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Investors Real Estate Trust (NYSE:IRET)

F3Q 2014 Earnings Conference Call

March 13, 2014 10:00 ET

Executives

Lindsey Anderson - Director, Investor Relations

Tim Mihalick - President and Chief Executive Officer

Diane Bryantt - Executive Vice President and Chief Financial Officer

Tom Wentz, Jr. - Executive Vice President and Chief Operating Officer

Analysts

Matt Spencer - Robert W. Baird

Rich Anderson - BMO Capital Markets

Michael Salinsky - RBC Capital Markets

Carol Kemple - Hilliard Lyons

Craig Kucera - Wunderlich Securities

Operator

Good morning, and welcome to the Investors Real Estate Trust Third Quarter Fiscal 2014 Earnings Conference Call. All participants will be in listen-only mode. (Operator Instructions) Please note, this event is being recorded.

I would now like to turn the conference over to Lindsey Anderson, Director of Investor Relations. Please go ahead.

Lindsey Anderson - Director, Investor Relations

Good morning, and welcome to Investors Real Estate Trust’s third quarter fiscal 2014 earnings conference call. IRET’s earnings release and supplemental disclosure package for the three months ended January 31, 2014 were posted to our website and also furnished on Form 8-K on March 12. In the earnings release and supplemental disclosure package, Investors Real Estate Trust has reconciled all non-GAAP financial measures to the most directly comparable GAAP measures in accordance with the requirements set forth in Regulation G. If you have not received a copy, these documents are available on IRET’s website at iret.com in the Investors section. Additionally, a webcast and transcript of this call will be archived on the IRET website for one year.

At this time, management would like to inform you that certain statements made during this call, which are not historical, may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Although Investors Real Estate Trust believes the expectations reflected in the forward-looking statements are based on reasonable assumptions, Investors Real Estate Trust can give no assurance that its expectations will be achieved. Factors and risks that could cause actual results to differ materially from those expressed or implied by forward-looking statements are detailed in Wednesday’s earnings release and from time-to-time on Investors Real Estate Trust’s filings with the SEC. Investors Real Estate Trust does not undertake a duty to update any forward-looking statements.

With me today from management are Tim Mihalick, President and Chief Executive Officer; Diane Bryantt, Executive Vice President and Chief Financial Officer; and Tom Wentz, Jr., Executive Vice President and Chief Operating Officer.

At this time, I would like to turn the call over to Tim Mihalick for his opening remarks.

Tim Mihalick - President and Chief Executive Officer

Thank you, Lindsey and good morning everyone. First of all, I want to thank all of you for taking the time to listen to our call this morning and I hope you will find the information provided to you to be beneficial. We are pleased to report solid operating results for the quarter. With revenues from our stabilized properties increasing during the third quarter compared to the same period of the prior year due primarily to increase rental revenue and tenant reimbursements in our commercial office and healthcare segments and to increase rental rates in our residential segment.

IRET’s Executive Vice President and CFO, Diane Bryantt and COO, Tom Wentz will have details on these results for you shortly in their remarks today. Subsequent to the quarter end, IRET senior management team carried out a strategic planning process and we recently presented the results of the process to our Board of Trustees. We summarized this plan and formed 10-Q we filed yesterday, but I want today to comment in more detail on some aspects of the plan. As noted in the 10-Q we plan to continue our focus on identifying for disposition properties whose location, age or need for significant tenant improvements or capital expenditures suggest the company’s investments maybe better deployed elsewhere.

After studying the needs of tenants and evaluating IRET’s commercial office space and the markets we are in, we continue to absorb a shift in space needs of certain commercial tenants. Per person space needs have been reduced. We do not see this as a trend reversing anytime soon. Evaluating our portfolio on this basis, we expect over the next 12 to 18 months to identify properties, primarily in our commercial office segment as candidates for disposition.

We do still see some opportunity in well-located office properties. We expect in any future commercial office property acquisitions, we focused in the Minneapolis St. Cloud market. However, we plan to direct new investments primarily towards our healthcare segment, in particular senior housing and our multi-family residential segment. We believe these segments provide the best opportunities for growth. Within our healthcare segment we plan to target on-campus medical office properties in larger markets in the Great Plains region and to pursue relationship driven built to suit opportunities.

For example, our Southdale medical property office – I am sorry for example, our Southdale office property in Edina, Minnesota is approximately 90% leased and we are currently evaluating an approximately 54,000 square foot expansion for this medical office property. While no contracts have yet been signed and adds us any development project, still in the planning stages, there are many contingencies that could result in the project not being finalized. This is a project we are interested in doing and one that would fit well within our strategic plan.

Within our multi-family residential segment, we plan to continue to target territory markets within the Great Plains region, cities such as Rochester, Minnesota and Sioux Falls, South Dakota that offer us operating efficiencies and a critical mass for brand presence. We also plan to further deemphasize our retail segment with the goal of identifying for sale assets within this portfolio by fiscal year 2016. We are optimistic that this strategic plan will help us create a strong foundation for growth in the long-term. In particular, we believe that bringing our current development projects online and identifying for sale certain non-core poor performing assets within our portfolio will provide a path to AFFO coverage within fiscal 2015, our goal that we have discussed in previous earnings calls.

Thank. And I will now turn the call over the Diane, our Executive Vice President and CFO for her remarks.

Diane Bryantt - Executive Vice President and Chief Financial Officer

Thank you, Tim and good morning everyone. Yesterday we filed our fiscal year 2014 third quarter report on Form 10-Q and furnished our 8-K earnings release and supplemental disclosure. This morning again as before I will provide a brief recap of significant items of note that occurred in the third quarter which ended on January 31, 2014.

First, we will start with the balance sheet and regarding the cash and liquidity, cash on hand at quarter end was $53.5 million as compared to $94.1 million at the beginning of the fiscal year. We continue to see strong cash flow from operations to support our property operations and improvements. Dispositions proceed received during the quarter of $78 million, use of our available cash on hand and loan proceeds have allowed us to invest approximately $130 million during the year on our acquisitions and development projects.

During the quarter we advanced $12.5 million on our line of credit. $2.5 million of this was due to the line of credit increased minimum balance outstanding requirement and $10 million was for prefunding of an equity with the lender on our Cardinal Point development project. Overall, as of quarter end with cash on hand and available line of credit, we have liquidity of $103 million.

Regarding acquisitions and developments, during the quarter we placed into service two of our multi-family residential development projects. The 132-unit Cypress Court property in St. Cloud, Minnesota in which we have 86% interest and our 146-unit River Ridge project in Bismarck, North Dakota. Both of these projects had a strong lease up with Cypress Court currently today at 73% occupied and River Ridge at 91% occupied. Upon stabilization we anticipate a cap rate range of around 7% to 9% on these projects.

During the quarter we sold two residential properties, three industrial properties and two retail properties for a total sales price of $11.7 million. We are continuing our focus on identifying for sale non-core assets or assets where we believe our investment capital can be better deployed elsewhere. Acquisition activity in the quarter was light as we only acquired a parcel of vacant land in Fruitland, Idaho for $335,000. This acquisition was next to an assisted living facility that was purchased subsequent to quarter end for $7.1 million.

Another notable event in Q3 was the fire in December at our Chateau 2 apartment, where we were rebuilding following a previous fire. You have all are familiar with the story of the flood, fire number one and now fire number two. We have spent considerable amount of time discussing the impact of these unfortunate events. In Q3, we realized final settlement with the insurance company due to the flood and fire number one rebuild. The total gain realized in the quarter was $1.5 million and year-to-date total of $2.4 million. This will finally close our stat claim.

The December fire loss number two will be recoverable from insurance proceeds. At the time of that, IRET’s investment into a project with approximately $8.8 million, it has been determined that $7.1 million of this investment was lost due to the fire and accordingly that is the amount of the claim to the insurance company. However, note that we do not estimate that there will be any gain on involuntary conversion on this loss as our basis on the new assets is basically at replacement cost. Also note that we are estimating approximately we lost $882,000 due to the second fire based upon anticipated rents that we would have received had the Chateau structure has been placed in service as originally scheduled. These rents unlike the first fire loss will not be reimbursable by insurance, because there were no leases in place at data loss.

Moving on to debt, we closed two loans in the quarter totaling $33.2 million. The first was a construction loan for the Cardinal Point Apartments development in Grand Forks, North Dakota. This loan totaled $24.5 million. It has a 30-month term with the one year option and it’s priced at 240 basis points over the 30-day LIBOR, which today would be approximately 2.56%. The second loan was to refinance for our Park Meadow Apartments in St. Cloud, Minnesota. This loan was for $8.7 million. It has a 30-year amortization, non-recourse but the fixed rate for seven years at 4.55%. During the quarter, we also paid off two loans totaling $5.4 million. The reason for the loan payoffs included available debt at par with higher interest rates or a payoff due to a pending sale. Mortgage debt to unappreciated cost is at 48% at quarter end improving from 52% one year ago. Overall, our weighted average interest rate on our mortgage debt, excluding our line of credit and construction debt is 5.48% continuing to see progress as compared to 5.65% as at the end of comparable prior fiscal year.

Results of operations, net operating income for both the three months and nine months comparative periods had increased $5.5 million and $9 million respectively. And the office space segment has provided for all periods in the 10-Q, but primarily the same positive factors impact all periods. They are continued occupancy strength in our multi-family stabilized and non-stabilized properties, which allow us to increase rents, increase in our occupancy in our commercial office and healthcare segment. Occupancy increases in the commercial office segment has immediate positive impact due to tenant reimbursement of common area operating expenses that are otherwise an owner expense if the space is vacant. In addition to the occupancy increase, NOI for the healthcare segment had a favorable variance due to increased percentage rents collected and recognized during the quarter.

Moving to FFO, we reported FFO of $0.17 per share and $0.49 year-to-date. Rounded on a standalone quarterly basis, FFO per share would be $0.18, but our year-to-date rounding convention provided for a rounding adjustment in the third quarter. AFFO per share for the quarter was $0.11 and $0.34 year-to-date. Adjustments to FFO can be found on Page 8 of the 8-K. And as you will note in the third quarter, the primary adjustment was for tenant improvements of $4.2 million as compared to $1.8 million in the prior quarter. We will continue to focus on leasing up our commercial space, but these upfront costs to tenant these properties have immediate impact to AFFO, but in the long run, rental income will return this capital outlay.

To close, I report that Board of Trustees declared a quarterly distribution of $0.13 per common share and unit to be paid on April 1, 2014, to shareholders of record on March 17. This will be IRET’s 172nd consecutive quarterly distribution.

Thank you. And now I will turn the call over to Tom Wentz, Jr.

Tom Wentz, Jr. - Executive Vice President and Chief Operating Officer

Thank you, Dianne. While the third quarter ending January 31, 2013 saw some weather related impact primarily in terms of delays in completing and opening our two new developments mentioned by Diane as well as in residential leasing traffic. The third quarter results for fiscal 2014 still continue the trends seen in previous quarters of improved operations. Our focus remains on our leading segments of multi-family and healthcare real estate in our core markets where we are or have the ability to be the leading provider of these types of real estate. And also on reducing our investment in those real estate assets where we do not have market leadership.

As we continue to grow our best segments, we anticipate some slight pressure on FFO due to mismatch in timing between the outlay of funds necessary for developments compared to the delivery and release up of completed projects. We do anticipate this pressure will continue through the balance of fiscal 2014 as well as the coming fiscal year. We had initially projected that as the group of current in progress developments came online later this spring and first quarter of fiscal 2015, the FFO impact related to our heightened development pipeline would begin to lessen. While still to be fully measured, it is likely we experienced some marginally negative weather impacts that could delay the delivery of our in progress development projects.

However, we are optimistic that any loss time this past winter can be made up during the spring. But if not, it is possible some projects could be four to as much as eight weeks behind our initial delivery dates. Fortunately, the weather conditions this past winter did not materially increase the cost of construction, rather we expect any financial impact would be due to delayed delivery which while does slightly increased development costs, the biggest impact is delayed receipt of rental revenue due to delayed lease up. In regards to development, we continue to see good income and growth opportunities in our markets that are leaders in healthcare, education, energy and food.

Even though we are seeing higher construction costs as well as competitive developments from other real estate owners, unit demand and rent levels continue to support our strategy of growing primarily through development as well as available acquisition opportunities. IRET currently has approximately 1,183 apartment units under construction in four of our core markets, which is a slight change from the prior quarter as during the quarter we delivered all the units in Bismarck, North Dakota and St. Cloud, Minnesota. Additionally, over the last 12 months IRET as also acquired landed would allow for the development of a similar amount of units starting yet in calendar 2014 with delivery late 2015.

We continue to remain active in the land acquisition area for the purpose of positioning IRET as the market leader in new multi-family construction in our core markets. We believe that this focus on development provides IRET with the best path to successfully execute on our primary strategy of making our overall portfolio younger, more focused by segment and the leader in its respective categories end markets. Our plan for the remainder of this fiscal year and the coming fiscal year will be to continue to focus on new multi-family development to meet the market demand for apartments, as well as to leverage off the leading position IRET currently enjoys in our current operating footprint.

While there continues to be a low amount of acceptable acquisition opportunities in almost all of our markets when compared to development returns, we continued to work to also acquire existing projects that meet our strategic objectives. We currently have 204 units under contract in Rapid City, South Dakota that are expected to close in the first quarter of fiscal 2015. The total acquisition price is approximately $18 million at a going in cap rate of approximately 6.5%. We are also carefully monitoring all the challenges associated with development including increased construction costs as well as competitive developments from other developers.

We are continually adjusting our approach to proactively deal with these challenges. With our existing strong product position, combined with being first-to-market with high quality projects, we believe that IRET is in a strong position to execute on its portfolio growth strategy. Our focus is on developing assets that will be positioned as the best in market, avoiding the requirement to compete on price and keeping IRET as the market leader in our core communities. We are also seeing select opportunities to grow our healthcare portfolio through a combination of acquisitions, development and expansion, renovation of existing locations. Subsequent to quarter end, IRET purchased on a sale leaseback, a 55-unit newly constructed senior housing facility located in Fruitland, Idaho that has been net leased back to affiliates of our long-term senior housing provider, Edgewood Vista. The purchase price was approximately $7.1 million and the initial going in cap rate is 8.5%. This property fits within IRET’s Idaho Spring Creek senior housing portfolio bringing the total number of buildings in this portfolio to 9 and the units to 326.

The commercial segments of industrial, retail and office continue to slowly improve with a combination of our aggressive focus on new leasing and renewals as well as the disposition of non-core assets that are weak performers. Subsequent to quarter end, we have two commercial buildings under contract to sell for gross proceeds of approximately $10.3 million with expected net proceeds of approximately $5 million. While no assurances can be given that these sales will actually close, we remain committed to our strategy of focusing on our best performing commercial assets and disposing off the weaker performers.

We experienced a slight increase in our office occupancy and remain on track to meet our previously discussed leasing goals. While our renewal rate over the last quarter was weaker than our historical rate after careful analysis and review, we concluded the lower renewal percentage was due mostly to one-time events involving tenants that had either closed their offices in the market or consolidated back to an existing location. So, these non-renewals were in reality inevitable regardless of what we did. Also with the recent sales of a majority of our industrial portfolio, the remaining vacancy is basically isolated to just one industrial building, while the remaining assets in the industrial segment are all at 90% occupied or greater. The same is basically true in retail with the vacancy confined to a handful of buildings. We will continue to focus on improving occupancy and selectively disposing of assets in these three segments.

Moving now to leverage, we expect no material change to our current overall levels of debt or type and added approximately 47% debt to gross assets excluding our preferred stock. We have good flexibility on how we fund our growth in operations going forward. Depending on development activity, we may slightly increase overall leverage levels on the existing portfolio by 5% to 7% bringing leverage as a percentage of gross assets to slightly over 50%. To maintain the overall interest expense at current levels, we may use more floating rate debt to capture the advantages of lower interest rates. However, we remained very cautious on the use of leverage and non-fixed rates and will remain well below our historic levels of 65% leverage.

We expect the amount of developments and acquisitions to remain consistent with our current levels with our capacity remaining as high as $300 million over the next 12 months to 18 months depending on the final mix of acquisitions versus development. Our expected acquisition and development cap rates range from approximately 6.5% to 13% in the multi-family segment and 7% to 8.5% on the commercial segments. In certain cases, actual results have been higher for developments in the energy impacted markets of North Dakota, South Dakota and Montana.

Thank you. And I will now turn the call over to the moderator for questions.

Question-and-Answer Session

Operator

(Operator Instructions) And our first question will come from Dave Rodgers of Robert W. Baird.

Matt Spencer - Robert W. Baird

Hey, good morning. Matt Spencer here with Dave. I was wondering if you can dive into a little bit more detail regarding your updated strategic plan maybe with regards to timing, volume and yield that we can expect and any impact to your expectation to cover the dividend by mid 2015?

Tim Mihalick

Matt, Tim Mihalick here. Just again as we mentioned and talked about in both the filings and as I did here on the call this morning, from a timing perspective, our anticipation is to take a look at the next 12 months to 18 months to identify those non-core assets and then core performers in our portfolio that we need to move towards disposition. As we mentioned in the past, our expectation again would be to look for coverage of our AFFO number through probably third and fourth quarter of fiscal year ‘15. So that we can move that process to get to that number that we have all talked about to cover our dividend as it’s been declared in our prior board in the past. From a yield perspective, I guess I am not sure which you are referencing, Matt.

Matt Spencer - Robert W. Baird

I mean, maybe just a cap rate on dispositions maybe the range that you are seeing in your market?

Tim Mihalick

Okay. Now, I will let maybe Tom touch on that a little bit.

Tom Wentz, Jr.

Well, that, this is Tom I mean dispositions that’s difficult to determine on what the sale cap rate is going to be. I mean it varies depending on the building, but given what we are selling, I mean we are basically achieving market results, but some buildings have little or no income in place. And so it’s difficult to provide a cap rate on those. Those are really more price per square foot. So, it’s really impossible for us to say I mean we are really looking at getting more focused through dispositions rather than what the sale cap rate is.

Matt Spencer - Robert W. Baird

Got it. That’s helpful. Thank you for the color. And then maybe also in the quarter, it looked like there was a bigger focus on limiting the tenant improvements. Was this more of a focus on strategic properties or a broader market improvement?

Tom Wentz, Jr.

Well, I think if you are looking at the lease schedule that really wasn’t the conscious decision again, I have to keep myself, but our portfolio is relatively small in those commercial segments. So quarter-to-quarter, you can have pretty significant variances on what the TI level is, what the commissions are, what the rates are. And so it’s I guess really no conscious trend, it probably was just more deal specific in there.

Diane Bryantt

Actually, Dave, if you on Page 8 of the 8-K there was actually quite significant tenant improvements in the quarter.

Matt Spencer - Robert W. Baird

Okay.

Diane Bryantt

We can take a look at that, but I think that the conscious decision on tenant improvements on property that we are looking to sell into make sure that you will realize that cash when you upon sale that it’s a good tenant when you put in.

Matt Spencer - Robert W. Baird

Okay, that’s fair. Thank you for the help. That’s all for me. Thank you.

Tim Mihalick

Thanks, Matt.

Operator

And the next question is from Rich Anderson of BMO Capital Markets.

Rich Anderson - BMO Capital Markets

Hey, good morning everyone.

Tim Mihalick

Good morning.

Rich Anderson - BMO Capital Markets

So, Tim with the kind of the new kind of refocused strategy going forward, regarding dispositions, is there – I know you are still targeting ‘15 – fiscal ‘15 for dividend coverage, but is it now like pushed back later in that year or earlier? Is there any change from this activity you expect to accomplish?

Tim Mihalick

No, I would say again it’s a continuation of the strategic plan maybe as you said it’s little more focused.

Rich Anderson - BMO Capital Markets

Right.

Tim Mihalick

Obviously the impact of the Chateau income set us back as Diane discussed approximately 880,000 in bottom line revenue. And so that maybe sets us little closer to the end of fiscal ‘15. So it just extends that a little bit. So if you look at that 880,000, that’s $0.75 or thereabout that we didn’t anticipate due to the flier, but set backs up a little bit, but we will continue to push and move that forward.

Rich Anderson - BMO Capital Markets

Okay. Tom, you mentioned leverage creeping up over 50%, do you have a – is that kind of your long-term number 50% plus or minus or do you think that the company and maybe this is the question for Diane or whomever, is the leverage target somewhat lower call it three, four years from now after you kind of get through this process?

Tom Wentz, Jr.

Well, that’s hard to predict, but I think it’s just looking at the best available source of capital for purposes of executing on the strategy. And as the loan markets continue to get healthier and healthier, we are certainly seeing a very attractive opportunities with a number of our long-term lenders. So, hard to predict where the leverage would be. That’s going to depend a lot on market conditions three, four years from now, but we certainly remain committed to a very conservative approach on leverage and the vast majority of the debt is going to remain fixed. So it’s just one slight change we’re possibly considering as we come into the new construction season for 2014 and 2015.

Rich Anderson - BMO Capital Markets

Okay. And as it relates to dispositions could you quantify the amount of office sales potential in that 12 to 18 months period?

Tom Wentz, Jr.

Well again that’s going to be difficult to quantify I mean it’s really going to come down to picking out those assets that do not really fit any longer in that segment, outliers, poor performers from that standpoint. But I think it’s safe to say that our disposition level is going to remain heightened. So I mean if you look back over the last 12 months and what we’ve disposed off and what Diane’s comments are I would say it’s reasonable to assume we’re going to maintain that level.

Rich Anderson - BMO Capital Markets

Okay. And is it like kind of in a perverse way a good thing in a sense that if you sell assets that are under-occupied you sell home at a I don’t know five cap I mean maybe I’m being a little extreme, but that – it is in fact an accretive event to sell some of these assets?

Tom Wentz, Jr.

Yes. Obviously there is a couple of ways to make money in real estate. One is through the revenue and the other is eliminating expenses and so those assets that are negative drags or don’t add anything to the bottom line, you’re exactly right. And that’s why you can also see and expect some fairly dramatic shifts in occupancy because lot of these commercial segments, the vacancy is confined to a handful of buildings. And if those buildings are disposed off that also impacts the occupancy levels, but yes you’re exactly right, those are the buildings we’re looking at.

Rich Anderson - BMO Capital Markets

And who would be like the type of buyer for an asset like that?

Tom Wentz, Jr.

I guess we’ve seen a whole range of buyers as we discussed previously I mean there has been some institutional interest; there has been some private fund interest. We have 10/31 buyers that are exiting out of other types of assets primarily multi-family or farmland that our historic high levels. And owner occupiers are owner users that now see a good time to get into assets and then private individual investors that are able to provide more time and better intelligence in those markets that we’re exiting. So it’s a broad range.

Rich Anderson - BMO Capital Markets

Okay. And then my last question is kind of back to the balance sheet. I assume now it’s not maybe the time to be considering the equity markets but I mean is that a consideration at some point down the road. Can you just talk to us about how you think about equity at this stage in the game?

Tim Mihalick

Rich, it’s Tim. I guess if you look at the equity needs obviously that will be part of our capital plan going forward. We want to continue to look to use those disposition proceeds as the ability to fund our development projects but probably are ways out I would think from an equity perspective and that will be part of the capital plan and stack. But we’d like to see the stock recover and move a little bit pricing wise before we tap the equity markets.

Rich Anderson - BMO Capital Markets

Okay, alright, great. Thank you very much.

Tim Mihalick

Thanks.

Operator

And our next question comes from Michael Salinsky of RBC Capital Markets.

Michael Salinsky - RBC Capital Markets

Good morning guys.

Tim Mihalick

Good morning, Mike.

Michael Salinsky - RBC Capital Markets

Just with respect to the capital plan I want to put some parameters around the numbers, just try to see kind of where we’re heading here as you completed the strategic process. Can you give us a sense as you look at the portfolio today how much would you – how much falls in that core bucket versus non-core bucket? And as you see the portfolio moving forward, what’s the rate allocation to healthcare and multi-family versus the other sectors maybe where you are at today versus where you expect to be call it 18, 24 months from now?

Tim Mihalick

Mike off the top of my head I was thinking as we’ve discussed in the past larger percentage of our portfolio being in the multi-family, part of that 35 to 40 large components than being on the healthcare segments which would include senior housing and our (MOB) of 35 number somewhere in there than looking at the balance of our portfolio holding the better quality commercial office and some identified potential industrial and or retail may go along mixed use in our multi-family.

Michael Salinsky - RBC Capital Markets

Okay. That’s helpful. But in terms of how much of the portfolio today would you – falls within that non-core bucket?

Tim Mihalick

I’m trying – again I would guess probably at 15% to 20%.

Michael Salinsky - RBC Capital Markets

Okay. In terms of dollar volume I mean what realistically this is worth thinking about sources and uses and funding the next kind of run of development?

Tim Mihalick

Maybe Tom if you can help me here a little bit.

Tom Wentz, Jr.

Yes. Well I guess Mike I mean to go back to what – we don’t really have any set targets on what we’re going to be percentage multi-family and healthcare. I mean I think the limiting factor is going to be we need to make money in these segments and so we’ll continue to grow in those segments as long as there is accretive opportunities available and we can grow our earnings, grow our FFO and all the good things that come from that. In real estate someday that’s going to stop and that’s even going to stop in multi-family for a period of time and it’s probably going to stop at healthcare.

And so it’s hard to predict at what point that’s going to occur but we monitor that very carefully. And we’re not going to invest into segments that are not going to be accretive for the company and benefit the shareholders. As far as non-core assets again that’s hard to predict I mean Tim is probably right to say that if you look at our portfolio today commercial retail, commercial industrial how small those two segments are. There’s probably a $150 million to maybe $200 million left in that category.

So if you fully exit that, if we fully exit that, that would be one number, but there aren’t any immediate plans to do that. And then commercial office currently at about 30% of the overall portfolio, $500 million or so give or take a little bit. I think again if you look back over our disposition history which has been heightened over the last 12 to 18 months that’s a pretty consistent number of what I think we would seek to do over the next 12 to 24 months.

Michael Salinsky - RBC Capital Markets

Okay. Just as we’re thinking about dispositions than in light of different coverage I mean what’s a realistic target for the next kind of 12 to 18 months in terms of dispositions?

Tom Wentz, Jr.

Well again I think it’s going to be the same as what we’ve been doing. I mean I think we’ve had a heightened disposition strategy over the last 12 to 18 months. And I think we’re pretty comfortable with what we accomplished and see that as a good proxy going forward. I mean we’re not going to give these assets away and we’re not under extreme pressure I mean coverage from a percentage point is one issue but from a dollar standpoint which I think we’ve discussed the difference between where we’re at and where we need to be really is not that great on a dollar basis.

And so we’re not going to panic and get into wholesale, fire sales on our commercial portfolio. We’ve got some good assets in there and some good contributors. And so I think we’re comfortable with what we’ve done over the last 12 months and I think that’s a good number to use going forward which I think Diane referenced about $80 million of dispositions year-to-date. So..

Diane Bryantt

The dispositions they’re going to be a part of achieving that AFFO coverage, but the development properties coming online, hitting their marks that’s really going to be the primary factor to hit our AFFO coverage.

Tom Wentz, Jr.

Right. Yes.

Michael Salinsky - RBC Capital Markets

Okay.

Tom Wentz, Jr.

Yes, selling is not a growth strategy and so it’s part of it but it’s not our primary focus.

Michael Salinsky - RBC Capital Markets

That’s a funding strategy I mean if you’re selling assets for development I mean…

Tom Wentz, Jr.

Correct.

Michael Salinsky - RBC Capital Markets

On Chateau I mean is that – is – I mean is there any the property was burned down by the fire. What’s kind of the new timeline on that in terms of direction?

Tom Wentz, Jr.

This is Tom. We’re going to rebid all the material subs for that, we’re doing that right now. This time a year it really doesn’t paid to start at this point in the spring, you’re not really going to get any timing advantage. So the anticipation is it will come back out of the ground probably early summer 2014. So it’s going to be probably fourth quarter of fiscal 2015. So it will be a nine to 12 month process before we finis that project up.

Michael Salinsky - RBC Capital Markets

Okay. Then finally just on the commercial side, you mentioned you’re on target at your leasing targets on the commercial side for the year. Any vacates or large leasings we expect to be commencing in the next couple of months?

Tim Mihalick

No.

Tom Wentz, Jr.

No, yes I mean nothing out of the ordinary.

Michael Salinsky - RBC Capital Markets

I appreciate the color. Thanks guys.

Operator

And the next question is from Carol Kemple of Hilliard Lyons.

Carol Kemple - Hilliard Lyons

Good morning.

Tim Mihalick

Good morning, Carol.

Diane Bryantt

Good morning, Carol.

Carol Kemple - Hilliard Lyons

The 10-K you said under the tax section that you all got a property tax relief credit in North Dakota. Is that a one-time credit or is that expected to continue?

Tom Wentz, Jr.

This is Tom. The legislation is for two years and it’s difficult to measure the impact in North Dakota because North Dakota basically builds in arrear so to speak. Your property is assessed or the values determined in the February of the year but then you don’t know the mill rate or the mill levy until December at the earliest. It looks backward for that year but the legislation that triggered this was for two years. And of course North Dakota legislature meets every other year, it’s not every year. And so hard to predict what they will do but obviously if you look at the revenue that’s been generated due to the energy taxes and if you look at the positive variances in the North Dakota budget in the surplus it’s possible or reasonable to expect that it might be extended.

Carol Kemple - Hilliard Lyons

And is this the first quarter that you all received that credit?

Tom Wentz, Jr.

Well it’s for the year so that number is a yearly number, but…

Diane Bryantt

That was for calendar 2013.

Tom Wentz, Jr.

Right, but..

Diane Bryantt

You’ve to look back.

Tom Wentz, Jr.

To look back but you don’t like I said you really don’t know the whole year until that third quarter. So we’ll probably have something similar next year.

Carol Kemple - Hilliard Lyons

Okay, next year and the third quarter as well?

Tom Wentz, Jr.

Yes, it shouldn’t be as dramatic because I think we’ll be able to accrue a little bit better for it because now we know what the process is. The other real estate taxes are a two-pronged approach, one is your assessed value and one is your mill levy. So you can have a reduced mill levy but what we’re seeing also is heightened valuations in a lot of our markets. So the mill levy may go down but it’s lower mill levy applied against to higher value results in the same number. So, there is a lot of pressure around our market still from local jurisdictions to raise money to real estate taxes. So…

Carol Kemple - Hilliard Lyons

Okay. And then when you all talk about you’re going to look at your retail portfolio to deemphasize it. At this point I know you haven’t given a in-depth. Are you thinking it’s going to be – you’re going to sell off 25% of your retail 50%. Is there any kind of rough number you’re thinking at this time?

Tom Wentz, Jr.

No, no, no rough number. I mean we’re valuating it, some properties are appropriate for disposition, some really are not ready due to what the underlying debt is, maybe because it’s got yield maintenance or prepayment penalties but again there is no absolute strategy that all of this has to go. I mean again we’ve got extremely good performing assets in the retail segment like the industrial and then the office. That just cannot be replaced from a return standpoint or an income standpoint and are still in the prime of their lifecycle. So again difficult to predict which ones are going to go or what percentage.

Carol Kemple - Hilliard Lyons

Okay. Thanks.

Operator

And the next question will come from Craig Kucera of Wunderlich Securities.

Craig Kucera - Wunderlich Securities

Yes, hi, good morning guys.

Tom Wentz, Jr.

Hello Craig.

Diane Bryantt

Good morning.

Craig Kucera - Wunderlich Securities

I’m wondering if you could comment on the drop in multi-family occupancy, your stabilized properties are I know it’s been roughly cold in the upper Midwest and probably had an impact on traffic. But do you have any thought on maybe what that impact might have been?

Tom Wentz, Jr.

Well this is Tom. Yes I mean that historically is the worse quarter , there is not a lot of traffic for a number of reasons primarily the holidays and then of course this winter did not help was pretty I mean basically our entire markets or all regions were impacted by either extreme cold or incredible amounts of snowfall which impacted it.

And additionally when we go back and trace this it really goes back to just a handful of multi-family assets. I know we don’t repot by underlying market segment but it really goes back to just a few assets. And so if those were removed or eliminated it would be a much different story. But nothing from a trend standpoint or concerning the occupancy demand level still remain heightened in pretty much all our markets for new product from that standpoint.

Craig Kucera - Wunderlich Securities

Got it. So does that mean I mean just given weather related issues, would you expect demand kind of the pickup or have you seen any improvement in trends kind of as we enter into February, March as far as traffic level?

Tom Wentz, Jr.

Yes. That’s the expectation. I mean this is traditionally the strong, one of the strong leasing times of the year as people kind of get set for this spring summer plans along with August and September. So yes our expectation is increased traffic going forward.

Craig Kucera - Wunderlich Securities

Sort of along those lines when we think about your margins, I think your NOI margins have actually been on the nice upward trend for the last three, four quarters. You attribute that – is that primarily just improvements in occupancy in your office and healthcare or are you having any better expense controls?

Tom Wentz, Jr.

Well expense controls are always a big important component of that. But yes it’s primarily occupancy especially on the commercial because really occupancy provides two benefits, one it removes the additional expenses that flow back to the landlord because those are now recoverable as part of the commercial lease or mostly recoverable. So occupancy has an outsized positive impact in the commercial segments from that standpoint.

Craig Kucera - Wunderlich Securities

Got it. And kind of going a little further into commercial, you made a comment earlier in the call on office and how you’re seeing a I think you mentioned a shift in space needs? And I was just curious if you could provide some additional color on kind of what you’re seeing your tenants and tenants in the market kind of warning today versus a year or two ago?

Tim Mihalick

Craig, this is Tim. As I mentioned earlier on in my comments talking about space needs; we’ve really seen a reduction and in some cases 225 per square foot – square footage per person down to maybe 150 even as far as 125 per person. Obviously the challenge for that is more people in the building needs for parking which creates some challenges for us on some of those properties, they’re really just an overall reduction in per person space needs.

Craig Kucera - Wunderlich Securities

Okay. Thanks. And then finally when you look at healthcare is there a certain segment that you find more traffic today, is it assisted living, is it MOB, what is more appealing to you in the current environment?

Tim Mihalick

I think both are. We continue to be the largest owner in the Twin Cities of MOB space a private owner so to speak. And then so that gives a strong foothold to take advantage of those. As I mentioned build-to-suit opportunities and relationship driven transactions and then as we’ve built our senior housing portfolio again we’ve been very active in those treasury markets that we know well. And with our operator and we certainly see two-pronged approach being an opportunity for us to stay in that – those two segments of the healthcare industry.

Craig Kucera - Wunderlich Securities

Okay, great. Thanks a lot.

Operator

And this will concluded our question-and-answer session. I would like to turn the conference back over to Tim Mihalick for any closing remarks.

Tim Mihalick - President and Chief Executive Officer

Again, thanks everybody for taking the time this morning to listen to our update on IRET. We’re excited about where we’re headed. We like the strong economy. We continue to be exhibited in the upper Great Plains. We feel well positioned as I’ve mentioned in the past provide real estate needs for those people or in those companies in this part of the country. Again, thanks and have a good spring.

Operator

The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.

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