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Douglas Emmett, Inc. (NYSE:DEI)

Q2 2012 Earnings Call

August 1, 2012 2:00 PM ET

Executives

Stuart McElhinney – VP, IR

Jordan Kaplan – President and CEO

Ted Guth – CFO

Analysts

Chris Caton – Morgan Stanley

Brendan Maiorana – Wells Fargo

Rob Stevenson – Macquarie

Joshua Attie – Citi

Jamie Feldman – Bank of America Merrill Lynch

Jordan Sadler – KeyBanc

John Guinee – Stifel

Alexander Goldfarb – Sandler O’Neill

Richard Anderson – BMO Capital Markets

Michael Knott – Green Street Advisors

Michael Bilerman – Citi

Operator

Ladies and gentlemen, thank you for standing by. Welcome to Douglas Emmett’s Earnings Call for 2012 Second Quarter Result. Today’s call is being recorded. At this time, all participants are in a listen-only mode. After the management’s prepared remarks, you receive the instructions for participating in the question-and-answer session.

I will now turn the conference over to Stuart McElhinney, Vice President of Investor Relations for Douglas Emmett.

Stuart McElhinney

Thank you. Joining us today on the call are Jordan Kaplan, our President and Chief Executive Officer and Ted Guth, our Chief Financial Officer. This call is being webcast live from our website and will be available for replay for the next 90 days. You can also find our earnings package at the Investor Relations section of our website or that at the SEC.

During the course of this call, we will make forward-looking statements. These forward-looking statements are based on the beliefs of, assumptions made by, and information currently available to us. For actual results will be affected by known and unknown risks, trends, uncertainties and factors that are beyond our control or ability to predict.

Although, we believe that our assumptions are reasonable, they are not guarantees of future performance, and some will prove to be incorrect. Therefore, our actual future results can be expected to differ from our expectations and those differences may be material.

For a more detailed description on some potential risks, please refer to our SEC filings which can be found in the Investor Relations section of our website.

When we reach the question-and-answer portion in consideration of others, please limit yourselves up to one question and one follow-up. I will now turn the call over to Jordan Kaplan, President and CEO of Douglas Emmett. Jordan?

Jordan Kaplan

Thanks Stuart. Good morning, everyone. Thank you for joining us. Our recent fundamentals during the second quarter exceeded our expectations. With a tough 2011 comparison quarter, our same property cash NOI grew by 2.8%. We leased more new office space last quarter than in any other quarter since our IPO. We achieved our sixth consecutive quarter of positive absorption getting 52,000 square feet of additional leasing, and have not seen any slowdown despite well-publicized national and global economic concerns.

Our total office leased rate now stands at 90.1%. I am pleased to say that we now have four submarkets with increasing office rental rates as Century City joined Santa Monica, Beverly Hills and Encino Sherman Oaks markets. Our multi-family portfolio remains fully leased with continuing strong rental rate increases. We believe that our multi-family portfolio still has significant additional running room. As a result of our improving fundamentals, we are increasing our 2012 estimates for same property NOI and occupancy growth although as we’ve said before both measures are subject to quarterly variations.

As we announced a couple of weeks ago, we closed a seven-year 3.85% fixed rate loan. We believe that the long-term benefits of locking in historically low rates outweigh the negative impact on short-term earnings. We continue to work on a variety of potential office and apartment acquisitions, a few sellers have begun to bring product to market although it remains to be seen whether those properties will actually trade. We still hope that this part of the cycle will provide real opportunities for external growth.

Before I turn the call over to Ted, I want to mention one more thing even though it may be old news at this point. After our first quarter call, the Los Angeles Times published an article about our property tax appeals following the market crash. The Times said it looked at 3,000 buildings in Los Angeles County that traded during the five year period between 2005 and 2009 which assumed were similar to ours.

They calculated that the average reduction in appraised values for those buildings was 16%. Because that was somewhat less than the 27% reduction we got on a few properties we purchased in 2007 and 2008, the article implied that we must have received special treatment. Their story is just wrong.

They inflated our average by exceeding over half of our appeals by excluding – they inflated our average by excluding over half of our appeals that resulted in smaller or no reductions. At the same time, they drove down their calculated average for comparable properties by including properties with base value set in 2005, which missed the three years of price run-up prior to the crash and properties with base value set in 2009 after the market crash had already occurred.

In addition, their choice of comparable buildings seems debatable. Since they included 3,000 sales from a period with less than 100 Class A offices, a period when less than 100 Class A office buildings actually traded.

In reality, the reductions we received were less than the actual peak to trough declines in our markets that independent experts such as Moody’s, Costar and many of the analysts on this call estimate to be between 30% and 40%.

I’ll now turn the call over to Teddy.

Ted Guth

Thanks, Jordan. Good morning, everyone. After beginning with our second quarter results I’ll address our office and multi-family fundamentals and provide a little color on a recent financing and give an update on our 2012 guidance.

Compared to the same period in 2011, our second quarter of 2012 FFO increased 5.7% to $61.6 million or $0.36 per diluted share, after treating debt interest rate swaps as fully terminated in the quarter of termination. The increase in our FFO was more than accounted for by two items. First, lower interest expense largely as a result of our lower outstanding debt, and second, improved revenues in both our office and multi-family portfolios. Compared to the same period in 2011, our AFFO increased 12% to $50.9 million or $0.29 per diluted share as our tenant improvement and leasing commissions declined to more typical levels from the usually high numbers last quarter.

For the second quarter of 2012, our G&A total $6.7 million or 4.6% of total revenues, comparing the results for our combined office and multi-family same properties in the second quarter of 2011, to the second quarter of 2012, the second quarter of 2011. Revenues increased 0.7% on a GAAP basis and 2.2% on a cash basis. Expenses increased by 1%, both on a GAAP basis and on a cash basis, and net operating income increased 0.6% on a GAAP basis and 2.8% on a cash basis.

Now I’ll turn to the office fundamentals. During the second quarter, we increased the least percentage for our total office portfolio by 30 basis points to 90.1%, and our occupancy rate by 30 basis points to 88.2%.

Turning the second quarter, we signed 829,000 square feet of office leases. As Jordan said, we set a company record of new tenant leasing in the second quarter with over a 320,000 square feet of new deals. Our leasing spreads continue to show the impact of the rapidly rising rent environment five years ago. Although our average rent on executed leases increased from last quarter, the average rent on our expiring leases – I’m sorry, (inaudible) average lease and executed leases increased from last quarter. The average rent on our expiring leases grew even more.

On a straight line basis our average rent on executed office leases was 8.3% lower than the average expiring rent for the same space. On a cash basis, our beginning cash rent on executed office leases was 17.9% lower than the average expiring rent for the same space. Most of this decline reflects the impact of our annual rent bumps. The negative impact on our office revenues have rolled out, which affect approximately 11% to 14% of our office portfolio each year, continue to be essentially offset by the positive impact from the annual rent bumps in our remaining leases.

On the multifamily side, our 2,900 units were 99.8% leased at June 30, 2012. We continue to see strong residential rent increases with average asking rent last quarter 6.2% higher than in the second quarter of 2011. Recurring capital expenditures for our apartment comminutes during the second quarter averaged $85 per unit.

Now turning to our balance sheet; as Jordan mentioned, after the end of the second quarter, we closed a seven-year nonrecourse $285 million term loan with fixed interest at 3.85% per annum. As a consequence, we were able to further push out our debt ladder at historically low interest rates. At the same time, we reduced our net consolidated maturity in 2015 by $100 million without any prepayment penalty. We left related swaps in place until their expirations at the beginning of 2013 to fix the interest rates on some of our outstanding floating rate debts. Overall, our net leverage remains at the same reduced level and we have ample liquidity for potential acquisitions and other working capital uses.

Page 13 of earnings package includes the summary of our outstanding debt half after these transactions.

Finally turning to guidance. We estimate that our new loan will adversely affect our FFO in 2012 by about $0.03 per share. However, we expect that this impact will be largely offset by improvements in fundamentals. Accordingly, we are updating our full year 2012 FFO guidance to between $1.33 and $1.37.

In providing that guidance, we’re increasing our estimate for the growth in our same property cash NOI by 100 basis points to between 2% and 2.5%. We’re also increasing our estimate of office occupancy growth by 0.5%. We now expect that office occupancy at the end of 2012 will be about 1.5% higher than at the end of 2011. We still expect that our multi-family portfolio will remain essentially fully leased.

Given our new loan, we are increasing our estimate of interest expense after adjusting for terminated swaps to between $137.5 million and $138.5 million. We still estimate that our G&A will range between $27.5 million and $28.5 million. We estimate that our FAS 141 income will range between $17.5 million and $18.5 million.

We continue to estimate that our straight line income will range between $4 million and $6 million. We continue to estimate that our recurring capital expenditures for office portfolio will be approximately $0.25 per square foot and that our recurring multifamily Capital expenditures will range between $400 and $450 per unit.

We continue to estimate that our weighted average diluted share count will range between 172.5 million shares and 173.5 million shares. Our guidance excludes any impact from future acquisitions, dispositions, equity issuances and repurchases, debt financings or repayments, recapitalizations or similar matters.

With that, I’ll now turn the call over to the operator so we can take your questions.

Question-and-Answer Session

Operator

(Operator Instructions). Thank you. Your first question comes from Chris Caton with Morgan Stanley.

Jordan Kaplan

Hi, Chris.

Chris Caton – Morgan Stanley

Hi, Ted. How are you? Good morning was hoping you could speak for a minute on the rent you talked about the effect of kind of rapidly rising rents at the peak of the market. When do you think you begin to see easier comps on kind of a same store basis in the rent trend and in replacement of rents begin to get easier for you?

Jordan Kaplan

Well, if you look at the rents on expiring leases, it will be sometime in 2013 based on the expiration date, but that number actually moves around the lot each quarter based on early renewals of space, so that we don’t – excuse me, we can’t project exactly when that will happen because it’s affected by some factors, but if you just look at the expiration dates, you can see and you could expect that 2013 will be the transition year.

Chris Caton – Morgan Stanley

Thanks, and then just a follow-up on one of you sub-markets. In Honolulu, the occupancy moved backwards in the quarter. I wonder what you are seeing on the ground there, some of the hotel data has been positive there, and I’d wonder if you could share your perspective on the office side.

Jordan Kaplan

I think that – I think we see the Honolulu – I mean you saw this happen in Brentwood, and now it’s back in Brentwood and I think we see the underlying fundamentals in Honolulu being good as you say the economy there – over there seems to be doing fine. So, at this point we would just see this as one of those things where we have a little fluctuations quarter-to-quarter.

Chris Caton – Morgan Stanley

Thank you.

Operator

Your next question comes from Brendan Maiorana with Wells Fargo.

Brendan Maiorana – Wells Fargo

Thanks, good morning out there.

Jordan Kaplan

Hey, Brendan.

Ted Guth

Hey, Brendan.

Brendan Maiorana – Wells Fargo

Hey, guys. So, question – can you give us a sense of the magnitude of how much you guys are pushing rents in the four sub-markets that you mentioned?

Jordan Kaplan

It obviously varies from building to building, but I would say that on a year-over-year basis it’s someplace between 5% and 10% up.

Ted Guth

Yeah, it doesn’t show up if it’s not in that range, it’s not worth mentioning.

Brendan Maiorana – Wells Fargo

Sure. Let’s call it roughly half of your portfolio and you’re pushing it up, 5% to 10%, and Ted you’ve kind of talk about that relationship where you’re expiring rents, the rent spreads, the negative rent spreads are being offset by the in place bumps, but if I look at and you guys have been clear that next year is kind of that peak year, so your expirations get a little bit harder to comp against next year, but at the same time this year, your – your rent spreads have gotten worse as well little bit in the first half of the year relative to kind of where you were last year. So is there a point in time, when the rent spreads become so negative that they – the in place bumps won’t be able to offset that and your same store NOI growth might be challenged a little bit, even if you move occupancy up?

Jordan Kaplan

I don’t expect it to be of significant impact on any individual quarter depending on a lot of different factors. It could move somewhat negative or somewhat positive, but I again it will the – the majority maybe even significant majority in any quarter I would not – I would expect it to be offset. So, there is a little bit of headwind there, but it’s not going to be a big one.

Ted Guth

Yeah, it’s noisy below what you see, because if we keep having positive absorption, you might just see a little less of positive NOI comparison. So it’s not I don’t think you could become a number that eclipses the other things that we are doing whether it’s slightly negative or slightly positive.

Brendan Maiorana – Wells Fargo

Okay, fair enough. And then just the last one is kind of this negative 18 spread that we saw in the quarter and negative 15 that we saw in Q, is that a reasonable expectation for the back half of the year as well?

Jordan Kaplan

It’s just again because of the – because we’re getting into sort of the noisy area and that we’re now starting – what we are seeing increasingly over the next year some of the leases will be after the crash and some will be before and because we don’t know on any given quarter, when people are going to actually renew. So even if you had somebody whose lease that’s going to be expiring in say, 2014, which might be a post crash lease, they may come in and renew early, so that number really it’s hard for us to get to handle to be fair.

Brendan Maiorana – Wells Fargo

Okay, fair enough. Thank you.

Operator

Your next question comes from Rob Stevenson with Macquarie.

Rob Stevenson – Macquarie

Good afternoon guys.

Jordan Kaplan

Good evening, Rob.

Rob Stevenson – Macquarie

Can you talk a little bit about the Brentwood market, I mean there has been some stuff in the press, that you guys saw on a big lease after the end of the quarter and what are you seeing there in that market?

Jordan Kaplan

It’s a very strong market for us and when we talked about it on our last call, when the market look like it was off, we said we think this is not a, this is just a quarter-to-quarter fluctuation which obviously it was. And now it’s strengthening, I mean, I would look for many of those Westside markets to – I feel that they are all strong and recovering well and I don’t think there is anything special there.

Rob Stevenson – Macquarie

Does that bring you to over 90% leased in that market now?

Jordan Kaplan

My record there puts us to like 88%.

Ted Guth

Okay it’s 88.5% is our thing now.

Rob Stevenson – Macquarie

That was of June 30. Does the RBZ lease execute at that point in time?

Ted Guth

Yes, RBZ is included in our June 30 numbers.

Rob Stevenson – Macquarie

Okay, perfect. And then can you talk about to what extent in that market, I mean the construction on the 405, is that still a problem for you guys and when that’s start to abate?

Jordan Kaplan

Well we are hoping it will to start to abate sometime over the next year, although their projections when they were finish, there is still a sign near my house, which says the construction would be done through November of 2011 and they haven’t bother replacing that sign.

Ted Guth

I can tell from personal experience also that during the summer it has abate a little just go to scroll, scrolls out, I suspect when scrolls back in it’s going to back over rig and backing up real far.

Jordan Kaplan

But hopefully in the next year, the other thing to remember in the Brentwood market is that does include the building we bought out of bankruptcy, which continues to be repositioned now. So, it has a significant less – we bought it with a lot of vacancy and the expectation that would take a little bit time to renew that.

Rob Stevenson – Macquarie

Okay. And then Jordan, any thoughts on the recent Wall Street Journal article on EOP – on Black Stone selling some of the EOP assets?

Jordan Kaplan

Well, I mean I hope they do. It had a quote from two years from me and they did a big press release sometime in the next few years, John is going to do something. I don’t know if that deserves that much fanfare, but it may – every time as you sort of say and that there is going to be selling it puts me in a good mood.

Rob Stevenson – Macquarie

All right. Thanks, guys.

Operator

Your next question is from Josh Attie with Citi.

Joshua Attie – Citi

Thank you. On the FFO guidance, it seems like to hit the low end of $1.33, you’d need to decline $0.31 – $0.32 a quarter from $0.35 to $0.36 in the first half. And I know the refinancing is a little bit dilutive, but when you look at the numbers, what are the largest unknowns or risk factors that you see that could put you towards the low end?

Jordan Kaplan

That’s a broader question because we spend a lot of time saying the range going through because it’s kind of bottom up budgeting, so we go through and we take each thing that can be impactful, we give that a range and then we calculate out the sum of the highs and lows and that’s how we get the range that we give to you guys, I mean, we take going through that and...

Ted Guth

Yeah. I mean there is a lot of things in operating like, utility costs moving. We had obviously a big change in the Honolulu utility cost last year, which went from $0.23 kilowatt/hour to $0.33 kilowatt hour.

Jordan Kaplan

Not to leasing. We do range of leasing. We do range the defaults. Most of this is driven more by the revenue side, but there’s ranges for each of those things. There is ranges for home felt somebody is going to lease up and when it’s going to hit income and how fast – where the sum is going to fall, not to fall. There’s a lots of stemming. So I can’t say that there’s one thing that we’re looking at that we’re saying stretches through range down to the $1.33. It’s the sum of calculate, there’s 12 things on that page. So it’s a pretty good amount of things.

Joshua Attie – Citi

Well, let me ask you in a different way, are there any large expiration in the portfolio that you don’t know which way they’re going to go that maybe would cause the FFO to roll down by $0.02 to $0.03 sequentially?

Jordan Kaplan

No.

Joshua Attie – Citi

Okay. And can you – I know you spoke a little bit about this on the last call but can you discuss the AIG expiration for next year, is there any update on your discussions with them and do you feel any better or worse about that risk going into next year than you did three months ago?

Jordan Kaplan

We’re really not in a position to make any announcement yet on AIG.

Joshua Attie – Citi

Okay. Thank you very much.

Operator

Your next question is from Jamie Feldman with Bank of America Merrill Lynch.

Jamie Feldman – Bank of America Merrill Lynch

Great, thank you. I don’t know if you guys have calculated lately but do you have your thoughts on the current mark-to-market in the portfolio?

Jordan Kaplan

Yes, the current mark-to-market is about 8.2%. It’s down from last quarter which I think was 9.9. So, it’s improving. We’re not really big fans of that statistics. So if we think it’s got a lot of noise and it going to act funky anyway, but in any case it’s improved from 9.9 to 8.2.

Jamie Feldman – Bank of America Merrill Lynch

Okay. Thank you. And then, Jordan, back to your comment, your just not seeing leasing slowdown even though there is kind of bad news out there. What – can you talk about what change in terms of leasing market? It sounds like maybe even to the positive. Who were the new types of tenants that were active this quarter? What does your pipeline look like that kind of gives you conviction that it’s going to keep powering through here?

Jordan Kaplan

Well, I think, last quarter I think Tech was our third largest group that came in for new leases. I think that still there is a lot of, of course, legal accounting finance that’s in there. But you said it really after that question, which is at the pipeline still seems strong and there is a lot of deals out there and where all the way from showings to the yield negotiation et cetera, you can just walk through the thing. We have a little forward vision as there is all of that, because we do so many transactions. We can’t see super far, but we can see far enough to say, we don’t see the slowdown that you might be expecting from reading the papers basically.

Ted Guth

The other thing that we say is that compared – when we went through the same summer slowdown in 2010 and then again in 2011, neither times did we see anything in our markets that sort of reflected that are on the ground here. It didn’t seem to have much impact, but we’ll see.

Jamie Feldman – Bank of America Merrill Lynch

Okay. And then just a follow-up, you think about the leasing pipeline. How much of it is focused on the markets you – the submarkets you mentioned as having rank growth and how much of it is on some of your lower occupancy submarkets?

Jordan Kaplan

There is always going to be – in terms of our focus, we are very focused on lower occupancy markets. The pipeline, I think is mixed across the board, but it’s hard for you – it’s hard to see real movement in somewhere like one or center where you have so much – so much big vacancy. So, there is good activity there, which is why we feel like we are – just let me say this, when we were going into the recession, we were saying to you guys, hey, we are seeing problems because – that’s because we saw our pipeline looking bad, all right, and now we are saying, we are saying it’s looking good, and I’m also saying as we have been saying about Warner Center for a while, look at that for one of the lower occupancy place. It’s the lower occupancy place for us, frankly. I mean everything else seems to be getting up in some pretty good territory. We are seeing some good activity out there, so we are still feeling like that market can make a good, you know it will make a good come back for us.

Jamie Feldman – Bank of America Merrill Lynch

Okay. Thank you.

Jordan Kaplan

All right. Thanks.

Operator

Your next question from Jordan Sadler with KeyBanc.

Jordan Sadler – KeyBanc

Thank you. Just wanted to follow up on the debt rates during the quarter. I’m curious what you cash balance is today. It looks like in the mid threes and just sort of the thought process of warehousing that much cash today, and if the decision to sort of pull the trigger. This quarter was a function of where you saw capital markets might be going, rates look real attractive, or do you have – you are seeing activity on the acquisition or investment front?

Jordan Kaplan

Well, I mean, I would more say this. We essentially are following the debt markets very closely, and the debt markets in general are just at great rates. So, as the opportunity came up and we’re constantly (inaudible) credit lines, fixed loan, how we deal with our cash, how we keep liquidity that we want – having a great hope, there will be some good acquisitions to come up. When this loan came up and when we saw the kind of pricing we could get, we all talked about in just – what that is something we should just do.

And, when you look at that deal we should just do that. I know it has created a lot of liquidity for us and we’re very hopeful that we’ll be able to now put that liquidity to work in a very good way. So that’s something that we ‘re playing, and we’re literally playing through, it’s not a sign that we think that – interest rates are necessarily about the spike up or anything like that, it was just – that was deal that was there that we can make and we thought this regard turn out to be a very good move to create liquidity through this deal.

Jordan Sadler – KeyBanc

So, it sounds like it’s little bit, it’s not about interest rates, but more about having liquidity available to sort of do whatever you want to do in terms of investment activity and just fortifying the balance sheet, but last quarter.

Jordan Kaplan

I’m sorry, go ahead.

Jordan Sadler – KeyBanc

Last question...

Jordan Kaplan

That was exactly right. We have to create liquidity some way and that seem like a great way to create it. We look at credit lines. We look at all sorts of ways, and when we saw that, we thought it was a great way to do it.

Jordan Sadler – KeyBanc

And, last quarter you talked about the acquisition landscape actually slowing in terms of deals not seeing – anything really the market – how would you characterize it today, are you seeing anything?

Jordan Kaplan

Yeah, as I said on the written part. There are deals that are coming to market and that have been listed, and so we’re going to see – that’s happened before of course and have been traded, but there has been a little bit of new crop that have come out, actually some will come out, look like they’ve gotten there, actually are already vanishing again, but others have come out. So, we’re following through on those and hopeful.

Jordan Sadler – KeyBanc

Okay, that’s helpful. Thank you.

Operator

Your next question is from John Guinee with Stifel.

Jordan Kaplan

Hi, John

John Guinee – Stifel

Okay, guys all your conference calls and the questions seem to be very similar. Congratulations.

Jordan Kaplan

Thank you.

John Guinee – Stifel

It looks to us like you’re on a pretty solid run rate for FAD, which is clearly a more relevant number for you guys than FFO because you have the $0.10 to $0.11 a share in FAS 141. If you’re running at $0.95 to $2 a share in FAD, what’s the appropriate dividend level for you in the next two or three years?

Jordan Kaplan

Well, that’s a lot of question. I will say this and we have obviously everyone cuts their dividend. We’ve been in the last 18 months we dramatically have increased our dividend to try and get back up to a good out there. We know that we are still – have a very low dividend payout rate compared to our FAD or AFFO – probably one of that said the other way one of the best coverage is in our comp set – we also don’t want the dividend to ever act as a drag on the stock price in terms of yield. Same time, we don’t want to run ahead of the market in terms of paying dividend.

And, we also have that goal to get back on a schedule that we’d originally wanted to be gone when we went public, which was to set – give people a reasonable expectation of regular annual increase. So, bringing that all into play, we’re going to obviously sit with our board and try and make some decisions about giving some stability to that number and hopefully achieving those goals. I don’t know and I hope we do achieve those goals. So that’s amount I can say on this.

John Guinee – Stifel

Okay. And then a follow up question basically the stronger market your end are doing well, let’s say 190 million square foot market all of LA County. What do you think of some of the secondary markets where you aren’t a participant for example downtown LA?

Jordan Kaplan

Well, there is a bigger variety, frankly Los Angeles County is huge and there is a bigger variety of margin in Los Angeles County as there are in the United States literally. There are markets where I drive through there and I think whoever had even the thought to build a nice building here.

And there are other markets where I feel like I can see exactly what’s happening and things are progressing out here and then they are surely core of the LA County Universe which is where we are. And I have a whole variety of expectations for those areas. There is I’m just taking this randomly but I think Pasadena is doing a great job in terms of their whole town area. They have some very good industries there between (inaudible) and then bunch of engineering firms. It seemed to be coming back in aerospace, so I go hey there is an up arrow on that market.

So we are going out and looking out there. So there are markets out there that seem like as the economy recovers, they’re going to benefit from that and then there are also markets within LA County frankly that I feel like they need a whole new plan. I don’t know how that becomes any kind of reasonable percentage leased for sure office market much less just all commercial and retail and even tons of unoccupied housing that doesn’t know how we are starting to turnover a little more quickly, because the capital markets are getting in, we’re seeing (inaudible) people are putting together funds and they’re starting to buy those and manage them. They’re being recycled back to the system. So but that’s totally different from what we’re dealing with, as different is talking about a market in Arizona or in Texas. So I am not sure that they play sort of a relative or cousin style impact on us the way you might expect they in our accounting.

John Guinee – Stifel

Great. Thank you.

Operator

Your next question is from Alexander Goldfarb with Sandler O’Neill.

Alexander Goldfarb – Sandler O’Neill

Hi. Good morning, out there.

Jordan Kaplan

Hi, Alex.

Ted Guth

Hi, Alex.

Alexander Goldfarb – Sandler O’Neill

I – just going sort of continuing along John’s question. Can you give us your thoughts on the Caby portfolio, the portfolio that Green is now is sort of controlling. Are those assets that would fit your profile and overall, what’s your impression of those assets? Even if they don’t fit your profile, what’s your impression on those assets?

Jordan Kaplan

Well, that portfolio seems to be translating by way of lender transfers. Next year down, next year down, it’s a portfolio that was created and I am not – this isn’t my characterization, it was the properties of the Arden portfolio that they – that effectively when Arden treated that was split out and sold. And their properties that are really – you are right, it goes as John’s question, because they’re spread all around LA County. I mean there is certainly no real concentration in any of the markets that we’re in. I actually think of mainly B 2 or 3 out of all those buildings that are in – any markets that we’re in and they’re certainly B or C properties, smaller properties. So as it pertains to Douglas Emmett, it’s probably not our type of portfolio. If you are asking me to just take shots at someone else’s portfolio, the value that I guess I’m not prepared to do that one.

Alexander Goldfarb – Sandler O’Neill

No, I’m not. Actually what you – Jordan what you just provided was good color in and of itself. Switching – switching along similar your Southern California here has been quite active on the acquisition front. I understand and I get your point that you don’t want to go to a new market if you can’t replicate your platform, but even still they bought in – they just closed on a deal in Hollywood. Aren’t there any other submarkets that are close enough to your existing platform markets where you can buy sort of grow or I’m just thinking of your acquisition folks. They must be shooting a lot of rubber bands to each other?

Jordan Kaplan

I’m one of those folks, but there are and like we look at Hollywood stuff right. So we certainly know about (inaudible). When we look at those deals for whatever reason and there is always is a good reason, why we don’t think that works for us, they don’t work and maybe that is a just a fault enough, because we tend to be unless something really looks right especially when it’s adding a market, even an easy market to add, like you are saying.

You are making a perfect point, because take West Hollywood instead of going all the way and – into where that deals was done. I’d love to buy some of those buildings and we take shots at those sometimes regularly actually. And why don’t we make those deals, maybe part of that is because when to make those moves, we maybe too conservative ourselves. I don’t actually know, but you are right. There are markets like that and we do look at probably at some markets like that, and I’m hopeful that we will be able to continue to add that way, but we haven’t done a good job of it recently that’s for sure.

Alexander Goldfarb – Sandler O’Neill

What do you think is holding you guys back, is it just culture or is it board, or is it like what do you think is holding you back?

Jordan Kaplan

I don’t think it’s our board, I mean it’s I don’t know....

Alexander Goldfarb – Sandler O’Neill

No, no, not the – the board of directors, not you guys...

Jordan Kaplan

Well a lot of owners.

Ted Guth

No.

Jordan Kaplan

No it’s not the board, it’s a combination of a precisely the product that’s coming available and our feeling about the way it would fit for us. And it just hasn’t come together right. And as I said, maybe speaking quite frankly we have not been aggressive enough in terms of the way we value this thing. We tend to be – when we bid on something that’s in a market that we’re already in, we’ve been on some market, it is very rare that we don’t get that deal, I mean when I say rare, I’m talking one out of 10 we don’t get it. When we go outside of our markets and we think where we should get that and we bid, most of the times we don’t get it and that makes any sense that maybe we’re just the ones that are too conservative when we make a move like that, not the fault of something else. But we’d always get down to something that’s very building specific and we need to get over that I guess in a way.

Alexander Goldfarb – Sandler O’Neill

Okay, thank you.

Operator

Your next question comes is from Richard Anderson with BMO Capital Markets.

Richard Anderson – BMO Capital Markets

Hey, what’s up guys.

Jordan Kaplan

Hi.

Jordan Kaplan

Hi, Rich.

Richard Anderson – BMO Capital Markets

Just a question on – Ted you motioned the transition year 2013, notwithstanding earlier renewals, which by the way I think would make it a sooner process and an earlier renewal would be a better comp, I think. But putting that – is that correct?

Jordan Kaplan

That’s correct.

Richard Anderson – BMO Capital Markets

Okay, so let just forget that for a moment, and if you just look at 2013 and you you’re your comp year is off that peak, how long do you think it takes for your rollover to go from negative to breakeven or positive, is that a two year process beginning in 2013 or is it shorter or longer?

Jordan Kaplan

It’s complex formula because it depends, it’s a market-to-market thing, but I actually think that once it starts to turn, particularly if we continue to have rent increases, they will turn very fast and that it will turn – it will positive significantly positive very fast as well. Again, subject to the fact that if you’re looking at the cash rental, which were not – you still got in a flat market on an average five year lease, you can be looking somewhat over a 12% rolled on even a totally flat market.

Richard Anderson – BMO Capital Markets

Right, so you’re talking on a GAAP basis, that’s when it starts.

Jordan Kaplan

Yeah that’s right, on a GAAP basis it will turn fairly quickly, particularly with some rent increases.

Richard Anderson – BMO Capital Markets

Right- that’s less than – within that year or maybe you like a 12 month period, something like that?

Jordan Kaplan

Yeah – it certainly was within a 12-month period it will turn, and it may – that’s what becomes hard because there are – it’s a very complex formula depending on the sub-market each quarter, so it will actually have, what I really we would expect that’s going to have a period of time of noise and then after the noise when you sort of believe through it, now you got mostly post crash leases than you’re going to see it’s go positive and I think probably faster.

Richard Anderson – BMO Capital Markets

Okay. And then follow up question unrelated to first, but when I look back at what you guys have done in terms of acquisitions actually it’s doing something. I think this should square with the last maybe the 16% interest in the fund, I don’t know which, but you haven’t done a whole lot, I mean those are – this is going to in particular the big one. But I’m talking a lot about is the pipeline but haven’t really seen anything go the finish line lately. Have you thought about any different strategies like buying debt or anything like that, that might be away for you to preempt or before proactive about acquisitions or investing?

Jordan Kaplan

Before Jordan gets to answering that, the sort of main part of things, while it’s not a big difference, we did also buy Wilshire Bundy and !50- Rodeo.

Richard Anderson – BMO Capital Markets

Thank you.

Jordan Kaplan

A period after..

Ted Guth

I was go to say that. Can you just give us a little credit.

Jordan Kaplan

Yeah, I mean, we look at buying debt. I got to tell you this, it is not debt. Yes, we do. That – to answer your question. But there are not a lot of opportunities to buy debt in our market and get to the building. First of all there isn’t much at over leverage. And secondly, to the extent something is over leverage, it’s probably going to CMBS pool that would mean buying some tranche in CMBS pool. But the other things are – did make a point are – are we willing to do open unit deals, because people are tax exited although there may be a gravy for that, most people look into selling, seem they want to pay the tax this year. Are there other sort of structural things we’re willing to do where people want to somewhat stay in the game. I mean when want all those things and we were trying to building (inaudible)

Richard Anderson – BMO Capital Markets

What about redevelopment or even ground-up development?

Jordan Kaplan

Well. Ground, there are not a lot of opportunities for ground-up development to just buy a lot and delta building in our market to make some great markets. In terms of redevelopment or doing a development that expands one of our projects. Yeah we are – in the markets we are now with increasing rent and especially with what’s going on – on residential we are looking at that now.

Richard Anderson – BMO Capital Markets

Okay, great. Thank you.

Operator

Your next question comes from Michael Knott with Green Street Advisors.

Michael Knott – Green Street Advisors

Hey guys, just curious if you think the West LA investment sales market will remain slow until the EOP Blackstone portfolio or something happens with that. Do you think sellers are sort of waiting to see what happens with that to get a better indication of pricing before sales will pick up?

Jordan Kaplan

I don’t know if sellers are waiting for that for an indication, but I think that – by sort of the way we grade it, I think it’s going to be – it’s going to be faster than it’s been, because it’s a big a complete waste land. So I think there is a going to be transactions and I hope, literally we’ve been dealing with almost a zero.

So going from zero to five or six or seven in a year, okay, that’s going to feel great. That still isn’t a huge amount. I think that’s kind of where we are headed. Now the Blackstone deal, if whenever they do to that I guess that will be similar to the one last time, where you will see follow-on and follow-on – and it will start serve a little bit of a trading thing, because it’s just a lot to get out there. So it has to spread through the market, but I don’t know that.

Ted Guth

I think if people are waiting, they are waiting because they are seeing the sort of same improving fundamentals that we are seeing. And so if you are a seller and as Jordan said, in our markets there aren’t lot of people who are moving forced to sell by debt issues. And so if you are not in that place, I think a lot of them are sort of balancing the desire to sell, which they may have had for some time period of time against maybe I wait another six months and fundamentals get better and I get more money for my building. But, I don’t think it relates to the (inaudible) to any particular deal as they go.

Jordan Kaplan

(Inaudible) really good, I mean most of the meanings, the bottom line for the guys is, hey my portfolio is going up on occupancy and finally able to increase rents, I think however, I’d sell, I mean they’ve been through kind of a hellish time and so people are feeling good again.

Michael Knott – Green Street Advisors

Okay, that’s helpful. And then, sort of on that point, Jordan how do you feel about the recovery this time around compared to prior cycles, do you feel like this is going to ultimately look just like other Rest-O-Way strong rent spike type recovery or do you feel like that this might be good but maybe a little slower than in the past?

Jordan Kaplan

In general how I feel is that the volatility that we’ve felt from the last recession and the volatility that we’re going through is something that we should, I think we’re going to go into a period for a while where there’s just going to be more volatility. Now, I don’t know where that necessarily means, we’re going to have a spike here in West LA market but it just seems like the way capital moves and information moves and our industry is maturing and the capital of market’s industries are matured and the global markets have come into play.

I just think we are in a little more of volatility than, let’s say, we were used to some years back. I’m – because of its basics, which is no real new development, a good set of industries and our portfolio leasing up, I do expect that we have some good days ahead of us, subject to another (inaudible) volatility thing, where there’s some big national economic collapse, or the fiscal cliff or something in Europe. I would expect that, as things are going now, you would start to seeing – you move into, what (inaudible) easy to say the classic glamorous market with a tight market and rents moving up and you been able to make choice and now bidding on spaces, certainly as we sit here now, we seem to be headed for that.

Ted Guth

Yeah. I think if you look at just sort of the – sort of fundamentals within the market, I think that there is every reason to say that those fundamentals within the market are at least as good or better than they were as we’re recovering from the last two recessions. You’ve got the same lack of supply, you’ve got the same good industries underlying the growth pattern, you’ve got a situation where the people actually – in this case, people actually have paid much higher rents within a very short of period of time. So in some ways in an odd way, as they roll off of leases, they feel better about things.

The 3% bumps also gives you a sort of way of thing to a guy you can increase the value of his lease, next lease by 10% and yet tell him you are getting the rent reduction from this last year. All of those things content to be good things. Obviously, the big question that nobody can answer, which is goes back to where we started out the beginning of the question period, which is, what is the impact from the global stuff and that seems to be a slower recovery than the recovery we had in the 90s or in the early 2000s, put them together. And as Jordan said, we still see on the ground that potential for a very good recovery, but we’ll obviously we’ll have to stay tuned.

Michael Knott – Green Street Advisors

Okay. Thanks a lot.

Operator

Your next question comes is from Josh Attie with Citi.

Michael Bilerman – Citi

Yeah, it’s actually Michael Bilerman. Just on the fund so the – just remind me did you saw like a $160 million-$170 million of undrawn commitments which I think expire in October, is that correct?

Jordan Kaplan

Yeah, it’s correct.

Michael Bilerman – Citi

And so what’s the current plan if any of these deals sort of that you’re looking at come to fruition, those would be fund investments or on balance sheet putting any unit deals aside obviously that would go unbalanced?

Jordan Kaplan

Yeah, there are a few exceptions like unit deals but other than that any deals which we – don’t actually close it by October but which we effectively enter into before October are likely to go into the fund.

Michael Bilerman – Citi

And I guess what’s your – looking at what you’re looking at now, the likelihood is a deal goes to the fund or those the fund effectively expires from a commitment perspective in October and if it does expire without any deals, we just seek to get those extended or continue to look for that fund capital?

Jordan Kaplan

I don’t think that we’re – we’ve talked about this before that the decision to go with the funds reflected the capital markets at the time that we were going into it which was stock prices and raising it through equity was really going to be incredibly expensive. At this point in the capital cycle, we have lots of access to capital and so I don’t anticipate that we would be looking to raise additional fund capital and so any acquisitions that we make after the expiration of the fund would be done by the rep.

Michael Bilerman – Citi

And then thinking about – if you continue to be discipline, which is a good thing in terms of deals that you’re doing, rather than just going off and acquiring a lot of stuff just to acquire and get bigger. If you don’t find anything and you’re sitting on the $350 million of cash calendar beginning of the year, and you’re producing $80 million of free cash flow a year, what can you do on the balance sheet front in terms of buying back any sort of further out maturities – I don’t know sort of when certain swaps mature, but is there an opportunity that you can put that capital to work just on the debt side?

Jordan Kaplan

Well, we have that – our next maturity in 2015. There is still $240 million of that, which could be prepaid at that point and we could move forward to that.

Ted Guth

We could apply to that.

Michael Bilerman – Citi

So, you’d been – that’s really the only piece.

Jordan Kaplan

We’ll have a totally delevered – we’d have a lot of delevered property at that point.

Ted Guth

Right.

Michael Bilerman – Citi

Yeah, that’s not a bad thing.

Jordan Kaplan

We can keep going. We have very flexible debt and we can keep producing it. I hope – I mean I hope that’s not what we end up having to do, but we have that as an option just as to you’re asking.

Michael Bilerman – Citi

And, there is other sort of new debt deals that you said this one came and you sort of talked around and thought it was the right thing to do, is there other sort of transactions – new debt transactions that you’re working on to raise additional capital?

Jordan Kaplan

We’d told you that we were thinking about doing this to invest and doing

Ted Guth

Credit line.

Jordan Kaplan

Credit line, and so this has actually been sort of in the cards. I think that we’re not going to be without having additional needs for liquidity, we’re not going to be running out very quickly.

Ted Guth

I mean, we still have some unlevered properties and I can put loans on them to create even more cash. We have a lot of cash now, you called it I mean, all of the cash we are saving on, plus all of the cash we are earning. I mean we need to get some good acquisitions done.

Michael Bilerman – Citi

Okay. And just lastly, you talked a little bit about the article that was on the tax front. I mean is this trying to enter into definition in terms of what the press is doing?

Jordan Kaplan

All right. Well I feel that way, but I can’t tell you legally what’s going on. I mean, I don’t understand why they are after us in this way, and – but, so it feels like it is what it is. We certainly, when they call us and given the information and they can seem to feel they should ignore it. So they are the writes articles they want to write.

Michael Bilerman – Citi

Okay. Thank you.

Jordan Kaplan

I think that’s it.

Stuart McElhinney

Thank you, everybody. That was our last question. Thank you everybody for joining us on the call this quarter, and we look forward to speaking with you again next quarter. Goodbye.

Operator

That concludes today’s conference. Thank you for your participation. You may now disconnect.

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