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Federal Realty Investment Trust (NYSE:FRT)

Q3 2009 Earnings Call

November 5, 2009 11:00 am ET

Executives

Gena Birdsall – Investor Relations Coordinator

Donald Wood – Chief Executive Officer

Andrew Blocher – Chief Financial Officer

Jeffrey Berkes – Executive Vice President, Chief Investment Officer

Chris Weilminster – Senior Vice President – Leasing

Analysts

Christy McElroy – UBS

Paul Morgan – Morgan Stanley

David Wigginton – Macquarie Research Equities

Craig Schmidt – Bank of America Merrill Lynch

Alexander Goldfarb – Sandler O'Neill & Partners

Michael Mueller – JP Morgan

Richard Moore – RBC Capital Markets

Nathan Isbee – Stifel Nicolaus

Jonathan Habermann – Goldman Sachs

Ross Nussbaum –UBS

Christopher Lucas – Robert W. Baird & Co.

Operator

Welcome to the third quarter 2009 Federal Realty Investment Trust Earnings conference call. (Operator Instructions). I would like to introduce the conference leader, Ms. Gena Birdsall.

Gena Birdsall

I'd like to thank everyone for joining us today for Federal Realty's Third Quarter 2009 Earnings conference call. Speaking on the call today are Don Wood, Andy Blocher, and Jeff Berkes. These and other members of our management team are available to take your questions at the conclusion of our prepared remarks.

Our third quarter 2009 supplemental disclosure package provides a significant amount of valuable information with respect to the Trust's operating and financial performance. This document is currently available on our Web site.

Certain matters discussed on this call may be deemed to be forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include any annualized or projected information, as well as statements referring to expected or anticipated events or results.

Although Federal Realty believes the expectations reflected in such forward-looking statements are based on reasonable assumptions, Federal Realty's future operations and its actual performance may differ materially from the information contained in our forward-looking statements and we can give no assurance that these expectations will be attained.

This is inherent and these assumptions include, but are not limited to, future economic conditions including interest rates, real estate conditions and the risks and costs of construction. The earnings release and supplemental reporting package that we issued yesterday, our annual report filed on Form 10-K and our other financial disclosure documents provide a more in-depth discussion of risk factors that may affect our financial condition and results of operations.

I'll now turn the call over to Don Wood to begin our discussion of third quarter 2009 results. Don?

Donald Wood

Both retail consumer behavior and the debt and equity capital markets we're operating in have regained a sense of stability in the third quarter that'll likely prevail through the end of the year. While you shouldn't confuse stable with robust or even growing, the word predictable has resurfaced in our business dealings, after having been completely absent for most of the past year and that's a good thing.

We're very pleased with Federal's performance in the third quarter with reported FFO per share a solid $0.92, despite $400 million in cash sitting on the balance sheet earning very little. Andy will talk more about that in a minute.

The occupancy levels have stabilized for the time being, as the portfolio was 94.2% leased at September 30th and 94.0% leased three months ago. That stability occurred after six consecutive quarters of declines dating back to the fourth quarter of 2007. At that time, the portfolio was 96.7% leased and so has declined 270 basis points over those 18 months. In terms of physical occupancy, the portfolio is 93.1% occupied.

We'll see what happens after the holiday season, but the possibility of a continued drop in occupancy by another 100 basis points or so in 2010 is still very much a possibility, given the lack of signs of a broad recovery in tenant sales levels and our unwillingness to do uneconomic deals for the sake of short-term occupancy gains.

As you think about those occupancy numbers though, consider that Federal same center operating income has not declined over that period of time. Think about that for a minute. For the quarter ended December 31, 2007, seven quarters ago, when the portfolio was 96.7% leased, Federal reported same center property operating income of $85.4 million, which by the way was 4.2% higher than the previous period.

In the current quarter, with the portfolio leased at 94.2%, we're reporting property operating income from those same properties of $89.5 million. That's because even with substantially more vacancy, rollovers in new deals in this portfolio have more than compensated. If you think about that, it's remarkable and a real testament to the quality of the real estate.

And as I alluded to earlier, I don't expect occupancy gains in the first half of 2010, primarily because I believe there will be additional fallout after the holidays. But certainly, at some point beyond 2010, this portfolio will again be 96.7% leased. And at an average rent of $22 a foot, that'll translate into incremental NOI of $9 million or $10 million.

Let's talk about leasing activity for a moment, 90 comparable deals, 335,000 square feet, $9.8 million of new annual rent replacing $9.0 million of prior rent, 9% more. Renewals made up about six in ten of the deals with new tenants comprising the other 40%. Of the 38 new deals done during the quarter, 2 were anchors, 29 were small shops excluding restaurants and 7 were restaurants. In other words, deals are still being done across a wide variety of retailers and sizes.

And this quarter, all three categories, anchors, small shop and restaurants showed higher rent from the new deals compared with the previous tenant overall. Having said that, pressure on both new deals and renewals remains as fierce as it's been over the past 12 months and there's no let up in sight. It is that mix of large rent increases from old expiring leases at great shopping centers, included with current re-tenanting of those centers that really is a major point of differentiation for Federal.

Compare this portfolio of older established shopping centers in great locations with newly developed shopping centers that were put in service over the last several years at then current market rates and built with then market construction costs.

It's certainly logical to assume that those newer centers generally have little opportunity for income expansion in this economy, and more likely contraction, and have a greater proportion of their tenant base who are less established, and therefore, have less flexibility with their own financial situations.

The established retail centers in great locations with strong existing population and income demographics should hold a serious advantage in times like these. And I think our performance is proving that to be the case.

Operationally, our business continued the second quarter momentum towards stabilization this quarter. Bad debt expense continued to drop as did requests for rent relief. We also continue to run this company very lean and accordingly, are one of the few companies to show modest to same center growth.

Now in terms of growth opportunities that'll allow us to exploit our strong balance sheet and platform, I'd love to tell you that we're finding great acquisition opportunities hand over fist, but that's just not the case yet. We're certainly looking at more product than we have in the past year, but to this point, nothing at the quality level of our portfolio, regardless of price.

We continue to expect some of the properties on our hit list to free up in the next year or so, as debt maturities force some action and sellers attitudes towards long-term value better correlate with the market. That's it for my prepared remarks and let me turn it over to Andy Blocher.

Andrew Blocher

I want to spend a few minutes first talking about the balance sheet and our liquidity position before discussing our outlook for the rest of 2009 and our initial thoughts on 2010. After that, I'll turn the call over to your questions.

With respect to the balance sheet, we're in an enviable position with plenty of cash to pursue acquisitions, appropriate levels of leverage and no debt maturities until 2011. We made great progress since four quarters ago, when I outlined our strategy for addressing the almost $400 million of debt that we had coming due in 2009 and what was becoming one of the worst capital markets environments any of us had experienced in our lifetime.

At that time, we discussed our willingness to pay a premium in the form of increased interest expense to raise capital earlier than it was required as financing insurance to limit the trust capital market's risk in 2009. Over this past year, we've learned a lot from a capital perspective, including our ability to successfully access all forms of capital, even in the most difficult of times, times when many other can't.

While capital market conditions progressively improved in the second half of the year, our concern over capital availability also drove our decision to opportunistically access both the unsecured debt market, with $150 million, five-year, 5.95% notes offering and the common equity market with a 2 million share offering in mid-August. Both transactions were manageable in size, strongly oversubscribed and executed at then market leading rates, once again reflecting strong support for Federal Realty's business strategy, management, and capital stewardship.

With the incremental $265 million raised in August, that brought our total capital raise to $800 million in 2009. Almost more important than the amount of capital raised was the form these transactions took, as we accessed all four of our major food groups, bank debt, unsecured debt, secured debt and common equity.

This is a balanced approach that investors come to expect from Federal Realty, an approach which maintains all of our key financing metrics, which in turn provides flexibility to access and repay capital, regardless of the economic climate.

As an example of this balance, the August common equity offering marks the sixth time that we raised common equity in the past seven years for a total of over $700 million. This is effectively a prudent dollar cost averaging approach which recognizes our inability to call market tops and bottoms.

With all of this capital raised at September 30, we had over $400 million of cash on the balance sheet, $275 million of net cash after taking into account the $124 million of 8.75% notes maturing in December of this year and no additional debt maturing until 2011. This cash was in addition to the $300 million at capacity on our credit facility, putting us into a fortunate liquidity position given the difficult capital markets at the time.

Our decision to raise our 2009 capital well in advance of our maturities was an appropriate decision given the marketing conditions as recently as 60 days ago. Since that time the capital markets have continued to remain open, providing far better visibility than we saw when we executed our unsecured debt and common equity deals in August.

While liquidity remains very important, in late October recognizing greater comfort with our ability to access capital, we utilized $100 million in cash to pay down the $372 million term loan, reducing the amount of our financing insurance. While the pay down of the term loan will reduce interest expense going forward, it did require us to accelerate the amortization of $1.4 million of debt issuance costs, a portion of the cost associated with executing that loan.

Those costs will be recognized in the fourth quarter. With significant cash remaining on the balance sheet, Federal Realty remains one of the small number of REITs that truly has appropriate leverage, limited near term debt maturities, and excess cash to pursue external growth opportunities.

With three quarters behind us and on the heels of a very solid third quarter performance, we're comfortable raising our expectations for 2009 FFO per share to a range of $3.75 to $3.77 as compared to the $3.72 to $3.77 range that we established after our capital raising in August.

This increase includes the absorption of $1.4 million of accelerated unamortized debt fees brought about by the $100 million term loan pay down, but of course excludes settlement and anticipated appeal costs associated with the Santana Row litigation that we estimated around $0.35 per diluted share for all of '09.

In addition, we're establishing our initial guidance for 2010 FFO per share of $3.80 to $3.88. This certainly isn't the 8% to 10% growth that we discussed historically, but demonstrates stable performance from our best-in-class portfolio. With an operating environment that remains pretty difficult, and 14 months until we close out 2010, we're certainly more comfortable with the lower end of our 2010 guidance range than we are about the midpoint.

The primary assumptions in our 2010 guidance are, marginally positive, same center property operating income growth both including and excluding redevelopments, reflecting flat, slight declines in occupancy that Don discussed throughout the year offset by a portion of our 2009 leasing activity being delivered in 2010.

Still too early to pin down the specific growth rates here, but we should have a better idea on February's conference call. We expect to continue holding the line with respect to cost control measures resulting in slight decreases in G&A from 2009 to 2010. About $5 million a quarter remains a pretty good run rate. We expect relatively flat interest expense in 2010 versus 2009 with no significant capital markets activities expected.

This excludes the approximately $2.5 million in fees that we paid in 2009 to execute the tender offer and pay down the term loan. Once again, we'll have significant cash balances and undrawn credit facility going into 2010, lower levels of interest income associated with excess cash as the rate assumptions of deposits are down reflecting current, lower current rates, and a higher-weighted average share count reflecting the full impact of the recent 2 million share offering in 2010.

Finally, our guidance reflects no acquisition volume, though candidly, we'd be disappointed if we weren't able to make acquisitions progress throughout the year.

Our continued long-term approach and proactive focus on everything we do from operations to balance sheet management has put us in a strong liquidity and capital position. We feel very good about the foundation we laid and how we're positioned for what lies ahead. That's what we have for prepared remarks. Operator we'll now open the call to your questions.

Question-and-Answer Session

Operator

(Operator Instructions). Your first question comes from Christie McElroy – UBS.

Christie McElroy – UBS

Andy, can you just reconcile for me what were the main drivers behind the increase in full year guidance especially given that it now includes that $1.4 million, that amortization cost?

Andrew Blocher

Well I think a good portion of it was a reflection of our better than the Street expectation performance in the third quarter. And we beat by a solid $0.03 and we're rolling that forward into our full year guidance.

Donald Wood

I'll tell you Christie, the biggest part of that really was, we had assumed that there would be more rent relief that lasted throughout this year than was the case. And I think we've been able to kind of navigate through that at least to this point better than we thought we'd be able to and so we had the room.

Christie McElroy – UBS

Then just following up on Andy's comments earlier, just kind of a broader question. After having been through the last year and experiencing what happened with leasing, with capital markets, how would you say your longer term approach to those leasing as well as balance sheet strategy have changed if at all.

Donald Wood

Well, I mean, it's still evolving. I mean there is no question the leverage that we have is just nothing compared to the leverage that we had 18 months ago, and I know that's stating the obvious, but it certainly means that with every deal that we negotiate, we're looking very hard at what we're doing for that shopping center for the long term, and when I say that I mean three, four, five, six years.

And so the economics are definitely not as good in the deals that we're doing, but we hold very, very strong in things like co-tenancy clauses and the non-financial parts of the deal and we won't waiver on that stuff and frankly, the quality of the portfolio allows us to get something for that.

So the answer is you've got less general renters in terms of numbers on the side and the deals are not as good. But because of the quality, we're seeing activity at deals that still make sense economically for Federal.

Christie McElroy – UBS

And then just lastly, regarding the 8-K you released yesterday, just wondering if you could walk me through sort of your thought process and tying [inaudible] to acquisition volume. There don't appear to be any economic or performance parameters around the acquisitions. Do you have any of those internally, and can you speak to those, and sort of what does it say about any changes to your acquisition strategy in terms of becoming more aggressive or changing your IRR expectations.

Donald Wood

Yes, I'm glad you asked that question. I really don't want you to read much into that deal at all. It will have absolutely no impact on the type of property, the amount of properties that we do at all. Here's exactly what happened; I really felt at this point that I wanted to make sure Jeff was here over the next three years. Jeff is a key part of this team and you really can't look at Jeff kind of independently.

He works with an investment committee that has been together for a long time.

So here's what happened. To lock Jeff down, he wanted some more upside as we all do when we negotiate contracts. If he is successful, if the company, frankly, is successful in being able to make some decent acquisitions over the next few years, Jeff's going to make a little bit more money. And so it was really an economic deal much more than a strategic deal. And it was just between me and the Chief Investment Officer of this company that we really wanted to retain, so nothing more than that.

That's the deal that he negotiated. When you put it in the context of how the investment committee works at Federal, there are seven people that have to approve deals, it's not going to in any way result in the diminution of the quality or the type of product that we've kind of shown you what we've done over the past five, seven years.

Operator

Your next question comes from Paul Morgan – Morgan Stanley.

Paul Morgan – Morgan Stanley

You mentioned you expect some fallout after the holidays. I mean could you just maybe provide a little color there? Are there segments that you're particularly worried about that you see things happening after at the beginning of next year or maybe just a little more color on that comment?

Donald Wood

Let me give you a general point. Chris Weilminster here, who runs leasing for us, may want to amplify this as it goes. I think what I'm talking about is plain old general, prudent business judgment that has certainly seen a reduction across the board in tenant sales levels. We know that inventory levels will be generally very low through the holiday season.

It really had been very little signs of an improvement. And so for those companies, and it's not really specifically category related at all, but for those retailers that have been unable to reduce costs, change the product mixes, figure out how to do business well in kind of this new world, they're not going to be able to hold on forever.

I wouldn't expect those merchants to give up in October, November, and December, but in some cases they're not going to be able to hold out in January, February, and March. So it's kind of a broad comment in my view at least, more than specifically looking at a particular retailer or even a specific category. I don't know Chris if you have anything to add to that.

Chris Weilminster

Yes, I think Don really answered the question very well from our perspective. It's very competitive out there, and if you're not on top of your game, I think after the holidays, the weaker players are going to have some real struggles and we're going to see some fallout.

We don't know who they are, but I agree with Don whole heartedly. I don't think you can nail a specific category, I think its broad based and it's going to be based on the retailers that are not performing or that are not competitive in their specific categories.

Paul Morgan – Morgan Stanley

That expectation is budgeted in your positive same-store NOI outlook for next year?

Donald Wood

Yes. And that comes down to the major point of this company. There's a lot to be said for old leases and high quality properties that are not necessarily out in the new housing markets that are really in [inaudible] locations. And so we should still see the ability to create more value with existing leases offset by a net reduction in occupancy probably.

Paul Morgan – Morgan Stanley

My other question is just about cap rates. There's been a lot of discussion this quarter about cap rate compression and I just wanted to get a feel for what you're seeing in terms of the few deals that are out there and how much things might have come down over the past three to six months.

Don Wood

Jeff, you want to take it? As you know, Jeff is our chief investment officer.

Jeffrey Berkes

You're right. There's been a few deals that have happened, and I think that's great for a number of reasons. One, anybody that's sort of been sitting on the fence afraid to sell because they didn't want to be the first mover, that's kind of taken away now and hopefully that will allow some more transactions to happen as we move into 2010.

But two, I think the pricing on the deals, and I'd hesitate to draw too many conclusions because it is just a very small sample of transactions, the pricing has actually been fairly good and whether or not that's better than expected kind of depends on who you're talking to.

I wouldn't really say that there's been cap rate compression because there really weren't any or many deals three, six, or nine months ago to compare the current deals to, right? So it is a little bit better than what everybody expected probably. I think that that's actually great for the market because I think it will get, like I said earlier, more people eventually to sell.

And as it relates to us, as Don said earlier, we're not under any illusion that there's going to be a ton of properties out there to buy where we can immediately see how we're going to grow the NOI of those properties.

So we're going to be very, very selective about what we buy. And we're going to buy properties where we think we're not going to be swimming upstream against declining NOI for the next three, four, five years. We're going to buy assets where, when the economy recovers, we think we're going to be able to add the value. And quite frankly, we've seen precious few of those deals in the last 18 months. So I think we've still got a long ways to go.

Operator

Your next question comes from David Wigginton – Macquarie Research Equities.

David Wigginton – Macquarie Research Equities

Don, historically, you've, Andy, I think you've said this as well, you wanted to raise capital when you had a relatively immediate use for it so as to be as efficient as possible in your capital raising. What was different this time around with the capital raises in August?

Donald Wood

Let me start Andy. Andy's dying. He just moved up to the phone, Dave. He's ready to take it. But, let me say one thing first. Everything was different in 2009 in total – absolutely everything. And listen, the uncertainty that started in September of 2008 in the capital markets and worked our way through the first part of this year wasn't completely abated in July and August, at least from our point of view.

And so the idea of being able to test the waters and make sure that we could prove our own thesis, that varied capital markets, unsecured, secured, bank and equity were available to us was a very important part of us determining how we're going to run this place for the next three and four years.

And even before we pay back $100 million of the term loan which we just did a couple of weeks ago, we would not have done that had we not had more visibility and more comfort as to our ability to raise capital.

And so I think, of course, in a perfect world, you raise money with the use, you put it to work. And that, in a more normalized situation, is how we'll always run the company

But when you look at September of 2008 through today even or certainly through September of 2009, understanding where those limitations were for us was a very important part of our business plan going forward. I hope that helps, Dave.

David Wigginton – Macquarie Research Equities

And the uncertainty you referred to is abated in your view now?

Andrew Blocher

Yes, Dave, to some extent. That's why, as an example, yes we've got a fully undrawn $300 million credit facility at a very cheap rate. But we're still going to hold after the pay down of the 8.75 notes on December 1 and this term loan pay down that Don talked about, we're still going to hold $175 million worth of cash on the balance sheet. I think that that's the prudent approach right now.

I don't think anybody is sounding the all clear that everything is fine and everything was the way it was back in '07. So it's just a matter of appropriately managing our risk and the pay down of the term loan was really a recognition of the fact that we had financing insurance and we were just cutting back, not eliminating, the amount of financing insurance that we had.

Jeffrey Berkes

Dave, if there's one word you should put next to this company every single time, it's the word balance. And it's a completely balanced approach that tries to keep us in the middle of the river and not to either shore.

David Wigginton – Macquarie Research Equities

I have a question. Don, how would you classify the hit list you referred to earlier in the call as far as markets and maybe number of assets and what other earning portfolios that have caught your eye at this point?

Donald Wood

Yes, sure. Our hit lists are something we've maintained here for years and they're kind of a living, breathing, dynamic thing as we learn more about what's going on at the individual property levels in each of our target markets, but roughly speaking it's an excess of 100 million square feet of property. I think it 600 properties roughly.

And we work that list daily, basically, and properties come on, properties go off. But it's a fairly deep list of assets that when we get all the information on the asset, the rent roll, the tenant sales, and all that kind of stuff, assets that we think would help us grow the company.

David Wigginton – Macquarie Research Equities

And are any of those in markets that maybe you're not in right now?

Donald Wood

No. It's where we are. We may mess around the edges a little bit there when you think of the Charlottesville area that we're in today and going a little further south maybe into Raleigh-Durham. In fact, I'm sorry I even said that because you'll write that and now you'll hold us to that, so please don't do that. It's basically the markets were in, but around the edges of that you may see a little expansion. It depends.

Andrew Blocher

Yes, we're not looking at Dallas, Des Moines, and Denver. We're sticking to the coast.

Operator

Your next question comes from Craig Schmidt – Bank of America Merrill Lynch.

Craig Schmidt – Bank of America Merrill Lynch

Given the greater stability and I guess predictable nature of the marketplace right now, are there any of your 17 redevelopment projects that you might want to start kick-starting?

Donald Wood

I'd have to say, and this is an individual-by-individual assessment there, I think we need better visibility on retail demand before we do that. We're not going to spec them, and so the good news is there are opportunities within this portfolio that we are very actively working through at the early stages, some in the middle stages, etc.

But putting a shovel in the ground and creating new products without understanding the retail demand is probably not something you're going to see us doing. So I'd like to kind of defer your question until the next quarter and maybe two more quarters to give you a better answer to really see how the economy, and particularly in the markets that we're in, is it really bottoming out. And what kind of stability are we going to have?

We're having, during that time, very active conversations with the retailers that we do business with on a regular basis. They are certainly starting to stick their toe back in the water, but we need to make sure that the economics work. And I don't have enough visibility there yet.

Craig Schmidt – Bank of America Merrill Lynch

Thinking about the acquisitions you do, the sort of off-market and directed, I guess the 600 hit list, wouldn't you expect that market to open up later than maybe the more corporate-bided deals that are starting to emerge that those sellers would have to be maybe as comfortable as you need to be starting the before they would start want to sell a property.

Donald Wood

Jeff and I are going to have different views on this. He's looking at me shaking his head – I want to say something. So this is how open we are with you. So let me start, and yes, I'm going to take the risk that Jim is going to completely disagree with me.

Yes, I would think so. He was shaking his head no, so you'll hear from him in a second. I do think it will take longer. And the reason is the product that we want, the quality of the product that we want, the sellers and the owners of that product simply have more alternatives.

It's better products. They are not in the level of distress to the extent of the lesser properties, and so I think it will start later. The thing I want to add to that before I turn it over to Jeff though, never forget one of the key advantages of this company is that we're really not that big. It's 85 properties that we own. They're good, and to move the needle here we don't need the volume.

The idea of three or four shopping centers a year, maybe five, depending on what will happens, it's meaningful here. So we're not looking for the mass opportunities because there aren't mass opportunities in the quality of the product that we really want. Jeff, where am I wrong?

Jeffrey Berkes

Well, Craig, this might surprise you, but I don't really disagree with Don. I just think, look, Andy said this earlier, nobody's sounding the all clear signal yet. We are far from being out of the woods. There's still a lot of stuff that's got to be worked through with the banks and the special servicers, so on and so forth.

And I don't think anybody knows how that's going to unfold. So my answer would have been, it depends. It depends on a lot of things that I don't think anybody has a clue about right now. So we'll see, but I fundamentally agree with what Don said.

Operator

Your next question comes from Alexander Goldfarb – Sandler O'Neill & Partners.

Alexander Goldfarb – Sandler O'Neill & Partners

On earlier calls, you guys had spoken about how sort of the unseasoned tenants were having a bit more difficulty, those who had opened up recently. I just want to get an update. Are these tenants finding their footing, or are they still struggling?

Donald Wood

Yes, that's really a great point. You're not really talking to the best person to give you the best answer about that because we don't have a lot of it. When I've talked about that in the past, I really spoke about it in relation to our Rockville Town Square project, for example, where we had just opened up in here in the beginning of this recession, people who had not found their footing were struggling.

That has stabilized, at least at that property and properties like that that we have. That has stabilized. Now it stabilized at a lower tenant sales level than they thought they were going to originally do, and so that's why there's more rent relief. There's probably an overall rent adjustment there.

I can tell you Rockville Town Square is a really good example. There's a project we thought we were going to earn a 13.5% yield on. We're going to wind up, when that settle done, doing 10, 10.5, and that is exactly the issue that we're talking about. So I think if you talk to some other companies who have maybe a larger proportion of their real estate in markets in that situation, they can give you a more general answer or a broader based answer. But that's what we see.

Alexander Goldfarb – Sandler O'Neill & Partners

And then just going back to the Jeff Berkes, to the 8-K yesterday. Two things – one, given that the deal wasn't finalized, just wondering what prompted the public filing. And then two, if I'm doing the math and reading the document correctly, it sort of sounds like you'd have to do maybe $500 to $600 million of acquisitions a year for Jeff to sort of match what he's made historically. Maybe I'm not getting it totally, but just want to get your thoughts there.

Donald Wood

Yes, a couple of quick things. First of all, we filed because we have to file. Jeff's the reporting executive officer of the company. So anything that is done with any of our compensation agreements has to be filed, and we use the 8-K to effectively do that. So frankly this really doesn't, I don't mean to – I'm going to tell Jeff this isn't the most important thing to Federal.

But if we didn't have to file I don't even think there'd be a question or two, and there probably shouldn't be as it relates to me. But with respect to his deal, yes we assume we'll be able to do $500 million, $700 million, a $1 billion, as I've talked about before, of acquisitions, but it's not per year. It's over the three-year period for him to do what he has to do there.

And offline you can certainly, I mean Andy will probably go through and maybe Jeff will go through the deal with you. I don't know, maybe he'll renegotiate it with you. But that's the volume level that needs to be to keep his current deal. If it's more, he makes more.

Alexander Goldfarb – Sandler O'Neill & Partners

I'll go offline with that.

Operator

Your next question comes from Michael Mueller – JP Morgan.

Michael Mueller – JP Morgan

Pretty much everything else has been answered, but one for Andy. If the acquisitions do materialize and they pick up, and at some point, you have to go back and raise some debt capital. The $100 million that you paid down from the term loan, can that be re-accessed, or is that permanently paid off?

Andrew Blocher

No, that's permanently paid off, and typically, what you'll see is with your credit facility you can borrow and repay at will. But with respect to the term loan once you repay it, it's gone forever.

Operator

Your next question comes from Richard Moore – RBC Capital Markets.

Richard Moore – RBC Capital Markets

I'm looking again at the cash that you guys have left over. And I mean aside from becoming a bank I guess, if you invest that cash in properties, then you've got maybe $0.20 to $0.25 on your share count, the leftover $175 million of FFO.

And I'm wondering how we should think about that given your guidance? I realize that your guidance doesn't include any acquisitions specifically, but somewhere we've got to put something in the neighborhood of $0.20 to $0.30 of acquisitions. And how should we think about that? So is that an '11 thing or a late 2010, or what do you think?

Donald Wood

You've got a tough job, Rich. You've got to make those assessments. It's not easy.

Richard Moore – RBC Capital Markets

I know, and I'm trying to figure out just where to put this.

Donald Wood

Well listen, let me make a couple of comments, and maybe they're obvious; maybe they're not. As we run the company and we plan for the company, we don't have the visibility today to be able to tell you, here's what you ought to be able to model in terms of our allocation of capital.

We certainly are trying to set ourselves up so that however the world kind of plays out, we'll be protected and have the most flexibility. I think our choice is to not give you any guidance at all. And then I know a lot of our competitors are not giving guidance.

And when we talked about it and thought about how to best do this, we thought it was better to give you as much about how we think about running the company and what's there, and the guidance associated with that kind of base case.

Whether for Federal, again, because we're not going to be out probably, not definitively but probably, doing major portfolios and things like that, because it really is more of a one-off, two-off, three-off kind of approach, the guessing and modeling and the timing for that is very difficult to do. I really don't know what else to tell you. Andy, do you have anything else you want to say to Rich on this?

Andrew Blocher

No I mean, but Rich with respect to the cash balances, we're in a constant state of evaluation as to where our cash balances are, where our opportunities are with respect to acquisitions or debt repayment, based on our review of the capital markets.

I mean I think that you're taking a very kind of programmatic approach, which says that Federal Realty will deploy all of its capital in a certain time frame. We need to evaluate that day by day, week by week, month by month, quarter by quarter.

Donald Wood

I'll add one other thing to you, Rich. If we are six and nine months from now and there has been no loosening of this market, we cannot find any place to put it, you can expect us to pay down more of that term loan.

And now that's not a great use of capital, because it's not what we want to do for a living out there, but it's a whole lot more creative than keeping it sitting in a bank earning very, very little. So ask the question each quarter, and hopefully there'll be more visibility that we can impart on you.

Richard Moore – RBC Capital Markets

That would have been the next question, so yes that's very helpful. So bottom line, though, we'll probably all end up above your guidance at some point, right, because we'll probably all have our own ideas of when you might deploy that? Obviously, you guys are the only ones that will deploy it, but we'll probably be above guidance, I think, as a group.

The other thing is, TIs kind of spiked in the quarter. Did you guys address that? I don't think you addressed that. Is there anything special going on there?

Donald Wood

No, not particularly. I mean we did, Chris and I talk about this a lot in terms of just philosophically how we want to compete with retailers for, or with other landlords for retailer space. There is no question because of our situation, we will make – you can call it a TI, call it an investment, whatever you want – we will make an investment in a retailer that we think is the right deal, that's credit worthy, that makes all the sense in the world to get them to a spot.

It is an arrow in our quiver, our cash position, that we should use judiciously. We do use it judiciously, and it's not a matter of buying deals because we won't do that. We will put out capital, we will get paid for that capital, either get paid in the rent or we'll get paid in a very specific interest cost on that capital.

But to this point, all you're looking at is just kind of the normalcy of specific deals that happened and nothing out of the ordinary. But as I say, it is a competitive advantage that we have to be able to help get the right retailer in the right spot.

Operator

Your next question comes from Nathan Isbee – Stifel Nicolaus

Nathan Isbee – Stifel Nicolaus

I'm wondering, either Jeff or Don, how you currently are looking at what your hurdles are. And I know every deal is different. But where would you be investing and what kinds of transactions have you looked at that you have ended up not winning? And specifically there have been a few recent, major high quality transactions that others have done and where were you on those?

Donald Wood

Nate, let me start with what we need to do to make money. I think we've been very consistent in saying if we don't believe we can put capital to work at returns that are incremental to our overall cost of capital, then it makes no sense to do it.

And I think we've got a pretty reasonable understanding of our overall cost of capital and I think this is consistent with what I've said in the past. I think when you combine where we are on our debt costs to what I believe shareholders are looking for on our equity costs – and we kind of spread that 40% debt or so, 60% equity as a rough guideline –you can get pretty comfortable that our overall cost of capital is somewhere between 8.6, 8.7 and 9%.

And so, within that range, regardless of what the going in cap rate is or what we think is going to happen in year 2 or year 3, we've got to put money to work in excess of those rates and the premium in excess of those rates.

And that obviously it's not a cap rate, that's an IRR. But the premium is risk adjusted. If it's a stable acquisition, the premium that we require over those rates is small. If it's something that's got a little more hair on it, a little more risky, then we want a bigger premium. And that's how we run the business. And from there, let me turn it over to Jeff to talk about some of the specific deals and why we would lose them.

Jeffrey Berkes

Well Nathan, actually we didn't lose any of the specific deals because we didn't bid on anything that's traded recently or is going to trade. Again, we are looking for assets that have great locations, where retailers can do sales and where when we get out of the economic situation we're in right now, we can grow NOI.

And we haven't seen anything that fits that bill except for one off market deal that nobody's really aware of yet that's going to happen. So we haven't lost any bidding contests because we haven't seen anything that we wanted to bid on for quite a while.

Nathan Isbee – Stifel Nicolaus

Don, first of all, based on your comments about yesterday's 8-Ks, refreshing to hear that contrary to popular believe, capitalism is still alive in D.C. Just a quick question on the leasing and trying to get a sense of where your new tenants are coming from, over the last I guess call it three to six months, could you break out in terms of your new leases, how many of them would you say were poached, neighboring centers versus new to market deals.

Donald Wood

I don't know that I can do that. I can tell you anecdotally and then maybe Chris has more specifics, I doubt it. I can tell you anecdotally there's a half a dozen of the deals that we've probably done this year so far.

I mean, this year we've done – a better part – about 200 deals, somewhere this year or so. Of those, the first nine quarters, there's certainly been a half a dozen that I can think of, where they were poached that have come in.

Chris, there may be a lot more than that, I don't know. But as I kind of said in my prepared remarks, what is really interesting is the broad base of new leasing that is happening. I keep hearing that well, there's only this particular category or that particular type of tenant or this particular size tenant that is doing deals.

And I'll tell you, we don't see that. And I don't know if it's just an anomaly but we are doing shop deals, we are doing restaurant deals, we are doing anchor deals. And so it really is a combination of everything. And the only thing that has changed over the past couple of years in terms of those type of deals or the deals that we do, is that we have far less leverage because there are less people fighting for the same space.

And so the economics are just not as good. But other than that, it is a very broad-based situation that we're in. And I know that sounds different than everybody else and the only reason I can think of that is because these are all in field located properties.

Chris Weilminster

I would just say the word – I wouldn't use the word really poaching. What I would use is that there's fundamentally a retailer's desire in this market to improve the real estate in their locations. And they look at our real estate when we go out and canvass these tenants. And we approach them with opportunities within our centers as saying they can do materially better sales in our centers than where they might be today.

So if you want to call that poaching, you can. I see that as retailers clearly wanting to enhance their position in both the short and long term. As far as the anchor tenants go right now, we are starting to see the stronger anchor tenants show a little bit more life and show a desire to expand.

And they're doing the same exact thing, they are looking to enhance and improve. And these anchor tenants are starting to become more flexible in their prototypical layouts to actually look at taking real estate that works better in older centers like ours, where we have less flexibility to expand the spaces.

And they're saying I'll downsize from a 50,000 square footprint to a 38,000 square foot space because I know I'm going to do better and I can run my business more efficiently. That's how I would more look at it and that's what we're becoming the beneficiaries of.

Nathan Isbee – Stifel Nicolaus

And is there anything to report in terms of an update on Santana Row office leasing?

Donald Wood

More activity, but I've got no signed papers. If you're interested we can cut you a deal.

Operator

The next question comes from Jonathan Habermann – Goldman Sachs.

Jonathan Habermann – Goldman Sachs

Question on, I guess, just in terms of what has been addressed this far for 2010 leasing in terms of the renewals?

Donald Wood

I don't think I get it, I'm sorry, ask the question again.

Jonathan Habermann – Goldman Sachs

In terms of your 2010 lease expirations, do you – just where do you stand at this point in terms of indications of tenants that plan on staying in place on the renewal side?

Donald Wood

I'm not sure really how to answer that other than we really don't track of all the expirations here is how many are done yet or here's how many we are. We're active negotiations with everybody. The one thing we're seeing on renewals, or at least I think we're seeing on renewals and Chris, you can tell me if I'm wrong, is there is a real desire to not necessarily change spaces if you're in a place that is a kind of known quantity to you in terms of what you're going to be able to do.

Well Chris is absolutely right, people are trying to improve their real estate. If they're in a center that has historically been a strong center, there is a real desire to get the deal renewed. And so we're running through that. So there really isn't much of a change in terms of getting the renewals done that way. I will tell you change is in the negotiation of the economics and so that takes longer –

Jonathan Habermann – Goldman Sachs

And you had mentioned that you weren't willing to do shorter-term deals. I mean, are you seeing tenants looking to make that switch?

Donald Wood

No, that's not what I said. We are willing to do shorter-term deals in a number of situations. What I was trying to say I think you're referring to my prepared –

Jonathan Habermann – Goldman Sachs

It's to the prepared remarks, yes.

Donald Wood

What we're unwilling to do is to do uneconomic deals for the short term. In other words, we've got occupancy that will go from, on a particular center, 94 to 93 or 93 to 92 or something like that. And in order to boost occupancy, doing an uneconomic deal that is good for the short term but is not good for the long term that is what I was referring to that we won't do.

But certainly, a tenant who is in place, who is not sure of where they are in the market right now, their sales level is somewhat off, will we do a short-term deal to buy them time and buy us time to figure out where they're going to go longer term? Sure, absolutely.

So we will do shorter terms and you kind of see that historically in our numbers. Terms and deals are of a slightly shorter duration than they have been historically.

Jonathan Habermann – Goldman Sachs

And you mentioned still seeing positive NOI next year. I know you have a lower amount of anchor space rolling than typically. Is that one of the factors that drives perhaps your lower than expected or lower than typical same-store NOI? I know you've talked about occupancy perhaps dipping as much as 100 basis points.

Donald Wood

Yes, I mean of all the things that we've got, that emulate out in our guidance, the one I am scared to death, or scared more of than everything else, is whether there will be same-store positive NOI or not. I do expect still, as I said, lower occupancy at least in the first part of the year. And if we have that, I'm kind of counting on deals that are going to be done that make up for that from an NOI perspective. But whether that happens or not is really hard to predict.

So we're going to be about flat, maybe up a little bit, maybe down a little bit. That's the one that's the hardest thing to predict. It is not only because of less anchor deals that are turning, but it's mostly because of pressure on shop rents and baby anchor rents that are hard to predict right now.

So that's kind of what we're looking at. I just know it will hold up better than if we were in those next level of suburbs.

Jonathan Habermann – Goldman Sachs

And you mentioned bad debt trending a little better; can you give us a sense of where that stands at this point?

Donald Wood

Yes, yes, there's the bad debt number they want to see. Here's a great example. Let me give you some actual numbers, all right. If you started – historically we've run less than 1% of revenues as bad debt expense and that's roughly $1 million a year or something like that.

The fourth quarter of 2008 we recorded over $3 million of bad debt expense; the first quarter of '09, $2.4 million; the second quarter of '09, $1.5 million; the third quarter of '09, $900,000. So that – which is really still high but closer to what it's been historically.

Now whether it stays like that, goes up a little bit or goes down a little bit more, we've got much more predictability in that respect than we had just three and six months ago where it was really – had some big, big, big number.

So if you kind of factored in somewhere around 1.2%, 1.3% of revenues, you'd probably have our best guess.

Jonathan Habermann – Goldman Sachs

Lastly, could you just talk about any updates on Assembly Square at this point?

Donald Wood

Yes. I didn't know anybody cared, but the – but we do because we are getting closer to getting something that is in a position to at least increase the land value and maybe make some sense. During the quarter, we closed with IKEA on the land swap, which gives us the critical piece of land adjacent to the Mystic River to build-out the site, if that can ever happen, to the most advantageous way.

That deal has been in the works for a long time, but the fact that it actually closed was a really big plus for us during the quarter. So everything we're working on Assembly Square from the standpoint of subsidies from the federal, the state, the local government to the planning of the project to moving to the [T-stop] and getting that funded are all moving forward.

And kind of to demonstrate that we moved our head of development, Don Briggs, up to Boston. So whether there's ever a project there that can make some sense economically or not, we don't know. As I was saying before on the development side we need better visibility as to revenue.

But we certainly are, I believe, increasing the value of that land with each of these major steps that we take along the way. So please don't put any valuation in there for it yet, because who knows? But there will a time when I'm going to ask you to put some value in there I would bet and then we'll see where we are then.

Operator

Our next question comes from Christy McElroy – UBS.

Ross Nussbaum – UBS

Hey, it's Ross Nussbaum here with Christy. Don, I wanted to ask you a question. I was intrigued by your comments surrounding what you think your weighted average cost of capital is and can't say I disagree because we peg it somewhere between 8.5% and 9% today.

If I run an IRR analysis on what that might mean in terms of going in cap rate, assuming some reasonable level of property level cash flow growth over a five, 10-year hold, it would suggest that you'd be able to buy at going-in yields in the low to mid 7% cap rate range and still make deals relative to your cost of capital. Is that how you're thinking about things?

Donald Wood

Did Jeff Berkes ask you to ask this question because we often are looking hard at not only what going-in cap rates are for the purposes of understanding going-in cap rates, but most importantly to understand how we would take those and how we would take that NOI stream and underwrite it, which is tough how to figure out over the next 10 years or so.

But everything we look at suggests the way you're explaining it, Ross, is very much in line with the way we're looking at it.

Jeffrey Berkes

Can I just add there's a lot of property fundamentals that we look at, too. We're looking at where in-place rents are relative to market obviously. We're looking real hard at trade areas and void analyses to make sure there's going to be continued demand. We're looking at barrier to entry, traffic patterns, all that kind of stuff. So it's art and science and I think you're just talking about the science side of it.

Ross Nussbaum – UBS

So should I take that to mean – your cost of capital is probably lower than many potential buyers out there today, although you do use potentially some slightly less leverage but I guess what I'm trying to ask is would you be in a position where you're prepared to pay more than the average Joe in the market just because of your cost of capital advantage?

Donald Wood

I think it's very possible that that would be the outcome on certain deals that we really want and I believe that because of the cost of capital, but mostly I believe that because I think we – I think we truly do have a competitive advantage in terms of how to redevelop and re-tenant and increase tenant sales at in field shopping centers. I think we're really good at that.

And so – and that works its way out into the underwriting, it considers the cost of capital, we certainly consider where the property is and what we believe – that all ties in. And if the endpoint is that that we'd pay a little bit more to get it, it's very possible that could happen, yes.

Ross Nussbaum – UBS

So if that's the case, given where we've seen a number of assets trading in the last couple of months, why not pick up the phone, call everybody you know and say, "Hey, I'm willing to buy your asset at 7.25%, 7.5% cap rate? I mean I would think there would be a lot of people who would hit that bid today in this market.

Donald Wood

Of course we do that, Ross. We do that all the time. And no, there's not a lot of people that say, oh, okay, so we'll do it. But there – listen – I know it feels like we've been in this malaise or this period of time forever, but it really isn't forever. It's really been 15 months or whatever that is there and over the broader timeframe as we run this company you will see some of that stuff. I just can't tell you the date and time that that happens.

Operator

Our next question comes from Chris Lucas – Robert W. Baird & Company.

Chris Lucas – Robert W. Baird & Company

Andy, just a quick follow-up on the bad debt expense commentary, is the guidance inferred for next year; is that the 1.3% number Don had mentioned?

Andrew Blocher

Yes, that's about right.

Chris Lucas – Robert W. Baird & Company

And then in terms of, Don, just a quick question, on the tenant fallout that you're thinking about may happen, can you give us just a little bit more color on whether that you're thinking about that from a geographic perspective issue or is it more of a credit issue as it relates to mom and pops versus a regional or national tenant?

Donald Wood

No, first of all I'm not thinking about it geographically particularly, although I will say California absolutely has been harder hit for us than our Northeast markets and the – really than all of our East Coast markets. And so proportionately we may see more here.

But I am not thinking about that in a specific way. I'm absolutely thinking about it in a – from a broad perspective. I'm not thinking about anchor versus small shop or restaurant versus non-restaurant or any other categories like that.

I'm thinking of it from the perspective of retailers who with lower sales levels have not figured out how to run their business profitability. I believe many of them and I think that's a great thing but some of them, who have not been the leaders in their particular areas anyway are having a harder time doing that and certainly they're not going to be able to hold on forever that way. And so logically I would just expect to see more of them giving up the ship in the first quarter of 2010 than I would in the third or fourth quarter of '09.

Chris Lucas – Robert W. Baird & Company

Don, just again a follow-up on your search for visibility on retailer demand; are there macrometrics that you're looking at or is that just a function of you just talking to a lot of retailers and getting a better sense from your conversations?

Donald Wood

It's the latter.

Operator

At this time, ma'am, there are no further questions. You may continue.

Donald Wood

Thank you everybody and for all those folks that will be in Phoenix next week, I'm really looking forward to spending more time with you and so we'll see you at NAREIT out there. Thanks for being on.

Operator

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

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Source: Federal Realty Investment Trust Q3 2009 Earnings Call Transcript
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