Piedmont Office Realty Trust, Inc. (PDM) CEO Brent Smith On Q1 2021 Results - Earnings Call Transcript

Piedmont Office Realty Trust, Inc. (NYSE:PDM) Q1 2021 Earnings Conference Call April 29, 2021 10:00 AM ET

Participants

Eddie Guilbert - Executive Vice President of Finance and Treasurer, Piedmont Office Realty Trust, Inc.

Brent Smith - President and Chief Executive Officer, Piedmont Office Realty Trust, Inc.

Bobby Bowers - Chief Financial Officer, Piedmont Office Realty Trust, Inc.

Analysts

Anthony Paolone - JPMorgan

Dave Rodgers - Robert W. Baird

Michael Lewis - SunTrust Securities

Daniel Ishmael - Green Street

Operator

Good day, ladies and gentlemen, and welcome to the Piedmont Office Realty Trust Inc. First Quarter 2021 Earnings Call. All lines have been placed in a listen-only mode and the floor will be open for your questions and comments following the presentation. [Operator Instructions]

At this time it is my pleasure to turn the floor over to your host, Eddie Guilbert. Sir, the floor is yours.

Eddie Guilbert

Thank you, operator and good morning, everyone. Thank you for joining us today for Piedmont's

First quarter 2021 earnings conference call. Last night, we filed our Form 10-Q and an 8-K that includes our earnings release and our unaudited supplemental information for the first quarter 2021. This information is available on our website at piedmontreit.com under the Investor Relations section.

During this call, you'll hear from senior executives at Piedmont and they will refer to certain non-GAAP financial measures, such as FFO, core FFO, AFFO and same-store NOI. The definitions and reconciliations of these non-GAAP measures are contained in the earnings release and in the supplemental financial information. Also on today's call, the company's prepared remarks and answers to your questions will contain forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995.

These forward-looking statements address matters, which are subject to risks and uncertainties, and therefore actual results may differ from those we anticipate and discuss today. The risks and uncertainties these forward-looking statements are discussed in detail in our press release as well as in our SEC filings. We encourage everyone to review the more detailed discussion related to risks associated with forward-looking statements in our SEC filings.

Examples of forward-looking statements include those related to Piedmont's future revenues and operating income, dividends and financial guidance, future leasing and investment activity, and the impacts of the COVID-19 pandemic on the company's financial and operational results. You should not place any undue reliance on any of these forward-looking statements in these statements speak only as of the date they are made.

At this time, our President and Chief Executive Officer, Brent Smith will provide some opening comments and discuss our first quarter results and accomplishments. Brent?

Brent Smith

Good morning, everyone, and thank you for joining us on today's call to review our first quarter financial and operating results.

On the call with me are George Wells, our Executive Vice President of Operations; Eddie Gilbert, our Executive Vice President of Finance and Treasurer; and Bobby Bowers, our Chief Financial Officer, as well as other members of the senior management team.

First and foremost, I hope that everyone is and continues to be healthy and safe. This quarter, we reached a dubious milestone having been in the midst of the pandemic for over a year now. While it has been highly disruptive to the office sector in general, and Piedmont leasing pipeline specifically, we are fortunate that the vast majority of our customers are current on rent and building utilization continues to improve. Now approaching an average of 25% across the entire portfolio, primarily led by return to the workplace by our small to medium sized tenants.

While overall daily utilization for the portfolio remains far below pre COVID-19 levels. That percentage is improving and is expected to continue to ramp up in the second half of the year. But I will note the daily utilization still vary greatly based on tenant characteristics and geography.

With vaccines becoming widely available for all, we continue to see incremental gains in local economic activity week by week, particularly in our Sunbelt market, as I noted on our last earnings call. However, this quarter, we track an increase in activity for our northern markets as well. First since the pandemic began.

In addition, we're beginning to see medium size space requests in the 15,000 to 25,000 square foot range and starting to conduct tours with these tenants. We're encouraged that our leasing pipeline is strengthen and we feel positive about our ability to generate some leasing momentum headed into the rest of the year. While we saw consistent upticks in tour activity across the portfolio is the first quarter progressed, a 30% increase actually from January to March. We still anticipate it will take two to three more quarters for Piedmont leasing volumes to approach pre pandemic levels.

With the USD GDP expected to grow 6.2% in 2021 per Bloomberg’s April Economist survey, the U.S. feels like it's getting back to a new normal. And with this backdrop, we're encouraged for our tenants, our employees and our stockholders, as corporations and large businesses begin to plan their return to the office. With most targeting the early fall for the workforce to re-enter in mass.

Even more tangible evidence of this improving outlook is the fact that we experienced a sizable uptick in the number of executed leases for the first quarter of 2021. The company completed approximately 678,000 square feet of leasing with new tenant leasing accounting for approximately one quarter of that activity.

Had it not been for one large tenant, new leasing would have actually outpaced renewals. I would also note that the weighted average term leases during the quarter was approximately seven years. Comparing the first quarter of this year to the first quarter of last year, both the number of leases and the overall square footage related to new tenants exceeded the first quarter of 2020 pre pandemic levels.

Through this leasing activity and customer dialogue, we continue to better understand tenant space needs and design requirements. I would characterize the majority of new leases as having a space plan matching pre pandemic levels of square feet per employee, but with a greater focus on creating collaboration space and integration of technology to facilitate work from home and in office employee communication. That said, we believe a vast number of firms are still trying to understand what work from home truly mean for the organization.

We are finding that medium sized enterprises are having the greatest difficulty in reaching a conclusion. And as such, these customers typically requiring 15,000 to 25,000 square feet are those most often requesting shorter term renewals of two to three years. One positive note is that these customers are requiring very little tenant incentive or capital to transact on the shorter renewals.

As I noted in our last call, we continue to see the smaller user market to find those in less than 10,000 square feet remain rather resilient, almost approaching pre pandemic levels of activity. And in a large user segment find as those needing more than 50,000 square feet, we continue to see companies who know their business well use this market disruption as an opportunity to negotiate more favorable terms from their landlords.

While the large user segment has not recovered to the extent of small users, we are still experiencing elevated levels of activity from large tenants in Dallas, Atlanta, Orlando, and Boston. I am pleased to share that one example of this phenomenon has resulted in an early seven-year renewal of Raytheon's approximately 440,000 square foot lease, comprising the entirety of our 225 and 235 Presidential Way assets in Boston.

The lease required only a modest level of $0.10, and leasing Commission's equates to approximately $2.60 per square foot per year of term, with a modest adjustment to the current rental rate, which we noted in our earnings release had a disproportionate effect on our lease mark-to-market for the quarter. A more complete listing of the larger leases executed during the first quarter of 2021 is including the simple information that we published last night and is available on our website.

Looking ahead, our only expiration of any significance over the next 18 months is the city of New York's lease of approximately 313,000 square feet. The remains in holdover it's 60 Broad Street. We are pleased to welcome approximately 20% of the various agencies workers back to the building next week.

I'm also excited to share that Piedmont has executed a five-year interim lease extension. And the Department of Citywide Administrative Services has informed us that the public hearing and final approvals are in process.

As a reminder on all government tenant transactions, the landlord is required to execute documentation prior to the tenant. Assuming things move forward as anticipated, we expect a conclusion to this interim renewal around the end of the quarter, very much in line with the economics and terms we've shared in the past.

Finally, following our playbook on the state of New York lease in 2019, we continue to work with Decast [ph] on a potential 20-year extension at the building beyond this extension.

Taking a step back, I would like to share three trends which are benefiting almost all our operating markets. First and accelerating population migration to the Sunbelt, along with other secondary cities, which offer businesses and employees a lower cost higher quality experience.

We believe this great affordability migration will constitute a decade long trend that in conjunction with a second trend, which is millennial family formation and a movement to the suburbs will play well-amenitized offices in mixed use environments located along the city's primary Ring Road in higher demand.

And finally, as we have dialogue with our tenants and track leasing activity, we're witnessing a third trend, a flight to quality with a focus on amenitized buildings with unique environments, owned and operated by responsive service-oriented landlord.

Piedmont portfolio is well positioned to be the beneficiary of all three of these themes. A concentration of well amenitized buildings, located near strong housing communities and highly regarded education systems, with easy accessibility to major highway thoroughfares and airports, and with more than half a portfolio in the Sunbelt where population growth is expected to surpass national averages, but today's tenants are not only focused solely on location and neighboring amenities, the physical attributes of the building have never been more important.

The building's indoor air and light, HVAC, fresh air intake, elevator capacity and outdoor collaboration space are all critical. In addition to a high quality building and environment, vibrant environment, customers are demanding a higher quality landlord as well. And by that we mean an attentive operator that focuses on ESG initiatives, and which has the capital base and scale to provide tenant offerings engagement.

Office space is no longer just a real estate product. Our customers view our offering as a service, which excites us and gives us the opportunity to provide a differentiated product. One that we believe will allow us to achieve greater occupancy and real rates than the prevailing sub market.

Touching briefly on transactional activity. Although we did not complete a capital transaction during the first quarter, the Raytheon lease extension will likely provide a catalyst. This is the first time that that tenant has executed renewal that provides a total of 10 years of remaining lease term at the buildings is the two assets represented by this renewal are now 100% leased to a single credit worthy tenant with significant term. We believe that value has been maximized in the properties and we have a unique opportunity to realize that value that which has been created.

Therefore, we began marketing our 225 and 235 Presidential Way properties for sale late in the first quarter, and we received a good deal of interest. We're therefore anticipate recycling the proceeds from the sale and the high quality amenitized assets would fit strategically into one of our core markets.

Finally, I want to highlight the recent progress that we made on several key ESG initiatives. ESG have gained more widespread investor and tenant attention here in the U.S. over the past few years. And Piedmont management team has made it a priority to establish a best-in-class ESG platform.

Getting involved to help to make our communities and planning a better place to live while ensuring our employees, tenants and vendors are treated with respect and given equal opportunities.

I would like to take a moment and point out a few recent achievements. On the sustainability front out of 1000s of participants in the U.S. Energy Star program, Piedmont was recently named one of 70 companies designated a 2021 ENERGY STAR Partner of the Year, and Piedmont is the only office read headquarter in the southeast us to receive this designation. I'm also very pleased with ENERGY STARS recognition of our ongoing commitment to reducing our portfolios carbon footprint, including lower energy consumption, in addition to water conservation efforts, and reduced landfill waste from our buildings.

Approximately three quarters of our portfolio is currently ENERGY STAR certified. And we continue to make significant progress towards our goal of reducing the overall energy consumption by 20% at our properties over a 10-year period ending in 2026.

Additionally, during the first quarter, our five Atlanta Galleria properties were awarded the wealth health safety rating by the International well building Institute. The well health safety rating is a new evidence based third-party verified rating for all new and existing buildings. It focuses on operational policies, maintenance protocols, stakeholder engagement and emergency plans to address the post COVID-19 environment now and into the future.

Our Atlanta Galleria properties, representing over 2.1 million square feet of rentable space for the first properties in our portfolio, as well as the first for all office buildings Atlanta to receive this new rating and we're actively working to expand this program across our portfolio.

Additionally, Piedmont recently partnered with Morehouse College's division of Business and Economics in Atlanta, and with Howard University's School of Business in Washington, DC to introduce the Piedmont Office Realty Trust Scholarship Program. The program provides scholastic support to rising sophomore students seeking degrees in economics, finance, accounting, engineering or real estate with a renewable scholarship for the Piedmont scholars, sophomore, junior and senior years.

Along with access to an executive shadowing program, the scholarship offers each recipient the opportunity to intern with Piedmont and acquire a firsthand experience in commercial real estate and participate in a board level mentoring program. It is our hope that this program will provide need-based aid to ambitious students and expose a more diverse applicant pool to a career in the commercial real estate industry.

Our ESG efforts are overseen by a board level ESG Committee, which is chaired by Barbara Lang, the former president of Washington, DC's Chamber of Commerce. Ms. Lang joined our board six years ago and immediately began making a positive impact helping to lead the company's environmental objectives and social involvement in our communities.

For additional information on our overall ESG program, I encourage you to review our annual ESG report that's available on our website.

With that, I turn it over to Bobby to walk you through the financial hike the quarter and guidance for 2021. Bobby?

Bobby Bowers

Thanks, Brent. I'll briefly discuss some of our financial highlights for the quarter. I encourage you to please review the earnings release and supplemental financial information which were filed last night for more complete details.

For the first quarter of 2021, our reported net income increased to $9.3 million, up 7.3% from the same period a year ago. We also reported $0.48 per diluted share of core FFO up $0.01 over the first quarter of 2020. AFFO was almost $39 million for the first quarter well in excess of our current quarterly dividend level.

Rent roll ups and roll downs on executed leases during the first quarter of 2021 were largely influenced by the significant renewal with Raytheon that Brent mentioned earlier. Accrual based rents increased on average approximately 7% while cash rents decreased approximately 2.8%. However, excluding the strategic Raytheon renewal, cash and accrual rents for the remainder of the leasing activity, rolled up 8% and 10.1% respectively.

Same-store net operating income increased almost 4% on a cash basis and was down slightly on an accrual basis. The increase in cash basis same-store NOI was primarily attributable to the burn off of significant abatements at 1155 Perimeter Center West in Atlanta, and Arlington gateway in Washington DC. Along with income associated with WeWork determination in Orlando. These increases were partially offset by reductions and transient parking and retail revenues as a result of the lingering effects of the pandemic and buy 0.8% decrease in portfolio occupancy during the first quarter of this year.

We continue to believe that same-store NOI on both the cash and accrual basis will end the year positively between 3% and 5%. And economic occupancy is also expected to improve with the burn off of over 400,000 square feet of abatement during the second quarter.

Our overall lease percentage is estimated to end the year around 87% to 88%. This estimate is before any capital transactions.

Turning to the balance sheet, our average net debt-to-core EBITDA ratio improved during the first quarter of 2021 to 5.6 times and our debt to gross asset ratio at the end of the first quarter remained relatively flat compared to 2020's year-end at approximately 34.9%.

Our tenant rent collections have returned to near previously-COVID levels at over 99% collections. And we now only have approximately $3 million of previously deferred 2020 rents remaining to be paid during 2021.

We currently have approximately 90% of our $500 million line of credit available for strategic capital transactions. Along with proceeds expected later this year from the sale of the two presidential way assets in Boston. We plan to repay the only secure debt remaining on our balance sheet, a small $27 million mortgage once the loan allows for prepayment without yield maintenance later this quarter.

We also plan to go to the public debt markets later this year to refinance a $300 million term loan that matures at the end of November.

At this time, I'd like to reaffirm our 2021 guidance in the range of $1.86 to $1.96 per diluted share for core-FFO for the year. Also as a reminder, this is annual guidance and results vary by a $0.01 or $0.02 by quarter due to lease commitments and expirations as a result of seasonal expenses and other such items. Further this guidance is before any significant capital transactions. We'll adjust our guidance range when such transactions occur.

As Brent mentioned earlier, we are cautiously optimistic regarding our leasing pipeline. But please be reminded there's typically a 6-to-12-month lag between the time a new tenant lease is executed, and when occupancy physically occurs.

With that, I'll now ask our operator provide our listeners with instructions on how they can submit their questions. We'll attempt to answer all of your questions now or we will make appropriate later public disclosure if necessary. Operator?

Question-and-Answer Session

Operator

Thank you. The floor is now open for questions. [Operator Instructions] Okay. Our first question comes from Anthony Paolone. Please state your question.

Anthony Paolone

Thanks. Good morning. So my first question is, with regards to the leasing pipeline. I think last quarter you provided a number that was real strong and obviously included Raytheon and it now. But, just curious how that looks now to give us some color as to what you're seeing there?

Brent Smith

Good morning, Tony, thank you for joining. Happy to provide a little bit more color on the pipeline. I'd say is we've kind of characterized coming through the pandemic, we were obviously pre pandemic doing about 200,000 square feet of new leasing a quarter roughly, that went to near zero as did most companies leasing pipelines during the pandemic in the early days. As we've continued to get into the third and fourth quarter, we've seen that trajectory go higher, we were doing call it in the high double digits in terms of 1000s and then up to around 100,000 in the most recent quarters, and now continuing that trajectory even greater in this quarter. And we continue to see the pipeline build more so quarter-over-quarter.

So I'd say that trajectory continues to be very positive. And as I noted in my prepared remarks, seeing the northern markets actually start to have tour activity in person is a very positive sign and actually getting requests for proposals. Our prior leasing was almost predominantly in the Sunbelt, with a little bit sprinkled throughout the other northern markets, mostly on renewals, and a few new deals. But we're seeing that creep up as well as, as I noted, my premier prepared remarks that medium sized enterprise that takes 15,000 to 25,000 square feet, at least submit RFPs. And we're scheduling tours.

So I think incrementally, it's nice to see those two years or segments come in further into the market. But still, clearly, we're not going to get back to those pre pandemic pipeline levels into in terms of new leasing activity. I think until third, fourth quarter of the year, it's really going to take a little bit more positive momentum behind the vaccine and people getting a little bit more comfortable and returning the workplace which we are seeing, I think to really see full activity get back to where it was.

If you want to go think about market by market, though we still see good activity and all our Sunbelt markets, Boston to a lesser extent Northern Virginia, Minneapolis, but New York still trails overall in terms of that new leasing pipeline activity. I'd say it -- that's how I'd characterize it. Anything else more specific?

Anthony Paolone

No, that's helpful. The 86% lease that you had at the end of the first quarter and Bobby had mentioned 87% to 88% for year-end. Any big puts or takes in either direction to watch out for by market or buildings?

Brent Smith

I think they've been mostly put are well known as the market we work is the one that will be coming out that so size in Orlando. And other than that, no, I don't think there's anything dramatic and nothing of size for quite some time. If you look in our large tenant list, the really the next larger tenant is not until the end of '22. So we feel pretty good about having low expirations limited kind of big hits and the opportunity to capture what we think is going to be continued to focus on landlords deprive provide a high quality product, and a service with a focus on initiatives that are important to both corporations in their workers as well as I noted in my remarks. So all things that we see with only 4.7% of our own ARR rolling in the rest of '21. And once we conclude the New York City lease, '22 also gets a lot shorter. We feel very good about our runway to achieve those occupancy levels by the end of the year.

Anthony Paolone

So we work being the more notable drag, but then the positives to get to the 87, 88 just being a little more spread out. Is that fair characterization?

Brent Smith

Absolutely.

Anthony Paolone

Okay. And then on Boston from a capital markets point of view. Now you're putting Raytheon for sale. And I think last quarter, you talked about Cambridge, being a potential sale candidate. What are the prospects or thoughts around just your exposure to Boston, this point?

Brent Smith

Yes, and maybe I'll take an opportunity here, Tony, and take a step back and explain a lot of how we thought about our really interest into that area in that market 10 years ago. And as a good, maybe illusion to what we might do if we were to ever enter a market elsewhere, or even a sub market. And that was to say, we liked the dynamics and Burlington, Woburn was an adjacent market, and we were building a platform in Burlington, but saw an opportunity that could get an asset. That was, frankly, we thought, a good way to create value, use our market knowledge, use that platform, but knowing all along, we were going to build our core base around Burlington.

And so we were able to get Raytheon to extend to a level where we are able now to push that into the market. We think create a lot of value on the cap rate in that process, probably to the tune of maybe 125 to 150 basis points. We'll see. And so we were then able to kind of think about our opportunities to recycle that.

Now, in Cambridge, we've also got great assets. And we've continued to have a great relationship with Harvard. We don't feel in a rush to sell those necessarily. I think that market is quite strong. That tenet is well-known that at the right time will -- as I have coined that use those as our piggy bank. But we're still very committed to the Boston market. We think there's a lot of great opportunity to continue to provide good office space, particularly as a competitive office space has continued to use, pulled into other uses. And really creating the need for tenants that are more than the urban core looking for, as we've talked about in other calls, a more reasonable rate and more space for their employees.

So we continue to see very positive things in that market. I would also note maybe a credit upgrade from our nuance tenant in that market, which is potentially being acquired by Microsoft, and a full building user there. But that's a core holding again, in our bought Burlington, a market I wouldn't anticipate disposing of that one. But with Raytheon, we saw a chance to really harvest the value created and we launched that it.

Anthony Paolone

Got it. That's helpful. And then just last question, the industrious lease. Is that a straight lease that you saw in there is that a like a revenue sharing operating type deal?

Brent Smith

Yes. I think it's that bag that just to be clear, is it really a replacement of an existing co-working operator. As we've talked about on prior calls, we've taken our operating risk or counterparty risk, if you will, and spread it across a number of operators. We were being one but also some local operators. However, the disruption in that sector has been meaningful and as time has gone on the equality operators we think being primarily industrious and we work or we think it's going to drive incremental tenancy.

Again, it's not an additional exposure to co-working and so co-working still comprises only 2% of ARR. We replaced a company called make offices with industrious. It is a lease with a revenue sharing component, but it is a lease.

Anthony Paolone

Okay. Great. Thank you.

Operator

Okay. Our next question comes from Dave Rodgers with Baird. Please state your question.

Dave Rodgers

Yes. Good morning, everybody. I wanted to touch on the Raytheon sale. It sounds like those have been in the market maybe 30 to 45 days. Brent, can you give us some color on kind of the appetite and maybe the timing of closing something? And then the flip side of that question is you obviously want to reinvest that you mentioned that in your comment. Can you talk about what the reinvestment pipeline looks like today? And is there sufficient opportunity in your mind to then bring more assets to market this year to pursue that pipeline of activity?

Brent Smith

Good morning, Dave. Yes, so again, touching on Raytheon. We kind of had a unique situation where we were able to extend that tenant and get that 10 years a term, which as I noted before, we felt really created a lot of value. On top of that it was a low capital deal. So we were able to keep a lot of that down in our metrics for the quarter. But I would know it was a slight rollback on the rate, modest mid-single-digits, we felt like that was more than made up for what the cap rate might achieve in the market. As you know, we've been in the market now not even 30 days really, it takes a little bit of time to get people under CA's, et cetera.

So at this point, it'd be a little bit early overall to comment. But I would say as you can imagine, Boston is a very hot market, it's got a credit worthy tenant with long-term lease, it should do very well, we think. But I think it'd be too early to tell. In terms of timing, that's also a little bit tough to pinpoint. And the reason being is this is a very strategic asset for the user. And as I would anticipate this may require some government approvals, and dictate exactly how long that might take depends on the ultimate buyer. And ultimately, we'll be able to shed a little bit more light on towards that on the next call.

But in terms of then redeploying that capital, and how we think about things. We're looking at several acquisitions, both off market, and a few on market, most off market. But they're all strategic opportunities in our core markets and sub markets. And as we've thought about on the past day, today, we think of initial yields in the 6% to 7% range, where we can create value. We feel like we're in a good position to pursue acquisitions. And we've got a pipeline for potential deals and we think that's growing.

I would say at this point in time, as we think about capital allocation, probably developments further down the list. We feel pretty good about where the stock trades today and see some opportunities that are better and assets for growth. And then, of course, we always have the alternative to pay down debt if we needed to with a little bit on the line currently. But I think you'll find us be able to marry that disposition.

Well, as we have done in the past with an acquisition, there is a modest gain there. We think that would be a taxable gain that we can handle appropriately. But ideally, yes, you'd like to 10.31, if possible. Is that helpful.

Dave Rodgers

I appreciate that color Brent. I guess, I wanted to ask in an asset like enclave where maybe the credit isn't as good. Is that something that you could perceive bringing to the market, and redeploying as well? Or is the market not strong enough for that type of tenancy just yet?

Brent Smith

Yes, I think Dave as we think about the non-core portfolio. We've got realistically a little bit of maybe a few months on two periods place in terms of trying to get a tenant that's in tow, when I searched for land that. But in any case, that's the non-core asset. I think that I'd like to definitely get out the door this year. As I think about the two Houston assets, given the credit in Schlumberger, maybe that one's a little bit more primed. But as we continue to see oil recover, and Transocean is paying rent now. Cash rent it is an opportunity to potentially monetize that asset. But I think it's more likely to be a next year event this year event, as we think about that specific one with TO.

Dave Rodgers

Helpful. And then last, for me on the New York City renewal sounds like that it'd be midyear and you didn't make the comment that it would be consistent with terms in the past. I guess, I just wanted to go back and reconcile are we talking about kind of terms on, this would look like a long-term deal, just in a shorter form until you're done? Or would this look like the holdover rents? I guess I just wanted a comparison between kind of holdover and kind of where we go there the impact of this year's financials.

Brent Smith

Yes. And maybe, I'd say take a step back. And let's talk about the New York City process and lease in whole. I'd say, overall, all the incremental progress we're seeing in New York City opening up is a great thing for in the state of New York and the country, frankly, and in 50 broad there in New York City employees themselves are actually returning next week and I saw it this morning, de Blasio opened up the city 100% starting July 1 to all very positive things.

But unfortunately, as we've taken through this process, it's certainly been more protracted than we anticipated. But rightfully so, given what that region has dealt with and had to contend with a pandemic. So, as I noted in my prepared remarks, all government leases require. We signed first, which we've done so and then follow through with the various agencies that occupies. The next step will be a Citywide hearing. And there'll be put on the calendar. The mayor offices will have to apply, so there's a few more steps. But we still think that gets executed sometime around the end of June, that interim lease.

And so that initial lease was really designed to provide the time required to complete their swing space, design plans and cover what would be a construction period. So once that construction is complete, that longer term 20-year lease that we're still negotiating would commence. And both Piedmont and the city are engaged on that longer term lease. So that's how we kind of think about that overall process.

Now getting your initial question, which is -- what's that mean from an economic standpoint? You're exactly right. We've thought about the current rate that they pay today and hold over as being what I've called market for unimproved space. And so roughly what they're signing that interim lease is at that market rate, with a modest annual escalation is anticipated. So there's very little capital associated with the lease. All that kind of significant build out would be triggered once that 20-year lease is executed and again, we're working on that. But we obviously needed some time, and neither group wanted to have this continue to be in a holdover status.

Dave Rodgers

I appreciate all the color.

Brent Smith

I would note that the term of five years is from the date of execution by all parties.

Dave Rodgers

Got you. Thank you.

Operator

Okay. Our next question comes from Michael Lewis, SunTrust Securities. Please state your questions.

Michael Lewis

Thank you. When I think of work from home threat, I don't really think of city of New York or Raytheon. But Raytheon has been a company that has talked publicly about reducing square footage, maybe in their case, because they're reducing headcount in certain areas. But is there any change, in either of those renewals in the way that the companies intend to utilize the space? Or their philosophy on hybrid work or anything else like that? Or have you seen anything else tangible anywhere else in your portfolio yet?

Brent Smith

Good morning and I appreciate the time today, Michael. It's surprising and we're still learning more day-by-day, as you talk to more and more tenants, more and more architects, and more and more CEO's thinking about their business longer term. It's surprising that I think people are coming back to a very similar design space that existed in many offices, not everyone. But bench style seating is definitely fallen by the wayside, more perimeter offices, open areas, but absorbing the light from the window line, which is why the window line is important into the center portion of the core of the building.

But overall space planning and space needs has not materially changed for those two tenants, specifically. Raytheon will continue to operate and very much the same footprint and the New York City is going to need it refreshed given a 20-year-old -- now 22-year old space. But it's very much in the same vein is to what it was designed to be beforehand. And so similar with the New York City, though pre-pandemic, they went to a design that was utilizing a little bit more, average space that they had before per employee. But utilizing team building space and conference room space more efficiently, we created their own little, we work area on about a 20,000 square foot floor printer, one of the floors that was shared conference just for the various agencies.

So they're getting creative in their own way, I think you're just going to continue to see that in the design process and focus on collaboration space, but we're not seeing at this point, I could point to them, I could point to Lux here in Atlanta, which is a sub tenant but redoing 170,000 square feet. No material change right now, which is a little surprising in our regard -- our mind. But as I talked about, in the call a much greater focus on the service, and the physical characteristics of the building and the quality of the landlord more than ever before.

Michael Lewis

Thanks. That's interesting. We finally have a 10-year renewal so look at and sounds like not a lot of changes, at least for them. My second question is kind of a two part on that kind of shares a theme though. You talked about the expectations for selling the Raytheon asset. Did Raytheon know, you might market that property for sale? And does that impact the lease negotiation at all? And I've mentioned there's a second part. The second part would be the city of New York, care doesn't enter into the talks at all, whether you may not be the long-term landlord for them at that property if you decided to sell that after a long-term lease besides?

Brent Smith

Good question. Take them in each in separate part. I think in the instance with Raytheon giving its a seat to sole tenant in the building, and as we've had a deep relationship with that firm at that location for 10 years now. I personally negotiated the last renewal prior to this. So knew that the Raytheon team and their representatives very well. I know they're very astute, I think it would be naive to think that they didn't understand that there was that potential, and that we were -- had always asked to do more than a five-year renewal. And they always had rebuffed.

But in this instance, we saw an opportunity, I think they did too. And that's the only reason why there was a modest rollback in the rate, because there was very little capital. And we felt like we were creating a lot of value. And obviously, they probably want to distract a little bit of that value as well. But again, that was not really a significant part of the negotiation. But it obviously had to play into their minds, I would think. But that's speculation, and I do not know.

Q: Okay. And then the City of New York care at all, what you do with the building, and I guess I could even ask the same question about two piers, given what you just said, right? Does that complicate wasting that asset?

Brent Smith

I would say no, and that has not proved to be a point in the current interim lease that we just executed. But also that's also not a single tenant building. And is also provides the city with the various I've talked about prior calls. It's very unique building within a building their own elevator bank, it fits their uses very well, particularly at that value price point. So I don't think in that regard, it's going to be a lever or on their mind at all, versus was raised here, and I would suspect, they were aware.

Michael Lewis

Okay. All right. Thank you.

Operator

[Operator Instructions] Our next question comes from Daniel Ishmael with Green Street. Please state your question.

Daniel Ishmael

Great, thank you. Pretty similar to the question asked about work from home previously. I'm curious how you're thinking about Minneapolis as a market long-term. I know the closer to the CD is the limited, but with a target sublease news recently. I'm curious how you'd rank markets relative to your other core markets?

Brent Smith

Good morning, Danny. I appreciate you joining. In regards to Minneapolis specifically, I think we know we've been a long-term operator in that market and we enjoy being one of the £800 gorillas in terms of being a major player and deep relationships with a lot of corporations that operate within that market. So we still view our platform and capability there as being one that gives us an advantage and we're still committed to the city.

As we continue to talk very closely with the tenants that we have both downtown in the suburbs, I would say there's obviously more disruption downtown, given what's been going on with the pandemic and also with social unrest. The good news is, to some degree, the city is moving forward and continue things continue to open up from the pandemic. And things continue to move forward from the social reform aspect within the city.

So businesses are getting more constructive and returning back to the workplace, which is a positive, we're starting to see some of that tour activity picked up particularly in the suburbs. I think it's still to come in downtown. But overall, we're still very optimistic about the city. It provides a great kind of work life balance that we've talked about. The ability to attract large corporations, great airport, good education systems and neighboring markets, the feed into it, location advantage for our asset downtown right next to target headquarters, and very little competitive sublease space that would I would concede being superior to ours in the downtown market. And as I note, the suburban market continues to kind of perform as I would have expected any of our other northern markets at this point.

Daniel Ishmael

And then moving…

Brent Smith

I would note that we do load [indiscernible] in that market for the next two years. Sorry.

Daniel Ishmael

No, no. That's helpful. Next one is on your land bank. And with the rising construction costs. I'm curious how you perceive that impacting the attractiveness of development these days?

Brent Smith

I'm sorry, was our last point the choppiness of the what?

Daniel Ishmael

The attractiveness of development these days?

Brent Smith

Attractiveness. Yes. Interesting, we've been watching commodity prices continue to accelerate. And certainly right now there is, I think a supply chain constraint. That's going to continue to keep those materials for construction elevated for probably at least the next 12, maybe 24 months. So if you think about that impact on your ability to start a construction project, it's going to obviously impact it's going to be very difficult to get GMP pricing. But most leases with prospective tenants typically have some sort of flex component to it related to the cost.

So you're able to some degree cushion against that if you were to found the right opportunity. But at this point in time, I think we're going to be continuing to focus on redevelopment, that's what we feel is a great better risk adjusted return with the right bones and what we're accomplishing in some of our larger-scale projects. I think that's a better use of capital than ground up development.

That said, we have seen more inbounding queries on the opportunities we have potentially in Atlanta and Orlando. But it all is centered around creating that right compelling environment. And right now, I think that probably going to be better done through redevelopment than ground up.

Daniel Ishmael

And just last one for me. How are you viewing the mark-to-market opportunity across the portfolio? I know, that's a hard question to answer where depending on certain markets. But I'm just curious how far above or below do you think the portfolio is -- portfolio rents are these days relevant to market?

Brent Smith

Danny, that's a question we get regularly. And I'd say the one thing through this disruption, it has been a positive is a resiliency in face rate. Now, don't get me wrong, we've felt the pain particularly on the capital end is where most the tendency is trying to beat up their landlords if their scale and credit and not on rate. And so that's been a positive. So rate is held for most part through our portfolio. Prior to the pandemic, we were saying we were a 5% to 10% mark-to-market. I'd say that still the range that we give and point to is specifically even this quarter ex-Raytheon, which we've explained, not a lot of capital, and so there was another lever there on rate. But elsewhere, if you exclude that we were 8% roll off. And I think that's very indicative of where we stand today in the portfolio, and will continue for the near-term.

Daniel Ishmael

Great. Thanks, everyone.

Operator

Okay. Our next question comes from Dave Rodgers with Baird. Please state your questions.

Dave Rodgers

And just a couple of follow-ups, maybe for Eddie and Bobby. Three questions, specifically, one any changes in the general reserve this quarter? Two, can you give us a little more detail maybe on the sequential change in parking revenue in that component? And then lastly, the $3 million that you have left to collect from last year's deferrals? What's the timing on that?

Bobby Bowers

Hi, Dave, this is Bobby. I'll try to take the first and last one. While Eddie gets some of the information. You asked about the bad debt reserve. You might remember that we recorded a $5 million bad debt general reserve last year at the onset of a pandemic. That $5 million came from basically as seeing a reduction in collections. So we said 1% of our annual revenues. So 500 million, 1% and 5 million.

The balance is still right at $5 million for tenant receivables and related assets. And just think of that, including straight-line rents, things like that. We still have tenants, primarily retail customers that are on our watch list that we're still trying to track. And we still have that reserve is I'm going to try to bring in the deferral answer. Outstanding of about little over $3 million related to the workout agreements that we entered. Did about 70 of them $6 million in total and deferrals collected about half of it are reserved is that as protection against that.

So that's the status. I imagine. I think you asked me a couple of quarters ago when we established this, they could some of that come back to you. Yes, I could. But I believe that that would take place over several quarters and that taste and a mouth certainly indeterminable at this point. IS that answer to the questions. And I forgot the third one.

Eddie Guilbert

David, as far as the marking is basically, one was in line with Q4. So continuing the trend that you're seeing, again, Q4. And so hopefully that answers that question. I think we would expect as we see more people return to the office that the latter half of the year we're going to see pretty soon.

Bobby Bowers

Parking though Dave remembers only a small percentage of our revenues, I think 1%

Dave Rodgers

Got you. Yes. Thank you.

Operator

Okay. I would like to turn it back over to Mr. Smith for closing remarks.

Brent Smith

Well, I appreciate everyone joining us today. It was a positive first quarter for Piedmont. We look forward to continuing the dialogue next quarter is hopefully continue to build -- to the pipeline build and build on the momentum that we've garnered so far this year. We still remain optimistic on overall how the year will pan out and perform and we're excited to talk to you next. I would say if you have an interest in meeting with the company during NAREIT, and June please reach out to Eddie or Justin Caudill information is in the supplemental. Thank you, everyone.

Operator

Thank you. This concludes today's conference call. We thank you for your participation. You may disconnect lines at this time and have a great day.

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