Columbia Property Trust's (CXP) CEO Nelson Mills on Q4 2016 Results - Earnings Call Transcript

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Columbia Property Trust, Inc. (NYSE:CXP) Q4 2016 Earnings Conference Call February 8, 2017 5:00 PM ET

Executives

Matt Stover – Investor Relations

Nelson Mills – President and Chief Executive Officer

James Fleming – Executive Vice President and CFO

Analysts

Sheila McGrath - Evercore ISI

John Kim - BMO Capital Markets

Brad Burke - Goldman Sachs

Vikram Malhotra – Morgan Stanley

Mitch Germain - JMP Securities

Operator

Good afternoon and welcome to the Columbia Property Trust Fourth Quarter 2016 Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded.

I would now like to turn the conference over to Matt Stover, Director of Investor Relations. Please go ahead.

Matt Stover

Thank you. Good afternoon. Welcome to the Columbia Property Trust conference call to review the Company's results for the fourth quarter of 2016 and the guidance for 2017. On the call today will be Nelson Mills, President and Chief Executive Officer; and Jim Fleming, Executive Vice President and Chief Financial Officer.

Our results were released this afternoon in our earning press release and filed with the SEC on Form 8-K. We have also posted a quarterly supplemental package with additional detail in the Investor Relations section of our website.

Statements made on this call regarding expected operating results and other future events are forward-looking statements that involve risks and uncertainties. A number of factors could cause actual results to differ materially from those anticipated including those discussed in the Risk Factor section of our 2015 Form 10-K. Forward-looking statements are made based on current expectations, assumptions and beliefs, as well as information available to us at this time. Columbia undertakes no obligation to update any information discussed on this conference call.

During this call, we will discuss certain non-GAAP financial measures. Reconciliations to comparable GAAP financial measures can be found in our earnings release and supplemental financial data.

I’ll now turn the call over to Nelson Mills. Please go ahead.

Nelson Mills

Good afternoon, everyone, and thank you for joining us. As you’ve seen from a number of announcements in recent weeks, we’ve followed a very productive 2016 with a gainful start to 2017. We’ve now completed our transformation with $1.2 billion of dispositions in the past 12 months. We’ve continued to rollup leases in the portfolio and reposition assets through value enhancing renovations.

And we just announced the revision of our dividend to align with a more growth-oriented posture going forward. Since the beginning of the fourth quarter, we exited the Cleveland, Dallas, Denver, Houston, and Phoenix markets with total proceeds of $650 million. We were able to take advantage of attractive pricing.

We projected the disposition of all of these properties with the exception of the three Houston assets. When we first explored a Houston exit in early 2016, demand was too tepid to support the pricing that we could accept. Over the course of the last couple of quarters however, we really saw a shift in sentiment with more investors pursuing place on Houston’s long-term recovery.

This increased demand allowed us to exit the market at pricing that we were very pleased with given the uncertainty facing the market along with our vacancy and near-term explorations at these properties. We sold the properties for $272 million compared to our undepreciated basis of $264 million.

Although Key Center and the adjacent Marriott Hotel in Cleveland was perhaps the most difficult dispositions and definitely took the longest, we did complete the sale to a local buyer at expected pricing and closed the books on our planned disposition program. For those keeping track, that’s $3.3 billion sold since 2011.

So what’s left to do? We now have about 85% of our assets concentrated in our target markets, principally in New York, San Francisco and DC. We have one asset in LA and one in Boston. In both these markets we will explore additional opportunities. We now only have three assets outside our focus markets, one in Pittsburgh and two in Atlanta.

For all intents and purposes, we now have only five primary markets and those will be our focus going forward. These markets all have strong leasing fundamentals and our portfolio has substantial embedded rent rollups to keep driving cash flow and NOI growth.

As always, our team is primarily focused on leasing and the capital and operational improvements that drive it. Our team is well equipped and motivated to deliver on our goals for NOI growth. During the fourth quarter, we achieved a 17% increase in rental rates on a GAAP basis and a 5% increase in rental rates on a cash basis.

This trend should continue over the next several quarters as we address lease roll, particularly in San Francisco, New York and DC. The current vacancy in our portfolio is concentrated in few assets in DC, San Francisco, Atlanta and Boston. We’ve invested in capital improvements at Market Square, 650 California, one Greenlake and 116 Huntington to drive our leasing programs there. And these efforts are yielding substantial results.

We also have approximately 700,000 square feet in scheduled expirations between now and the end of 2018. This exposure is primarily concentrated in San Francisco and Manhattan where we continue to see strong demand.

Finally, it’s important to point out the dramatic embedded cash NOI from commenced leases that are still in abatement. There is an eight point gap between physical and economic occupancy with most of that concentrated at 222 East 41st and 315 Park Avenue South in New York and Market Square and 80 M Street in DC.

These leases are contributing to GAAP NOI and FFO but not yet to cash NOI and in AFFO. By far the most significant lease in this category is NYU at 222 East 41st Street which commenced in October, but won’t contribute to cash rents and AFFO until the free rent burns off at the end of May next year.

Unlocking the value in the portfolio is our main priority. We are also focused on creating value by putting our capital to work on opportunities that position us for long-term sustainable growth. From time-to-time, we may repurchase shares to take advantage of temporary dislocations between our stock price and asset values and we did some of that in the fourth quarter.

We may continue to do so in the future, but we believe value and growth are best created through new opportunities that can generate cash flows with long-term sustainable returns and they drive appreciation. While we did not complete any acquisitions in 2016, we have been actively pursuing new opportunities at Manhattan, Boston and West LA.

Our underwriting remains disciplined and we have established capable teams in these key markets and we are confident that we will identify and execute additional compelling investments in these markets in due time.

Jim, with that, why don’t you walk through the fourth quarter results and our 2017 expectations, then I'll come back with a few more comments.

James Fleming

Thanks, Nelson. Good afternoon, everyone. Today I'll take a few minutes to cover our 2016 results, 2017 guidance, our dividend policy, balance sheet, and expected growth over the next several years.

We had solid performance from our properties in the fourth quarter. The NYU lease at 222 East 41st commenced in early October and it’s now contributing to FFO. This lease and the fact that we had Key Center the entire quarter led us to reporting above the high-end of our normalized FFO guidance range.

The underlying performance of our portfolio has been strong, but that has been overshadowed a bit by our disposition activity as well as the impact of the last few quarters from the NYU lease. For instance, we finished the quarter at 91% leased, but that’s up to 93% leased after we factor in the sales that occurred after year end.

We also signed over 700,000 square feet of new leases during the year and we continued to maintain a strong balance sheet with leverage under 35%. That required lot of hard work by our teams in 2016 and we are expecting more of the same in 2017.

Our same-store NOI decreased 6% this quarter from the fourth quarter of 2015 on a GAAP basis continuing a trend of modest declines we have seen lately. These declines are entirely due to some current vacancy in our better assets where we are working to make physical improvements and to capture lease rollups.

We expect this trend to reverse later in 2017 with meaningful same-store NOI increases in 2018 and beyond as we lease up vacancy at Market Square, 650 California, Green Lake and certain other buildings. One of the key drivers for this will be rollups in rental rates. Our GAAP leasing spreads were positive 7% in 2014, 27% in 2015, and 19% in 2016.

And although we can’t predict precisely what space will be leased this year, we expect this trend to continue in 2017 as market rents are above our previous levels for much of our current vacancy and we also believe we have double-digit embedded rent rollups in existing leases across our portfolio.

As expected, total capital expenditures in the fourth quarter were $104.3 million, compared with $28.4 million in the third quarter and $41.9 million in the fourth quarter a year ago. $78 million of the fourth quarter capital related to the 30 year lease with NYU which we discussed on last quarter’s call.

This capital is the reason our AFFO was negative this quarter and it won’t affect AFFO in 2017 or future years.

Turning to our guidance for 2017, we are projecting net income of $0.18 to $0.25 per share and normalized FFO of $1.15 to $1.22 per share. This range assumes a year end lease percentage of 93% to 95%, $500 million of new acquisitions at mid-year, and no further dispositions beyond the $539.5 million that we completed in January.

There have obviously been a number of moving parts over the last few months, and we know that make us hard to model. To that end, we’ve provided some pro forma pages at the back of our supplemental to provide a clear picture of where our portfolio stands after the recent disposition activity.

There, you can find our current market concentration, NOI by property, economic versus commenced occupancy, and lease expiration schedule. As you consider our guidance with an eye towards 2018 and future years, it’s important to note that a number of factors will affect our earnings growth over the next couple of years.

After finishing our dispositions, our runrate for FFO is now at our low point which is below our 2017 full year guidance range. But there are a number of drivers that will increase our earnings going forward, which we outlined at our recent Investor Day. These include the commencement of previously signed leases, lease up of current vacancy, positive leasing spreads on renewals and replacement leases and acquisitions.

As a result of all of this, we believe there will be at least $0.50 to $0.60 of FFO increase from our current runrate to the point when all of these take effect over the next couple of years. Even though these drivers are relatively certain, and one result is relatively clear the timing is not which will make it a bit difficult in 2017 and 2018 to estimate our FFO.

We will keep you posted on our progress, so you can estimate our earnings during this period. AFFO will follow behind FFO by several months as pre-rent burns off on new leases, the largest of which is with NYU which begins paying rent at the end of May 2018.

As with FFO, 2017 is expected to be the low point before ramping up considerably over the course of the following two years. With this in mind, and with the conclusion of our planned disposition program, the Board revised our dividend policy to an annual rate of $0.80 per share. This dividend level takes into account all of our recent dispositions, as well as our plans for the next couple of years.

We believe this new dividend level provides a yield in payout level, that are consistent with our high barrier peers and based on leases that have already been signed, plus conservative projections, we believe that we’ll be well covered in 2018 and beyond and can be increased over time.

The balance sheet remains in great shape with no borrowings on our credit facility and leverage at 34.6% compared with 35.6% a year ago and net debt to EBITDA of 6.2 times which is the same level as a year ago. With over 80% of our current debt at fixed rates and our weighted average maturities close to six years, we have no present refinancing that leave us exposed in this rate environment. While we do have is the luxury of some disposition proceeds to further reduce our secured debt with the expected pay-off of the $73 million mortgage loan on 221 Main Street in March, and possibly the $126 million mortgage loan on 650 California later this year.

That could leave us with mortgages only on one Greenlake and on Market Square. With an unencumbered pool of assets of over $3 billion and weighted average cost of debt at 3.6%, we’ve been able to significantly improve our cost of capital and provide the flexibility to allocate capital to growth, we have to take advantage of what the market gives us with share repurchases.

Although we are expecting more of a growth posture in 2017, we did execute some share repurchases in the fourth quarter with 1.3 million shares at a cost of $27.8 million. That leaves us with a $131 million on our current $200 million authorization. We are less likely to prioritize share repurchases over growth investments in 2017, but we will certainly keep all of our capital allocation options open.

With that, I will turn it back to Nelson to finish up.

Nelson Mills

Thanks, Jim. As many of you know, we take a long-term approach to our business and our Board has been heavily engaged and supportive of our strategy. We all saw the need and the opportunity to transform our portfolio few years ago, and we have been focused and disciplined and seeing it through.

Our vision is still the same, becoming a top-performing, must own office REIT focused in markets with strong fundamentals and liquidity. Building on what we accomplished in 2016, we have established a number of key objectives for 2017 that tie into our long-term plan for Columbia.

Our entire team is aligned and incentivized on these objectives and I am confident we will deliver. These objectives include identifying and executing compelling new investments, assertively attacking vacancies and near-term expirations, proactively addressing longer term renewals and maintaining access to attractive sources of capital.

This includes the exploration of institutional partnerships for selected investment opportunities. And finally, I would like to reiterate that our decision to adjust the dividend to an annualized rate of $0.80 per share was not taken lightly. We last adjusted the dividend 3.5 years ago just before our listing in anticipation of our portfolio repositioning.

The Houston and Cleveland sales completed this dramatic transformation. While these non-core sales diluted cash flow, we’ve now established a truly high barrier portfolio with significant growth potential. At this dividend level, our projected FFO and AFFO in 2018 provide for a well-covered dividend with potential for growth. We believe this is the right move at the right time.

This rate allowed us to pay a competitive yield, while still retaining capital for investments that add value. Our strategy emphasizes value growth and our dividend policies should reflect that. We really appreciate your time and attention this afternoon and with that operator we are ready for questions.

Question-and-Answer Session

Operator

[Operator Instructions] And our first question comes from Sheila McGrath with Evercore. Please go ahead.

Sheila McGrath

Yes, good afternoon.

Nelson Mills

Hi, Sheila.

Sheila McGrath

How are you? Nelson and Jim, I wanted to know if you do the guidance had $500 million of new acquisitions, if you executed on that amount, how much room would you have for buyback with kind of your leverage thought process? Just trying to see how much room, okay, thanks.

James Fleming

Hey, Sheila, this is Jim. Thanks. We have about – little over $660 million of cash today. And so, if we did the $500 million, we’d be in the low 30s percent levered. So we’d be kind of – we’ve see – saw it back and forth between low 30s and at times high 30s, so really even with the 500, we’d have a pretty low levered balance sheet and good bit of room. So the answer is, we’ve got plenty of capacity after that.

Sheila McGrath

Okay, and then in terms of pricing on assets when you look at the – what’s available, maybe that you are looking at now. How do you kind of approach that versus the share buyback at this point, evaluating the two?

Nelson Mills

Well, Sheila, they are both – in our current share price, obviously share buybacks are attractive, attractive investments, we believe in the value of our assets and we are trading substantial discounts. So obviously that’s an appealing investment. But, we are also – we’ve made some attractive investments over the years.

We have bought anything in the year-and-a-half, the ones we did acquire over the last few years have performed very well. The markets we are focused in, we believe in and we have the team in place now to execute. So, our primary strategy is to look for more compelling opportunities. As I said, we continue to be very disciplined.

We haven’t bought anything in a while. We do have a pipeline of opportunities, nothing eminent. But we are encouraged that we will find some investments and that’s our primary strategy to press forward and execute. But, we have bought shares back. We will continue to look at that as an opportunity and we will weigh both.

Sheila McGrath

Great. And one last quick question on G&A guidance, it was a little bit – it was higher than this past year. Just wondering if you are adding personnel in regional offices or what’s driving that higher outlook?

James Fleming

Yes, Sheila, a little bit, not a whole lot, we also – a little bit of an anomaly going on. We’ve got a – we went to a three year program for our long-term incentive compensation and so it just drove the expenses up a little bit temporarily the way it’s set up I won’t give us a higher runrate because it’s a three year program, but it’s a three year prospective – it’s based entirely of all in how our total shareholder return compares to our peers.

So that drove it up a little bit and also we’ve been ramping up a little bit under our old stock-based compensation program. So that’s really what’s driving it, nothing really dramatic going on.

Sheila McGrath

Okay, thank you.

Nelson Mills

Thank you.

Operator

Our next question is from John Kim with BMO Capital Markets. Please go ahead.

Nelson Mills

Hi, John.

John Kim

Good afternoon, Nelson. Just a follow-up on Sheila’s question on buyback. So we estimate your implied cap rate today is 6.3% roughly and I would imagine that’s significantly higher than cap rates in your targeted markets. Just given that you don’t really have any 1031 requirements, why not increase the buyback today rather than look for acquisitions?

Nelson Mills

As we said, John, it is something we have done and we will continue to look at. I think, the implied cap rate – the cost of capital is a moving target. We’ve improved our cost of capital with the transformation of our portfolio, we will continue to do that with the execution on our portfolio.

So it is a moving target. In terms of comparing cost of capital to an opening cap rate- open cap rate is just – is not the best measure for the value of an investment, we do look at IRs, we look at ROI and other measures and obviously it’s something we consider, but again, we believe in our strategy. We are going to move forward with new investments on a very measured basis. I do expect buybacks to be part of the picture, particularly in the near term.

John Kim

Got it. Okay. And then as far as, the acquisitions that you have planned, can you just give us some more color as far as the timing of the acquisitions that’s in your guidance and also where you believe you can buy today? And finally, how much leasing risk you are willing to take on future acquisitions?

Nelson Mills

Sure. So, in terms of – as I mentioned, there is nothing eminent. We do have an active pipeline in Manhattan, West LA, couple of opportunities we are looking at in Boston and in DC. We keep - the pipeline is always turning, even though, I guess, we haven’t bought anything in a while, but we look at a lot of opportunities. In terms of the risk profile, as you know our portfolio is primarily core.

Yield focus fairly low risk, stabilized, well leased assets, but we do have and we have had a number of value-add opportunities sprinkled across the portfolio and we perform quite well on those in San Francisco and Manhattan. I think 10%, 15%, 20% of our portfolio at any given time is likely to have a value-add component.

And so, when we are evaluating opportunities our appetite for that level of risk will change depending on not only what we’ve assembled in the portfolio but we are performing, how we are executing on the other. So, it’s a moving, again a moving target. But, we are seeing – we are in the most competitive markets in the country and that’s been the nature of it. They are also the best performing markets in the country over time.

And that’s why other investors want to be there. So it does, it is difficult to capture a deal, but we are confident we will get a couple this year. In terms of assumptions in the model, roughly, we’ve assumed mid-year - $500 million mid-year and at a fairly modest going in cap rate, sort of in the four growing from there. Every deal won’t be that low, or that high necessarily, but that’s for thumbnail estimate that’s about where it is.

John Kim

And the $500 million, do you envision that being split into two assets or potentially more?

Nelson Mills

I’d say, probably a couple of assets. We’ve had, as you know, we’ve had acquisitions - single acquisitions that large, but that won’t be the trend, probably two to three would be a best estimate on that. But again, it depends on the opportunity. Could be a portfolio of assets in one acquisition one transaction, we’ve seen a couple of those opportunities come and go.

John Kim

Okay, and then, looking at your lease expiration schedule on Page 21, has this changed materially with the recent dispositions.

James Fleming

John, what I would – hey, this is Jim, John, what I would do is look at, we did provide some pro forma information at the back and it has changed and if you go back, I am trying to find the page now, but it starts on Page 32 where we have pro forma information where we’ve taken out the Houston properties, we’ve taken out Cleveland and we’ve also taken out the suburban Chicago one that’s on its way back to the lender.

So you can see a new lease expiration schedule and a table there on Page 37 as if you need any detail I can help you with that. It has changed materially because in the old schedule, you would see OfficeMax for instance, and that’s really not our concern anymore. And we had some expirations in Houston as well that were fairly significant.

John Kim

So can you just remind us some of the big pieces within this, I guess, 9% expiring this year and also…?

James Fleming

Yes, this year, John, the most significant expirations are in San Francisco. We’ve got – I am looking at it by quarter and excuse me – yes, I am looking at by quarter this year, so I am having to do the math here, but we’ve got some at 650 California, we got some at University Circle, we got some at 221 Main, that’s the biggest chunk.

We also have about 140, 700,000 square feet at 315 Park Avenue South coming back from Credit Suisse. We have a little bit 20 in - 2000 at our New York Times Building and then we have some smaller amount in DC and Boston. But those are the biggest pieces that are this year. Really all of those that I mentioned are rollup stories.

So we are – in many cases, we’ve bought the properties in order to be able to get at this rollover. We are very focused on leasing this year and in two respects. We are going to do what we’ve always done and try to work really hard to get leases either renewed or extended that expire in 2018 and beyond, but we are very much focused on current vacancies and 2017 roll there it’s some of our best assets and we are going to work very hard to try to absorb that vacancy and get our NOI up from that. That’s what’s going to have the most immediate impact.

Nelson Mills

And John we do – I mean Jim mentioned, the 650 Cal, University Circle, 221 Main, 315, those are all very compelling assets with strong demand. So we are seeing a lot of activity there. We still got the work to do, obviously get the leases done, but we are very optimistic about being able to fill those this year.

John Kim

Okay, great. Thanks, and I guess, final question, how is the mood in Atlanta after the Super Bowl?

Nelson Mills

I don’t – let’s don’t even talk about, it’s too early, way too early.

John Kim

Understood, thanks.

Nelson Mills

Thank you.

Operator

Our next question comes from Brad Burke with Goldman Sachs. Please go ahead.

Brad Burke

Hey, good evening guys.

Nelson Mills

Hi Brad.

Brad Burke

Hi Nelson. At the Investor Day, you gave us an illustration long run glide path for your FFO to stabilize 175 to 180, which is about 50% above the midpoint of your guidance for 2017. So just wanted to know that when you look at that glide path, how have the puts or takes changed? And should we still think about that as being a reasonable kind of outlook over, say, a three year period or should we think about it is taking longer than that?

James Fleming

Hey Brad, this is Jim. Great question. We did a bridge at our Investor Day back in the fall that showed us going from $1.66 which amazingly was exactly where we ended up this past year. I don’t know if we had foresight or what, but that we went from $1.66 down to somewhere in the mid $1.20 range and then back up to $1.75 or $1.80.

The main thing it’s different since then as that we sold our Houston properties. That wasn’t in the analysis at that point. And so, as you – and you can walk in our supplemental and see the NOI we had last year and realize that’s about $0.20. Now it’s converted to cash and we will reinvest that cash either through investments in real estate or possibly some share buybacks.

But that takes us down – we haven’t really established a runrate right now and it’s going to be a little hard to tell from the first quarter, because we did own the Cleveland assets for the full month of the quarter. But it’s lower than our guidance range right now probably $0.10 or so lower.

We did – I did say a few minutes ago, we do see $0.50 or $0.60 here in the next couple of years of additions from things that we think we’ve – or really feasible in closing pretty modest cap rates on reinvestment and leases that have already been signed and some leasing that we feel pretty good about.

We think it will continue beyond there. So that would get us a little below that $1.75 because that’s already into that, not too far from it even with the sale of Houston and I would say part of that is we are able to sell Houston for a good price and we are going to look for assets similar to what we bought before where we think there is some good growth in them.

Brad Burke

Okay.

Nelson Mills

Brad, this is – Brad, let me add to that. So, while we don’t – we didn’t tie that bridge to a specific time period. As we said at the meeting, it’s year-and-a-half to two years and that kind or range roughly, and as Jim said, the only thing that really substantially changed there was Houston, so we need to redeploy that capital, but it’s important to note that, what was built into that model was some pretty significant deterioration in the NOI from Houston.

We had Foster Wheeler expiring within a couple years and so Houston was getting a little – our Houston holdings, we’d assume were getting a little softer in terms of NOI prediction anyway. So, that somewhat offsets it.

Brad Burke

Okay. That’s helpful and then, we have talked about this previously, it’s been difficult for you to give a meaningful same-store guidance number just because of all the changes in the portfolio, but considering what was sold in the fourth quarter, and in the first quarter, can you give us a sense of same-store, now that the portfolio appears to be a little bit more stabilized?

James Fleming

Sure, I am going to try, Brad. So if you look at 2017, on a cash basis, it’s going to be negative and the reason it’s going to be negative is we’ve got NYU there with a lease in place not paying any economic rents, whereas last year we had Jones Day paying cash rent for most of the year. On a GAAP basis, we think it’s going to be a little bit positive this year. We think as we get into 2018, now, NYU will start paying rent at really for seven months of 2018.

We think as we get into 2018, we are going to have some pretty substantial positive same-store. So, I am sorry that I have to tell you it’s going to be a while before we get there, it’s really the NYU that’s causing that. But, if you look back at our, really the three things that drive it, as you know, one is, what’s happening to rental rates and we’ve mentioned a few minutes ago, our rental rates have been very positive, the spreads have been very positive. And we see that continuing.

Some of it may or may not, some of it may not be reflected in the same-store, if the space has been vacant for over a year, we wouldn’t count it there, but even with that, the rental rates that we were replacing – rental rates will be much higher we believe than what we were replacing on average.

And then the other piece is occupancy and we do think we are going to get some occupancy gains this year. So, I would be very surprised if we didn’t have a positive same-store number on a GAAP basis this year and also on GAAP and cash next year.

Brad Burke

Got it. Okay. And then, last one from me. Jim, you touched on the balance sheet, it is very strong at this point. Should I interpret your comments to mean that you are comfortable leaving the leverage metrics where they are at in the fourth quarter. Is that an acceptable runrate for you going forward?

James Fleming

It is, I mean, there – as you know, Brad, there is a lot of movement there, but we have 6.2 times debt-to-EBITDA. Of course, now with our sales and EBITDA went away, some debt went away, we also had in the low 30s leverage. I think that’s where we’ll end up after we invest the $500 million and that’s sort of our game plan and that leaves us with some flexibility on the balance sheet which is really – puts us in a good position to take advantage of opportunities.

Brad Burke

I appreciate it. Thanks guys.

Nelson Mills

Thank you.

Operator

Our next question is from Vikram Malhotra with Morgan Stanley. Please go ahead.

Vikram Malhotra

Thank you. Just first question around the dividend, I know obviously we went, we felt back and forth about when and how much and just sort of, if you could walk us through sort of how you thought $0.20 was sort of the right number and if our numbers are correct, does this suggest that, if we model in your assumptions for the year and make some assumptions for next year, eventually you are targeting somewhere in the high 70% range?

James Fleming

Hey, Vikram, this is Jim. Let me try to walk you through our analysis if I may. We looked at three things. One is that is the yield, obviously, we were at a high level, we were the highest yielding office REIT and so we looked at the yield on the – all really, all of the high barrier REITs and this dividend level puts us at the high end of that range and I will also comment even when, also when instead, if even when our stock goes to consensus NAV, even if the other high barrier REITs don’t go to consensus NAV, we’ll still be at the high end of your range.

So that was one benchmark we use. Another thing we looked at was AFFO payout. The high barrier REITs are paying 65% to 70% of their AFFO based on the 2017 projections. And 2017 isn’t really the right year for us to look at because as we just mentioned NYU isn’t paying any rent, we got a couple of other leases that have already been signed and aren’t paying rent. From a payout standpoint in 2017, it might be somewhere around 100% maybe even here over 100%, but I don’t think that’s meaningful.

But really once we get NYU paying seven months of rent in 2018, based on pretty conservative assumptions, we think we’ll be in that 65% to 70% payout ratio with this dividend. And then once we get to 2019, we think it will much lower than that. So it is a kind of a moving target. We think actually this is a very sustainable dividend level for us. And then the third thing we looked at is taxable income going on there.

We’ve got some cushion now. But as we get out two or three years, we think there will probably be some pressure on us to increase the dividend and that’s an okay thing to have. So, all in all, kind of felt right, relatively high yield but within the range, but then probably some upward pressure on the dividend as we go forward.

Nelson Mills

Vikram the other question was, the other part of your question is about the timing and as we said, we’ve been talking about this for a few quarters and there has been some expectations of addressing this, but for few quarters, we had – as we mentioned in our presentation, we said this 3.5 years ago in anticipation of a big transformation and it served us well for – until about two quarters ago. But we had some work to do.

We had Cleveland to get done and then Houston. Those are pretty big pieces of the puzzle. So, we think this is the right time having those behind us and having a clear path forward, we thought this was – this is the right time to address it.

Vikram Malhotra

Okay, and then in terms of our guidance, is it correct to, maybe I missed this, just the acquisitions that you model and are you just assuming them to be completely back-end weighted for like fourth quarter?

James Fleming

Vikram, we have assumed and this is fairly - this is just fairly general, and we’ll - obviously as we go through the year, we will get more precise about it. But we’ve assumed mid-year $500 million, average mid-year and as Nelson mentioned earlier, pretty modest cap rate, 4% with some growth.

Vikram Malhotra

Okay, and then just last one, your TIs seem to pick up versus the last few quarters. Anymore color you can give around that?

James Fleming

I don’t know that I have it. It’s pretty lumpy and it depends on where it is. I’d have to go look back at and I’ll be glad to do that, but TIs are higher for longer-term leases, they are higher in DC. We have had some leasing in DC. So I’d have to go back and look. In fact, we had a rework lease DC that would have been part of that. So that’s going to be part of the driver there. But I’d have to go look back to give you some specifics.

Nelson Mills

It’s the function of the mix of where we are getting leases done. So, DC has been, high concessions, high TIs for a while. That has not increased, but we’ve done quite a bit of DC leasing. So it impacts the average. New York, there has been some news lately about increasing TIs in New York. And we really haven’t experienced that at 315, which is where we’ve been doing our leasing. But it’s a mix of where the leases are getting done more than increased trend.

Vikram Malhotra

Okay, great. Thank you.

James Fleming

Thank you, Vikram.

Operator

Our next question is from Mitch Germain with JMP Securities. Please go ahead.

Mitch Germain

Hey guys. Jim, I want to ask that question about the dividend in a different way in terms of capital cost. Just - there is a lot of moving parts here. So I apologize, but maybe if you can just lay out the capital plan in terms of what’s left of fund with NYU and kind of how we look at those sort of cost in 2017?

James Fleming

Sure, Mitch. Thanks. That’s an interesting one and we did talk about it a little bit in our last quarter call. We had above those $92 million in total cost in that deal, we’d originally $90 million to $100 million it was a little bit on the low end of that number but very still very substantial.

We have actually already booked all of those capital costs and the reason for that is, the way the lease was structured that’s the way it needed to work under GAAP and it really accrual and so those have already flowed through and that’s really the reason why our AFFO was negative for the fourth quarter and dropped so much for the year 2016. So that’s really not driving anything going forward.

We do think we will have capital, because we are planning a fair amount of leasing this year. And so we will have a fair amount of capital from the new leases that will flow in there. But really the reason our AFFO is likely to be down this year is that we do have a number of leases that are not yet paying cash rent.

Nelson mentioned this. If you look at our supplemental in the back, in the pro forma pages, I think there is an 8%, 800 basis point difference between leases that have been signed and leases that are now paying rent and there is another 200 basis points between leases – I am sorry, leases have commenced and are paying rent, and there is another 200 between leases that have been signed and commenced. So there is actually a 10% difference in our – across our portfolio between our lease percentage and our economic occupancy. So we got a fair amount of that and that as that burns off, obviously our AFFO will go up pretty dramatically.

Mitch Germain

Great, and is there any update on the San Francisco leasing, look some space?

Nelson Mills

So, today most of the vacancy in San Francisco is at 650 Cal. We have a little over 100,000 feet there, 120 or 130,000 feet available today. We’ve got an expiration – could be an expiration coming later this year. But we do have very strong activity at few LOIs in place. A couple of those are bigger blocks.

So, we are very encouraged that we are going to get significant leasing done there in the next few months, hoping to have something to announce soon. 221 Main has some - a little bit of roll this year and we are ahead of that as well. The other properties as you know, in San Francisco are well leased with the long-term.

Mitch Germain

A little higher on the retail ownership side, because if you are non-trade roots, is there outreach that you do to that investor base now that’s dividend has been cut to somewhat, just explain kind of the strategy where you guys are to maybe prevent some selling pressure?

Nelson Mills

No, we don’t, Mitch, somewhere around 30% of the retail investors, we think were still investors and we are very glad to have. And we serve all investors equally, we communicate with all investors equally. In addition to these sorts of calls and communications, we maintain a very active website.

We have – we accept calls from retail investors and their advisors from time-to-time. So we have a very open channel of communication and we do occasionally hear from some of our original investors. But no specific active effort to communicate a dividend adjustment or anything else. We share this sort of news and all the background that leads to it with all equally.

So, we’ve been very clear from the beginning that we were transforming portfolio and changed the nature of it and it was – we were moving from a more of a yield focus strategy to one of growth in better, lower yielding higher growth markets. And so, we hope all investors if understood that all along. So, no nothing specific for that group.

Mitch Germain

Thanks, so much guys.

Nelson Mills

Thank you.

Operator

We do have time for one more question. Our last question is a follow-up from Sheila McGrath with Evercore. Please go ahead.

Sheila McGrath

Yes, can you just remind us on the Credit Suisse space on Park Avenue South? When that expiration is? And how the interest levels from tenants is? And where the market rents versus expiration?

Nelson Mills

So, Sheila, that remaining space about 140,000 feet plus expires in April of this year. We have - most of that is going to be occupied until then with sub-tenants. We have already leased a couple of floors of that space at mid-80 sort of rate, and which is in line with what our expectations.

And we are actively showing a lot of space now. Some of it - a couple floors are white boxed and very showable, the others will get to the same condition shortly after they are available. But, yes, lot of activity there and we are excited to get to that. We think we will get that leased in relatively short order.

Sheila McGrath

Okay, thank you.

Nelson Mills

In terms of in place rents versus market, it’s slightly under. It’s not dramatically under. We - overall, when we acquired the building, it was about, overall on average we are probably 30% below market on a net rent basis. A lot of that we have captured already there is still some rollup in this remaining space as well, but it will be a rollup for sure.

Sheila McGrath

Okay, great. Thanks.

James Fleming

Thank you, Sheila.

Operator

This concludes our question-and-answer session. I would like to turn the conference back over to Nelson Mills any closing remarks.

Nelson Mills

Okay, well, thank you, everyone. We really appreciate your time and attention today and we look forward to seeing many of you in the next month or so on one-on-one meetings and at conferences. So, thank you again.

James Fleming

Have a good day.

Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.

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