Duck Creek Technologies, Inc.
Q1 2015 Earnings Call Transcript

Published: 2 May 2015

[Operator:]

Good day and welcome to the DCT Industrial first quarter 2015 earnings 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 Melissa Sachs. Please go ahead.

[Melissa Sachs:]

Thank you. Hello, everyone and thank you for joining DCT Industrial's first quarter 2015 earnings call. Today's call will be led by Phil Hawkins, our Chief Executive Officer and Matt Murphy, our Chief Financial Officer, who will provide details on the quarter's results as well as our updated guidance. Additionally, Neil Doyle, our Managing Director of the Central Region will be available to answer questions about the markets, development and our real estate activities. Before I turn the call over to Phil, I would like to remind everyone that management's remarks on today's call will include forward-looking statements within the meaning of federal securities laws. This includes, without limitations, statements regarding projections, plans or future expectations. Actual results may differ materially from those described in the forward-looking statements and will be affected by a variety of risks, including those set forth in our earnings release and in our Form 10-K filed with the SEC, as updated by our quarterly reports on Form 10-Q. Additionally, on this conference call, we may refer to certain non-GAAP financial measures. Reconciliations of these non-GAAP financial measures are available in our supplemental, which can be found in the Investor Relations section of our website at dctindustrial.com. And now, I will turn the call over to Phil.

[Phil Hawkins:]

Thanks, Melissa and good morning, everyone. We had and excellent first quarter with strong operating results coming in ahead of our internal projections. Rent spreads were 5.5% on a cash basis and 14.3% on a GAAP basis, while same-store NOI growth was 10.9% on a cash basis and 7.2% on a GAAP basis. We are increasing same-store NOI and FFO per share guidance as a result of the first quarter results and our continued positive outlook for the year. Matt will provide more detail and color on our operating metrics and guidance shortly. Looking ahead, market fundamentals remain quite positive. Tenant leasing remains active across all size ranges and most industry verticals, while rents continue to move up as vacancy levels continue to decline. The question everyone likes to ask about is new supply, which remains well in check. In fact, the amount of space under construction in our markets declined 15% in the first quarter to 102 million square feet from 122 million square feet in the fourth quarter. Space under construction went down in nine of our 13 focus markets and in four of our markets where it went up, the increase was nominal. Given strong leasing activity, favorable rents and low vacancy rates, I expect supply to increase throughout this year but to remain at levels that makes sense relative to net absorption. The days of under supply driven by capital constraints are over, but the vast majority of development funding continues to be from institutional equity rather than bank debt which brings a higher level of discipline and knowledge to decision making about construction starts and leasing than was the case in prior cycles. The investment market remains white hot with cap rates and prices per foot now exceeding prior peak levels in virtually every U.S. market. CBRE estimates that cap rates came down another 25 basis points in the first quarter, driven by an unprecedented wall of capital that all of you are quite familiar with. CB also estimates that there is a four-to-one ratio of institutional capital dollars relative to product expected to be marketed. While we were able to close a few acquisitions in the first quarter, all of which were sourced fairly early in the fourth quarter, we are reducing our acquisition guidance for the year as it is becoming more and more difficult for our market teams to find acquisitions that makes sense from a quality and return perspective. Our teams will keep looking and may find some decent opportunities most likely smaller in size and off market, but our updated guidance is a better reflection of our lower volume expectations. Offsetting the reduction in acquisition volume is an increase in our development start expectations driven by two recently signed build-to-suit projects totaling 1.4 million square feet and a third significant project on existing land which while not signed we are optimistic about execution. The two signed deals will start mid-year, while if successful that third project will start later this year. Beyond these three build-to-suits, the balance of our development and redevelopment continues to go well. We stabilized six development and redevelopment projects in the quarter totaling 967,000 square feet. These projects are now generating a yield on cost of 8.9%, 170 basis points above initial pro forma, due to higher-than-expected rents. Moving the two stabilized development buildings into the operating pool did drop the least percentage of our development pipeline to 7%, a number we expect to move significantly higher over the next several quarters. Activity on our development projects is strong with a number of leases at the LOI stage or better. Ultimately, with market cap rates falling and rents rising, the value and cash flow creation from our development and redevelopment program looks even more available today than when we initiated the project. With that, let me turn it over of Matt, who will review first quarter results and our updated guidance for the year. Matt?

[Matt Murphy:]

Thanks, Phil. Good morning everyone. Our first quarter results represent an outstanding start to 2015 and reflect both the improvement in quality of our portfolio and the strength of industrial fundamentals. Virtually all of our operating metrics were ahead of plan. Consolidated operating occupancy ended the quarter at 95.3%, ahead of our initial expectations. This was driven by better than anticipated leasing as well as the holdover of one of the large anticipated move-outs I talked about on the fourth quarter call. This 215,000 square feet tenant whose lease expired in February, signed a short-term amendment to remain in their space until June and there is now some optimism from our local team that they might stay longer. Rent growth continues to be strong in our portfolio with cash rent spreads coming in at a positive 5.5% for the quarter and GAAP rent spreads posting an increase of 14.3% ahead of expectations. This is the 15th straight quarter with positive GAAP rent growth. What's just as encouraging is that the positive rent growth trends are very widespread throughout portfolio with eight of the 14 markets with leasing activity this quarter showing double-digit growth in net effective rents. Retention was just under 67% for the quarter and while that is an unusually high number, it does reflect renewing two of the three largest remaining expiration scheduled in 2015, taking that risk off the table. In my opinion, the brightest spot of our Q1 2015 results, continuing a trend over the past several years, is same-store NOI growth. Our 53 million square feet same-store portfolio produced NOI growth in the first quarter of 10.9% on a cash basis and 7.2% on a GAAP basis. While the largest driver of these excellent results is undoubtedly the 180 basis point increase in average occupancy year-over-year, it should also be noted that almost one quarter it rents or $1.2 million is related contractual rent bumps. For the last several years, our market teams have been prioritizing negotiating market-leading rent bumps wherever and whenever possible. And the results are really paying off. Further, while we continue to focus on improving the quality of portfolio overall, the recent changes in our portfolio are a huge component of our same-store results. While the additions to our same-store pool since 2012 have performed very well, posting cash same-store growth of 14.4% in the first quarter, those properties represent only 16% of all same-store assets and therefore only increased our cash growth by 60 basis points. Turning to guidance. We are raising and narrowing our 2015 FFO guidance to $1.92 to $2 per share, up from $1.86 to $1.98 per share. This is primarily due to our positive start from an occupancy perspective and the continued strength of leasing both in terms of volume and rental rates. As a result, we are also raising our 2015 same-store NOI guidance to an increase of 4.25% to 5.75% on a GAAP basis and 5.75% to 7.25% on a cash basis, an increase of 75 basis points at the midpoint in each case. From a capital deployment perspective, we are increasing our guidance for development by $100 million to between $200 million and 300 million. This reflects the build-to-suits Phil mentioned as well as our optimism regarding leasing at our existing development portfolio. Three of the starts that would be needed to get to the upper end of our new range are contingent on leasing of existing projects. And we remain optimistic that we will be able to sign the leases we believe are prudent to allow us to start those project in 2015. As Phil mentioned, cap rates continue to fall and liquidity continues to rise in the acquisition arena and as a result we are lowering our acquisition guidance to between $100 million and $200 million. Our plan to fund this investment will remain pretty constant with the majority of the capital coming in the form of proceeds from asset sales, as well as leverage neutral incremental debt. Demand for institutional quality assets is at unprecedented levels driving pricing above our expectations. Our guidance for dispositions in 2015 remain unchanged at $250 million to $350 million. On the capital markets front, we closed on an amendment to our bank facilities in April, that reduced our current borrowing rates by 20 to 25 basis points, increased the size of our revolving line of credit by $100 million to $400 million and extended the maturity date of the revolver and $125 million of our term loan until 2019 and 2020, respectively. We did not issue any stock under our ATM during the quarter. In fact we last utilized it in October 2014. While we are focused on funding our activities through dispositions during 2015 as I mentioned earlier, we are planning to reload the ATM program during the second quarter to maintain optionality. In summary, Q1 was a great start for DCT. Our quality portfolio and talented teams combined with the solid market fundamentals to produce excellent operating results, leading us to raise our financial expectations for the year. In addition, our value-added development program stabilized almost a million square feet of high-quality facilities at rental rates and returns that far exceeded our expectations while simultaneously restocking our pipeline with compelling land and build-to-suit opportunities, both of which we believe will create significant value for our shareholders. While we still have a great deal of work to do ahead of us for the remainder of the year, it's very hard to have a great year in this business without having a great start. We believe that our first quarter provides that great start. With that, I will turn it back over to Alison for questions. Thank you.

[Operator:]

[Operator Instructions]. Our first question comes from Jamie Feldman from Bank of America. Please go ahead.

[Jamie Feldman:]

Great. Thank you. Good morning. So I guess just starting out, the investment sales market is very hot. Any thoughts on selling more assets and bigger chunks of the portfolio, given the pricing and demand we are seeing?

[Phil Hawkins:]

We think about it. We have got a list. In my view, we have been well rewarded by match funding. We really sold a lot of assets over the last several years at cap rates that I pretty pleased with. With that wall of capital in front of us, I am not too worried about the window closing too quickly. I think it will well serve to preserve our balance sheet, preserve our income statement. We have got a great portfolio. And the assets we want to sell, frankly are not assets we might own it. And we do think that if we can replace them with higher returning development and/or acquisitions which may come, that we will. If not, we are fine owning them.

[Jamie Feldman:]

Okay. And then I guess a follow-up, with KTR already trading or has traded, can you talk about some of the portfolios on the market today? And maybe this time we may see more given the pricing we are seeing and what kind of pricing you think we will see if those portfolios close?

[Phil Hawkins:]

There are number of portfolios on the market or it would be on the market or in conversations. I think the KTR transaction was at economics that are pretty expected. I think the pricing on that was right down middle of the fairway, from what I would have expected. And this reflects the huge wall of capital that's out there. Actually it's one example. I think you will see a few others. I think you will see few others maybe in the relatively near future, but I don't want to predict publicly who and what and when or frankly at what pricing. I think what it does, with both in core and KTR, I think what is shows is how private investors are evaluating industrial estate and they are doing so, I think, more richly than the public markets currently are. When I look at stabilized yields of midsize, I look at price per foot in the high-80s and I compare that to a company like DCT, whore portfolio, the markets are better located in either of those two companies. The lower cap rate markets, the price per foot is substantially lower, the employee cap rate at current stock price is a touch above six, I think that that's pretty compelling and that's, to me, how I think about those transaction, is that they will continue to provide, I hope and I believe, support for public investors, public REIT investors to appreciate the value that others in the private sector are seeing right now.

[Jamie Feldman:]

And I was still going to ask one, but just a follow-up to that. Why do you think the private market is more comfortable with the supply story than the public?

[Phil Hawkins:]

I can't answer that question. I think they are well informed. I think they are probably more granular in their analysis, more comfortable in what they are seeing and hearing from a capital funding perspective. They are looking at other alternatives. They don't seem to be any more appropriately priced. So I am sure there is a lot of different reasons. And I am not sure that that's the reason why the public markets have underappreciated industrial this year. It's certainly an obvious or a likely explanation, but the underperformance of public industrial REIT stocks is pretty striking in comparison to what's happening in the private capital markets right now.

[Jamie Feldman:]

Okay. All right. Thanks, guys.

[Operator:]

And our next question comes from Gabriel Hilmoe from Evercore ISI. Please go ahead.

[Gabriel Hilmoe:]

Thanks. Matt, just on the move in FFO guidance, fundamentals are obviously very strong in your portfolio, but is there any accretion from just backing down the value-add acquisition target, just given where the year one cap rates have been trending on some of those deals? And then, just ramping up the development and redevelopment pipeline and how the cap interest might be impacting this year?

[Matt Murphy:]

Yes. I think there is some impact to the change in timing, the change in volume of acquisitions. Obviously, the acquisitions that we been doing have been in the near-term, pretty dilutive to FFO. So I think there is some, but I don't think, as I said in my initial remarks, I don't think that it's the primary focus. It is clearly operations that is what's driving it. Timing of sources and uses is always a difficult thing to predict. I think net net capitalized interest is part of it, as you mentioned it, probably is impactful but less than a $0.01 on my numbers of the $0.03 at the midpoint is related to that.

[Gabriel Hilmoe:]

And then just maybe a follow-up for Phil. I appreciate your commentary just on the activity on the developing pipeline and trading paper on some of the space, but any more color you can provide just in terms of how conversations are going, maybe relative two or three months ago? And just any more color on what tenant activity is like, just on some of the developments?

[Phil Hawkins:]

I am not going to do it specifically for competitive reasons, if nothing else. A couple of things. One, activity is good, really across markets. Two, I would say, tenants are taking a little longer to make decisions than they were a year ago, essentially they have got more choices. It's a healthy market, but there are traces and so tenants tend be a little more precise. Maybe they would have taken a little bit more space or a little less space to fit into the one building that was available today. There is a more wide range available out there and again they can be more precise in meeting their actual requirements. And then lastly, we are moving forward with multi-tenant in many of our buildings. A couple of years ago, we probably would have pre-leased those buildings to a single user and today that is less likely to be the outcome of one case, one of our large buildings. We are in talks with a single building user. In other cases, we have had discussions with single building users. What happens with those buildings, those users have increased the size, I would say, beyond what our ability can accommodate. They move to a build-to-suit or they just drop their requirement altogether. And so there is definitely a little more changing and delaying going on, from a decision making perspective, not to a point that I would say was three or four years ago but it's certainly not what it was a year or two ago. In summary, that means we underwrite 12 months of lease up and I see on average, we should expect to use about that much. Hope we have a number of projects coming quicker than that. We will probably have a few that come in a little slower than that. The yields will still outperform but the lease up is going to take a little longer than it would have, again when we were an early mover a few years ago.

[Gabriel Hilmoe:]

All right. Thanks. I appreciate it.

[Operator:]

And the next question comes from George Auerbach from Credit Suisse. Please go ahead.

[George Auerbach:]

Thanks. Good morning. So I was going to ask you about build-to-suits and whether you are seeing more leverage with tenants, especially after the two build-to-suits you signed this quarter, but it sounds like after those two comments on Gabe's question, tenants still have plenty of options and even the supply is ramping down nationally. It doesn't sound like it's really changing for the better discussions on the development pipeline.

[Phil Hawkins:]

I wouldn't say they have got plenty of options. They have more options. A couple of years ago, they had no options. And build-to-suits are happening and continue to happen although I think the ratio of build-to-suits to spec in most primary markets where there is a healthy supply of inventory, both existing, the second generation as well as first generation, I think, from a timing and certainty perspective and in some cases a cost perspective, the existing inventory, whether it be first generation or second generation is probably the preferred option and you will see more of that. The build-to-suits we have done happened because the size requirement couldn't be met at all in two markets that, I think, you all would consider to be having plenty of supply underway. But that supply is rational and spread across a number of different sub-markets and locations. And so you still see situations where a customer can't find its requirement for whatever reason in what's available. And as an example of what's going on, the build-to-suits we are doing in Atlanta actually started out as a prospect for River West and they outgrew it. There was an M&A transaction in their business and all of a sudden, we really thought we were down at the one yard line on River West, which would have been our preferred outcome to be honest, but we are happy to accommodate in the alternative and simply outgrew it. And so our Atlanta team did a great job at moving into a motion looking for additional land sites and solutions and thankfully the relationship and their efforts resulted in a solution that worked well and we are moving ahead with a different project. We are happy with that, thrilled with that.

[George Auerbach:]

Okay. I guess Matt mentioned some leasing hurdles that you guys need to achieve to keep on the spec building work or brining more spec buildings along. I guess that the LOIs that you discussed get you to those hurdles, assume that you sign those lease and more broadly as we think about the next $100 million and $200 million of starts this year, which markets do you expected to deploy that capital in? Is it going to continue to be sort of the Seattles, the Atlantas, the Dallas'? And to your point, the last question, really more tenant driven than market driven?

[Matt Murphy:]

I would say the one market you will see us likely start if we -- we have a hopefully large building in Tracy, Northern California, that we are working hard to get fully entitled and ready to launch. It's a good experience in how hard it is to get buildings approved and ready to go. That building, I would like to see a little more leasing in our pipeline in general but we don't have any up in Northern California before we start that one. We have a few other markets where we have land and may start. We closed actually yesterday but after the press release went out on some land in Miami, right next to our other project we developed a couple of years ago. That could start this year. It may not, but again it's all a function of getting it ready. And then anyway we do have land and projects ready to go further in several sub-markets in Seattle. We have Jurupa Ranch in Southern California, a large million foot project that both is getting some interesting pre-leasing that may or may not happen, but also we have good leasing on the realtor project that hopefully will happen and we are optimistic about it but you never know. We have got a site in Dallas to go that we will likely start if we close some leases that we hope happen on the two smaller buildings under construction right now that leases going well there. We started a project in Chicago recently. Dallas is a starting and also in Atlanta this year, but other than the build-to-suit and probably the other projects I am thinking about or not thinking about, but anyway. But as Matt said, a number of that will require leasing, in our view to moving to the next step and in most cases, there are prospects, if not better than prospects, that we are optimistic about. But only time will tell. And we will be disciplined in terms of starting project only after those that are already in the market have proven themselves out.

[George Auerbach:]

Great. Thank you.

[Operator:]

And the next question comes from Eric Frankel from Green Street Advisors. Please go ahead.

[Eric Frankel:]

Thank you very much. I am sure you are aware of some Houston based or Houston focus on REIT benefits and the share price declined precipitously last few months. So I wanted to get your views on the public market perception of Houston on what's actually occurring and given if there is a divide, are you a seller or buyer in that market?

[Phil Hawkins:]

I didn't understand the public market perception of what?

[Eric Frankel:]

The market perception of Houston.

[Phil Hawkins:]

Houston, I am sorry. We were a seller in the fourth quarter, as you may recall, at prices that we thought that was incredibly attractive for a B assets and we are happy to be a seller. We also continue to look and could be a buyer. I think Houston is holding up better than some may have feared, what some may currently think. Truly the risk or the uncertainty of that market has gone up, if not the actual results have deteriorated. And as a result I think about it as a little higher risk, but there is a lot of strength in that market, both short term and long term, that I really appreciate. While the upstream exploration companies are clearly have cutback, but the downstream firms are on fire right now. That's driving demand and more activity in the port than ever before. We are well aware of that. We bought two buildings in that sub-market a couple of years ago. We have got some ideas that we are thinking about there that would be interesting if we could pull it off. At the right pricing, we would be above assets quality, distribution assets in the North and Northwest. We don't have any land and don't anticipate buying any more land. We have some buildings to lease still, both development and then also the shells we bought. So we have got work to do there. Our current portfolio is 99% leased. So it's doing well. The first quarter reports that we got internally from Jeff and his team are very healthy in terms of the way the lease is going. Rents have held up reasonably well. You have probably seen a few cases concessions go up a little bit. Rents are not going up, that I think is almost for sure. So I think Houston is clear-cut. It's not a, heck, yes, let's sell, or let's double down. I think it's a market that we like long term. We have got a great operating team that will continue to look for rifle-shot opportunities that hopefully will be value creating. And if not, we love what we have and we are happy standing pat.

[Eric Frankel:]

Okay. Great. A follow-up question for Neil. I guess this is related to one, where has supply come down according to whatever markets that you are referring too? And two, maybe if you could just talk about the tenanting process a little bit? Has that really changed much between now and the last major development cycle? And is that what, in your view, is restricting supply a little bit? I would like to get your thoughts on that.

[Phil Hawkins:]

Let me answer the first part of the question because I have got the numbers in front of me. And then I will turn it over to Neil to answer the second part of your question. So in our markets, those that have come down because under construction. Baltimore, Washington, Houston, Miami, Northern California, Pennsylvania, Chicago, Dallas, Orlando and Phoenix. The other side of that question, what went up, New Jersey went up slightly from 2.3 million to 2.3 million, Seattle went up slightly from 3.8 million to 4.1 million, Southern California went up slightly 17.5 million to 17.9 million overall, Inlet Empire 14.2 million to 15.6 million, Atlanta went up from 15 million to 15.6 million, Louisville went up from 0.6 million to 1.6 million and Nashville from 1.1 million to 1.7 million. And those are from CoStar, which for consistency purposes, across markets is the service we use the most above all from a local perspective. We also use other services of the firms that will probably give us more granular information. Neil?

[Neil Doyle:]

Sure. Eric, relative to the entitlement and how that may or may not be constricting supply, nothing that jumped out to us nationwide, when we were on the phone internally as to, is California still difficult for entitlement. Sure and we underwrite that time period into anything we are looking at. Texas has always been pretty simplistic on the entitlement side of things. You come to Midwest, it's not entitlement issue that may slow down some of the supply. I think Chicago, for example, has been pretty disciplined on supply. I would argue more of that in some more mature markets. Just finding land is difficult and you are piecing things together and you are trying to get over hurdles that you wouldn't take the time for during the last ball run. You would have just walked past it to get to the next site. Today, that next site doesn't exist or it's already been built on. So you come back to something that has a little bit more of a hurdle to get over. There also another point here relative to supply and why I think it's been relatively disciplined and hopefully will continue to be. As Phil points out, it's equity based capital, certainly more on this cycle than priors, but also a lot of the money that flooded into industrial real estate didn't exactly have the expertise for development, certainly not redevelopment. And so one of the gauges I sort of watch, is who has been hired where and there is plenty of money that you may not have heard about and once they hire someone that you know, knows what he or she is doing, that to me, is a sign that they are getting pretty serious about development. So I really point to those two things and to-date it seems relatively disciplined, some areas more than last, but I would go back to those two points.

[Eric Frankel:]

Appreciate the color. Thank you.

[Operator:]

The next question comes from Brendan Maiorana from Wells Fargo. Please go ahead.

[Brendan Maiorana:]

Thanks. Good morning. So Matt, your average occupancy for the year is 94.5% to 95.5%. I think that is same-store, which compares to 94.5% average for the quarter. So one, is that correct? And two, as you think about the progression throughout the year to be at an average of 95% midpoint of your guidance, does that sort of assume ratable increases throughout the year, such that you would end the year towards the high end of the range?

[Matt Murphy:]

Yes. Brenda, so the 94.5% to 95.5% is operating as opposed to same-store. The numbers aren't that dramatically different, but comparison point today it is 95.3%. But I do think that the rest of your description is pretty accurate, in that I think we will end up the year higher than we will average throughout the rest of the year, but it's not quite honestly, we are forecasting remaining pretty constant today. There is arguments to be made for why that's conservative. There is arguments to be made that there are still leases to be done, that aren't identified or finished yet, which is why we have ranges. But I think your basic description is right, that we will drop down a little bit from where we are today and I am forecasting that 200,000 square feet space that I talked about as moving out at the end of June, although it may not happen that way. That's 30 bips all by itself, a little more than that actually. So I do think it will end up higher than we will be during the summer. But I am not predicting a lot of the volatility in that number today, not because I can't see how it could happen. It's just hard to budget, cranking up above levels where we are today, although it could happen for periods of time.

[Brendan Maiorana:]

Yes. I understood. Okay. That's very helpful. And then for Neil, so it looks like you guys did a nice pre-lease on the DCT North Avenue Distribution Center, but it says it's current customer. So it was the 350 that they taking an expansion? And then can you kind of give us a sense of the building that they are coming out of backfill prospects and timing and think like that?

[Neil Doyle:]

Sure. So as existing tenants, the way we do this, we have an existing tenant that we only actually put in the space a couple of years ago. And they were in, I believe about 70,000 feet with us. No sorry, they were 150,000 feet with us. There were another 100,000 with another known entity. And they were with 50,000 with a second known entity. So we probably have the most recent relationship with them and putting them into our space. They didn't know then they needed more space and needed modern space, et cetera. So we located a site in Carol Stream that we thought could fit this building. And we had to knock down two old research buildings there. So we probably won't break around until June, maybe July with the actual new construction. Once we do that, we will deliver it approximately 10 months later. And at that point, so now we are into May 2016, where we will be looking to back fill that space. We have underwritten some of that lease exposure into the new deal. But we have got, as we sit here today, we have got a little about 13, 14 months before we have to see that space that they are coming out of.

[Brendan Maiorana:]

Okay. And you feel the space that they are coming out of is functional space that should have reasonable demand?

[Neil Doyle:]

It's a Class A facility, multi-tenant and it is right in the center of [indiscernible] sub-market, which as you probably know Brendan, is really doing very well right now.

[Brendan Maiorana:]

Okay. Great. Thanks, guys.

[Operator:]

Our next question comes from Michael Mueller from JPMorgan. Please go ahead.

[Michael Mueller:]

Thanks. Hi. On the acquisitions, taking a look at the stuff you bought in the first quarter, it looks like a couple of buildings had fairly low occupancy, one of the buildings in Atlanta, it looks like you bought it at 100% occupancy, but a tenant going out. Wondering what the leasing prospects are for those acquisitions at this point? And what would you think the time to stabilize is?

[Phil Hawkins:]

Well, the Hathaway building is empty and we doing a fair amount of demolition. So while we be pre-leasing, it won't be ready till the first quarter of 2016. And we probably have nine to 12 month after that in the pro forma. Atlanta, similarly, I am sure at least we have got we got prospects, but nothing of merit as far as I know and we have got that underwritten probably for nine to 12 months as well.

[Michael Mueller:]

Okay. So we are talking sometime in 2016 probably, on average?

[Phil Hawkins:]

Hopefully better but that's what I would underwrite, yes.

[Michael Mueller:]

Got it. Okay.

[Phil Hawkins:]

And the forecast is for our performance.

[Michael Mueller:]

Okay. And I think, on the developments you mentioned high-eights yields for the stuff that was delivered this quarter. If you are looking out to the balance of the year, where are the yields coming in that you see on the product stabilizing?

[Phil Hawkins:]

Mike, so in terms of a blended perspective there, it's sort of mid-sevens.

[Michael Mueller:]

Okay. So on a full year?

[Phil Hawkins:]

It's in the seven now and --

[Matt Murphy:]

We don't do it by building, which is why its hard to go further than that.

[Michael Mueller:]

Okay. But the Q1 stabilization, that was right? You said that's higher, right?

[Phil Hawkins:]

Yes. They were significantly higher because of higher rents. I wouldn't expect that to necessarily duplicate itself for the rest of the year, although I hope it does.

[Michael Mueller:]

Okay. That was it. Thank you.

[Phil Hawkins:]

Thanks, Mike.

[Operator:]

Our next question comes from Manny Korchman from Citi. Please go ahead.

[Manny Korchman:]

Hi, guys. Matt, what needs to happen for you to get to the bottom end of your guidance for the year?

[Matt Murphy:]

If you are talking earnings guidance, the answer is simple, that you would have to have sort of meaningful bankruptcies. You would have to really miss on retention in terms of what's left. And you would have to have pretty low slower lease-up of what we have. Guidance ranges are challenging. It's not like the outcomes are equidistant between the ends, I think, but the midpoint of guidance is the midpoint of my forecast, as I have said all along. It would be pretty hard to imagine hitting the bottom of it. Absent big bankruptcies, there are single transactions that can turn that on you quickly. There is not enough exposure left with existing tenants to drop below the bottom of, say, occupancy and therefore earnings guidance. But I believe the midpoint is where it should be.

[Manny Korchman:]

And then in terms of the plans that range for the end of the year? What are your thoughts about either doing that earlier or coming out with some type of forward contract to lock-in rate now in a little bit versus waiting until the end of the year?

[Matt Murphy:]

Well, I think the answer to both parts of that question is the same, which is there are enough moving parts for us. Well, first of all, it's hard to accelerate quickly because we are trying to get part of the use of the proceeds as maturities in the first part of 2016. But there is enough moving parts and sources and uses, we are talking about a lot of potential volatility in acquisitions, start dates we have already talked about are dependent upon leasing and so it's hard to predict the timing of it which, to me, is if it's hard to predict the timing, hedging is a bad idea. So it's one thing to take, I have said this before, one thing to take interest rate risk off the table of a known time transaction, but to just do an interest rate hedge without that certainty is speculating in a way that I don't think is appropriate. I am not an interest rate predictor. I don't want to be an interest rate predictor. And hedges are, by their nature, an interest rate predictor.

[Manny Korchman:]

Thanks for that.

[Operator:]

Our next question comes from Kyle McGrady from Stifel. Please go ahead.

[John Guinee:]

Hello. John Guinee here. Just a little curious question here. Still, if I look at your four buildings you acquired, 1.6 million square feet, $98 million. That's about $60 a foot for Northern California, but then some pretty low-cost markets in Atlanta and Denver. Was there a big number paid in Northern California and less in the other markets? Or can you elaborate on what seems like a high price per pound?

[Phil Hawkins:]

$60 a foot per pound, I am not sure that is a bad average in this world, having just seen the KTR transaction. I would rather not elaborate too specifically between the buildings. I wouldn't classify Denver as a low cost or low price market. It's probably the best market in the country, from a demand perspective and investment pricing is strong as well. So I wouldn't put it in the same category as Atlanta. But it's safe to say, Atlanta is part of the lower price per foot of the three. All of them, in my view, were pleased with the pricing. Northern California, for a lot of different reasons, probably the more aggressive of the prices, but because is the most significant, it has a value-add. It probably has a little higher cap rates and otherwise because of the redevelopment component of it.

[John Guinee:]

Great. Thank you.

[Operator:]

Our next question comes from Craig Mailman from KeyBanc. Please go ahead.

[Craig Mailman:]

Hi, guys. So maybe you could just talk a little bit more about you guys positioning Seattle, particularly Sumner, given your availability and the availability pretty close by, by [indiscernible] and some others and this is sort of one of markets you are talking about, maybe moving more to a multi-tenant strategy in some of the buildings?

[Phil Hawkins:]

Well, we have got the one big building of 650,000 and a way of a smaller building that is mostly leased, if not entirely. So it really comes down to our large building that we are actually moving towards a multi-tenant strategy with proposals out on a wide range of spaces. Some of those, the most active market, both from a development and demand, it's where the land is and where the growth is. And so, we have got a position sort of limited. We could build a 300,000 in addition to that at the same location as the larger building. But that won't start until we get more leasing. We do have another building in Sumner South and I forgot about that. But we have got one, we have got about 60% pre-leased and leased up fairly early in the process. That building, that space actually has a leased out right now. Who knows if it will happen. Frankly there is some M&A activity on that one too that may put that into some question, although fingers crossed. So like I say, we have got lots of proposals activity. We are hopeful that one building, the big building, we are hopeful with a single tenant user that was going to come down and take it all and take it all ahead of schedule. And that didn't happen.

[Craig Mailman:]

Okay. That's helpful. Then just maybe thoughts here on the strategy on the dispositions. From here out, you guys got rid of a lot of non-core assets. I don't know if you want to match funds, but is it going to be more opportunistic at this point as well as maybe you guys get some larger leases, longer-term leases done on buildings and maximize the value? Would you be more opt to take profits today on those? Or is it enough non-core in the portfolio that that's kind of the 250 to 350?

[Phil Hawkins:]

Well, I think opportunistic is the right way to think about it, one of which would be financial, for sure. We have definitely moved away from non-strategic assets. There is methods we are going to find at the bottom of the lift, from a quality perspective, but I don't think of ourselves and haven't for a while, as being motivated by building function as much as much building economics and market views. The Memphis portfolio was a big accomplishment for us. Columbus, earlier in 2014, was a big accomplishment for us at pricing that we were thrilled with. Going forward, we continue to think about tax abated markets as markets that we are in and/or markets where we don't have people, where we are more likely to sell based on our view of those markets and our strength in those market as an operator. And then we think about individual buildings. The Houston portfolio that we sold late last year was an optimistic reaction to an inbound inquiry from a buyer that had been talking to Jeff for quite some time. We finally had a use of proceeds that we thought was attractive. And so we entered into discussions and sold the building. Same could happen anywhere. So Craig, I am happy with our portfolio right now and we will continue to look for opportunities to upgrade to return the portfolio. And always the quality as we are able to deploy that capital into development and acquisitions.

[Craig Mailman:]

Great. Thanks.

[Operator:]

Our next question comes from Steven Kim from SunTrust. Please go ahead.

[Ki Bin Kim:]

Good morning. This is Ki Bin. So just a couple of quick questions on the same-store NOI. How much does free rent burn off impact this current quarter? And how should we think about that throughout the year?

[Phil Hawkins:]

So from a current quarter perspective, it's roughly $1 million, actually a little bit less than that for the quarter, compared to new free rent this time compared to free rent in the first quarter of last year. What you are seeing is that number should climb over quarters. Its a hard on to predict, if you are going to predict the amount of free rent in the next ways as well. And one of the things, I think we have a good job of is, where appropriate, giving free rent in exchange for rent bumps, it's interesting to me how some tenants won't value. I will look at it is as a pure financial, are you ending up risk-adjusted on a net present value perspective better with the overall lease term, a lot of people are more willing to give you $2 tomorrow to avoid $1 today than I would do. So it's a tough one to nail but clearly you will see the impact of that diminishes as the year goes along.

[Ki Bin Kim:]

Okay. So besides the free rent burn-off, if I just, it's kind of simple math, but it would imply, based on your guidance, that same-store NOI should be decelerating, right, throughout the year. How much, besides the free rent portion of it, but how much of it is just purely a function of occupancy comps getting tougher in the second half? Or that most of?

[Phil Hawkins:]

Well I think in terms of applying that more than all of it. What's happening is you are seeing rental rate improvement carve out a bigger piece of the change pie, if you will and occupancy, as I was telling, talking with Brendan, we are assuming that occupancy stays at more or less the same level. So obviously occupancy is going to decline as a function of it. But I can't emphasize enough how much embedded rent bumps are in the portfolio and how much those are going to contribute. Obviously those will contribute a larger portion of the growth going forward because occupancy can only increase up to a point. But I would still like, again I am repeating myself, but I still like the fundamental economic realities of leases today is that they are more favorable and continuing to get more favorable in terms of the ability of passing charges through, in terms of increasing rent bumps, all of those sort of intrinsic internal rent growth aspects of leasing continue to improve.

[Ki Bin Kim:]

And if I can squeeze one quick one in there, last time, I think you mentioned the rent bump was 1.9% before the average. If I ask the same questions end of this year, does that change materially?

[Phil Hawkins:]

Well, if it was 1.9%, the question must have been a long time ago. The average net rent bump in our portfolio is 2.8%. What's hard is that don't happen, from a modeling perspective, they don't happen during the year. That means, don't happen, the bell curve during the year, but the average net rent bump is 2.8%.

[Ki Bin Kim:]

All right. Thank you.

[Operator:]

Our next question comes from Tom Lesnick from Capital One Securities. Please go ahead.

[Tom Lesnick:]

Good morning. Thanks for taking my questions. I know you talked about land earlier when it came to construction cost, but just talking about the labor market for a second, how tight is the labor market right now? Have you seen any meaningful uptick in construction cost because of it? And then maybe which markets is that more of a issue than others right now?

[Phil Hawkins:]

Neil, why don't you field that one.

[Neil Doyle:]

Sure. Tom, if you look at the cost of construction, your land component is obviously going to differ on your FAR coverage wherever you are at. So in some markets, it's a bigger percentage, others it's not so much. Your question then relates to labor, but I have got to throw materials in there with labor. The tight labor markets, I would say, Houston is incredibly tight because of all the petrochemical construction, plants, plant expansions, et cetera. Dallas, labor is relatively tight, plenty of office buildings, plenty of new homes. Out west, everything I hear out there is, things are pretty tight, especially Northern California. Seattle was same. So I think wherever you have sort of -- who is going to take your labor? It's really going to be office construction and to a lesser extent residential. So wherever you are out there, you are going to see higher labor. As a general rule, if everyone's busier, the margins are going up. So while we see healthy increases in costs in pretty much every one of our markets, to-date it has been supported by the rents and it's something we will continue to watch as we move into 2015. But it's a good question because it's not just about land anymore. It's about labor, materials, as construction across the country is picked up. So we will continue to watch it very closely in 2015, as we are underwriting.

[Tom Lesnick:]

That's really helpful. And my second question, just given what happened with the Port of LA this winter and the movement in the dollar over the last few months or so, just curious have you guys seen any noticeable change in demand with regards to Inland Empire?

[Phil Hawkins:]

The short answer is no. If you look at CoStar, in the first quarter the Inland Empire had a good quarter, better than the first quarter of 2014, but Pharris is not on this call. He runs the West Coast for us. He will tell you that there are a lot of tenants in the market right now, probably as high as it has been in a long time. He talked to customers and some of them did divert during the strike to Prince Rupert or other strategies. They have come back pretty quickly, because frankly the Port of LA and Long Beach is the lowest cost, quickest route. It's also the port where they can handle the larger ships and all the other advantage you know about. So it appears that people have moved on and I know there was a lot of question or concern about that six months ago or three month ago. Probably some still some doubt. But the early read right now is that the world has moved on and it was not as significant of an event in terms of longer-term behavior as people might have feared.

[Tom Lesnick:]

Great. Thanks for the insight.

[Operator:]

[Operator Instructions]. We have a follow-up question from Brendan Maiorana from Wells Fargo. Please go ahead.

[Brendan Maiorana:]

Thanks. Phil, so it's pretty obvious you guys traded a big NAV discount as you talked about, given where asset values are and I know it's tough to find things to match fund in terms of a disposition, putting them into acquisitions and I do think you want to grow as a company long term. But have you thought about maybe using some proceeds from asset sales for a share repurchase program as a way to buyback your own stock or invest in your own stock? Or is it because you want to grow long term, that's a difficult thing to do?

[Phil Hawkins:]

Well, actually it's not because of that. Yes, we do want to grow long term. It is really because we are happy with the ability to deploy capital into high return development and value. We can create a lot more value through development and selling $250 million to $350 million of assets in a year for a company of our size is pretty healthy turnover. We have looked at stock buybacks as a theoretical exercise. You want to do it on a leverage neutral basis, so the impact, therefore, is not nearly as significant as you might think. And then you run into another challenges as well. So I think in the current environment, we have got a use of capital. We have got a balance sheet that we like, but we don't want to use operating capacity on that balance sheet for internal purposes, as stock buyback purposes. I don't think stock buyback makes much sense in today's world. That could change quickly, but not as I see it as of this moment.

[Brendan Maiorana:]

Okay. Great. Thanks.

[Operator:]

We have a follow-up question from Gabriel Hilmoe from Evercore ISI. Please go ahead.

[Gabriel Hilmoe:]

Thanks. Matt,, just going back to the same-store NOI guidance and just the trend for the rest of the year, I guess when you look at, say, the fourth quarter this year, what's being baked into the 5.75% to 7.25% range that's out there for the full year?

[Matt Murphy:]

Specifically for the quarter, typically it's going to be in the 3% to 4% range, talking on a cash basis, which is going to be, at that point again, now you are really talking about comps on a rental rate in all of its similar type items as opposed to occupancy, because basically you are going to get to the point where based on the way we forecasted it, occupancy is fairly static.

[Gabriel Hilmoe:]

Okay. That's helpful. Thank you.

[Operator:]

Having no further questions, this concludes our question-and-answer session. I would like to turn the conference back over to Phil Hawkins for any closing remarks.

[Phil Hawkins:]

Thank you, everybody, for joining our call today. We appreciate your interest in DCT and look forward to seeing you at the May REIT, if not sooner. Take care.

[Operator:]

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