Kilroy Realty Corp (KRC) 2005 Q4 法說會逐字稿

Ladies and gentlemen, good day, and welcome to the fourth quarter 2005 Kilroy Realty Corporation earnings conference call. My name is Megan, and I will be your coordinator for today. [OPERATOR INSTRUCTIONS] I would now like to turn the presentation over to your host for today's call, Mr. Richard Moran, Executive Vice President and Chief Financial Officer.

Hi. Good morning, everyone. Thank you for joining us. With me today are John Kilroy, our CEO, Jeff Hawken, our COO, Tyler Rose, our Treasurer, and Heidi Roth, 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. It will be available for replay for the next 10 days, both by phone and over the Internet. Our press release and supplemental package have been filed on Form 8-K with the SEC, and are both available on our website.

We released our fourth quarter and fiscal 2005 financial results this morning. FFO was $0.26 a share for the quarter and $1.95 for the full year. Those amounts include the impact of the Company's special compensation plan which terminated in December, and was based on the Company's stock performance. John will begin this morning with an overview of the quarter and the year, followed by a review of our key markets. I will follow with financial highlights and updated earnings guidance. And then we will be happy to take your questions. John?

Thanks, Dick, and thanks for joining us. 2005 saw continued strengthening in the southern California commercial real estate markets. Economic conditions improved throughout the year. Net new job creation was good to robust, and vacancy rates across the region shrank. As demand increased, tenants shook off much of their hesitancy to commit to new office space, and the pace of leasing picked up. In the strongest submarkets, such as coastal San Diego and West Los Angeles, markets for the best new office space became highly competitive, and rental rates began to rise. If I could get rid of this cold, I would be doing better. Improving market conditions created a sound foundation for KRC's fundamental growth strategies. We pursued an active leasing program that delivered significant results in our stabilized portfolio, and we began to accelerate activity within our development pipeline.

Within our stabilized properties, we signed new or renewing lease agreements in 2005 on 1.8 million-square-feet of space, boosting stabilized occupancy at year end to 95%. And just last week we signed a lease for 130,000 square feet at one of our few remaining vacancies in San Diego. We also added $137 million of new and redeveloped properties to our stabilized portfolio in 2005. That totalled 762,000 square feet in 6 properties. Overall, these properties are 86% committed, and excluding our El Segundo redevelopment, the properties are 100% leased.

In terms of development, we have 2 active projects encompassing 5 buildings under construction. These include an eighth building at our master plan Innovation Corporate Center in Rancho Bernardo that is now 100% leased, and the new 4 building regional headquarters campus we are developing for Intuit at our Santa Fe Summit Phase One location along the 56 corridor near Delmar. With Intuit's decision late last year to lease the fourth building at this project, the 4 building campus is now 100% leased.

Our prominent position in commercial development in coastal San Diego presented us with several off market land purchase opportunities during the year, and we made 2 strategic acquisitions. These include 11 acres of entitled property immediately adjacent to our current Santa Fe Summit Phase One project, and a 20 acre, fully entitled land site located along the I-15 corridor in Rancho Bernardo. In December we reached an agreement to purchase a third site, a 25-acre land parcel in the northern San Diego county submarket of Carlsbad, for $16 million. The site, known as Carlsbad Oaks North, is located north of Palomar Airport in this emerging commercial submarket of northern San Diego County. Following the closing of the transaction, which we expect to happen in the second half of this year, we plan to develop approximately 250,000 to 350,000 square feet of office and R&D space on the site, for a total estimated investment of approximately 75 million to $105 million. Including the Carlsbad land acquisition, KRC now controls a development pipeline in coastal San Diego, with construction potential exceeding 2 million square feet of office space. This is in addition to the 538,000 square feet of office product we currently have under construction, and 103,000 square feet we completed in the fourth quarter.

With that quick review, I think it's fair to say that 2005 was a year of substantial accomplishment for KRC. We believe more of the same is possible in 2006. KRC has proposals outstanding, ranging from advanced discussions to quite serious and substantial negotiations, with a number of well-capitalized potential tenants seeking significant square footage in the San Diego region. As always, there are no guarantee these conversations will lead to signed agreements, but we remain very encouraged by the sheer number of prospective clients looking for space, and our unique position in controlling so much of the entitled property in San Diego's most sought after markets. We also continue to evaluate development and redevelopment opportunities as they arise in Los Angeles and Orange Counties. Although as I mentioned on last quarter's call, the current economics of development are harder to make work in these locations, we do see improvement in both markets, which could lead to future opportunities.

In summary, 2005 was a continuation of our strategic business plan that brought us public 9 years ago. In addition to our ongoing focus on leasing, we continue to pursue disciplined, high quality development in rapidly growing submarkets of southern California. We choose submarkets where quality of life attracts the knowledge based industries that drive our state's growth. And where demand typically exceeds available supply, creating natural barriers to entry.

Now, let me update you on KRC's individual submarkets. Let's begin in San Diego, a market that continues to experience accelerating demand for new, state-of-the-market office facilities. CB Richard Ellis puts active demand for office space at more than 8.6 million square feet in central San Diego, the location of all of our current properties, as well as the bulk of our future development sites. This is up from 8.2 million square feet of demand reported last quarter. Starting with Delmar, where KRC is the dominant office landlord, with approximately one-third market share, current direct vacancy is approximately 4.6%, and total vacancy is 12.6%. Delmar had over 165,000 square feet of net absorption in 2005. Our properties in this submarket are 100% occupied.

Moving to Sorrento Mesa, just south of Delmar, market conditions remain healthy, with over 650,000 square feet of net absorption during the year. KRC competes here in the 2 story product type, which currently has a direct vacancy rate of 8.7% and total vacancy of 10.7%. Our properties in Sorrento Mesa total approximately 1.5 million square feet, and are currently 88% occupied, and 96% leased. As I mentioned earlier, we signed a 7 year lease last week with an electronics company for 130,000 square feet at 6260 Sequence Drive. This market has really picked up, with an accelerated interest in the to-be-built 2 story product. Further south in the UTC submarket, direct vacancy in the 2 story product is 6.4%, and total vacancy is 7.2%. UTC had 130,000 square feet of net absorption during last year. Our properties there are 97% occupied.

Now turning to the I-15 corridor, the 2 story product type here currently has a direct vacancy rate of 3.5%, total vacancy of 4%. In the Class A product type, direct vacancy is 7.5%, and total vacancy is 12.6. 2005 net absorption for both product types totalled over 400,000 square feet. Our properties in the market are 99% occupied. As most of you know, KRC's highly successful Innovation Corporate Center office complex is located along the Interstate 15 of Rancho Bernardo. With our recent acquisition of the 20-acre fully entitled land site, also in this market, we have unquestionably become one of the dominant real estate companies operating along this important commercial corridor, with an opportunity to more than double our portfolio presence here over the next several years. New development opportunities that we have created include 1 additional land site at Innovation Corporate Center in Rancho Bernardo, which we underwrote based upon developing 50,000 square feet, but where we have entitlements now to build in excess of 100,000 square feet.

The third phase of Kilroy Sabre Springs, which currently includes 2 existing buildings located at the intersection of the I-15 and 56 freeways, where we have entitlements to build a third building, totaling approximately 143,000 square feet. And we have the fully entitled 20-acre land site in Rancho Bernardo along the I-15 corridor, that we acquired in September. The purchase included a 300,000 square foot industrial building occupied by Unisys, and entitlements for over 1.8 million square feet. Our current plans build between 600,000 and 1 million square feet on this site. The market fundamentals in San Diego are good and improving. We believe we are ideally positioned in this market, and expect to continue to expand both our development activities, and our development pipeline.

Now let's move north to Orange County. We have 3.9 million square feet of high quality industrial buildings in this market, and they are currently 99% occupied. This 213 million square foot industrial market had a record low direct vacancy in the fourth quarter of only 3.4%. As we mentioned last quarter, we are pursuing a few redevelopment opportunities in Orange County, where we can re-zone at least a couple of our industrial properties to residential use, and sell the sites to home builders at substantial gains. We see this as an emerging trend that should have a very positive impact on KRC. Further north, in the Long Beach Airport market, demand strengthened through 2005. Class A direct vacancy is 5.5%. Total vacancy is 7.6%. Our 7 building, 1 million square foot campus here is currently 93% occupied, and 95% leased. We have additional entitlements at this project, and we are evaluating currently, alternatives for expansion.

Continuing north to El Segundo, market conditions continued to improve in the fourth quarter. Direct vacancy in the Class A market was about 17.5%, and total vacancy was 20.5%. These are both down more than 10 points from the end of 2003. Our leasing efforts in the market continued to yield steady progress. Our 999 Sepulveda property is now 90% leased, and commitments at 909 Sepulveda now account for 55% of the building, up from 19% at the beginning of the year. And that's actually beginning of last year, is it Jeff? Importantly, demand is increasing in this market. And if you look at overall progress in El Segundo, a year ago we had 1.5 million square feet that was 66% leased. We now have about 1.3 million square feet, and it is 85% leased.

As Dick mentioned on last quarter's call, we assumed in our 2006 guidance that Boeing would move out of its 100,000 square feet at 2240 East Imperial Highway. Boeing has now confirmed that it will move out at the end of April. We are currently evaluating a substantial renovation of the property, given that Boeing and its predecessor Hughes Aircraft, occupied the space for over 20 years. Real estate markets in West Los Angeles demonstrated substantial strengthening through the past year. Direct vacancy is now 8.7% and total vacancy 9.5%. Both down over a point from last quarter. Our properties in this market, totaling 677,000 square feet, are 98% occupied.

Finally along the 101 corridor in northern Los Angeles, in Ventura counties, the overall market has a direct vacancy of 4.7%, and total vacancy of 5.1%. Our properties here are 98% occupied. That's a recap of our markets.

All in all, it has been a solid year of improvement for Southern California real estate markets. As I mentioned in last quarter's call, the tenor of most regions and the transactions taking place within them, has demonstrated a shift from a tenant's market to a landlord's market. Depending upon the submarket, a sense of urgency has begun to set in among prospective tenants. KRC is strongly positioned to capitalize on this improving environment. San Diego is the current focus of our development efforts, but market strength is moving up the coast. Orange County is once again highly competitive, and Los Angeles submarkets are tightening. Even El Segundo is showing meaningful reductions in vacancy. And rental rates, based upon what brokers are telling us, are expected to increase by 8% to 20% in the aggregate, over the next 2 years in the markets in which we operate. We look forward to another strong year in 2006. We remain firmly committed to a strategic development that delivers brand-new, state of the market product in the best markets at near double-digit returns. We believe this will create significant long-term value to our shareholders, and as always, we appreciate your interest and support. Now Dick will cover the financial results. Dick.

Thanks, John. FFO in the fourth quarter was $0.26 a share compared to $0.59 in the fourth quarter 2004, excluding the impact of the accrual of the Company's special compensation plan that ended in December. Fourth quarter FFO would have been $0.88 per share, $0.05 higher than the top end of our prior guidance range. $0.04 of that was a 1 time item related to the settlement we reached with Peregrine Systems in 2003. As part of that settlement, Peregrine agreed to pay us approximately $750,000 each year from 2004 through 2007. Given Peregrine's credit situation at the time, we reserved against those future payments that were accrued at the time in our settlement agreement. In effect, that meant that we recognized the first 2 annual payments when we actually received them from Peregrine in 2004 and 2005. Peregrine was acquired by Hewlett-Packard in December. So based on that credit upgrade, we reversed the reserves related to the remaining payments due in 2006 and 2007 in the fourth quarter. That added about $0.04 a share to fourth quarter earnings.

As I mentioned, the Company's special incentive compensation plan ended in December. Our 10 day average stock price at the end of the quarter was $62.78, up from $54.35 at the end of the third quarter. So the quarterly expense for the plan in the third quarter was $0.62 a share, $0.50 higher than our forecast. That $0.50 effectively caught up the accruals from the prior quarters stock price at the end of the fourth quarter, when the program ended. So to summarize, we started with a forecast of $0.71, added $0.05 from better operating operating results and the accrual of the Peregrine payments, and lost $0.50 from higher than projected compensation expense, to end up with actual FFO per share of $0.26.

Occupancy in our stabilized portfolio at the end of the fourth quarter was 95%, up from 92.8% at the end of the third quarter, and 94.6% at the end of 2004. Same story, NOI improved during the fourth quarter, both on a GAAP and a cash basis. With GAAP NOI up 4.6% and cash NOI up 9.3%. For the full year, GAAP NOI increased 3.8% and cash NOI was up 6.5%. Most of this improvement reflects the increase in the occupancy and the reversal of the remaining Peregrine reserves. Excluding the Peregrine income and the lease termination -- and all of our other lease termination fees, GAAP NOI would have been up 3.1% for the quarter, and 3.5% for the year. GAAP rents in the fourth quarter were up 23% and cash rents increased 8%. For the year, GAAP rents were up 12% and cash rents were basically flat. We believe that our overall portfolio rent levels were approximately -- are currently approximately at, or slightly below market, with our office portfolio below market, and our industrial portfolio slightly above market. 2006 lease expirations total about 1 million square feet, although 300,000 square feet of that is the Unisys lease at the Rancho Bernardo property we purchased last year. We plan to redevelop that site when the lease expires in September.

Capital expenditures in the fourth quarter were 6 million, and $18 million for the year. As we have mentioned in prior quarters, the GAAP cost of the special compensation plan that expired at the end of 2005, ran through our income statement each quarter, and therefore also affected reported FAD, although the payout was actually made in early 2006. Excluding the special compensation accrual, our fourth quarter FAD payout ratio would have been 85%. There were no significant changes to our balance sheet during the fourth quarter. Our debt was 71% fixed or swapped. Also in the fourth quarter, we completed the sale of a vacant El Segundo industrial building for a price of approximately 9.6 million. The book gain was approximately $7 million. For the year, we sold 5 buildings for $71 million, that resulted in a book gain -- total book gain of $31 million.

Turning to development, our committed pipeline now comprises 5 buildings totaling 538,000 rentable square feet, all of which are fully leased. We expect to spend about $166 million to develop these 5 buildings, with about $40 million spent to date.

Now let me finish with the 2006 earnings guidance. Last quarter we provided 2000 (sic) FFO guidance of $3.15 to $3.35 per share. Since then, there have been a couple adjustments to our numbers. As I mentioned earlier, we booked the Peregrine reserve reversal in 2005. So the $0.02 we would have earned in 2006, was recorded in the fourth quarter of 2005. In addition, we project that our interest expense will be higher than originally forecast by $0.04, primarily due to higher borrowings associated with the higher payout of the special compensation program that ended in December. So in summary, we started with 2006 FFO guidance of 3.15 to 3.35, and lost $0.06 as a result of higher interest expense and the acceleration of the recognition for the remaining Peregrine settlement payments into 2005. Taking all these assumptions together and tightening our guidance a bit , our updated 2006 FFO guidance is $3.11 to $3.27 a share. That's the latest news from here, and now we'll take your questions. Operator?

[OPERATOR INSTRUCTIONS] Lou Taylor, Deutsche Banc.

Thanks. Good morning, guys. Dick, just a bunch of small items. In terms of the '06 guidance, what's the G&A range for this year?

Well, Lou, we have a base G&A of approximately $18 million. And then we have -- we haven't concluded yet -- our comp committee hasn't concluded yet on the compensation plan for this year. But last quarter we reported that I think that our range probably includes approximately $0.08 a share, on top of our base G&A for a potential new compensation plan.

Okay. 1 final question on the old one. In terms of the payout on the other one, was it in stock or was it in cash?

Cash.

It was in cash. Okay. All right. Next question, with regards to the Boeing building that Boeing is going to vacate. From an accounting perspective, are you going to take that building out of service? Will it be in service? What's the impact for '06?

Well, we haven't concluded on that, definitively yet. We are still evaluating the range of possible plans to renovate that space. There is no income in our forecast for beyond the expiration of the Boeing lease in our guidance at all. Whether or not we take building out of service is something we just haven't fully concluded on yet, because we are still developing our plans as to what we might do. And once we conclude what the plan is, then we will be able to conclude what the property accounting is.

Okay. And then last question for you, John. In terms of the development pipeline as you look out over the next, say 2 to 3 years, based on what you have coming out of the ground now and what you are going to start, can you do all this activity on balance sheet? Do you need to sell assets to pay for it? How do you expect to fund this pipeline?

Well, right now we have quite a bit under our line, and in terms of -- it just depends, Lou, how much we match sales with new product. As you know, we've since '98, we have been sellers. I know that's the current thing for everybody to talk about. But we have been doing it since '98, and I think we will sell some assets here again this year, and potentially we might be selling some of the industrial buildings, just a few of them that we have down in Irvine, where there is a residential overlay that develops some pretty significant profits. So it remains to be seen. We are going to make sure that we have a relatively conservative balance sheet, so that we can execute our development plan. As you know, it sometimes comes in waves. Sometimes you get more than -- if you're lucky, more than you are anticipating. And if that happens, then we will review all alternatives. But at this point, our intent is to be conservative. Dick, I don't know whether you want to add anything to that?

The only thing I would add is, Lou, that you could expect to see us to extend maturities, as we have periodically in the past.

Okay. Thank you.

Brian Legg , Merrill Lynch.

Just starting with Boeing. Your -- can you talk about the other Boeing exposure you have at 2260 Imperial Highway, that's an '07 event. And then also the Boeing in Seattle?

Okay, well, this is John Kilroy. The Boeing in -- at the 2260, the 289,000 square feet that comes up in the next year, that property is at market. We are talking with other people about that asset. Boeing has an option -- has a couple of options. It's not time for them to tell us yet what they are going to do. My understanding is that the people that are in the 2240 building, is that the building they are moving out of? I never get the addresses right. That they have consolidated those people in part, into the 2260 building. So I really don't know at this point what their intent is. I can tell you that from Kilroy's perspective, we want to continue to lighten our Boeing load, and we are confident in our ability to lease that building up. As I say, it's essentially at market today, and they don't have -- Jeff, when does their option come up for that building?

They have 1 3-year option, they have to exercise with 1 year advance notice.

That will be notice by the middle of this year.

Correct, July of this year.

Okay. As far as Seattle goes, we are in discussions with them about extending their lease there. Again, they are at a below market rate. And then finally, the other Boeing occupancy we have, if memory serves me correctly, is the Anaheim facility, in which they put in a number of millions above the base shell. They have asked us in the past as to whether we would consider selling that asset to them. We think we are at a very strong position there. I can tell you, as I've said to others on these conference calls over the course of the past year, year and a half, it is our intent to lighten our load with Boeing, and we have a very disciplined plan to do that.

And about the re-zoning of industrial, would any of this be an '06 event? Or would this be more likely an '07 event? And I assume you would then be sold the industrial as essentially a land bank. You would record the gain in FFO?

Well, there are various ways to sell it, from a tax standpoint. But to just put in perspective. We, as everyone knows, have about 4 million square feet of industrial in Orange County. We are working right now on the re-zoning of 2 parcels that we -- that my understanding is, we based upon our consultant, should have re-zoned before the end of this year, the aggregate about 11 or 12 acres, and we are anticipating a profit per acre in the 5 to $6 million range. And that's over a basis -- a cumulative basis for those 2 properties, of about 13 million. So, if things go according to plan, and the market holds firm and so forth, we could be in for a 50 to $60 million profit. Again, it's too premature to say it's going to happen, but that's what we are working towards. And we think that we will have more of these within the portfolio over the course of the next few years.

Would that run through FFO?

Brian, we haven't concluded on that.

Okay. Could you just talk about rents in Carlsbad? At $300 a foot for development costs, does that -- do rents justify that? And what is the demand like in Carlsbad?

Well, Carlsbad, the total market is about 15.7 million square feet, with Class A representing about 3 million square feet, and the balance about 12.6 or 12.7, is 2 story tilt up. We are going to be developing the 2 story product type that we like in that market. Year to date absorption in Carlsbad is about 153,000 square feet. The vacancy rate in the market today is high, because there is an unprecedented amount of square footage being developed for that market. There is about 165,000 square feet of Class A space, which we are not going to compete with. And then there is a couple hundred thousand square feet of smaller 5 and 10 and 20,000 foot -- square foot buildings that are to be -- for sale product. We are going to -- so the rental rates in that market, depending upon the type of product, range from, for the Class A space, just under $3 plus utilities. And for the 2 story tilt up, they range, the full range is between $1.50 and $2.25 per square foot triple net.

Now, the program that we have is geared -- first of all we have a very low basis, and we can build as we outlined, somewhere between 250 and 350,000 square feet. We have the right to build up to 350. We have underwritten it based upon building a lesser amount of square footage. We are dealing with corporate customers. We already have 2 or 3 people that have expressed a real interest. And we are developing a type of product that others are not. That's why we feel comfortable with what we are doing. So that $300 range is based upon our land basis. It's a -- based upon some inflation and pricing and construction costs. We think that's a good, conservative number for that market. And the rental rates, we are going to anticipate, are going to be somewhere between 225 and 250 triple net. We wouldn't be delivering product in that market for a better part of a couple of years.

And last question. What was the total cash payment for the LTIP in January?

71.7. The total book expense, including payroll taxes, was 72.8.

Jim Sullivan, Green Street Advisors.

Thanks. Just to follow up on the payment. How did you fund that, Dick?

Credit line.

And, John, you've spoken for a couple years about Carlsbad being a market that wasn't right for you yet. But obviously, now it is. What has changed? What's the dynamics of Carlsbad that made it attractive enough for you to make it the land investment?

Well, Jim, we ended up with a pretty unique situation on this particular piece of property. Before, it was pretty much helter-skelter in Carlsbad. This particular piece of property is part of a larger, master zoned parcel owned by a family that's owned the property for a long period of time. They sought out Kilroy and we were able to work a pretty nice transaction on the price, to where we could hold it for quite some time, if we choose to. What we were seeing, we thought it would be an opportunity to be able to offer a product that is a little bit further north. And we are now seeing that there are a number of customers that want to expand in San Diego, but they want to do it further north, north of the "Y." They can't afford Delmar. They can't afford being on the I-56 -- it's not "I" but it's the 56 corridor. And so that's the next logical extension. Based upon our -- we have not closed. We just went hard in November. We already have 2 or 3 different people that we were working with in regards to developing floor plans and so forth for corporate headquarters or divisional headquarters. So I like our position there. I don't like a lot of the other land opportunities we have seen in that market, because I don't think you can control your destiny there. I think we can, and I think if we are successful there, we can grow with the -- potentially with the people that control the land.

On the development that you are doing in San Diego, how much back fill space in your own portfolio will there be, as a result of tenants moving out of buildings you own into buildings that you have under development?

Well, the only one, and correct me, Jeff, if I'm wrong on this. The only one that we have right now is into Intuit. They are in about 225,000 square feet in Governor Park at a very much discounted rental to current market. We didn't discount at the time. It's just the market is significantly higher than the rents in place. They are moving into 465,000 feet. And as we reported in our last conference call, I think it was our last call, Intuit extended 70 some odd thousand square feet of that 225 for an additional 3 years at a significant increase from in place rents with no Cap Ex. So we have got -- said another way, we have got somewhere in the neighborhood of 125, 150,000 square feet, that we will be remarketing as a result of the leasing that we have done. And that rent is, as best I recall, is about somewhere in the neighborhood of $1 per square foot per month below current market.

And when you look at the amount of development taking place in San Diego, I understand that your projects will be very successful, based on the preleasing and based on your land bases, location, et cetera. But are you at all concerned about the volume of development overall in San Diego? And what that development might mean in terms of putting a lid on future rent growth?

Well, Jim, let's just go through the development for a second. There is about -- the market absorbed 2 million square feet last year, net absorption. And that does not include projects that under development. It has to be in place projects. The forecast by the various brokers, range from 2 to 2.5 million plus for '06. And that sounds reasonable to us, based upon the kinds of deals that we are talking about. And if you look at construction that's underway, in San Diego, it's 3.7 million square feet, which is the greatest amount since we've seen in 2001. 2001, the vacancy rates were quite a bit higher than they are today in these various markets. And if you break down that 3.7 million square feet, in talking with the brokers, I'll kind of give you half a dozen or so, of the projects that constitute that 3.7 million square feet. There is just shy of 700,000 square feet that we either have underway or just completed, that's fully leased.

There is QUALCOMM, with a million square feet, which is an owner/user. There is Gen-Probe, which is about 300,000 square feet in Sorrento Mesa, which is owner/user. There is downtown, somewhere in the neighborhood of 300,000 feet, which we don't consider to be a competitor to us. There is Carlsbad, with 3 or 400,000 square feet. And I'm not sure how much in this 3.7 million of Carlsbad is counted. And the lion's share of that, other than 165,000 square feet Class A that we are not going to compete with, is small buildings for sale. And that's not our -- we're not going to compete with them. We're not going to do that. And then if you go to Reef has -- I believe it's Reef, has 150,000 square feet or so, of Class A in Sorrento Mesa underway. Don't know what their leasing situation is. JMI, Crescent, in Delmar has 240,000 square feet underway. 3 buildings. We understand they are over 50% committed. Prentice, of course, just finished up the 150,000 square feet or there abouts, in Delmar, which is -- my understanding is it's over 80% leased.

Then you have Menlo Equities out in Rancho Bernardo. They've just started the first couple buildings of a 240,000 square foot Class A building. We are doing 2 story product. Rob [Langford] has got Northridge, 110,000 feet underway. We don't compete down there with him. So if you add all of this stuff up, there is a lot under construction, but most of it is already either preleased, and/or owner occupied. I feel that the market has very strong characteristics, and based on the negotiations we have underway in regards to properties that we have within our development pipeline, we are seeing very strong interest. We are seeing good returns. We are seeing rents -- people acknowledging that rents have to be higher in many cases than in place rents, to have product built. And I think all of the tea leaves are suggesting a pretty good scenario for San Diego for quite sometime.

That's very helpful. Thank you.

Ross Nussbaum, Banc of America Securities.

Thank you. It's John Kim with Ross. Quick question on the Via Frontera land position. Can you break out the 1.8 million square feet of entitled developments by office and light industrial?

I believe -- you're going to have to -- I would have to speculate a little bit here, but my understanding is we can do either/or. Up to that amount. Now there is 300,000 square feet in place. And when we bought the property, thought we would tear it down. It may that we keep that building, and just build additional space. But our intent, and when we say we have a 2 million square foot plus pipeline of office space in San Diego, we are estimating that we either keep the existing building in place and build around 600,000 square feet. Or build somewhere between 600,000 square feet and 1 million square feet after tearing that building down. We are not contemplating building the entire 1.8 million square feet plus on that site. We may, but that's not the way we underwrote it.

Okay. And then a follow-up question on the LTIP. What's the timing of the completion of the compensation plan? Because I thought originally it was supposed to be the third, fourth quarter of last year.

I think it turned south. It's taking quite some time. Developing new plans is very time consuming in the current environment. But I think our guess is that it probably is concluded this quarter.

And then as far as the G&A guidance you had, I think you said $18 million plus. Is there a stock price where the -- where you can reach past the $18 million threshold?

Well, John, we don't know the direct nature yet of the committee. And its consultants have not concluded on what the plan is, and obviously we don't control the timing of this process. So our best estimate is that the $0.08 a share that we've put in our guidance is adequate to cover it. But we will know more once they conclude on the plan.

Okay. And then, final question. That's based on a 12.31, '05 stock price as the base price?

I think -- I guess, yes. But the reason I say that is only because we are not sure exactly what the metrics of the plan will be. I know that they are considering that and discussing that now, but we don't have a definitive conclusion. I don't mean to be iffy. I just mean to say precisely, very precise, we don't know the exact nature of the plan yet. But we are confident that, at least based on what we know now, that the amounts we have in our guidance are adequate to cover the cost.

I should add there that the comp committee and the board changed comp consultants, and that delayed things a little bit. But we were able to provide, I think what we said is we would be able to provide guidance -- we'd have sufficient boundaries with which to provide guidance in the third quarter. We did that. We have done that again today. But the exact plan is taking shape. We have a board meeting later this month, or rather next month, and it's our hope and expectation that we are going to have everything finalized by then. But management does not control that process.

And you would disclose that in an 8-K? Or would that be part of your 10-K, do you think?

We will do whatever is required.

Thank you.

Depends on the exact nature what the comp committee does.

Srikanth Nagarajan, KeyBanc.

Thank you. John, in your remarks, you mentioned that there are harder economics for [inaudible]. Would you care to comment toward your average [inaudible] yield is today compared to a year ago?

We're -- you know, it ranges a little bit. Historically, up until the last couple of years, we said that our intent was to end up with somewhere in the neighborhood to 10 to 12% stabilized yields. The yields we are getting today, ROCs or somewhere between the mid 8s and over 10, and straight lines typically are double-digit. We don't do 12 of these transactions at any one time. We do a couple of bigger ones, so at any given time, it's going to bounce around a little bit. But as Dick mentioned in his remarks, we still think we are going to be in the sort of average 9% plus or minus going in yields, and the low double-digits straight line yields.

Okay, thank you. Question on your portfolio expiration for '06, it's happening mostly in L.A. county. Could you give us some color on exact submarket level expiration, and how your rental growth rate assumptions are reflected in the guidance for '06?

In terms of rental rate assumptions, we are assuming moderate rent growth throughout our portfolio. But in terms of the submarkets where our leases are expiring in Los Angeles, we have some -- Long Beach is a multi-tenant property,so we have Long Beach exposure and West Side exposure. The obviously, the Boeing 100,000 square feet, and El Segundo is probably the major piece of that.

Okay. Fair enough. Couple of bookkeeping items. Number one, in terms of Peregrine Systems, just to be clear that you completely reversed [inaudible] 750,000 for the next 2 years is gone. Right? In terms of the line item?

Yes. We actually, Sri, we will actually collect it this year and next, but it has now been constructively recorded as income in the fourth quarter of '05. Put on the books as an unreserved receivable today.

Okay. In terms of the G&A run rate for '06, not to -- kind of again, a question. It's 18 million plus and $0.08 per quarter kind of assumption?

No, $0.08 in total.

In total. Okay. All right. Thank you. And 1 last question, in terms of the expectation for the FAD payout in 2006, would you have a number there that you could throw out?

Well we don't offer guidance on that. We offer FFO guidance. But I don't think we are expecting major changes in our levels in CapEx during the year.

Thank you so much.

Jamie Feldman, Prudential Equity Group.

Thank you. What is the '06 guidance assumed for acquisitions and dispositions?

No acquisitions and about $50 million of disposition.

Okay. So that's unchanged?

Right.

And then, do you care to elaborate on it? You said moderate rent growth on a percentage basis, if you were to mark-to-market?

Yes. It varies. We do a property by property analysis, so it varies. But I'd say on average 2 to 3 to 4%, depending on the project.

On a GAAP basis?

Yes.

Okay. And then, year end occupancy assumption?

What we said last quarter is our average occupancy would range between 94 and 95%. We haven't -- we haven't provided guidance on year end occupancy.

Okay. And then I may have missed it. In terms of 2240, did you mention how much it would cost to renovate? Or would you say those plans are still up in the air?

Yes, Jamie, we are evaluating a range of possible plans right now, and we haven't concluded on what the plans would be, let alone what the cost would be. We just aren't there yet. That's all.

Okay. And then finally, for several quarters, you guys have quoted Delmar Direct for its total vacancy rate, that's off by 7, 8%. Is it safe to assume that the total number includes space that you don't really consider competitive? Or is there kind of a lurking vacancy there that could change the market pretty quickly?

That's a good question. Delmar was -- about half of Delmar was developed -- maybe 40% of Delmar was developed back in the late '80s. They were -- they are sort of 80s style building. They are not as modern as the new ones. They don't have nearly as high parking ratios, or as good a systems and what not. They tend to be geared towards the smaller tenant. And you probably heard me on various calls say one of the things -- I like all tenants, particularly the ones that pay the rent. But little tenant -- with little tenants you have -- you generally don't have pricing power, in terms of as a landlord. Little tenants can go anywhere. So you always have all these little tenants that move from building to building in any given market. Well, once you get up to somebody that needs higher quality space, wants to be in a newer building, or has larger square footage, then you have real pricing power. And so there is in most every market, some older buildings that are filled with these smaller tenants. And they move around, they get closed. They might be divisional offices or something. They expand somewhere else, or they contract. And that's what you see there. I don't view that space as competitive to Kilroy's properties at all.

All right. Thank you very much.

Dave AuBuchon, A.G. Edwards.

Good afternoon. John, do you care to take a stab, I guess, where vacancy will be in El Segundo by the end of this year?

You know, there is a lot of ways to make money, and being clairvoyant is probably the easiest way. I can't tell you, Dave. But what I do like about it, and you heard us say this in the last couple of calls, the West Side, rentals are going up substantially. Demand is increased substantially. Vacancies are low. Long Beach Airport market is doing very well. All the surrounding markets are doing well, except for Century Boulevard on the north side of LAX, which has always been a dog market. And so I think that all bodes well for El Segundo. We mentioned, I think in our last call, that some of the things that we've since converted to leases from letters of intent on the 909 building, were a couple of PR advertising agencies that moved out of the West Side to El Segundo. And they did so for a couple of reasons. 1, they could end up with a better cost structure. They could actually find a space. And in some cases, the principals lived in the South Bay market which is a very attractive place for decision makers to live. I think all of these things really are working in El Segundo's favor. I don't think you are going to see anybody, at least we wouldn't, start any new construction in El Segundo of any magnitude, unless it's preleased somehow, because the rents don't justify it. But I think that we are going -- I hate to be tied to any quarter, but I think directionally we are going to continue to see El Segundo improve.

Same with the fourth quarter, had a little bit more momentum, at least in the assets that you have in your portfolio.

I beg your pardon?

I think the -- looked like the fourth quarter had more leasing momentum, probably for the year, in those assets. So I was just curious if you are starting to see the spillover effect from the strength in other submarkets, and it sounds like you think that may be starting to happen.

Yes. I see that happening. I think if you look at the -- we have been careful in our leasing in the 999 and the 909 building, and they are not to traditional El Segundo companies. There is a bit of a metamorphosis going on with other types of firms moving in. And we view that very strongly. We're not anxious to load up on aerospace-type users.

And the rents that you are signing these tenants to, versus the west L.A. rents? How big of a discount is it?

Well, it's the rents in El Segundo, plus or minus, are in the early $2 plus parking. The rents in the West L.A. market are in excess of $3 a square foot, and we think they are going to go up quite a bit from there. To give you an idea, in our 677,000 square feet, or thereabouts, in the West Side, our average rent in that market is about 20% below current market. The market rents in like Olympic Boulevard have moved up substantially. In Santa Monica, the rents are now well above above $3. The rents here at West Side Media Center, we sometimes kid ourselves. Gee, we marketed all this space when the economy was down. We should have just held it off the market, and the rents would look a lot better today. But the rents have escalated substantially in that market. Where just here, at our corporate headquarters, we view current market rents at about 26% above our in place rents, and we think that's going to substantially escalate. So the difference between El Segundo today, if you look at parking and you look at the base rent, are somewhere in the neighborhood of $1.25, to $1.75 a square foot less than the West Side for comparable high quality space. Now that can vary at any particular building. And we think that those -- for awhile, those spreads will probably increase. And then El Segundo will have some pricing power, and then they will decrease.

All right. Okay. And then you mentioned in your prepared comments that subsequent to the quarter, I believe you leased 130,000 square feet in San Diego? Can you give a little bit more details about that?

Yes. That particular building was 130,000 square feet. We got that building back, Jeff, when?

July of last year.

So we got it back July of last year. And the -- .

The Sequence Drive? 6260?

Yes, 6260 Sequence Drive. It's 130,000 square feet. It's basically a -- it's a 7 year deal. It's with a regional credit. They've been in business for quite some time. Done very well in the electronics business. The tenant improvement allowance was $9 a square foot. The change in rent on a cash basis is in excess of 23%, and on a GAAP basis is about 44%.

Okay. And then the final question is, the fourth building, the option building that Intuit had, will that be delivered in the same time frame quarter, that the other 3 buildings are delivered?

Probably 1 quarter later. The first 3 are scheduled to be delivered in the third quarter, and the fourth building in the fourth quarter.

Of '07.

Of '07.

Great. Thanks, guys.

[ OPERATOR INSTRUCTIONS] Ross Nussbaum, Banc of America Securities.

Hi, Dick. Question for you. On your earnings guidance for the year, I think you'd mentioned there is $0.04 of a reduction was from higher interest expense relating to higher debt balances?

Yes.

Where are the higher debt balances coming from, versus where you thought they would be last quarter?

The special -- in part, the higher payout on the special comp plan, and also somewhat higher development costs from the acceleration of the plan.

Okay. And then, John, a question on Boeing. Have you talked to them -- I may have missed this. Have you talked to them about the 2260 building in El Segundo, in terms of the lease that's coming up in '07?

Well, we talk to them regularly. They are not in the habit of talking about what their plans are for renewal. And I made it clear, and I will say it again. Our intent is to reduce our occupancy with Boeing. We think we have good alternatives in that market with other tenants that we have, that have needs for space in that time frame.

But on the lease that they decided not to renew, they didn't give you an indication of the one coming up next year? They just focussed it solely on the 2240 building?

That's right.

Okay. And then a question on the tenant retention rate for 2005. The 34% was obviously on the low side, and I guess it's because you were pushing rents. Where do you expect that to be as you look ahead to 2006? How do you balance sort of the gross rent number, versus what you're netting after the TIs that you are paying out, if you actually not renewing the tenant in that space.

Well, in terms of the retention rate, as we said last quarter, I think we are targeting around a 60% retention rate for '06.

But -- this is John. I want to point out something here, is that we bought the site from Unisys with the intent of redeveloping it, and they signed a 1 year lease for 300,000 square feet on the existing building with a potential 3 month extension. They are going to be moving out. So when you look at the numbers, just remember that Unisys is -- we looked at as we were getting paid while we're doing the planning. But that is sort of an anomaly within this year's numbers.

Understood. But if I look at the gross TI number for 2006, it should be meaningfully lower than it was in '05, just because you are going to be renewing a higher percentage of current tenants.

That's true. And we also, I think we have just lower expirations in general anyway.

Okay. Thank you.

And with no further questions, I would like to turn the call over to Mr. Richard Moran for closing remarks.

Thank you all for joining us today, on a busy day for all of you I know. And we appreciate your interest in KRC. Thank you.

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