Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

DCT Industrial Trust Inc. (NYSE:DCT)

Q4 2007 Earnings Call

February 15 2008 12:00 pm ET

Executives

Sara Knapp - Corporate Communications

Phil Hawkins - CEO

Jim Cochran - President and CIO

Stuart Brown - CFO

Daryl Mechem - MD of Operations

Tom Wattles - Executives Chairman of Board

Analysts

Chris Pike - Merrill Lynch

Michael Muller - JP Morgan

Mitch Germain - Banc of America Securities

Chris Haley - Wachovia

Nap Overton - Morgan Keegan

Paul Adornato - BMO Capital Markets

Cedrik Lachance - Green Street Advisors

Operator

Hello and welcome to the DCT Industrial Trust fourth quarter and yearend 2007 Earnings Call. (Operator Instructions).

At this time, I would like to turn the conference over to Sara Knapp, Miss Knapp you may begin.

Sara Knapp

Thank you. Hello, everyone, and thank you for joining DCT Industrial Trust fourth quarter and yearend 2007 conference call.

Before I turn the call over to Phil Hawkins, our CEO, I would like to mention that management's remarks on today's call may include statements that are not historical facts that are considered forward-looking within the meaning of applicable securities laws, including statements regarding projections, plans or future expectations. These forward-looking statements reflect current views and expectations which are based on currently available information and management's assumptions. We assume no obligation to update these forward-looking statements and we can give no assurance that the expectations will be attained. Actual results may differ materially from those described in the forward-looking statements and will be affected by a variety of risks, including those set forth in our earnings release and in our Form 10-K filed with the SEC as updated by our quarterly reports on Form 10-Q.

Additionally, on this conference call, we may refer to certain non-GAAP financial measures. Reconciliations of these non-GAAP financial measures are available in our supplemental package, which can be found in the Investor Relations section of our website at dctindustrial.com.

And now, I'll turn the call over to Phil.

Phil Hawkins

Thanks, Sara, and welcome everyone. I will offer some comments on the fourth quarter as well as our 2008 outlook before turning the call over to Jim Cochran, who will review our capital deployment activities and plans in more detail. Stuart Brown will then review our quarterly financial performance as well as provide some additional detail on our 2008 guidance. Also joining us in the room today are Tom Wattles, Daryl Mechem and Matt Murphy, who are available to answer questions.

We were very pleased with our fourth quarter results as well as our continued progress towards our longer term goals. FFO was $0.18 a share for the quarter and $0.69 for the year, up 15% from the prior year, after excluding the one-time internalization charge in 2006.

Same-store NOI was up quarter-over-quarter 1.7% on a cash basis and 2.9% for the year. We had another excellent quarter from a leasing perspective with 1.9 million square feet of signed deals, rent growth of 4.6% cash, 11.2% GAAP and tenant retention of 74.7%.

Same-store occupancy ended the year at 93.9%, up from 93.1% a year ago. Occupancy in our consolidated operating portfolio increased during the quarter to 94% from 92.7%, all-in-all, a terrific execution by Daryl and his operations team.

We also continue to make good progress with our development business. Gains on sale from development projects totaled $2.4 million, the majority of which came from the sale of Buford 100 in Atlanta to a user. SCLA continues to progress with four buildings now under construction, excellent pre-leasing activity and several user landfills under negotiation. And Jim will give a little more color on that.

Assets under management increased by $141 million in the quarter to now $686 million. For the year, assets under management increased by $434 million, an important accomplishment for the company. I truly appreciate our partner's confidence as well as the hard work of Teresa Corral and our funds management team, a great job.

We also strengthened our balance sheet during the year by recycling more than $365 million of assets through either contribution or sales, providing additional capacity to fund future growth. More on that in a moment.

In Mexico, Art Barkley, Guillermo Espinosa and others continue to make excellent progress in establishing our presence south of the border. We acquired five building totaling 352,000 square feet and closed on one of our development projects with Nexxus in Monterrey, which is 107,000 square foot project now fully leased to Fluidmaster and in the process of being expanded to 189,000 square feet.

Now, let me look ahead at 2008. Recently issued market research reports as well as anecdotal feedback of brokerage indicate that gross leasing activity and net absorption decreased somewhat in the fourth quarter. However, construction starts are also down, which is encouraging. It's always nice to see rational behavior.

In terms of our own experience, obviously, we had a good fourth quarter, and leasing results so far this year remain on track with our guidance and our internal budget. In fact, through January, one month into the year, we have signed leases for 20% of our annual target for the year, which is obviously encouraging. I can assure you that internally we have maintained an intense focus on operating results and have adopted a more aggressive leasing strategy relative to occupancy and early renewals. Daryl is on it.

What does concern me, however, is the continued deterioration of the credit markets. Conservatively managing our balance sheet has always been a key objective of ours, and it is in these times that having significant capacity and flexibility becomes a very meaningful competitive advantage. With leverage at 37% and a fixed charge coverage ratio of 3.1 times, we are in an enviable position which we intended to preserve.

In light of the condition of the credit markets as well as indications that the economy is softening, we spent the last six weeks intensively evaluating our business plans for 2008 and spent a significant amount of time discussing and debating our proposed plans and tactics at our Board meeting earlier this week.

Our conclusion is that given increasing uncertainty in the credit and real estate markets, a more conservative capital deployment strategy is appropriate and prudent. We want to preserve our capital to both fund our current strategic priorities as well as be available for new and compelling value creation opportunities, which will likely emerge as a result of what I expect will be increasing stress in our industry.

In response, we made the following adjustment to our business plan for 2008. First, we reduced the number of planned development starts in the US and have also reduced the projection of gains from contribution of stabilized development projects due to a more conservative lease-up schedule. While current lease activity would indicate we might do better, I think it's prudent to assume a little longer period in that planning.

Second, in an addition to scaling back in development, we have also pulled back in our value-add acquisition plans at least for the first half of the year. Recent acquisitions have been a terrific source of growth, but in this environment, where both leasing fundamentals and cap rates may be changing, its better in our view to sit on the sidelines for a little while and let the dust settle.

Third, in recognition of the uncertainty in the real estate capital markets, we now plan for dispositions and contributions to exceed new acquisitions as we believe it's important that sources of capital precede uses. This obviously has a slightly dilutive impact, but the conservative approach is obviously warranted, in my view. The result of these adjustments is a reduction in both the upper and lower end of our guidance of $0.02 per share.

As I indicated earlier, we remain comfortable with respect to our prior guidance with regard to operating profit performance. While we'd much prefer to leave guidance unchanged, I believe the changes we are making are prudent in this environment, will maintain our financial strength and better position us for future growth opportunities.

Those companies that remain disciplined in managing their capital, even at the expense of short-term earnings, will be justly rewarded overtime for their patience. We certainly intend to be one of those companies.

With that, let me turn the call over to Jim Cochran, our President and Chief Investment Officer. Jim?

Jim Cochran

Thank you, Phil.

2007 was an outstanding year for DCT Industrial, as we made significant progress with the execution of our key investment objectives. First, our Institutional Capital Management business experienced solid growth as we increased total assets under management by $434 million in 2007 to a total at yearend of $686 million.

We expanded our relationship with Dividend Capital TRT and initiated a new relationship with JPMorgan Asset Management. In the fourth quarter, our JPMorgan venture acquired $116 million of assets bringing the total for that fund to $259 million. We expect to continue to grow both relationships in 2008.

Our Mexico initiative is also going extremely well. As of December 31, we owned or have under control 1.4 million square feet of space in Monterrey, Tijuana, Guadalajara and San Luis Potosi. In the fourth quarter, we acquired five buildings totaling 353,000 square feet in Tijuana and Guadalajara.

Activity on our Mexico development pipeline has been strong. We closed on a forward commitment in our Nexxus venture for 107,000 square foot building leased to Fluidmaster. This building will be expanded to 189,000 square feet this summer. Our venture also sold a 78,000 square foot building to a user during the quarter.

Last month, we added to our original group of assets in our Nexxus venture a 128,000 square foot build-to-suit lease in Monterrey to a subsidiary of Regal-Beloit, a New York Stock Exchange listed company. We expect further positive announcements regarding Mexico in the first quarter of 2008.

At yearend, DCT had $7.4 million square feet under development company-wide that was 19% leased with a total pipeline of 9.5 million square feet. Over two-thirds of our pipeline has been developed in coastal markets in Mexico where customer demand remain strong.

During the fourth quarter, we executed leases in our Logistics Way project in Nashville, our Dulles Summit project in Washington DC and at SCLA. We also sold a 499,000 square foot building in Atlanta to a user at a net profit that was in excess of what we could have expected if we had leased the building and contributed to a fund.

In 2007, we put SCLA on the map. In total our Stirling Capital Investments venture completed or has under development 926,000 square feet of industrial spacing for building. Leasing activity and interest from users to purchase land remain strong.

As we expressed in prior calls, we became increasingly cautious with our acquisition activity in 2007 as we reduce our activity significantly from prior years. In total, we acquired $325 million of which $25 million was in Mexico and the remainder was split fairly evenly between on balance sheet and fund acquisitions. We recycled $365 million from asset sales and fund contributions from our balance sheet last year.

In sum, our net investment in real estate remained unchanged as we increased our exposure to higher return on equity investments.

While we experienced solid fourth quarter results, both from an operations and an investment standpoint, we remain cautious as we head into 2008. In our opinion, investors are underwriting all classes of industrial product more conservatively, which is putting upward pressure on cap rates.

There have been a few new deals that have gone through the sales process in 2008, thus making it difficult to draw a firm conclusion, especially for Class A realties product. It is clear that there has been upward movement in Class B and C industrial cap rates.

On the other hand, it is also clear that there is a record amount of pension fund capital targeted to real estate in 2008. Most pension funds that are investing in core real estate are under allocated to industrial, which is a positive for Class A industrial cap rates.

The uncertainty in the market, however, is keeping certain buyers on the sidelines, at least, in the short-term. The impact of all these factors will be better understood in the next few months as the product currently on the market trades, but it does appear to us that even Class A cap rates may move to some degree.

In light of this uncertainty, both with the economy and its potential impact on leasing and the capital markets, we modified our guidance as Phil described earlier, and Stuart will now outline some more detail.

Stuart Brown

Thank you, Jim, and hello, everyone.

Overall, we had a very successful year. FFO for the fourth quarter of 2007 was $0.18 per diluted share, an increase of $0.03 or 20% from last year, excluding the one-time charge associated with the internalization of a former advisor. For the year, FFO per share was $0.69, an increase of 15% excluding the 2006 internalization charge.

Fourth quarter operating results were again very solid, occupancy, including fund properties, increased to 94.9% at December 31st, up from 93.8% at September 30th, reflecting solid tenant demand across our markets. Excluding properties held in funds, occupancy increased 130 basis points during the fourth quarter to 94%.

Total leasing activity was good and we signed 1.9 million square feet of leases during the quarter, which is consistent with what we experienced in earlier quarters. Rent growth on lease rollover was very strong at 4.6% on a cash basis and 11.2% on a GAAP basis. These rent rollover growth numbers, exclude a great transaction that our leasing team did in the Brisbane sub-market of San Francisco this quarter, which if included, results in cash rollover growth of over 50% on signed leases.

I discussed last quarter how the leasing team looks for ways to add value to the portfolio. And this quarter they delivered with a five out of ten at least. Previous rent was at about 10% up-market and the new lease gives us $750,000 higher annual cash rent, resulting in an IRR of nearly 40%. A new lease commenced, as soon as the lease [buy-out] was completed, so we had no down time. The original lease that had been signed back in 1967 contained fixed rate renewal options to 2013. The transaction also generated a one time non cash gain of $2.1 million, as the cost of buy-out of the lease was significantly less than remaining below market lease liability.

During the quarter, we seen store performance, our underlying net operating income was again in line with expectations. Same store rental revenue growth was very solid at 4.4% on a cash basis, reflecting higher average occupancy. Cash, same store net operating income growth was 1.7% and GAAP NOI growth was 0.3%, excluding termination fees in the $2.1 million buy-out gain, which I just discussed. This growth was negatively impacted by $500,000 real estate tax appeal, which we won in the fourth quarter of 2006. Excluding this item from 2006, our Q4 cash same store growth would be 2.9% and growth on a GAAP basis would be 1.4%. For the full year cash basis same store NOI increased 1.8%, increased 2.9% on a GAAP basis, right inline with our original guidance of 1% to 3%.

As Jim discussed, we had a busy quarter in capital deployment. We have the total of $ 2.4 million in gains primarily from the sale of Beaufort 200 building in Atlanta. This brings our total 2007 development gains recognized in FFO to $15.1 million and our development margins for the year to 19%.

In addition, we generated economic gains of $17.9 million during the year, reflecting the additional value harvested from the sale of operating assets. Our institutional capital management business continued to grow with assets under management reaching $686 million at December 31st, having increased $141 million during the quarter. We earned fees in this line of business of $1.1 million during the fourth quarter reflecting the increase of more than 30% from the fourth quarter of 2006. So, the full year revenue from this growing business more than doubled to $2.9 million.

Both G&A costs, as well as interest costs were inline with expectations for the quarter.

Let me discuss in detail, last quarter we've maintained a strong balance sheet. Our fixed charge coverage remains robust at 3.1 times this quarter, which provides us with significant borrowing capacity to fund our business. Our 2008 refinancing risk is essentially non-existent. The $345 million of maturities this year could be refinanced with existing capacity in our credit facility and our execution of $175 million extension rate, which is at our sole and absolute discretion. I also point out that our 2009 maturities amount only $8 million.

As Phil and Jim have already discussed the significant changes in the capital markets, since we originally issued guidance three months ago, makes us more cautious on the overall volume of development activity, including asset sales and contributions. In response, we have lowered our 2008 development starts by 40%, to a target between $125 million to $175 million.

The delayed lease-up and disposition of several development projects results in a reduction of expected development gains by $0.03 per share from our previous guidance. We now expect development gains to generate between $0.06 and $0.08 per share, and we expect these gains to be spread evenly over the second, third and fourth quarter of 2008. Our outlook for average development margins remains unchanged at a range of 13% to 17%.

The lower expected development gains are partially offset by lower expected interest expense and the result is reduction in guidance of FFO and EPS by $0.02 per share. The outlook for FFO per share in 2008 is now $0.68 to $0.73 per share. We also expect assets under management to grow $250 million to $350 million in 2008. And while we remain cautious on the overall economic environment, we remain comfortable with the outlook for operating results we provided last quarter. We strongly believe that this approach to managing our company and our balance sheet, while modestly reducing short-term FFO is the correct course for our long-term health.

And a final point, I want to make you aware that we are reviewing our accounting for the 2006 internalization. As you recall, we've reported $172 million one-time charge in 2006, which was expensing almost the entire purchase price to the advisor.

But we believe that expensing most of purchase price was the proper accounting and is consistent with the way many of these transactions have been recorded over the years. We've been reviewing this transaction with the SEC, as another recent transaction allocated a significant portion of the purchase price to goodwill.

As accounting review is limited to the accounting for the internalization and could result in us changing our 2006 results. Possible outcomes include us expensing an additional $1 million for the small amount of goodwill we've reported, or recording a significant portion of the transaction to goodwill, thereby lowering our 2006 loss. This change will not have any impact on our reported operating results and would be non-cash. We wanted to make you aware of this, since any changes in 2006 may be reflected in our 2007 Form 10-K.

With that we'll turn it over for questions.

Question-and-Answer Session

Operator

(Operator Instructions)

And our first question comes from Chris Pike from Merrill Lynch. Please go ahead with your question.

Chris Pike - Merrill Lynch

Good morning, everybody.

Phil Hawkins

Good morning, Chris.

Chris Pike - Merrill Lynch

I guess first question, obviously, with respect to the guidance, I guess if you strike in the point we're talking $0.18 a quarter, which is flat with respect to Q4, you walk through some underlying assumptions with respect to development, starts, contributions and the such. Can you talk about what do you think wholly owned acquisitions or co-investment acquisitions and perhaps disposition expectations are driving that $0.18 per quarter run rate?

Stuart Brown

Chris, yeah, this is a very good question, and I'll try to catch them. First of all, just in terms of overall acquisition and disposition, I mean, first of all on the co-investment side, I did mention we expect that to be $250 million to $300 million sort of total increase during the year in assets under management.

In terms of what's going to happen on balance sheet, overall, it's probably not going to be a big change in total investments in the real estate during the year. As Phil talked about, though, some of the assumptions are really changes in timing as well as we're not going to let acquisitions get ahead of dispositions.

Phil Hawkins

Yeah. Chris, this is Phil. Last quarter we did not disclose specific targets for either acquisitions or dispositions, but frankly the assumptions then was that they'd be roughly equal in terms of impact in FFO as well as timing and volume. Given that, I don't think anybody in this environment can comment anything until it happens. We're going to wait till dispositions happen before we think about deploying that capital.

So as a result, there will be a slight timing difference between the two. But I would say that has some modest impact on our own internal expectation. With respect to FFO it was roughly modest, but given financing cost. But anyway, who knows what we're going to do. We've got some internal plans what we'd like sell. We certainly are optimistic that even in this environment that that's doable. But again, it's hard for us to put a stake in the ground publicly with all of that.

The main point is we are going to patient. We're going to do the right thing for dispositions. And if it makes sense to sell, we will, if it doesn't, we won't. And we will not get a discretionary capital deployment out in front of that until we do have a better transparency on our dispositions.

Chris Pike - Merrill Lynch

Okay. So I guess inherent in that statement, the growth in AUM is going to be solely through third-party, co-investment, acquisitions, there is no plans to perhaps fill on balance sheet assets into funds business?

Phil Hawkins

Other than our development properties.

Chris Pike - Merrill Lynch

Other than development, of course.

Phil Hawkins

Right. We're happy and fortunate to have two great partners. Both partners have reviewed kind of our on balance sheet assets. And I wouldn't expect there to be any significant change in contributions from our on balance sheet operating properties into those two funds. You never know, we're always having conversation, right? But no, I would not expect there to be a significant reduction in on balance sheet assets like there was this past year with JPMorgan.

Chris Pike - Merrill Lynch

Okay. I guess last time we met, you guys had talked about perhaps looking into new markets. I'm assuming that all the new markets are going to be commensurate with co-investments into those markets then, correct?

Phil Hawkins

Our focus on 2007 and then also in 2008 is really not to expand markets. We've had a target list for markets for some time. That hasn't changed.

Chris Pike - Merrill Lynch

I guess with respect to those markets, that's what I'm referring to. I'm not referring to anything that's new. I'm referring to those target markets, I guess.

Phil Hawkins

Right.

Chris Pike - Merrill Lynch

Okay. So any new acquisitions, once again, into the target markets will be commensurate with co-investments?

Phil Hawkins

Yeah. I'm not sure if this environment will be entering even new target markets in a way. Our partners and/or with us, it will certainly be based on the economics, and if we're convinced that we'll get a good long-term return, we'll make the move in our exiting target markets. I wouldn't expect a lot though.

Chris Pike - Merrill Lynch

Okay. With respect to, I guess, your joint venture with IDI, can you maybe frame that out a little more in terms of ownership structure. Is it just you guys are bringing the land, they're bringing the development, and maybe just talk about that a little bit?

Jim Cochran

Chris, this is Jim. It's a pretty simple venture. Right now, its 1.9 million square feet in four locations, one of which, maybe your earlier question, is a relatively new market for Savannah, a market we've been monitoring for a while that we believe in the port there and it's basically a 50/50 venture. And these were sites that primarily IDI controlled and it is looking for a partner. One exception would be in Atlanta, we have a project called Beaufort, that land we do control and we are trying to contribute that to the venture. Rather than that these were upsites that IDI has been working on for some quite time.

Chris Pike - Merrill Lynch

Okay, And then just maybe for Stuart couple of housekeeping items. With respect to the new or the more conservative approach to capital deployment, can you walk us through what your thoughts are for G&A?

Stuart Brown

Yeah, I mean, overall in the guidance we put out on G&A last quarter, overall, the run rate we've got right now is pretty good for next year. And overall for the year to be about $0.11 per share, which is considering what we put out last quarter.

Chris Pike - Merrill Lynch

And then straight line rents, how should we think about straight line in '08, given some of the different mixes of leasing that you've done in that latter part of '07?

Stuart Brown

What you've seen in '07 is you have seen the straight line rents sort of flopping from '06, and it's largely some of this -- just to do some changes in the marketplace, as we've been able to have less free rent in our deals. right now, you may get somewhat free rent in '08 as the market increases, so you may have some up-tick in straight line rents, current run rates. Sara, is there anything else to add

Chris Pike - Merrill Lynch

Okay. Then I guess, Phil's prepared remarks referenced to potential land gains or land sells, I didn't catch any framing of those with respect to Jim's commentary. So maybe can you talk about what you expect to sell and how much is that expected to impact '08 FFO?

Phil Hawkins

Actually in my comments, I think we're looking back at '07 fourth quarter, where we got the two develop profits.. I don't think I commented on land sells.

Phil Hawkins

And SCLA, what we're going to do is develop the products and meet those niches in the marketplace, as well as sell land to users and we have active interest from users, but nothing to talk about at this point.

Chris Pike - Merrill Lynch

Okay. So I guess that was the commentary that I am referring to, so the question is in your '08 guidance have you baked in any type of assumption, I'm not asking you guys what that assumption is, but is there some assumption of land sells to users in your '08 expectation?

Phil Hawkins

Yes, There is.

Chris Pike - Merrill Lynch

Okay. Thanks a lot guys.

Phil Hawkins

Thanks, Chris.

Operator

Our next question comes from Michael Muller from JP Morgan.

Michael Muller - JP Morgan

Two questions, first of all in terms of CapEx, can you talk about, it looks like you have more leases rolling in '08 than you did in '07, can you talk about what you are budgeting for turnover costs and maintenance cost?

Daryl Mechem

Sure, this is Daryl, Mike. The portfolio rolled in '08 is very similar to what we saw in '07 and our numbers that we've budgeted are really within just couple of pennies, just over $2 for total turnover cost in portfolio

Michael Muller - JP Morgan

Okay.

Phil Hawkins

Similar to the range that we've seen this year.

Michael Muller - JP Morgan

Okay. And when you talk about the -- but it looks like you have about 10 million square feet rolling what number would that apply to because I know you have month-to-month leases in there, is it a similar 7 million to 8 million square foot number, when you strip out the month-to-month?

Daryl Mechem

Yeah. It's closer to 8.

Michael Muller - JP Morgan

Closer to 8 million?

Daryl Mechem

Yes.

Michael Muller - JP Morgan

In terms of the development pipeline, if we are looking at the projects that are labeled as shell complete, can you tell us what the occupancy level is there or the leasing level on those projects as oppose to the whole thing when the project is under construction?

Daryl Mechem

Shell complete leasing is basically 30%.

Michael Muller - JP Morgan

Okay. And you mentioned probably either net negative in terms of dispositions versus acquisitions or breakeven. What could the disposition volume be, what's the range?

Stuart Brown

We really haven't put out a range.

Michael Muller - JP Morgan

Okay. I think that's it. Thank you.

Stuart Brown

Thank you, Mike.

Operator

And our next question comes from Mitch Germain from Banc of America Securities.

Mitch Germain - Banc of America Securities

Good morning everyone.

Stuart Brown

Good morning, Mitch.

Phil Hawkins

Good morning, Mitch.

Mitch Germain - Banc of America Securities

Phil just circling back to Chris Pike's comments on dispositions and just your answer have you changed what you previously thought your mix of what market's you might dispose in?

Phil Hawkins

No, I mean our disposition desires haven't changed much at all in the last few months. What has changed is more realistic view that we may not get what we wish for. But our strategy remain which is presently to continue to focus on assets where we believe growth is mature and the market demand for that from buyers is helping up to make it a prudent decision to sell, but what mix actually comes out to be we will soon see.

There is clearly more buyer interest in markets that are viewed as stronger, buyer s are astute, but on the list, in our plans, our desires haven't change it's really, just trying to be more pragmatic about it. You know that you really can't comment anything happen in this environment until it does happen. And then so we are planning around not being as successful as we would like to, more conservative.

Mitch Germain - Banc of America Securities

Okay. Tenant demand, have you seen that drastic a change? Is it really been over the last three months or is it really more over the last six months?

Daryl Mechem

Mitch, this is Daryl. On the activity front, we haven't seen a meaningful shift at all in activity. Our lease pipeline is about 6 million square feet. That includes first proposal all the way to lease document. Right now, we have 1 million square feet at the lease negotiation stage, which is right on par with '07. We've got another 900,000 square feet late stages of proposals. So we're seeing good activity. We hope it continues throughout the year. But obviously, the crystal ball isn't quite as clear as we like it to be. But so far, activity has been very acceptable to us. We're pleased with the activity.

Mitch Germain - Banc of America Securities

Great. And just, one last question for Stuart, fee income for the quarter? How much of that is non-recurring?

Stuart Brown

Hold on for a second, let me grab the slip. So during the quarter, total capital management fees were $1.1 million. Of that it's really split almost evenly between asset management and acquisition fees.

Mitch Germain - Banc of America Securities

Thanks a lot guys.

Stuart Brown

Thanks, Mitch.

Operator

Our next question comes from Chris Haley from Wachovia

Chris Haley - Wachovia

Good Morning.

Stuart Brown

Good morning, Chris

Chris Haley - Wachovia

Stuart, will love your views on property operating expenses, margin expectations into 2008?

Stuart Brown

Chris, good to hear from you. In terms of margins in the fourth quarter, if you sort of look at the operating margins we had in the fourth quarter and you strip out the $2.1 million gain from the rental revenue line which is where that shows up. I think, overall, the margin we had in the fourth quarter probably be on track with you'll see overall for 2008. There's a little bit of seasonality in terms of expenses and yearend accruals and things like that.

I mean the biggest driver of the margins is just the occupancy and we ended the year strong on the occupancy side. Overall, occupancy for the year will probably climb up a little bit. We don't expect any big changes from average of '07 to '08. I don't really see a big shift in margins.

Chris Haley - Wachovia

How about operating expenses?

Stuart Brown

Operating expenses as well. I think what we see right now is, again, most of them are recoverable, and in '07 maybe had a little bit higher non-recoverable expense rate than we normally have, but nothing unusual.

Termination fee is the other thing that can swing that. We only had $200,000 of termination fees in all of 2007. That's a small number, so you may get a little bit less than, I think, their long term run rates. That could pick up a little bit in '08, but we don't have any termination fees in our expectations for '08.

Chris Haley - Wachovia

Okay. Could you also provide your view on not so much your technical capacity to make deals, but your comfort level to make deals if portfolios come your way or some additional ventures for developments come your way? How much additional capacity do you have versus some of the target leverage ratio that you want to be within?

Stuart Brown

I think there is two points in the question, how comfortable are we making deals in general and also with respect to leverage? We've got plenty of capacity. I'd rather not put a ceiling or a floor on that. I think we always want to have a fairly conservative view of our balance sheet. But clearly, we've got room to make a move, whether it be an offensive or a defensive move.

With respect to cover-making deal, I think Jim said it well. I think it's going to take a few months, at least the first quarter, for things to settle out with the economy and leasing fundamentals. Certainly I am encouraged by Daryl's and his team's experience, but who knows how to underwrite, right?

And also with respect to cap rates, I don't think we've seen what cap rates are. My guess is they've moved. They maybe even have moved a little bit more than people want to think they've moved. So my comfort level right now on doing deals is almost zero.

Tom Wattles

Hey, Chris, this is Wattles. We've looked at a couple, last six months of the year, pretty good sized transactions. And we decided as a team not to pursue either one of those large transactions. Instinctively, I think they are going to get better. We're not saying we're not going to do those specific deals. It's a much better capitalized industry today, as everyone knows, than it was 10 years ago. But there will be stress-out there, and hopefully, we can translate stress into some terrific opportunities for us. But consistent with what Phil said, we are not in a hurry.

Chris Haley - Wachovia

How do you guys think about the risks of the slowdown in the US being amplified or impacting Mexican markets?

Jim Cochran

Very good question, Chris, this is Jim speaking. There is clearly a correlation. What's changed in Mexico though is that it's a much stronger, more diverse economy today than it was during the last recession. The way we look at Mexico is very watchful of the border markets, hoping that they may have a higher correlation to US economy as opposed to the interior markets, but you've got this emerging middle-class town in Mexico, more retailers down there, these retailers are extending their supply chains. And so the dynamics are a bit different. But clearly, as we are watching the US, we are watching Mexico very carefully.

Chris Haley - Wachovia

So, are you are saying, Jim, that you are -- if I understood you correctly, just to be sure that your bias is to be more interior and close to the border?

Jim Cochran

We have a nine-market strategy. I think our bias is to watch the border markets, watch all markets. But to be very careful with the border markets. That being said, I consider Monterey in border market, and we have excellent activity in Monterey, and as I suggested, I think we'll we have more positive news regarding Mexico in the first quarter.

Chris Haley - Wachovia

Okay. Last question. I apologize if I miss this Jim, any senses as to what's happening with regard to real activities and your real customers, and real negotiations, may be even little bit more detail, in California?

Jim Cochran

Real customers or is it related to the potential intermodal facility?

Chris Haley - Wachovia

Yes.

Jim Cochran

I mean that's a significant project as you know and that's moving forward. It's complicated, but it continues to move forward, and every one would like if it continues to move forward.

Chris Haley - Wachovia

Sure. Is there been any change or have a greater number of options arisen for you to participate or other folks to participate in the actual intermodal given what's happening economic wise?

Jim Cochran

At SCLA?

Chris Haley - Wachovia

Yeah.

Jim Cochran

No. There are no more options for other groups to participate, if that's your question. And for us we think we are in better position to add value and participate today than few months ago.

Chris Haley - Wachovia

Thank you.

Operator

And our next question comes from Nap Overton from Morgan Keegan.

Nap Overton - Morgan Keegan

Yeah. Most of my questions have been already asked and answered, but just to kind of summarize some of them there. The assumed same-store NOI growth in underlying your 2008 guidance would be what?

Stuart Brown

Nap, this is Stuart. That's 1% to 3%, so consistent with what we put out last quarter. Haven’t changed that at all.

Nap Overton - Morgan Keegan.

Alright. And the adjustment you made to the year ago quarter, and talking about the fourth quarter or slowdown in the growth rate this year, I think you said it had been 2.9% on a cash basis, excluding a $500,000 unusual item in the year ago quarter?

Stuart Brown

Right. So on a cash basis it would have been 2.9% if you stripped out the $500,000 one-item income that we got last year.

Nap Overton - Morgan Keegan

Okay. That's it. My other questions have been addressed. Thanks.

Stuart Brown

Thanks, Nap.

Operator

Our next question comes from Paul Adornato from BMO Capital Markets.

Paul Adornato - BMO Capital Markets

Hi, good afternoon. Given the lack of pricing confidence on the asset side, I was wondering if you could comment on investor appetite for industrial product these days?

Jim Cochran

Well, this is Jim speaking. As I attempted to outline, there is still a tremendous amount of capital, particularly pension fund capital, which is really the driver for Class A industrial products, that's on the sidelines here. The allocations are up significantly from pension funds for investment in real estate and for those groups that are targeting core or stabilized product they tend to be under allocated to industrial. So, there is a tremendous amount of capital going to be in industrial product type and the real question is one of either their advisors or through direct investment, understanding where the market is staying. There is a fair amount of uncertainty, so I think most groups do not -- most advisors that represent pension funds, do not want to make a big bet today in case they are wrong. And as I suggested somewhere on the sidelines observing, so it's a very uncertain market right now, than being said, there are various products in the market, and there will product that will trade this quarter, so.

Paul Adornato - BMO Capital Markets

Okay. And could you just comment on what are you seeing in terms of construction cost materials and labor?

Jim Cochran

Construction cost were down a bit in 2007, we did expected that trend to at least continue, because we believe that due to the market conditions and availability for small or less well-capitalized developers to get financing quite frankly, there will be less building. Therefore, contracts will be in less demand and be more aggressive on pricing, so, certainly the stabilization of cost or maybe a slight increase.

Paul Adornato - BMO Capital Markets

Okay. Thank you.

Operator

Our next question comes from Cedrik Lachance from Green Street Advisors.

Cedrik Lachance - Green Street Advisors

Thank you. Jim, can you give us a cap rate on the JPMorgan JV acquisition during the quarter?

Jim Cochran

We haven't made it a practice, Cedrik, to outline cap rates. And even if we did, as you know cap rates is in isolation without discussion of where wins are relative to market would be, tough to interpret, and make any meaningful conclusions. That is our practice, we're not giving those out.

Cedrik Lachance - Green Street Advisors

Okay. Can we get a sense of the expected IR on those acquisitions?

Jim Cochran

It's just same answer, and again IR even more variable and there is 11 or 15 buttons you can push or pull to arrive at an IRR, and it depends on how one underwrites.

Cedrik Lachance - Green Street Advisors

Okay.

Jim Cochran

Clearly, for a variety of reasons we don't give that out, but most important reason in my mind is the respect for the JPMorgan relationship. They are a majority of the capital and I don't think it's our place to be communicating publicly what we as a partnership are expecting. I hope you understand. But it's important to us that we have a lot of respect for that relationship and the importance of proprietary information.

Cedrik Lachance - Green Street Advisors

Okay. In the Nexxus partnership in Mexico one of the buildings was sold. Can you help me understand how you might have profited from that? It's a forward commitment on your part, and if I understand the building was sold before it hit your balance sheet, is that correct, one? And two, do you ever profit from something like that?

Phil Hawkins

Sure. And we did in fact in the fourth quarter. I think the forward commitment is basically just a way to capitalize a development venture. There's lot of ways to do it. So we look at it as a partnership and make a decision as a partnership to either sell a building to a user or not. So, you're right, it was not our balance sheet. So effectively, there was a profit made on our right to buy the building.

Cedrik Lachance - Green Street Advisors

Okay. So you were delighted with the distribution that includes the profit?

Stuart Brown

From an accounting standpoint, we were paying to terminate a contract. Practically speaking, we sold the building to the user. We just never owned the title to it. So I guess our return on invested capital was infinite, which is not a bad thing. The user came in, as you would expect, and paid more than our underlying agreement to acquire the building from our partner.

We expect to be in these developments, whether it'd be forward commit or a joint venture or wholly owned, where our cost base is going to be favorable relative to market value once that asset is stabilized or is valued by the user. In this case, what happened, just from an accounting standpoint, we never took formal title of the building, but practically we sold the building we developed and took the development risk and sold it for a profit.

Phil Hawkins

Right. Just like Atlanta. If we think the user can come in and pay us more than we could make with a normal means of leasing the building and getting it sold to an investor under one of our funds, then we'll entertain that interest.

Cedrik Lachance - Green Street Advisors

Okay. Actually, on the topic of Atlanta, it seems to me your profit margin is low teens on that building. Why is it that you consider low teens profit margin there greater than what you could have achieved by actually leasing the building to someone else? Has anything changed since you underwrote the building so that low teen margin was actually the best take scenario?

Phil Hawkins

Sure. Atlanta, we've stated and I'm sure you're aware, has been one of the markets in the US with some of the highest vacancy rate. And therefore there's been downward pressure on rents. So while cap rates to 2007 maintain firm and actually probably decreased over the year, the numerator or the rental rate was under pressure. And candidly, as we expressed on prior call, leasing was slow. There is lot of space down there. So this is the change to reduce our exposure in Atlanta and we thought a profitable and prudent manner.

Cedrik Lachance - Green Street Advisors

Okay. Which are the market do you think have characteristics similar to those of Atlanta right now in terms of probably a little bit too much supply and perhaps some pressure on rental rates?

Phil Hawkins

The other market that we commented on is Memphis. And we do have a building there that's 50% leased, quality building. Memphis is subject to tax abatement in a competing state within the same market; i.e., Tennessee and Mississippi. So it's not pure supply and demand in that marketplace. And right now, there are some reasons why companies coming to the market may select Mississippi over Tennessee. We are located in Tennessee.

Cedrik Lachance - Green Street Advisors

Okay. So otherwise in terms of the other major markets in which you are participating, other than general slowdown as you explain or general, perhaps there is softness in leasing velocity, you don't see any market where there is any cause for concerns?

Daryl Mechem

Cedrik, it's Daryl. We are really pleasantly surprised with some activity in the fourth quarter. Of the 16 markets, we executed leases in, in the fourth quarter, 13 of those markets had increased occupancy, and some of them very meaningful, 200 basis points in our portfolio.

So as it relates to activity, the talk on the street is a possible slowdown. Some markets, Miami has softened because of housing, but they are still in the mid 90s occupancy. Phoenix, a little bit of a slowdown, but they are still in the 92%, 93% occupancy range as well. So what we're are seeing is really softening to probably a historic norms in a lot of markets, but nothing that's dipped to levels that we're concerned with yet. And even in our operating portfolio in Atlanta, we had a very good quarter.

Stuart Brown

We did and we had a 160 basis point increase in occupancy in the land with our existing portfolio. Rent growth last year, 19 of the 21 markets for us, our portfolio we had rent growth, so the rent growth we saw across the country is really pretty balanced. You know 19 of our markets saw a positive rent growth, so I was looking at costs, so you bet are any markets truly showing some hemorrhaging? No.

Cedrik Lachance - Green Street Advisors

Okay. Thank you very much.

Operator

And our next question comes from Chris Pike from Merrill Lynch.

Chris Pike - Merrill Lynch

Just a quick follow-up I'm interested in perhaps some comments from either Jim or Tom in terms of the historical lag between other economic expansion or contraction and when that broader economic impact ultimately affects no vacancies and rental rates I guess back in 2000 to 2001 there was a little bit of a lag, so I'm just curious, what kind of lag do we see both, not only just from the downside, but let's be little optimistic here, in terms of coming out of this when thing should start picking up on those two fronts?

Tom Wattles

This is Wattles, I'm not an economist, but I'll tell you what we experienced. The last two recessions have been over, before they begun, they were only two quarters long. And so, our experience was frankly on the tenant demand side, six to eights months of a lag, in terms of coming out. And/or slowing down to digress for a second, I was with friend of mine who runs a large national development company this week. And again there is a 50,000 foot view, which is what you read in the newspaper. The guys on the ground in that company echoing what Daryl said are very-very busy today. So I think that again, for the next quarter or so, we're going to continue to see active leasing and a lot of deals signed. But I would tell you that my experience is that, it takes a while, six to eight months before it work's itself through the system in the industrial business. It's quicker in retail. It's obviously instantaneous in the apartment business. But industrial is slower, going down, and slower coming back. The one thing that I have found helpful is looking at business loan demands. When we're figuring it out in the old days when to putting capital into California, when business loan turned positive and the banks tracked that. That is a very positive sign for our industry looking out three to six months.

Jim Cochran

Another positive factor is that the inventory sales ratio is lower right now, relative to some of the historical data. So, that's positive for the warehouse business, as it relate to coming out of a slow period.

Tom Wattles

The last bond burden we had was in '81, '82 and I'm one of the few guys old enough to remember that.

Chris Pike - Merrill Lynch

Okay, thanks a lot.

Operator

And our next question comes from Chris Haley from Wachovia.

Chris Haley - Wachovia

Always nice remembering how old you are Tom.

Tom Wattles

Thanks Chris

Chris Haley - Wachovia

You're welcome

Tom Wattles

Thanks, Bruce.

Chris Haley - Wachovia

Okay, I have to ask a questions about Savannah. I've got three of your public peers, one of your prior now private peers entering in that markets via ventures, via take down provisions with private owners who have a much more competitive base. What is your advantage here within Savannah at $40 a foot?

Jim Cochran

Couple of things, first half Savannah in general and Savannah is now the second largest port in East coast and fourth largest port as it relates to TEU volume in the US. Last year the comparison to 2007 to 2006, Savannah's volume was up 17%. The National statistics aren’t finalized, but the part of it is going to be flat to 2.5% total increase. So, first we believe in the location. Our project is located roughly 30 miles south of the ports near the large target. Entire rack distribution facility is total about 2.5 million square feet. We have some tax abetment on the land that we believe gives us a as a right to real estate property tax at a competitive cost advantage as it relates to rental rate.

Chris Pike - Merrill Lynch

Did you say 30 miles South, Jim?

Jim Cochran

Yeah, on I 95 and goes to US 84.

Unidentified Company Representative

It is right near, right next to the target distribution centre.

Chris Pike - Merrill Lynch

So this is not a port 30 miles south, this is an inland location?

Jim Cochran

Right off Interstate 95, so I wouldn’t call it inland. It is the same location the target selected for the major facility as well.

Chris Pike - Merrill Lynch

Why would I be there versus the opportunity that Duke has with their your venture for land within a mile, two miles of the port, center point's, position, AMB's, pro-logistic position.

Jim Cochran

We believe the tax abatement and other incentives we have exceed what could be higher grades cost.

Tom Wattles

Chris, this is Wattles. If you're a high [drage] guy, you're going to be closer to the port. And on the other hand, I think Jim, target for 2.5 million feet or 2 million feet in this location. So in addition to having an occupancy costs advantage, there is a labor advantage. The labor in this county is very attractive and very available. So you're seeing major users move away from the port depending upon drage economics to take advantage of the benefits, Jim outlined.

Chris Haley - Wachovia

How would you expand on that, you made it into two specifics but the decision to do four deals with IDI instead of one at time, some of your public brothers would suggest that there is a greater likelihood of a pullback and new starts in the big box category than the regional distribution asset type? Is this parkering a reflection of that? If maybe you could expand it specifically at least in terms of the motivation behind this deal from IDI's perspective and then what you're hearing elsewhere from your private competitors. I hope this is better in terms of their willingness to start?

Stuart Brown

I am not sure I fully understood the question, the distinction between big box and regional distribution center, is it?

Chris Haley - Wachovia

Above or below 500, 000.

Stuart Brown

Well, our buildings in this venture range roughly from 300,000 to 500, 000 change, it's the diversified portfolio from East Coast to West Coast. So we have product from the Bay Area, Stockton area to Savannah. And so it's a very diversified portfolio. IDI, we believe the quality developer and the leading private developers in the country and it's a 50-50 venture. So, they are putting equal equity capital in the deals, we are. So we believe we've reduced our exposure, if you will, as opposed to a traditional venture where you have the developer putting in 2% to 10% of the equity capital required.

Chris Haley - Wachovia

The macro perspective is just a deal that you've been working with IDI for a period of time, and is this -- or is this indicative of what some others might be indicating that the private market is pulling back in terms of capital -- or capital and one in the…

Stuart Brown

Let me touch at chase, IDI as you know is owned by a Japanese construction company. That relationship has been in place since I think 1989 or 1990. The fact that they very selectively go to their partners beyond construction company capital, simply is a reflection of the fact that the Japanese capital relative to the opportunities IDI, there is a gap. As we have been working with IDI for years trying to broaden and deepen our relationship and frankly we could not be more excited about IDI as a partner, number one. And number two, consistent with everyone's comments on risk management in today's environment, we like a 50/50 deal.

Chris Haley - Wachovia

All right. Thank you.

Operator

And that ends today's question-and-answer session. At this time, I would like to turn the conference back to Phil Hawkins. Mr. Hawkins?

Phil Hawkins

Well, just a quick thank you to everybody for participating on the call. We really appreciate your interest and your questions, and look forward to speaking with many of you soon. Take care.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: DCT Industrial Trust Incorporated Q4 2007 Earnings Call Transcript

Check out Seeking Alpha’s new Earnings Center »

This Transcript
All Transcripts