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Cousins Properties Incorporated (NYSE:CUZ)

Q1 2010 Earnings Call

May 11, 2010 2:00 pm ET

Executives

Larry Gellerstedt – President & CEO

James Fleming – EVP & CFO

Craig Jones – CIO

Steve Yenser – EVP Retail Leasing & Asset Mgmt.

[Chris Sullivan] – Corporate Communications

Analysts

Brendan Maiorana – Wells Fargo

John Stewart - Green Street Advisors

Unspecified Analyst – Merrill Lynch

John Guinee - Stifel Nicolaus

Sloan Bohlen – Goldman Sachs

Operator

Welcome to the Cousins Properties Incorporated first quarter 2010 conference call. (Operator Instructions) At this time for opening remarks and introductions I would like to turn the call over to

[Chris Sullivan]

Good afternoon. Certain matters the company will be discussing today are forward-looking statements within the meaning of the federal securities laws. For example the company may provide estimates about expected operating income from properties, as well as certain categories of expenses.

Actual results may differ materially from these statements. Please refer to the company’s filings with the Securities and Exchange Commission, including its Annual Report on Form 10-K for the year ended December 31, 2009 for a discussion of the factors that may cause such material differences.

Also, certain items the company may refer to today are considered non-GAAP financial measures within the meaning of Regulation G as promulgated by the SEC. For these items, the comparable GAAP measures and related reconciliations may be found through the quarterly disclosures and supplemental SEC information links on the Investor Relations page of its website at www.cousinsproperties.com.

I would now like to turn the call over to Mr. Larry Gellerstedt.

Larry Gellerstedt

Good afternoon. I’m Larry Gellerstedt, President, and Chief Executive Officer of Cousins Properties. On the phone with me today are James Fleming, our Chief Financial Officer; Craig Jones, our Chief Investment officer; and Steve Yenser, our Executive Vice President for Retail Leasing and Asset Management. I’d like to welcome everybody to our first quarter conference call. Before I give my thoughts on the business, I’d like to call on James to review the financial results for the first quarter.

James Fleming

Good afternoon everyone, this quarter we reported FFO of $0.14 per share compared to FFO before special charges of $0.11 per share last quarter. Contributing to this increase in FFO was an increase in rental property revenues less rental property operating expenses.

Over all of our properties we had a $2.2 million increase in property operations. Office generated $1.6 million of the increase, retail generated $594,000, and industrial contributed another $89,000. I’ll highlight the significant changes from last quarter for our office, retail, and industrial properties.

In the office portfolio, One Ninety One Peachtree increased $902,000, primarily as a result of reserves taken in the fourth quarter for uncollectible accounts. Looking forward we expect NOI from this property to remain consistent with the current quarter’s run rate and to increase slightly in the fourth quarter.

These estimates are below those we gave you last quarter as a result of slower leasing momentum for the remainder of the year and an increase in concessions needed in today’s market. Terminus 100 increased by $768,000 due to the reserves taken in the fourth quarter and 100 North Point Center East increased $103,000 from the last quarter.

This property has not yet reached the NOI level we estimated in last quarter’s call but we expect it will continue to increase during the year and will end the year between $350,000 and $400,000 on a quarterly basis.

In the retail portfolio Avenue Forsyth increased $692,000 primarily as a result of higher than expected percentage rent from tenants and a co-tenancy situation. We expect NOI for the next two quarters at Avenue Forsyth to be between $1.2 and $1.5 million and we expect the fourth quarter to be slightly higher than that.

While Avenue Carriage Crossing was lower than the prior quarter due to the collection of a previously reserved receivable in the fourth quarter as well as higher percentage rent, it was in line with the estimates we discussed on last quarter’s call and Avenue Webb Gin increased $180,000 as a result of bad debt reserves taken in the fourth quarter.

In the industrial portfolio there weren’t any significant changes in income this quarter but we have had some significant new leases which Larry will discuss in a few minutes.

One of the primary reasons for the increase in FFO over last quarter was our outparcel sales activities which generated $4.7 million in gains. During the first quarter we sold nine outparcels in three of our retail centers. We were pleased with both the timing and pricing of these assets.

The weighted average cap rate on these sales was a little under 8% which resulted in prices above our initial estimates. The aggregate proceeds of these sales, $13.4 million, helped advance our goal of de-leveraging our balance sheet. While we will continue to look for additional opportunities to sell land tracks, we don’t expect any more outparcel sales for the remainder of the year.

FFO from multifamily sales decreased by $1.2 million but we were pleased with the positive momentum generated by the sales of units at 10 Terminus during the last half of 2009 continued. In the first quarter we sold 19 units which exceeded our internal projections. We continue to work toward a complete sell out of 10 Terminus by year-end.

Profits from lot sales increased in the first quarter as we sold 89 lots versus 39 in the prior quarter. Loss on extinguishment of debt represents the write-off of $600,000 of deferred loan costs associated with the amendment to our credit facility.

In an effort to simplify our disclosures about general and administrative expenses, we’ve separated out our G&A for Cousins Property Services in our supplemental disclosures this quarter. You can see the break out on page 10.

Cousins Property Services is our third party office leasing and management business, headquartered in Dallas, and it represents about two thirds of our total fee business. Because this line of business is unusual for a REIT we received a lot of questions about the associated G&A and you will see that it has been running at about $7 to $8 million per year excluding reimbursed salaries and benefits.

The remainder of our fee business is more closely linked with our REIT operations, so a break out of the G&A associated with it would be fairly subjective and we have not tried to do that at this point. Excluding the Cousins Property Services G&A as well as separation expenses, commission on development fee, and reimbursed expenses, which you’ll also see broken out on page 10 of our supplemental package, our normal G&A was at $8 million in the first quarter which was considerably higher than it was in the fourth quarter primarily as a result of the reversal of the accrued bonuses that occurred in the fourth quarter.

We expect our run rate for this line item to be around $7.5 to $8 million per quarter for the remainder of 2010. Interest expense was up only slightly in the first quarter however we expect interest expense to increase in future quarters as a result of the increase in the effective interest rate on our line of credit and term loan.

Assuming no significant asset sales or other changes in our capital structure we expect a quarterly run rate for total interest expense which is consolidated plus joint venture, of between $11 and $11.5 million for the remainder of 2010.

We had a $1.1 million tax benefit in the first quarter. We recorded a $3 million tax benefit in the fourth quarter due to a change in the tax law related to loss carry backs. In preparing to file the amended returns we determined that we were entitled to an additional $1.1 million and adjusted our receivable accordingly.

We do not expect any additional income tax benefits or provisions for the foreseeable future. On the last call we discussed our focus on reducing recourse bank debt while maintaining flexibility to continue to de-lever our balance sheet through disposition of non-core income producing properties.

Based on an analysis of our overall capital needs and plans we determined that we did not need our $600 million credit facility. But we wanted more cushion in our fixed charge coverage ratio to allow us to be prudent in leasing up our vacant space and selling non-core assets.

We therefore approached the banks to reduce our fixed charge coverage ratio from 1.5x to 1.3x, in exchange for a reduction in the size of our credit facility from $600 million to $350 million, an increase in interest rate and fees, and some other covenant changes.

We were pleased with the execution of this amendment and we appreciate the relationships we have with the group of very good banks. With respect to our other debt we continue to work with our banks to extend the Murphysboro construction loan, and hope to have something to announce within the next month.

We’re also making good progress in refinancing the Meridian Mark loan that matures in September. I also want to make a quick comment about our dividend. As you know this is a Board decision and our Board is going to keep looking at it each quarter.

In the near-term we expect the Board to continue our approach of paying out our expected taxable income using a combination of two thirds stock and one-third cash. But at some point we’ll likely return to an all cash dividend.

We expect our Board will take a close look at this issue at its next meeting in late September. In the meantime I view the stock dividend as a good way to continue to de-lever the balance sheet a bit and possibly provide some offensive capital.

I’ve had a number of investors ask how I feel about our balance sheet, and whether our leverage is at the right level. I believe there are three factors we need to keep in mind. The first is our overall leverage which is 42% based on debt to market capitalization and 41% based on our bank covenants.

I think these are reasonable levels and much more comfortable than where we were last year when our debt to market cap was as high as 72%. But I also believe its appropriate for us to continue to reduce our overall leverage as we sell non-core assets.

The second leverage issue is how our cash flow relates to our debt level. Fixed charge coverage is a good measure of this as is debt to EBITDA. Our fixed charge coverage ratio was 1.7x at the end of last year. This quarter it moved up to 1.9x and I’d like to see it move up a bit more. Because of our equity offering last fall, we’ve reduced our debt to EBITDA ratio from 11x to 7x and we’re working to reduce this further.

As most of you know we have a good bit of non-income producing properties as well as a few properties that haven’t yet reached stabilization. Both of these ratios will improve as we sell non-core assets and lease up the assets that haven’t yet reached full occupancy.

Our compensation committee made this a priority this February when they based part of our long-term compensation on reducing our debt to EBITDA ratio over the next three years from 7x to 5.5x. The third measure I would point out on the leverage topic is our level of recourse debt.

By the end of the first quarter we had brought our recourse debt down from a high last year of $581 million to $216 million. We now have a contract to sell San Jose Market Center and with the cash we have on hand, the recent closing of Terminus 200, and assuming we close the sale of San Jose and use the proceeds to further reduce our bank debt, we will be able to further reduce this level by over $100 million.

This will result in a very low level of recourse debt for a company our size. The markets don’t always distinguish between recourse and non-recourse debt but if we were able to keep our overall debt at a reasonable level and we have significant unencumbered assets, then recourse debt is what really matters from a risk standpoint.

And we intend to keep this at a much lower level going forward. Larry will speak in a few minutes about our capacity to pursue acquisitions, but I want to make a point on that as it relates to our leverage. Since we’ve been making good progress on our balance sheet I do think we have the capacity to pursue some investments and I also believe we will be able to raise additional capital to fund investments through joint ventures and possibly additional equity issuances when it makes sense for us to do those things.

And with that I will close my remarks and turn it back over the Larry.

Larry Gellerstedt

Thanks James and thanks again to everybody for being on the call today. I’ve had a chance to meet many of you since I became CEO last July and as you know I’ve worked very hard to focus our company on what I call blocking and tackling.

That includes leasing up the vacant space in our portfolio so that our FFO and coverage ratios improve and our assets are in a position to be financed or sold. Secondly, increasing our fee business and third, selling non-core assets to improve our balance sheet.

And we’re making good progress on these things and I want to spend a few minutes going over each of them with you. After I finish with blocking and tackling I’ll talk for a minute or two about our markets and what we’re doing to find new opportunities.

At 10 Terminus place in Buckhead, the momentum is still strong as we continue to sell condominiums. We sold 19 units in the first quarter which was ahead of our projections. Since the end of the quarter we’ve closed another eight units and we have another 13 under contract.

At the time we took the impairment last fall we had 122 of the 137 units available and since that time we’ve closed 72 units and generated $30 million in revenue. Now we have about 35 units left for sale. Our average pricing is holding at slightly over $250.00 per square foot which is below our original cost of $350.00 per square foot but well above our impaired value.

As we’ve been saying if this momentum keeps up we should be substantially sold out at 10 Terminus by the end of the year. I’m also pleased with our outparcels and land sales as we sold more outparcels in the first quarter than we had budgeted for the full year.

The demand in pricing we experienced were encouraging signs that the capital markets have started to heal and its nice to see some real estate investor demand for our properties. On the land side we sold one track at Jefferson Mill to our former partners, [Ray Weekes] and [Force Robinson] and at the end of April, they closed on a track at Kings Mill.

With these two sales we have now sold one third of our industrial land. I doubt we’ll sell any more industrial land this year but as James said we’re working on some other land track sales that may close later in the year.

On the residential lot business, things have picked up a little bit and thanks mostly to Texas. We still expect to close 300 to 400 lots this year versus 142 last year and 199 in 2008. This still isn’t the pace of almost 2000 lots we saw in peak years but its certainly an improvement.

We don’t expect to sell many lots in Atlanta over the next few quarters but we’re starting to see some demand in Dallas, Houston, and San Antonio, and even sold 24 lots at one of our Tampa projects this quarter which is the first lots in Florida we sold in the last 30 months.

One last note on the issue of sales, San Jose Market Center is now under contract. The buyer is still in a due diligence period so I can’t comment on specifics, but we’re obviously satisfied with the sales price.

We’re making some good progress on our industrial portfolio. Our last three buildings were 44% leased last July. In the fourth quarter of last year we leased 156,000 square feet of additional space at Kings Mill. In the first quarter we leased 223,000 square feet in our Dallas building, and last month we leased all 459,000 square feet in our Jefferson Mill building.

Our three industrial buildings are now 85% leased overall and we’re in a position to begin looking at options to sell these buildings and exit the industrial business. The retail business of course has been tough over the past year especially in our newer centers that were in lease up as the recession started to hit a couple of years ago.

But we’ve been making some progress. In this quarter we moved ahead a bit more. Our portfolio has moved up to 85% leased and as James pointed out we received more rent than we expected from tenants paying percentage rent. Last year at this time we had 62 tenants in co-tenancy representing 332,000 square feet and that number has moved down to 16 tenants representing 129,000 square feet or less than 3% of our portfolio.

Even more important our retailers saw their sales increase substantially in the first quarter, up 8% from the 2009 levels. Women’s fashions and home furnishings which are the keys to our Avenue properties led the way with sales increases.

As I said before we’re working hard to get our percentage lease by the end of the year up into the high 80’s or possibly 90%. Leasing office space continues to be difficult in our markets due to the excess supply and the lack of job growth.

Fortunately most of our portfolio is well leased with little rollover. We made great progress in Austin this quarter with an 87,000 square foot lease with [St. Judes] at Palisades West bring the Palisades project to 94% leased. After that the vacancy in our operating portfolio is 665,000 square feet based on our ownership share and its really concentrated in two buildings; 300,000 square feet at One Ninety One Peachtree, and 140,000 square feet at the American Cancer Society Center, both in downtown Atlanta.

At One Ninety One we have leased 939,000 square feet since we bought the building in late 2006 but we have some more work to do to fill the building up. We had a 54,000 square foot law firm open for business in late April and we signed three small leases during the first quarter. We’re also excited about bringing the Commerce Club to One Ninety One later this year.

The Commerce Club is a 50-year old Atlanta club that has been a key business for the city despite being in a location that has difficult access and parking. It should be a real boost to One Ninety One to have this institution in our building.

At the American Cancer Society Center most of the current vacancy occurred when a Bell South AT&T lease expired last fall. Fortunately this building has unique characteristics that set it apart from the competition such as large floor plates and high efficiencies for certain users and we’re working with a number of prospects.

Overall our office operating portfolio is 88% leased and we’re hoping to increase that percentage slightly by the end of the year. That brings me to Terminus 200, our development project in Buckhead. We’ve been in discussions with our banks for 18 months about restructuring the loan on this building given the state of the Buckhead market.

Last Wednesday we closed a restructure that brings in a new financial partner, Morgan Stanley, and gives us an additional 2.5 years of loan term, which takes it to 12/31/2013 while providing funding for the increased level of build out and free rent the marketplace is requiring today.

We and our former partner Prudential, have paid our guarantees under the old arrangement which had no impact on our financial results because we had fully reserved our guarantee amount. Our interest in this property has been reduced to 20% and we’ve committed to invest an additional $5.6 million over time with the rest of the funding coming from Morgan Stanley and the banks.

The loan will be non-recourse subject to customary carve outs, so our financial exposure will be limited to our $5.6 million equity commitment. We’re excited that we have the opportunity to recognize some financial upside in the property without taking on significant additional financial exposure. And of course we’ll be able to earn some management and leasing fees in the process.

Just as important we’re excited to have the chance to complete some leases that had been at very difficult to resolve until we had the bank restructuring in place. Last week we announced a new five-floor lease in the building and we expect to continue to capture new tenants.

As a matter of fact we expect to be able to announce shortly four more leases for approximately 75,000 more square feet which will take the building on an overall basis up to about 40% leased. We’ve been getting a lot of questions lately from investors about the Atlanta office market and its definitely a tough market because it’s a low barrier market where office demand is driven by job growth and Atlanta has lost jobs for the last two years.

The forecasters are projecting Atlanta job levels to be about neutral this year with modest growth in 2011 and more substantial growth in 2012. With over 20% of the Class A office space vacant, we’re likely to see a challenging market for some time. But I have mentioned before, most of our portfolio is leased and with the exception of the space at One Ninety One and the American Cancer Society, buildings where we can provide good value, plus Terminus 200 where we’re working off a lower cost base than before.

Actually the problems in the Atlanta market may work to our advantage by providing discrete distressed opportunities at a time when most investors have written off Atlanta. There certainly won’t be any new speculative office developed in Atlanta for quite a while. When jobs return and the Atlanta market is healthy again, we should be able to recognize some good value from the steps we take in the next couple of years.

I also want to remind you that we have a significant platform in Texas, where we manage and lease over seven million square feet of office space, mostly for third parties. But as the result of our platform there we are able to see deals that come to market and we are actively looking for opportunities at Austin, Dallas, and Houston.

Another question that we’ve been getting is whether we have enough capital to chase new investments. In addition to our current balance sheet our recent experience at Terminus 200 has showed us that there are quite a few institutional investors who want to invest alongside Cousins where we are willing to invest some capital and utilize our management and leasing platform.

In addition public markets appear to be open at the moment for REITs when we are able to identify needs for offensive capital. While I don't think it makes sense to stockpile capital before new investments we should have the option to bring in some new equity if we are able to find significant number of good investments to make.

With that I’ll conclude my remarks and turn the call back over for any questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Brendan Maiorana – Wells Fargo

Brendan Maiorana – Wells Fargo

Just wanted to talk about CapEx level for a little bit, your Q1 CapEx level was pretty low, but if we look at the past couple of years its been kind of on the high end if you match that against your NOI level. How should we think about your CapEx level going forward on a normalized basis.

James Fleming

That’s a good question, the level was very low in the first quarter, and that was largely as a result of timing. We do have a fair amount of additional leasing going on as you can tell from our comments on the call. I’m not going to be in a position to give you a run rate going forward but this quarter was definitely unusually low and you can look back over the last couple of years as we’ve had significant leasing and see what the CapEx numbers were there.

I would expect to have relatively higher CapEx levels over the next 12 to 24 months as we continue our leasing and get the portfolio filled up.

Brendan Maiorana – Wells Fargo

And just wanted to talk about your core FFO a little bit just excluding your sales business, if we look at your Q1 run rate we can call that around $0.06 or $0.07 per share if you annualize that we get maybe around $0.28 a share, if you take some of the upside in your core leasing gains we can probably get to around $0.40 per share which on current stock price would indicate around 20x plus or minus, so how should we think about that going forward. I know you are trying to exit out of some of your non-core investments but if you take everything out it doesn’t look like you’re normalized at full level or FAD level would indicate a compelling valuation at current levels. I just wanted to get your perspective on that.

James Fleming

Let me start to answer that, a couple of thoughts for you. One we are trying to get out of the industrial business and so we would likely sell industrial properties once we get them leased up so we wouldn’t enjoy the FFO going forward but we would get benefits from paying down debt. And the same would be true for any other assets that we choose to sell so as we’re selling these things like land and other things, we will get some benefit from reducing the debt levels.

I think the residential lot business will be a business we’ll be in for some time and Larry may want to comment some more on that, but we certainly don’t want to expand our presence in that business but at a point a number of years ago when we sold close 2000 lots we generated very high levels of FFO. It had been almost non existent lately but if we can see some lot sales pick up we could get some more contribution from that piece of the business.

And one other thing that we have had a number of questions from investors about is what they could expect in terms of additional FFO from our properties that aren’t fully leased and that’s one of the things I think people don’t fully appreciate. Our economic occupancy on the office properties is about 85%, the retail is about 83%. If we can get those up to the mid 90’s which is historically where Cousins has operated, there’ll be a significant amount of additional FFO.

Its roughly, our share is roughly six million square feet of office and 2.5 million square feet of retail and so that’s over eight million square feet so just 10% of that is another 800,000 square feet that would be our share. You can do the math in terms of what you think the rental rates are but my sense is that if you were to apply rental rate plus an operating expense pass through number which we’re largely eating right now as a result of the vacancy, so it would be a significant number.

Brendan Maiorana – Wells Fargo

And just on your land business a little bit you talked about that very briefly, but just wanted to get your take on your commercial land holdings and how much of that you expect to sell versus keep it on your balance sheet so that you can develop going forward.

Larry Gellerstedt

The commercial land and I have stated this at other meetings we certainly as we looking in our commercial land holdings we have more commercial land than we anticipate needing for our development activities and we really have gone through that land portfolio on a site by site basis and so as the market comes back for commercial land which a lot of this land is, most of this land is very attractive commercial land, we will be a net seller of commercial land and most of that land we have owned a fairly long period of time and we feel confident about there being a market for it down the road and there are tracks of land which we think are important for us to hold for future development needs.

But on a net net basis we definitely will be a seller of commercial land in terms of percentage it represents of our current portfolio.

Operator

Your next question comes from the line of John Stewart - Green Street Advisors

John Stewart - Green Street Advisors

In the press release you referenced the sale of industrial land at King Mill Distribution Park, can you give us some color on the pricing there.

James Fleming

We’ve sold two different tracks, we sold one at King Mill and then one at Jefferson Mill. The King Mill was during the quarter and the Jefferson Mill was after the end of the quarter. In both cases we sold them for a little bit more than our cost basis. We had about between a $300,000 and a $400,000 gain on the King Mill property. And the one that’s happened since the end of the quarter we’re going to have about an $800,000 gain on.

John Stewart - Green Street Advisors

Given the progress that you’ve made leasing up the industrial portfolio it looks like pro forma for the last leasing activity up to 85% so pretty close to stabilized, obviously that was a big step you wanted to take before you marketed this for sale but how do you think about the timeframe to taking the industrial portfolio to market at this point.

Larry Gellerstedt

Once again I look at it on an asset by asset basis and the asset that we’ve just gotten 100% leased at Jefferson Mill and that’s a 20-year lease. That’s one that we probably in the near-term they occupy the building in September and that’s one that we’ll probably look at the near-term as seeing what the market may bear in terms of pricing on it.

The other two are still a little bit less and we feel like we need to get them in the 90-plus percent range to be ready to market and we’ve got some good prospects actually at both of them to do that. So we’ve got a little bit more work to do on the other two assets and Jefferson Mill we think we’re in pretty good shape to take a look at that.

John Stewart - Green Street Advisors

Can you give us a sense for the rents that you’re getting on these industrial leases.

Larry Gellerstedt

I can’t off the top of my head in the sense of we don’t usually give a whole lot of details on our lease terms but it remains a competitive market out there and if you seen on our past deals most of the rents are really driven by how much TI and how much term is in them but they vary from roughly $2.50 to $3.50 a square foot.

John Stewart - Green Street Advisors

And then understand this may be barking up the same tree but can you give us a sense for the term of the lease at Terminus 200.

Larry Gellerstedt

The lease that we have in place, the one that we’ve announced the Greenberg [inaudible] lease is 15 years.

John Stewart - Green Street Advisors

And likewise I understand for your comments that you don’t want to go into too much detail on San Jose Market Center but in the Q it said that you expect to sell that for a gain, is that going to be, will that be greater than gross book value or relative to net.

James Fleming

It was be a gain at greater than net book value. I think we talked about some pricing in the past and how its moved up a bit. The issue is its under contract right now. Its still in the due diligence period so we don’t want to get too far ahead of ourselves.

Larry Gellerstedt

But we had given some color in the last call that, when we had priced it last year it was in the $70 million range and the pricing looked like it was moving up into the mid 80’s and that would be the basis by which we would probably put it under contract and I think that gives you some color on where it will end up.

James Fleming

And that is higher than our gross basis.

John Stewart - Green Street Advisors

How did the, how did you account for or will you account for the administrative fee for amending the term loan and credit agreement.

James Fleming

We did have a charge of about $600,000 which really were old loan costs from the original deal—

John Stewart - Green Street Advisors

But in the Q it said you had a $1.6 million administrative fee. Sorry if I missed that in the supplemental but I just did see where that ran through.

James Fleming

You didn’t but what I was going to say is the old loan costs as we downsized the loan we wrote off a proportionate share of those old loan costs. The new cost, the $1.6 million we’re amortizing between now and August of 2011. The facility actually can go through August of 2012 which is what we would anticipate but the base term goes to 2011 so that’s what we’re doing.

Operator

Your next question comes from the line of Unspecified Analyst – Merrill Lynch

Unspecified Analyst – Merrill Lynch

Can you give us an update on your tenant watch list. Your rollover is very light this year so I was just curious if there was any early termination risk.

James Fleming

The credit watch list you’re asking about, we do have a number in both in retail and office, and these are tenants we’ve been following for a good while. Its not a very extensive list. I came to the company in 2001 and our list at that point was a good bit longer than it is today. So I would say just in general the tenant watch list on retail is clearly smaller than it was then, it’s a little smaller than it was a year ago.

Office we have a number of tenants we’re following. But it’s a manageable list.

Operator

Your next question comes from the line of John Guinee - Stifel Nicolaus

John Guinee - Stifel Nicolaus

Nice quarter, good job. Can you provide, give everybody a sense for on a deal like 200 Terminus if you fast forward a couple of years or whenever you hit stabilization what’s the capital stack look like, how much is the construction loan, how much is Morgan Stanley, how much is you, what sort of preferences are there, does Morgan have a preference senior to you, do you a preference senior to Morgan Stanley to get a sense whether the $5.6 million is something that people should model as having significant value versus just being a hope note.

Larry Gellerstedt

Can I just pick the question in there I want to answer?

John Guinee - Stifel Nicolaus

You can answer them all.

Larry Gellerstedt

I’m not smart enough to answer them all. Let me give you just sort of a little picture of it from my point of view. We’re providing of the new equity, we’re providing 20% of that equity which at the $5.6 million number represents and Morgan Stanley would be providing 80%. That would be of the new equity. The balance of the cash is coming from a 75% loan to equity debt to equity loan from the banks which as we said is non-recourse.

And the banks basically had a basis after guarantees were paid of about $80.00 a square foot for the asset. So you can sort of model from that where it is. We would anticipate that the building would be at stabilization around 2013. We’re 40% leased at this point and we do have promotes, I don’t want to get into that structure on the call but at stabilization on the Cousins’ share before promotes we’d be looking at about an unlevered 10% cash on cost yield.

And then there’s a promote structure in there. I view, we think the investment from Cousins is a solid investment and we’re pleased to have Morgan Stanley as the partner, very pleased to be able to work something out with the banks. I’d also add that I think it not only is it a good investment but Morgan Stanley’s participation and others that pursued it validates what I wanted which was that the market agreed with our conservative underwriting.

And then also I think its very important, Terminus is the top address for a mix use project in Atlanta, and it keeps our brand whether its for the residential buyers, the tenants in Terminus 100, the prospective tenants in T 200 and the future development pads that keeps our brand on Terminus which we’re very pleased we’ve been able to do.

John Guinee - Stifel Nicolaus

And I assume you were able to obtain a long-term leasing and management contract on that.

Larry Gellerstedt

Yes, we were.

Operator

Your next question comes from the line of Sloan Bohlen – Goldman Sachs

Sloan Bohlen – Goldman Sachs

I wondered maybe if you could comment a little bit on you don’t have a lot rolling this year but as you look out to 2011 particularly in office can you wager as to where you’re mark-to-market is today and then maybe if you could just provide some general comments on where rents are today on a net effective basis and have they flattened out.

Larry Gellerstedt

In 2010 on the office side you’re right, we don’t have a lot of roll, about 4% roll or 200,000 square feet and we’ve already captured about 25% of that in the first quarter in terms of renewals on that roll and the, most of the other square footage in there is pretty low cost basis space and we think the prospects look fairly good for it.

A good bit of it is in our Birmingham assets where the average rental rate is just a little over $12.00 a foot. So we feel good about 2010. As you look at 2011 and 2012 a good bit of that, most of that is in two leases that expire in May of 2011 and that is a US South 95,000 square foot lease at American Cancer Society Center.

And we feel good not only about renewing that lease but actually expanding it. We’re in some fairly advanced discussions with those guys about renewing it and as I said expanding it. The other big chunk of space is another 90,000 feet lease that Turner occupies and we don’t really know where they’re going to be on that. We’re not as optimistic.

They’ve had some downsizing on their corporate campus and we’re not as optimistic about that but their business changes quickly. When they get stuff like Conan and March Madness and others so we don’t know how that will be impacted. The other two leases are relatively small leases, a couple of 30,000 footers that we have.

I would say that therefore when you look at a little color on where the leases are American Cancer Society Center is an example of an asset that Cousins bought coming out of a previous recession and when we’re able to compete with the large floor plates on Centennial Park, at $16.00, $17.00 rent, it’s a pretty compelling case for the tenants that want to be in that building and we’re not seeing the, certainly there’s plenty of competition but we’re not seeing the rate pressure on these downtown assets that we have at good cost bases like One Ninety One and American Cancer Society Center than as you would be seeing in Buckhead where you have the newer assets and the higher cost bases in them.

Sloan Bohlen – Goldman Sachs

The last comment you made in your prepared remarks about potentially going out to the equity market if you saw something opportunistic that you would be looking to do, is there a size that we should be thinking about that or would you be willing to do that at today’s leverage or would you like to get to some lower level of leverage or better level of coverage first.

Larry Gellerstedt

I think as James said we want to continue to work on the leverage and try to work towards a number 40% or less on that front and maybe the encouraging the thing about where we are in terms of when we see acquisitions is we certainly with the payments we’ve made on our line, we certainly got capacity on the line to do an acquisition or two.

And the other thing that’s encouraging is obviously if we see compelling acquisitions to make that we get uncomfortable with the leverage point, you’ve got options whether it’s the joint venture partners like we chose to do on Terminus 200 or as you and we have seen other REITs do is when we have some specific assets that are beginning to trade then we go back to the equity markets, but when we can be more specific about the offensive targets that we’re going to use the additional equity for.

And I think like most folks you’ve heard in this earnings season we’re still aren’t seeing the acquisitions where we can be overly specific about the ones in our pipeline however I would tell you that our sense of the market is the conversations that we’re having with banks and other lenders that has some of these distressed assets, seemed to change in terms of tone around the end of the third quarter or start of the fourth quarter last year.

And I can’t point to institutional sales data that would support that but I think you’ve seen it with some other companies with assets that we’ve been tracking we certainly have a very targeted list in Austin and Dallas and Houston and Atlanta of assets that we’re tracking and we are beginning to see assets that we’ve had conversations with banks about for a year or more that now we’re beginning to get the sales flyers on them or conversation of off market transactions.

And so I hope that’s not just a coincidence and that its more of a trend beginning to see some of these opportunities we’ve expected to see.

Operator

Your final question is a follow-up from the line of John Stewart - Green Street Advisors

John Stewart - Green Street Advisors

Just a couple of quick housekeeping items, I realize there’s a number of moving parts but can you give us a bit of parameters around taxable income, maybe sort of what’s a base line rate and then what, when you take gains into account where do you shake out, what color can you give us there.

James Fleming

That one actually I can do, its going to be zero for quite some time. It won’t be positive it won’t be negative and the reason for it is last year with a number of things that happened including the impairments we wound up setting up a valuation allowance for our, really all of our future tax benefits at our taxable REIT subsidiary and we had a big number there but we don’t believe its recoverable in the short-term and so we set it up as a reserve in effect.

And so really anything going forward is not going to have any taxable effect one way or the other. That’s actually a positive in terms of our FFO because as we sell lots, tracks, other things within our taxable subsidiary, that won’t wind up generating any tax effect. Now I’m getting a note passed to me that you may be asking about the REIT taxable income and if you are what we’ve tried to do on the REIT taxable income this year is to set the dividend at what we think that taxable income level is going to be. That was an estimate and we continue to refine that but we tried to set that at one that we could maintain.

We did that in September of last year, as we get to September of this year and the Board meets again we’ll go to them and tell them what we think its likely to be as we go into next year and we’ll base the dividend on that level. And so I’ve answered two questions, maybe one that you didn’t ask, but that’s where we are on those two things.

John Stewart - Green Street Advisors

So when you say the dividend is set at basically at taxable income do you mean including the stock portion or just the cash portion.

James Fleming

Yes including the stock portion because that counts as part of our dividend distribution for tax purposes.

John Stewart - Green Street Advisors

And then just a couple of clarifications, there was a reference on operating cash flows to a payment made in 2010 for lease inducements, can you give us any color there.

James Fleming

When we lease space to [Deloitte] at One Ninety One we took over a lease that they had at another downtown Atlanta office building, we took it over as a sublease. And we amortized the cost of that over the course of the [Deloitte] lease at One Ninety One so it actually reduces FFO since it was not a tenant improvement, building improvement amount. It was really considered a lease inducement.

But what we have to do from a cash standpoint is as money goes out the door we have to account for that and what you saw was a movement where we paid some cash out as a result of that. It had no P&L effect because it was already taken into account when we calculated the lease income.

John Stewart - Green Street Advisors

And how big was the cash outlay.

James Fleming

I believe it was between $700,000 and $800,000.

John Stewart - Green Street Advisors

Also another reference to land received as collateral for a note receivable default. What’s that about.

James Fleming

We had sold some land and received a note back for the majority of the sales proceeds up at our North Point property a while back. We foreclosed on that and took it back. We actually had it appraised for a little bit higher. It was appraised for a higher value than the note amount. We didn’t record a gain though, we just took it back on our books at what the note amount had been.

John Stewart - Green Street Advisors

And then just lastly, if I could ask you to again understanding that you don’t want to show too much of your hand as far as your acquisition pipeline but can you give us a sense for the types of opportunities you might be looking at whether its I don’t know specifically how much leasing risk are you willing to take on at this point in the cycle, what property types. You’ve obviously sort of referenced the markets where you’ve got wish lists of properties, but what just general color can you give us there.

Larry Gellerstedt

Well always reserving the right to be opportunistic, we really are tracking I would say two different paths. We’ve got a lot of focus on the office markets where we have a history and a platform already in place because at the end of the day office is a local business and you really need to understand your local markets well and so Dallas and Austin we’ve been there over 20 years in each market and then Atlanta, and we feel also very comfortable in Houston.

We’ve managed over a million square feet there in the last couple of years until recently and so we’re looking in those markets and opportunistically obviously in other markets in the Sun Belt and I think what Cousins does well is I love to think that there’s going to be opportunities that this market is going to give us where you can buy at a very compelling price and get helped with cap rates and other things and in a few years have a gain.

But my sense is is that its going to be more of the value add opportunity like a One Ninety One Peachtree where we buy a great asset that is not only in distress because of leverage but distressed because its not operating at the lease levels that it needs to be and that the combination of our capital and our operating platform and the relationships and development skills we can bring to the project, and our sponsorship will work that lease percentage up.

At One Ninety One we were at 20% and now we’re between 75 and 80% making great progress on it. That’s where I think our opportunities will be and I think that the, we will underwrite them conservatively but the value will be in terms of what you can do from an operating standpoint of improving the underlying fundamentals of it.

We certainly also are very comfortable I think our retail team has shown just how strong it is both in good markets and poor and we look at retail assets that provide opportunities where our skill sets fit and retail is not as geographically sensitive but those would be the two primary areas and geographies in which we’re looking.

John Stewart - Green Street Advisors

Did you, the 90,000 square feet lease with Turner, did you say that was in American Cancer Society as well.

Larry Gellerstedt

Yes, it is.

Operator

There are no additional questions at this time; I would like to turn it back over to management for any additional or closing comments.

Larry Gellerstedt

We appreciate everybody’s continued interest in Cousins and thanks for joining the call today and know that we will make ourselves available at any time that you’ve got any follow-up questions or ideas and we’ll look forward to seeing a lot of you in Chicago next month at the NAREIT conference. Thank you very much.

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Source: Cousins Properties Incorporated Q1 2010 Earnings Call Transcript
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