Piedmont Realty Trust Inc (PDM) 2010 Q4 法說會逐字稿

Greetings and welcome to the Piedmont Office Realty Trust's fourth-quarter 2010 earnings conference call.

At this time all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (Operator Instructions) As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Robert Bowers, Chief Financial Officer for Piedmont Office Realty Trust. Thank you, Mr. Bowers, you may begin.

Good morning. This is Bobby Bowers, the Chief Financial Officer for Piedmont Office Realty Trust. Welcome to our fourth-quarter and year-end 2010 conference call.

Last night, in addition to posting our earnings release we also filed our Form 8-K, including our unaudited quarterly and year-end supplemental information. This information is available for your review on our website at www.PiedmontREIT.com under the Investor Relations section.

On today's call the Company's prepared remarks and answers to your questions will contain forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Forward-looking statements address matters which are subject to risk and uncertainties that may cause actual results to differ from those discussed today. Examples of forward-looking statements include those related to Piedmont Office Realty Trust's revenues and operating income, financial guidance, as well as leasing and acquisition activity.

Please see our filings with the SEC including additional information relating to risk and uncertainties associated with forward-looking statements. You should not place any undue reliance on any of these forward-looking statements and those statements speak only as of the date they are made.

In addition, during this call we will refer to certain non-GAAP financial measures such as funds from operation, core FFO, AFFO, and EBITDA. We encourage all of our listeners to review the definitions and reconciliations of our non-GAAP measures contained in the supplemental information available on the Company's website.

I will now turn the call over to Don Miller, the Chief Executive Officer of Piedmont Office Realty Trust.

Thanks, Bobby, and good morning to everyone. In addition to Bobby, who will be discussing our results in a few minutes, I have with me Ray Owens, our EVP of Capital Markets; Laura Moon, our Chief Accounting Officer; and Bo Reddic, our EVP of Real Estate, to provide additional perspective during being question-and-answer portion of the call.

From many perspectives 2010 was a really good year for Piedmont. On February 10, 2010, just a year and a day ago, we successfully listed on the New York Stock Exchange and the Company's Class A common stock has posted a 47.6% total return from that initial listing price through year-end 2010.

As you can see in our earnings release and as we will discuss in a moment, we were able to beat our own forecast for 2010 including covering our dividend out of cash flow. Despite difficult conditions in many leasing markets, we had an excellent year with over 2.1 million square feet of office leases negotiated. Additionally, as capital markets stabilized we successfully acquired three attractive properties and disposed of two non-strategic assets during the year.

We are seeing signs the US economy is beginning to head in the right direction. GDP is slowly improving and the fear of rising federal taxes has been at least temporarily stayed. However, many risks still exist and this recovery, both globally and in the United States, is fragile and will be slow.

Unemployment remains high, the burgeoning federal deficit is crippling individual business growth, the risks of inflation and rising interest rates are on the horizon, the fiscal and political strain in Europe and the Middle East are dominating our daily newscasts, and the threat of China tightening its monetary policy is a growing concern. These factors continue to indicate that growth in office employment, and therefore in our industry, will be slow and may lag the overall recovery.

We are, however, encouraged and optimistic about the future for the Company. We are seeing noticeably more activity in the capital markets, wherein we can utilize the strength of our balance sheet to capitalize upon acquisition opportunities. And we are also seeing in many of our leasing markets more interest by business decision makers to consider leasing office space. We believe both of these trends can provide opportunities for Piedmont.

I would like to take a few minutes to go through in greater detail the operating side of the business, specifically our leasing and what we are doing with respect to expirations for this year as well as 2012, and our prospects on the capital transaction side.

So regarding leasing, as I mentioned, we executed 2.1 million square feet of office leases during the year with roughly 37% of those leases being signed during the fourth quarter alone. As noted in our supplemental, 10 leases signed during the fourth quarter exceeded 20,000 square feet, which is in keeping with our larger, high credit-worthy tenant profile and limited multi-tenant leasing strategy.

1.2 million square feet of 2010's total represented renewals resulting in a 72% retention rate of our tenants with expiring leases last year and roughly 900,000 square feet were new leases. The bright spots for leasing continue to be Manhattan and Washington, DC, with few large blocks of space available and limited new construction being delivered. Outside of those two markets demand remained spotty.

Of significance during the fourth quarter we completed two key leases totaling 158,000 square feet in our Piedmont Point I and II buildings in Bethesda, Maryland. One lease is with the Henry M. Jackson Foundation for the Advancement of Military Medicine and the other lease is for the headquarters of a major healthcare provider.

On page six of our supplemental information you will find a detailed update on our exposure to renewals for space exceeding 1% of annualized rent. Over the next two years between 40% and 50% of our total lease renewal exposure is in the Washington, DC, market. We are currently negotiating with the Comptroller of the Currency, the National Park Service, and NASA, which represent 1.1 million square feet of renewals.

As we indicated during the past two quarters, we expected that the OCC would be a short- to mid-term renewal. Two weeks ago, resulting from some over leasing by the Securities and Exchange Commission, the compcontroller informed us of a recent change in its leasing plan and they announced their long-term plan to move to a larger, nearby building where they will consolidate with the staff of the Office of Thrift Supervision.

This consolidation will likely result in a shorter lease extension with the OCC at our independence -- One Independence Square building than we had been negotiating. Maybe up to a 24-month renewal.

With respect to NASA, we are in advanced negotiations and hope to have a definitive announcement to make with respect to its 600,000 square foot renewal in the near future. We have also learned in the fourth quarter that KPMG exercised a contraction option that will reduce the amount of square feet it will be leasing beginning in 2012 in the Aon Center by about 46,000 square feet.

Our primary renewal challenges ahead of us in 2011 and 2012 are the 300,000 square feet of space in 2011 at any the Windy Point II building in suburban Chicago and 300,000 square feet of space likely to be vacated by sanofi-aventis at 200 Bridgewater in northern New Jersey in 2012. We are working diligently to fill these spaces with prospects and, in the case of Windy Point II, a few of the current sub-tenants.

As I shared with you last quarter, the level of occupancy in our portfolio remains in line or better than the market occupancy of most of the locations in which we occupy -- in which we operate.

Regarding capital transactions, with limited near-term debt maturities and a flexible capital structure, as well as access to both public and private debt and equity sources, we have meaningful capacity to pursue our targeted growth strategy. As the capital markets have stabilized over the past year we are, in fact, seeing a better pipeline of potential transactions. However, while we are working on a number of possible deals we will remain disciplined in our acquisition strategy.

We have continued our focus on capital recycling and investing in key target and select opportunistic markets. To that end we sold two non-core assets in the fourth quarter of 2010 including one older, less efficient property in northern New Jersey for $55 million. And in keeping with our previously communicated strategy of divesting our few remaining legacy JV properties, we also sold one in the fourth quarter of our JV properties in which we had only a small stake.

We also acquired in the fourth quarter for about $66 million two properties with solid long-term prospects. The two buildings were located in Minneapolis and are largely occupied by US Bancorp, a customer that we know well and who has become our third-largest tenant. Coupled with our vacant building purchase in Atlanta at the end of the third quarter of 2010, we believe the potential for strong income growth is excellent through rent steps in Minneapolis and lease-up of the Atlanta asset.

The Atlanta acquisition itself points out an area where we believe there are opportunities for increasing enterprise value for our shareholders over the next year. With capital chasing well-occupied properties with low acquisition cap rates and a high per-square-foot cost basis, in many cases above replacement cost, we believe this competitive acquisition environment creates an opportunity for Piedmont to recycle out of certain non-strategic assets.

With this recycled capital we are generally observing more prudent acquisitions can be found in select lease-up opportunities where we can acquire at a much more attractive per-square-foot basis and lease-up these targeted properties as the economy recovers.

We were aided in this strategy with a low opportunity cost as our unused $500 million line of credit is priced at 47.5 basis points over LIBOR and is available to us until the third quarter of 2012. Obviously to the extent we are successful with this capital transition transaction strategy this recycling approach, coupled with our current lease expiration schedules, will negatively affect our reported occupancy rates over the next 18 to 24 months.

We are diligently evaluating and underwriting a number of acquisition opportunities from single buildings to portfolio transactions and even enterprise acquisitions. Our balance sheet remains one of the strongest among our peers and we look forward to putting it to work.

With that I would like to turn the call back over to Bobby to discuss our quarter and year-end results and guidance.

Thank you, Don. Last night we recorded net income available to common shareholders of $28.7 million or $0.17 per diluted share for the fourth quarter and $120.4 million or $0.70 per diluted share for the year. Core FFO totaled $67.9 million or $0.39 per diluted share for the quarter and $281.3 million or $1.65 per diluted share for the year.

Despite our higher dollar amount of annual core FFO in 2010, per share results are lower reflecting the issuance of 13.8 million additional shares of common stock in conjunction with our listing in February a year ago. AFFO totaled $38 million for the quarter and $216 million for the year, or $0.22 and $1.26 on a fully diluted per-share basis, respectively. Revenues totaled $151 million for the quarter while revenues for the year came in at $589 million.

We note in our income statement for the fourth quarter that property operating costs and related reimbursement income are higher due primarily to repairs and maintenance charges during the quarter and higher property taxes, particularly in Cook County, Illinois. You may recall that we discussed during the third-quarter earnings call that property assessments were down in the Chicago area which resulted in lower property operating expenses for the third quarter. After the November election, tax assessors announced larger-than-expected increases in millage rates which resulted in a higher cost in the fourth quarter.

Now despite most property taxes being recoverable either in the current year or in the following year, we will be carefully monitoring these taxes across our portfolio as we expect many municipalities will be increasing their property taxes to cover their budget deficits. Also, you will note higher G&A costs this quarter associated primarily with two items -- the termination of our former transfer agent and move to the Bank of New York Mellon, which should allow for lower G&A costs in 2011, and the accrual of compensation expense associated with the new three-year stock performance program implemented by our Board in 2010 in conjunction with our listing on the exchange and the alignment of compensation programs with shareholder stock appreciation.

Our balance sheet remains largely unchanged for the third quarter. Our debt stack remains very manageable with $250 million in unsecured term loans maturing at the end of the second quarter. We have no other outstanding debt maturities this year and we have only $45 million currently outstanding that is maturing before 2014.

As Don mentioned, we have an untapped $500 million line of credit that is a likely source to pay down our term loan this year. But the specific use of that line will be largely dependent upon the acquisition and disposition activities as this year progresses. We ended the quarter with a net debt before EBITDA ratio of just 3.9 to 1, down from 4.2 to 1 a year ago and a fixed charge coverage ratio of 4.9 times as compared to 4.6 times in 2009.

As you can see from our analysis on page 18 of our supplemental information filed yesterday with the SEC, Piedmont remains significantly below any of our debt covenant limits. As we discussed last quarter and as disclosed on page 28 of the supplemental information, Piedmont has two loan receivables totaling $61.1 million which are secured by a 973,000 square foot, 46-story Class A office building located at 500 West Monroe in Chicago. The owner of the property defaulted on the loans at maturity in August and Piedmont has therefore attempted to move for a UCC foreclosure sale on the property in order to protect the value of its notes receivable.

The foreclosure process is currently tied up in the courts. However, through December 31, 2010, Piedmont has collected all interest, including default interest, on the loans and we continue to carry the notes at cost pending the outcome of the legal process.

Occupancy at the end of the fourth quarter was 89.2% for all office properties in the portfolio. Excluding our opportunistic acquisition earlier in the year of a vacant 142,000 square foot building in Atlanta, occupancy at the end of the quarter was 89.9%, down only 20 basis points from the beginning of 2010. Clearly, our acquisition strategy, as Don discussed, as well as the success of our foreclosure efforts in Chicago could impact our reported occupancy in 2011. For comparative purposes we will strive to provide you with same-store occupancy information on a going-forward basis.

Other summary lease information at year-end includes our average lease term at 5.8 years and our average lease size remaining at approximately 40,000 square feet per lease. We are very pleased with the leasing activity that we achieved in 2010 and the activities we are seeing in early 2011. The executed leasing in 2010, however, was definitely tenant favorable and focused heavily upon rental rates.

Concessions seemed to have stabilized and may be even improving as tenant improvement and leasing concessions for all office leases in 2010 ran at about $3.88 per square foot per year of lease term, which is comparable to the period in 2007 to 2009. As seen on page 21 of this quarter's supplemental information, you will note our rental rate roll down and roll up analysis. A significant portion of the 2010 leases were executed at average straight line rents roughly 15% below expiring rents. That population represents 71% of the leases executed in 2010 or 1.5 million square feet.

I would like to repeat what I said on the third-quarter earnings call, that is that we believe that this magnitude of roll down is likely to contract substantially in 2011 and beyond with 12.5% of our portfolio's leasing revenues expiring in 2011, a significant portion of our leasing over the next two years is in the Washington, DC, area where new rental rates are projected to improve relative to rolling lease rates.

As shown on page 13 of this quarter's supplemental information, same-store NOI was only modestly negative on a cash basis and is a negative 2.7% for the quarter and negative 1.4% for the year demonstrating, I think, the lag time between leasing contracts being executed and when the new lease rates commence. Some of these roll down renewals which were executed during 2010 did not commence until 2011, as in the case of the State Street Bank lease in Boston. This lease renewal activity impacts our outlook for 2011.

We touched briefly on this outlook during last quarter's call when we said that we expected core operating results in 2011 to be $0.01 to $0.02 per share per quarter lower than the current quarterly core FFO run rate of $0.39 per share. Most of the current published 2011 estimates are in line with our earlier indications; however, I would like to formalize our 2011 guidance today.

In doing so, I want to remind you that our guidance reflects management's current view of market conditions, our view of economic and operational assumptions and projections. Our guidance is meant to be realistic, given current portfolio properties, and does not include the impact of any unforeseen significant acquisitions or dispositions, other capital market activities, or significant one-time revenue expense items. We would also like to remind you that the results may vary from quarter to quarter on a cash or accrual basis due to timing differences related to such things as utility payments, insurance, other property expenses, and certain G&A expenses.

For the year 2011 we are anticipating net income of between $106 million and $118 million, and depreciation and amortization in the range of $150 million to $156 million. This results in a core FFO forecast in the range of $256 million to $269 million or $1.48 to $1.56 per diluted share.

While our Board of Directors reviews our dividend policy quarterly, we expect our dividend to remain at $0.315 per share per quarter for the next few quarters. However, while we covered our total annual dividend of $1.26 in 2010, we do not expect to cover our dividend from an operating cash flow basis in 2011 due primarily to outstanding tenant improvement commitments.

Our long-term outlook of capital expenditures, lease rents, interest rates, among several factors impact our future cash flow forecast. If our current dividend is determined not to be sustainable with long-term cash forecasts, the Board will adjust our dividend policy but we will strive to provide our shareholders with such advanced notice if there is a change in our dividend.

In conclusion, I have only one other item and it related to our capital structure. As of January 30 of this year we have only one class of common stock outstanding. As all of our Class B1 common shares have converted on a 1-to-1 basis into Class A common shares which are traded on the exchange. As we noted with the conversions of Class B1 and Class B2 common shares during 2010, we did see some increase in the number of shares traded immediately after the conversion of the B3 common shares, but that activity has tapered off with little impact on our stock price.

With that I would like to open up the line for questions. Operator?

(Operator Instructions) Tony Paolone, JPMorgan.

Thank you and good morning. Does KPMG have any other giveback options before their lease commences?

No, they don't, Tony. They took their maximum contraction option potential. They had to notify us a certain amount of time in advance and they did that, and they took it based on just efficiencies they were able to wring out of their system.

Do they have to pay you anything for that or is it just -- do they just cut it and that is it?

No, it was a pre-commencement contraction or expansion option. They chose to take the contraction option and so there was no payment either way.

Okay. With respect to the OCC space, can you give us a sense as to where their rent is at relative to market? And if you do something shorter term with them, what do you think you have to spend after they go to get that thing re-leased or do think there is any deferred maintenance or anything that needs to be spent there?

A handful of answers to your question there, Tony. Let me start with today their rents are in the low to mid 40s, but we show a much higher ALR because, as many of the government tenants do, they have a lot of bill-back expenses that go to the building. And so those are essentially pass-through expenses.

So I think it was John Guinee asked the question in the last conference call about our rents in those buildings because they looked to be higher than they were really effectively. And that was because of those bill-back expenses. I am not sure we answered that question completely and thoroughly at the time.

But the point is that our actual rental rate base is around low to mid 40s on that building today, but we show an ALR in the 50s. But the difference, like I said, is the bill-back expenses.

Obviously, if we are doing a short-term renewal with the OCC we think there is a lot of comps in the federal government marketplace in Washington, DC, that would allow us to get a premium for the space for that shorter period of time, and that is what we fully expect and intend to get. So that might actually be marginally positive to our earnings in 2011 and 2012 relative to what we had previously forecasted. There will be obviously no capital associated with that lease extension.

As it relates to the building, when and assuming if we get it back from the OCC, the OCC has continually reinvested in that building. I don't know if any of you have been in that before, but that is a very high-quality building, albeit more government oriented. But very high-quality finishes in the lobby and they have continued to reinvest.

We have done fire alarm panels. We have done all kinds of things to keep that building up to snuff. And so as a result, I don't think there will be a huge base building commitment to us, but obviously anytime you are re-tenanting for a new tenant there is going to be substantial capital associated with the re-tenanting itself.

Okay. So if we are thinking -- I just want to make sure I understand the rent part of that building again. You said low to mid 40s but it sounds like that is really a net number that you are getting.

No, the GSA leases are a little different, Tony, as you probably know. So you take the base rent and then we basically only get increases on the -- CPI increases on the expense amounts. And so there is a fair amount of exposure, as you know, to the landlord for increased expenses above CPI at the building and obviously we get a benefit to the extent that expenses don't move up as quickly as CPI.

So the base rent that I am referring to that you would be talking about in the low to mid 40s would be that number, that straight line, that flat straight rent. If we were to do a short-term lease with the OCC, assuming we do that, we would expect that we would get a premium over market rent today for the combination of the shorter-term lease.

Okay, but if you didn't do a deal with the OCC and you brought in a new tenant, say, would you have to reset, like the expense stop? Would you have a net hit or would the market rent be pretty comparable?

Yes, it depends on the tenant. Obviously, if it's the federal government, which that building would set up well for, we would have presumably the same exact lease structure. If it was a commercial tenant, likely have a base -- Washington is more of a base year market. There is some base year, some net deals but in effect it would end up working -- it would work right in line with the way it does today.

Remember, all those bill-backs for expenses there is no profit in that. That is all expense coming out of the building and reimbursement coming back from the tenants, so it's basically a wash. It's a little misleading to show our ALR at $55 or whatever the number says for the building today, because that means that the expenses are about $10 higher than they otherwise would be if our rents were at $45 for example.

Am I answering your question?

Yes, I think I got it. Thank you. Then any early read on National Park Service's lease?

You know, I may have misspoken in my prepared remarks. I think we said we are actively in negotiations. They have -- they are in the process of getting their SFO out on that deal, and so depending on what that SFO is we will get a better read on the likelihood of their staying or not.

But the formal SFO has not yet been issued. We have some insight as to what they are thinking, but it's probably a little too early to tell as the federal government often does -- they often wait until later in the process than the commercial tenants might wait.

Okay. Question on the acquisition pipeline and just what you are looking at on the deal side. You had mentioned picking up some vacancy but can you give us a sense as to just how you are underwriting returns, how you are thinking about your cost of capital?

And then your portfolio spans markets, everything from New York City to places like Detroit, and so I am just wondering where do you see your sweet spot in terms of asset quality right now and markets where you think you can compete and actually win on the acquisition front.

Wow, a number of questions there. Let me see if I can -- I am going to step back, because obviously we anticipated the capital recycling question and we may be answering some other folk's questions who are on the line. But let me see if I can step back and take a shot at that.

What we are looking at right now, Tony, from the time we went public a year and a day ago now is a market that has changed to some degree in the fact that we have seen acceleration obviously of pricing and lowering of cap rates in a lot of markets, particularly for core product. Both in those, what we call our concentration markets, the coastal markets, but we have also started to see it and it's accelerating to some degree in those secondary markets that we call our opportunistic markets.

We have looked at a number of those kinds of transactions, and short of being critical of others, I just can't understand how some people are reconciling paying [5%], [6%] cap rates at or above replacement cost with, if truth be told, [1.41%] adjustments downward if they were really heart to heart looking marking-to-market those rents. I don't know how that adds any enterprise value to a company doing those kinds of transactions.

We are going to alternatively say, there is a lot of buildings in those markets that have occupancy challenges that are just as good of quality buildings, and you can buy them from a third to a half of replacement cost. And so I got to believe that as we move into a cycle where we believe occupancy is going to improve, we think the economy is getting better, I would rather take the bet as a lower leverage company buying at a low basis and having the opportunity to create enterprise value.

Recognizing it might impact our occupancy going forward a little bit, but at the same time giving us the ability to create some real value for the Company. Rather than having all my risk to be on the downside rather than on the upside.

So where we are seeing opportunities now are the Southeast and Southwest markets, particularly the Southwest where we are seeing some accelerating leasing activity. That is giving us some confidence that taking on some vacancy in some of those places just down the street where others are paying double the price that we think those are good bets. And we are seeing some things there that might come to fruition for us.

We are continuing to move forward on a number of sort of one-off transactions where we don't feel like we are paying full retail or trying not to pay full retail in our core and concentration markets. But inevitably, those have been extremely difficult deals to make and you better have extraordinarily low cost of capital if you want to try to make them. We just don't think that returns in the mid-single digits are what you are hiring us to do as our shareholders.

Okay, that is helpful. Thank you.

(Operator Instructions) Chris Caton, Morgan Stanley Smith Barney.

Good morning. Bobby, wanted to follow up on guidance. You talked a little bit about dividend coverage and the capital being a factor there. Can you talk to us a little bit about how you see capital spend going forward?

I guess you did about $62 million in 2010. How is that changing going forward also with it sounds like a lot of leases coming through in 2011 in DC?

Sure, Chris. Certainly as we look at our dividend coverage it will be largely dependent upon the TI spend that is the major item in your reconciliation from FFO to AFFO in cash that is available, and we clearly have those large commitments that you may remember that about $61 million that is between 35 West Wacker and Aon.

Next year I have modeled in somewhere in the neighborhood of around $80 million to $85 million in terms of total exposure in terms of CapEx spend. That is compared to TIs that we spent $58 million last year, $17 million in the fourth quarter.

Again, I want to point out, you may know that we have set up a JV potential there for 35 West Wacker and we would be shedding somewhere. I think total commitment in that building right now is $42 million. Certainly if we do a JV that would lower that exposure there.

In terms of an AFFO for it to get back to what does it look bottom line, I think -- and we are in the low, around $1, a little over $1 generation. But you may remember as we began last year we tried to look at that conservatively and this is largely dependent upon the tenants when they want to draw it down.

Thank you.

Brendan Maiorana, Wells Fargo Securities.

So, Don, just a follow up a little bit on the recycling commentary. You mentioned that you have seen a lot of bidders get fairly aggressive with some of their assumptions on stabilized assets, both in your core concentration markets but also it sounds like in some of the secondary markets.

Given that there are markets that you would like to sell out of over time, does that mean that maybe now is a good time for you to start marketing some of the assets that are stabilized that you would like to get out of and might you accelerate those plans in 2011? If so, can you kind of say whether or not any of that -- how that may impact your guidance?

Excellent follow-up because I, frankly, meant to get into that when I was answering Tony's question earlier. We are actually seeing some increased activity on the disposition side on buildings that we have sort of modeled to sell this year, and we also had some activity recently of, I will call it unsolicited nature, for buildings that we might not otherwise be a good fit strategically long-term for us.

So the vast majority of that activity is dialed in to our models for 2011. There could be a building or two that get added to that list if we are able to execute on some of the things that we have talked, about, but it largely is already incorporated into the 2011 numbers including executing on the 35 West Wacker partial sale.

Just a follow-up, can you kind of give us a rough number about how much in terms of acquisitions and dispositions are included in the base assumptions for 2011?

Yes, I will be glad to. I think you probably know we tend to be a touch conservative, but we have about $100 million of acquisitions in the model in ratable radiantly over the course of the year. And we have about $227 million of dispositions. Obviously a major part of that is the 35 West Wacker transaction.

The $227 million is sales proceeds because obviously -- for example, 35 West Wacker has some debt on it so 35 West Wacker itself would be much more than that in terms of total price.

Right. And sorry, just to clarify. It sounds like the dispositions would be stabilized, the acquisitions are probably more value-add, so there is probably a negative cap rate arbitrage on just the current income going out versus the current income coming in on a cap rate basis.

By and large that would be correct. If all we do is execute $100 million of acquisitions on some stabilized and some lease-up basis, yes that would be absolutely correct.

Okay, all right. Thanks, guys.

John Guinee, Stifel Nicolaus.

Thank you. Bobby, in your carefully crafted discussion of the dividend where you said that you would pay it for a couple of quarters and would give advanced noticed of any dividend cut, to me you effectively just did give an advance notice of a dividend cut in the third or fourth quarter, particularly when you combine that with the recycling strategy which by definition is dilutive. Not that it's bad, it's dilutive. Is that a correct assumption?

Well, I would say no. It's dependent upon the acquisition strategy clearly. We have done a long-range forecast based on where we stand today and you know that we have got a significant amount of TIs today. But once that bled through our Board has already adjusted our dividend to what we think our long-range coverages.

Clearly, if we are able to execute and take on a significant amount of value-add properties that will have an impact. We will revise our forecast dependent upon what those acquisitions are.

John, far from a foregone conclusion but I think we would acknowledge that we probably are -- the percentage of the potential for a dividend cut probably rises as we see -- as we get more and more information in terms of what is going on in the marketplace. But I think (multiple speakers).

Well, the follow-up statement/question would be if you are successful in executing your repositioning strategy, taking on value-added assets a dividend cut is almost a foregone conclusion which is in effect a positive.

Those are your -- John, I don't know that we would argue with you necessarily but those are your words and not ours. There is still the potential for us to consider keeping the dividend at the level it is depending on what things happen. A lot of things happen in a 12-month period of time.

John, you may remember we all thought we would be not covering our dividend this year and yet it turned around. Dependent on what our tenants were doing in terms of TIs we covered.

More often than not share, prices increase when a foregone dividend cut is actually executed. Good luck.

Understand, fair point. Thank you.

(Operator Instructions) John Stewart, Green Street Advisors.

Thank you. Bobby, sorry to beat a dead horse but can you -- just trying to come at the same issue a little bit differently. Can you shed some light on your taxable income forecast?

Taxable income, we are running around $0.90 based on our forecast per share.

Okay. Likewise on a related point, Don, if you could help us understand sort the convergence of the lines between sort of in-place cash flow and expected CapEx going forward. So obviously you have got the outstanding commitments, but if you kind of consider those one-time in nature and you think forward to -- if you assume that in-place rents roll to market and you look forward to sort of a normalized CapEx, where does that leave us?

Let me see, I can take a couple of different shots. There are lots of different ways to answer that. Our CapEx spend has been very consistently over the last few years sort of mid-$50 millions to mid-$60 millions per year. I think we have said for a number of years now that we expect that 2011, 2012, maybe as long as 2013, but probably 2011 and 2012 to be higher for all the obvious reasons of lease expiration and otherwise.

I think Bobby just indicated more like $80 millions is a reasonable target and forecast. But obviously that gets back to all the caveats we would normally give you in terms of when do the tenants call it, what happens with our 35 West Wacker transaction, those kinds of things. And so that sort of is probably more of a normalized number for the next year or two.

The one thing I would say that sort of -- the one thing we really haven't made clear that is related to that is that as you look into 2011 -- not to get too much of a forecaster on this issue. But because as Bobby has mentioned to you a number of times on these kind of calls that a lot of our lease exposure coming up next year is federal government-related and/or Washington, DC-related where we have seen better rental performance over the last few years, we expect that if a lot of that activity gets executed as we hope that we will see rent roll ups maybe in the early part of next year or certainly better overall rent roll downs than we have seen in the past.

And so we wouldn't expect or wouldn't forecast in 2011 to have anywhere near the same sort of rent roll down numbers that we have seen in the last year. And so now you get into the capital discussion around Washington. That is really lumpy, John, because as you look at OCC, for example, if we do this short-term renewal, which we would anticipate, there will be no capital. If we do a really long-term NASA renewal, and I am not saying that is what we are doing, but if we were to do something like that obviously that would probably involve a lot of capital.

And so it really depends on what the nature of the tenant and what they are looking for. But that is just sort of the nature of our business model, as you know, given that we have larger leases and they tend to be lumpier.

Okay. Last one for me and I will yield the floor. Don, so if you exclude a short-term OCC renewal and anything, particularly near-term leasing that maybe has some idiosyncratic qualities, what do you think your current mark-to-market is across the entire portfolio?

We have said in the past we thought 5% to 10%, probably closer to 10%, was our roll down and it has obviously been bigger than that in the first year. Some of that is, I have used the word so I will repeat it, idiosyncratic in the sense that we have had a few Detroit deals, we had that big State Street roll down that I think were idiosyncratic in the wrong direction, if you will.

And so I still think 5% to 10% is a good number. Maybe trending from 10% towards 5% as we do some of these roll downs, because you are seeing fewer and fewer of the big roll downs still left in our portfolio. But obviously that is sort of a work in process.

Each time we do a renewal that has a big roll down I think the overall portfolio becomes less over rented. I know that is sort of obvious but that is sort of the way we look at it.

Got it. Thanks a lot.

Dave Rogers, RBC Capital Markets.

Good morning, guys. When you look at your historical trend what do you think your stabilized occupancy should be for the portfolio that you will own going forward as you kind of get through this disposition strategy?

I am not sure we think about it that way, Dave, but I guess if I was to answer your question I would hope that with the quality of portfolio we have and the markets that we have that you are outperforming the national average by 200 to 400 basis points. And I am swagging that, that is not a scientific number.

If that is the case, when markets get to some normalized equilibrium of low double-digit vacancy rates then I would hope that means we are low 90%s from a percentage occupancy standpoint on a longer-term basis. That doesn't mean that we are going to be afraid to take some more vacancy in the short term to hopefully rebound off of a bottom here and create some earnings growth that way.

And I guess as kind of a tangent to that, Bobby, I think you have got debt running, depending on what metric you want to use, somewhere in the high [20s] or say at 4 times, rough number, net debt to EBITDA. Is that where you think you are running at today?

Yes.

And I guess where would you be comfortable taking that?

Well, certainly we could take that up. Additional debt -- we have got $1.4 billion on the books today. We could easily add and stay under a 40% leverage up to $1 billion, but I think in our models this year we could handle a net acquisition. This is after we do any of these dispositions; $250 million just with the line that we have available, without going out and getting any [incremental] debt.

Where do you think you could borrow a more permanent debt today? What rate?

Depending on whether you are -- let's call it long-term debt now, or 10-year money. We would think we are in the mid to upper 5%s, maybe approaching 6% depending on whether you are talking about a bond deal or a term debt deal.

Just going back to an earlier issue. If you took leverage upwards toward 40%, maybe not all the way there, if you lead the portfolio into the low [90%s] and continue to finance that permanently cheaper than where you are buying assets today, what does dividend coverage look like at that point? And does that give you enough confidence to stay with the dividend? Because I am not sure that you would get paid for a cut.

Well, that is two different opinions in the same call. Dave, I don't know that we have -- to be honest I am not sure that we have done that level of analysis that would be able to give you a really concrete answer. We will think about that a little bit and maybe by the next call or something like that have some ability to give you some more thoughtful answer on it. Let me just leave it at that.

I think we will try to come back in the next call -- obviously we will be one quarter closer to knowing whether we are going to make the decision that others think we might make, but we will also probably be armed to give you a little bit more answer in that realm, if that is okay.

Okay, fair enough. Then final question, going back to the acquisitions that you talked about earlier. It seems obviously basis is very important in the way you are going into these assets and that is good to see.

I guess given, though, what you appear to have as an increasing -- and I wouldn't call it robust outlook, but an increasing view toward improving fundamentals in the office market, why not get a little bit more aggressive if you have got three-, four-year roll out, even if those were above market today? Very accretive in the first couple of years and I guess, depending on your outlook for rent growth, that could be good or bad.

But just given what you are saying it would seem that you might want to be a little bit more aggressive and not have to worry entirely about taking vacancy to kind of prove out the strategy.

Dave, obviously if we can find product that is reasonably well leased and get a fair return on it and have our basis be reasonable, then I agree wholeheartedly with you. When we get into situations where we are looking at the deal and we think the basis is too high, then that is where we feel like we are taking a risk that just isn't getting rewarded.

I will give you an example. If we were to buy a building with three or four years of lease term left on it and it was above-market rents, now you are sort of begetting an absolute requirement for rents to grow for you to be able to achieve your goals.

What we are looking at in the situations where we have lease-up is we are looking at today's market rents, leasing them at today's market rents and achieving much higher returns on equity than we would if we were to buy the building and we are still at a much lower basis. And so we think that is much more of a win-win, notwithstanding the fact that it could not allow us to grow earnings in the short term as rapidly as we or you would like.

Thanks.

I think that is just how we look at it from that perspective.

Great. Thanks, Don.

Steve Swett, Morgan Keegan.

Good morning. Bobby, a couple questions for you if I could. First, on the operating expenses, they have been a little lumpy. You mentioned the property taxes negatively impacting the expenses in the third quarter and then the adjustment back up for fourth quarter.

Is the fourth quarter a decent run rate on operating expenses going forward or is it some blend of the two? Was there any true-up in the fourth quarter?

Yes, closer to the fourth quarter is a good run rate for next year based on our model.

Bobby, let me interject. I think there were -- a little bit -- obviously we had the property tax increase which had a little bit of one-timer in it. Then we also had a little bit of an increase in R&M towards the end of the quarter, so overall I think it's probably a good number but it might be slightly high.

Okay, great.

Is that right, Eddie?

Yes.

Eddie Guilbert is here, Steve, and he is nodding at me so it sounds like that is a little -- the fourth-quarter run rate would be a little high.

Okay, thanks. Then the comments on the G&A and some of the savings that you may have next year related to a couple of factors. Are there any additional things you need to spend money on, either personnel or systems or anything, that would offset that or do you think G&A could be down a bit next year just in aggregate?

G&A in total should have downward pressure, largely because of our transfer agent. We may save several million dollars in the transfer agent arena alone.

Now having said that, we also have ongoing continuing legal expenses related to other activities going on that may increase slightly and offset some of that. But I would say overall we should see a couple million dollar, maybe $3 million decline in G&A is what we are forecasting for the year.

Okay, great. Thanks a lot.

Brendan Maiorana, Wells Fargo Securities.

Thanks. Good morning again. So this is probably for Bobby, but just looking at the guidance, as you mentioned, we have got $0.39 of a run rate today. We annualize that number and it gets us to $1.56.

You have got $0.01 to $0.02 a quarter of some pressure from some of the rent roll downs that are going to impact in 2011 that we haven't seen yet in 2010 so that kind of puts us to $1.48 to $1.52. We have got the dead that is going to be refi'd in the middle of the year which is probably going to be a little bit of a drag as well. And then there is a couple of tenant issues that seem like they are uncertain.

So can you just frame up what are some of the touchpoints that move to either the high end of the range or the low end of the range based on where we are starting the year and what is kind of known going into the year?

Well, certainly if you look at the expirations that we have got the biggest sort of negative that we have got going is there at Windy Point II with the move out of Zurich. That could have an impact as we talk about rent roll ups, rent roll downs in our forecast. We had modeled in where it was really closer to $0.37 to $0.38 as a run rate, and so therefore we were looking at $1.48 to $1.52.

Item that is usually asked, we have got about termination fee income of about $3.5 million baked in this year relative to what we had in the year 2010 was about $8 million. So that is sort of a one-time item, Brendan, that you need to make sure is included in the forecast, but we tried to model and give you direction that we are working towards the midpoint. Obviously we try to be conservative but --

Brendan, there is two or three other items I would throw at you. The refinance of the $250 million term loan very well could be something that we move on to our line rather than refinance it given the capacity we have on the line. So we would be making a conscious decision to postpone that refinance by a year but capture a fair amount of value as a result of that if we were to do it.

That is one of those tough calls from a management team's perspective, because interest rates can undo all that positive potentially if you make the wrong decision. But that is one thing that could add materially to our earnings if we -- relative to how you might be modeling it.

The other major issue is probably what happens and what the timing is on our 500 West Monroe investment. When and if we foreclose, when do we start to get earnings from the building rather than just interest from the building, and how do we take over that asset and start to integrate that into our system. So those are probably the two things that jump out at me as the most obvious, other than just capital recycling issues, that could have an impact on where we are within the range.

But so in kind of the baseline assumptions for occupancy for the portfolio as it stands at 12/31/10, is that I guess effectively sort of flat at the midpoint? Is that what is kind of baked in?

I think -- Bobby will jump in. But I think -- let's take 500 West Monroe out of the equation because it's such a large asset. If you take that out of the equation, I think we would say that we expect that we are going to trend down towards 88% sometime during the year and probably come back towards 89% would be our best estimate for 2011, absent the 500 West Monroe situation and any other capital recycling things that might affect occupancy.

I think the Zurich expiration is at the April --

That is August.

Q3 and that is the lowest point in the model.

Okay. No, that is helpful. Then just lastly for me, just in terms of tenants and activity that is out there. Don, I think you mentioned that it's getting a little bit better, at least in certain of your markets. Are you seeing that a lot of your core large tenants or the prospects that you are looking at, are any of them -- how do you think expansions compare relative to contractions at this point in the cycle?

It's very funny you asked that. And I asked Eddie the other day if he could give me an analysis of what is happening from an expansion versus contraction in our portfolio. I was thinking, in anticipation of a question like this, that it might actually be moving more favorably. What I have determined is it's somewhat directionless based on our portfolio.

What we saw during 2010 in leasing activity is about 100,000 square feet, a little less than 100,000 square feet of net expansions within our portfolio, but that doesn't count termination options and things like that. So it's a little hard to get an apples-to-apples comparison.

But if you just look at tenants that decide to renew and did they expand or contract, we actually picked up about 100,000 square feet from that group of tenants. At the same time, however, we had tenants who pulled termination options or contraction options that totaled about 200,000 square feet.

So net-net I guess you would say we lost about 100,000 in 2010 from expansion/contractions on a net basis. But clearly it feels like, and this is anecdotal not -- I can't support it statistically. It feels like we are moving in a more positive direction from that standpoint.

So the opportunity set it seems like now for growing your occupancy in your portfolio is probably trying to get tenants to move in to upgrade in terms of quality of space versus getting expansions of folks that might -- out of their existing space?

We consistently, and I would think all of the REITs even those who are not as lowly leveraged as us, have the same benefit going on. We are repeatedly seeing tenants come to us. We let them go because we are not prepared to go to the economics that it takes to get the deal done.

They go down the road with a landlord that is in more distress economically and then they come back to us because the landlord's lender couldn't approve an estoppel or they couldn't fund the capital or the commission wasn't going to get paid or you name it. You would be amazed at how often that is happening where we think we have lost the deal and it comes back to us and we get it done. I think that is where the real benefit to being a publicly-traded entity is today for us, and I think that is the same for all of our peer group.

Sure. Okay, thanks, guys.

There are no further questions in the queue at this time. I would now like to turn the floor back over to management for closing comments.

We appreciate those who have hung on and we appreciate all the questions, a really good set of questions this quarter. Obviously we look forward to trying to deliver on our 2011 business plans. So thank you for your support and we look forward to catching up with each of you individually. Take care.

Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation.