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Taubman Centers, Inc. (NYSE:TCO)

Q3 2010 Earnings Call

October 27, 2010 11:00 am ET

Executives

Barbara Baker - VP, IR

Robert Taubman - Chairman, President & CEO

Lisa Payne - CFO

Analysts

Craig Schmidt - Bank of America Merrill Lynch

Quentin Velleley - Citi

Jay Habermann - Goldman Sachs

Christy McElroy - UBS

Michael Mueller - JPMorgan

Cedrik Lachance - Green Street Advisors

Ben Yang - Keefe, Bruyette & Woods

Alex Goldfarb - Sandler O’Neill

Paul Morgan - Morgan Stanley

Tayo Okusanya - Jefferies & Company

Operator

Good morning. My name is Stephanie and I will be your conference operator today. At this time, I would like to welcome everyone to the Taubman Centers Third Quarter Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions]

Thank you. I will now turn today’s call over to Barbara Baker. Please go ahead.

Barbara Baker

Thank you. Hello everyone and welcome to our third quarter conference call. Joining me on the call today are Robert Taubman, our Chairman, President and CEO, and Lisa Payne, our Vice Chairman and Chief Financial Officer. Yesterday, we released our results for the third quarter and our supplemental information package. Both are available on our website, www.taubman.com. If you would like to have them sent to you automatically each quarter, please sign up under Request Information on our website.

As you know, during this conference call we’ll be making forward-looking statements within the meaning of the federal securities laws. These statements reflect our current views with respect to future events and financial performance, although actual results may differ materially. Please see our SEC filings, including our latest 10-K and subsequent reports for a discussion of various risks and uncertainties underlying our forward-looking statements.

During this call, we’ll also discuss non-GAAP financial measures as defined by SEC Regulation G. Reconciliations of these non-GAAP financial measures to the comparable GAAP financial measures are included in our earnings release and our supplemental information. In addition, a replay of the call is provided through a link on the Investor Relations section of our website.

For our agenda today, first Bobby will be providing an overview of our quarter followed by a discussion of the company’s operating statistics and external growth. Then Lisa will discuss our financial performance and our balance sheet. Bobby will return to discuss guidance and provide closing remarks and then we’ll be available for your questions. We ask that you limit your questions to two and then if you have more, queue up again. That way everyone has the opportunity to ask a question.

And with that, let me turn over the call to Bobby.

Robert Taubman

Thank you, Barbara and good morning, everyone and thank you all for joining us. This was a solid quarter. We’re delighted with our tenant sales which continue to be very strong. Tenant sales per square foot were up over 13% in the quarter. That brings our year-to-date increase to more than 12%. And our tenant sales per square foot for the trailing 12 months are now up to $539 a square foot.

With a strong fourth quarter, we’ll be very close to our 2007 peak productivity of $555 per square foot. Sales were up across the board with 13 centers up double digits. This included nearly all our centers in Michigan and Florida.

Luxury was particularly strong with concepts such as Cartier, Louis Vuitton, Gucci, Fendi and Dior among our top performers. Other retailers in many categories posted double-digit increases. They included Abercrombie & Fitch, Hollister, Ann Taylor, Justice, H&N and Victoria’s Secret in apparel, Champ Sports in sports, Foot Locker in shoes, Apple and Sony in electronics, Bath and Body in beauty, Oakley in eyeware and accessories and Pottery Barn Kids and Restoration Hardware in home furnishings. Remember, each of these tenants was up in double digits.

As sales increase, the leasing environment gets better and better. Retailers clearly have opened to buy for expansion in 2011 and 2012. The luxury component at Beverly Center continues to grow. We just signed another expansion of Louis Vuitton, now the second time they have expanded in the center.

Prada is under construction and opening soon. They join Gucci, Burberry, Ferragamo, Fendi and the recently expanded Dolce & Gabbana store. At Short Hills, we just leased Prada and Miu Miu.

At Dolphin, we’ve recently signed three new outlet stores including Movado outlet, True Religion outlet and Lord & Taylor outlet stores. This is only one of three Lord & Taylor stores that has opened.

At Willow Bend, we’ve added Bailey Banks & Biddle under a new owner who is opening several new stores.

And finally, at Great Lakes Crossing Outlets, this center has been renamed and rebranded as an outlet mall. Its drawing shoppers from throughout southeastern Michigan and from across the river in Canada, the center sales reflecting this popularity. We’ve recently signed a number of new outlet stores there. They include Lord & Taylor, aerie, HUGO BOSS, Lacoste, Movado and Talbots. Most were ready for business when we celebrated the center’s rebranding in early October.

These new stores joined a host of other outlets such as Polo Ralph Lauren, Banana Republic, Chico’s, Calvin Klein, Coach, Michael Kors, BCBGMAXAZRIA and Nike. We’re anticipating a very strong holiday season at this center.

Moving to rent, we’re encouraged by the 1% increase in our opening rents for the trailing 12 months. We expect to be up as much as 5% for the full year. This is positively impacting our average rent per square foot, now modestly up for the quarter.

Although the trend is improving, we still expect average rent per square foot to be down 1.5% for the full year. Our ending occupancy was 88.6% for the quarter. That’s up 70 basis points from the second quarter. This is consistent with our guidance and we continue to expect to end the year at least even with 2009 which was 89.6%. Our temporary leasing program continues to be strong, ending the quarter at 4.1% of tenant area. If we added this number to our permanent occupancy statistic, we’d be ending the quarter at nearly 93%.

Temporary leasing is likely to approach 5% by year-end, a record for the company. This demonstrates our ability to quickly mobilize and fill spaces as they become available, often before permanent tenants start construction in the first and second quarter.

Temporary leasing is generally dealt with center-based agents. They have been very creative in finding local and regional retailers with innovative uses for our space. This provides more income to us and greater convenience for our shoppers by filling merchandise voids. And the most successful temporary constants often evolve into permanent tenants. Bankruptcy filings comprised 0.5% of leases during the quarter bringing our bankruptcy statistic to 0.7% year-to-date, a low percentage.

Over the past 10 years, bankruptcy during the first three quarters has ranged from 0.3% to 3.9% of leases. Typically fourth quarter bankruptcies are low as tenants will usually try to stay open through the holiday selling season.

We’re very pleased to report comp center NOI growth of 1.1% this quarter, excluding lease cancellations. This resulted from positive trends in special leasing, percentage rent, and lower center-related expenses.

So we’re raising our comp center NOI guidance for the full year from down 2% to down 1%. If you exclude the impact of CAM capital, about 70 basis points, the NOI for the year is nearly flat.

On the external growth front, I’d like to spend a few minutes on Asia where we were delighted to announce our new president, René Tremblay. We said all along we’d wait until we found the right person, and we found him in René. René comes to us from Caisse de dépôt, the largest pension fund manager in Canada. He was president and CEO of Ivanhoe Cambridge, their retail real estate subsidiary for 14 years. In January 2009 he was promoted to executive vice president of Caisse’s real estate portfolio.

It’s one of the ten largest real estate portfolios in the world. He has a very successful track record over 30 years building teams and leading an organization in every facet of retail real estate from the ground up. He’s also been very involved with the international real estate community for almost 20 years, starting long before it was in vogue in the U.S. And he has extensive experience in emerging markets, including China.

We’ve known each other for years. He’s been an active trustee of the ICSC. He was worldwide chairman from 2007 to 2008. And you may recall that Ivanhoe made a very successful investment in our International Plaza project where they became our partner in the development in 1999. The center opened in 2001 and they profitably exited in 2004. With our new leader in place, we are as enthusiastic as ever about the opportunities ahead of us in Asia. We firmly believe that it will be an important leg of our growth going forward.

We are continuing to build our Asia team and by year-end should near 30 people. Our hiring is focused in Korea in order to staff for the recently announced development services, leasing and management contracts for the International Financial Center in Seoul. We’re pleased to be involved with the 430,000 square foot retail component. The entire mixed use project is 5.4 million square feet.

Now, I’d like to turn the call over to Lisa and I’ll return at the end of the call for some closing comments.

Lisa Payne

Thank you, Bobby. This quarter our FFO per share was $0.59. Here are the variances from 2009, which are listed on page nine of the supplemental. First, rent; up $0.025 from last year. That’s from higher percentage rents and greater income from temporary tenants and specialty leasing. Net recoveries, unfavorable by $0.01, that’s primarily because of promotional expenses at the centers.

We continue to expect net recoveries for the full year to be down on a year-over-year basis, primarily due to reduced CAM capital spending. However, it’s not down as much as we originally anticipated. As we said last quarter, we’ve been working hard on reducing costs. Now that CAM is effectively fixed in about 50% of our leases, significant expense savings will drop to the bottom line.

The third item is net recovery from third-party services, favorable by $0.01. Net revenue from International Financial Center in Seoul contributed to this variance.

Next up is lease cancellation revenue, down $0.12. This variance was a result of particularly high collections in the third quarter of 2009. In 2010, we expect our largest collection to occur during the fourth quarter. That’s when we’ll record the Willow Bend Saks payment which was received in early October.

Through September, we had collected 9.2 million of lease cancellation revenue, including one large settlement in the first quarter. Our guidance now assumes approximately 22 million for this line item for the full year. Over the past six years, lease cancellation revenue has ranged from 8 million to the record high of 22 million that we anticipate for this year. Although we haven’t completed our 2011 budget, we do not expect the current year’s pace to continue.

Excluding the two large payments this year, our lease cancellation collections would have been about 6 million. At 6 million for next year, we would have a negative variance of nearly $0.20 per share. Interest expense was unfavorable by $0.01. That’s from the financing of Partridge Creek in late June. It was partially offset by the favorable variance of the MacArthur Center refinancing. With the default rate on the loan, the Pier Shops impacted our results negatively by $0.03. And finally, dilution from share-based compensation is unfavorable by $0.01.

Now turning to our balance sheet. Our debt-to-total market capitalization stood at 43% at quarter-end and our interest coverage was 2.3 times and fixed charge coverage stood at 1.9 times. We’ve now completed our fall 2010 debt maturities and are very pleased with the excellent 10-year rates we’ve been able to lock in, while at the same time generating excess proceeds. The details of these financings are in the press release and the supplemental.

Now looking ahead, we have several refinancings in 2011, International Plaza, Fair Oaks, and the lines of credit. The $325 million International Plaza loan, of which 163 million is our share, matures in January 2011 and has two one-year extension options. Currently, the loan is fixed at about 5% due to a rate swap that also matures in January. If we extend, the loan will revert to a floating rate at LIBOR plus 1.15%. The extended loan would be prepayable at any time. We’re likely to initially extend this loan. However, we are still determining our ultimate course of action.

Since the center will celebrate its 10-year anniversary in 2011, we’re expecting significant increases in income as the leases roll. Therefore, we’re weighing the decision to fix in today’s low interest rate environment versus the potential for greater proceeds in a year or two. In either event, an extension or a new financing, we’re expecting to have a modest paydown requirement in 2011, which we’ll finance with our revolver.

It will be very hard to pass up a big mortgage at a floating rate that is currently less than 1.6%. On the other hand, it’s enticing to lock in longer-term money at today’s favorable rates. As we said, we will be continuing to think through this decision, but for now we’ll likely extend.

At Fair Oaks, we also have a refinancing versus extension decision to make when the 250 million mortgage matures in April. This is a mature asset with normal lease rollover. Therefore, it’s quite likely that we’ll refinance at the full amount rather than extend. But if we choose to extend, it would be also at a great rate of LIBOR plus 1.4%. We have a 50% interest in this asset.

The $550 million line of credit has a one-year extension option that we fully expect to exercise. The pricing will remain at its current attractive spread of 70 basis points over LIBOR.

As we said in our press release, our Board made the decision to discontinue financial support of Regency Square in Richmond. Performance at this center has continued to decline despite significant merchandising efforts. Recently, we obtained a waiver from our bank group that allows us to take this action without triggering a default under our line of credit. We’ve begun discussions with the lender regarding the ownership of this property. Under GAAP, we’ll continue to record the operations in our results and effective late fourth quarter, we expect to begin recording default interest on the loan. That rate is 10.75%. With the default interest, Regency impacts our FFO but not our cash by approximately $0.005 per month.

Like the Pier, we expect the transition process, which is beyond our control, to take some time. We currently do not feel we can predict when we will successfully dispose of either asset.

Our other center in Richmond, Stony Point is performing very well. The new CinéBistro that just opened up at the center will be a terrific addition to the property. CinéBistro joins the new BB and BCBG stores that opened at the center earlier this year.

And with that I’d like to turn the call back to Bobby.

Robert Taubman

Thanks, Lisa. As we said in the release, for the full year 2010 we’re increasing our FFO guidance to the range of $2.77 to $2.82, notwithstanding adding another quarter of the Pier. Let’s put this in perspective for the year.

We started the year with a guidance range of 2.55 to 2.75 with a midpoint of $2.65. If you deduct the results of the Pier for a full year from the 2.65, the midpoint was effectively $2.51. We are now guiding you to a range with a midpoint of $2.80. This is nearly a $0.30 increase.

Approximately $0.15 is attributed to higher than expected lease cancellation income. About half the remainder is because you and we own great assets that have recovered strongly and at a curve. This resulted in higher rents and sponsorship income than we budgeted. The remainder is from steps taken to reduce costs as well as lower interest expense.

In summary, we feel very good about the quarter. Tenant sales continue to be strong. Our 2010 re-financings were completed on attractive terms and we’re delighted René Tremblay has joined us as our new head of Taubman Asia.

On this note, we’ll open the call to questions. As Barbara said, please limit your questions to two so that everyone has an opportunity. Stephanie, are you there?

Operator

I am here.

Robert Taubman

Okay. Questions, please.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question is from the line of Craig Schmidt with Bank of America Merrill Lynch.

Craig Schmidt - Bank of America Merrill Lynch

Thank you, good morning. Bobby, I’m wondering what changes in approach to the Taubman Asian business will take place now that René Tremblay is heading that operation?

Robert Taubman

Good morning, Craig. I think as we said over the course of this year, we have been focusing tremendously with regionally, an outside consultant, but internally as well about what markets we want to be in and what products we want to offer, and do we want to selectively provide services without investment. And all of those things we’ve spent a lot of time with René on. And we’re in complete alignment and agreement. Our focus on China and Korea, we’re going to narrow the geography to focus on China and Korea as we have. And we are prepared to broaden our products beyond sort of the urban mall that we’re known for and that we’ve been focused on there initially. And more recently with the providing of services to IFC, International Financial Center you can see that we are prepared to provide services which do allow us to be involved in a very exciting project that’s in the heart of Seoul that also helps build our brand, build our knowledge and build our team in Asia.

Craig Schmidt - Bank of America Merrill Lynch

Okay. When do you think we may see your first investment out of this arrangement?

Robert Taubman

That’s a good question, Craig. We’ve working very hard on a whole bunch of things including some of the things that we’ve talked about in the past. But we don’t have anything to tell you at this point. When we do, believe me, we’ll be happy to talk to you about it.

Operator

Your next question is from the line of Quentin Velleley with Citi.

Quentin Velleley - Citi

Good morning. Just in terms of the Regency Square hand back and I think you made the comment that it was going to be half a penny a month from the default rate. So I’m just trying to work out what the NOI from that asset would be. And it looks like it’s about I think 2.8 million which would have been a 3.8% debt yield on the 72 mortgage. Is that about right?

Lisa Payne

Quentin, we don’t really comment on individual assets. And at this point really what we’re focused on is being very productive with the servicer, it is a CMBS loan to transition ownership. The asset in fact does have, we’ve had Forever XXI. We did a lot of merchandising work, Texas de Brazil. There are some stores there doing well. But the debt amount is too high. And we’re going to work productively to transition ownership.

Quentin Velleley - Citi

Okay. And then just in terms of the lease term fees, which I think in the previous guidance there are $11 million for the year. And then it now goes to 22 mil. I assume that most of that was coming from the Saks closing. But their announcement was about 10.6 mil on two stores that were closing. So I’m just wondering whether there were other lease termination fees you’re expecting to get in the fourth quarter.

Lisa Payne

Yes. It’s not exclusively Saks. We said a majority of it is Saks. But there are no other real large ones. It’s just a more normal quarter of potentially other lease cancellations.

Quentin Velleley - Citi

Okay. All right. I’ll come back in. Thank you.

Operator

Your next question is from the line of Jay Habermann with Goldman Sachs.

Jay Habermann - Goldman Sachs

Hey, good morning. Just focusing on the Saks at Willow Bend, can you give us some indication what type of anchor you might see to replace Saks with?

Robert Taubman

We’re not at this point ready to say anything at all, Jay. And the Saks closing was part of a broad continuing refocusing on their overall businesses. And if you look at markets that they’re participating in, there’s no market like Dallas that has a competitor like Neiman Marcus. Nieman’s is performing very well at Willow Bend. It is their headquarters. They have three stores in that market, and I think it’s tough for any store, including Saks to compete in that market with them.

So given their refocusing, this was not surprising to us. The Dallas economy is doing very well, especially relative to the rest of the United States. We’re very confident that just as we found the right solution on the Lord & Taylor pad, with Crate & Barrel which is now well under construction and opening in March of next year that we’re going to find the right solution for this location as well.

Jay Habermann - Goldman Sachs

Okay. And maybe sticking with the anchor theme, I guess given the announcement by Vornado and Pershing Square, have you begun looking at anchor locations? Do you think this might be an opportunity for redevelopments over the near-term, I guess just given very limited mall development in the U.S. today?

Robert Taubman

We’re always focused on redevelopment. And I think we talked in the past that I think nearly every one of our assets is either new, renovated or expanded within the last decade. So we’re very focused on maintaining the quality of the assets to the shopper. So the answer is yes on this particular situation. But just generically we’re very focused always on reinvesting in our assets.

Jay Habermann - Goldman Sachs

Is this something we should see in the near-term, or is this something that you’re just continuing to evaluate but we probably shouldn’t expect much in the way of 2011 or 2012?

Robert Taubman

We are evaluating our options. There are a number of options we have in front of us. And when it’s appropriate for us to disclose it, we will.

Operator

Your next question is from the line of Christy McElroy with UBS.

Christy McElroy - UBS

Hey. Good morning. Bobby, last year at this time you gave us a sense for where you thought Q4 sales growth would shake out. What do you expect for sales trends going into the holidays and when do we start to come up against tougher comps?

Robert Taubman

Well, Christy, the increase as I said is very broad-based. When you’re talking about over 12% year-to-date, it’s across all categories. It’s not one or two tenants. Our 12-month ending number was 539 as we said in our comments. We think it’s possible, based on the trend remember we were up 4% a year ago in the fourth quarter of ‘09 on very easy comps and very tough numbers in the fourth quarter of ‘08.

So just based on trend, we should certainly be ahead of 550 a foot and near our peak of 555 a foot of 2007. And in fact, if we only get a 4% increase, we’ll be at 550 in that fourth quarter. So I would be disappointed if we weren’t ahead of 550 a foot.

Christy McElroy - UBS

Okay. And then Lisa, I asked you about this last quarter but I wanted to touch on it again given some of the market changes and some of the REIT preferred stock issuances we’ve seen in the last month or two in the high sixes and low sevens with coupons in the low eights on 130 million of your preferred. Have you looked at whether or not it makes economic sense to refinance those issues with new preferred?

Lisa Payne

Yes, Christy. We continually monitor that market and have calls with our friendly investment bankers who would love us to do a transaction. When you look at one of the issues with the preferred is they’re very high fees. And so many people, I think, say you need a 50-basis point breakeven or decline to make it worth it. I think that’s kind of pushing it. It’s probably breakeven at that point and you’re doing a lot of work and transact time and effort.

So I kind of think it’s more like 50, 75. And frankly at this point, I think we’re roughly on top of that. So if the market improves another 25, 50 basis points, remember we are not rated. And we have a lot of secured debt in front of us. We think our secured is a great investment at the rate it’s trading at now. But opening up the issue and reissuing it at this point is still not competitive.

Christy McElroy - UBS

Okay. So if you were to go out in the market today you’re probably looking in the low sevens?

Lisa Payne

I would say since the last time which was within the last month that I checked, you’re about, that’s correct.

Operator

Your next question is from the line of Michael Mueller with JPMorgan.

Michael Mueller - JPMorgan

Yes, hi. With respect to Great Lakes Crossing and the transition there in terms of what you’re doing, can you talk a little bit about what may be happening in terms of the economics and the way the center was set up beforehand, a little bit about rent levels, occupancy cost and versus moving more to a pure outlet-type concept? And I know you’re probably not going to throw hard numbers out, so any marginal direction would be appreciated?

Robert Taubman

Well, I think, Michael, the bottom line is that the sales in the center have improved very strongly, which we have said on prior calls in the last number of quarters. And we’re now at the point where we have almost 80 outlet stores in that center. And the momentum in the outlet business is very high.

So everything starts with sales as we’ve talked about many, many times in the past. And the outlet tenants that are there are very, very happy with their new venue that they have in Great Lakes Crossing. So it’s our sense that, as you’ve heard me talk in the past, income follows sales. And we would not have started on this unless we felt in the end we would end up net ahead in net income. And we strongly believe that.

And given the fact that the asset was already moving in that direction, there other than some signage and some tenant allowances here and there, this is not a huge cost to make this thing happen. It’s a logical decision that we focused on after a lot of analysis, and we’re very, very pleased with the initial direction of the rebranding.

Michael Mueller - JPMorgan

Okay. And one other question. I think you mentioned expected year-end occupancy to be at least 89.6, which is comparable with last year. I think you said temporary leasing could be 5% of occupancy at year-end. If we go back to last year, what percentage of occupancy was temporary leasing at that point? Is that 5% 100 basis points better, is it something more or less?

Robert Taubman

I think it was about 4%. We can check and get back to you on it. But I think we’re about 100 basis points better. Again we said that the 5% is a record number for us historically. And you’re right, when you add the two together you’re getting the 90, almost 95% of our total space. We just looked it up. It’s 4.2%.

Operator

Your next question is from the line of Cedrik Lachance with Green Street Advisors.

Cedrik Lachance - Green Street Advisors

Thank you. So now that you expect your sales to essentially get back to big pricing and when I look at occupancy cost ratios you’re reporting about 14.5% now. But it’s a fair bit off where you tend to negotiate leases. What do you think will happen to your ability to increase rents in the portfolio over the next couple of years?

Robert Taubman

Well, Cedrik, first of all, you’re right that we’re forecasting in that range of 14.5% for the full year. But remember that is an average for the portfolio. And in order to get to that average in the portfolio, you’re right, you have to be at higher initial occupancy cost based on trailing sales, trailing through your sales as we’ve discussed it with you, in order to end up averaging the 14.5.

You can see in our opening rents, in the last quarter through September 30th, we were at 4738. At June 30th, we were at 4655. And at March 30th, we were at 4480. So when you look at that kind of a trend and add to it what we said in our prepared comments that we expect to be up as much as 5% for the year, for the 12 months. That what you’re beginning to see is some pricing power returning, as a result of the kinds of sales increases that our portfolio is experiencing.

So you’re going to see it in average rent. Yes, we’re down 1.5% for the year, but we’re beginning to have bottomed out and our NOI discussion, same kind of thing. So, I think, you’re seeing in the fundamentals, a very clear bottoming out and a very clear turning up.

Cedrik Lachance - Green Street Advisors

And as far as the tenant allowances, are you able to reduce the amount that you’re providing to tenants this year versus what you did and let’s say negotiations a year ago?

Lisa Payne

Cedrik, I’d say on the allowance side, we’re basically about flat. In fact, in 2009 many of the retailers just didn’t want to expand. And it wasn’t an allowance question, it was just they were really pulling back.

We’re coming back to a more normal level. And we may be a little up, but you’re not going to see a dramatic. And our allowances tend to be when they jump up, it’s because we’re doing more restaurants, whether it’s merchandising decisions or renewals or whatever on the restaurant side. That tends to be the chunky numbers. On the normalized retailing, small shops, they stay fairly constant on a per square foot basis year-to-year.

Operator

Your next question is from the line of Ben Yang with Keefe, Bruyette & Woods.

Ben Yang - Keefe, Bruyette & Woods

Hi, Good morning. Bobby, given your increasing focus on outlet centers, did you take a look at the Oklahoma City development that CBL is stepping into? And if you did take a look, I’m curious, if you have an opinion on that particular project?

Robert Taubman

Well, I think, that you are right that given our focus on outlet centers that we’re going to look at everything that’s available in the market. That certainly is an asset that was available. And I’m sure CBL and Horizon will do well with it. Our focus has always been on the sort of highest quality properties. And we intend to focus on highest quality properties within the outlet world as well as within the regional mall world.

Ben Yang - Keefe, Bruyette & Woods

Okay. And then second question, can you maybe talk about your expectations for seasonal tenants and pop-up stores in your portfolio? Because it sounds like Toys “R” Us is planning a lot more pop-ups this year than last year. Are you seeing that activity in your portfolio or in your leasing?

Robert Taubman

Yes. I mean when we talk about the record level of temporary leasing at 5%, which is about 80 basis points higher than it was last year, which I think itself was a record, I think that you’re seeing a lot of temporary activity across broad merchandise categories. And people that are permanent tenants are coming up with ideas just for the holiday season or for other holiday events. So this has really become a very important business. It used to be cottage business. When you talk eight, 10 years ago, it was really a cottage business. It’s a very professional business today with a lot of significant players in it and we think it’s a permanent source of income long-term.

Ben Yang - Keefe, Bruyette & Woods

Just final question as a follow-up, what percentage of your pop-ups did you convert to long-term leases last year?

Robert Taubman

I don’t know the answer to that question. But it’s not material, but it’s enough so that it’s a very interesting feeder to our business. And because people are able to sort of test merchandise categories and merchandise voids. And then determine whether or not us, the landlord and the tenants, determine whether or not it is an opportunity to create a broader business and we love the business. We think it’s great.

Operator

Your next question is from the line of Alex Goldfarb with Sandler O’Neill.

Alex Goldfarb - Sandler O’Neill

Yes, hi. Good morning. Just looking at the retailers from what they’re telling you, it sounds like it’s going to be a lot of heavy promotions. Just sort of curious if that’s what you’re hearing or if your view is that people are still going to try to push full-price merchandise.

Robert Taubman

Good morning, Alex. My sense just from conversations with retailers is that they have been very promotional in the past. Last year, they tried to move away from that in the holiday season. The NRF, the National Retail Federation has been talking about a 2.5% increase, which is one of the best forecasted increases they’ve had in many, many years. This is like five, six, seven years kinds of things. So I think if you’re getting that kind of comp in with almost no inflation, then what you’re going to see is more sell-through at retail than we’ve had in the past. Retailers are still going to be promotional. Customers have long expected promotions, especially as they get further and deeper into the holiday selling season. But I think there is an effort to sustain more margin and greater profitability for the same inventory dollar, so we’ll see. But I’m more optimistic that there’ll be less promotion this year than there was say two and three years ago.

Alex Goldfarb - Sandler O’Neill

Okay. And then along, it sounds like you guys have been doing a fair amount of portfolio review with your investment in the Pier and Regency Square, the latest. Willow Bend, it’s part of your line so it’s not directly encumbered by a mortgage. What are your thoughts there on that asset? Is there enough demand from people who want in the real estate that there could be a fair price that you can get for it? Or is your view that it’s worth the continued investment to continue to work with that asset?

Robert Taubman

It’s absolutely our view that it’s going to be a terrific asset. The center has nearly 150 stores in it today. We mentioned Crate and Barrel earlier. We got a fabulous Neiman Marcus store there. It’s in one of the best growing markets in the U.S. Why we would ever feel anything but good about that asset, I don’t understand. Obviously, Saks has left its center, but we feel very good about the center and our prospects to find the right solution for that location.

Lisa Payne

And one other thing I’ll mention, it actually is not part of our line, it is totally unencumbered.

Alex Goldfarb - Sandler O’Neill

Okay. Okay, my bad. Thanks.

Lisa Payne

Yes, our line is Twelve Oaks, Dolphin and Fairlane.

Operator

Your next question is from the line of Paul Morgan with Morgan Stanley.

Paul Morgan - Morgan Stanley

Good morning. There were a number of retailers that announced some store closings that they’d be doing over the next year or so last quarter, and just wondering. And then there are others who are looking to downsize stores when their lease expires. Can you just talk about how the relevance of that for your portfolio and then to the extent it is material, to what extent you’re seeing new concepts that are coming in to back fill space?

Robert Taubman

Well, I’m not sure exactly which ones you’re suggesting. Our bankruptcies have been very low.

Paul Morgan - Morgan Stanley

American Eagle, Abercrombie, Ann Taylor, they’ve all announced store closings.

Robert Taubman

Well, I think that as we’ve worked through and the portfolio over the last two years there have been a lot of those changes. And I think the quality of our portfolio, tenants unless they’re working through entire divisions, which they have done through this very difficult financial crisis, then we don’t expect there to be a lot more movement of that kind within our portfolio going forward, at least in the next period of as you’re suggesting 2011 and 2012.

Paul Morgan - Morgan Stanley

And then could you address the new concept side? What are you seeing there?

Robert Taubman

Well, I think that companies are still recovering. They’re starting to as we said in the comments that they’re open to buy for ‘11 and ‘12 is very evident. They want to be in our assets. We’re talking to them about their existing businesses. There isn’t a lot, they’re not ready yet to begin completely new concepts in this environment. But it will happen. It’s a cycle.

And over the next several years people will begin to look for ways to expand their businesses, and especially where they have effectively built out their footprints within the U.S.

Paul Morgan - Morgan Stanley

Okay. Thanks. And then, could you just talk about the leasing progress in Salt Lake and whether that has any implications for sort of the timing that you would think about any other types of mall expansions or redevelopments? How ready are retailers, enough retailers ready to take up a bunch of space right now?

Robert Taubman

Well, first of all at Salt Lake City, construction is right on target. We’re opening in March 2012. I encourage all of you to go look at this thing. It is an amazing project right in an urban core. And it’s huge in terms of the efforts that are going on at the center and right adjacent to it.

The leasing is going well, both from a merchandising standpoint as well as the economics. The center only has about 300,000 square feet of mall shop space on two levels. So that there’s really not a lot to lease in the context of what our normal asset size is. And we’re not concerned at all about our ability to lease the center as we anticipated.

And we’ve had no change in our investment outlook there. You’ll recall we’re investing $76 million and we’ve been focused on 11% to 12% unlevered return as stabilization. And so those of you that don’t remember, we own 100% of this, but it is on a participating ground lease with the Mormon Church.

With respect to the second part of your question, which is development, and is the leasing market getting to the point where we’re ready to begin new development? We’ve always talked about there really are four gates that we have to get through before we’re able to build a new project.

The first is the department store interest. We’ve got to have the anchor stores that help create the environment and draw the critical mass, ready to go forward. And they’re beginning now. I think we said this in our last call. They’re beginning now to show interest in the future, now that they’ve come through this recent two years.

The second thing, of course, is the specialty store interest. And it has to be a broad enough interest to meet the rent levels that are necessary to hit sort of the third point, the third gate, which is the basic economics and the basic returns of these projects.

The fourth hurdle is capital availability. And capital is now becoming available even for new construction, it’s beginning to come available. So over the next period of time, and I don’t know whether that’s a year or two years, but over the next period of time we expect to begin to see new construction begin again whether ourselves or others, it will begin again.

And as I said many times, the country is still growing. It’s growing 3 million people a year. And that means that over time there’s going to be more projects that are going to be required. There’ll be demand for new supply of space. So we believe over time we’re going to be able to build a number of projects in the U.S.

Operator

Your next question is from the line of Quentin Velleley with Citi.

Quentin Velleley - Citi

Yes. Just in terms of the Pier Shops at Caesars. I know that in quarter one, I think, it was about $0.02 impact from that and in the second quarter about $0.025. And now I think you’re saying it’s going to be $0.14 for the full year. I’m just wondering what the reasons for the increase in the costs for that have been?

Lisa Payne

The default rate of interest compounds. And so through the year it did grow. We think of it now as $0.14, basically for the year. But it is not evenly spaced.

Quentin Velleley - Citi

Because there’s a larger impact in the fourth quarter?

Lisa Payne

Right.

Quentin Velleley - Citi

And then just going back to the 500 basis points of temporary tenants you’ve got, obviously with a 88.6% occupancy rate you can look at a lot of upside in there in terms of NOI. But obviously if there is some tenants in there, that upside might be tapped. But I’m just wondering what kind of rates those temporary tenants are on versus what you think market rents are for maybe what the sort of the rest of the portfolio is.

Robert Taubman

Well, Quentin, I don’t know the exact average of the temporary tenants expected for the fourth quarter. Now, I would say that it varies and sometimes it’s hard to compare. Because you’ll move a temporary tenant that wants 1,500 square feet into a store 5,000 feet, because that spot’s open. So are you really talking about the space they’re using or the full space? A permanent tenant typically pays on average a higher rent. But we do have many examples where temporary tenants for one reason or another are paying extraordinarily high rents.

Lisa Payne

Particularly for that period, for the holidays.

Robert Taubman

Right, for the holiday period. So everybody likes permanent tenants better. But the temporary tenants have really created an opportunity for the shopper, as well as the landlord to create more merchandise, fill voids and also create income.

Operator

Your next question is from the line of Tayo Okusanya with Jefferies & Company.

Tayo Okusanya - Jefferies & Company

Hi. Good morning, everyone. Just a quick question on operating expenses for the quarter. I just wanted, it kind of looks sequentially from second and third quarter there seems to be a slight increase in operating expenses. I was wondering what exactly that related to and whether that was going to be sustainable going forward?

Lisa Payne

When you’re asking a question about operating, are you talking about recoveries or operating expenses at that level, or other operating expenses?

Tayo Okusanya - Jefferies & Company

On the recovery side when I kind of look at the maintenance, taxes, utilities, and also the shopping center-related expenses?

Lisa Payne

Okay. I’m just taking a look at our schedule. There’s nothing unusual. Many times on the tenant recoveries it is timing. There’s promotional expenses and how that gets spent through the year varies. So I don’t think there’s anything unusual, and I think it’s just typical. We also have variances in the electricity rates and collections that will impact that as well. So I would say for the year our recovery ratio we’re expecting to be pretty much in line with where it’s been over the last two years for the year.

Tayo Okusanya - Jefferies & Company

Got it. But just this particular quarter I was assuming just there have been more timing related than anything else?

Lisa Payne

Correct.

Operator

(Operator Instructions) At this time you have no further audio questions.

Robert Taubman

Well, Stephanie, thank you and thank you all for joining us. As you could hear, we’re really delighted with our tenant sales. And we’re delighted with René Tremblay. So we welcome your questions later. Thank you again for joining the call. Bye-bye.

Operator

This concludes today’s conference call. You may now disconnect.

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