Kilroy Realty Corp (KRC) 2007 Q3 法說會逐字稿

Good day ladies and gentlemen, and welcome to the third quarter 2007 Kilroy Realty Corporation earnings conference call. My name is Torlisha, and I will be the operator for today. At this time all participants are in listen-only mode. We'll facilitate a question-and-answer session towards the end of this conference. (OPERATOR INSTRUCTIONS). As a reminder, this conference is being recorded for replay purposes. I would now like to turn the call over to your host for today, Mr. Richard Moran, Chief Financial Officer. Please proceed, sir.

Thank you very much. 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 stay say some of the information we'll 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 live cast live on our website, and be will be available for replay for the next ten days both by phone, and over the Internet. Our press release and supplemental package have been filed on a form 8K with the SEC, and both are also available on our website.

I'm sure that all of you have seen the news on the wildfire situation here in Southern California so let me start with a quick update on KRC. Fortunately, none of our properties have had any damage at all. And beyond the adverse air quality, the only effect we've seen in our business is the concern and inconvenience from any of our employees and tenants, particularly those who live in, or near residential areas directly affected by the fires. Our building managers and engineers have obviously been on alert, and we're grateful for the fire and emergency service and personnel out there in the affected areas, battling on the front lines.

We released our third quarter results yesterday afternoon. FFO is $.81 cents a share. John will start the call with an overview of the quarter and our key markets. I'll add financial highlights and updated earnings guidance, then we'll be happy to take your questions. John ?

Hello, everyone. Thank you for joining us. Economic conditions have changed little in California over the past three months, continued strength in a number of our key industry sectors including; telecom, trade, defense, tourism, entertainment, and professional services, have supported modest job growth, and offset much of the negative impact of the impaired housing industry. According to the Los Angeles economic development corporation, California will add nearly a quarter of a million, net new jobs, this year and next. Unemployment rates remain low in southern California with Los Angeles at 5.2%, San Diego at 4.8% and Orange County at 4.2%.

Meanwhile, while leases are sometimes taking longer to execute, the fundamentals for commercial real estate in southern California remain solid, especially in KRC's submarkets. Rents are rising, demand is visible in most quality markets, and new supply remains contained. At KRC, are our real estate operations performed well in the third quarter, stabilized occupancy held steady, supported by a strong leasing effort that effectively offset some big rollovers in our stabilized portfolio.

Let me review several of the most important transactions. In San Diego, we had a 90,000 square foot expiration in the third quarter on a Sorrento Mesa office building, and we have already released the space to a home entertainment company. The new seven-year lease has a 134% increase in GAAP rent, and a 94% increase in cash rent. The new tenant will take occupancy in February 2008. Also in Sorrento Mesa, we signed in the second quarter, a seven-year lease with a law firm for 38,000 square feet. The tenant took occupancy in the third quarter, with GAAP 60% higher and cash rents 40% higher.

In Savor Springs Corporate Center, a redevelopment project along interstate 15 in San Diego County, we signed a three-year lease with a defense contractor for 21,000 square feet, about 1/5 of the total space available in the two building, 104,000 square foot property. The lease will commence in November. In Orange County, we released 144,000 square foot Anaheim industrial building, for five years to a specialty automotive company. The GAAP rent is 6% higher, and the cash rent is 10% lower. The tenant took occupancy last week. Finally, we're close to executing a lease with a consumer products company for 48,000 square foot building on main street in Irvine. The new lease will be for seven years and represents 37% increase in GAAP rent, and a 13% increase in cash rent over the prior period. The lease is expected to start at the end of the year. You can see from these examples, that we're benefiting from significant increases in rental rights.

It was also an important quarter for our development program. We delivered more than 780,000 square feet of new office space over the last three months, including our four building, and two at corporate campus, in Santa Fe Summit Phase One located along the 56 corridor, just east of Delmar. In the Office and Engineering Center for Cardinal health, a KRC specific corporate center in Sorrento Mesa. Both companies have now taken occupancy of their new space. That leaves us with an active development, and redevelopment pipeline of about 555,000 square feet, in five projects, with deliveries scheduled through the third quarter of 2008. The total estimated investment represented by these five projects is approximately $163 million, and they're 45% leased. This is down from last quarter since we delivered two 100% pre-leased projects.

Let's review individual submarket conditions, starting in San Diego. Market conditions in our San Diego submarkets remained relatively stable from last quarter. Central San Diego, the location of all of our properties in the region, in all of our active development, is currently registering active demand for office space of approximately 6.8 million square feet, according to CB Richard Ellis.

In Delmar where KRC is the dominant office landlord with approximately a 2/3 of the top tier class A product, current direct vacancy is approximately 6.1%, and total vacancy is 9.2%. Our stabilized properties in Delmar are 100% occupied. In the submarket of Sorrento Mesa, south of Delmar, KRC competes in the two and three story office market. Direct vacancy for this product type is currently 5.7%, and total vacancy is 8%. Our stabilized properties here total approximately 109 million square feet, and are currently 95% occupied and 100% leased. Just south of Sorrento Mesa, the UTC Governor Park submarket, we also compete in the two story product type, current direct vacancy is about 1.4% in total vacancy, about 5.9%. Our UTC properties total approximately 430,000 square feet including our only vacancy, which is the 140,000 square foot building that Intuit recently vacated, when it moved into its new San Diego campus, that we completed in the third quarter. We're already in serious discussions with a tenant to take the entire building. Along the I-15 corridor, KRC owns approximately 750,000 square feet of stabilized office space. The two story product type here has a current direct vacancy of 6.9%, and total vacancy of 8.2%. In a class A product type, direct vacancy is 15.9%, and total vacancy at 18.6%. Our stabilized properties here are 79% occupied.

Moving up to Orange County, KRC's 3.7 million square feet of industrial properties were 91% occupied at the end of the quarter, but are now 94% leased after including the industrial lease I mentioned earlier. Our largest remaining vacancy in this market comes from the 157,000 square foot industrial project we're currently rezoning to residential. Overall, the Orange County industrial market remains strong with a vacancy rate of about 4.1%.

Further north, at Kilroy Center Long Beach, our seven building office campus immediately adjacent to the Long Beach airport, is currently 95% occupied. Demand here is steady. Reflected in class A direct vacancy of 6.5%, and total vacancy of 7.3%. Continuing north, our stabilized properties in El Segundo are now 96% occupied. Direct and total vacancy in the El Segundo class A markets are 13.3%, and 14.9% respectively.

Moving to the West L.A. market, direct vacancy is now 6.3% while total vacancy is at 7.2%. Our properties in the market totaling 680,000 square feet are 99% occupied. This is probably the strongest market, currently in southern California, with rents in the mid $6 range on a full-service gross basis. Lastly, the 101 corridor market which runs through northern Los Angeles and southern Ventura counties continues to perform well, direct vacancy in the class A product is currently 6.6%, total vacancy 7%. Our properties here are 97% occupied. That's an update on our third quarter activities and markets.

Let me wrap up with a few comments on the tone of the market. As I mentioned earlier, although it is often taking longer to complete new leases as decision-makers are slower to make new commitments, as they evaluate the direction of the economy, our business has remained solid with significant leasing progress, in increasing rentals. And it is important to remember that the southern California economy continues to be very diversified. We have discussions ongoing for new development opportunities, with numerous companies representing a broad cross section of industries including; defense, financial, telecom, electronics, services, education, entertainment and healthcare. As always, we can't say for certain if we'll complete any of these deals until they're under contract.

Given our ongoing leasing success, the visible demand we see for our properties, and our control of key San Diego land sites, we remain positive about our future prospects. Now, Dick will cover the financial results. Dick?

Thanks, John. FFO was $0.81 cents per share in the third quarter, and $2.33 for the first nine months of the year. Occupancy in our stabilized portfolio at quarter end was 92.6%, essentially flat from 92.7% in the second quarter, and down from 96% a year ago. Our office portfolio was 93.4% occupied, and our industrial portfolio was 91% occupied.

As we discussed last quarter, the lower industrial occupancy reflects two vacancies in our Orange County portfolio totaling 192,000 feet. One which was recently released, and the other is expected to be shortly, and the impact of our residential rezoning project in Irvine which accounts for 157,000 square feet, or 4% of the industrial vacancy rate. With the leasing that John mentioned, some of which will impact the fourth quarter, we project that our year end occupancy, overall, will be back up to the 93.5% to 94% level subject to the timing of a few end process lease negotiations.

GAAP rents increase 7% and cash rates were basically flat in the third quarter. That includes the impact of the Boeing lease in El Segundo, that as we discussed last year when it was signed, includes a rent roll down of 20%, beginning in the third quarter of 200,7 excluding that lease, our GAAP rents were up 39%, and our cash rents were up 21%. For the first three quarters, GAAP rents increased 15%, and cash rents grew 4%. Excluding the Boeing lease in our year-to-date numbers, GAAP rents increased 30%, and cash rents increased by 13%. Based on our latest analysis, we believe our rent levels for our overall portfolio are now 15% below market, and for 2000 expirations are 10% below market.

We have about 1.4 million square feet rolling in 2008. 900 square thousand feet of which is industrial. We're already making progress on several of these leases, with over a million square feet currently in discussions. Capital expenditures in the third quarter totaled $9.4 million, which was higher than typical given the number of large leases that were executed during the quarter, including about $4.7 million in TIs and leasing commissions, for five San Diego office leases, that totaled 154,000 square feet. We expect our fourth quarter Cap Ex to moderate back to the $5 million to $6 million level. We didn't have any acquisitions or dispositions during the quarter.

As John mentioned, we had two very large deliveries out of our development program with both Intuit and Cardinal Health taking occupancy of their new corporate campuses. To recap those transactions, the four building Intuit campus includes 466,000 square feet ,and four buildings, with a total investment of approximately $145 million. Intuit relocated from 141,000 square foot Governor Park building which we're working to release. Cardinal Health's new San Diego office and engineering regional headquarters, totals approximately 318,000 square feet, and represents a total investment of about $70 million. They also took occupancy of an existing 93,000 square foot building during the quarter. In addition, DIRECTV took occupancy of 77% of our redevelopment property in the third quarter.

Our remaining active pipeline represents about $163 million of development, and redevelopment of five projects, that total six office buildings, and 555,000 square feet. We've spent $96 million to date on these projects, and they're 45% leased.

Our balance sheet remains in great shape and we are very conservatively leveraged. Our variable rate debt is just 3% of our market cap. We have no near term debt maturities, and very substantial available liquidity, and borrowing capacity.

Let me finish with updated 2000 FFO guidance. Last quarter we provided 2000 FFO guidance in a range of $3.04 to $3.14 a share. We now think we'll be at the high end of that range and our updated 2007 guidance is now $3.12 to $3.16 per share. That's the latest news from here. We'll be happy to take your questions. Operator?

Thank you. (OPERATOR INSTRUCTIONS). And now, our first question comes from the line of John [Gyne] with Sea Fort. Please proceed.

John Gyne. How are you gentlemen?

Fine thank you.

John, when you're looking at development deals going forward, what are you penciling out as total development costs in the various submarkets where you're active, particularly west L.A. and San Diego?

Well, we're far more active in San Diego, as you know in west L.A., it is very difficult to find a site that you can get entitled. And the big variable in all of these projects is land cost. Land cost is escalating significantly, simply because in the good markets, there are so few sites left. A case in point would be, in the markets in which we're-- the primary markets in which we're involved in San Diego, Sorrento Mesa, there are only a couple of green field sites left, other than a few corporate users that are holding the sites for themselves. Kilroy owns those green field sites and in Delmar, there's only one site left which is going to be traded here shortly. On the 56 corridor, we own those sites.

The point I'm making is that, in order to find land now, you're going to pay up significantly, and that's going to impact your development cost. So, if you sort of look at class A space in San Diego, you're going to be anywhere from $500 a square foot, to $600 a square foot, plus or minus, depending upon land cost, depending upon whether you're a high rise, or a low rise. Whether you're class A construction, or whether you're two story construction. If you're two story, you can sort of back out $100 to $150 a foot, depending again, upon your land cost. So, you're sort of in that-- call it the mid height $300s for a two story product on a per square foot basis completed, and anywhere in the high $400s to very high $500s for class A.

Structure parking on the two story or still surface parking on the two story?

Generally, that's going to be-- at the lower range, that's going to be surface parking. Great. In the upper range on the class A, that will be structured parking.

All right. Thank you.

You're welcome.

Our next question comes from the line of Michael Bilerman, with Citi. Please proceed.

Good morning guys out there, and John Litt is on the phone with me as well. Dick, you referenced occupancy year end of 93.5 to 94. Can you clarify, does that include, or exclude Von Carmen, and does it include or exclude the two developments that are coming on-line in the fourth quarter?

That includes Von Carmen, and it does not include the two developments in the fourth quarter.

And when you say includes Von Carmen, that assumes it goes out or that--

I'm sorry. It assumes that the Von Carmen industrial site, which is the one that's being in the process of being rezoned to residential, remains vacant.

Remains vacant. Maybe you can then going on that, can you just give us an update where you are in that rezoning process as well?

The progress is somewhat slower than we anticipated. Still, going on track, but slower, and we expect now that it will be sometime in 2008, when it is resolved.

And then you've talked about the two developments coming on-line at the end of the year, that multi-tenant space. You really want to have them built, to be able to show it. We're getting to that point now in mid October, late October. Can you give us a sense on what the tenant activity has been? John, I think you talked about deals being a little slower to occur. I'm just wondering how that's impacting those two developments.

Out in Saber Springs, we have-- the 143,000 foot class A building, the third and final building at the intersection of 15 and 56. That shall be done here in the next few months. We're in serious negotiation with somebody, for approximately one half of that building, and for the balance of the vacant space, which is about 59,000 feet in the other two buildings. And that's going very well, and we have a number of others, so, I think we're going to see good progress. We always projected that being a multi-tenant building, that we would see leasing as the building neared completion. I think that's what we're going to find.

On the 57,000 foot building, that is under construction, and nearing completion of the shell in Sorrento Mesa on what we call lot three, we're in negotiations with two different folks, and we anticipate that we're going to have a transaction there, fairly soon. Obviously I can't speak to specific dates. Still, we have something signed. That happens to be the only building that is a two story building of any quality, in the entire Sorrento Mesa market, that is available or under construction.

And then on the two assets that got delivered in the quarter, it looks like the overall cost on Pacific Corporate went down by about $5 million. Can you talk about what your yields are on those assets, both on a cash and a GAAP perspective, and Dick, maybe you can talk about when the income recognition was during the quarter, so we get the proper run rate into 4Q.

I'll take the first half and ask Tyler to take the second, because the second half is a little tricky in terms of the math and modeling assumptions. But in big, round numbers, the cash and GAAP returns on those two projects are cash 9, and GAAP 10.

The Intuit project delivered NOI for about 60% of the quarter, and the Cardinal Health project for about 75% of the quarter.

That doesn't sound so tricky.

Well, actually, the math to get to there was-- we struggled with how to make it simple. Tyler did a good job.

And then just the last question on-- John, you talked a little bit about the releasing efforts and being able to put away some of the industrial vacancies. And I think you mentioned on the office side, that for the former Intuit building, that you have a very good prospect. Can you talk a little bit about what the rental levels are relative to the expiring rent on the Intuit space, as well as the-- I think it was Innovation Drive where you had Broadcom, and I think you did a short-term lease there, what the prospects for that 100,000 square feet is?

On Broadcom, you are right, we had a tenant in there for a short period of time. We have a couple of different folks that are looking at that project. That's out on the I-15. It is very well-positioned. You may have seen it, Michael. It is on the freeway. It has great parking. Great asset. Great amenities, and so forth. And we're actively trying to lease that space right now. We have a number of people looking at it. But don't have a deal yet.

If you back down to the I-15 and the 56, we have the Saber Springs Corporate Center project which is one of our redevelopment projects, where we just leased 21,000 square feet to a defense company. They're looking at taking the balance of the building they're in, and then we have a prospect that's very serious on the adjacent 60,000 square feet. Again, those buildings are just-- shells are just getting-- redeveloped.

And then back to the question on the rent, in all, in those cases, we expect rents to go up from the previous tenants, then with regard to-- I think your last question was on the 141,000 square feet that Intuit moved out of, in Governor Park, and I believe the rent increase there is around 50% on a cash basis. On the deal that this company has board approval for, and we're negotiating the various points. Again, we haven't made the deal yet, because we don't have a signed letter of intent or lease, but they do have board approval, and which they just received last week.

Great. Thank you very much.

You're welcome.

Our next question comes from the line of Michael Knott with Green Street Advisors. Please proceed.

Hi, guys. Glad to hear everything is okay in the San Diego area. John, did I hear you right, that you said in San Diego, supply is restrained? It looks like according to CBRE, there's still about 4% of buy under construction?

Well, yeah. I mean you've got to look at where it's distributed, Michael. And in our markets, there is no new space coming on stream, of any magnitude. In Delmar, there is the one building. Tori Hills is being finished, it's a couple hundred thousand feet. It is over 50% pre-leased, and a big chunk of the remainder, we understand is in letter of intent. There is the Heinz project in UTC, which is arrested right now because they have some FAA problems, on the top couple of floors of their buildings. That's about a 385,000 foot building, and we don't see that competing with our Governor Park asset.

The area-- there's two areas where Kilroy owns properties, Michael, that have some space that's coming on stream, and some vacancy right now. Material vacancy is in my mind, anything over 15%. One is on the I-15 because of the class A space that has come on stream out on-- in the Rancho Bernardo area. We don't believe it is nearly as well-positioned as our Kilroy Saber Springs project on the 15 and the 56. On a freeway visibility, accessibility, or amenity basis, and the other market would be up in Carlsbad ,where we're not under construction, and we'll only do a pre-lease transaction, and this kind of a market. And there's quite a bit of square footage coming onstream up there. Most of which are small condos for sale, or small buildings for sale, or small buildings for sale or lease. And a little bit of class A space as well up in that market, and we're not competing with either of those.

So, I feel that if you take a look, and sort of scrub through the co-star supply pipeline for October this year, there is about 1.3 million square feet, or just a shade over of construction in the KRC-- excuse me, that's 1.4 million square feet under the construction in the KRC markets, and about a third of that is Kilroy space. About half of that space is already leased. And I don't-- I'm not upset about supply demand imbalance in our markets, at all. One caveat is out on the I-15, I think they've got to take care of some of that class A space out in the Rancho Bernardo area, before we would build any space-- any class A space out in that market.

Okay, that's helpful. Then also, when the stock was trading below $60, what was your collective thinking on stock buybacks, on our numbers that implied a cap rate above 7%. I would guess that if you had an opportunity to buy a comparable portfolio to your own, at a seven cap, you would do it in a private market. What's your thinking on share buybacks?

I'm not sure we would or wouldn't buy a portfolio at a seven cap rate if it was-- that would certainly have been a relative value. But when we compare that with our development opportunities, I'm not-- I think that would be something that I wouldn't say we would or we wouldn't. I would say, we would have thought about that carefully. But we didn't proceed with any stock buybacks and haven't at this point in the cycle yet.

And I think the reason we've done that purely and simply is because, we do have many active discussions as John related, underway with respect to possible development deals, and we obviously, as part of our competitive advantage, when we talk to potential clients with respect to development, have the ability as a competitive advantage, to deliver without any contingencies, whether zoning related, or entitlement related, or financially related, and we just want to make sure we can preserve our development franchise first and foremost, and so as attractive as the stock was, and we agree, it was frighteningly attractive when the stock was in the mid to high 50s there for a short while. We first and foremost have to preserve the ability to fund our development franchise if things come together, as we hope they do.

Dick, combining that with John's comments about the existing spec space that you still need to lease, is it fair to say that your enthusiasm for development has picked up, maybe? In terms of what you might be able to start next year? And your probable success of leasing what you have remaining in your pipeline now?

Well, with the discussions we have going on right now, I think we're going to be in very good shape with the two assets that currently show a goose egg, which is the 57,000-footer in Sorrento Mesa and the 143,000-footer on the I-15. There have been two pretty good-sized development transactions that took place this year in San Diego. Both of which went to buildings that were under construction, and that we couldn't accommodate because of timing schedules.

We find right now, that we've got a very high level of negotiations underway, with a variety of users on our development properties. Everything from legal firms, to medical device, to entertainment, to services, software, and so forth. So, I'm very hopeful and optimistic that we're going to see some increased development in 2008. Obviously we want to make sure that we have a proper balance between leasing, and what we see as visible demand. So, I'm really optimistic on our development position. At long-term, I'm extremely optimistic. In the near term, I'm optimistic with what I'm seeing, but we want to make sure that we are taking a good, hard look at the macro considerations that affect the market today. By market, I'm talking about the country.

Ok. Then my last question, I'll yield the floor, just on that same thought. Would you guys throw another spec project into the pipeline in the active pipeline, without fully leasing the two unleased buildings in the pipeline now?

Well, I don't know that we're going to tie ourselves to fully leasing but we like the idea of leasing the space, that we have. We're dealing with some users right now, that have time lines for space, that would suggest we ought to start right away. If we're going to start another project without a tenant, it is not going to be competing with the product that we already have, that isn't leased. We're going to be smart about that. But I don't want to get too tied down here, because I think in the past, what you've seen is a very disciplined approach by Kilroy in our development, building in to where we see visible demand. We're not afraid to build space without a tenant, and we've demonstrated that over the years. But we're going to be hopefully very smart about building into, increasing rental rates and increasing demand.

Ok, thanks.

And now our next question comes from the line of David Loeb, with Robert W. Baird.

I want to beat the supply dead horse one more time. John, can you just give us a little background on what you're thinking about I-15 in light of the Jay Paul announcements and development plans up there? Are you concerned about what that might do over the next several years to that market?

Well, Jay Paul has under construction, or they're about ready to start construction as I understand it, 350,000 feet in a three story ,and a five story building, in Rancho Bernardo on a property, a couple of properties they bought that are adjacent, for which they have entitlements of around 3,000,000 square feet. As you know we think that only competes with, given its location and its access and amenities and all the rest, we don't think that competes at all with our Kilroy Saber Springs product, and we're well ahead of them. It certainly doesn't compete with, in our view, with what's going on at the 56 at our Santa Fe Summit, nor would it compete with Sorrento Mesa.

Where it competes directly with us is what we call Kilroy Center Rancho Bernardo, which is the 20 some acre parcel that we bought for $24 million a few years ago. For which we're entitled to build, I think it is 1.8 million square feet, in our supplemental we show somewhere between 600,000 square feet and a million being the likely range we would build there, in due course. So, I think that's where we would see a direct-- a competitiveness with the Jay Paul property. What we have going for us there, is we have a very, very low land base compared to Jay Paul. We also have some other features in our sight, that we think are better. And you're not going to see Kilroy building substantial amounts of class A space without a tenant in Rancho Bernardo given the circumstances that we see today.

We're enthusiastic about the property we have. One of the things we also can do on that site is, go with low rise and be at probably $150 or so a foot with surface parking, lower than the Jay Paul company, and build to the lower end of the square footage. That's why we have that range, that we've already always had in our supplemental.

Ok. That absolutely makes sense. To come back to the fires, I'm glad you haven't had any damage so far. Can you just very briefly talk about what the insurance coverage is, and how that works?

Sure. This is Dick, David. As you might expect, it is difficult to summarize the insurance, and distill it into something that's very pithy, but for the most part, because there's-- even the summary, I think if I recall, the policy summary trolls on for about eight pages, but the essence of it is, that for most circumstances that are within the remote realms of probability, we're well covered, and are, for lack of a better term, deductibles would be in the low five digit to in some circumstances, they might barely be into six digits, but depending on the circumstances of it there, we feel that we're very, very well covered.

And obviously, as you know well, from looking at the reports, the fires threatened principally residential areas that are up in the canyons, adjacent to undeveloped areas, the areas that have burned so much, are those that are undeveloped because that's where the natural areas that are unsprinklered are, and where the winds can have such a terrible effect. So, our nearest property to the fires as of this morning on the-- the closest is in San Diego. And we're seven miles away from the fire, and obviously we're right on the freeway, in between us and the fire, is seven miles of solid suburban residential. So, what's happened in most of these cases is the fire burns right up to the edge of the residential. That's where the fire personnel set up their lines, and work full time to save everybody's houses. But, as you can tell, almost all of the damage so far has been the houses that are exposed on the edges of the urban fringe.

Given the size of the evacuation area, and the closing of the I-15, it looks to be pretty serious, and there seems to be a lot of worry about those residential areas that you were talking about.

I think what's happened is that the people-- the government authorities managing this have had reacted, as our people down there have said, extremely conservatively ordering evacuations very early, and that's, so far, all have been to what we can tell is very good and constructive effect, because it has made sure that the loss of life has been quite minimal, and in fact, yesterday, for the most part, people in San Diego stayed home, so that the evacuations could proceed on the freeways in an orderly manner. That seems to have been a roaring, bad pun I'm sorry-- a spectacular success in the way the evacuations were ordered and completed.

So, the likely outcome of all of this fire damage is not going to change where people live in San Diego, or really have much of a dent of the large population centers in the County which--

I don't think we could speculate on that. That's for greater minds than ours. But obviously every area of the country has its natural threats, and threats of disasters, and we haven't, in the past, if past is prologue and who knows, we haven't in the past seen any material effects.

70 degrees, 360 days of the year and really bad fires five days might not be a bad trade-off. Can I move on to the industrial portfolio? With about a quarter of that rolling over next year, is this a time when you're looking at other redevelopment potential parcels, and what's the impact of the housing downturn, and particularly severe downturn in Orange County having on your thoughts on that, and on the Von Carmen property?

Well, speaking specifically to the Von Carmen property, where we've gotten is, hung up in the queue there just with all of the things that are going on. Before the building apartment and so forth, and the city of Irvine, and they went through an exhaustive environmental impact report process, which they didn't think they were going to do. But we've come out fine. They're going to be resubmitting the EIR for-- through the process because of the comments they received, which are nothing terribly impacting our site. So, that's just a time period.

With regard to the condo market, the condo market and sales of land for condo is certainly soft. Sales of land for apartments is robust. We have a number of people, major companies that-- the names in which you would be familiar with, that have been making us offers on our sites, subject to the entitlements, and we think we're better off to go ahead and get them, rather than-- and then do a deal, rather than tie it up now. The broader question with regard to the industrial space, the market is very tight in Orange County on industrial. There isn't much land that can be developed that-- there's certainly some Don Bren owned and whatnot, that he's converted to apartment uses.

But the market is good, and demand is good, and then the further question you had with regard to, are there other sites that we would redevelop, I think the answer to that is yes. We go through a process of determining in each market, whether a site has a higher and better use. Whether it is conversion to some kind of residential use, or some kind of a mixed use, and we study that on an ongoing basis. So, whether any of the sites that are coming up this next year fall into that category, I don't have that information before me. But that's a review we go through regularly.

So, this is an opportunity that you're using to, at least assess that. But at this point, you don't see any impact on your leasing plans for that, nearly a million square feet.

Yeah, I don't think we're going to see any material Von Carmen like building come out of service, and lay idle while we process-- that's in the current category of expirations, that would lay idle while we re-entitle.

One more numbers question. Just in evaluating the change in the same store, am I correct in my assumptions that the two principal factors in the same store decline were the Boeing roll down, and Intuit leaving the same store building, and going to a development building?

Well, the same store -- this year versus last year and that has some impact but really, it is an occupancy roll down from '96 to '92. In addition, there was a small lease termination fee in last year's numbers as well. So, I think there's several factors including the ones you mentioned.

Ok. Thanks.

Thank you.

And now our next question comes from the line of Lou Taylor, with Deutsche Bank. Please proceed.

Good morning, guys. I'll try to keep my questions under ten. First up, John, in terms of development, you know, you expressed some hopeful and optimistic comments. What's a number that you would be disappointed that you didn't start next year? Is it 50--

I don't think we're ready to comment on that yet, Lou. I think that it is just-- that's something we'll be-- we're thinking about right now. We're working through but I think at any point, any time you have an inflection in the economy and uncertainty about the direction, I think we're much more likely to think in terms of ranges, and that's something we'll be I think focusing on through the fall, and better able to talk about after the first of the year.

Ok. John, you had mentioned that decision-making was slowing down. Did that vary much by industry, or region? More in San Diego, less so in L.A.? More for some kind of companies and less so for others?

You know, I've been trying to figure that out, Lou. And I've talked with my counterparts, with some of our tenants and whatnot, and you know, there is the public company factor which is just people take longer. They've got more governance issues, and approval processes, and so forth. Clearly, there's been a lot of discussion with regard to whether subprime is going to affect people's businesses, how screwed up is the economy potentially to become. You know, all of those kinds of things. I think all of us are asking just, you know, anybody that's got any authority in a company is going to ask questions like that.

On the other hand, we've had some transactions that have gone together very quickly. I mean sort of record time. So, I don't know that it is coming out of one, because of one particular concern. I think it is just that, you know, you read that, what is it, the CEOs of Fortune 500 Companies thought the potential for recession was 24% three months ago, and the potential for one now is 36%. We've had the subprime. Everybody talk about that. You know, there is a lot of discussion about various factors and I think, you know, I would imagine that people are going to be a little bit more, show me, show me, show me, before making a decision. That's going to take more time. But again, I'm speculating when I'm giving you these comments because, obviously I don't know what goes on for each company that makes decisions.

What we do see, is good demand in our markets, and we're seeing rental rates go up, and we're seeing asking rates go up. And we've seen a heck of a lot of trades down in San Diego for properties that are in the $600 and $700 a square foot range for properties that aren't nearly as good as Kilroy's properties, and we know what that means, is that people are going to raise rental rates even further. So, I think some of it might be, that people look at rents and say, okay, this is where the market has moved up materially over the last couple of years. Broker, please go out and do a study for us, and justify that's the current market rent. There's just a whole bunch of factors I guess that are going into people's decisions, but deals are getting done.

Okay. The last question, with regard to Accredited Home Lenders, what's your current thought there? Are you comfortable now with the credit and occupancy of that space?

As comfortable as we can be. Obviously our industry is not doing particularly well but they have a fair amount of liquidity from Lonestar, and Lonestar is committed to the business, and they've consolidated into our buildings in that project. So, you know, all things look good for now. We'll have to wait and see.

Great. Thank you.

Thank you.

And our next question comes as a follow-up question from Michael Bilerman with Citi. Please proceed.

Yeah, John, just on the Rancho Bernardo site, I think you mentioned your cost basis was very, very, very, very low. Relative to market. I mean where would market be for that land parcel today?

Well, let's see-- I would have to do a little calculation in my head here. The land is trading anywhere from two story to-- which would be a tilt up surface park, generally, to class A space. Land is trading anywhere in the high double digits to the high-- or to the-- let's see. Between say $80 in FAR foot cost, and you wouldn't find much of that, to true class A, really quality site, you're going to be paying closer to $200 an FAR foot cost, in today's market.

So, I guess when you look at your total pipeline, you're in today, if you take the average of Rancho Bernardo, let's call it a $101 million so total of $141 million total, for your total future development pipeline, you're in about $60 a foot. You take market as at least two times that it sounds like. Maybe three times.

Well, it depends. You have to grind it through sites and the other thing you got to look at, Michael, is whether you're going to build structured parking or not, because if-- you know, you have to go through it on each particular property, I think, rather than do a generalization.

I think our cost basis pretty much is attractive, but the thing that we really look at, is where are rentals, where do we think rentals are going? Obviously construction costs have accelerated, and what we're seeing at least in the markets that we're at, is that there is a good relationship between the rents and costs. Such that yields are still satisfactory to us. And that's what we really focus on.

Right. I guess you've probably gone through the analysis of what the market value of the land is. I'm just curious to see what your expectation for that was.

I don't know that I want to give you that expectation right now. Because I would want to take a good look at it. I don't-- I obviously look at it from time to time on a piece by piece basis. But let me give you an example. We have, on our lot eight, I think we call it, up in Sorrento Mesa which is-- other than our properties down on the freeway in Sorrento gateway, the only real green field site of any substance, other than the couple that are owned by owners where they're saving it for future expansion, and on that property, we just were able to transfer some entitlements that we didn't use on the Cardinal site, such that we now can build 175,000 square feet on that property, and that has made that site worth quite a bit more. So, I haven't translated that back to what the value of that parcel is now. We have quite a few sites like that.

The dilemma when you start talking about what your land value is, it is a question of whether you want to, as some do, and that is assume the most maximum square footage that you can build by right, or whether you want to assume something that is more conservative, and I think we've tended to take the latter route, rather than the former.

Right. So in Rancho Bernardo, you said as of right, you have 1.8 but you're only showing 800 to a 105 million.

Something like that, yeah.

Ok, thank you.

Thank you.

Our next question comes from the line of Frank Gray with Reef. Please proceed.

Hello guys, Frank Gray with Reef. Two questions. First, can you let us know when you're planning on giving '08 guidance. Secondly, can you talk about how you feel about '08 especially on the occupancy front? Do you have any big holes that you need to fill?

Well, Frank, on guidance-- This is Dick speaking. On guidance, we'll do that in our fourth quarter call in late January, early February, as we have customarily done. I don't think in terms of our likely occupancy next year, I don't think we're-- at the current point, anticipating any material changes. As we talked about in the prepared portion of our remarks, we're working actively on the leasing, and are making some good progress already on early discussions with our tenants on those spaces.

So, subject to the overall caveat that we talked fairly extensively about here, about how the decision-making process in these times is somewhat slower than we experienced when the economy isn't as uncertain as it is right now, I don't think we have anything other than that, that we have as a particular insight to offer on our likely occupancy trends next year. Obviously we're going through our detailed planning and budgeting right now, and will be, and have been for a couple of months, and will be for the rest of the fall. I think our preliminary discussions internally have been encouraging.

Thank you.

(OPERATOR INSTRUCTIONS). And our next question comes as a follow-up question from Michael Knott, with Green Street Advisors. Please proceed.

Hey, John, just a follow-up on the lot eight comment. You guys show it looks like 95,000 feet you can build. Is that sort of a-- to the Rancho Bernardo situation where --

Yes, exactly. And had we filed a supplemental back in the day, I don't think we did back then with the Kilroy Center Rancho Bernardo, we underwrote that prop which is-- or not Rancho Bernardo sorry, Kilroy Center Delmar, where we have 540,000 feet I believe, we originally had that forecasted to do 320,000 feet. Up in Carlsbad, we have a forecast of far less than we can build. Same thing happened-- same thing happened if you look at lot-- what the heck did we call the lot that scripps is on, Tyler?

ICC lot two.

ICC lot two, I think we used to show that as 70,000 or 80,000 feet, and we're building roughly 150,000 square feet for Scripps Health. So, I think it is a fool's game, unless you have a very urban site upon which you know exactly what you're going to build, but when you're dealing with these corporate campuses, or multiphase projects, I personally think it is a fool's game to-- in the early going, to assume a maximum, because sometimes that doesn't happen.

Right. Okay. And then my last question is just on the-- just on any update from the board on status of comp plans?

We have no update as we've talked about before, an item that gets discussed in typically, on an annual basis later in the fall, or in the early part of the following year.

Ok, thanks, guys.

There are no additional questions at this time. I would now like to turn the call over to Mr. Richard Moran for any closing remarks.

Well, that's the latest news from here. We thank you all for your interest in KRC, and thank you, and we'll see you again next quarter.