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Digital Realty Trust, Inc. (NYSE:DLR)

Q2 2012 Earnings Conference Call

July 25, 2012 13:00 ET

Executives

Pamela Garibaldi – Vice President, Investor Relations and Corporate Marketing

Michael Foust – Chief Executive Officer

Bill Stein – Chief Financial Officer and Chief Investment Officer

Analysts

George Auerbach

Jamie Feldman

Jonathan Schildkraut

Jordan Sadler

Rob Stevenson

Michael Bilerman

Jonathan Atkin

Paul Morgan

Operator

Good afternoon. My name is (Kimberly) and I will be your conference operator today. At this time, I would like to welcome everyone to the Digital Realty Trust 2012 Second Quarter Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. (Operator Instructions) Thank you.

I would now like to turn the conference over to Pamela Garibaldi, Vice President of Investor Relations and Corporate Marketing. Please go ahead.

Pamela Garibaldi – Vice President, Investor Relations and Corporate Marketing

Thank you, (Kimberly). Good morning and good afternoon everyone. By now, you should have received a copy of the Digital Realty earnings press release. If you have not, you can access one in the Investor Relations section of our website at www.digitalrealty.com or you may call 415-738-6500 to request a copy.

Before we begin, I’d like to remind everyone that the management of Digital Realty may make forward-looking statements on this call. Forward-looking statements are based on current expectations, forecasts and assumptions that involve risks and uncertainties that could cause actual outcomes and results to differ materially from expectations. You can identify such forward-looking statements by the use of forward-looking terminology such as belief, expects, may, will, should, pro forma, or other similar words or phrases, and by discussions of strategy, plans, intentions, future events or trends, or discussions that do not relate solely to historical matters, including statements related to rents to be received in future periods, lease terms, development and redevelopment plans, supply and demand for data centers, data center sector growth, targeted returns, cap rates, acquisitions, leasing and investment activities, capital markets and finance activities, debt maturities and covenant compliance, expectations about the company’s growth, financial resources and success, and the company’s future and other results including the company’s 2012 guidance and underlying assumptions.

For a further discussion of the risks and uncertainties related to our business, see the company’s Annual Report on Form 10-K for the year ended December 31, 2011 and subsequent filings with the SEC, including the company’s quarterly reports on Form 10-Q. The company disclaims any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

Additionally, this call will contain non-GAAP financial information, including funds from operations or FFO, adjusted funds from operations or AFFO, core funds from operations, earnings before interest, taxes, depreciation and amortization, or EBITDA, adjusted EBITDA, same-store net operating income or NOI and same-store cash NOI.

Digital Realty is providing this as supplement information prepared in accordance with generally accepted accounting principles. Explanation of such non-GAAP items and reconciliations to net income are contained in the company’s supplemental operating and financial data package for the second quarter of 2012 furnished to the SEC, and this information is available on the company’s website at www.digitalrealty.com.

Now, I’d like to introduce Michael Foust, CEO; and Bill Stein, CFO and Chief Investment Officer. Following management’s remarks, we will open the call to your questions. Questions will be limited to one per caller. If you have additional questions, feel free to return to the queue. If we’re unable to take all of your questions on the call, we’ll be happy to discuss them with you offline.

I will now turn the call over to Mike.

Michael Foust – Chief Executive Officer

Great. Thank you, Pamela, and welcome to the call, everyone. In response to last week’s leasing results press release, our primary goal today is clear up any uncertainty around the state of our industry and our business. After my brief introduction, Bill will discuss our 2012 guidance, second quarter finance results, and recent capital market activities. Following his remarks, I’ll provide an overview of our operations as well as an update on our activity in major markets before opening the call for your questions.

Like most global businesses, we are mindful that current uncertain economic and political environment. However, we believe that data center sector will continue to be a growth area in the context of the broader economy. In fact, our business has benefited significantly from a number of recent trends since the downturn in 2008, including the outsourcing of data center requirements by corporate enterprises, including large financial institutions, as well as the growth of managed service providers.

With our track record of reliability of financial resources as well as our design and construction expertise, we continue to attract enterprise customers especially financial institutions are looking for a data center provider to have mission critical applications. In addition, we are attracting many new customers to DLR.

We’ve consistently said that the great opportunity for our business is to convert the large enterprise users from building their own data centers to outsourcing that function to DLR. While this has contributed to a longer sales cycles in the short term, in part due to extensive procurement processes as many of the larger institutions, it does not represent a reduction in demand. We firmly believe that providing long-term data center solutions to these customers deliver sustained value and growth for our business and for our shareholders.

I will now turn the call over to Bill.

Bill Stein – Chief Financial Officer and Chief Investment Officer

Thank you, Mike. Good morning and good afternoon, everyone. To address the concerns that have been raised since we issued our second quarter lease results last week, I’ll begin my remarks today with a detailed discussion of our 2012 guidance followed by a review of our financial performance and capital markets activities. Pleased note, that all per share results are on a diluted share and unit basis.

The original guidance range of $4.34 to $4.48 per share assume that items that did not represent ongoing revenue and expense streams would net out to zero over the course of the year. Therefore, core FFO and reported FFO would be essentially identical. As a result of the transaction costs, including debt extinguishment costs associated with the Sentrum acquisition, core FFO will now be significantly greater than reported FFO in 2012. We estimate that the Sentrum portfolio acquisition and the upside equity offering will add approximately $0.08 per share of FFO in the second half of 2012.

Furthermore, we believe that the delay in the timing of lease commencements will result in a decrease of $0.05 to $0.08 per share of FFO. As a result, we have revised the 2012 core FFO guidance range to $4.37 to $4.48 per share increasing the low end by $0.03 per share and maintaining our high end.

With respect to the changes underlying our revised 2012 guidance leasing assumptions, as of June 30, 2012, we commenced leases totaling approximately $56 million in annualized GAAP rental revenue. And we have a backlog of $41 million that we expect to commence during the second half of 2012, which results in approximately $97 million of annualized GAAP rental revenue.

While we’re very confident about our prospect funnel, the timing of the signings and commencements at this point in the year is difficult to predict. However, as Mike said this does not represent a deceleration in demand, rather with many large corporations including financial institutions there is often an elaborate and structured procurement process particularly for major IT deployments. Nevertheless, new customers continued to be a very important component of our growth strategy, contributing stabilized income in the form of long-term lease commitments, while providing additional growth opportunities for potential future deployments at our sites worldwide. We’ve therefore revised our assumption for 2012 lease commencements to range between $130 million and $170 million in annualized GAAP rental revenue from $145 million to $180 million in annualized GAAP rental revenue.

By comparison last year, we commenced approximately $100 million in annualized GAAP rental revenue. It is important to note that our revised range of $130 million to $170 million represents an increase in annualized GAAP rental revenue over the last year of 30% at the low end, 50% at the midpoint and 70% at the high end. I would also like to note that our leases commenced for the first half of this year plus our backlog totaling $97 million is just $3 million, or 3% shy of what is commenced – what was commenced for all of last year.

We believe this growth rate range in commencement further illustrates the strength of our business and the confidence we have in our leasing program. As we stated in our leasing results press release last week we are adding sales directors and sales engineers to our team to address the additional demand in these markets as well as to support the growth for our business and markets like suburban Chicago. To a large extent, these positions are budgeted and have no impact on guidance. We consider these hires to be the normal course of business and a positive indication of the growth prospects for our company.

Let me now turn to the quarter’s financial results. As stated in today’s earnings release, second quarter 2012 FFO was $1.09 per share up 2.8% from the first quarter 2011 FFO of $1.06 per share, and up 6.9% from second quarter 2011 FFO of a $1.02 per share. Adjusting for items that do not represent ongoing expenses or revenue streams, second quarter 2012 core FFO was $2.6 million lower than reported FFO or $1.07 per share.

Adjustments to FFO in the second quarter included termination fees and other non-core revenues of approximately $7.8 million primarily consisting of a $4.1 million termination fee related to the Solyndra lease. It is important to note that we have recognized approximately $1.5 million in rent for this lease through March and receive the termination fee during the second quarter. We also received the $2.3 million fee associated with another lease termination for space that was subsequently released during the quarter.

Lastly, we recognized a foreign currency gain of approximately $1.4 million associated with the repayment of inter-company loans dominated in sterling and Singapore dollars with proceeds from the $750 million term loan. Partially offsetting the non-core revenue items during the quarter were items that do not reflect ongoing expenses. These items consisted of $4.6 million in transaction expenses. The majority of which was related to the Sentrum acquisition, a $303,000 non-cash loss on early extinguishment associated with mortgage loans that were repaid during the quarter and the $337,000 in tenant expense adjustments related to the second lease termination.

In addition, we incurred approximately $30 million to $31 million of debt extinguishment cost in the third quarter associated with the repayment of third=party debt in conjunction with the Sentrum acquisition. Adjusted funds from operation or AFFO for the second quarter of 2012 were $101.2 million, up from $100.5 million in the previous quarter. The diluted AFFO payout ratio for the second quarter of 2012 was 85.4%, up from 84.6% in the last quarter. Adjusted EBITDA at quarter end of $182.2 million grew by 5.9% from $172 million in the previous quarter and by 17.6% from $155 million in the second quarter of 2011.

Turning now to the income statement, net operating income increased by $7.1 million to $189.7 million in the second quarter of 2012 from $182.6 million last quarter. Overall, this increase was primarily due to incremental revenue from new leasing and acquisitions. Looking down the income statement, tenant reimbursements increased to $60.4 million in the second quarter from $57.9 million in the previous quarter primarily due to increases in utility reimbursements.

The increase in other revenues reflects the termination fees previously described. On the expense side, rental property operating and maintenance expenses increased to $87.6 million from $79.8 million in the previous quarter primarily due to seasonal utility rate increases as well as lease commencements. The transaction and other expenses were discussed in my earlier comments regarding FFO. Our NOI margins remained in the mid 60% range. The slight fluctuation within this range is generally attributable to timing of recording a various one-time adjustments related to CAM reconciliations and other true-ups.

The increase in equity and earnings of unconsolidated joint ventures was due to the $2.3 million gain associated with disposition of 700 and 750 Central Expressway and office complex located in Santa Clara, California. This game was not included in FFO. Tax expense increased to $1.2 million from $721,000 in the previous quarter primarily due to deferred tax expenses related to our foreign operations.

Lastly, preferred stock dividends increased to the issuance of Series F preferred stock in April, which was partially offset by the conversion of the Series C preferred stock. Finally, I would like to review recent capital market activities. Over the last few months, we have executed interest rate swaps converting approximately 75% of the five-year term loan balance from floating to fixed rate.

As of today, we all in weighted average interest rate on the term loan is 2.29%. This is consistent with our strategy of minimizing our financial risk, while seeking to achieve the lowest possible cost of capital given market conditions. Year-to-date, we raised nearly $1.8 billion in new capital. Since our last call in connection with the Sentrum acquisition on July 2, we completed the sale of 11.5 million shares of common stock, which included 1.5 million shares issued upon the exercise of the underwriters’ option of purchase of additional shares at a price of $72.25 per share.

Net proceeds totaled approximately $796.8 million after deducting underwriting discounts and commissions and offering expenses. The proceeds were used to fund a portion of the purchase price for the Sentrum portfolio acquisition and the temporarily repaid borrowings under our global revolving credit facility. Given the amount of capital raise from the stock offering, it was not necessary to utilize the previously negotiated bridge loan to fund the portion of the acquisition price. Rather funds were drawn in sterling on our global revolving credit facility.

In addition to ensure ample liquidity in sterling, euros, and U.S. dollars in future periods, we have exercised a portion of the global credit facilities accordion feature for $300 million equivalent. When it closes in the early August, the total commitment on our global revolving credit facility will be $1.8 billion. We have not sold stock for aftermarket equity distribution program since January. Year-to-date we have sold approximately 957,000 shares of common stock, where net proceeds totaling $62.7 million at an average price of $66.19 per share. We currently have approximately $54 million of availability remaining on the ATM program.

Currently, we have $1.1 billion of immediate liquidity, which includes $88.1 million in short-term cash investments and funds has been drawn on our global revolving credit facility, but excluding the incremental $300 million of capacity from the exercise of our accordion. If this liquidity will fully utilize, we would remain in compliance with all covenants contained in the global revolving credit and term loan facilities, our prudential shelf facility, and other unsecured debt. During the quarter we repaid consolidated secured loans totaling $36.4 million and one unconsolidated secured loan totaling $25 million. In addition we have a $52.8 million secured loan that we expect to retire in early September. The weighted average interest rate on these three loans was 6.09%.

In 2013, we have $224.4 million of ongoing principal amortization and debt maturities, which we plan to retire initially with proceeds from the revolver. These activities are consistent with our practice of lowering the overall cost of debt. Our net debt to adjusted EBITDA ratio was 4.6 times at quarter end, down from 4.7 at the end of the first quarter. Pro forma for the Sentrum acquisition, net debt to adjusted EBITDA is expected to remain unchanged at 4.6 times. Our GAAP fixed charge ratio was unchanged from the previous quarter of 3.4 times and a weighted average cost of debt including interest rate swaps was 4.67% at quarter end, down from 4.75% in the first quarter.

Before turning the call back to Mike, I want to add that in response to many of your recommendations, we no longer plan to announce our leasing results ahead of earnings. We believe that combining the leasing and earnings announcements will enable us to provide you with important detailed information on our results and address questions regarding leasing during our quarterly call. As always, we welcome your comments and greatly appreciate your continued support.

I’ll now turn the call back to Mike. Mike?

Michael Foust – Chief Executive Officer

Thank you, Bill. Turning first to our leasing results, during the quarter, we signed new leases totaling approximately 210,000 square feet. This includes 189,000 square feet of Turn-Key space of which 160,000 square feet was for leases signed in the U.S. And this is our highest quarterly volume of Turn-Key leases signed in the U.S. in over two years. We’re very encouraged by this increase and believe it reflects the strong demand we’re tracking in our major markets.

As we have said on many occasions, lease rates vary market by market across U.S., as well as across our global markets. The amount of leases signed in the quarter also impacts overall average lease rates, particularly when the number of leases are signed in oversea markets or both lease rates and currency translation can impact results. This way we prefer focus on cash ROI targets between 11% and 14% for our spec leasing. We also look at our current average lease rates by market and by region and compare them to annual rates on a rolling 4 to 6 quarter basis, particularly, in the U.S. where the range is greatest across markets.

We believe this provides an accurate – a more accurate view of lease rate trends. For example, we reported that for our Turn-Key Flex Solution in the second quarter. The average GAAP rental rate per square foot in the U.S. was approximately $149. Over the preceding four quarters, the average rental rates range from a low of $122 per square foot in the third quarter of 2011 to a high of $176 per square foot in the proceeding – preceding second quarter of 2011. On a rolling four quarter basis, the average lease rate was $154 per square foot, very consistent with this quarter’s average rental rate, an indicative of stable pricing for our Turn-Key product.

Based on the stable pricing, increased leasing particularly in our U.S. portfolio for Turn-Key Solutions and our strong pipeline of prospects. We are confident that we will continue to capture significant share of the growing demand for data center space in U.S. and globally. Expansion of our co-location offering is on track as we continue to build our leasing and deployment team to address opportunities in certain of our Internet gateway data centers and other select DLR facilities.

During the first half of 2012, we signed leases for co-lo space totaling $2.1 million in annualized GAAP rental revenue. Turning to our lease renewal activity, we signed approximately 331,000 square feet of Turn-Key and PBB space and an average 14.8% increase in GAAP rents. This includes approximately 87,000 square feet of Turn-Key space and an average GAAP rental rate per square foot of $154, a 9.9% increase over the expiring GAAP rental rates.

On the square foot basis, 72% of expiring Turn-Key space renewed in the second quarter with an average lease term of 88 months. In addition, we released fully 100% of the remaining Turn-Key space that was not renewed during the quarter. We also renewed approximately 244,000 square feet of powered base building space and rates had increased by almost 23% on a GAAP basis and lease terms at average are healthy at 124 months.

Portfolio occupancy decreased to 93.5% in the second quarter compared to 94.8% in the first quarter. The decrease was driven by the termination of 225,000 square feet of non-technical space, the majority of which was Sulinda’s 183,000 square foot lease in Fremont, California. The same-store occupancy was similarly affected by the Sulinda termination and decreased to 92.9% from 94.4% in the first quarter. Despite the decrease in same-store occupancy, second quarter’s same-store NOI actually increased to $181.6 million, up 2.9% from $176.5 million in the previous quarter. Same-store cash NOI, which we defined a same store NOI adjusted for a straight line rents and adjusted for non-cash purchase accounting adjustment was $161.1 million in the second quarter, up from $159.7 million in the first quarter.

We saw significant increase of demand for higher revenue and higher NOI turnkey space in many of our major markets. Moving east to west, in the New York, New Jersey Metro we are tracking nearly 47 megawatts of potential demand, up from 41 megawatts in the last quarter and 31 megawatts at our Investor Day in January. We believe this reflects pent-up demand largely from financial services, as well as from system integrators and managed services providers that support the financial vertical. This compares 23.8 megawatts of available built-up supply. We signed new leases on a number of our facilities in New York, New Jersey Metro during the quarter and commenced on the build-out of the additional turnkey space. We currently have 1.5 megawatts of supply available as well as the capacity to accommodate virtually any requirement with our existing redevelopment inventory in the region.

In Northern Virginia, we are tracking over 40 megawatts of potential demand, up from 37.7 in the previous quarter. This compares to approximately 27 megawatts available supply that’s either built-out or currently under construction. With less than 500 kilowatts or 0.5 megawatt of available supply in our inventory, we broke ground during the quarter on a new 214,000 square foot facility on our Ashburn campus. The building shell and core is scheduled to be completed by the end of 2012, followed by the first three 1125 KW data centers, Turn-Key datacenters to be delivered in the second quarter of 2013.

Dallas remains very active market for us with limited available built-out supply. We have identified currently 29 megawatts of potential demand compared to about 8 megawatts of built-out supply. Our current supply consists of only 960 kilowatts or 0.96 megawatts of co-location space available at our 2323 Bryan facility in downtown Dallas. In response, during the quarter we broke ground on two new buildings on our Richardson campus. Each building will total approximately 120,000 square feet and will be capable of supporting 6.75 megawatts of IT capacity. The building shell and core is scheduled to be completed by the end of 2012 followed by the first two 1125 KW Turn-Key data centers to be delivered in the first quarter of 2013.

In Silicon Valley, demand has increased significantly for the second quarter in a row to nearly 27 megawatts of identified potential demand, and that’s up from about 12.8 megawatts on our last call. We are flexing the demand fluctuations in the Valley that are dramatic and sometimes be difficult to predict, but we are seeing a very positive trend here. We delivered a new Turn-Key pod during the quarter, bringing our total availability to approximately 1.7 megawatts, with 2.2 megawatts currently under construction. Like New Jersey, with our existing redevelopment inventory, we have the capacity to culminate virtually any requirement and are poised to develop new buildings with entitlements.

I would like to conclude with few comments regarding the success for acquisitions program. We acquired three properties in the U.S. during the quarter, including two income producing assets and an average un-leveraged cash cap rate of 8.5%, in line with the higher end of our guidance. We also expanded our footprint in the greater Chicago market with the acquisition of the significant redevelopment property in the suburban metro. Internationally, we entered the very important Hong Kong market by completing the acquisition of a redevelopment facility with our joint venture partner, Savvis.

And finally, we completed the acquisition of the Sentrum portfolio in London on July 11. With Sentrum not only do we acquire top five facilities of the very strong tenant base, but we welcome into the Digital Realty family a strong team of professionals who operate the portfolio. This expert team provides us with additional strength and scale to take advantage of the market opportunities in London and in Europe more effectively. Including the Sentrum properties, we expect our European portfolio to contribute approximately $187 million U.S. on an annualized rental revenue basis, representing almost 20% of our total portfolio. Our European portfolio consists of 18 properties across six major markets totaling 2.1 million square feet. Approximately 54% of which serves the important Greater London market.

We currently are tracking nearly 55 megawatts of potential demand in London, which includes a number of fairly large requirements. This compares to 20.5 megawatts of supply, that’s currently either built or under construction. Including our 1 megawatt of available built-out space in the Sentrum portfolio, we have a total of 2.9 megawatts of currently built-out availability in London Metro at DLR.

Similar to the U.S., the sale cycle can be long and difficult to predict selling to large international enterprises. However, we are very well-positioned to capture significant portion of this demand while the combination of our move-in ready space and construction-ready redevelopment inventory. This was clearly unusual quarter for us in terms of our acquisition activity and illustrates the expertise and capacity of our team to underwrite and negotiate complex transactions.

These strategic acquisitions enable us to grow our business in new markets and expand our footprint in other legacy markets while providing attractive returns for our shareholders. We’re very proud of these accomplishments and attribute them to the talent and dedication of our team. We also would like to thank our shareholders for your continued support and look forward to sharing our growing success with you.

This concludes my formal remarks. We’ll now open the call for your questions. Operator?

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of George Auerbach.

George Auerbach

Great. Thanks very much. Hi, guys. I just wanted to touch on the slowdown in enterprise leasing. I guess, at sort of what point in the spring did you start to see those trends pull back, and maybe how was this experience different than past cycles, in dealing with the large tenants?

Michael Foust

Well, I don’t think we’ve seen anyone pull back in requirements. In fact, we are seeing the actual amount of enterprise requirements, especially in major markets like New York and London actually growing. There are large requirements in many cases. And so we see the potential – funnel of potential requirements actually as larger now than they were previously. So, – but it is saying a longer timeframe, when you are working with larger enterprises and that certainly offset by the leasing we are doing with smaller requirements, they maybe big companies and with the managed services and cloud providers, who are often times, move more quickly than some of the larger enterprises.

George Auerbach

I guess two follow-ups. First, I guess maybe the question should have been, at what point do you see the sales cycle start to lengthen out, maybe a demand issue, it’s more on the timing from discussions to signings? At what point did tenants start to become more hesitant to sign leases? And also, it sounds like the mix of tenants is changing a bit more – more corporate than managed services. Are there any tenants within the corporate side that you see are being a bit more skittish or cautious at this time?

Michael Foust

No. On the contrary, we’re seeing more potential demand from the large enterprise users, especially looking to create more efficiencies and lower their operating costs, often times looking to get the data centers out of high-rise office buildings or suburban office locations into proper mission-critical facilities that have the power backup, mechanical system backup, and resiliency that they require and also be to allow them to be able to expand as I need to expand. So, I’d say it’s more and this is kind of real – I’m putting my finger in the air here as to timeframe, so maybe where we saw a 6 to 9-month timeframes. Those timeframes are can be 6 to 12 months working with customers. And that’s a guess, but yeah, we are seeing larger potential requirements that we are almost uniquely positioned to acquire, because we have the professional team with the engineering staff, the design staff, construction, technical operations facility staff. So, we are really well-positioned to serve these large customers.

George Auerbach

Okay. And I guess just last, Bill, on the straight line rent, it went from $15 million change to $19 million and change this quarter. Is that a better run rate to use going forward or was that impacted by the Solyndra lease termination?

Bill Stein

That wouldn’t have been affected by the Solyndra lease termination. I think there might have been one or two deals in the quarter that had some free rent that affected the free rent in the quarter.

George Auerbach

So, we should expect sort of burn down towards $15 million again?

Bill Stein

I think that $15 million is better – better rate.

George Auerbach

Okay, thank you.

Operator

Your next question comes from the line of Jamie Feldman.

Jamie Feldman

Great, thank you. Focusing on the terminations for a minute, I know you had mentioned Solyndra, can you first talk about the plans for that space, I think you said non-technical. But then I guess bigger picture, what are you seeing in terms of your actual technical tenants taking lease terminations and moving out and kind of where are they going if anywhere, and in what markets?

Michael Foust

Sure. For the – regarding Solyndra, that’s a two building property, very highly improved clean room manufacturing. And so they are pretty highly improved facilities. So, we think that this is an attractive facility either sell to a user or lease to someone in Silicon Valley who can utilize this kind of space. So, we think this is a pretty valuable space and we can be positioned to lease that out at very competitive rates for the improvements. In terms of other, we have very, very few terminations. I mean, I think, we had one or two this quarter of data center tenants and those that we initiated those in order to put in longer term tenants.

One was a – we have a tenant in Dallas who wasn’t fully utilizing their space, and we had no space in Dallas. And we had another, a brand new customer who wanted to lease space with us in Dallas on a ten-year basis. We were able to trade out two years remaining for a ten-year lease at significantly higher overall rents. So, I give credit to our asset management team for being really creative and being able to take advantage of – and the work to negotiate really interesting deals and allow us to add to the overall value of the portfolio, pretty significantly in that case. So, it’s not very typical that we would do that, but where we can add significant value to the asset, we’ll be creative about doing those kinds of transactions.

Jamie Feldman

Yeah. I guess, what I'm trying to figure out is are you seeing instances that in certain markets where tenants are just trying to – or competitors are trying to poach tenants with a more attractive options?

Michael Foust

No. No, that’s rarely the case. It’s very expensive and awkward in most cases for customers to move. The switching costs in other words are high and it’s very disruptive to operations. And also tenants have had a very good operating history with us and that five, nines of uptime represents a very high level of resiliency and security in the operation. So, we continue to have a very high level of renewals.

Bill Stein

Jamie, just to be clear to, the facility in the East Bay and Fremont that we leased to Solyndra is not a data center. It was a not data center. It was owned by GI Partners prior the IPO. So, it’s a legacy property. And I think at this point most it’s likely to be disposed.

Jamie Feldman

Okay, thank you.

Operator

Your next question comes from the line of Jonathan Schildkraut.

Jonathan Schildkraut

Thanks for taking my questions. I was just wondering if we could from a housekeeping perspective get what the backlog was at the end of Q1. And then in terms of the acquisition of Sentrum, I was wondering if you could give us a sense as to what the run rate revenue was out of that asset. And just I’m trying to understand how the inclusion of that might change the margin profile. And in terms of the lease commencements looking forward, are any – is there any expectation of new lease commencements within that asset? Thank you.

Michael Foust

Sure. Focusing on Sentrum, actually the operating margins are high in that portfolio. There are very efficient buildings. So, while our current NOI margin in our broader portfolio is in the mid-60s. Off the top of my head, I believe that Sentrum NOI margin is in the mid-70s I believe. But I would have to go back and get the exact number. But it’s definitely higher than in the rest of our portfolio, so definitely have a positive uptick in that regard. We are clearly expecting to achieve additional leasing especially at the Woking property, which is the largest of the three buildings and the latest one to come online were we have potentially a couple of 100,000 square feet of space that we can build out for four new users and there is definitely a funnel of customers for that space with whom we are in discussions currently. I have to go back and look at what the revenue – operating revenue was from the Sentrum, I don’t have that number at the tip of my figures.

Bill Stein

I think it’s about 108.5, 108.5.

Michael Foust

U.S.?

Bill Stein

Yes, U.S. dollar.

Jonathan Schildkraut

Great, I guess with my question about the leasing was, is that you made an adjustment here on your lease commencements expectation for the year. I think you did a very nice job of explaining that, but I am wondering as the number came down if there was any add back for particularly lease commencement in Sentrum so, trying to get like a sort of organic-to-organic compare?

Michael Foust

Yeah. No, we have not added any potential from Sentrum.

Bill Stein

Yeah, there is no Sentrum in the forecast right now.

Jonathan Schildkraut

Alright, super, thanks a lot. I appreciate taking the questions.

Michael Foust

Thank you, Jon, though we do have activity on that aspect.

Jonathan Schildkraut

I understand.

Michael Foust

It just wasn’t, it wasn’t part of forecasting process because of when it closed, it probably will be in the next quarter.

Jonathan Schildkraut

Great, thank you.

Operator

Your next question comes from the line of Jordan Sadler.

Jordan Sadler

Thanks and good morning out there. Bill, could you clarify you said in your guidance there is $0.08 contribution from Sentrum and the larger than originally anticipated equity offering so, it’s those two factors combined assuming the rest of the portfolio is financed on the line would contribute to $0.08 contribution for the second half. Is that the way to think about it?

Bill Stein

That’s right, I totally understand your question, but…

Jordan Sadler

How do you get the $0.08 contribution?

Bill Stein

We upsize the equity offering from $600 million to $800 million so, the $0.08 reflects the additional $200 million of equity that was raised so, they will probably be another – probably $0.10 of accretion if we had issued just a $600 million worth of equity.

Jordan Sadler

Okay.

Bill Stein

Is that your question?

Jordan Sadler

Yeah, I mean the portfolio, so basically if you are layering from modeling perspective you are layering that in that $1.1 billion acquisition. It will be financed with an $800 million net equity offering and the rest of the financing would be drawn off the line, the credit or the term loan?

Bill Stein

That the line of credit. That’s fine, I think as a practical matter sometime in the fourth quarter probably mid-quarter we will be going to market in the sterling bond market to hopefully issue 10-year debt and I think the rates will be same it was at least that’s what they look like today.

Jordan Sadler

And what size would be an all euro your offering there be, you think.

Bill Stein

Yeah, I think a minimum just for liquidity would be £250 million.

Jordan Sadler

£250 million, and the other question I would have, this is a follow-up there, is just on the offering I’m curious what the remaining capital requirement are for the year in terms of the remaining capital spend as well as any additional acquisitions you have keyed up.

Bill Stein

There are a couple of acquisitions that I guess it’s fair to say under our LOI. So, we would hope that they would close and I think there are roughly a $100 million maybe a little more than $100 million and the CapEx I think.

Jordan Sadler

Of the seven – you got 700 and 900 in the guidance, how much is left to spend there?

Bill Stein

I would just assume that half has been spent to-date, take the midpoint 800.

Jordan Sadler

Okay. And that would be financed how? You just on the line of credit you think?

Bill Stein

Off the line initially, I mean that the debt to EBITDA as I said – is in pretty good shape, so, I don’t see any additional equity this year unless we do another large portfolio acquisition. So, it would be off the line and then a combination of various fixed income instrument, so sterling bonds potentially U.S. bonds as we have enough balance on the revolver. And the preferred stock market continues to look attractive as well, the rates on the preferred stock.

Jordan Sadler

That’s helpful, thank you. Lastly on the leverage target, you’re trying to stay under five times debt to EBITDA or 5.5?

Bill Stein

We’re targeting 5 to 5.5, I mean we’re okay, but we’re happy to be in the mid 4s as well.

Jordan Sadler

Thank you.

Bill Stein

Yep.

Operator

Your next question comes from the line of Rob Stevenson.

Rob Stevenson

Hi good afternoon guys. Can you talk a little bit about the joint venture acquisition in Hong Kong with Savvis? What you guys spent on that and what you guys anticipate spending on the redevelopment. And whether or not you’re looking to do additional projects with them in Asia as well?

Michael Foust

Sure. The Hong Kong, as you might guess is really one of the major financial hubs of the world and thus one of the major financial datacenter markets in the world. So, we see significant opportunity there with Savvis as our partner. So, Savvis can deliver over the managed services and cloud services out of the datacenter, which are definitely in high demand and we can also be leasing space on a more wholesale basis, if you will to the enterprise. And we’re essentially a 50-50 joint venture with them. Certainly, we welcome the opportunity to do more in the region on that basis and we think that’s going to be a really great project for us, we’re redeveloping an existing industrial building and I think we’re going to even be able to add on more power capacity by adding another load to the building, which is a real track of value add opportunity for us that our team is able to put together and working to finalize the entitlements of permit on that.

Overall, we’re not giving out the amounts of budgets on this project specifically it is a bit proprietary at this point and also the fact that we are in a joint venture with Savvis. We want to be a cognizant of their sensitivities around disclosing information from the joint venture. So, at some point we will provide more details on this project as we’re about to bring forward the first part for lease.

Rob Stevenson

I guess a question is what at this point is the size when you add the floor and do everything else, what in terms of square foot or megawatts is that asset expected to be full build out.

Michael Foust

Yeah, I think we’ll be able to get somewhere between 6 and 7 megawatts of IT load in that facility.

Rob Stevenson

Okay. And is construction cost in that market similar to Singapore?

Michael Foust

Cost maybe a little bit less in Hong Kong on the actual construction. Land is always a challenge – we’re on long-term ground lease, but we may be a little more efficient on development costs than in Singapore.

Rob Stevenson

Okay. And then just lastly, while we’re in Asia, you talked about what – where leasing there in Singapore is going relative to expectations?

Michael Foust

Yeah, we’re actually a little bit ahead of our original pro forma timelines. We’re about 65% leased on the data center, the Jurong township data center. And really good – really good funnel of prospective tenants there and as it my guess, similar to the tenants that we’ve already signed up and it’s a nice mixture of international financial institutions as well as the international managed services and some network providers as well. So, we are very bullish on the Singapore market. I think between Singapore some of new leasing prospects in both, Sydney and Melbourne, Hong Kong, Asia-Pac, is going to be a really exciting region for us and we’ll have a good material addition to our growth in the coming years.

Rob Stevenson

Okay. Thanks, guys.

Operator

Your next question comes from the line of Michael Bilerman.

Michael Bilerman

Hi, good morning there. I’m on the phone with many Quarterman as well. Can you just provide a little bit more color, so you talked about $6 million to $10 million or I guess $0.05 to $0.08, which would be the dilution effect away from the commenced leases being pushed out? And then you’re looking at the amount of commenced dollars, you reduced the range to a midpoint of 150, that was from 162.5, and that's revenue. So, the NOI impact on an annualized basis would only be like $8.5 million to $9 million bucks. And so, I'm trying to figure out how guidance would go down by so much, if that's all that was just – that’s been pushed out completely.

How much was it a delay in the second half commencements versus a delay in the first half commencements that didn't start as you thought you would, right. So, you did $56 million in the first half, did you think you we're going to do 70, and you just sort of fell short versus now you are expecting to do 94 of annualized revenue commencements in the second half of which you already have 41 of backlog and that’s down from 107, when does that 94 start? Did you think it was going to start at the end of the third quarter and now it’s going to start all at the end of the fourth quarter? Can you sort of just bridge all the numbers together?

Bill Stein

Well, firstly all of that it is in the second quarter or second half, I'm sorry not the first half. There was one deal in the first half that delayed, that actually we thought was going to commence last year, and that was with a large bank, much like your own, but not yours. I would say virtually all of it is second half.

Michael Bilerman

And so how do you – how do you reduce FFO by $6 million to $10 million push out $13 million of commencements on an annualized basis of revenue. How much of a delay shift is this causing and maybe you can breakdown that $94 million in terms of when does it commence between quarter and the timing in the quarter?

Bill Stein

I don’t have that handy in terms of when in the quarter and I can’t really tell you what the specific delay is for these commenced leases, but this was bottoms up approach.

Michael Bilerman

But it sounds like…

Bill Stein

Yeah.

Michael Foust

I think it’s important note, the amount of increase year-over-year has been pretty steady and so the revenue growth and earnings growth continues to be good and it might be delay and it might be our people fully taking account the additional shares and the timing of that.

Michael Bilerman

I know, but if that is being reduced for the commencements by $8 million at the midpoint, $8 million right, so $12 million of annualized – of impact from a revenue perspective for the full year that would imply significant push back of what these start commenced leases are or that you’ve baked in more of a cushion and saying $6 million to $10 million of FFO because I’m just having a hard time from – if you’ve only pushed out $13 million of commenced leases things must have been really delayed until late into the year?

Bill Stein

It is delayed until late in the year. Make sure, you take by the way the margins, it’s about 65%.

Michael Bilerman

Right. I grossed out the FFO impact for 65%. And how much more backlog you mentioned $41 million backlog for the second half, how much more backlog you assigned, but not commenced going forward into ‘13 and ‘14?

Bill Stein

About $26 million for 2013.

Michael Bilerman

Okay, thank you.

Operator

Your next question comes from the line of Jonathan Atkin.

Jonathan Atkin

I wanted to circle back a little bit on that segue from Sentrum into kind of Europe. Europe, I think is 80% – 50% or more way into the UK, and I wondered if you feel like that’s the right mix or if there are other markets that you begin to focus on from an M&A or new development perspective? And then with respect to Asia, you commented how strong the demand is and I wondered if you could share some perspectives on whether you’ve seen any change in the competitive environment?

Michael Foust

Sure. Well, in Europe we always focused on these major markets, where we see a lot of enterprise activity and activity from the IT services world. Certainly in our minds, right now, London and Amsterdam, and to some extent, Dublin, because of all the international companies, many U.S. companies in Dublin are interesting places for data center. Certainly, London being the largest potential market, Amsterdam next, Dublin after that of markets that we are in, where we see potential for growth. Paris, I think will be a good market. We are taking it more slowly. We are almost – we are virtually fully let in Paris. We’re going to take a little bit slower tact on that market to see how things progress economically over the second half of the year, but Paris is a nice market, because there is a lot corporate entities, including financials, but not necessarily financials that make up the typical marketplace there.

One market that we are not in, that we would like to be in would be Frankfurt. And that common theme of very important financial center, where we are seeing demand for data centers, especially as the financial institutions are consolidating out of office buildings, out of older facilities that they are not capable of expanding, and so Frankfurt would be a very interesting market that we are not in that we would like to be in Europe.

Asia-Pac, like most markets, it’s, from a competitive perspective, it’s very fragmented. You don’t have, while these are mature economic markets, they are not mature from a data center perspective, so I think we have a good early mover advantage in these markets, especially being positioned as we are to be able to finance and execute instantly on these very large projects without having to look for secured debt, and that puts us in a competitive advantage, especially vis-à-vis you’re more kind of private developer type competitors that pop-up market-by-markets. So, we think we’re in a very good position both from spec leasing perspective with spec projects as well as very well-positioned for potential build-to-suit opportunities with some of these larger institutions.

Jonathan Atkin

And then just on the colo business, I know that’s non-core but can you share which markets you are doing the most business in that line?

Michael Foust

Sure. San Francisco is the very important market for us. Dallas is growing. St Louis, I think as a regional market, we are going to see a lot of traction there. In Boston and New York Metro, those would be the most active markets where we are in. As a reminder, we are doing colo in existing buildings of ours that are network-rich buildings, usually the internet gateways, like in Dallas, 2323 Bryan, where we have space and power capacity and network capacity.

Jonathan Atkin

And then, can you talk about the average footprint in your core wholesale business, the average size or requirement you are bringing in and do that very significantly by market?

Michael Foust

Yeah. I mean – and this is a very rough qualitative comment. We are seeing 1 to 2 megawatts to start is pretty typical. That might be 10,000 to 20,000 feet maybe a little larger on a rentable square foot basis, but boy, it can run the gamut of 5,000 feet to 30, 40, 50. But I would say if there was kind of a median probably around that 1 to 2 megawatts.

Jonathan Atkin

Are there geographic trends that you could kind of point to in terms of where it could falls at the lower end versus the larger end of that range?

Michael Foust

Not really.

Jonathan Atkin

Great, thank you very much.

Michael Foust

Thank you.

Operator

Your final question will come from the line of Paul Morgan.

Paul Morgan

Hi, good morning. Just on the development CapEx spend, I mean you still have the same range for the year, we’ve only got five months left to get for the $700 million to $900 million, I mean, is there any particular reason for having the same range? Is any of the gap between bottom and the high end of the range related to the kind of the least commencement timing issues or is it anything else?

Michael Foust

No. I think it’s just kind of the way the construction projects, development projects have been commenced and scheduled. I don’t think it’s not tied directly to leasing.

Paul Morgan

There is no more visibility now.

Michael Foust

Well, in many cases, we are developing product, so we have product to lease and for revenues next year is a lot of what we are up to.

Paul Morgan

I guess another way to think is it’s kind of what would make you kind of hit the high end as opposed to the low end or are there particular markets or kind of leasing that would be a catalyst for the need for future space?

Michael Foust

I think it’s more the how fast our people are deploying their current budgets.

Paul Morgan

Okay. And then just kind of one more last hit at the sales cycle issue, you mentioned something about financials and I just wondered if you could maybe characterize – I mean, is the longer duration of the decision process concentrated in a vertical? I mean, you mentioned the enterprise, about kind of within enterprise, I mean, how much of it could be related to financials and just kind of the broader issues in that vertical versus a just a broader trend of more complex deals in longer planning horizon?

Michael Foust

I think it’s a latter. I think it’s more general with large enterprises. There is a lot of different constituents, because it’s not just the rent, it’s not just the lease, it’s the IT applications, their design, network, you’ve got budgets coming from different departments often times into these projects and because of the high ticket, especially after the recession, capital expenditures and operating expenditures are being scrutinized at higher and highest levels of organizations these days.

So, even if the budget is already in place, there is often times additional approvals, in many times at the board level, even with those large, very large organizations, because these are so impactful and they are such important strategic decisions that there is often times a lot of different departments working on these and that’s where it comes into play. The fact that we have a dedicated leasing team that’s focused on working with the enterprises, working with the IT departments, and the treasury CFO office that puts us in such a good position to win these types of large important deals, because we have made the big investment and we have made the big investment on our engineering and design teams, because this is very much a solution sale, consultative sale. So, our investment in our professional staff and infrastructure positions us really well to meet this – what we see as a growing funnel of potential demand from the enterprises and especially its financial institutions.

Paul Morgan

Okay, great. Thanks.

Operator

Ladies and gentlemen, we have reached the end of the allotted time for questions and answers. I would now like to turn the call back over to Mike Foust for closing remarks.

Michael Foust – Chief Executive Officer

Thank you everyone and thank you for your time and attention today. And I just want to reiterate the confidence and – that we have as a management team and the good continued secular growth in our markets and demand for our data center product and I want to thank our team members for another job well done in a very good quarter in the second quarter of this year. Thank you very much.

Operator

Ladies and gentlemen, this concludes today’s conference. You may now disconnect.

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