摩根士丹利 (MS) 2004 Q2 法說會逐字稿

Good morning, my name is Kelly and I will be your conference facilitator today.

At this time, I would like to welcome everyone to the Crescent Real Estate second quarter earnings conference call with our host, Ms. Keira Moody.

All lines are placed on mute to prevent any background noise.

After the speakers' remarks, there will be a question-and-answer period.

If you would like to ask a question during this time, simply press the star key and then the number one on your telephone keypad.

Questions will be taken in the order they are received.

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In order to ensure that all participants will be allowed to present their questions, we ask that each participant limit themselves to one question and one follow-up question before re-entering the queue.

As a reminder, if you're on a speaker phone, please pick up your headset before presenting your questions.

I would now like to turn the call over to our host, Miss Keira Moody, Vice President of investor relations for Crescent Real Estate.

Thank you.

You may begin your conference.

Thank you.

Good morning, everyone, thank you for joining out call today.

With me in the room, I have our vice chairman and Chief Executive Officer John Goff;

President and Chief Operating Officer, Dennis Alberts;

Executive Vice President of capital markets, Jane Mody; and Executive Vice President and Chief Financial Officer, Jerry Crenshaw.

Everyone should have a copy of our earnings release, supplemental report, and presentation for the call.

If not, can you find them quickly at www.Crescent.com on the investor relations page.

Certain statements we will make on today's call are considered forward-looking statements within the meaning of the federal securities laws.

Although we believe they're based upon reasonable assumptions, our future operations and actual performance may differ materially from those indicated in the forward-looking statements.

You will find additional information that could cause actual results to differ materially from these statements in the press release issued this morning and within our SEC report.

With that, I will turn the call over to John Goff.

Good morning, everyone.

Thank you for joining us.

I'm going to start on slide four.

I would like to first touch on our strategy and re-emphasize how we're adapting to the changing real estate environment that we're facing today.

We predicted about three years ago that there would be a significant increase in allocation to real estate by institutions, principally U.S. pension funds.

Clearly this has happened, and it continues to occur.

In fact, it's happened on a much broader basis than we ever predicted.

Foreign investors, as well as individuals through their retirement funds are also embracing real estate as an asset class which now warrants a significant allocation of their capital.

Much of this allocation is occurring in the form of direct ownership as opposed to acquiring simple shares.

The impact of this allocation is profound.

The collected buying power of this capital is massive.

Just looking at U.S. pension funds, every 1% increase in their allocation to real estate, equates to roughly 70 to 80 billion in equity or approximately 200 billion in buying power.

This has made the acquisition environment far more competitive, and therefore the industry has become more efficiently priced, and consequently return expectations are lower than in the recent past.

It's our opinion the old model of acquiring and owning 100% of individual assets simply does not produce the returns that will be attractive to the public markets over the longer-term.

If you would turn to slide five.

We have, therefore, embraced these changes as an opportunity and have adapted our strategy accordingly.

We're focused on being the partner of choice for institutional capital within our selected markets.

Our longer-term goal is to be viewed as a real estate investment management company.

The execution of this strategy involves three key steps -- first, to simplify our business through sale of assets.

Second, to joint venture our core assets.

And, third, to re-invest the capital we free up through the sales and joint ventures.

In terms of simplifying our business by selling non-core assets, we have sold a billion six of assets in the last few years, and when you factor in the equity we sold in joint ventures of existing assets, the total now is roughly 2 billion.

We have two business class hotels that we're expected to close by the end of the year.

These sales combined with several other planned non-core dispositions, including non-income-producing land should amount to an additional 200 million in gross proceeds by the end of 2004.

In terms of joint venturing our core assets, we have now completed nine joint vent ours totaling approximately $1 billion.

We anticipate that this amount should at least double over the near-term.

The rationale of these transactions is very simple.

We want to own these core assets over the longer-term, but need we need to increase our return on equity during the holding period and free up capital to grow our business.

Joint ventures do this by increasing our return on equity by three to 500 basis points and freeing up roughly 1/3 of the asset's total current value.

You get to mark the asset to current value, and it allows us to us to redeploy this capital and expand our business or to shrink our share count in the event we elect to buy back shares.

As capital is freed up in steps one and two, we need to make attractive acquisitions.

That can be tough in this environment, but we are fostering relationships with numerous institutional partners where we're able to be more competitive in new acquisitions through the joint venture structure.

We completed two acquisitions with joint venture partners totaling $139 million to date, but expect this to increase significantly as we go forward.

Total acquisitions over the last 2 1/2 years other than these joint ventures have totaled approximately 500 million, which are currently leveraged 45% in are yielding and approximate 14% leveraged return on equity.

The leverage returns of the joint ventured acquisitions are yielding approximately 4 to 500 basis points higher or the high teens on our equity.

Over the short-run, our change in strategy has cost us dilution in averages, but we're confident over the longer-term, it will provide our shareholders with a very attractive business model and an enhanced valuation.

Slide six.

Second quarter financial results met our expectations.

We ended the quarter by meeting our expected FFO of $31 million or 27 cents per share.

Year-to-date, that puts us at $58.6 million, or 50 cents a share.

So where does that leave us for the year?

If you will turn to slide seven, we're reiterating our guidance of $1.40 to $1.55 per share in FFO for the year.

Denny will cover operations in a moment, which continue to show improvement.

The real uncertainty at this point is the 10 to 20 million in re-investment earnings and the 20 to 32 million in business initiatives for the year.

From a re-investment standpoint, we have a significant number of targeted acquisitions in the pipeline, but it's not realistic they will all close in the near-term.

We're scheduled to close any day on the Alhambra, a class A office property in Coral Gables, FL, that I will touch on in just a moment, and the others will come in time.

The business initiatives are primarily land parcel sales, again, non-income producing, that have been identified, but again the time signature real issue.

Because of the uncertainty of timing of re-investment, we feel more comfortable at the lower-end of our stated range of guidance for the year.

For the third quarter, we're projecting 23 1/2 to 26 million in FFO, translates into 20 to 22 cents per share.

Slide eight.

As I mentioned, we're under contract to acquire second class A office property in Coral Gables, FL, the Alhambra.

It has two towers totaling 315,000 square feet and is located in downtown Coral Gables, the same market as the Colonnade that we purchased in August 2003.

The Alhambra is 93% leased.

It has a very diverse customer mix, the largest representing less than 15% of the property.

We really like this market.

We continue to look for opportunities in all of southern Florida.

Denny will cover this when he reviews the markets with you, but I wanted to mention that Miami along with Las Vegas are two markets that are showing the strongest results in terms of absorption in rental-rate growth.

We still believe our core markets will rebound, and we think Houston will lead that charge.

We still favor the demand-driven markets over the long-term, and Denny's going to share more of our specific thinking with you now.

Denny?

Well, good morning, everyone.

John asked me to take a few minutes to bring you up to date on our second quarter business operations.

If you will turn to Slide nine, we will begin with our office segment.

In the second quarter, we reported office FFO of $75 million, which was exactly in line with our expectations and higher than our first quarter office FFO of $68 million.

These higher FFO figures are a direct result of the acquisitions that we made in Las Vegas.

We had those acquisitions, some of them come in the first quarter, and so we had full benefit of them in the second quarter, and we also acquired DuPont Center in Orange County.

As of June 30, our office portfolio was 88.1% leased and 87% occupied, which, again, was higher than our first quarter levels of occupancy.

We were very pleased to get this 60 basis point increase in occupancy.

It was in line with our plan.

We had expected that.

And as I said on the last call, we still think that we're bouncing along the bottom in our markets, and we expect to stay at approximately the same level of occupancy for the next couple of quarters.

Our strength is, as John said, is clearly Las Vegas, Miami, and Houston.

Dallas has started to increase activity, and we're starting to see some of our existing customers expand, and Austin continues to be our soft spot.

I will give you more color and detail on that in just a minute.

As can you see on Slide nine, our second quarter NOI was down but it was in line with our yearly guidance of negative 3% to negative 6%.

And like most other reads, this was driven primarily because of year-over-year occupancy declines.

Turn to Slide 10.

In the second quarter, we leased one million square feet, which was good for us.

It did match our expectations.

In 2003, our renewal rates were approximately (INAUDIBLE) below our expiring rates.

In the second quarter, our renewal rate was down about .9%, which, is in line with what we expected.

For the rest of '04, we think that the total decline in rental rates were improved over last year.

In other words, less than 10%.

I think it will probably be in let's say the 5 to 10% range.

In 2004, we have approximately 5.4 square feet of gross leases expiring.

Currently we are signed -- we have signed 86% of those expirations, which we feel good about.

If you add to the signed leases, leases that are in the final statements of negotiation, our 2004 lease address position reaches 90%.

And I'm just very proud of our leasing team.

They've had a good year.

We've signed a lot of leases, and we're really ahead of schedule as far as the leasing addressed position relative to budget.

I should also mention that our retention rate for the first half of the year, first half of 2004, was 76%.

This is very high.

I think it has helped our address position, and we think it is a direct result of the strong customer service program that we put in place approximately three years ago.

Turn to Slide 11.

Let's take a look at our primary markets.

Clearly Las Vegas and Miami, as can you see here, are our two strongest markets.

Las Vegas, our portfolio was 95.6% leased as of June 30.

Demand is very strong in this market, and the properties are doing extremely well.

As a matter of fact, the demand is such that we're in free development stage for a new office building in The Hughes Center, and we hope to talk about that in the not-too-distant future.

In Miami, our portfolio was 94.7% leased as of June 30.

As John said, we really like the south Florida market.

We're going to continue to expand here with the Alhambra acquisition, and we think we will do more business in south Florida in the future and continue to build critical mass in our operations there.

In Houston, the portfolio was 90.6% leased as of June 30.

Our 2004 rollovers are in very, very good shape.

As of June 30, we were 96% addressed, 91% signed, and 5% in final stages of negotiation.

We're also in very good shape in the Houston CBD.

Our Houston Center of property has leased well.

We're approximately 93% leased right now.

You can notice on this slide that Houston did report approximately 933,000 square foot negative absorption in the second quarter.

This was really a result of adding the 1400 Smith Street building into inventory, which has been held out previously in the market numbers mixed with the old Enron building.

This building had about a million square -- has about a million square feet of space.

We announced earlier this quarter that El Paso -- we will be moving out of Greenway to downtown, a building they own there, and reducing the size of their head count.

The El Paso lease that we had at Greenway is a long-term lease, it runs through 2014, and they are current on their rent.

In Dallas, we were 87% leased as of the end of the second quarter.

This was in line with our expectations.

We're starting to see some increase in positive leasing signs in Dallas.

As can you see on this slide, we had 492,000 feet of positive absorption in the second quarter, and both (INAUDIBLE) are projecting positive absorption for '04 in Dallas.

Our 2004 lease expirations in Dallas are in very good shape.

We're an 82% addressed right now; 79% of those leases have been signed.

While we're talking about Dallas, I might take a minute to comment on our Fountain Place transaction that occurred in June.

As John said, our strategy is to joint venture both existing and acquisition properties.

Fountain Place has been designated as one of our future joint venture properties.

It fits the parameter of what financial institutions are looking to joint venter -- a high-quality building with very steady cash flow stream.

And so we anticipate putting that property into a joint venture in the second half of this year.

With that in mind, in June, we closed what I will call a bridge joint venture financing with Lehman.

This financing has a put right in it where Lehman can put the financing back to us if we're unable to close this permanent joint venture later in the year.

Why did we do this?

We had significant tax advantage to putting this transaction together in June.

For tax purposes, the transaction was structured with Lehman to allow us to get treatment under a 1031 exchange rule.

In other words, we sold Fountain Place and offset that with the Hugh Center purchase.

This structuring allowed us to defer in excess of $25 million in taxes and was a very effective and efficient transaction for us.

Again, we expect to close Fountain Place into a permanent joint venture the second half of this year and pay off the (INAUDIBLE).

A couple more comments on this slide, and then we'll move on.

Austin and Denver, they continue to remain soft for us.

However, can you see that there is positive absorption now in both of those markets.

We're 82% addressed in Austin on our rollover; we're 98% addressed in Denver.

But, again, it's a slow market and there's very little pricing power in either one of these two markets today.

Let's turn to Slide 12.

As all of you know, job growth drives office occupancy. (INAUDIBLE) is projecting that the U.S. will experience approximately 11% in job growth over the next five years.

We're currently operating, and, as can you see here, eight of the 10 fastest-growing job markets in the country.

You can see those markets highlighted in orange.

They're projecting some pretty strong numbers for Austin, Las Vegas, and as can you see, Dallas, also.

Turn to Slide 13.

As a result of this job growth, [Reese] is projecting office occupancy over the next five years.

Reese projects the U.S. average occupancy growth will be approximately 5%.

Again, our markets are highlighted in orange, and the two markets projected by Reese that will lead the nation, the highest occupancy names, are Austin at10% and Dallas at 9%.

So we're anxious to see that occur.

Turn to slide 14.

Now let's look at our resort business.

And on this slide, we have broken out our resorts into two categories.

Resorts that were fully operational during the quarter and resorts that were under renovation.

Canyon Ranch-Lennox and Canyon Ranch-Tucson as well as the Park Hyatt Beaver Creek were fully operational for the entire second quarter.

And as you can see the figures here, they had a nice growth in FFO.

NOI was up about $500,000 from last year, and we also had a very nice increase in rates.

We're getting some pricing power at these properties and in this product category.

You can see our average daily rate reached $569, which was a very healthy increase over last year.

Now, Sonoma and Ventana have rooms that are being renovated right now, so that naturally affected our NOI.

Sonoma had 43% of the rooms being renovated, and that renovation was completed in July.

We will see additional NOI beginning in August and going forward from that renovation, and Ventana had approximately 20% of the rooms under renovation, which should be completed in September.

So we expect third and fourth quarter performance to pick up, obviously from these two resorts.

Turn to slide 15.

Our residential business is performing very well.

And we should be on or ahead of plans this year in this business.

Desert Mountain had a very strong second quarter selling 23 lots, which brought our total year lot sales to 39 lots.

Year-to-date, we have achieved approximately a half of our budgeted sales, which is a significant change from the past.

If you recall in past years at Desert Mountain, we generally sell most of the lots in the fourth quarter, so we're a little ahead of schedule there, and I like where we're sitting today at Desert Mountain.

Crescent Resort Development, which is a Harry Francis business is experiencing very strong sales right now.

Our 2004 FFO with Harry's business looks very good, and we will be on plan there.

In Beaver Creek, we have sold 35 of 40 units at Horizon Pass, the condo units.

We have sold 32 of 40 units at Hummingbird.

So very strong activity in those two projects that are under construction.

Overall in the Vail Valley, activity is extremely strong.

As a matter of fact sales the last month, month of July, was the highest it's been in four years.

So, tremendous activity here in the Vail Valley.

We have other vertical condo projects we're looking at in the Vail Valley, and hope we can announce something in the not not-so-distant future there.

I think we have a wonderful franchise here in the Vail Valley.

Likewise, sales have been very active and strong at Tahoe.

At the Village at Northstar, we have sold 85 of 100 condos that we have under construction.

We just broken ground and started construction.

The penthouse unit there at The Village just sold for $5.8 billion, which was $1100 a foot.

A very profitable sale for us in the Village.

At Old Greenwood, another area we are -- product that we are developing there at Tahoe, we have just sold 120 fractional units in what we call our three- and four-bedroom condo-style -- cabin-style product, excuse me, and over 45 of those fractional unit sales were sold in July.

So this product is being very well accepted, and we're pleased with that activity.

At Old Greenwood, we have also sold 97 of the 104 lots that we have developed around the new Jack Nicklaus golf course.

We expect the rest of the lots to be sold prior to year end.

Now we have moved into a new phase of Tahoe which, we call Gray's Crossing, and this is important.

We have just offered our first 100 lots at Gray's Crossing, and last weekend we received 515 reservation deposits on that first hundred lots.

So we're naturally elated about that.

The demand is there.

And these lots will be developed and finished this year, and we will close them and sell them out this year.

We also are entitled to build here at Gray's Crossing another 400 lots.

So we're anxious to get the next phase started and be able to satisfy the apparent demand for this product that is in the Tahoe market.

So, all in all, I think, Harry's going to have a very solid 2004, and I think you will have a strong 2005 and 2006 based on the pipeline that we're starting to build.

John.

All right.

Before we open yet up for Q&A, let me sort of summarize.

I think there's no argument the economy's in a recovery phase.

There is certainly dispute as to the strength of the recovery and how fast the recovery will occur.

That's open for debate, and it obviously varies market by market.

But in our office business, we feel very good about the way we have pared down the portfolio to a grouping of core assets, and we feel that in a recovery, these core assets are best poised to lead the charge in a recovery.

Secondly, we have been spending a lot of time establishing key relationships with institutional partners, and these partners are not only interested in joint venturing our existing core portfolio, but also in partnering with us on new acquisitions.

And we're actively engaged on both of those fronts, and we think that's going to make us far more competitive on the acquisition front.

So, we feel good about where the office business is headed long-term.

I think quarter-to-quarter it's going to be rather painful quarter-to-quarter results because we all know the office business lags economic recovery.

On the hotel/resort front, we're essentially paring down our portfolio away from business-class hotels to focus on the resort properties we have.

We think they are very well positioned, and we have been currently re-investing in those properties a substantial amount of capital that we think will pay good dividends with nice gains in the future.

And I think those are going to show strong recovery here over the next couple of years. [Americold], we have been liquefying the investment through the financing we did with Morgan Stanley, and we're confident that there will be other opportunities in that business to further reduce our investment.

On the residential front, as Denny said, we think we're well-positioned.

We think we have the right product.

We have a terrific team in place, and we're in an environment where there is very strong demand for the type of product that we offer.

So we think this business could offer very positive surprises going forward.

With that, I would like to open it up for Q&A.

Thank you, Mr. Goff.

I would like to remind everyone, in order to ask a question, please press star and the number one on your telephone keypad at this time.

If your question has already been asked and answered, you may withdraw your question by pressing the pound key.

If you're on a speaker phone, please pick up your handset before presenting your question.

Please hold for your first question.

Your first question comes from Jonathan Litt with Smith Barney.

Good morning, this is John Stewart here with Jonathan Litt and Andrew Conduit.

I have a couple of questions on the guidance.

Jerry, can you us understand how you are maintaining your FFO per share guidance when the segment FFO appears to be 5 million at the low end, 7 million at the high end?

As it really -- John, you're saying the overall FFO guidance?

That's right.

Clearly, I think John punched out, business initiatives as well as re-investments is where we're focused at on the balance of the year, and that's driving us towards the low end of our range.

Right, but just in terms of the absolute numbers, the guidance on those items hasn't changed from the prior quarter.

I'll comment on that.

We have softened a little bit on -- squeezed in our guidance on some of the operating numbers.

Our range is 370 to 379 as far as FFO is concerned.

What we feel really good about right now is the business initiatives, John.

And as I look at it today, I think we're going to be toward the higher end of that range.

So that gives us some comfort in that lower end of the range.

The real question is back to the re-investment side.

The answer to your question is the business investment -- the business initiative side looks pretty good right now.

Okay.

And then how much of the 5.9 million in lease termination fees in the quarter was in your guidance?

And how much are you expecting for the second half?

John, it was all in our guidance. 5 million of the -- 5 million of that was in our guidance.

For the balance of the year, we're not anticipating any additional terms.

Okay.

Is El Paso attempting to sublease their space, and is that going compete directly with your existing vacancy and rollover in Houston?

We will experience that.

They will be subletting space, and they are in the market right now.

They need cooperation from us, and so we're working with them to put the right potential customers in that building.

We're in great shape with regard to our rollover in Houston.

Both at Greenway and down in Houston Center.

So near-term, I don't think so.

I think over time we'll have an opportunity to sit down with El Paso and look at a number of options.

That's how we go forward with that space.

Thanks.

And then on the Miami acquisition, what was the purchase price and cap rate on that deal?

Well, it's not closed yet.

So, I would -- let's defer the answer to that question.

Okay.

You're referring to the Alhambra?

That's right.

Can you give us an order of magnitude in terms of the proceeds or expected investment?

No.

Okay.

With regard to the hotel/resort, do you have any plans to take a portion of any of your other assets offline in the second half or can we expect to begin to see positive year-over-year comps in the fourth quarter?

We're finished with the renovations right now.

So, that will do it.

Okay.

And I think Andrew has one question, too.

One quick question on the temperature control assets.

Is there a delay in moving out a couple of those smaller tenants for the expansion of the few incumbents there?

Just I would, you know, I would think off the Q1, we're expecting occupancy to bounce back more quickly.

Yes.

We have been -- or the company's been repositioning some of the warehouses to accommodate larger customers and more profitable business.

As a result of that, operations have clearly been impacted over the last couple of quarters.

But we think that should turn around towards the end of this year.

So there was a small delay --

There has been a delay moving those customers into certain of those facilities.

Right.

And just what happened with the delay that there?

Was it -- any of the tenants pull out or --

No.

No.

Just the customer just making sure that the facilities are retro fitted for the customers based on their specks.

They'll be in there by Q4?

Right.

Okay.

Thanks.

Your next question comes from Brian Legg with Merrill Lynch.

Can we drill down a little more on the segment FFO?

Looking at the original guidance, the three sectors of office, resort/hotel, and then the temperature control are all down from what you originally had.

Can you sort of explain the reason your guidance is coming down for each of those divisions?

And also, look at the residential development.

It seems like you're ahead of pace for the residential development but you haven't changed your guidance there.

Can you talk about each of the segments?

It's a good question.

The resort/hotel, we did bring the guidance in a little tighter at 48 to 50 where we had been at 50 to 52, and I think that's just a function of renovation timing and how long we had the units out.

The business itself is doing well, and so we just tighten that up a little bit.

On the office side, we tightened that up a little bit, and it's a function not of any change in leasing because leasing is exactly on plan, but sometimes, you know, as Jerry mentioned, it's the timing of moving the customer in and starting to pay rent.

So we tightened that down a little bit.

You know, I agree with you on the residential.

We left it at 30 to 33 million and, you know, hopefully we'll see some kind of positive surprise there, and, you know, the same thing with temperature control.

So we just try to tighten it up.

We stayed pretty conservative here.

And we did that particularly knowing, as I said earlier, that the business initiative side is going fret pretty well for us.

So we just thought it would be best to break it out that way.

Okay.

The toughest part of our guidance, honestly is on the re-investment side.

We don't want to be pressured to meet guidance, put money to work, you know, and put money to work quickly and not do the right deal at the right pricing.

We want to do smart transactions, and, you know, as everyone knows, acquiring real estate can be fairly complicated and time-consuming, and so the timing of that reinvestment is very, very tough to press secretary.

I want to emphasize that in terms of the guidance.

Is that why -- originally you had 18 to 24 million of the reinvestment cash provides for the year, now it's 10 to 20 million.

Is that just things getting pushed back later in the year?

That's exactly it, Brian.

Right.

Okay.

Or does it have something to do with your new business initiative where you will be selling assets than you might have projected at the beginning of the year?

it's strictly timing of reinvestment.

It's tough to promise everyone how quickly you will put that capital to work.

As we all know, too many things we're looking at today, we're looking at in conjunction with a partner, and, you know, that adds, makes it more competitive but adds complication in getting a deal negotiated and closed.

Okay.

And along those lines, are you going to basically match funds that sell the sales to a joint venture from core portfolio with new reinvestment of proceeds into future acquisitions in the JV format?

It's a good question.

Right now, I would say that we're in a wonderful environment to attract, you know, high-quality joint venture partnerships on the core portfolio, and emphasis is to get that done.

We we're in a great environment to do that.

Interest rates are low, there is lots of capital out there, we have great assets.

We have really held back the best assets that are now remaining on our portfolio.

And what I don't want to do is lose the benefit of this wonderful timing by trying to match it with an acquisition at this point.

So I would say over the next year you will find us in a mode probably of accumulating cash ahead of finding acquisitions.

I think ultimately what the business model will do is more along the lines of what you just suggested, which is, you know, frankly the more intelligent way to do it, if you're in a more normalized environment, which is you joint venture, free up capital as a find great places to put that money to work.

Right now, we see it as a wonderful time to be accumulating capital, and I can't tell you that we can, you know, spot perfect homes for 100% of the capital right away.

It's going to take time.

Are you going to have tax issues, though, if you're going to be selling more and not exchanging it through 1031s?

You know, we have the benefit, obviously, of a big dividend, which, as we said before is one of the reasons we kept the dividend where we have, and it was a factor in our decision making there.

So we're very cautious about -- we're always looking at the tax side of things to try to minimize the tax impact of the joint venture or a sale.

Brian, all we're, working on now looks like it's a very tax efficient way we're going forward with it.

Okay, and last question.

I think John asked it, but I'll ask it again.

You think in the fourth quarter your resort business will be back to positive year-over-year growth?

How long does it take for these offline units to basically get occupied?

I think you will see good numbers in the fourth quarter.

Our preliminary bookings are good.

October is jam packed in all the resorts, so I think our fourth quarter will be pretty good.

So once you -- there is no lag.

So once these things are ready for operations, you know, you will be able to fill them up quickly?

Absolutely not.

No lag.

As soon as they're ready, they start felling.

Okay.

Great.

Thank you.

Thank you.

Your next question comes from John (INAUDIBLE) with Green Street Advisor.

Good morning.

Question on El Paso.

Can you give a little color on how you think that's going turn out in terms of the cash flows you will get from El Paso, from their lease obligation?

Will -- will you reach a settlement with them?

Do you think it will play out?

Will they keep it in place and sublease it?

What -- can you give us some thoughts on that?

John, I'll comment on that.

I think right now their strategy is to sublease the space.

They have, you know, ample space downtown to move their people in, so it's not like they're paying double rent.

Okay.

Yeah, they own the building.

They own the building downtown free and clear.

So from that standpoint, it's not like they're doubling up.

So they're not under pressure paying twice the rent.

But my experience in this industry has been when someone who is not in the real estate business spends some time to lease space, they sometimes come back and say, Well, maybe I should give this space back and we should talk about that.

So, I'm not saying that will happen, but that has been my experience.

It's important to note this move was all geared upon them wanting to positively impact their culture because they were located in several different locations, including Greenway Plaza.

So they basically are taking everyone and moving them into a building downtown that they own 100%.

They have no debt on it.

And they view it as -- it's been a very open dialog with them, been positive and professional, not confrontational at all.

They understand they have an obligation to pay us, and they expect to continue to pay us.

We're cooperating with them in the leasing efforts.

What is your perspective on their ability to pay?

John, this is Jane Mody.

I would just say that at this time of the game, they have outlined a plan, obviously, to reorganize their business.

I think last year that they had set forth an objective of raising about $3.9 billion through asset sales to pay debt as well as to just give them funds to move their business forward.

And to this point, I think that they -- what has been reported in the press is about $3.6 billion in sales.

So they have been very, very successful on that effort.

And so at least from the steps they have taken today, they do remain current on their obligation to us.

I think that, you know, we continue to wish them the best.

They're very focused on execution and seem to be moving through it very quickly.

Okay.

There is a good team in place and, you know, we have had direct conversations with them about their plans, and we feel good about them.

They are on the right path.

If you look at the equity analysts in that sector, they're all pretty positive about where they're head.

Okay.

And switching gears, you have noted that your economic occupancy in the office portfolio increased by about 60 basis points from the end of the first quarter to the end of the second.

What would that increase have been if you adjusted both periods for the recent property sales?

It would have been off of that just slightly.

Probably 20 bips, but not a lot.

Basically what happened in that quarter-over-quarter comparison, John, was we didn't increase the leasing levels.

It was pretty flat leasing quarter-to-quarter.

We were 88% last quarter and we were 88.1% this quarter.

What we had was just people moving in.

That's what happened.

So, if you took out the properties sold in each period instead of a 60 basis point increase, it would be more like 40?

That's about right, and you know, the list of properties that are on the sale table have now, I think, all but Albuquerque have been sold.

I know all but Albuquerque have been sold.

Okay.

We have seen now the value per square foot you're achieving on your asset sales for some of your worst assets, some of the ones empty, kind of in that $50, $60 a square foot range.

Can you give color as to what your expectations are now that it strikes us that we're moving into some of your best assets in terms of sales and joint ventures, I guess mostly joint ventures.

What kind of value per square foot number do you think we'll see as we start to announce JVs in some of your high-end property?

if you look at our NAV, we have typically have run $130 at our NAV, so we have sold off a number of the lower-quality assets.

If you look at assets like Crescent or [Trammel Crow Center] or Fountain Place, or Houston Center, and the cash flows that are in place on those assets, you would see some huge numbers on a per-square foot basis.

For example, let's say that Crescent, to replace that asset would cost you over $300 a foot today.

There was a property just sold recently across from the Crescent, Mckinney Tower, at a little over -- it was about $230 a foot.

And certainly the Crescent is a much better asset than that.

I would argue a Crescent-type asset should be high twos or low threes.

I think when you look at the quality of our assets relative to the marketplace, we feel like, you know, there is significant value there higher than what you see in the marketplace, but --

And higher than what we feel is reflected in the stock price.

That's reflected in our NAV.

So, we're getting rid of the 50 to $100-type assets and retain the $200 to $300 assets.

And, you know, if we can get the right prices, and we will joint venture some of the assets over time and really, generate significant amount of cash to do that.

Many of the sales that have been at $50, $60 a foot have been buildings that are empty.

Right.

Relative to your peers, you folks have a bigger difference between your GAAP same-store NOI and your cash same-store NOI.

Is that free rent, or what other perspective would you have that on that difference?

It's straight rent, John.

It was 3.6 million per quarter, second quarter, 6.6 million year to date.

As we look at the gap between cash and GAAP for Crescent being bigger than the peers, is that an indication that you're giving more free rent relative to the peers?

Can you help me think about that, that gap?

It's just your steps.

You're stepping up.

You're looking at, when you're looking at it from the GAAP standpoint, it's just an overall average.

I would not say we're giving a whole lot of free rent at this point, but it's a step. 20 to $25 is the average.

John, just in our markets, free rent has come in, and we have given some free rent, but it's generally been maybe in the six-month category.

I don't know of anything that is over a year, so I don't think that we're out of line with market.

I'm not sure what is happening in New York, but in our markets, we're competitive, but it's not extraordinary.

And, John, our steps are fixed steps.

They're not CPI steps like you will find in some of the other portfolios in that, you know, creates the GAAP, the cash difference.

Depending on the cycle.

Okay.

Thanks a lot.

Your next question comes from David Loeb with FBR.

Just a couple of quick things.

I apologize if you hit these already.

What is the status of the Ritz-Carlton development in Dallas?

It's coming right along.

We're in the predevelopment stage.

We announced publicly we're going move forward with the project, and we're in the sales process right now.

We have 70 condominium units.

And I'll tell you, David, we have over a hundred reservations for those 70 units right now with initial deposits.

We're increasing that reservation position weekly, and it's probably twice as fast as I thought it would be.

The project is being very well accepted into Dallas.

When will you break ground on that?

The first quarter of next year.

And you definitely would --

Probably May is what I would say.

But the sales, you know, are going to be -- we're going to be in great shape from a pre-sell standpoint on the condos.

Is it your intention to hold onto the hotel once you developed this or is it likely a sale or joint venture?

We have a joint venture planned on it.

We will bring in a partner on it.

And whether we sell it down the road and reap the profit, we'll make that decision with the joint venture partner.

It's our policy tho joint venture development assets.

We'll make the decision whether we hold or sell depending on the market conditions down the road.

Okay.

The profit on the condominium is going to have the basis in the hotel (INAUDIBLE) course.

Right.

John, you talk a lot about acquisitions and timing of proceeds of joint venture sales for acquisitions.

You haven't talked much about share buyback, at least not that I have heard.

What are your thoughts about the tradeoff between putting more into what is clearly an expensive office market verses shrinking your capital structure and buying in stock?

That's a good question.

Clearly where the stock is today and where it has been over the last 12, 24 months, we're very keen on acquiring the stock.

And we have been, you know, limited because of debt restrictions in buying back to date, you know, other than what we bought back a couple of years ago.

But as we get into the core assets and either sell or JV core assets will be freeing up equity that will give us the ability to acquire stock buyback.

At these prices, that will be more attractive than an acquisition.

As I have always said, we would much rather own more of what have we already own and know and have already underwritten because we have been living with them than something new.

So clearly that's, you know, we have our sights set on that as a target.

To acquire shares back in this environment.

But, again, we're going to do so in a way that is leverage-neutral as we have always maintained.

Okay.

So, essentially, it sounds like what you're saying is once you succeed in getting a couple of transactions for core assets, you're likely to both pay off debt and buy back stock, and that is likely to take some precedence at the current stock price over more acquisitions.

That's correct.

Now, at the same time, you know, we really are creating a business here of partnering with major institutions and acquiring assets.

We want to keep that business running, but what is interesting is it doesn't take, you know, that much capital to do that because we're typically putting up 20, 30, maybe 40% of the money, but typically, you know, 20, 25% of the equity.

So, if you put traditional leverage of 50, 60% in place and you bring in a partner for, you know, up to 80% of the equity, then our dollars are rather limited in an acquisition.

But the positive aspect of that is we get the benefit of leveraging our platform, so we have a fee income for being paid for our expertise on the acquisition side and the management side and leasing side.

And in many cases, we're able to structure in a promote, obviously dependant on pricing.

And, you know, I referred back in my presentation that the returns on new acquisitions that we have done over the last 18 months in a joint venture structure are in the high teens returns on equity, which is very attractive.

That's the model that is going to work for us going forward.

But clearly, we're -- as we free up capital that is available to buy back stock, I would say, you know, we're going to be carefully measuring that against an acquisition.

Okay.

Great.

Thanks.

Your next question comes from Todd Voit.

Yes.

Hi.

Good morning.

I was wondering -- I'm looking here on the income statement.

I see gains on joint venture properties and income from investment land sales.

I'm wondering, is that offset down below in the equity net income in any of the line items where I see the negatives?

Or are you including gains in FFO?

No.

We're not including any gains in the FFO, Todd.

What you have below is you have your discontinued Ops, and then above -- what particular line item you look at?

Under other income expense?

Under other income, I see income from investment land sales, 949,000.

And below that, gain on joint venture properties of 2.9 million.

And in your reconciliation net income to FFO, I'm not seeing that subtracted out, and I'm wondering if you subtracted out net equity and net income line-item.

That thais actual land parcel sales that is included in FFO.

The 949,000?

What?

The 949,000?

Correct.

what about the 2.9 million gained on joint venture properties?

That is deducted out and is not included.

Where is it deducted out?

It's back on your net income to FFO reconciliation.

Okay.

I guess I'll have to call you guys back.

Feel free to call us.

We'll walk you through it specifically in detail and can refer to the line-items for you.

That will be great.

A quick question just on the impairments.

It looks like there is 5.4 million of losses or impairments.

Can you talk about what those losses are?

Or are those just dealing with the sale of our office assets?.

Sale of office assets.

Okay.

Great.

Thank you all.

Once again, to ask a question, please press star then the number on on your telephone keypad.

You have a follow-up question from John (INAUDIBLE).

Hello, hi.

Just a follow up on Tahoe.

Looks like good progress there on sales.

You have also made some good enhancements for your disclosure on the residential sale in general. it's still a fairly complex investment to get your arms around, and I wondered, John, if you could just spend a moment just to maybe just give a, sort of a big-picture progress report.

Maybe one way to talk about it would be in terms of your cash flow added at investment, how you think it might grow in '04 and '05.

Just a little more perspective to get a sense of where we are in the process there.

Well, John, I'll take it.

It's Denny.

We have been working on this development as you know for about three years, and in effect putting in the infrastructure, getting the golf courses in, getting the roads in place, getting the village positioned to sell.

And so we're now just starting to reap the benefits of it.

If you look at our total investment in the assets, there are about $150 million to date.

We're starting to see the sales now, and they'll really kick in.

And the way our business plan works, we will be getting a sales out of The Village, which is there at the base of the mountain.

It's like the base of the mountain at Beaver Creek.

We will be getting sales on a steady stream for the next three, four years out of that product.

I feel very comfortable in that.

Then we move up on the mountain and start selling product on the mountain.

And we have 1400 units on the mountain that we will be able to sell over time, and these units are better views, better location than The Village.

So, we're, you know, extremely confident about that.

There's actually a hotel, a couple of hotel operators that are interested in coming in to Tahoe right now, which will be located slightly up on the mountain.

So that will be the big next development, and that should kick in at in about two years, okay.

Down below in the lot development portion of Tahoe, that would be Old Greenwood; that would be Gray's Crossing.

Old Greenwood lots are sold out.

We have an opportunity to do time shares there for the next 10 years, and so that will be a steady stream of cash flow.

So, when you sit back and look at, you know, what could come out of Tahoe in any given year, you know, I fully expect it to be at least in the 20 to $30 million a year range, you know, for years to come.

And just to kind of step back again on this market relative to where we cut our teeth, which is primarily in the Vail/Beaver Creek or Vail Valley area.

That market, the Vail Valley area is virtually not 100%, but is close to 100% fly-in type business.

Because you can certainly draw from the Denver market, but not -- nowhere near the population base within driving range as you have in Tahoe.

Nothing close.

And on top of that, there's far more competition in terms of high-quality projects in Colorado than there is in California in the Tahoe region.

So we have much less competition.

We have a much bigger, um, and a very affluent population base to draw from who are within driving range of that market.

We're very excited about this over the longer-tomorrow.

Let me comment further.

I gave you FFO numbers.

If you go back and look at what the cash flow is coming out of Tahoe will be over the next five years, I'm thinking it's at least 300 million.

It pays back our investment plus puts another 150 million in our pocket.

So, you know, it took us a little while to get going, come which is the normal think this to have happen on one of these major developments, took three years to get going, but we'll get all of our cash back in the next three to five years, and it will be a steady stream of cash flow for us from an earnings and cash flow standpoint over the next ten.

Just so I understand that, and I appreciate, you know, this discussion, you have invested about 150.

You think can you pull 300 million of cash, perhaps, over the next five years?

Five.

And that's the cash number, so it will basically be a return on original investment and an additional 150 million plus whatever plus whatever you have in the back end in years five through 10.

That's the business, John.

Okay, is 150 million, what you have invested now, is that the peak amount that you think you will have to invest?

That's the peak.

Okay.

Great.

Thanks a lot.

That was very helpful.

Thank you.

At this time, there are no further questions.

Okay.

Thank you, everyone, for joining us.

As always, we're available by phone for any follow-up questions.

Don't hesitate to call.

We appreciate you joining us today.

Thank you very much.

This concludes today's conference call.

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