Veris Residential Inc (VRE) 2003 Q3 法說會逐字稿

Good day everyone and welcome to the Mack-Cali Realty Corporation third quarter 2003 conference call. Today's call is being recorded. At this time I would like to turn the call over to the Chief Executive Officer, Mr. Mitchell Hersh. Go ahead Mr. Hersh.

Thank you for joining Mack-Cali's third quarter 2003 earnings conference call. With me today are Tim Jones, President, Barry Lefkowitz, Executive Vice President and Chief Financial Officer, and Michael Grossman, Executive Vice President.

On the legal note, I must remind everyone that certain matters on this call may be considered forward-looking statements under the federal securities law. Although we believe they are based on reasonable assumptions, we cannot give assurance that the anticipated results will be achieved.

We refer you to our press release, and annual and quarterly reports filed with the S.E.C. for risk factors that could impact the company.

First, I'd like to give you an overview of our results, and what we're seeing in our markets. And then review some of the quarter's activities. Barry will then follow with a discussion of our financial results, and Tim and Mike will give you an update on the markets and our leasing results.

In what is still a very challenging economy, our FFO came in this quarter as 96 cents per share, versus $1.01 per share for last year's third quarter. While we leased over 1.2 million square feet this quarter, our leased percentage on the in-service portfolio compared to last quarter, dropped 20 basis points from 92.2% to 92%. However, this quarter, Plaza 5, at Harborside Financial Center was added to the leasing statistics. And that fact brought the new in-service portfolio to 90.7% leased for the quarter. In our markets, neither the president's stimulus package, nor Fed policies and actions have translated into any sort of service-based or knowledge-based job growth, which is a major driver for demand for office space. Businesses and especially large space users remain reluctant to make long term decisions about capital spending and employment growth.

Small and mid-sized users continue to drive the leasing activity that we see with many firms looking to the flight to quality for better Class A space at good rents. We're not seeing any widespread recovery, but there has been some positive momentum in certain submarkets in New Jersey, such as Roseland and Essex County, Monmoth County and South Jersey. On the Jersey City waterfront, space showings have improved slightly, due to the reinstatement of the incentives and the reopening of the path station at Exchange Place.

With the reopening of the path station at the World Trade Center scheduled for November 23rd -- just a short several weeks away -- Harborside will be one stop away from downtown Manhattan. So we are hoping this, too, will help in the leasing efforts in the New York market. As well the water way opened a direct connection to Harborside to midtown Manhattan.

We recently signed two new leases at our Harborside Plaza Five building in Jersey City, and the building is now 58.3% leased. We leased 43,344 square feet for a 5-year term with Moody's Investor Service, and 20,664 square feet for a 15-year term with the office of Thrift Supervision, a division of the United States Treasury Department. The Moody's lease was actually the largest lease signed in the Jersey City waterfront market so that are this year. So you can see, there really hasn't been much activity from large users in this market.

In general, the markets remain highly competitive. Rents in our core Northeast markets, which make up almost 92% of our portfolio's base rent, declined by 3.9% this quarter, the same as last quarter. Rents in our much weaker noncore Southwestern and Western markets fell by 28.1% compared to 20.8% last quarter, resulting in a portfolio wide roll down of 10.6%.

Although it's still a tenant's market in most areas, we believe we've seen the worst of it. At least in terms of rent pressure and sublet pressure. We continue to work diligently to keep our tenanting cost in check, and our TIN (ph) commission cost were down this quarter, at $2.49 per square foot per year, versus last quarter's $2.73.

Job losses and business failures are abating, and the high credit quality of our overall tenant base remains very high. Our credit losses remain quite minimal during the quarter, at 28,528 square feet. At the end of the third quarter, our remaining rollovers for 2003 were just 2% of our portfolio's base rent, or $10 million. And for 2004, we're 7.4% of base rent, or $37.2 million. Very manageable.

Despite the challenging economy, our core Northeast markets are generally outperforming most other markets throughout the country because of their limited new inventory, high barriers to entry and diverse macro economies. In almost every one of these core markets, Mack-Cali continues to outperform the competition. With our performance in these markets exceeding the broad occupancy statistics by as much as 10%. And as a result, we remain very optimistic about our market position.

Now I'd like to take a moment and briefly review some of our third quarter activities. We continued to enhance our presence in the Northeast and mid Atlantic markets by acquiring three office properties, totaling over 202,000 square feet. We purchased 14 Commerce Drive, a 67,100 square foot building in Cranford, New Jersey for $8.3 million. Extremely well leased. 4 Century Park East, a 64,000 square foot building in suburban Philadelphia for $10.2 million, and 3 Odell Plaza-- 71,000 square foot building in our South Westchester Executive Park in Yonkers, for $6 million.

In the 3 Odell Plaza acquisition, we were able to accomplish a number of (inaudible) The seller of the building, the Schott Corporation, continued their relationship with us by moving to our 555 Taxter Road property in Elmsford, where it leased an almost 17,000 square feet for a ten year term. This allowed us to sign a larger lease at the acquired building to accommodate the expansion needs of one of our long time valued tenants, Montefiore Medical Center, which leased 44,590 square feet, for a 15-year term.

The most significant deal completed in the third quarter was the sale of the joint venture interests at Harborside Plaza 10, for $194 million. This 19-story building, which is fully leased to Charles Schwab, was not being marketed for sale, but we received two very attractive bids for the property.

As a matter of fact, the $194 million sale price was a record price per square foot for any building along the Jersey City waterfront, and frankly for any building in the state of New Jersey. And we believe it demonstrates the demand for top tier well leased properties in good markets. The sale of this building, Plaza 10 which cost us about $140 million to develop, generated net proceeds to Mack-Cali of over $162 million. By selling this property, we were able to harvest the significant value we created in developing and leasing this project.

And since we're still managing the property under a long-term management agreement, we're able to continue to maintain our strong franchise at Harborside Financial Center. We remain fully committed to the Jersey City waterfront market, and we own over 3 million square feet of Class A office space at Harborside today, along with a joint venture Hyatt Hotel and land to develop 5 million square feet of additional office space as demand calls for it in the future.

More recently, we received our fourth industry award this year with the office building of the year award presented by BOMA, Southern Connecticut for our Soundview Plaza building in Stamford. We had acquired this building in 2002 and made major enhancements to it in order to upgrade it to the Class A characteristic that is classic of Mack-Cali property. Earlier this week we also announced the sale of another non-core asset--Riverview tower in San Antonio Texas--for approximately $11 million. This sale was part of our ongoing program of selling assets in nonstrategic markets and we have sold over $500 million of wholly owned and joint venture assets in our noncore markets since we started this program in September of 2000.

Before I hand the call over to Barry, I'd like to add that we believe Mack-Cali's strategy is working well. Not only are we concentrated in markets that are performing better than others throughout the entire nation, but Mack-Cali is also outperforming the competition within those markets. In addition, we remain focused on securing long-term leases with credit quality tenants and of course, maintaining a very strong balance sheet that allows us the capacity to take advantage of strategic opportunities.

And now Barry will review our financial results for the third quarter. Barry?

Thank Mitchell. Funds from operations available to common shareholders for the third quarter of 2003 amounted to $69.6 million or 96 cents per share as compared to $72.6 million or a $1.01 per share for the same period last year. For the nine months ended September 30th, 2003, FFO amounted to $209.2 million or $ 2.91 per diluted share, as compared to $213.5 million or $2.98 per share for the same period last year. Net income available to common shareholders for the third quarter was $50.4 million or 84 cents per diluted share versus $34.2 million or 59 cents per share for the same quarter of last year.

For the 9 months ended September 30, 2003, net income available to common shareholders was $114 million or $1.96 per diluted share, versus $109.9 million or $1.91 for per share for the shame period last year. Our most significant transaction during the quarter was the company's sale of its interest in American Financial Exchange. Our joint venture with Columbia development which developed the Harborside 10 property that was preleased to Charles Schwab.

We received net proceeds of $162 million in the transaction, and recognized a gain of the sale $23 million. Parking and other income in the quarter included $1.7 million in development relate fees from the Plaza 10 project. Also in the quarter the company recognized $1.5 million in lease termination fees. On the expense side, G&A for the third quarter included $1.7 million in costs related terminated pursuant of.

Same store net operating income, which excludes lease termination fees on a GAAP basis decreased 3.6% for the third quarter of 2003 as compared to the same period in '02, and for the 9 months ended September 30, '03, decreased by 2.8%, as compared to the same period last year. Same-store net operating income on a cash basis decreased 3.9% for the third quarter of '03 as compared to the same period in '02 and for the 9 months ended September '03 decreased 3.2% over the same period last year.

Our same store portfolio includes $25.2 million square feet, which represents about 92.6% of the portfolio. We finished the quarter with no outstanding borrowings under our $600 million unsecured credit facility. Our unencumbered portfolio at quarter end totaled 236 properties aggregating 21.6 million square feet of space, which represents slightly more than 79% of the portfolio.

At quarter end Mack-Cali's total undepreciated book assets equaled $4.2 billion dollars, and our debt to undepreciated assets ratio was 39%. For the quarter and the 9 months ended September 30th of '03 the company had interest coverage of 3.4 times and fixed charge coverage of 2.7 times. We ended the quarter with a total debt of $1.6 billion, which had a weighted average of 7.1%. Please note, under the Securities & Exchange Commission regulation G concerning nonGAAP financial measures such as funds from operations, we are required to provide an explanation of why we believe such measures are relevant and reconcile them to income.

Available at our Website at www.mack-cali.com are our 10-Q supplemental package and our earnings release, which includes the information required by Reg G. Now Tim will cover our leasing activities. Tim?

Thank Barry. At September 30th our consolidated portfolio is 90.7% leased, compared to 92.2% at June 30th. .As Mitch mentioned, all but 0.2% of the 1.5% drop in space lease is attributable to incorporating Harborside Plaza 5 into our leasing statistics. During the quarter we signed 183 transactions totaling over 1.2 million square feet. These transactions produced retention of 64.5% of expiring space.

First rental rates payable subsequent to any concession period decreased an average of 10.6% over the expiring rental rate, including all escalations. TIs plus leasing commissions averaged $2.49 per square foot per year of lease with an average term of 6.7 years. Further details on our leasing activity can be found in the supplemental package on our website. Our market information is provide provided by Cushman and Wakefield, and unless otherwise noted we’ll discuss overall Class A vacancy rates and direct Class A average asking rents.

Now I'll turn you over to Michael Grossman for a review of the Westchester And Fairfield County markets.

Thanks Tim. Westchester County leasing results for the third quarter indicate a slight setback in net market’s Recovery, while Fairfield showed modest positive absorption--an improvement from the second quarter.

On the whole leasing activity was relatively quiet. Overall Class A availability in Westchester grew from 19.4% in the second quarter, to 20.5% in the third. However, this percentage is down from a high of 21.6% in the first quarter. Available subleased space increased by own 28,000 square feet, or 3.6%, to 809,000 square feet in the third quarter. Sublet space represents just under 20% of the overall availability in Westchester. Mack-Cali's properties, which include 2.1 million square feet of office, 2.3 square feet of office flex, and 387,000 square feet of industrial space, finished the third quarter 95.6% leased. Remaining lease expirations in 2003 comprise 2.3% of our total Westchester inventory.

Fairfield returned the positive absorption in the third quarter. Overall Class A availability declined from 20.5% to 19.9%--nearly equal to the rate at the end of the first quarter. Sublet space announced to just less than 35% of overall availability--down slightly from the second quarter. Mack-Cali's Fairfield properties, comprising 579,000 of office space, and 273,000 square feet of office flex space ended the second quarter 90.8% leased. Leases expiring during the balance of the year comprise 1.3% of this portfolio.

Net direct absorption totaled a positive 58,000 square feet in Fairfield. In Westchester, net direct absorption was a negative 170,000 square feet. Fairfield Class A average asking rents further declined from $30.34 in the second quarter to $29.33 per square foot in the third quarter. Average overall asking rents in Westchester also declined by just over $1.00 per square foot to $28.53. Mack-Cali's leasing activity within the region was strong in the third quarter. Through the efforts of our leasing team and our early renewal strategy expirations within Mack-Cali properties for all of 2004 represent only 7.7% of our New York/Connecticut inventory.

Noteworthy transactions in the market for the third quarter included MRM (ph) advisors which took, 123,000 square feet at One American Lane in Greenwich Connecticut; Argent Mortgage Company, taking 90,000 square feet at 333 Westchester Avenue in White Plains New York; Penntegra, which leased 30,000 square feet at 108 Corporate Parke Drive also in White Plains, and AQR, which took nearly 22,000 square feet at 2 Greenwhich Plaza, in Greenwich Connecticut in a relocation from New York city.

Significant Mack-Cali transactions for the quarter included, Samor (ph) Laboratories, which renewed on 122,000 square feet in Elmsford New York, Montefiore Medical Center, which leased 44,590 square feet in Yonkers New York, in our newly acquired property at 3 O’Dell (ph) Plaza; and the Artina Group which renewed 22,000,000 square feet in Elmsford.

While the third quarter results lacked definitive signs of recovery in the northern suburban markets we believe their relative stability suggests some grounds for optimism as we learn of improved economic indicators. We believe competing sublease space will continue to diminish, as remaining shrink and less lease space is put on the market. The region's increasingly economy and broadened tenant population, provides a basis on internal growth, making the region much less dependent on a few large corporations and therefore less vulnerable to corporate downsizings.

These factors coupled with virtually no new construction should assure that any increase in demand for office space would quickly result in positive direct absorption. Westchester County and particularly White Plains will soon benefit from the completion of major investments in housing and retail development, which are resulting in positive publicity and increasing commercial activity. Also continuing improvements to the I-287 highway corridor promise less commuter congestion upon their completion next year.

This will enhance the county's perception as an accessible location within the metro area for back office uses and implementation of office dispersion strategies. Tim?

Thanks Mike. In Northern New Jersey, Class A overall vacancy increased from 17.8% to 18.7%, and asking rents dropped to an average of $29.49. In spite of the rise in Class A vacancy, the market as a whole has maintained a 17.3% availability rate since the fourth quarter of 2002. Looking at some of the major Northern New Jersey submarkets, Morris County’s Class A overall availability increased from 22.2% to 23.1% this quarter, although vacancy for all classes is also unchanged at 22.2% since year end 2002.

Availability in Bergen County is 20.9%, essentially flat since the second quarter. Subleased space still represents 35% of the space available in Bergen County, where the Class A direct vacancy is only 13.6%. Hudson County’s Class A vacancy increased from 14.6% to 15.8% this quarter. Mack-Cali’s 9.4 million square foot inventory in Bergen, Hudson and Morris Counties makes up almost 40% of our square footage and annualized base rents. The Class A overall availability in these three markets averages 19.9%, while our properties in these markets are over 91% leased.

Central New Jersey's overall class A availability dropped from 27.1% to 26.4% this quarter. Direct vacancy dropped from 16.1% to 15.4%. So although there's still a large amount of sublease space on the market, conditions seem to be stabilizing. Rental rates remain unchanged at $28.21 per square foot. Mack-Cali's central New Jersey presence is 2.8 million square feet, which is 93.6% leased.

There have been no new significant construction starts in Northern and Central New Jersey in 2003. The 2.7 million square feet under construction represents less than 2% of the 170 million square foot market, and all about 71,000 square feet of this space is leased. Suburban Philadelphia vacancy rate increased from 21.3% to 26.3% in the third quarter. This was largely attributable to 450,000 square feet of new space delivered this year with very little preleasing, and to Wyeth's relocation from 735,000 into a recently completed facilities on its campus in King of Prussia. Another 750,000 square feet are currently under construction with most of it unleased which should continue to put pressure on this market in the near future.

Our office hold beings in this market include 2 million square feet of office space in southern New Jersey and suburban Philadelphia, and 1.4 million square feet of office flex space in Southern New Jersey. These properties were 86.4% leased in the end of the third quarter.

In Washington, D.C. speculative construction deliveries caused an increase in Class A vacancy from 8.4% to 10.4% this quarter, but vacancy from all classes remaining stable at 6%. Class A rates climbed to record level of $47.21. The market is still quite healthy with the federal government law firm based tenant pool providing a steady demand for office space.

Mack-Cali's 328,000 square feet in Washington are 96.3% leased. In our major markets outside of the Northeast, Dallas nonCBD vacancy rose from 25.2% to 25.4%, with rents at $21.00. Denver's suburban vacancy rate dropped for the fourth consecutive quarter from 24.2% to 23.4%. Asking rents in Denver average $18.17.

Lastly, San Francisco's vacancy ready dropped for the first time since the first quarter of 2000. It now stands at 22.7%, with rents averaging $29.76. Although class A vacancy rates increased in several of our core markets there have been no new construction starts and the supply side of the market has largely stabilized. We were able to complete over 1.2 million square feet of transaction despite these market conditions through the good efforts of our staff relationships of our senior executive management with tenants and the quality of our properties.

Mitch?

Thanks Tim. Operator, I'd now like to open the floor to questions.

(Operator’s instructions) Your first question comes from John Litt with Smith Barney.

Good morning, it is Gary Boston with John. The question I was focused on was the '04 guidance, and just some of the key assumptions that you're making in getting to that guidance. Specifically, I guess, in the redeployment of the Harborside sale proceeds.

Well, hi, Gary, this is Mitch. Hope all is well. The guidance reflects first of all, with regard to the redeployment, obviously just as a general statement, acquisition opportunities today are few in number. By virtue of the significant A capital that is chasing hard asset classes. And so it certainly is a challenge to find value-added and incremental acquisition opportunities, although as you can see from this past quarter, our strength of franchise in a number of markets has permitted us to take advantage of several opportunities in Philadelphia, Westchester and New Jersey.

Having said that, the relative to Plaza 10, we feel that it's in range. We also have some debt instruments that are expiring in March. We have a $300 million senior unsecured tranch that expires, and that is a 7%, 7.2% piece of paper. So if you just look at the arbitrage difference of not replacing a portion of that debt, it kind of equivocates with the loss of income on the Plaza 10 building.

So just simply by using the proceeds to maintain, sort of a leverage-neutral basis, and not doing another $300 million tranch, when that expires in March, we've kind of done a neutral arbitrage.

Well, that's really delevering though? If you're taking the proceeds to pay off the debt, you're delevering?

We would in fact be delevering which is you know a good thing.

Do you see being able to put the 160 back to work by year end next year?

I think that we're going to have a number of opportunities to certainly make a very big dent in that. Things that we're working on right now. And also, I think that as we move through the year, while we're not seeing much leasing velocity today, in terms of demand, we're seeing more stay in place and flight to quality.

Hopefully, some of the anecdotal evidence that we've seen recently, yesterday Dendrite making a major expansion of their software pharmacology business. In Morris County, yesterday as well--Verizon announcing an additional 250 employees in the call center that we built for them. In Hamilton Townships, so that's 250 jobs not moving to India which we think is a good thing. And so we've projected modest occupancy increases over the course of 2004. And having said all of that, I think we've taken a very conservative approach to our modeling and to our guidance.

All right. So you're assuming that the redeployment is back end loaded next year or you're assuming it is not all fully redeployed?

Well, it's hard to tell whether we will fully deploy it. We are considering or assuming that it would be back end loaded.

But you made assumptions in coming up with your '04 guidance?

Yes. And we expect that a significant portion of those proceeds will be redeployed to the -- towards the end of 2004.

Right. And maybe just to go over Harborside 5 again, 56% occupied. What is your expectations on where that will be a year from now?

It's 58.3% occupied. And I wish I had a crystal ball. But I will tell you that we are seeing a little more activity in the market. –Smaller users are certainly looking at the building--the fives to tens. We have a couple of floors that we can easily break up, in fact we are doing that because they represent expansion space for some of our existing tenants in the building. So the time frames, the windows work out well. There is some general discussion about a couple of financial service businesses in Manhattan that are seriously considering consolidations and distribution of their workforce.

They in fact were looking at that around September 11th of 2001, and obviously, many of those plans got put on hold, until the world regained its footing certainly from an economic perspective. So we're assuming that through 2004, that we will be at 70% occupancy. And hopefully, we'll do better than that. But based on the current level of activity, that's what we're thinking.

No, no. I think you've got the balance of it. The only other question is, Barry, I didn't catch the amount of interest that you're capitalizing on Plaza 5 before it came into the portfolio.

On Plaza 5 we had been capitalizing roughly about a third of the cost for interest and taxes related to that building. Which we ceased capitalization of September, beginning of September. You know, it was probably in the range of a couple of pennies a quarter, couple or three cents a quarter prior to that.

Great, thanks.

Your next question comes from Dan Oppenheim with Banc of America Securities.

Thanks. Was wondering, actually following up on that. When you talk about the 2004 guidance you're talking about an assumption of modest occupancy increases over the course of the year. I'm wondering if you can just talk through that again. Is that something that will be back-end loaded? Or is that something where you think we could actually start to see some improvement earlier in the year?

Well, I certainly hope that we can see improvement earlier in the year. But from the perspective of our guidance and our projections, we back-end load it almost in its entirety, occupancy gains within the portfolio, into the end of the third and the fourth quarter of next year.

Okay. And then in terms of the Jersey City market, have you seen any impact from potentially more aggressive subleasing efforts there following the sale of 10 Harborside?

Not really. I mean, they have done some pre-built units within several of the floors, or at least one of the floors within that building. And there were several deals announced in the 3,000 square foot to 4,000 square foot range.

My general reaction, and I see this almost on a daily basis from prospective tenants and their brokers, is that there is still a large propensity to want to do direct deals with major landlords who can support their expansion, their contraction, their flexibility, their growth, et cetera.

And so while certainly having developed Plaza 10, it's a world-class facility, we still think that we have a real competitive advantage in that market.

Okay. Thanks.

You're welcome.

Your next question comes from Carey Callaghan with Goldman Sachs.

It is Nora Creedon (ph) here with Carey. Plaza 10, you don't control the building anymore but you're still involved in managing. What does that mean from a leasing perspective from that building?

We are not involved in the leasing of Plaza 10. The Schwab organization has hired an exclusive agent, Cushman and Wakefield to do that for them. We manage, we are the property-specific managers of that asset. And it will generate a very nice level of fee income for us, but of equal importance is the fact that we're identified and continue to be identified with the building as part of our presence in Jersey City. So, we think that there is an intangible value to that as well.

Okay. And Barry, just a couple of minor issues. The 20 basis point decrease in occupancy in the core portfolio, excluding Harborside 5, does that include the loss of the Fuji (ph) space in Westchester or-- ?

Yes, it does. This is Mitch again. It does include the loss of Fuji. And just -- oh, yeah, I'm sorry. The expiration of that date was 10-31. It does not include the expiration of Fuji but I do want to comment on that. We had 121,000 feet of direct space leased to Fuji and 31,000 feet of that space has been absorbed, as well as another 18,000 feet in that building that was previously vacant. So we've made what I consider to be reasonable progress in a positive direction of absorbing space in that facility.

Okay. But absent any more activity in the fourth quarter there will be a modest occupancy down tick from that as well?

That's right.

Okay. And then just the last issue. On the joint venture assets, the Daly City building in the HPMC joint venture generated significantly less income this quarter relative to last quarter. Is there anything in particular going on there?

No, not -- nothing -- we have a -- we had a preference arrangement where we were getting a preference, we kind of burnt through that now and would expect very modest income from that project on a go-forward basis.

I'm sorry, one last thing Mitchell to make sure I understand correctly, on the proceeds from the Harborside building, your guidance does assume that you maybe redeem the 7% notes in early '04. That's what you're assuming?

Yes. The -- I mean, the assumption is that at least on a short term basis we would do that. So there might be a short-term delevering effect. Until we begin to redeploy those proceeds.

Okay. Great.

I also, if I may, I don't know if the question is going to be asked. But I just want to talk about the cash flow position of the company. Because I think, particularly in this kind of an environment, it's quite important.

We project that we will complete 2003 with free cash flow after having paid all of our capital expenses and dividends, with about $15 million of free cash flow. That would put us at a FAD ratio of about 84%. We project 2004 based on what we know today, and based on our leasing assumptions with all of the concessions and free rent, and everything else we see in the marketplace today of being in the $0 to $5 million range, and that's with some occupancy gains towards the end of the year.

So we will be spending money in refitting space in both leasing commissions and tenant improvement dollars. And so sort of a conservative estimate for us, finishing 2004, would be about a 95% FAD payout ratio in that $0 to $5 million free cash flow range. So we're in pretty good shape from a cash flow perspective in supporting our cost, expenses and our dividend.

Good, thanks very much.

You're welcome.

Your next question comes from David Shulman with Lehman Brothers.

Good morning guys. First question, could you update us on the Xanadu (ph) litigation?

Well, I can only tell you that there was a new litigation brought about two weeks ago.

I keep reading about this.

Well, it seems to be the same old story. We have put in our filings, some information pertaining to the litigation. The litigation is really, as you know, brought against the quasi judicial agency, which is in New Jersey sports and exposition authority. We and Mills are named defendants simply because we were the venture that was selected.

And essentially the litigation, as I understand it, challenges the authority of that agency to have -- to have awarded the process, and the state of New Jersey and the AG's Office is taking a very, very aggressive stance against that litigation. And that's pretty much all I can tell you. We're moving forward, both in our finalizing the redevelopers agreement with the authority and everything else we're doing as if the litigation doesn't exist.

Okay. But that's still trial court, the new one is at the trial court, right?

Yeah, I mean, it's in an appellate division.

It's now at the appellate division, okay. Next question is if I could walk through some numbers and then I'll ask you a comment. From page 39 on your supplemental. Quarterly leasing for the three months ended 2003. And there you have a line, office leasing, you show you did deal weighted average term on office of 6.5 years, all the regions, weighted average base rent of $29.83, and leasing cost of $3.23 per foot per year of term, right? And if I could do some simple minded arithmetic, if you assume $7.00 of expenses against that, would that be a reasonable number? Against the $21 of rent?

Yes. I would say that that's probably a reasonable number on a gross lease.

On a gross lease, right. Because I'm assuming though are gross rents, the $20.89, right? Are those gross or net numbers?

Yeah, but there's a combination of leases there, gross and net.

Okay, I'm using office. Well, if you do it, is it mostly gross? Because this is nontrivial distinction.

I think that's certainly a fair assumption.

Mostly gross, I'm just using the office, not using the warehouse or office flex, which you may have more net type leases.

If you look at it that way and the TI if you multiply it out the total TI is $21.00, which is just $3.23 times 6.5. And the value of the net lease if you assume $7 of expenses you get something like $90.00 of total rent over term. The $21.00 expenses is basically 23% of the deal you're paying up front to do it.

Now my question to you is when do you think that 23% would go down to a more normal 10%?

That's a very interesting analysis. I guess, we look at it is if you average $14.00 or $15.00 net rents on average in the offices and you amortized the expense of $3.00 or your $21.00 a foot over the average term of the lease, at some reasonable rate of interest, it really would provide you your effective net rent.

If I wanted to put a discount factor then the net rent is even lower, that makes it even worse.

Well but --

Because you're putting the $21 up front to get to $90 later.

Um -- my answer is that probably 2006.

Okay. Okay. Because to me, this is sort of the core problem of the business right now. Is that in order to get tenants in you basically -- instead of having a 10% gap between net rent and cash rents there's a 20% gap. And that causes -- puts real pressure on everything.

Fair comment?

Yeah, I think it's a fair comment. But as a profit once said, a good building is a leased building.

In Denver there's some negative deals going on as you know.

I have to tell you something we haven't done one.

Good for you.

We built our occupancy in Denver-- As a matter of fact there was a newspaper article noting too long ago that identified us as one of the strongest franchises in the Denver market, where we own about 1.5 million feet. We have not done one negative deal. We have a couple that are close to break-even, but we have built our occupancies up from low 70s to 82 thrust percent now.

That's all I've got thank you.

Welcome David.

Next question comes from Lou Taylor with Deutsche Banc.

Good morning this is Chris Capalongo (ph). Jersey City versus Harborside and downtown Manhattan, who do you think is doing more Jersey governmental authority or those in New York?

You're talking about the incentive programs?

Yeah.

Well, I think that New Jersey and the administration certainly understood the need to maintain, you know, strong incentives, particularly in the face of, you know, the pension for distribution, you know, of a workforce and a dispersion of a workforce, and the S.E.C. and FASB is concerned and the white paper, and make sure you had business interruption plans and so forth.

So, I think they responded to that well in reinstating the business employment incentive program. And of course, Jersey City has inherent incentives through no sales tax because it is an urban enterprise zone for corporate FF&E, no wage tax, no income tax, that is city specific, and the list goes on. So I think it has always had a favorable cost of occupancy in contrast to lower Manhattan.

There have been deals done recently of magnitude in lower Manhattan, some law firms and financial service firms that were really were, in my view, the absorption of sublet space than direct absorption. And so those were very economically attractive to tenants who didn't really have a need, specifically, to deal with some of the issues of distribution of their workforce, the things I mentioned when I first responded to you.

As far as being aggressive, it's always difficult to compare sublet versus direct. The rents in Jersey City moved from the high 30s in the time frame that immediately surrounded September 11th of 2001, to the -- around the high $20s to a $30.00 number, depending on lease term, the amount of TI, et cetera, today. And that's where we're cutting deals.

And our deals generally have 1.5% to 2% annual stepups. So you know, there's an upside and a bright side to the rents. Manhattan's been aggressive, not nearly as aggressive as the immediacy following September 11th. Recently there was a denial, I know in midtown there was a denial of liberty bond funding for a private real estate transaction, which I think kind of sets the tone that there's going to be a much stricter policy going forward in terms of granting, you know, the FEMA funds to entrepreneurial and private development.

There is a big question, of course, as to what will occur on the World Trade Center site and what will happen to the Port Authority and Silverstein (ph) over time. But the one thing we continue to see, and saw it recently as yesterday with somebody looking at Plaza 5 is that there continues -- even though it might not be as outspoken as it was following that terrible tragedy -- there continues to be a concern about the distribution of workforce issue.

Turning to Harborside 5, does the recent leasing put the property on a break-even on an NOI basis or do we still have a little bit to go for that?

We project that at about 60% we're break-even. So we're just about there.

Okay. And then just in terms of the accounting for the sale, was it not included in discontinued operations because you still manage it and technically it's a continuing ops?

The reason it's not concluded in discontinued operations is because as yet we didn't own the building as part of the wholly owned portfolio. It was owned through a joint venture which we had a joint venture interest in. What we sold was our interest in the joint venture.

Okay. Thank you.

You're welcome.

Your next question comes from John Lutzius with Green Street Advisors.

Quarter to quarter volatility, in other words what is your sense of the trend in capex per year?

I think, John, that the concession packages are beginning to stabilize, as rents are beginning to firm in markets. I think, it's my impression based on what we're seeing in the markets, we're kind of rolling along the bottom now, so I think that the capex, other than for extraordinary long term, you know, deals will kind of normalize at this level.

Okay. There was an announcement I guess a week or two ago regarding Merck and some job cuts, some significant job cuts. Can you just maybe make a couple of comments on the pharma sector in your region? Is it growing, is it shrinking?

I think that the pharma industry is, you know, maturing. And we've seen a lot of consolidation and business combinations. But it's still a vitally growing component of our economy, and certainly our, microeconomy, if you will, in this region. Yesterday in addition to the Dendrite announcement which is a pharmacology and pharmaceutical based information technology company, taking a substantial-- 233,000 feet of space in Morris County, Pfizer announced the taking of an additional 113,000 square feet in Morris County.

So we continue to see expansion in that core group. We've also seen an expression of interest on the part of venture capital firms, that has been reported on a weekly basis through some of the reporting agencies including New Jersey Business, where there's a lot of funding for biotechnology, and life science type startup companies. The smaller companies that are beginning to proliferate surrounding the pharmaceutical industry.

So in general, I think the tone is positive. Certainly, it wasn't pleasant to read Merck's announcement. It has basically a very self-contained campus in white house station, outroute 78. It is magnificent frankly. And they announced you know potentially a thousand jobs being affected throughout the state.

It's not a good thing certainly. Will that impact on the general real estate markets? Probably not. And so, I don't see sort of an overwhelming negative trend. If anything it's quite the contrary in the pharmaceutical industry.

Okay, thanks. Regarding the Path Station (ph) opening this month, will it be full operations as compared to past service or will there be is the traction at that?

No, the full Path operation is beginning on November 23rd through the trade center. At some point in the future, they will as part of the architecture and the concept of rebuilding the Trade Center site rebuild that station once again. But this will be fully operational.

Okay. And then just last question, regarding Harborside 10. As I understand it, when you folks had over of Harborside 10 there was substantial restrictions on Schwab with respect to their ability to sublease the space. Do those restrictions remain in place or is it, with the sale, kind of anybody's game now?

Well, no. The restrictions don't remain in place as a result of the sale. The absolute answer is that it is anybody's game. But as I said before, the reality is that you know, there is a desire generally, particularly on the part of larger tenants, to do business directly with the landlord. And you know, we think we're going to continue to see the benefits of that.

I mean, some of the tenants that are looking in the market now are very focused on Plaza 5. And we think that as -- as demand strengthens a little bit and as there are better signs in the economy or some sustained signs of improvement those leasing restrictions really won't be effective, or help them lease up any sooner.

Okay. Thanks Mitch.

You're welcome John.

Mr. Hersh, we have no more questions in queue.

Okay, operator, thank you very much. While I want to thank all of you for joining us on today's call, we certainly look forward to reporting to you again next quarter on our continued progress at Mack-Cali. Thank you again. Good day.