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DuPont Fabros Technology (NYSE:DFT)

Q4 2010 Earnings Call

February 09, 2011 10:00 am ET

Executives

Christopher Warnke -

Hossein Fateh - Co-Founder, Chief Executive Officer, President and Director

Mark Wetzel - Chief Financial Officer, Executive Vice President and Treasurer

Analysts

John Stewart - Green Street Advisors, Inc.

Jonathan Schildkraut - Evercore Partners Inc.

Sloan Bohlen - Goldman Sachs Group Inc.

William Crow - Raymond James & Associates, Inc.

Omotayo Okusanya - Jefferies & Company, Inc.

David Rodgers - RBC Capital Markets, LLC

Young Ku - Wells Fargo Securities, LLC

Phil Wilhelm - Stock Investments

Christopher Lucas - Robert W. Baird & Co. Incorporated

Mark Montandon

Quentin Velleley - Citigroup Inc

Jonathan Atkin - RBC Capital Markets, LLC

Romeo Reyes - Jefferies & Company, Inc.

Brendan Maiorana - Wells Fargo Securities, LLC

Chris Caton - Morgan Stanley

Srikanth Nagarajan - FBR Capital Markets & Co.

Jordan Sadler - KeyBanc Capital Markets Inc.

Operator

Good day and welcome to the DuPont Fabros Technology Fourth Quarter 2010 Earnings Conference Call. [Operator Instructions] At this time, I would like to turn the conference over to Chris Warnke, Investor Relations manager of DuPont Fabros. Please go ahead, sir.

Christopher Warnke

Thank you. Good morning, everyone and thank you for joining us today for DuPont Fabros Technology's fourth quarter 2010 results conference call. Our speakers today are Hossein Fateh, the company's President and Chief Executive Officer; and Mark Wetzel, the company's Chief Financial Officer and Treasurer. Certain matters discussed during this conference call may constitute forward-looking statements within the meaning of federal securities laws. These forward-looking statements are subject to certain risks and uncertainties. The company assumes no obligation to update or supplement these statements that become untrue because of subsequent events.

Additionally, this call contains non-GAAP financial information, of which explanations and reconciliations to net income are contained in the company's earnings release issued last night, which is available in PDF format in the Investor Relations section of the company's corporate website at www.dft.com. To manage the call in a timely manner, questions will be limited to two per caller. If you have additional questions, please feel free to return to the queue.

I will now turn the call over to Hossein.

Hossein Fateh

Thank you, Chris and good morning, everyone. Thank you for joining us on our fourth quarter 2010 earnings call. As noted in last night's press release, we again delivered solid quarterly and full-year results for 2010, which Mark will discuss later in the call. 2010 was our third full year as a public company and we are proud of our accomplishments, none of which could have been done without the hard work and dedication of our excellent team of DFT employees. I thank each and every one of you.

Because leasing is always our primary focus, let me begin with an update. Northern Virginia continues to be a very attractive market. In the first quarter of 2011, we signed two new leases totaling 4.55 MW of critical load at ACC5 Phase II. This completes the lease up of the entire building within three months of opening. Both leases are with existing tenants with great credit and payment history in our Northern Virginia data centers. One is a gaming provider and the other is an Internet-based company. We continue to achieve the 15% unleveraged return on our Virginia data center development.

Specific to Chicago, we signed two pre-leases totaling 5.2 MW of critical load. This represents 29% of Phase II. Both leases are with existing tenants in Phase I. One tenant is an Internet-based company and the second, a reseller. Our Phase II development will provide additional well-needed space to this market. One of the benefits of our phased approach is that when our tenants' requirements increase, they are able to take additional space in the second phases of our data centers. This approach reduces their risk exposure and capital expenditures. This leverages DFT's platform and building design.

The benefit to DFT is that our first phase serves as an incubator for our second phase. Many existing tenants in Virginia have taken additional space on our Ashburn campus. We are seeing this trend repeat itself in Chicago. For us, the second phases of each project have always been the low hanging fruit. Our total leasing equates to 9.75 MW of critical load that has been done since the end of the quarter and before the call. Leases signed in both the fourth quarter and first quarter to date will achieve our 12% to 15% unleveraged returns on CH1 and ACC5, respectively.

Due to the required delivery date in our recently executed leases, we expect to open Phase II of Chicago in the first quarter of 2012. We'll likely raise $100 million to $125 million of new funds in the near future. We are currently looking at various sources of capital to fund this development. We do not plan to issue common equity for this raise. The new money raised will likely be perpetual preferred stock or debt. As always, our decision will be dependent upon timing, pricing, market condition and the best interests of our shareholders.

Within our existing portfolio, we have limited available space, all of which is in New Jersey. We are on target with our projected lease up of this facility, which is currently 22% leased to date. New Jersey is one of the Tier 1 markets in the country. Our asset is one of the highest quality and most efficient data centers in the area. Tours and traffic remain strong. We continue to project a 24-month lease up and a 12% unleveraged return on our investment capital. We expect to be fully leased by the end of 2012. Both Phase I of ACC6 and Santa Clara will be delivered in the third quarter of 2011.

These two new developments will provide the needed leasable space to grow our revenues. Adding SC1 into our portfolio provides not only a new market, but the opportunity to attract new tenants. We expect Santa Clara to be our second best market after Virginia. We believe many of our existing Virginia tenants will also be interested in our Santa Clara data centers. Our top three tenants, Microsoft, Yahoo! and Facebook, represent 60% of our annualized base rent as of year end. Our top two tenants, which now are Yahoo! and Facebook, represent 42% of our annualized base rent. The remaining lease term for Yahoo! and Facebook is 9.7 years. We have diversified our tenant base since going public. The average lease term of our entire portfolio is 6.9 years.

There have been some third party reports on data center industry focusing on the oversupply of data center space in certain markets. I would like to address and clarify this. We have seen power-based shells counted in the data center supply. There is a big difference when comparing a shell with a fully built-out data center. Power-based shells, which cost approximately $100 a foot, needs anywhere between $500 to $900 a foot to become data centers and nine to 12 months of construction. We believe power-based shells are closer to raw land than available inventory. And many real estate analysts know it is not typical to count raw land in the vacancy numbers when calculating real estate vacancy. We believe the true vacancy in our markets is much lower than many of those reports state.

Most tenants will likely not lease space until funding and construction are in place and most non-public players need pre-leases to get funding. This puts DFT in a great position in all our markets because we're fully funded on our development. We also have the expert team to build and operate them. We firmly believe that demand for our high-quality wholesale data centers in all our markets remain strong. 2010 was a successful year. We expect to have another profitable year for 2011.

Now, I will turn the call over to Mark, who will take you through our financial results.

Mark Wetzel

Thank you, Hossein. Good morning, everyone and thank you for joining us. I want to cover four topics today: Our fourth quarter and full-year 2010 results; the capital markets update; a walk-through of our 2011 guidance; and a 2011 dividends update.

For the fourth quarter of 2010, the company's FFO was $0.33 per share compared to $0.05 per share in the fourth quarter of '09. Excluding the 2009 one-time interest rate swap termination charge of $13.7 million or $0.20 per share, FFO increased $0.08 per share or 32% quarter-over-quarter. Quarterly revenues were up $13 million. For the year, FFO was $1.33 per share compared to $0.88 per share a year ago. Excluding the one-time termination charge, FFO was up $0.25 per share or 23%. The overall increase is primarily due to the increased operating income from the lease up of CH1 and ACC5. AFFO was $0.25 per share for the fourth quarter compared to $0.18 per share quarter-over-quarter, an increase of 39%. For the year ended, AFFO was $0.92 per share compared to $0.79 per share from the previous year, an increase of 16%. These increases are primarily a result of increased cash rents collected.

As to our capital markets update, during the fourth quarter and as discussed on the last earnings call, we sold 7.4 million shares of perpetual preferred stock, raising $179 million. We paid off our ACC4 term loan which is due to mature in October 2011. The interest rate on 79% of our debt is now fixed. We have no debt maturities until the fourth quarter of 2014. Our debt-to-market capitalization is at a low 25% as of yesterday. We also have a comfortable cushion on all our debt covenants.

Cash on hand stands at $180 million today and the revolving line of credit has $100 million in capacity. We are fully funded to finish our two latest developments, the Phase Is of ACC6 and Santa Clara. Subsequent to the fourth quarter, we amended our $100 million line of credit by eliminating the 1% LIBOR floor and set up a tiered LIBOR pricing grid based on total debt to gross asset value. Today, we can borrow at 3.25% over LIBOR.

I now would like to walk through our 2011 guidance. Our FFO guidance range of $1.50 to $1.70 per share is based on the following three primary assumptions. First, we expect total revenues to be in the range of $285 million to $315 million, a tightening of $20 million of the range from what I stated on the Q3 call. Our annual revenue forecast call for approximately $8 million of spec revenues or $0.09 per share from new leases to be signed and commenced subsequent to this call in 2011. We expect those leases to commence throughout the year and our 2011 guidance has New Jersey approximately 50% leased, ACC6 30% leased and Santa Clara 22% leased by year end. ACC6 and Santa Clara are expected to open in the third quarter.

Second, we will start the development of Chicago Phase II in the near future, capitalizing interest from the start of the development and opening the doors in the first quarter of 2012. As Hossein previously mentioned, we have signed and pre-leased 29% of Phase II. We expect this development will cost approximately $11 million per megawatt or $200 million. We will need approximately $170 million to $180 million of new cash to complete this project.

As a reminder, and for those who have not toured this building, the Chicago Phase II structure is an existing industrial shell. The underground buildout that we typically complete when building Phase I has not been completed. Unlevered return expectations remain at 12% for Chicago. We anticipate funding this development by raising $100 million to $125 million and utilizing our available $100 million line of credit for the remainder. In addition, our 2011 FFO guidance assumptions, including new capital raise of $75 million in the fourth quarter. Together, this approximates the $0.10 FFO reduction per share for the two new financings in our 2011 guidance. To be clear, we currently do not plan additional comm equity in 2011 based on our plan.

Third, we do not plan to start a second development phase in 2011 unless lease signings accelerate. In summary, our 2011 FFO midpoint is $1.60 per share, with projected revenues of $300 million. Projected free cash flow from operations after dividends should be approximately $30 million, excluding any new development spend. Page 15 of our release details our other assumptions related to our 2011 guidance.

Finally, as to a dividends update, we expect to continue to pay $0.12 per share of cash quarterly common dividends in 2011. Our policy remains consistent to pay 100% of taxable income a year. Any future increase in dividends will be based on increases in taxable income and approved by our Board of Directors. We believe our solid financial condition and balance sheet flexibility puts us in a great position to grow the company.

With that, let me turn it back over to Hossein.

Hossein Fateh

Thanks, Mark. Our top priorities at this point are: To pre-lease Santa Clara, ACC6 and Chicago; to continue to lease up New Jersey; to complete the development and open Santa Clara and ACC6 in the third quarter of this year; to maximize property operations by taking great care of our current tenants, providing organic growth for new leases; and again, begin development of Chicago by securing optimal source of capital that is in the best interest of our shareholders.

With that, we'll be happy to open up the call for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Jordan Sadler with Keybanc Capital Markets.

Jordan Sadler - KeyBanc Capital Markets Inc.

Could you update us on the trends that you're seeing in traffic? You gave us good color on some of the leasing expectations of the vacancy and remaining developments you have in the pipe. But what are you seeing in terms of the trends in traffic sequentially?

Hossein Fateh

We have tours two to three times a week, sometimes four times a week in pretty much all the markets we're in. The customers, we're seeing a lot of cloud providers come in as we are one of the top landlords to cloud. We are seeing some gaming companies, and I don't mean gambling but media games, come in. And we are seeing some private cloud operators come in. So activity remains extremely strong. The Internet really is continuing to grow beyond our expectations. We feel very positive about the activity we have and the timelines that we've laid out for our lease up.

Jordan Sadler - KeyBanc Capital Markets Inc.

Is that trend that sounds like in terms of the tour, that sounds like maybe an acceleration of...

Hossein Fateh

Well, I think it really hasn't, to be honest, it hasn't really changed. It's always been about anywhere between two to four tours a week from a few years ago. The tenant sizes tend to sometimes change. And obviously, the Phase IIs of our developments have always been, as I said in our prepared remarks, the low hanging fruit. In March, it's like Virginia and Chicago that we have a base that's growing, the organic growth hugely helps our leasing. But we see huge activity and the Internet continues to grow at a very rapid pace.

Jordan Sadler - KeyBanc Capital Markets Inc.

And then on the New Jersey, ACC6 and Santa Clara development lease up, you gave some guidance or expectations about where you're going to be year end. Can you maybe just put some color around that, why the incremental guidance there in terms of expectations about leasing and what does that imply in terms of the timeframe for the lease up? I know you said 24 months still for New Jersey but what does that imply for the other two?

Mark Wetzel

Well, it's all a function of the timeline. The ACC6 building, we would expect to be leased up within an 18-month timeline. There's 13 megawatts to lease. We had obviously great success with Phase II at ACC5 a whole lot faster. But from a '11 guidance perspective, we're kind of slow and steady thinking it will lease a couple of rooms at opening. And we'll hit that percent that I laid out there. With regards to Santa Clara, the same way. It's a new market for us. We see great traffic. We see interest. But at this point, we're saying we're going to rent a couple of rooms at opening and maybe a couple more by year end, but it's probably an 18-month lease up as well at Santa Clara.

Hossein Fateh

We're trying to give as much guidance as feasible. Santa Clara, we feel very optimistic about because it's many of the same tenants that we're dealing with in Virginia. New Jersey is a newer market. Chicago took 21 months to lease. We said 24, had a slower start. I think New Jersey is a little bit similar to that. But then, Chicago now turned out to be our second best market and I think New Jersey will lease up and the Phase II of it will again be easier than the Phase I.

Mark Wetzel

And those percentages, Jordan, center around right at our midpoint. So if we do better, then we should move up.

Jordan Sadler - KeyBanc Capital Markets Inc.

Although do those reflect commencements or actually just leases?

Mark Wetzel

No, commencements. They're commenced in the second, third and fourth quarters.

Jordan Sadler - KeyBanc Capital Markets Inc.

And then lastly on Chicago, the leasing that you're doing there, you didn't give sort of a lease percentage expectation or at least I didn't hear one for year end. Is 29% kind of a good number?

Mark Wetzel

No, we're obviously -- now that we will get this rolling, we will continue to chase. . .

Hossein Fateh

We're continuing to have many prospects come in and work on it. Our policy is not to announce leases. I expect us to be higher than 29% by year end, absolutely. But I don't want to state where at this point.

Operator

We will take our next question from Tayo Okusanya with Jefferies and Company.

Omotayo Okusanya - Jefferies & Company, Inc.

Mark and Hossein, I'm just trying to work through the capital activities that you mentioned for 2011, $125 million, the [ph] another $75 million in fourth quarter. And just when I look at your line of credit and your cash balance, the costs for both CH1 Phase II and your current developments, it seems like you're raising a little bit more cash than you need and I'm just curious why that decision was made?

Mark Wetzel

2008 through today, we have looked at each other and said let's make sure we have the funds in hand to build these developments start to finish. So, we have the funds to build ACC6 and Santa Clara at hand. We have obviously a line of credit that is dry powder in our mind. And so the idea of starting Chicago Phase II sometime in the near future is the logic of raising those new monies. So the line is obviously -- there's a cushion and we could use it. But for us to commit to build Phase II with these leases that we want to start in early '12, we think it's prudent to raise the money.

Omotayo Okusanya - Jefferies & Company, Inc.

So the idea is that with the capital raises, even when you’ve completed CH1 and Phase II, you will still have basically an empty line of credit as firepower?

Mark Wetzel

Yes, that is correct.

Omotayo Okusanya - Jefferies & Company, Inc.

And then I may have missed this, so apologies, but did you mention the occupancy expectations for the three projects by year end?

Mark Wetzel

We referenced leases signed and commenced in the prepared remarks, specifically 50% in New Jersey, in the low 20s in Santa Clara and 30% at ACC6.

Omotayo Okusanya - Jefferies & Company, Inc.

Last question, the dividend policy, $0.12, going forward, I'm just surprised given the earnings growth that you're expecting this year that the dividend would not go up commensurate with that. Is there anything I'm missing in regards to the taxable income?

Mark Wetzel

There's a little spill forward from the fourth quarter dividend that will help us in 2011. So cash rents are going up, taxable income is going up but obviously, the $0.12 works for us with the spill forward from the. . .

Omotayo Okusanya - Jefferies & Company, Inc.

So you overpaid last year and some of that was counted towards the 2011 tax year?

Mark Wetzel

Yes, exactly.

Operator

We'll take our next question from Jonathan Atkin with RBC Capital Markets.

Jonathan Atkin - RBC Capital Markets, LLC

So the Phase II pricing, when an existing customer expands with you at the same site, what kind of a change in unit pricing does that represent versus the initial contracts? And then in the past, you talked about Santa Clara, you're kind of anticipating 1 to 2 megawatts deployments, New Jersey maybe 50 to 100 watt deployment, slightly smaller to what you've done at Virginia. Is that still kind of your expectation going forward for those two markets, Santa Clara and New Jersey?

Hossein Fateh

On pricing, typically we increase pricing on the then-escalated rates. Meaning, assuming our customers typically have a 3% escalator, and if the pricing in Phase I was x and Phase II is two years later, the Phase II pricing typically is up to the then-escalated price of their Phase I, which is times 1.03 times 1.03, which is like 3% per annum escalator. And we've generally kept it there. Sometimes, we could push pricing higher. But on repeat customers, we don't think it's wise to try and squeeze them when we can, necessarily, to keep our long-term relationships intact and in good order. On your question for the lease up?

Jonathan Atkin - RBC Capital Markets, LLC

Yes, size of deployments. I think you were talking about in prior calls 1 to 2 megawatts type of demand.

Hossein Fateh

New Jersey will be smaller, which will be 500 kilowatts to a megawatt. Santa Clara is a new market for us but we're seeing some demands of 2 megawatts going to 4 megawatts. We've also seen quite a bit of 500 kilowatts towards. So Santa Clara, I would say anywhere between 500 kilowatts to 4 megawatts. New Jersey, a lot of 500 kilowatts to 1 megawatt towards.

Jonathan Atkin - RBC Capital Markets, LLC

Just contrasting the four markets in terms of just overall strength in incremental competitive supply coming on? How would you kind of characterize the four?

Hossein Fateh

Well, I mean, Virginia is the top market in the country. Santa Clara is probably the second biggest market, with many Internet users. Chicago, there's just a huge lack of supply right now. It's a very tight market for us. I would say right now, it's a very good market for us. We expect to increase our pre-leasing. We feel very good about that market. New Jersey is a great market for us but it's a newer market and will take the full two years from opening. So we expect to be fully leased at the end of 2012 in New Jersey.

Operator

We'll move on to our next question from Brendan Maiorana with Wells Fargo.

Brendan Maiorana - Wells Fargo Securities, LLC

A question on a leasing that was done in the quarter, or I guess actually done in 2011 year-to-date, the terms kind of dropped relative below six years relative to historically what you guys have done which has been kind of 10 to 15 year deals. Is that more indicative of the smaller spaces that are being taken and overall migration of your tenant size, which tends to be a little bit smaller today than you may have done several years ago? Or is this just more one-off in the quarter?

Hossein Fateh

I think I would call it more of a one-off. Lease terms will vary depending on credits and rent. And it's not really, you can't really take a average -- when you've got four leases, take an average, doesn't necessary. We don't have a big enough sample when you say four leases. So I would say it's more one-off. And it's nothing that concerns us as you very well know, Brendan. It's very expensive for tenants to move. So whether the lease is six years or eight years doesn't really concern me. But what matters to us is the quality of the credit and the rents they're willing to pay.

Brendan Maiorana - Wells Fargo Securities, LLC

And you feel like the quality of the credit that you guys signed in and the yields [ph] you guys announced is kind of in line with where you've been historically?

Hossein Fateh

Our quality of credit is in line or better than -- it's been very, very tight. What I call very, very good credit -- I mean, don't forget, in the data center market, one, we have very good credit. Second, we are the lifeline of whatever business is housed in our data centers. Therefore, we've never, ever – knocking on wood, see any rents that don't come in.

Brendan Maiorana - Wells Fargo Securities, LLC

And then looking at the details that you guys provide on Page 9 of the supplemental, your stabilized portfolio. Hossein, you mentioned a couple of times that the returns that you're getting were in line with your expectations on ACC5 II and probably it seems like you're going to be there on New Jersey as well. The cash NOI numbers went up by $16 million relative to what you guys provided in the third quarter but you moved to kind of all of ACC5 II online in this quarter. And then a portion of New Jersey is also going to be online for 2011. It seems like the yield, if I just take the incremental $16 million of NOI, is below 10% on the new project costs that in your basis here, can you help me just kind of bridge the difference between data yields that are 12% to 15%?

Mark Wetzel

I think for each building, it's a little different, Brendan. For the ACC5, as you know and New Jersey opened on November 1. This timeline of when -- each tenant has a different lease term, a different expectation of free rent at the front end of these leases. So I don't think there's any silver answer there. If you look at it from a yield perspective on a GAAP basis versus a cash basis. So like any development, it's that yield, that 12% to 15% is on GAAP.

Brendan Maiorana - Wells Fargo Securities, LLC

The 12% to 15% is GAAP, but it's not essential cash?

Hossein Fateh

Yes.

Brendan Maiorana - Wells Fargo Securities, LLC

Okay. I got it on the GAAP. I thought you were referring to cash.

Hossein Fateh

It's typical for us, Brendan that the tenant may take a year to start paying full rent because they start bringing in their servers. And to say if they lease two rooms, they have first six months, they pay rent on the first room, second six months on the second room.

Hossein Fateh

So a little bit of free rent in there as well.

Hossein Fateh

Yes, we call it like a burn in for a 10-year lease.

Operator

We'll take our next question from Srikanth Nagarajan with FBR Capital Markets.

Srikanth Nagarajan - FBR Capital Markets & Co.

The question has to do with repeat tenant prospects. Number one, in Chicago Phase II, obviously you have tenants expanding from Phase I. Are there more tenant prospects that are within Chicago Phase I that could expand to Phase II? And you also, I think -- Hossein, you mentioned in Santa Clara, there may be some interest from ACC5 or in general Ashburn tenants. How does that compete with your ACC6 leasing?

Mark Wetzel

The first question, the answer is yes. We do expect more tenants from Phase I and Phase II of Chicago. And if you didn't ask, the question is also yes, we expect some new tenants in Chicago Phase II as well. On the question regarding Santa Clara and the tenants coming over, the answer is no, Santa Clara will not compete with ACC6. And the reason is data center tenants need to be geographically located within a certain geographical area, meaning East Coast, the West Coast, Middle America, perhaps Pacific [ph] New Jersey, close to the financial trading floors. So the tenancy in ACC6 will not compete with Santa Clara because they have two separate needs to serve two separate customer bases. The ACC6 will serve East Coast based customers for those tenants and Santa Clara will generally serve West Coast based customers.

Srikanth Nagarajan - FBR Capital Markets & Co.

On the power-based shell research report that you kind of talked about -- obviously it requires more spend, $500 to $900 per square foot and a nine- to 12-month period for development, but the bears out there would say that this is just a matter of timing and a matter of lag and this would then compete with data center space. Perhaps, can you give us some color or background in terms of historical conversion of all of these powered space [ph] shell buildings into proficient, what you call as, Tier 1 data centers?

Hossein Fateh

I think, like I said, it may take for us $900 a foot in a year to build. So what I'm trying to point to and you being a real estate based person, if you have DC-based raw lands, Delta Associates will not count DC-based zoned office land as part of the office vacancy because it takes a year and $600 a foot to build that data center. We have a year and $900 a foot to build it. Just because the land is available doesn't mean that it's vacant. So until the money goes in, all I'm pointing out is if you want to compare apples-to-apples and be consistent with the vacancy definition used in other real estate terms, this needs to be not counted. And that's real estate 101, any real estate analyst will tell you.

Srikanth Nagarajan - FBR Capital Markets & Co.

I mean, the question is more of a supply trend as well, right?

Hossein Fateh

Yes. Just like the D.C. office zoned land could be converted, there is, yes, there are some pieces on K Street or some pieces in Southwest DC that's available. So yes, it is a year and $900 a square foot could have more supply put on the market. So that's all I'm saying, but the supply is not there. And also, many people who build the power-based shells have no expertise and available funding to build a data center. As you well know, the markets for debt for data center are still extremely limited.

Operator

We'll move on to our next question from Michael Bilerman with Citi.

Mark Montandon

It's Mark Montandon here with Michael and Quentin. I was wondering on the power side, you're offering smaller increments of power, now 500 kilowatts and in a market like New Jersey where it seems the appetite for that type of demand is higher. Do you feel like not going below that level is limiting your potential demand pipeline? And if so, why not go lower and how far could you go?

Mark Wetzel

That's one of the reasons we entice one of our resellers to be in New Jersey because he helps fit that bill. Because we were seeing traffic in that arena below the 500 kilowatts. And we're not in the business of renting out smaller than that level. So it sort of fits the reason why we have one of our 2.2 megawatt rooms leased to a reseller.

Hossein Fateh

Potentially, a room could be divided into 300 kilowatts. But many of our tenants that are 300 kilowatts would want to grow into 500 kilowatts, anyway. So I think below 500, you're really starting to compete with retail. We think retail and wholesale are very different markets.

Mark Montandon

I guess the price point for 300 kilowatts wholesale might be a little bit more attractive than a 300 kilowatt retail.

Hossein Fateh

Generally, with our price point, at the 300 kilowatts, we can force them with our price point to go into 500 because it's probably at the same price or cheaper as they were paying with retail and they have room for expansion.

Mark Montandon

I was wondering also what impact, if any, you see coming from the Verizon purchase of Terremark and the large telcos in general?

Hossein Fateh

I think it's something that makes absolute sense for Verizon. I think we will see more and more larger companies buying cloud-based companies. I think they took Terremark because of their cloud platform. It's a vertical integration that makes a lot of sense for a telco than system integrators. And we welcome it and we think it's great for the industry. Us, we're landlords to cloud so the more efficient space on the market, the better it is for us and the better credit tenants we have. So we welcome that in the industry and we think we're going to see more and more consolidation.

Quentin Velleley - Citigroup Inc

Just in terms of raising new capital, you spoke about not raising additional common equity and preferring you go down and raise preferred or additional debt. I'm just wondering whether you’ve been investigating joint venture capital and whether or not there's a market for joint venture capital at the moment?

Hossein Fateh

There is a market but I don't think we need to do it at least in the U.S. There is no need. We have such great returns on our own capital that there is no need to do it here in the U.S.

Quentin Velleley - Citigroup Inc

If you were to go offshore, you'd look at doing a joint venture?

Hossein Fateh

Perhaps. We look at all options and try and optimize.

Operator

We'll move on to our next question from Romeo Reyes with Jefferies & Co.

Romeo Reyes - Jefferies & Company, Inc.

What do you anticipate your peak borrowing to be on the revolver and when do you expect that to happen? That's kind of the first question. And then secondly, if you could give us a sense of kind of what your year-end cash balance is going to be, not assuming any capital raises?

Mark Wetzel

Not assuming any capital raises? We will be in a quandary with regards to the buildout of Phase II without capital raise, depending on that delivery date, the first quarter of '12. Peak borrowing, assuming we borrowed $100 million to $125 million sometime in the near term, the next two to four months, we would probably get through and not need the $75 million that I quoted in Q4. But we would be on the line as we finish the year.

Hossein Fateh

Romeo, don't forget, I thought that Jefferies said our latest bonds trading anywhere between 6.3 and 6.7 yields, so that's a very good rate that we're able to borrow on our unsecured bonds and our perpetual preferred is doing very well as well. So those are great sources of capital for us.

Romeo Reyes - Jefferies & Company, Inc.

With respect to -- one of the corporate objectives had been to kind of have the bonds become investment grade. Is that a corporate objective of the company?

Mark Wetzel

I think it's a balance. We have continued geographically diversified, tenant diversity, we're working on as well. Those are two things. The third thing is obviously to be around as public company a little longer. But in discussions with the rating agencies, we are on the right track. We are doing all the right things. Whether that happens in '11 is probably a little optimistic, but in 2012, if we stay the course, we are on the right track.

Hossein Fateh

I think it's a long-term goal to become investment grade but not to sacrifice growth to get there.

Operator

We'll hear next from Phil Wilhelm with UBS O'Connor.

Phil Wilhelm - Stock Investments

Regarding your financing strategy going forward, is it conceivable that you could fund future developments exclusively with free cash flow from operations and preferred stock? Considering you're delivering buildings at yields in excess of 12% and you pay roughly 8% on your preferred and you've got $30 million of free cash flow, and that's growing each year, could you conceivably not need to tap the equity markets at all?

Hossein Fateh

I think it's conceivable. We plan to -- management here is -- most typical reason, mostly incentivized to grow the share price since management is so vested in the company. Yes, your answer is yes. It's conceivable. But it depends a little bit on how fast we want to grow. So yes, it's conceivable and it's possible unless we want to grow much faster.

Operator

We'll move on next to Bill Crow with Raymond James.

William Crow - Raymond James & Associates, Inc.

Picking up on that last point, Hossein, would there be an opportunity for DuPont to go out and acquire already constructed power-based buildings and then bring it to that next step in order to speed time-to-market and reduce development costs, or development risks [ph]?

Hossein Fateh

We haven't really seen power-based shell reduce development costs at all. If anything, whoever built the power-based shells typically wants some kind of a profit element for that developer. And the speed-to-market, the speed to build a shell is almost no time at all. The time it takes to get the generator as a long-term equipment. So we haven't seen a cost advantage of power-based shell, nor have we seen a speed advantage necessarily. Also, what we build is so efficient that we believe so far superior to what exists. We almost designed the guts of our building first and then build the shell around it. So if we went into a typical power-based shell, sometimes we're compromising on the optimization of the data center inside that $100 a square foot shell.

William Crow - Raymond James & Associates, Inc.

Mark, if I can just pin you down a little bit on the assumptions on your financing, you just mentioned that it could happen within the next two to four months, you really go in advance of needing the funds, it sounds like. To get to the $0.10 dilution, what is your assumption from a cost of capital perspective?

Mark Wetzel

It's in the mid-7s for the $100 million and the $75 million in Q4...

William Crow - Raymond James & Associates, Inc.

They're both in the 7s?

Mark Wetzel

Yes. A little conservative but I think if we go down the unsecured route it will be lower, if we go the preferred route in that ballpark.

William Crow - Raymond James & Associates, Inc.

And two to four months is what we should think about?

Mark Wetzel

Near term, we were saying. Near term, it could be sooner. It could be later. But sometime in that timeframe.

Operator

We'll move on to Chris Lucas with Robert W. Baird.

Christopher Lucas - Robert W. Baird & Co. Incorporated

Hossein, can you just maybe give us an update or perspective on what you're seeing in terms of any change in the sales cycles? So the time from sort of tour to lease signing. Has that changed at all over the last six or nine months?

Hossein Fateh

No, I haven't really seen it. But our sample of tenants are -- whether they're six to eight, are always small. But typically it's not like retail, where they have 50 or 100 samples to take from. So when you're taking from a sample of six to eight tenants, I would say no. Typically, when you're doing a lease with a customer that exists already, the customer, the sales cycle is faster. Typically, Internet-based companies are faster than enterprise and financials. But we haven't really seen any difference in the sales cycle with our tenants or more hesitancy before with any tenants. If anything, the beginning of the year has been very positive and many companies are thinking about their needs for 2011 and '12. And people are looking at their 2011 or 2012 budgets and looking at what their demands and load demands are with compared to those budgets. So we've seen new decisions made for 2011.

Christopher Lucas - Robert W. Baird & Co. Incorporated

Mark, on the capital side, just a follow-up on that, you talked about the unsecured pricing as sort of sub-7, call it. Your existing preferred is trading basically right around par. So that's 7 and 7-8 [ph]. I guess the question is, is there a market for long-term secured financing? Have you looked at that and sort of is that a possibility in this capital raise round?

Mark Wetzel

Well, we're looking at a variety of things, Chris. And obviously, the ones we've touched to date, we feel very good about, the unsecured market. That was eight-year money. Can we go out to 10, I think so. Perpetual preferred for this kind of real estate makes a lot of sense to us, so we like both of those -- I don't know if that answers your question, but yes.

Christopher Lucas - Robert W. Baird & Co. Incorporated

I guess I'm just wondering is there -- the one big sort of issue that hangs out there, and Hossein sort of talked about it before as it relates to service overhang of the power-based building and the private developer bringing new supply, where's the capital source? Then the question really is there a secured funding source even for pre-leased buildings out there and any kind of relative LTV that makes sense for them?

Hossein Fateh

We haven't seen that, Chris. We have not seen secured based financing be available. The only way we got secured based financing is twist the arms of investment banks that we're giving fees to lend us. Other than that, there is no secured base financing when you're talking $150 million.

Mark Wetzel

And obviously, you'd have to syndicate that, Chris. There's a lot of guys who will loan us $25 million tomorrow, but that doesn't get us anywhere. So the idea of going down a secured route takes a lot of effort, a lot of time to raise the monies that we need to raise.

Christopher Lucas - Robert W. Baird & Co. Incorporated

And when you think about that at all or if you can talk in that area, what sort of LTVs are being kicked around as it relates to the financing or proceeds that can be generated on the secured side of it? Has that been discussed at all?

Mark Wetzel

It has. 50 is the standard number that's talked about. But it's also what's the recourse issue at the corporate level. Is it nonrecourse or is it recourse back to the REIT? The life [ph] companies have touched this space a little bit. We haven't talked to them recently. But I know that they do not like the construction side but they could take one of our existing buildings and we can raise money off of that from a recurring cash flow.

Hossein Fateh

Chris, I don't think that's available for private tenants, and that our unsecured at 6.3 to 6.7 on a six-year deal is a better rate than any secured financing available.

Operator

We'll take our next question from John Stewart from Green Street Advisors.

John Stewart - Green Street Advisors, Inc.

Hossein, I was hoping we could get your -- really, philosophy. Obviously, to date, you have, for the most part, stayed in the really traditional infill data center markets. And I guess, I'm just looking for your thought process in terms of some of the lower cost of power and also lower population density markets like the Pacific Northwest and North Carolina.

Hossein Fateh

I think those are great markets, both of them are very good markets. Our Virginia market has the same dynamic as North Carolina. And that's low cost, pretty good on taxes. It's the same tenant base, Virginia and North Carolina. Pacific Northwest is a great market and we're looking at it. But there is no immediate plan that we have there, but it's a great market for wholesale. But it's just developing. Also, don't forget, the Pacific Northwest currently, I would say most of the tenant space that are there are tenants doing their own data centers. There is somewhat of a lack, and maybe too strong a word, but limited availability on fiber for multi-tenant buildings. But that is slowly being resolved and more and more fiber carriers are coming to that area. But long term, they're both very good markets.

John Stewart - Green Street Advisors, Inc.

So, would you hypothetically want to partner up and try to pre-lease something with one of these existing tenants before dipping your toe into one of those markets? Or could you conceivably start a project without a significant degree of pre-leasing?

Hossein Fateh

Hypothetically, we could be in both of those markets. But we really have no further comments on that and we don't really comment on the newer markets that we go into.

Operator

We'll take our next question from Sloan Bohlen with Goldman Sachs.

Sloan Bohlen - Goldman Sachs Group Inc.

I just have one question on -- Hossein, you talked a little bit about trends before and I guess a number of people have asked about the supply risk. But presumably, that supply risk would show up in leasing trends and I wonder whether from your competitors, whether you're seeing anything with regards to tenant incentives, whether it be free rent or otherwise in each of your markets?

Hossein Fateh

No. We are leasing up the same type of leases that we were doing before with the same type of base rents. And we feel very positive about the markets that we're in. We are extremely pleased about Chicago in this quarter.

Sloan Bohlen - Goldman Sachs Group Inc.

And is there any expectation with regard to that power-based supply that's out there, that if capital comes to try and develop those assets there, that type of competitive leasing could emerge?

Hossein Fateh

One is, it's a big if on capital, in that there is no secured lending at this time. Secondly, it's not just a matter of building a data center. You need an operating team to operate. The tenants that we have, when given a choice, do you go with a known entity that is going to the long-term be in the business of data center or a new entity that's funded by a private equity that's going to flip the building when it's fully leased. Tenants prefer to know who their landlords are long-term in mission-critical space. So it's nothing, I'm not worried about that. The third issue is, don't forget, the buildings that we build are extremely efficient because they tend to be 36 megawatts or $300 million-plus buildings and those operating expenses are much lower in these larger, what I call, megadata centers. Even the private equity players that come in, I haven't seen them build 36 megawatt-type buildings. So it's nothing that concerns me at the moment on private player competitors.

Operator

We'll move on to our next question from Dave Rodgers with RBC Capital Markets.

David Rodgers - RBC Capital Markets, LLC

Hossein, you talked earlier in the call about being a low-risk shift when you see tenants move from say a Phase I to a Phase II development. Do you see the same kind of low risk or is there incremental risk in the sense that you were talking about in your commentary of going from an ACC5 to an ACC6 as opposed to just Phase I to a Phase II?

Hossein Fateh

A little bit I agree with you there because the tenants that we have the relationship with that already are in Virginia, they know the highest quality operations we have. They are familiar with our operating team. They are familiar with our operating staff. They're familiar with our processes. And data centers are about minimizing risks for the tenant. So a tenant, when they see lower risk, it helps for them to know who they're dealing with. So yes, there is a benefit in having our tenant -- there is a benefit to our tenants, the ones that may occupy from Virginia to Santa Clara.

David Rodgers - RBC Capital Markets, LLC

In your 2011 outlook or even maybe in your planning, have you thought about tying up any additional land? Is that in any numbers or in your thought process for the year?

Hossein Fateh

We're always looking to expand but we currently don't have it in our projections. And when and if it's announced, we'll talk about it. But we don't have it in any of our current projections.

David Rodgers - RBC Capital Markets, LLC

With regard to perhaps New Jersey and Santa Clara, both on separate accounts, it sounds like you’ve begun hosting a number of tours, two to four, I think you said a week. And now that you got some track record with that, can you give a bit of color on maybe the percentage of vertical demand that you're seeing on those tours if you could possibly do that and give us a comment whether it's enterprise, hosting, resellers, et cetera?

Hossein Fateh

Well, Santa Clara, a lot of Santa Clara, I would say, is Internet-based. But Internet-based could vary from cloud computing to maybe a music distribution to perhaps a video distribution. So that -- maybe all of that falls under Internet-based. In New Jersey, most of our tenants and tours are financial-based and healthcare-based. Did you ask about any other markets?

David Rodgers - RBC Capital Markets, LLC

I did not. If you want to offer, that would be great.

Hossein Fateh

Virginia is typically, I would say 70% Internet, 30% enterprise-type based. Chicago I would say is similar to Virginia at this point.

David Rodgers - RBC Capital Markets, LLC

And any shift in what either you expected to see or what you've seen maybe over the past say three to four months as you've been touring New Jersey?

Hossein Fateh

No. I think it's steady as she goes.

Operator

Our next question comes from Jonathan Schildkraut with Evercore.

Jonathan Schildkraut - Evercore Partners Inc.

Mark, I was wondering if you could walk through some of the expected lease commencements for 1Q and maybe kind of talk about the magnitude of those so we can get a sense as to what the quarter might look like?

Mark Wetzel

The guidance for Q1 is 36 to 39. I don't get specific on -- we have one commencement that started in Q1 already that was noted in one of the footnotes in New Jersey. Obviously, for ACC6 and Santa Clara, we don't open the doors until later this Q3. So it's really Q3, Q4 focused of where those commencements obviously would start. And then New Jersey, sort of a little bit every quarter throughout the year to get to 50% at year end.

Operator

[Operator Instructions] Our next question will come from Chris Caton from Morgan Stanley.

Chris Caton - Morgan Stanley

I wanted to ask a few questions about the timeline for completion on Santa Clara. When you bring that to market, is that 100% kind of fully completed in terms of $900 a foot type building like you're talking about, Hossein?

Hossein Fateh

Yes.

Chris Caton - Morgan Stanley

And then second, your guidance I think assumes 22% leased. Is there some magic? I guess that's 4 megawatts of 18.2, is that how you got there?

Mark Wetzel

Yes. Basically a couple of rooms.

Chris Caton - Morgan Stanley

And then in the release, you talked about some of the pre-leasing for Phase II Chicago, Chicago I. When I look at the development sheet, it looks like that's done. But the release says the pre-leasing is subject to completion. Can you help me understand what I'm looking at here on $17.7 million kind of estimated and CIP [ph]?

Mark Wetzel

That $17.7 million really is the land and allocated shell that's already sitting there. So that's a future development. We haven't officially started that. When we do, we will then move that up to a current development. So the cost to build, as I noted in my talking points, was roughly $11 million a megawatt, times the 18.2 is roughly $200 million, of which $17 million has been spent. So that's cash out the door. So we need roughly $180 million to build the building.

Chris Caton - Morgan Stanley

For Santa Clara Phase I, it looks like in the per pound of use [ph] in the midpoint of your estimated total cost is $1,300 a foot? Can you talk about that versus your commentary on kind of closer to $900 or $1,000 a foot.

Hossein Fateh

Santa Clara is more expensive in that we have to put in significant amounts of seismic for earthquakes. And also, the labor in Santa Clara is more expensive in that the cost of a typical union electrician is more in Santa Clara than it is in Virginia.

Chris Caton - Morgan Stanley

Just to go back to your original answer for building out 100%, so you've kind of bought all the equipment you need to build out Santa Clara and it's just a period of building and there won't be anything kind of post third quarter to put into it to get it tenant-ready?

Hossein Fateh

That is correct. In all our markets, ACC6, Santa Clara and Chicago, when the buildings are finished, the data center is ready all the way down to the PDU, which is the power distribution unit, or a fancy word for an electric plug. So we provide everything, air conditioning, electricity, where the tenants need to only bring in their servers and hook them up to the PDU.

Operator

We will take a follow-up from Jordan Sadler with Keybanc Capital Markets.

Jordan Sadler - KeyBanc Capital Markets Inc.

I was just curious on the development cost of Santa Clara and ACC6, I know you still have a few months left to go but the band seems pretty wide still but on a combined basis -- it's about $50 million, $30 million of Santa Clara and $20 million on ACC6. Is there a reason for that continued variability or do you have a better sense where you're trending at least at this point?

Hossein Fateh

I think we probably do and probably we'll be able to tighten it by the next call.

Mark Wetzel

It's trending towards the middle, Jordan. So the idea of changing it from last quarter -- at this point, as we get closer, we typically tighten that but it's trending toward the middle.

Jordan Sadler - KeyBanc Capital Markets Inc.

My second question is just on Chicago Phase II, given that you've already done some pre-leasing and you haven't even announced construction of that second phase yet, is there an expectation that you could do better than the 12?

Hossein Fateh

It's always possible but we want to be conservative and say 12, that already is a very good return.

Operator

We'll hear from Young Ku with Wells Fargo.

Young Ku - Wells Fargo Securities, LLC

Just a quick question for Hossein, I was wondering what kind of cap rates you guys think that you could set if you decide to sell one of your assets?

Hossein Fateh

Cap rates on what?

Young Ku - Wells Fargo Securities, LLC

On one of your higher quality assets, if you were to sell it.

Mark Wetzel

We typically don't get into talking cap rates, Young. The idea that there's not a whole lot of these buildings to trade, I think the last one we are aware of was a Microsoft building in Chicago that they acquired, but with a 7 handle on it. But the idea that what we think we could get, we're not in the business of selling at this point. So it's hard to formulate that.

Operator

We have no further questions at this time. I'd like to turn the conference back over to today's presenters for any additional or closing remarks.

Hossein Fateh

No further remarks. Thank you for joining us today for today's earnings call. Thank you.

Operator

Ladies and gentlemen, that does conclude today's conference. Thank you for your participation.

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