Duke Realty CEO Discusses Q3 2010 Results – Earnings Call Transcript

| About: Duke Realty (DRE)

Duke Realty Corp. (NYSE:DRE)

Q3 2010 Earnings Call

October 28, 2010; 03:00 am ET

Executives

Denny Oklak - Chairman & Chief Executive Officer

Christie Kelly - Executive Vice President & Chief Financial Officer

Mark Denien - Chief Accounting Officer

Randy Henry – Assistant Vice President, Investor Relations

Analysts

Jamie Feldman – Banc of America

Josh Attie – Citi

Sloan Bohlen - Goldman Sachs

Brendan Maiorana – Wells Fargo

Mike Knott – Green Street Advisors

Vincent Chao – Deutsche Bank

Ki Bin Kim – Macquarie

Paul Adornato – BMO Capital Markets

Chris Caton – Morgan Stanley

Operator

Ladies and gentlemen, thank you for standing by and welcome to the Duke Realty’s Quarterly Earnings Conference Call. At this time, all participants are in a listen-only mode. (Operator Instructions)

As a reminder, this conference is being recorded. And I would now like to turn the conference over to your host, Mr. Randy Henry. Please go ahead.

Randy Henry

Thank you. Good afternoon, everyone. And welcome to our third quarter earnings call. Joining me today are Denny Oklak, Chairman and Chief Executive Officer; Christie Kelly, Executive Vice President and Chief Financial Officer; and Mark Denien, Chief Accounting Officer.

Before we make our prepared remarks, let me first remind you that statements we make today are subject to certain risks and uncertainties that could cause actual results to differ materially from expectations. For more information about these risk, we would refer you to our 10-K that we have on file with the SEC dated March 1st, 2010.

Now, for our prepared statement, I will turn it over to Denny Oklak.

Denny Oklak

Thank you, Randy and good afternoon, everyone. We’re pleased to have completed a strong quarter executing on both operations and on our asset repositioning plan. I’ll highlight some of the operational successes during the quarter as well as progress in our asset positioning and Christie will address our third quarter financial performance and activity in the capital markets.

As I’ve mentioned, during previous calls and meetings, the industrial sector continues to show signs of recovery in most of our markets. But the velocity of performance is still not approaching what we would consider normal activity. Transactions are getting done and decisions are being made, which reflects a settlement in that space, customer demand is beginning to return albeit at a slower pace.

Our industrial teams have done a superb job in this difficult environment as evidenced by our occupancy in our total industrial portfolio, achieving over 90% in the third quarter. Generally speaking, we are seeing this possible momentum in all of our bulk industrial markets as indicated by the increase in occupancy in nearly all of them during the third quarter. We are now over 90% leased at 14 of our 20 markets. The Port of Savanna also reported a 20.1% growth in TEUs up for the third quarter, which is also an indicator that there is continuing growth on the distribution side.

The office environment is still generally slow as we have anticipated since late last year as long as unemployment remains high and businesses are reluctant to add new employees, office demand will remain sluggish and will generally like the industrial sector.

With that said, we are very pleased to report that our overall office portfolio, occupancy increased pretty significantly during the third quarter, driven by some key leases in several markets. On the development side, I’m pleased to announce that we had two major wins during the quarter. First we were awarded a $1.3 million square foot industrial build-to-suit for a high credit tenant in Columbus, Ohio on a 10 year lease. We’ve previously mentioned that we were seeing some build-to-suit opportunities and this is a great project for us in one of our existing industrial parts.

Second, we signed a 406,000 square foot expansion to a bulk industrial building for amazon.com in our AllPoints at Anson Industrial Park in Indianapolis. With this expansion, the lease can be over 1 million square feet or the building will be over 1 million square feet with a full 10 years, remaining on the lease. Both of these projects are inline with our asset strategy of increasing our investment in the bulk industrial product. We’re also pursuing several medical office development opportunities and expect to have some new activity to announce in the fourth quarter.

Turning to specific third quarter operating highlights, the overall occupancy in our portfolio was 88.9% at September 30th up from 87.9% at June 30. As noted above, the increase was driven by leasing in both our office and industrial. We picked up 90 basis points of occupancy in industrial and 117 basis points in office.

We signed over 8.5 million square feet of leases during the third quarter a continuation of our strong first half of 2010 activity. To put this in perspective, the 8.5 million square feet is our highest quarter of leasing since the third quarter of 2007. We’ve executed on over 20 million of leasing year-to-date, which is the strongest year-to-date performance since 2007 as well.

A couple of key leases on the industrial side in the core portfolio included our first lease in a 212,000 square foot speculative office building in Atlanta NPS for 150,000 square feet moving the occupancy to 73%. We also expanded our existing tenant plastic pack in our Garland Business Center in Dallas by 250,000 square feet.

Our key office transactions during the quarter included five leases for over 90,000 square feet and our 3630 Peachtree project in Atlanta. This project is now nearly 30% leased and Christie will discuss our recent loan restructuring on this project. In Dallas, at our Duke Bridges III project, we executed a 50,000 square foot lease with Oracle improving occupancy in the new 160,000 square foot building to just over 80%. And in Raleigh, we executed two leases, totaling 47,000 square feet in our CAPTRUST Tower joint venture building taking the occupancy to over 58%.

We also signed some significant key office renewals during the quarter, including over 315,000 square feet for seven years in one of our federal crossing office buildings in Columbus with nationwide insurance. And a 168,000 square foot renewal of Eveready Battery in our global center office park in Saint Louis for a 10 year term.

As of September 30th, our wholly owned development pipeline consists of only three projects including two medical office properties comprising 253,000 square feet, which were 92% pre-leased. And the previously mentioned 1.3 million square foot project in Columbus, Ohio, which is 100% leased.

The development pipeline is consistent with our operation strategy to focus on development of pre-leased medical office or build-to-suit industrial opportunities. Our joint venture development pipeline is comprised of only two medical office projects both with Baylor Health Care Systems in Dallas and the 406,000 square foot industrial expansion in Indianapolis that I mentioned earlier. The pipeline is 96% pre-leased.

Same property NOI for the three and 12 months ended September 30th was a positive 1.5%, and a negative 1.7% respectively, which is inline with our expectations. We also expect that the trailing 12 months for the calendar year 2010 will approach, the better end of our original guidance, which was negative 1%.

Our lease renewal percentage for the quarter was again strong at 78.5% and it is nearly 79% year-to-date. Cost to execute on the leasing activity was somewhat higher than normal this quarter primarily driven by the higher office leasing activity. The two significant renewals I mentioned in Columbus and Saint Louis were long-term leases of seven and 10 years. As I mentioned, which also leads to higher cost. In addition, both of these tenants have been in this space for a long time prior to renewals, 15 years and 10 years, another reason to cost update tenant space is higher.

During the quarter, we continue to make good progress on our asset disposition plan, proceeds from third quarter non-strategic building dispositions were $42.6 million, this puts our year-to-date total dispositions at $196.2 million. We also received proceeds of $7.8 million on disposition of land parcels during the third quarter. We are making progress on our land disposition strategy, with year-to-date proceeds of $20 million in a very slow market.

We closed on $442 million of acquisitions during the quarter, highlighted by the Dugan Realty joint venture transaction, which closed on July 1st. We also acquired the following assets. In August, we acquired two Suburban office assets in South Florida.

The buildings totaled over 465,000 square feet and were 89% leased as of September 30th. These assets are of the highest quality in a tight office market in West Broward County. In September, we acquired our joint venture partners 50% interest in a 936,000 square foot bulk industrial building located in Columbus, Ohio. The asset is 100% leased to croft foods for 10 years.

We also expect our repositioning strategy to continue to make good progress in the fourth quarter we are under contract and expect to close on over $140 million of dispositions in the fourth quarter. Most of these dispositions will come from our targeted disposition portfolio in our primarily office assets.

And now I’ll turn the call over to Christie.

Christie Kelly

Thanks Denny. Good afternoon everyone. As Denny mentioned, I would like to provide an update on our financial performance and progress on our capital markets activity. We had a strong quarter overall and are pleased with our results year-to-date.

Third quarter Core FFO was $0.30 per share, this excludes the effects of a $57.5 million or $0.22 per share gain on the Dugan acquisition and a $5.7 million or $0.02 per share reduction from adjustments from the repurchase of our Series O Preferred stock. Strong occupancy and higher service operations fee income were the drivers of our performance.

Denny previously discussed our success on the occupancy front, the higher service operations primarily relates to the progress on our BRAC third party development project in Washington D.C. The BRAC project continues to proceed ahead of schedule we now expect to deliver this project to the Department of Defense in early August of 2011 approximately six weeks ahead of our original contractual deadline of September 15th, 2011.

In terms of our capital objectives we continue to make progress on strengthening our balance sheet. After raising over $600 million of capital through multiple sources in the second quarter, we utilized a portion of the proceeds from these transactions to complete $442 million of asset acquisitions that Denny mentioned as well as repurchasing $53.7 million face amount of 8.375 Series O Preferred stock in the open markets during the third quarter at 7.8% yield.

And we were able to repurchase this small amount of our 2011 convertible bonds in the open market as well. Year-to-date, we have repurchased approximately $280 million of our unsecured bonds with maturities ranging from 2011 to 2013. Another key financing transaction that I want to point out is that we were able to extend our construction loans on the 3630 Peachtree project in Atlanta. The loan maturity date has been extended to July 2015 from July 2011 with interest rates of LIBOR plus 135 basis points through July 2011 and LIBOR plus 250 basis points thereafter until maturity.

Our team was able to execute this based upon the confidence that our lenders have in our long-term plans for this asset and our ability to execute on this plan. As Denny mentioned this project is now 30% leased.

And with that I’ll turn it back over to Denny.

Denny Oklak

Thanks Christie. Yesterday we updated our 2010 guidance to $1.11 to $1.15 per share from the previous $0.95 to $1.15 per share. Our third quarter, Core FFO of $0.30 per share was very strong driven mainly by higher occupancy and higher fees recognized on the BRAC project. As we look to the fourth quarter, we expect activities generally to continue to be challenging, so we anticipate, slightly lower FFO per share, primarily as a result of an anticipated drop in overall occupancy from known lease expiration that will occur in the fourth quarter. Somewhat lower lease termination fees, some dilution from the planned fourth quarter asset dispositions and finally lower construction in leasing volumes, which will increase G&A expense slightly.

We are very pleased with our results in both the third quarter and year-to-date. Our leasing volume has been strong in a difficult environment. Our operation strategy includes leasing up our portfolio and finding new development opportunities in medical, office and build-to-suit industrial projects. We are achieving these goals.

We are on phase with our asset strategy, dispositions were on track with expectations and we have a nice backlog of commitments lined up. We continue to pursue acquisitions that we believe will provide long-term value creation to our already strong portfolio. We continue to make significant progress in our capital strategy and remain focused on managing a healthy balance sheet. Our leverage management continued to improve through our aggressive capital markets activities and improving fundamentals. We believe that 2011 will be another challenging year for the U.S. economy, but we like where our portfolio is positioned.

We are currently in the process of looking in detail at our 2011 outlook and we will give you a more detail guidance when we are complete.

Thank you again for joining us today. And with that we will now open it up for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from the line of Jamie Feldman, Banc of America. Please go ahead.

Jamie Feldman – Banc of America

Thank you and good afternoon. As I was looking at the same-store growth in the warehouse portfolio, up 400 basis points year-over-year. How much of that is first generation space versus second generation, because if you look at, kind of the leasing activity, it looks like it would be, the second generation looks like a much smaller number. I just want to understand where that data is coming from?

Denny Oklak

Yeah, I will start and then Mark and Christie can join in. There is certainly a fair amount of that coming from first generation, when we look at from the date the building is basically placed in service. So, there are – in our same-store population there is some effect from lease up of the unstabilized portfolios. I don’t know the exact number, because I don’t think we ever really look at it that way. We look at it in total and Mark or Randy I don’t know if we have that number.

Mark Denien

No, we don’t have that number handy, but Denny is right. I think a fair amount of it is from first generation space, but we do not track that separately.

Jamie Feldman – Banc of America

Okay, I mean do you have a ballpark idea of where, what the occupancy growth would be without or is it since you already calculated?

Denny Oklak

It’s not that hard, we just haven’t done it Jamie. So we can a look at that so.

Christie Kelly

We can follow-up

Jamie Feldman – Banc of America

Okay, alright, thank you.

Denny Oklak

Sure, thanks.

Operator

Thank you. And the next question comes from the line of Michael Bilerman of Citi. Please go ahead.

Josh Attie – Citi

Hey, its Josh Attie with Michael, for the asset sales in the fourth quarter of $140 million can you talk about what the cap rate might be, I guess both the initial cap rate, so we can estimate what the dilution might be but then also what the stabilized cap rate would be on NOI in the out years?

Denny Oklak

Yeah or obviously we will report that when we close in those transactions in the fourth quarter, but most of those assets are at – first of all I would say, I think the bulk of those assets are significantly leased. And just for example one that we’ve already closed on, which makes up about a third and then over a third of that number I gave you is the VA.

We had a VA building, it’s basically a clinic building that we’ve completed down at Fort Worth and we sold that just upon completion. The cap rate on that building was around 8% or a little bit lower maybe. So, I think when you look at that blended 140 million cap rate it’s probably going to be right around 8% to 8.5% range on average.

Josh Attie - Citi

And that’s on the in place earnings.

Denny Oklak

Yes, it’s on the in place and the stabilized on this portfolio is probably being pretty close to that.

Christie Kelly

Yeah right Josh, nothing out of the ordinary.

Josh Attie – Citi

Okay, and then on the services income, I mean the two big projects that are driving now with Baylor and BRAC and it sounds like the BRAC project ends in August, are there other projects in the pipeline that could replenish that income?

Denny Oklak

Yes, I mean we’ve got some other projects that we are very close to signing some contracts on in the third party side. So at this point in time I think we would tell you, right now I think our volume is going to for 2011 on the construction development side, it’s probably going to be pretty close to where we are at 2010.

As I mentioned Josh we will really go through all the numbers right now. All our people in the field are finalizing their leasing assumptions and we’re rolling it all together, but we do have there will be some pretty significant mind from BRAC all the way through August or September of next year as we wrap it up. And then a little bit more on the Baylor Cancer Center, and then we do have some projects coming in to back those up.

Michael Bilerman – Citi

Denny, it’s Michael Bilerman speaking. Just in terms of your ’11 guidance, you know you sometimes you held the Investor Day in December I don’t think that’s happening this year. When did you plan on issuing the ’11 guidance?

Dennis Oklak

Well, right now our plan will be to issue it on the January calls Michael.

Michael Bilerman – Citi

Okay, and then just in terms of capital recycling you had this liquidity analysis page you had in your prior sub that wasn’t in this sub I don’t know if it was updated on the web. But part of that included dispositions of $350 million the next two years $250 million, this year. I guess have you rethought any of those plans in terms of accelerating that or decelerating the dispositions?

Dennis Oklak

Well a couple of comments on that, one is we really did take that out, because that kind of went in the fourth quarter or so of 2008 when everybody was very concerned about liquidity. We just didn’t think it was as nearly as well it was today as it was back then, so we did take it out. But as far as what we are looking at, you know that we have said that we have a fair amount of recycling to do to get to our targeted percentages of about 60% industrial, 25% suburban office and then 15% medical office.

So, we are going to continue down that line. It’s always a little bit hard to say in any given year, but for our general philosophy is, if we can accelerate that process either through doing the dispositions more quickly or if we can find some acquisitions that meet the profile of what we are looking at we will certainly accelerate that and we would be pleased to, the quicker we can get there the happier we will be.

So having said that, again, looking forward at 2011 I don’t think those numbers we had in there last quarter are out of line. We are going to continue just kind of march down that road, Michael.

Michael Bilerman – Citi

And then the lease roll over in the fourth quarter is about 3 million square feet. I think you said occupancy was going to stick down. I guess is there some – what sort of driving that in the fourth quarter in terms of retention, and is it coming out of the industrial side or the office side, just from a rental revenue perceptive that we need to think about heading into next year.

Dennis Oklak

Yeah, it’s really common, primarily from the industrial side, which is kind of unique, it’s, but it is a couple of downsizing that we know are coming, a couple of explorations that we know are coming here in the fourth quarter. So, overall, we think that occupancy is probably going to come down in the fourth quarter, somewhere in the 50 to 75 basis point range. But again, you never know today, but based on what our folks in the field are telling us, we think that’s going to happen and it’s primarily on the industrial side.

Michael Bilerman – Citi

Alright. Well, I can remember going back a year and then if you would be able to do a quarter of this leasing volume and you’ve been putting up some pretty good steps. So, that continues.

Dennis Oklak

Yeah. Thank you, Michael.

Operator

Okay. Thank you. And the next question comes from the line of Sloan Bohlen of Goldman Sachs. Please go ahead.

Sloan Bohlen - Goldman Sachs

Hi, good afternoon guys. Just a question on TIs and I guess the dividend as well. Is it possible to strip out what the TIs would have excluding a couple of those big office leases that you said in the quarter?

Christie Kelly

I think I can jump in there, Sloan I mean, if you strip out a couple of those large office leases and the mix associated whether it would be in our normal range.

Sloan Bohlen – Goldman Sachs

Okay. And the expectation as those TIs have stabilized and I guess the end question being if they haven’t are you comfortable with where the dividend is now relative to what FAB is showing off?

Christie Kelly

We are comfortable with where the dividend is now.

Sloan Bohlen – Goldman Sachs

Okay. But on the TIs are those stabilizing your markets, because it seem like so as the pick up and also kind of the resulting leasing activity having the quarter were a little bit linked.

Dennis Oklak

Yes, I think TIs have roughly stabilized in most of our markets, they are not really going up and concessions and those kind of thing. But I would say, I would also say that I think this quarter was certainly somewhat of an admiration, because of all that leasing activity and a couple of those bigger renewal deals that we did on the office side, which by the way we are extremely pleased to have those renewal deals done on, that’s almost 400, it’s over 400,000 square feet almost 500,000 square feet of big mid west office renewals. We are really very pleased to have completed.

So I think our initial feeling would be that going forward, we will, those numbers will be trending back down again a little bit and some of that will ultimately depend that on how fast the vacancy in the office portfolio leases up.

If we get some good activity and continued momentum on the office side, our capital expenditures are going to be a little higher. So, right now as Christie said very comfortable with where we are from AFFO FAB payout ratio and anticipated being relatively inline with the guidance that we gave at the beginning of the year.

Sloan Bohlen – Goldman Sachs

Okay and then one more question if I can, kind of Michael’s second question on the liquidity page or the strategy with regard to dispositions. It was our understanding that, with the disposition there was also some idea that there will be deliverings of the balance sheet. Is there less urgency to do that now or do you still have targets in mind where you think appropriate leverage is?

Christie Kelly

Sloan, as Denny mentioned in the call we are aggressively pursuing our capital strategy and we have not led up on the de-leveraging or the focus from that perspective and specifically just to illustrate now and a bit of timing as it relates to dispositions and where we closed out the quarter.

Sloan Bohlen – Goldman Sachs

And can you remind us of their numbers around, which you’re targeting whether it would be debt-to-EBITDA or how do you want to look at leverage.

Christie Kelly

Sure. From a debt plus preferred to gross assets we’re marching to below 50% over the long-term, fixed charge coverage ratio over to debt-to-EBITDA under 6 and debt plus preferred to EBITDA under 7.75.

Sloan Bohlen – Goldman Sachs

Okay, thank you that’s helpful guys.

Christie Kelly

Welcome.

Dennis Oklak

Thanks.

Operator

Okay. Thank you. And the next question comes from the line of Brendan Maiorana of Wells Fargo. Please go ahead.

Brendan Maiorana – Wells Fargo

Thanks, good afternoon. On the leasing that’s been done, and Denny you mentioned you’ve got a lot of large renewals done in the Midwest office, it is part of the strategy of – I don’t know if it’s more aggressive TI packages on purpose or is that just where the market is, but is part of the strategy, trying to lease those buildings up with what appear to be of longer term and then that fits into your disposition strategy, because those assets are they can then be easier to market for sale?

Dennis Oklak

That’s definitely part of the strategy especially on those very large tenants when you look through our portfolio in the Midwest, not a huge percentage of it is made up of large tenants, which is not surprising to you all and so when we look at some of these buildings – in the buildings I mentioned with nationwide over in Columbus and the Eveready in St. Louis they occupy 100% of those buildings. So there are full buildings.

But also in today’s world a lot of this is really driven by what the tenant wants as always. So we went back and forth with nationwide, they had a five-year renewal option and they wanted longer and so we ended up on a seven-year renewal option with that, which was fine with us. And then the same thing with Eveready, they wanted a longer-term renewal option.

So when that happens, your tendency is up front, you have to spend a little more, but when we look at it as I think we have said many times before to you all but we look at it as CapEx as a percent of net effective rent over the lease term and those two transactions were a little bit higher than normal for our target on renewals, but they weren’t really that far on the line. So all those things enter into it.

Brendan Maiorana – Wells Fargo

Alright, is the lease of success that you have had on the office side make you feel more confident about the disposition activity that you may have in next year if you got some stabilized assets, which are much easier to sell on this environment then especially with longer-term leases as opposed to assets that may have some more near-term loan on them.

Denny Oklak

Yes, the answer is yes to that it’s yes Brendan. Yes.

Brendan Maiorana – Wells Fargo

Okay, and then in terms of the embedded NOI growth that you have, you guys have obviously done a good job leasing up this year beyond your expectation, but it seems like that stabilized or the assets that have been completed for more than a year, but aren’t stabilized. The growth potential on that page seems like it’s quite a bit less than what it was at the beginning part of the year, is that a fair characterization and can you kind of update maybe the embedded NOI growth of around $40 million, which I think you’ve provided mid year.

Denny Oklak

Is that and are you talking on the same-store numbers or somewhere else Brendan?

Brendan Maiorana – Wells Fargo

I think there was the embedded growth potential that you had on the properties that had been completed for greater than one year, but it never reached greater than 90% occupancy, so there was some embedded NOI growth if you are able to lease those out.

Denny Oklak

Yeah, it’s still roughly there. We probably realized a little bit of that may be starting in the third quarter, but I think the most recent data that we were talking about was of that $40 million to $45 million, about $15 million of it was already on signed leases.

Christie Kelly

Yeah, close to 40% Brendan.

Denny Oklak

And but not a lot of that has kicked in yet because when we look at our same-store growth, a lot of that is on free rent, on leases that have been signed but they aren’t starting to pay rent, that $15 million will come in, probably will start coming in over the next 12 to 15 months and then the rest of that $30 million is still it’s still out there.

Brendan Maiorana – Wells Fargo

So, I just want to clarify, on page 16 of the supplemental when you provide the occupancy at 09/30/10, does that include leases that are signed but where occupancy has not yet taken place or is that actually just from assets that are cash flowing where the tenants are in place?

Christie Kelly

The former Brendan.

Brendan Maiorana – Wells Fargo

So that includes leased up but not occupied?

Denny Oklak

Correct.

Christie Kelly

Yes.

Brendan Maiorana – Wells Fargo

Okay, and then sorry just lastly, can you for Q4, how much are you expecting in terms of lease term fees at the mid point of the guidance?

Christie Kelly

Lease term fees were none.

Denny Oklak

Yeah, basically none yes.

Brendan Maiorana – Wells Fargo

Okay, thank you.

Christie Kelly

And Brendan, I just want to touch on one point, in terms of the embedded NOI, we can talk about this later, but we are on track to delivering that and we are pleased with our performance on the 40% that we’ve got under contract to-date.

Brendan Maiorana – Wells Fargo

Yeah now I understood, I do it seems like you may have had more of that kind of flow through in the quarter, which is good. But I was just trying to understand what the future impact was?

Christie Kelly

Yes, so we are getting there.

Operator

Okay, thank you. And the next question comes from the line of Mike Knott of Green Street Advisors. Please go ahead.

Mike Knott – Green Street Advisors

Hello, good evening Christie. My question is really on the same-store NOI and related to an earlier question, how much would that 5% mean in same-store for industrial, it’s kind of are they normal of the lease-up assets or do you think sort of a more normalized number would be if you were to strip that out 200 basis points, 300?

Denny Oklak

I’m sorry, I’m not sure I understood that question, on the occupancy Michael?

Mike Knott – Green Street Advisors

No, I’m sorry on the same-store NOI growth for the industrial is 5% number?

Denny Oklak

Okay. I would say on the industrial side, there is, there wasn’t a whole lot signed on the industrial side during the quarter in those unstabilized. There was a little bit but the bulk of that was in the core portfolio, I would say. And I don’t know how much it relates to the newer stuff, I would guess that maybe a third of it relates to the newer stuff in the rough, just probably more in our core portfolio.

Mike Knott – Green Street Advisors

Okay, and then second would fall when I look at your market by market occupancy rates, I see Cincinnati and Dallas that are significantly trailing the group and those together are I don’t know 25% of your bulk portfolio do you have any broad comments on sort of your outlook there or since those are such important markets for you?

Denny Oklak

Sure. First of all, in Cincinnati, we continue to make some good progress. We’ve already signed some couple larger leases in the fourth quarter that I think are going to drive that occupancy up. I think the number, but don’t hold me on this one. It’s going to be closer to 90% by year-end. On Dallas, that’s primarily a couple of the unstabilized properties, there are still a couple vacancies out there in the unstabilized, we’re making, we’ve got some pretty significant discussions going on there. So to me, there’s nothing really of terrible concern in those markets. It’s just getting some of that newer space leased up.

Mike Knott – Green Street Advisors

Okay. Maybe if you could get back to the office TI comment, you made a few comments on that. When I looked at the renewals in the office CapEx for 1Q and 3Q of 2010, it has gone up and I can understand the mix changes, but when you said you expect, I think you said you expect this current quarter’s number to go back down. Do you expect it to recede back to kind of Q in ‘09 level or maybe only back down to Q3 ’10 pipe level?

Denny Oklak

I would tell you right now, I don’t really know Michael for sure, but my gut feel would tell you you’re probably just going down to sort of the second quarter of 2010, probably not all the way down to where we were in ‘09, just look at those numbers. I’m sorry, so we were lower in the first two quarters in last year, is that your question?

Mike Knott – Green Street Advisors

Yeah. When I look at ‘09 full year and then 1Q ’10, it was about $1.40 square foot per year on renewals and then it increased in both 2Q and then again in 3Q and I was just trying to put some color around your earlier comment about you expect it to recede because this quarter was higher because of specific leases.

Denny Oklak

Yeah, I think it’ll come down into the Q1 to Q2 range.

Mike Knott – Green Street Advisors

Okay. And then last question, earlier in the year, the holdover tenants was kind of a risk to the occupancy and it seems like that has now slowed down. Do you have any comment on sort of?

Denny Oklak

No, it’s still pretty steady. It’s still a little bit over a million square feet, temporary tenants. We’ve continued to have some success with either them staying in on a month-to-month basis or extending for a three to six-month period. So nothing in that population that we think we’re going to lose here eminently.

Mike Knott – Green Street Advisors

Okay, thank you.

Denny Oklak

Thanks Michael.

Operator

Okay, thank you. And the next question comes from the line of Ki Bin Kim of Macquarie. Please go ahead.

Ki Bin Kim – Macquarie

Thank you. So what would your market-to-market on 3Q leases, not renewals but for second generation square footage, what would that be? So, space basically that was empty and then you released it after some period of time, what were the market-to-market on those leases be?

Denny Oklak

I guess, I don’t understand what you mean Ki Bin, where the –whatever we leased it out is market, so.

Ki Bin Kim – Macquarie

Well, what I mean is for the growth and net effective rent in the third quarter where renewals was negative 3% or negative 2.9%. You don’t really provide that number for new lease on page 22?

Denny Oklak

Oh, yeah that’s no and we’ve always said we don’t do that because it’s – most of the time we are not leasing the same space, it’s different sizes but we’ve always said we don’t think it’s really significantly different, if any different from what we report on the renewals.

Ki Bin Kim – Macquarie

Okay, and our next question, if you look at your next year’s lease expirations and if you had to market rent what would you change materially from today, what kind of range would you be looking at in terms of what those leases will be marked down to?

Denny Oklak

Well, I think when we look heading into this year, we were really talking about marking down in the negative 1% to negative 5% range and when you look at where we are for this year, we are pretty close to that number, we are averaging negative 4% so far this year, when you look at everything. I think our feeling is next year is going to be in that same range.

We don’t see anything is going to change. I certainly don’t see the – it’s going to turn around a lot and then it will have big positive run away growth. I think when you look back on our performance historically, we held up really very well through the end of 2009. We even had positive run away growth in ‘09 and prior to that. This was the first year we turned negative. I just think in light of the where the markets are today, we’ll probably see another negative roll down year in 2011 on most of that leasing activity, but again I don’t see it going above 5% next year.

Ki Bin Kim – Macquarie

And that’s on a GAAP basis, right?

Denny Oklak

Yes.

Ki Bin Kim – Macquarie

And on the cash basis, would it be like 50% more, roughly?

Denny Oklak

Well, we don’t really look at on a cash basis because we what we’ve always done is average the cash rents over the term of the lease, which is what you all generally refer to as a GAAP basis and then compare that to the average cash rents of the previous lease. And that’s the way we look at it. So we never really look at it as far as, I mean to me that’s cash-on-cash. But I’m not sure how else you would propose to look at that, Ki Bin.

Ki Bin Kim – Macquarie

Well, I guess a big factor would be contractual rent step-ups, so I guess the last question would be any change in the amount of contractual rent step-ups you’re putting into your leases, lately?

Denny Oklak

No, not really. I think and you know it just depends on the market, each of the markets is a little bit different. Some times, I think usually on our annual step-ups in the many of our markets and really in both product type ranges anywhere from 1.5% to 3% annual rent increases and generally speaking, we are still seeing that.

Ki Bin Kim – Macquarie

Okay. Thank you.

Denny Oklak

Thanks.

Operator

Okay. Thank you. And the next question comes from the line of Vincent Chao of Deutsche Bank. Please go ahead.

Vincent Chao – Deutsche Bank

Hey, good afternoon everyone. Most of my questions have been answered, but just on the asset sales and what you expect the impact on occupancy to be, or is that included in your down 50 to 75 which you mentioned earlier for fourth quarter?

Denny Oklak

It’s included in there.

Vincent Chao - Deutsche Bank

That’s included in there. Okay. And then another one on just a final one on the rent that down [Inaudible] the next quarter, outside of those big office renewals, would that have been more in that down 5% range that we just spoke about?

Denny Oklak

Yeah, I think it probably would have been. I don’t remember exactly what those two were, but it might have been in that range.

Christie Kelly

Yes.

Denny Oklak

Yeah about the same.

Vincent Chao - Deutsche Bank

Okay. And just a question, you had this announcement, which is good to hear. Can you talk about just the activity level on that front beyond that deal, has it picked up, has it decelerated, maybe geographies that are more active or less active.

Denny Oklak

Well, I think it’s pretty interesting when you look back on this downturn compared to the ones that I’ve lived through before. I can tell you 2009 and 2010, were basically going to be at our lowest development start level that we have ever seen by far.

It’s pretty amazing to me that the deal we signed over in Columbus this quarter is our first industrial build-to-suit and basically our first industrial building development start in nearly three years, so that sort of, unheard of for us in the markets that we operating.

So really again goes to tell you that the level of new development activity is just really at historic levels. And having said that, also I’d say there is still some conversations going on out there, we’ve got a few folks we’re talking to, but I don’t anticipate that level of activity particularly on the industrial side or this is suburban office side to increase significantly again for at least the next couple of quarters. And I’d also tell you that’s pretty much the case in all the markets we operate in. I mean there is not more conversation going on in any one or the other.

Vincent Chao – Deutsche Bank

Okay, thank you.

Operator

Okay, thank you. And the next question comes from the line of Paul Adornato of BMO Capital Markets. Please go ahead.

Paul Adornato – BMO Capital Markets

Hi good afternoon. Hey Denny, I was wondering if you could comment on the change in macro drivers that you’re seeing in terms of the industrial business. That is I know you mentioned the Savannah shipping volumes, but what about shipping traffic in general and any views on inventory building that you’re seeing at your tenants?

Denny Oklak

Well Paul, I’d describe that sort of a slow steady client. It’s not really taking off, but as you can see from our occupancy levels, they’re gradually creeping up. And it’s hard to point a finger at exactly what is driving everything. I don’t think there is just one driver. I do think it’s an overall general restocking of some inventories in a little bit of growth in that inventory level as we always said that big part of our distribution business is driven by retail. I think the retail business again continues to slowly climb.

My guess is we’re going to see, we’ve seeing some of this activity kind of stocking up for the holiday season through the end of the third quarter. I think we might see that momentum to be a little bit flat for the fourth quarter and maybe the first quarter of next year depending on what really happens with the consumer or with the holiday season, but I think we’d be optimistic that we’ll continue to see some steady climb into 2011, but I also don’t see anything that makes me think that 2011 is going to be huge turn around year where our occupancy grows from 90% to 95% I don’t really see that in the works.

Paul Adornato – BMO Capital Markets

Okay, and finally with respect to the known vacancies coming in industrial that you referenced, what are the prospects there, have you had discussions on those basis?

Denny Oklak

Paul, I really I would tell you I think it varies. We’ve got a handful plus of spaced in 200 and 250, 300,000 square foot range on average that are spread across all of our markets in that expirations. So we probably got some discussions on a good portion of those, but I wouldn’t say that we had any bag full of prospects ready to sign.

Paul Adornato -- BMO Capital Markets

Okay, thank you.

Denny Oklak

Thanks Paul.

Operator

Okay, thank you. And the final question comes from the line of Chris Caton of Morgan Stanley. Please go ahead.

Chris Caton – Morgan Stanley

Thanks good afternoon, just follow-up question on the office acquisition you made in South Florida, just coming from the Royal Palms, office complex and it’s Royal Palm and then if I look at your portfolio breakout in second quarter and third quarter, I see there kind of 465 in square footage. Can I use the delta here to back in to the yield or could just, have you disclosed kind of pricing metrics, such as your view on pricing cost?

Denny Oklak

We generally don’t disclose all the pricing metrics on individual transactions, but its 465,000 square feet that was about 89% lease and our anticipated stabilized yield on that project is about 8.3.

Chris Caton – Morgan Stanley

What are you seen in the Fort Lauderdale market that made you wanted to expand there. I think South Florida was one of your kind of smaller office market?

Denny Oklak

We actually have, its definitely one of our smaller industrial markets, we have got a fairly small industrial presence down there, but I would just make a couple of comments on that market I guess first of all I think we reported last quarter that we bought two empty buildings down in sort of Pompano beach area on the industrial side, each about 112,000 roughly.

I am also pleased to report that in the fourth quarter we signed a lease for a 100% of one of those buildings. So, we are now 50% lease in those two buildings and that was with the GSA on a long-term lease. And then overall we do have a pretty significant office presence in all Raleigh and Broward County and West Broward County. Most of our office product today is over in Sawgrass western areas.

We didn’t have anything over in the plantation area. And I will tell you that that market and the Washington DC market have been by far two best office markets during this whole downtown for the last three years. So as we have been saying for awhile, as we do our repositioning strategy, we’re overall downsizing our office portfolio, but a couple of markets we would not mind increasing our office exposure in our Washington DC area and the South Florida market.

We’re very pleased with this acquisition. We think we got that very good pricing on the acquisition. We’re in there at about $220 a square foot, which we think is excellent pricing. This is one of the highest quality assets there in the submarket, it’s got structured parking and high rise, very high amenities there, so we just really thought it was a nice fit for our South Florida portfolio.

Chris Caton – Morgan Stanley

Thank you.

Denny Oklak

Thanks.

Operator

Okay, thank you. Okay and back to you.

Denny Oklak

Thanks to everyone for joining us on our call today. Our fourth quarter earnings call is tentatively scheduled for Thursday, January 27, more details to come. Thanks again and have a good weekend.

Operator

Okay, thank you and that concludes our conference for today. Thank you for your participation and for using AT&T executive teleconference service. You may now disconnect.

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