CapLease Q3 2007 Earnings Call Transcript

CapLease, Inc (LSE)

Q3 2007 Earnings Call

November 7, 2007 11:00 am ET

Executives

Brad Cohen - Investor Relations

Paul McDowell - Chief Executive Officer

Shawn Seale - Chief Financial Officer

Analysts

Sheila McGrath - KBW

Ambika Goel - Citigroup

Will Marks - JMP Securities

Jeff Donnelly - Wachovia

Merrill Ross - FBR

David Fick - Stifel Nicolaus

Charles Richard - Zammer

Bob Gasson - Alphine Fund

Presentation

Operator

Good morning and welcome to the CapLease Third Quarter 2007 Earnings Conference Call (Operator Instructions).

It is now my pleasure to turn the floor over to your host Mr. Brad Cohen, Investor Relations. Please go ahead sir.

Brad Cohen

Thank you very much, operator. Today, I would like to remind everyone that part of our discussion this morning will include guidance and other forward-looking statements, and these statements does not guarantees the future performance and, therefore, undue reliance should not be placed on them.

We refer all of you to CapLease's third quarter 2007 earnings release in filings with the Securities and Exchange Commission for a more detailed discussion of important factors that could cause actual results to differ materially from those contained in the company's forward-looking statements. The company disclaims any obligation to update its forward-looking statements.

Also during the call today, the company will be discussing funds from operations or FFO, which is a non-GAAP financial measures. Please see the company's press release for reconciliation of FFO to net income to most directly comparable GAAP measure.

It is now my pleasure to turn the call over to CapLease's, Chief Executive Officer, Mr. Paul McDowell. Paul?

Paul McDowell

Thank you very much, Brad, and good morning everyone. With me on the call today is my partner, Shawn Seale, who is our Chief Financial Officer. This morning CapLease announced its results for the third quarter of 2007 highlighted by revenue of $46.6 million and FFO of $0.29 per share both a record for us.

This represents growth of 51% and 32% respectively, from the third quarter of 2006 and our third quarter FFO per share results were within our prior guidance range. It will be no surprise to anyone listening to this call that is an understatement to say the third quarter presented a challenging operating environment for many real estate market participants including CapLease.

The markets continue to be unsettled in the fourth quarter though current conditions are somewhat better than they were in August. Fortunately, CapLease has a solid portfolio of properties nearly all of which have investment grade tenants and a long-term fixed rate financing inside at attractive pricing that largely insulates us for this conditions.

This transparent corporate credit back, commercial real estate portfolio continues to perform flawlessly and has no exposure to any residential assets. Our strong portfolio along with the actions we took in the third quarter and the beginning of the fourth quarter provide a solid ball work to our shareholders against the wild swings we have seen in the credit markets. Even so, we have felt some modest impact of this credit markets.

As a management team we've been together for a long time and we do know how important it is not only to react, but also to anticipate potential issues when the markets go through rapid change. As a second quarter rundown and the third begin we noted our conditions in the credit markets were deteriorating and that’s a pricing of liabilities would getting increasingly difficult to forecast.

We reacted to this tell-tell signs in two ways. First, we immediately curtailed our asset acquisition activity. It makes no sense to try and purchase long-term net lease property when it is not clear how and at what price those properties can be financed. Accordingly, and quite deliberately we added no new net lease properties in the third quarter. Second we turned our attention and energy to making our balance sheet even stronger.

We rapidly completed a previously negotiated first mortgage financing on the three net lease properties we bought neoteric cap transaction earlier in the year and use the proceed to completely retire the existing bridge financing we had in place for that deal. We put in place a three-year $30 million revolving credit facility, secured by the factory mutual property in Johnston Road Island, which is otherwise unencumbered

The facility is available as a general line of credit for any cooperate purpose. In August as the credit markets fall out accelerated, we successfully completed the routine renewal of our warehouse line for another year. As expected we extended our core borrowing capacity of $250 million until August 2008 with the accordion feature of $500 million of capacity extended until we complete our long term financing of the assets on the line.

In October, we accessed the capital market to add additional long term capital to the balance sheet reduced our Warehouse balance and provide us with enhance flexibility to take immediate advantage of growth opportunities when they arise.

In an over subscribe transactions we issued $75 million of 7.5% convertible senior notes due 2000, 27. We used $26.3 million of the proceeds from the notes to reduced interest expense by paying down some of our higher cost warehouse debt and another $15 million to repurchase shares of our common stock at the closing of the offering in part to offset customary hedging activity by note buyers.

The remaining proceeds provide us with additional cash liquidity and are expected to be used at new high quality long-term assets to our portfolio. As we moved to the forth quarter, our focused is on the long term financing of the existing assets under our warehouse lines.

In July and August, we and other market participants belief that the CDO market would return relatively quickly for financing high quality long-term assets, we no longer belief that to be the case.

Compared to many other market participants who relied solely upon the structure markets and CDO markets for financing, we have a variety of cost effective long term financing options. Our loan assets are transparent and are extremely high credit quality, are not likely to face interruptions to cash flow and for the most parts significantly amortized over their expected term.

Accordingly, these assets have very attractive financing characteristics, and we have found in appetite away from the structure markets for lending against our investment portfolio on a long term fixed rate non-mark to market basis.

We are actively pursuing these opportunities. We’re making significant progress and hope to get a financing completed in the reasonably near term that we cannot provide complete assurance today about the timing of the successful transaction.

A small, but important part of our business model is based on our ability to finance the debt assets we own on a long-term basis. Over our 12-year history, we have issued net lease CMBS, financed installed home loans and small structured loan pools and we’ve issued one CDO.

We believe the structure real estate finance markets will resume as a vital and liquid market before too long. However, cap lease with our knowledge and high quality assets is not dependent on any one financing strategy, and we will adapt our approach as necessary to access to those sections of the market that will give us lowest cost of debt on the best available terms.

The real estate finance market is changing. It’s not going away. As for our current pipeline, we continue to see a steady flow of high quality property acquisition in mortgage opportunities. The flow of transactions that we’re seeing has picked up recently as property sellers are slowly returning to the market as the new pricing reality is beginning to set in.

While we have seen some improvement in cap rates, particularly when compared to where the benchmark 10-year treasury is trading. In general, they still are not currently at levels that are attractive to us from a historical prospective, in light of financing cost uncertainty.

We believe property prices may adjust further once the financing markets stabilize. Though in general, investment grade, net lease cap rates have less volatility than those in the broader real estate markets.

Given current conditions, we expect our new investment pays will remain slow for the remainder of 2007, though we have the balance sheet and the liquidity to take advantage of attractive opportunities as they arise.

And while we need some additional visibility in the markets before we can comment more specifically, we anticipate that there will be material improvement in conditions and our ability to add new assets in 2008 as relative financing cost come down.

It is worth noting briefly that while financing cost had currently risen that this phenomenon has no impact on our existing own property portfolio. In annualizing the 62 properties encompassing more than 10 million square feet that we own it is too simplistic to just look at CAP rate as the sole measure of value of that portfolio.

Instead, the value of our property cash flows need to be measured against the advantages long term fixed rate financing we have in place. That locked in financing gives us very strong returns on our invested equity dollars that are not affected by current market trends.

We don’t know when the weak and broader real estate markets will return to normal, but we do know that CapLease's dividend yield of more than 8% is the highest of our peer group. Further, that dividend is only 78% of our expected 2007 FFO and is fully covered by our existing investment grade portfolio on a cash basis and that coverage is expected to grow meaningfully in 2008.

While our projected annual per share FFO is also expected to rise, compared to full year 2007 even if we don’t add another asset. In closing, the third quarter revealed the strength of our business model and the deep experience of your management team. In the phase of a severe market dislocation, our high quality long-term portfolio continued to perform as expected generating record quarterly results.

Our recent actions have further strengthened our liquidity and balance sheet and we remain confident in our ability to weather any further market downturns and are in a solid position to resume our steady growth in assets when condition warrant.

I’ll now turn the call over to Shawn.

Shawn Seale

Thank you Paul and good morning everyone. As Paul indicated, we reported record third quarter 2007 FFO results within the range of our previously announced guidance. FFO was $13.3 million or $0.29 per share and net loss to common shareholders was $105,000 or rounded to $0.0 per share.

The difference between FFO and GAAP earnings consisted primarily of depreciation and amortization expense of approximately $13.4 million. Total revenues for the quarter were $46.6 million, up 51% from $30.9 million in the comparable period in 2006.

At quarter end, our overall portfolio was largely unchanged from June 30 with over $2.1 billion in real estate and investment assets of which about 78% are owned properties. Our diverse property portfolio includes 62 properties across 26 states leased to 33 different tenants and it exceeds 10 million square feet.

One of the unique characteristics of the portfolio that truly differentiates CapLease is the credit quality of our tenants, which is exceptionally high. The weighted average underlying Standard & Poor's tenant credit rating on our owned properties is single A.

In addition to our largest tenant, which is the U.S. government our tenant base is for the most part made up of large publicly traded cooperation and this provides a very high level of transparency in terms of our investment. We believe that the quality of our real estate portfolio is unmatched in the Nestle space.

During the quarter, we renewed our warehouse facility, which is our primary short-term borrowing facility for another year during August. We repaid in full the EntreCap bridge facility in July and we retired the existing $41.6 million mortgage debt on the Kroger properties.

Our Nestle properties were refinanced in July with five year mortgage notes totaling approximately $147 million an obvious amount we financed $117 million with an external first mortgage loan at an effective interest rate of 5.65%. The remaining $30 million of inter-company notes are expected to be financed through a structured financing or term loan with similar characteristics.

The factoring mutual property now secures a new $30 million, three-year revolving credit agreement, which means ten years to support future investment activities and to generate liquidity as necessary. We will pay interest on these borrowings at one-month LIBOR plus 125 basis points.

As of today there have been no advances under this facility. The Qwest properties have been refinanced with $23 million of borrowings on our warehouse line with interest payable at one month LIBOR plus 70 basis points. We do not intend to refinance the debt on the Travelers property at this time.

Overall, our portfolio leverage stood at approximately 78% at September 30. We believe our leverage is conservative given the asset quality and long-term nature of our assets and the long-term in place financing we have against them.

As of September 30, approximately 80% of our overall portfolio is financed with long-term match funded non mark-to-market etcetera, including 88% of our owned property portfolio. Our cost and the terms of these financings of these assets are not and will not be impacted by the current conditions in the credit markets.

At September 30, the company had $10.2 million of cash and cash equivalents plus about $9.8 million in cash held inside the CDO pending reinvestment.

We had $1.6 billion in net real estate investments, $267 million in loan investments, and $205 million in various net lease securities including CMBS. Overall, total assets were $2.1 billion.

On the liability side at September 30, we had $387 million of debt outstanding under our warehouse line, $986 million of long-term fixed rate mortgage debt on individual property investments and $268 million financed under our fixed rate CDO.

To give a quick snapshot of where we are after the closing of our recent convert as of today we have approximately $30 million of cash and cash equivalents and $7 million inside of our CDO pending reinvestment. We have no outstanding borrowing under the revolver and roughly $360 million outstanding under the warehouse. The carry value of the asset in the warehouse is about $460 million.

While representing only 10% of our total assets, let me say a few things about our securities portfolio. Each quarter we routinely determine the fair market value of our securities available for sale. In the third quarter we had a decline in the value of these securities as a result of the generally wider credit spread that have foreboded the broad market.

We believe that these value declines are temporary particularly when compared with our expected holding period. The changes in value are not the result of a decline in the performance or credit quality of the security classes for the collateral that supports these classes and; therefore, consistent with prevailing accounting standards we recorded these changes in value as a component of other comprehensive income on our balance sheet.

We do not currently expect any change in the cash flow from these securities that we own or losses in the underlying collateral and we intend to hold the securities for a sufficient time to allow for a full recovery in value. G&A for the quarter was up 547,000 from the prior year period; primarily due to the addition of two senior personnel late in 2006 and higher legal fees. A significant piece of which was related to the EntreCap debt repayment.

G&A was as budgeted and is not expected to grow materially in the fourth quarter. Today our G&A is only 6.7% of revenues, which we believe compares very favorably with some of the most respected rigs in the market place and we still have significant room to scale our operating platform.

Now, let me discuss our guidance. We’re affirming our full year 2007 guidance, estimating FFO to be the in the range of $1.1 to a $1.3 per share and earnings per share in the range of minus $0.15 to minus $0.13 per share.

These numbers equate to guidance following the fourth quarter of 2007. That’s affordably in the range of $0.26 to $0.28 per share, and earnings per share to be in the range of minus $0.04 to minus $0.02. Our guidance included the impact of the convertible note offering we completed in October and does not include any material impact from gain on sale activity.

We compute our FFO based on the NAREIT definition. The differences between FFO and earnings per share are add-backs for depreciation and amortization on our real estate properties and minority interest on our operating partnership units.

FFO includes the deduction for stock-based compensation expense, which was $0.08 per share in 2006 and is estimated to be roughly $0.04 per share in 2007.

However, in analyzing the earnings power of the Company, we believe that it is appropriate to adjust FFO to add back the stock-based compensation since it impacts reported FFO by both lowering the FFO and increasing the share count.

For the fourth quarter of 2007 we expect stock based compensation expense to be approximately $1.001per share. Finally the straight-line rent adjustment for the third quarter was a negative $4.6 million over the next 12 months straight-line rent adjustment is expected to be approximately a negative $6.7 million as we previously discussed the adjustment is secured from quarter-to-quarter due to certain property leases, which pay rent, semi annually rather than monthly.

I'll now turn the call back to Paul for some final comments.

Paul McDowell

Thanks Shawn. CapLease had a very solid year-to-date by any measure, despite the issues in the broader markets. We are a significantly larger company than we were in the comparable period just a year ago. Our equity base grew by 25%, our asset base by 44%, our revenue by 51% and per share FFO by 32%.

We have prudently taken the steps necessary to solidify our capital structure and strengthen our balance sheet particularly in light of market conditions. Our business model and the strategy to finance that business is proven having added on average $545 million of assets per year, during the three short year, we've been public.

Our assets are primarily lead to investment grade tenants and are performing as expected. We have one of the highest dividends in our peer group and that dividend is covered by our existing asset base and that coverage will increase meaningfully in 2008.

This experienced management team has a build a company that assembled a stable high quality asset base that supports our ’s stable dividend and has meaningful growth prospects in the years ahead.

We are now ready to answer any questions that you may have. Operator, please open the phone line.

Question-and-Answer Session

Operator

(Operator Instructions) We have our first question from Sheila McGrath, KBW.

Sheila McGrath - KBW

Good morning, Paul. I was wondering if you could talk about opportunities on the debt side right now versus property acquisitions and how you view that?

Paul McDowell

Sure. I think Sheila, when you see market go through the types of events we've been seeing over the past several months. You see a very rapid change in the pricing associated with debt transaction and a much slower change in the pricing associated with property acquisition. Accordingly we’ve seen some more attractive debt opportunities than we’ve had, then we’ve seen over the past several years.

But we've been cautious in pursuing those opportunities given the continuing uncertainty. Cap rates have the tendency to lag significantly changes in market conditions. We are currently seeing that, investment grade cap rates have got significantly less volatility, than you might see in the broader real estate market.

So, you'll see sort of cap rates have remained reasonably stable to trending up wards slightly given in the current market and we expect that will continue as debt market settle down.

Sheila McGrath - KBW

Okay. And on the financing that you alluded to and do you think that would be possible to get that wrapped up before year-end?

Paul McDowell

I am not going to speculate for you Sheila. Lets state we are focused very intently on getting those assets financed on a long-term basis.

Sheila McGrath - KBW

Okay. Thank you.

Operator

We’ll go next to Jonathan Litt, Citigroup.

Ambika Goel - Citigroup

Hi, this is Ambika for John. Can you comment on this perspective alternative financing, what the rates are and what kind of structures. I know that you’re considering several different options. But just to give us a feel of what these other options are, that would be great?

Paul McDowell

Sure Ambika. I am not going to comment necessarily on the rate, beyond saying that we expect that, ones the financing is completed will have an acceptable return on equities for the finance, finance, for the assets financed. So we're comfortable with the rates that were talking market participants about.

The net lease asset class of the financing asset class, it’s been around for a long time. And there are a large number of institutional players like Life Insurance Company’s and Pension Funds who have got long-term assets who for many years have finance long-term net leased properties and these are the exact types of institutions to which we use to when we had gain on sale activity, we use to sale our net leased loans too.

So we know, who the market participants are. We know that they like this asset class. Many were talking them about potentially financing it on a long-term basis with on a pool long-term fix rate financing.

Ambika Goel - Citigroup

No. Before I think you were talking about on all in rate around the 6% range with that, is that the same kind of range who runs with this potential financing?

Paul McDowell

Yeah. I’m not sure we’re going to comment. I’m not going to comment exactly on that. Just Ambika, just to say we’re not surprised or dishearten by the rates we’re looking at.

Ambika Goel - Citigroup

Okay. So could we assume that’s its higher than their previous rates of what you expected to get in the CDO market?

Paul McDowell

Well, I mean credit spreads are wider than they were six months ago. I think, we would expect some increase in debt financing cost versus where the market was six months ago.

Ambika Goel - Citigroup

Okay. That’s great. And then just going back to your current capacity under your various lines of credit, what is that could you kind of review the different pieces?

Paul McDowell

We have warehouse facility, which currently is $360 million against an asset base of roughly 460.

Shawn Seale

If total capacity there is 500 Ambika.

Ambika Goel - Citigroup

Okay.

Paul McDowell

We got capacity there of 500 until we get the assets that are there financed away. And we have $30 million underline revolver facility. And we have cash on the balance sheet of roughly $30 million and $7 million in Cyber, CDO.

Ambika Goel - Citigroup

Okay. And then just going back to the $500 million how much is drawn on that?

Paul McDowell

360.

Ambika Goel - Citigroup

360. Okay. Great. Thank you.

Operator

We’ll go next to Will Marks, JMP Securities.

Will Marks - JMP Securities

Thank you. I have one question just as it relate, I miss the beginning part of your call. But I seen you hadn’t comment it, any thought on the Grama C deal and how that ties into valuations or your business in general?

Paul McDowell

Well, I mean I think Grama C buying AFR. We haven’t done the due diligence on AFR but on the surface, it’s certainly looks to me like Grama C has gotten a very strong transaction, particularly for the component of assets in AFR that are long-term in nature. I think there is a lot of complexity at AFR that’s going to take Grama C, sometime to unwind. But in general, it looks like they got a really strong transaction.

Shawn Seale

I think you also have to dig in and I wouldn’t take it face value what the kind of chatter is from that transaction in terms of where cap rates are. It’s never as simple as people like to pay that. I can tell anecdotally, we still see a lot of transactions in the volume being a large transactions we market on the net leased side being done at vary attractive cap rates. Meaning it’s not at all easy to by properties still in this environment.

Paul McDowell

With very large component I think Grama C said in their call very large component of their cap rate assumptions with respect to A4 assets is dependent upon then selling quite a number of their asset today of our holes and lowering the basis on the properties they keep. So with respect to what we see in the marketplace, we see investment rate, cap rates, and remaining reasonable stable and a lot of activity and demand for properties continuing on the purchase side.

Will Marks - JMP Securities

Okay. Great. That’s very helpful. Thank you.

Operator

We’ll go next to Jeff Donnelly, Wachovia.

Jeff Donnelly - Wachovia

Good morning guys. I guess as the follow up to that could you mentioned you do or did not do due diligence on AFR, why didn’t you guys consider looking at American venture?

Paul McDowell

That’s a complicated. That’s a little bit of complicated question. We share Chairman with AFR and that always provide presents well someway as you think that should make life easier. Because of the potential conflict of interest or where we see parent conflict of interest.

We are focused on growing CapLease, organically from asset-by-asset basis and didn’t think that it was we don’t have a large property management arm here, a very large component what AFR does is property management, selling of assets that’s our various expertise.

Jeff Donnelly - Wachovia

Okay. And I apologies like really. I have to prior conference call earlier then expected so I might have missed some early comments. But if I could pin you down maybe a little bit on ’08, I guess, I was curious are thinking about investment activity for next year? I mean, do you expect you will be increasingly active as the year progresses or what sign do you guys looking forward to help you make the decision when the public trigger on new investments?

Paul McDowell

Well, to answer the first part of our question. Yes, in fact yes, we expect to be active in 2008 in adding institutional assets for the balance sheet. The key triggers that we look for is going to be the stabilization, doesn’t necessary have to be at a particular level. We just need to see the stabilization of financing cost so that we then understand what our cost of debt capital is going to be as against to the property purchase price unless we got out and pursue them in the marketplace.

We start some scientist stabilization in September and early October that is obviously changed somewhat over the past several weeks as we go into this latest round of credit markets ups and downs. But we expect as 2008 progresses that the financing market will settle, we’ll understand where financing cost are and we are in good strong position from a balance sheet perspective once that occurs to start adding assets.

Jeff Donnelly - Wachovia

I’m curious maybe it is a little bit broader then how I see but what step you feel need to transpire, I guess in order to further the credit markets to stabilize or clear and re-establish, is ready for credit?

Paul McDowell

I wish, I knew, I think, that obviously what’s going on now is there is a lot of concern about mark-to-market with respect to residential assets on a lot of very large market balance sheets. I think, one stock residential uncertainty starts to clear through the market place and we get a clear sense of where the economy is going. You’ll see the markets stabilize and the demand return to financing a real estate asset.

Jeff Donnelly - Wachovia

And just two last questions. Assuming the other net lease companies out there have raised I guess relative to there historical activity substantial quantities of debt and equity capital of past 90 days. Is there a hefty volume of transaction opportunities in the market today with an attractive pricing or do you think that’s more precautionary on their part. And I guess what’s your attitude towards reducing financial average at this juncture?

Paul McDowell

Well, I think it’s a little bit of, I think we will look at it, the same way to some degree that other market expense as well, it’s not, I would say at this moment in time the environment for purchasing investment-grade, net-lease properties is not particularly favorable giving the uncertainty surrounding financing cost.

But this uncertainties amounting financing cost can clear rapidly. So it make sense to have that cash on the balance sheet then to be able to take advantage of market condition when they do improve that’s exactly the position we’re in.

With respect to financial leverage, we expect our financial leverage. If we do nothing, our financial leverage will trend down as our underlying fixed rate debt amortized, remember we have very steeply amortizing debt on the properties that we owned.

So as that debt amortizes our financial leverage by its very nature comes down. And with investment-grade set of asset we’re comfortable with the current leverage where it is and we would expect that we would modestly de-leverage over the next several years.

Jeff Donnelly - Wachovia

And just last on our margin-buying portfolio, any change in delinquencies or default experience since the prior quarter?

Paul McDowell

No. It was our zero and it continues to zero in terms of delinquencies and default. And is expected to remain zero.

Jeff Donnelly - Wachovia

Hi, great. Thanks guys.

Operator

We will go next to Merrill Ross, FBR.

Merrill Ross - FBR

Hi, I think the questions basically being asked and answered. I was just going to ask whether it takes to get off to side line particularly, if you feel you need to arrange this terms financing before you come back into the market in ’08 but I believe you and to through that Shawn take another shot at?

Shawn Seale

No, I think we pretty much answered it now. We’ll get the term financing; although, I would add one caveat and that is say, if we see a very attractive financing opportunity now we are well position to take advantage of it and we will do so.

Merrill Ross - FBR

Unlike if you guys, some seller financing that was non-marginal and recourse etcetera?

Shawn Seale

Where you could buy, that’s right, whether we have capacity in our warehouse facility. We have cash in the balance sheet. You can always buy a property with debt in place. So, there are variety of options. It’s just a question of making sure you get the right transaction in this marketplace.

Obviously, once we have completed the term financing of the assets in the warehouse line that will open us up more greatly than we are today. So, we’re in a position to execute our transaction today, if we see one that’s attractive.

Merrill Ross - FBR

Great. Thank you.

Operator

We’ll go next to David Fick, Stifel Nicolaus.

David Fick - Stifel Nicolaus

Good morning. I don’t know that you really address the business model question here, I think we are going to sort of a 100-year event scenario and you say that financing conditions can clear rapidly, I think it’s your exact words. But how could you be so sure? Number one.

And number two, this term financing event that you are working on you really not willing to discuss pricing, but is there a risk adjusted spread there and are you really locking in, you know on a mass funded basis, sufficiently did that becomes the new business model?

Paul McDowell

The answers if we, when and if we get the term financing completed, we will have done exactly that data. We will have got attractive financing on a long-term fixed rate basis.

David Fick - Stifel Nicolaus

And is something that you can replicate and if need be it can become a new business model and…

Paul McDowell

Absolutely.

David Fick - Stifel Nicolaus

All right.

Paul McDowell

Absolutely.

David Fick - Stifel Nicolaus

So, you are not depending on the recovery in the debt markets because you don’t know what’s going to happen, we had a good session?

Paul McDowell

Yeah, when we are not depending up on David, we are not depending up on recovery in one specific sector of the debt market, right. So, some markets participants, their entire business model is build around aggregating assets and issuing collateral like debt obligations, that is not our business model.

So, the decline or if you will the demise of the CDO market, does not have a negative long-term impact on our ability to finance the assets that we put on our balance sheet, in fact most of our financing is just plane vanilla first mortgage loans on the properties that we buy.

Where I talk about the financing market clearing, I will be quick to recognize that leverage levels and spreads are not going to rapidly retreat their steps to where they were in April and March.

However, right now, as you know the CMBS markets are not functioning normally that versus normal origination, there is not normal pricing. I think that once the CMBS market.

And broader real phase finance markets understand where the long-term financing is for those assets you’ll see those markets stabilize and get some pricing, that is reflective of the underlying risks and that’s right now, I don’t think anyone knows what the underlying risks is, and so you are seeing lots of volatility, that’s what I mean by stabilization.

David Fick - Stifel Nicolaus

And that’s why I think people are skeptical about the term financing approach and you got right now in your mortgage portfolio a big spread, I’m sorry, in your mortgage liability a big spread between the mortgage constant and the interest rate.

And so, you got to have a cash flow spread to have a business modeling works too and I guess what you’re is in this term deal, you are going to have both a sufficient cash flow spread and an earnings spread that you think is logical?

Paul McDowell

Yes.

David Fick - Stifel Nicolaus

Okay. The converts that you just issued, what is the accounting going to be there and how does the pending change in accounting effects you?

Paul McDowell

We expect David, the proposed accounting change will go into effect for 2008 meaning there portion of our convert will be treated as equity and effectively increased our interest expense.

Assuming that it happens think about 3.5% increase to interest expense for 2008 versus not treating it that way. We’ve assumed that, that going to effect and that will be subject to that accounting convention.

David Fick - Stifel Nicolaus

Okay. And then, I’m a little confused on change in guidance because their explanation is for LIBOR shift, the LIBOR is down lower than it was in August?

Paul McDowell

Well, let me be a transparent I can be with David, because it’s obviously very important. The expected yearly results that we have felt the impact from as compared to when we put out the original guidance of 105 to 108 in the spring, we’re impacted by a spike in LIBOR.

So that since moderated, but remember with our warehouse lines reset, they reset month-to-month, so that had some negative impact on us when LIBOR went up.

We had delay in the permanent financing of the assets, that we sledded for CDO, is now looking to be delayed and looking for another long-term financing exit. We had somewhat less investment volume then we expected in the spring. And there is of course an impact from the convert.

Now the convert was added to us additional liquidity in cash to take advantage of market opportunities. So, it has a near term impact, but we think it’s a long-term positive.

So the point is David there, that we don’t meant to imply that the only impact what that the results of LIBOR movement, we recognize as a LIBOR spike guard that has now come back, but it just sort of variety of small things that added up to a couple of sudden change in our yearly expectation.

David Fick - Stifel Nicolaus

That’s reasonable. Thank you.

Operator

We’ll go next to Charles Richard, Zammer (ph).

Charles Richard - Zammer

Good morning gentlemen. Could you. I have a couple of questions the evaluation of company versus the stock prices, which is steady three quarters. And my numbers, it looks like you’re trading for just over eight times FFO, north of 9% dividend yield.

Could you explain the thoughts about why you wouldn’t take one or two of your assets at least to the Federal government or there’s somebody else in a long-term basis and place them with foreign investor who can take advantage to achieve dollar.

You kind of prove to the world of the shareholders that the volume that inherent in portfolio and take the proceeds that maybe pay down some debt and then rest of proceeds you can buyback share your shares. You certain can buying the assets. I’m virtually short that the same kind of valuation levels that your stock is trading at?

Shawn Seale

Well, we could in fact do exactly as you say, right. You could sell from assets or joint venture some assets. That is something that we have and/or and continuously consider. With respect adding additional assets, we have the capital inflate to add assets or in general on an average basis, we see returns on equity on the existing portfolio, which we’ve said before in the low-teens. So we could certainly add accretive assets today, now we standing where our share price is?

Charles Richard - Zammer

I guess…

Shawn Seale

Those are good idea. If you say if you get…

Paul McDowell

Charles does are exactly types of things we discuss here routinely.

Charles Richard - Zammer

Okay. Well, I guess, let me add a couple more things. I guess, I’m a little confused on the fixation for growth, for growth sake, I mean, we always have to kind of look at the share price and what shareholder returns are, we’re less than the IPO. This is kind of something, which is growth is probably better for management and it’s been for shareholders.

My thought, if you don’t want to dramatically change your balance sheet and you restructure your company, it just take $120 million assets or $130 million asset to sell it, issue a press release and say, we sold it for 6.5 or 7% cap rate, we took the proceeds that we’re going to use most likely to buyback share.

So people can actually do the math and say there’s no way this company should sell for $8.75 with the 9.25% yield with the quality of tenants with the term that you have and the whole package. It such too cheap and I think just selling one property with the stronger were press release, kind of waken up some folks to what’s happening?

Paul McDowell

Like we said, with that type of advice we already considering, while we can’t control the stock price. We agree there’s a significant disconnect with the value. We’re creating compare to the stock. And let me just comment very specially on the first thing you’ve said, we are not out for growth merely for growth sake.

When we add additional assets the fundamental test we always try to meet, just to make sure that, that assets is accretive to our shareholders. If you look at our year-over-year results, you’ll see exactly that.

Charles Richard - Zammer

Okay. Well, hopefully maybe there is some things you can do in the future that will demonstrate to the market and to the world of the discount going on here on CapLease. Thank you.

Paul McDowell

Thank you.

Operator

(Operator Instructions) We’ll go next to Bob Gasson, Alphine Fund (ph).

Bob Gasson - Alphine Fund

Good morning. A quick question. Shawn mentioned about straight-line rent being lumpy I thought you gave a number of $6.7 million for the next 12 months. The annual fourth quarter number 6.7 and that’s going to be lumpy within that or what does the 6.7 represent?

Shawn Seale

Yes, hi Bob that is the forward number from September 30 or October 1st forward. So, its negative $6.7 million and it will some quarters will be positive adjustment as we received those semi-annual rent and another quarters will be negative like this quarter was. The 2008 estimates, is about $6.1 million negative. So its $6 million to $7 million right now.

Bob Gasson - Alphine Fund

Okay. And what’s the, if we’re really going to CAD number for distribution, what is the amortization or the principal amortization on debt? How much more does it take that cash available for distribution down?

Shawn Seale

Right, I don’t have that figure in front of me, but I’ll tell you that most people do not include principal amortization in the CAD number.

Bob Gasson - Alphine Fund

I understand. I’m just. But it’s certainly as relevant number than what the clearance is on how much you can pay to shareholder?

Shawn Seale

Yes, it absolutely is. I agree with you.

Bob Gasson - Alphine Fund

Okay. So, I could get that outline from you?

Shawn Seale

Yes.

Bob Gasson - Alphine Fund

Thank you.

Operator

We have no further question in the queue at this time. I’ll turn the conference over to Mr. Paul McDowell for additional or closing remarks.

Paul McDowell

Thank you everyone. We appreciate your time today and your valuable questions and we look forward to speaking with you again when we report our fourth quarter results.

Operator

That concludes today’s conference call. You may disconnect at this time. We do appreciate your participation.

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