moving around from either your building or other buildings within the market?

They occupy 200,000 square feet of space now and they're taking 365.

But (technical difficulty) in your portfolio solely? (multiple speakers) do you anticipate them leaving a vacancy somewhere else within that market?

Well, they're going to leave 212, although they could potentially stay in one of the buildings where they have an option. More to come on that. They also lease a building from, I believe, its EOP -- I don't know what the size of that is -- that is over in the UTC sub-market. I believe it's a two-story product that I understand there are going to be vacating concurrent with their moving to our building.

From the standpoint of overall growth, though, Intuit, my understanding is that they have expanded dramatically. They're going to have about 1400 people in this campus, in the first three buildings that we're building for them.

Okay and then a bit of a housekeeping question. If I look at your supplemental on page 14 that is your lease expiration schedule, I'm looking at the far most right column where it gives the rental rate on expirations. And if I look at where the expiring rents are in '05 versus 06, you break them out for office and you break them out for industrial. They look like the '06 expirations are about 15% higher than the '05 rates. But then when I look at the total combined down below it's about flat. What am I missing there? I know it's a bit of nuance, but I think they're something here I don't quite understand.

I'd have to look at the numbers, but I think it's just the relative amount of space between the office and industrial.

Fair enough. We will circle back with you on that one.

It's Jay Leupp just with one other follow-up. Just given the strength in the fundamentals other than El Segundo that you were talking about, and particularly San Diego, what do you expect from your competition in terms of new development? And when do you start seeing that new supply start to put pressure again on rents and also driving land prices up higher?

Well, land prices are high, Jay, or have moved higher. But there's not a lot of new construction under way, nor forecasted to come online, with the exception -- I mean, we know we're going to do. We keep abreast of what the other brokers and so forth are telling us. There just isn't a heck of a -- we have a very enviable land position in San Diego. If you sort of break it down, there are obviously always some odds and ends, and I'm not talking about redevelopments, but sort of ground-up development in the markets that we're in.

If you look at the I-15, Rancho Bernardo, Saber Springs market, that market size is about 14.2 million square feet. It has a very low current vacancy. We have 103,000 square under construction. We're the only one with a project under construction. There's a very little land available to develop. In most cases somebody would have to buy a building and tear it down or some other ingenious way to make land available.

We can deliver in addition to the 103,000 feet we have in that market another 275,000 square feet. That's broken down sort of half at our Innovation Corporate Center property and half at our recently acquired Saber Springs property.

If you move to the Sorrento Mesa market, which is 15 million square foot market, about two-thirds of that is two-story. The rest is midrise. Again, getting in the single digit vacancies. We can deliver about 400,000 square feet plus on what we call upper Sorrento Mesa and about 225,000 square feet along the freeway for a total of about 630,000 feet.

Reef (ph) can deliver around 300,000 square feet, it's our understanding, in two five-story buildings. Other than that, there aren't many lots available in Sorrento Mesa. There are, by the way -- there's around 525,000 square feet under construction in Sorrento Mesa right now, of which 450,000 square feet is a headquarters for Biosite that they own themselves.

In UTC, there's nothing new under construction today. There's very little property available to develop. There is one of the life science companies that's rumored to be starting a 65,000 square foot life science facility later this year.

In Del Mar, that market is 3.4 million square feet. It's essentially all Class A. KRC owns a third of the market. There's one project under construction today that's 160,000 square feet, which is Prentiss Properties (ph) in two buildings. We understand from the brokerage community that they're somewhere in the neighborhood of two-thirds leased at this point. There's a Company, JMI, that owns property which we understand they're going to start that is 240,000 square feet in 3 80,000 square foot buildings. And that's it.

And then there's the 56 Corridor, and we see this area as the extension of Del Mar. Our project Santa Fe Summit is just a few miles up the road on one of the on-off ramps. We're going to be under construction with 466,000 square feet. There is another fellow that owns some property next door. Don't know what he's going to do.

There just isn't a lot of land in San Diego to start building buildings on. There's always the sites here and there. And then of course there's the Carlsbad market where there is land available. That market ultimately is a good market. It has been a laggard.

Thank you.

Steve Sakwa, Merrill Lynch.

Maybe first, if you could talk about that San Diego property, John, that you brought on, I guess the 5717. That did come on 0% leased at this point. Can you just talk about the prospects for the building?

They're very good.

Okay. Number of tenants or--?

We have a number of tenants. We had thought we would do a life science deal this past year. We had about six different negotiations going on at different points in the year. In each case there was either a financial -- an IPO that didn't go forward, a product that didn't launch, or we couldn't get comfortable with the economics. The life science has been the soft area in the market. All the other segments of the market are sort of on the march with very strong demand. Life sciences has been the laggard just generally speaking as an industry. That building is well-positioned for office. The office market in Sorrento Mesa and the two-story product has grown quite strong. So our target audience, if you will, is quite a bit larger than it was this last year, and we think we're going to do well on that building this year.

I guess, are you now thinking you're not going to make this life science; you're going to switch it back to two-story office?

It's not really any -- it was basically an office R&D building. It was built that way with a capacity to go life science. We did add some mechanical systems, but fortunately those particular systems are geared both to accommodate the life science, as well as many of the engineering requirements that are in the marketplace today where they have quite high electrical loads. So we think we're very well-positioned. I can't really go much further than that.

Okay. I guess just a couple of maybe accounting questions for Dick or for Tyler. On your same-store analysis there were a couple of large adjustments both that kind of negatively impacted the same-store results. The first was you had a large reduction in other income. Secondly, you had a very large increase in provision for bad debt. And the combination of those two probably clipped about 400 basis points off the same-store results. So I guess could you just comment on both of those items? And what should we be thinking about in terms of bad debt expense for the whole portfolio going forward, because it was up quite a bit in Q1?

The bad debt expense, Steve, I'll take that one and ask Tyler to answer the other one. But the bad debt expense was a bit anomalous. Bad debt expense is usually a leading indicator on -- it's a good leading indicator on the way I always look at it on the health of the business. We just had an anomaly. We had one particular tenant that is in a relatively specialized business that ran into some financial difficulties. So that's why we took a full reserve on that particular tenant. But other than that, what you're seeing is basically one tenant. Other than that we just took our normal level of reserves. So that's not an indicator.

It was 1.1 million for the whole Company in the first quarter this year versus about 225,000 last year?

Yes.

Would you suggest that that number goes back to kind of the 225, 250 level sort of going forward, or something higher than that?

We think it's more like a couple of pennies a share a quarter.

And any comment on just the big decrease in other income?

Other income is lumpy. The number that's in this quarter is more typical for us. We had different things running through other income last year, including some of the (indiscernible). But I think from a modeling perspective you can assume that the number for this quarter is about right.

Okay. Any comments generally about kind of straight line and FASB 141 just in terms of aggregate dollar figures for a '05 'or for 06 on those levels?

The straight line in the first quarter was relatively high, and that was due partly to a building we purchased at the end of last year. I think from a modeling perspective, again you can assume $2.5 million on average per quarter for straight line rent.

And I guess the FASB 141 seems to just kind of come in this quarter. It wasn't much.

(multiple speakers) again was related to the acquisition in December. And you can assume that being relatively flat for the near-term unless we buy another property.

Okay, great. Thank you.

Lou Taylor, Deutsche Bank.

John, can you comment just on your rent outlook for the year for your leases expiring? I know Dick had mentioned that your marked to market is about flat. But as you look at your '05 expirations for the balance of the year, do you see rents being flat or up or down?

I can answer that. For the balance of this year, the 500,000 square feet, we're slightly above market on our existing leases. As a portfolio we're at market. But I would say we're maybe 5% above market for the remaining (multiple speakers)

Can you guys then maybe talk a little bit about the building in El Segundo that you have been trying to lease up now for the last 18 months or so and just any prospects to fill up that space?

Actually El Segundo, as I mentioned in my formal remarks, while it's still the laggard with regard to its overall statistics, there are a couple of things that are going on.

One is the markets up around El Segundo are cleaning up nicely. And there isn't in most cases large chunks of space elsewhere like there is in El Segundo. Historically that's been a good indicator that El Segundo will pick up.

And then specifically with regard to leasing activity, we have about slightly over 300,000 square feet worth of active lease negotiations going on in El Segundo. Now I can't tell you, Lou, that we're going to make all of those. I don't know what percentage we will make. But I can tell you that we've got far greater activity right now than we've had at any time in the last three years.

Last question for Dick on your favorite topic, on the comp plan. You gave the sensitivity of the stock price move by $1. But it sounds like this is not a linear progression. What happens if the stock goes up or down by 2 or $3?

Within that range it's essentially linear.

Okay great. Thank you.

(OPERATOR INSTRUCTIONS) Sarah Balintz (ph), Green Street Advisors.

What would your D&A have been in the quarter if it would have not been for the incentive compensation program?

It would have been $1.7 million less.

Okay. Thank you.

(OPERATOR INSTRUCTIONS) At this time you have no further questions.

Thank you all very much for your interest in KRC. I know it's a busy day for all of you analysts, so thank you and have a great day.

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Have a great day.