Duke Realty Corporation
Q2 2009 Earnings Call Transcript

Published: 30 Jul 2009

[Operator:]

Ladies and gentlemen, thank you for standing by and welcome to the Duke Realty quarterly earnings conference call. (Operator Instructions) I would now like to turn the conference over to your host, Randy Henry. Please go ahead, sir.

[Randy Henry:]

Good afternoon everybody and welcome to our quarterly conference call. Joining me today, are Dennis Oklak, Chairman & Chief Executive Officer; Christie Kelly, Executive Vice President and Chief Financial Officer; Bob Chapman, Chief Operating Officer; and Mark Denien, Chief Accounting Officer. Before we make our prepared remarks, let me just remind you that statements we make today are subject to certain risk and uncertainties that could cause actual results to differ materially from expectations. Some of those risk factors include our continued qualification as a REIT, general business and economic conditions, competition, increases in real estate construction costs, interest rates, accessibility of the debt and equity markets, and other risk inherent in our business. For more information about those risk factors, we would refer you to our 10-K that we have on file with the SEC, dated February 25, 2009. Now for our prepared remarks, I’ll turn it over to Dennis Oklak.

[Dennis Oklak:]

Thank you Randy, good afternoon everyone. Our financial results and operational results for the second quarter were in line with our expectations and reflect the great progress our business is making on our balance sheet and leasing priorities. Before I begin to discuss the second quarter earnings I wanted to share a few observations about the overall economy and how this translates into our business trends. Key leading indicators that we are watching include real GDP, unemployment, trucking and hospital spend. Real GDP the final estimate for real GDP growth in the first quarter of 2009 came in at negative 5.5%, and negative 2.5% for the last four quarters. As our economy weathers this downturn we’re experiencing a dramatic downturn in global trade. Exports are down over 30%, the largest quarterly decline since 1969. Imports have declined even further, the most significant quarterly fall since 1947. The national unemployment rate in June was 9.7% up from 5.7% a year earlier and declines are basically across all metropolitan areas reported. The credit crisis has impacted industries around the country including the trucking industry. The actual tonnage hauled by large fleets of trucks is falling meaning that there are fewer truck shipments. In March 2009 the truck tonnage index fell 4.5% and then another 2.2% in April. This is the lowest its been since 2001. Not only is the trucking industry being impacted by the recession but its getting hit with the major inventory contractions that suppliers are taking. We’ll keep looking for the rally in transportation. On the healthcare side we continue to see strong demand drivers with our aging US population across medical office space in terms of hospital care expenditures, healthcare industry employment and projected out patient services. We’re focused on watching the President’s healthcare reform initiatives and will factor that into our strategy going forward. The effects of a recessionary environment are still being felt and will be for the foreseeable future. Closures, continued down sizing and negative growth will continue to weigh on the industrial and office sector vacancy and absorption rates. Renewals rather than relocations are helping tenants keep costs down and we were seeing this in our own portfolio. Despite this extremely challenging market we are all experiencing our teams made some great progress and our portfolio is holding up reasonably well. Now I’m going to provide an overview of our second quarter performance and following that Christie Kelly will provide an update on the capital raising and financing activities, then Bob Chapman will provide some views on the overall industrial and office markets and then discuss our portfolio occupancy and significant transactions during the quarter. And finally I’ll summarize our view of our performance outlook for the rest of 2009. Operating fundamentals across our portfolio continued to be very challenging during the second quarter. Leasing momentum picked up somewhat but continues to be slow as our tenants continue to struggle in today’s economic environment. Reported FFO per share for the quarter was $0.29 however this includes the effect of impairment and other non cash charges and gains on debt repurchases during the quarter. Excluding these two items FFO was $0.37 per share in line with our expectation. When compared to FFO of $0.59 for the second quarter of 2008 the decrease is primarily attributable to lower land and property sale gains, higher G&A expenses, and the dilution from the April common stock offering. As I mentioned we incurred impairment charges of $18.7 million during the quarter. These charges pertain to certain land parcels and properties, either sold or held for sale and investments in joint ventures. These charges were the result of increase in estimated cap rates and changes in market conditions that negatively affected the values. We also had only $1.5 million of gain on repurchase of our debt during the quarter compared with $33 million of gain in the first quarter. As anticipated pricing of our bonds tightened and our ability to repurchase at meaningful discounts was significantly reduced after our common equity offering in April. We continue to reduce our overall overhead costs, total headcount is now down over 26% since the beginning of 2008. We continue to monitor and reduce our costs in light of the economic climate and our curtailment of the development pipeline. G&A expense for the second quarter reflects a $3.5 million or about $0.01.5 per share of severance costs associated with staff reductions completed in the second quarter this year. As we look at our G&A expense for the third and fourth quarters of 2009 the operations run rate which excludes any potential additional severance costs is expected to be in the range of $7 million to $9 million per quarter and we continue to take actions to run our business productively in this economy. I’ll now turn the call over to Christie to discuss our financing and capital raising progress.

[Christie Kelly:]

Thanks so much Dennis and now I’d like to give everyone an overview of the company’s recent financing transactions. We continue to make great progress as Dennis mentioned before on our secured financing debt financing. In July we closed $114 million 10 year loan interest only at 7.75%. We also now have an executed term sheet for a $280 million seven year loan with interest at 8.5%. We expect to close this loan in late August. We are also evaluating offers for a loan in another office and industrial portfolio which is anticipated to generate an additional $75 to $100 million of proceeds. This will complete all of our anticipated secured financing for the year. We’ve raised nearly $1 billion of capital year to date and will exceed $1.2 billion with the closing of the $280 million secured financing for the third quarter. I’d also like to point out that upon receipt of the $114 million of proceeds from the secured financing closed in July, the balance on our credit facility is now zero. We also completed $73 million of asset and land sales during the quarter including the closing on the previously announced contribution of three built to suit assets into our joint venture with CB Richard Ellis Realty Trust. The aggregate capitalization rate on the second quarter asset dispositions was 9%. We are also in active discussions regarding additional properties we have targeted for sale. Overall we’re very pleased with the progress we’ve made in improving our liquidity during the first half of this year. We intend to utilize the proceeds from the capital raising transactions mentioned above to fund the November, 2009 unsecured debt maturity of $121.4 million and fund the January, 2010 unsecured debt maturity of $157.7 million. We continue to make progress with our partner banks on renewing the credit facilities. Initial feedback is positive and we anticipate completing the renewal in the fourth quarter of this year. Now I’d like to turn it over to Bob Chapman for an update on our markets and second quarter occupancy and leasing activities.

[Bob Chapman:]

Thanks Christie, I’ll first give some highlights as to what we’re seeing nationally with respect to fundamentals and demand in the office and industrial markets, then talk about our quarter end results. Overall as Dennis mentioned operating fundamentals on both office and industrial side remain extremely difficult. Looking at the industrial on a national view slow demand coupled with increased supply mostly completed last year will drive vacancies higher by over 300 basis points by the end of this year. The good news is that new construction has essentially been halted as we move through this difficult period. We’ve continued to see some demand from consumer product companies while retail demand has slowed down significantly. As we look at suburban office from a national perspective operating fundamentals continued to decline impacted by job losses and moderate supply still coming on line. Vacancy rates have risen with further negative absorption expected to continue into 2010. Specifically as we look at our office concentration in the Mid West and Southeast, we’re focused on our blend, extend and don’t spend policy to work with our existing clients through this difficult time. One positive that we’ve noticed is that our improvement in the balance sheet, in Duke’s balance sheet and the strength of our credit is working as a competitive advantage in some cases as brokers and customers want to make sure that landlords are financially capable of executing capital commitments agreed upon in new or renewed leases. We did see an increase in leasing activities during the second quarter. Total leasing activity for the quarter was 6.2 million square feet compared with [5.3] million square feet during the same period a year ago and 3.4 million square feet in the first quarter of this year. I’ll touch on some of the significant leases in a moment. Same property NOI for the three month period was down 1.6% compared with the same period last year. Same period NOI was still a positive 1.6% when compared with the 12 month period ended June 30, 2009 and 2008. Negative affects on same property are primarily from bad debts and lease renegotiations which are pushing rent up further. Since we don’t consider straight line rents in our same store calculation, all rent concessions granted this year have a negative impact. As we look to the remainder of 2009 we’re comfortable with our original guidance on same property NOI being flat to negative 5% for the year. This means that we expect the third and fourth quarters of 2009 to see more significant declines in NOI when compared to 2008. Overall occupancy in the portfolio including projects under development increased slightly during the quarter from 87.3% to 87.4%. As I mentioned before leasing activity during the quarter improved from the first quarter but activity is still not at normal levels as we discussed on our first quarter call. New activity included a 425,000 square feet of leases in the Baylor Cancer Center, a 320,000 square foot lease at our World Park at Union Center industrial park in Cincinnati, and a 307,000 expansion for Amazon.com in Phoenix. Once this expansion is complete later this year the building be a total of over 800,000 square feet, will be 100% leased to Amazon, and will be contributed to our joint venture with CBRT. When we look at our total vacant square footage in our portfolio again including projects under development nearly 40% is comprised of 32 industrial properties that have been placed in service but have not yet reached stabilization. These assets have modern design and functionality and are located across many of our markets. The lease up of these assets will be a significant driver of occupancy over the next two to three years. One thing I’m particularly proud of is our renewal percentage was 82% for the quarter and our growth in net effective rents on those renewals was 3.1%. Stabilized occupancy was down from 89.7% in the first quarter to 88.5% at the end of the second quarter. The addition of 11 recently developed properties aggregating 3.3 million square feet, there were 40% occupied at the quarter end accounted for most of this decrease. At quarter end the wholly owned development pipeline consisted of only 13 properties, 1.7 million square feet which were 89% pre leased with an anticipated yield of 8.5%. Some of these projects are healthcare. We also have three joint venture properties under development where we’re going to have an ownership interest of 50%. The estimated project cost for these properties is $340 million with $118 million yet to be incurred. These projects are 26% leased and all have construction financing in place. We completed the acquisition of two 1005 leased industrial assets totaling 450,000 square feet near the Port of Savannah. In spite of recent declines in container activity due to the slowdown of exports and imports we’re convinced that Savannah will continue to be one of the top five container ports in the United States and a strong industrial market over the long-term. A case in point, a 2.4 million TEUs over the past 12 months, the Port of Savannah was down about 15% versus about a 30% decline nationally. Finally a quick update on some of our significant projects. I mentioned the Baylor Cancer Center and construction of it which is a 460,000 square foot project in Dallas that we discussed last quarter is now underway. Recall that this project is over 90% pre leased and is being completed within a joint venture with Northwestern Mutual Life. The BRAC third party development project in Washington, DC is progressing on schedule with steel erection for the office building underway. And finally at our 3630 Peach Tree Road office project in Buckhead, it will be completed next quarter. As you know there’s a lot of new space coming online in the sub market. We have a three year lease up [inaudible] underwriting but realize that rents will be below pro forma amounts and greater tenant improvements and concessions will be required. Also I want to point out that our partner in this project, Pope & Land is a strong local developer in the Atlanta market. We continue to remain confident this will be a great project in the long-term with a prime location on Peach Tree Road in Buckhead. With that I’ll turn it back over to Dennis.

[Dennis Oklak:]

Thanks Bob, we had a great success in executing on our capital plan in 2009 and feel confident in our ability to meet debt maturities through 2012. Our balance sheet has improved since the beginning of the year and we’re focused on continuing to reduce our leverage levels over the next 12 months to be better positioned when the economy improves. On the property operation side, we know it will be a year or so before we return to leasing levels we are used to experiencing. We will continue to focus on renewing and extending our existing tenants and finding new tenants for our recently developed assets. Our 2009 annual guidance for FFO per share is $1.42 to $1.64. Based on the current expectations of our leasing volumes and other economic conditions for the rest of 2009 we anticipate that FFO per share will be at the lower end of our guidance. I also want to again remind you that our guidance assumes no gains from the sale of development properties or land, includes no income recognized on debt repurchases and also does not include the effect of any potential impairment charges. And with that, we’ll open it up for questions.

[Operator:]

(Operator Instructions) Your first question comes from the line of Sloan Bohlen - Goldman Sachs

[Sloan Bohlen:]

First question, with regard to the asset sales for the rest of the year and looking ahead can you talk about how you’ll use your JV funds for that and what your expectations for how many of the sales will be into the funds versus outside of the funds and then as a follow on to that what the capacity for new acquisitions in the funds is right now.

[Christie Kelly:]

First just let me talk about in terms of the plans going forward as it relates to our venture partners, we talk with our venture partners pretty much daily and the take down of assets as we go forward through 2012 does include CBRT for example, participating in those assets, acquisitions or contributions. Secondarily as it relates to just overall capacity we still have significant capacity in that venture which I think we had talked about last quarter and I’ll turn it over to Dennis just to talk more specifically about that.

[Dennis Oklak:]

The primary venture we have for the take outs really is the CBRT joint venture. We are at about $400 million of investment in that venture now with the Amazon deal in Phoenix that Bob mentioned will be closer to $450 million. And the stage capacity of that is in the $800 million range so we’ve got about $350 million to go. I think we’ll continue, they continue to have a very large appetite for new product and we’ll continue to see product flow into that venture. Most of the other ventures are just owning right now and we’re not really moving in so the other dispositions that we’re pursuing are really just other third party dispositions.

[Sloan Bohlen:]

So the comment in the press release about using funds to reduce leverage would you think about launching anew fund or are you in discussions to launch any new funds at this point.

[Dennis Oklak:]

Well I think we’ll consider that on some of our existing assets. We have some very I’d call them very preliminary discussions going on right now and nothing that I’d even say would rise to the level of something that I’d want to put out on the table right now.

[Sloan Bohlen:]

And then with regard to your secured financing has there been any consideration about perhaps using the TALF program that the government has.

[Christie Kelly:]

We’ve been watching it but we are not considering using TALF at this time.

[Sloan Bohlen:]

And then just in the leasing market, wonder if you could kind of speak to why the retention ratio jumped as much as it did in the quarter and then on the same lines, are you still seeing tenants stay put or has it gotten to the point that rents have fallen that people are starting to migrate within markets for deals.

[Bob Chapman:]

I’d like to say that the main reason our retention rate is so high is because we’ve been working on this for, I don’t know its been a high priority in the field for the last 12 to 18 months. We started this blend, extend and don’t spend program and so we’ve been actively working with our clients for many, many months on this. And I think that’s bearing fruit at this time. And on your second question, it costs a lot of money to relocate. And particularly on the industrial side and on the office side for that matter and so I think the, in the event of a tie, I think everybody would really like to stay where they are and so I think you’re really not seeing much movement there. And I like to say that for us the worst renewal is better than the best new deal and so we’re really working hard on those renewals and I think you’ll continue to see those renewal rates up there.

[Operator:]

Your next question comes from the line of Jamie Feldman – Banc of America

[Jamie Feldman:]

In the press release you talk about guiding to the low end of the range and give some commentary on market conditions, can you just give a little bit more information of kind of what you saw this quarter that’s kind of changed your view to be at the lower end.

[Dennis Oklak:]

Its really been a lot of its been our bad debts really that we’ve just seen more issues with our existing tenants than we really anticipated at the beginning of the year. We’ve seen a number of bankruptcies and a couple larger ones, one we talked about in the first quarter was Spectrum Brands which terminated some leases in our industrial portfolio in St. Louis. That’s probably the largest one but we’ve just seen it really throughout the portfolio and everything else is pretty much in line I think with where we thought. Its just been that and then I guess one other thing is just to some extent there’s an effect from some of this blend, extend, those type transactions we’re doing because it has a tendency to push out the rent and reduces our up front rent a little bit even with the straight line rent effect. So that’s also a little bit of it. But most of it is just tenant delinquencies.

[Jamie Feldman:]

And then where to you think we are in the cycle in terms of tenant delinquencies. Do you feel like you’re getting near the end or just at the beginning.

[Dennis Oklak:]

Well I would say, I’ll make a comment, I think we definitely, the first quarter was worse but it moved around a couple of different places in the second quarter that we didn’t expect it in the portfolio and but it didn’t get a whole lot worse. I think we’re somewhere near the bottom that most people are going to start stabilizing but still a lot depends I think on how long it takes the economy overall to start picking up. And obviously none of us know that but our sense would be that its going to be pretty slow for the next six months again. And then if you look back at some of the prior cycles we’ve gone through we would say that hopefully we’d see the industrial picking up sometime early next year but the office is going to be awhile after that. I don’t think anyone expects unemployment to top out until either late this year or early next year and then its going to take a couple of quarters after that before we start making some good positive progress on the office side.

[Jamie Feldman:]

And then I was wondering, I thought your Savannah comments were particularly interesting, can you draw anything to this point over whether it’s the port markets or the distribution markets that seem to be holding up better or is that really more just a market specific comment.

[Bob Chapman:]

That was really just more of a market specific comment. Our port markets are really Savannah, and indirectly Columbus, Ohio because of the Heartland Corridor. And I quiz our guys daily about differences in the various markets be they port and its pretty pervasive across all markets be they port or non port, large tenants, small tenants.

[Operator:]

Your next question comes from the line of Michael Bilerman - Citi

[Michael Bilerman:]

Just going back to the disposition plan and you have a very good slide in the supplemental that walks through the long-term plans, when you look at what’s targeted for the rest of the year, that $290 million, can you just give a little bit more color as to how much of that’s pretty close to being done, how much is marketing and what stages you’re at and then I guess the bucket it goes to, whether it be CBRT which I know you talked about the $50 million but just try to put a little bit more color around it.

[Dennis Oklak:]

You’re right on the $50 million to CBRT and right now in that number that’s the only thing additional we have going to CBRT. So the rest of that is just under $250 million, about half of that today is under some type of an LOI or [signed] purchase agreement, the other half about half of that would be in out there with some kind of offers on it and then the remaining half so about $60, $70 million is just being marketed right now. That’s roughly where we are with that.

[Michael Bilerman:]

And then I noticed you sold some unproductive land, is there anything in that $240 million that’s income producing today.

[Dennis Oklak:]

That doesn’t include any of our land dispositions. But we do anticipate being able to dispose of and wanting to dispose of some more land before the end of the year. Just with that market today its almost impossible to predict because obviously there’s not a lot of buyers for certain things. A lot of the land sales we’re doing today would be user sales that in some of our parks users want to come along and build their own building which there’s still a little bit of that going on around the country and so we haven’t even really made a prediction on the land sales for the rest of the year.

[Michael Bilerman:]

And then in terms of the cost of doing those deals it sounds like most of it is income producing assets I guess with the lift up in cap rates are we to assume sort of these are north of nine type deals.

[Dennis Oklak:]

It does vary across the asset type in particular I’d say, as you could see the dispositions we closed in the second quarter we are right at a nine cap. I think you’re going to probably see it stay in that level or maybe creep up a little bit in the lower nine’s because again what we’re primarily selling today which is, the assets that are very marketable, they are single tenant both office and industrial buildings. And so those are, those cap rates are holding up pretty well. If you’ve got a single tenant with good credit and a longer term lease you can get some pretty good cap rates comparatively speaking. The things that are more difficult to sell would be the things that have a little higher cap rate like multi tenant suburban office buildings.

[Michael Bilerman:]

And you talked positive about the Savannah markets, you were very pleased to get those deals done, 17 million, I guess it was done almost at the same cap rate as your dispositions at a nine, just sort of how do you look at that relative to what you sold versus what you bought with the same sort of income.

[Bob Chapman:]

I guess we traded less desirable properties for more desirable properties down in Savannah, longer term leases and the leases in Savannah are 10 year leases so 9% to 9.5% is what the market is both on the buy side and the sell side is what that tells me.

[Michael Bilerman:]

So there’s a narrowing of your [bid out] spread that you’re able to participate in. I think in your opening comments you were talking about watching the healthcare going on in Washington very closely and how that relates to your platform, I’d say the medical office platform obviously is a pretty attractive one today relative to where capital is being put out, have you thought at all and I know its strategic business for you and you’ve had good development returns, have you tabled that at all in terms of trying to monetize that at arguably what would be a much lower cap rate then where you’re selling some of the other assets.

[Dennis Oklak:]

In this environment we’re looking at all different options. As we’ve said we want to continue to improve the balance sheet. We’ve obviously made a tremendous amount of progress in the second quarter with a number of things that we did including the public offering but we also believe that we need to further de leverage and be in a position to take advantage of opportunities that may arise as the market improves for us and maybe gets worse for others. So we are looking at different alternatives. I can’t say anything specific on healthcare really but that is obviously I agree with you, that’s one that there might be a possibility but as you said it’s a strategic business for us so we really do want to stay focused on that.

[Michael Bilerman:]

In terms of your comment what changed relative to your guidance from last quarter and you talked about higher default, when you look on page 27 and you break out where the terminations came from, the stuff for default and bankruptcy was actually pretty light relative to the first quarter at only 192,000 square feet, so is it just higher bad debt outside of people terminating their lease that have just, you have a higher AR balance or what’s effectively happening to sort of reconcile those two.

[Dennis Oklak:]

Yes that’s it and we’ve just been more conservative on our reserve policy. We’ve traditionally gone all the way back to when we went public, we’ve fully reserved anyone’s receivables who was over 90 days including straight line rent receivable. We’ve been more conservative just because we’re a little bit more nervous about the tenants in today’s environment so for the most part we’re reserving anybody who gets 60 days behind and doing the same thing with straight line rent and paying just very close attention to all the tenants who look like their struggling. So yes there is more of a bad debt expense outside the bankruptcies/terminations than we normally would have.

[Christie Kelly:]

And I just want to add to some of Dennis’ comments as well, that coupled with, we’ve had some really solid success as we mentioned on our delevering and that actually also is driving our guidance if you will to the lower end as well because we’ve been much more successful more quickly then we had originally put in our plans. So to that point our dispositions are ahead of schedule and as well our financings are ahead of schedule. So that’s had an impact also and that goes to your point to. So being proactive is a good thing for where we are but it is bringing us to the lower end of the guidance.

[Michael Bilerman:]

Did that bad debt show up in the second quarter because your rental expenses dropped from $54 million in the first quarter down to $49, just trying to, is it the future that you’re going to expect your bad debt expense ramp up or is it something particular in the quarter.

[Dennis Oklak:]

The bad debt, we really use, its really reflected as a reduction of the revenue line not on the expenses.

[Operator:]

Your next question comes from the line of Michael Knott - Green Street Advisors

[Michael Knott:]

How are you thinking about your access in the future to the unsecured market, obviously your plan has been very focused on raising capital in the secured market but are you also contemplating further deleveraging of the next year or two maybe through additional equity raises in order to perhaps delever and enhance your access to the unsecured market.

[Christie Kelly:]

A couple of things, first just as it relates to the unsecured market in general, we’re keeping a very close eye on the unsecured market and to that point really looking to when it would be if you will a good trade for us to go into the unsecured market and what that means really is that we’re able to achieve overall rates below what we’re able to execute on the secured market. So we’re seeing some indications, we’ve had some positive responses in terms of rates that we could trade up but we’re not ready to do anything yet. And to the other point, as you mentioned we are very focused on delevering. So we will time that accordingly and then as it relates to any additional equity offerings I think as we discussed in NAREIT and its been very consistent with our strategy going forward, we’re not planning on accessing the equity market any time soon until we can afford the opportunity to do so which is after we’ve focused on our delevering activities. And to the extent that something comes up that’s of significant interest, let’s say here over the next year or so, we would really take a sharp shooter approach to any equity offering that we did.

[Dennis Oklak:]

When you, I think its important to point out what Christie mentioned in the script that with this secured financings that we’ve already completed and really the one other one we have coming, we’re going to pay off all of our debt maturities for the rest of this year and essentially all of our debt maturities for next year on the unsecured side which are all early in January next year. And we’ll have zero balance on our line of credit. So today we’ve got a $1.3 billion line of credit and Christie’s work with the banks now we’re comfortable that’s in the $700 to $800 million range going forward. So we’re very focused on keeping that line of credit balance at zero in case things don’t get better in the capital markets. So we think we’re extremely well positioned heading into 2010.

[Michael Knott:]

Can you expand on your comment on TALF as to why you’re not pursuing that and then can you just remind everyone what you’re longer-term leverage target is and how you, on what metric you’re using and where that stands today versus the longer-term target.

[Christie Kelly:]

First on TALF, just based on the construct of TALF there are two points, I think the program as it sits now is more designed if you will for larger lumpier assets. The other thing too is that we just don’t need to go through that, its expensive and its just not in a format that we’re interested in pursuing at this time. We’re watching it to the extent that if it evolves to something that may be of interest but its not for us. And as it relates to leverage we’re very focused as we have been to working our way first of all to 50% and below leverage and then working our way through to the 40% leverage range. We think its very important historically, Duke has operated in those levels and as a matter of fact in the 2006 time period we were in leverage ranges of 35%, 36%. So we know what it means, we know its important, we can do it and we’re going to get there.

[Dennis Oklak:]

I would just add one other ratio we added to the supplemental that we’re really focused on also today is the net debt to adjusted EBITDA and today we’re in the 6.75 range and we want to get that down into the 5% to 6% range.

[Operator:]

Your next question comes from the line of Paul Adornato – BMO Capital Markets

[Paul Adornato:]

I was wondering if you could give us a little bit more detail about the composition of the bad debt portfolio, maybe talk a little bit about the size of the tenants, the industries that they’re involved in and did you mention that you tightened the criteria for reserving for bad debt. Dennis Oklak We did, again traditionally we’ve looked at sort of the 90 day cut off and just in light of what’s going on with throughout the portfolio, we’ve pretty much moved that back to 60 days to really take a hard look at folks.

[Paul Adornato:]

Was that just a second quarter event.

[Dennis Oklak:]

We moved that direction in the first quarter. And then I would say its really all over the board a little bit but interestingly enough we’ve only got a couple of retail properties and we are seeing some of those retail tenants really struggle. And I think that was a pretty significant part of it and but its, I can’t isolate that to any specific kind of an industry or tenant, its across the board, its both office and industrial really.

[Christie Kelly:]

The only thing I’d like to add to that is just given the granularity associated with our portfolio that really doesn’t surprise us that much. We are keeping a watch and we are experiencing more of an up tick as Dennis said in retail.

[Paul Adornato:]

Anything that you could comment in terms of the size of the tenants that are experiencing trouble, smaller tenants more than larger or vise versa.

[Christie Kelly:]

Its really the span is quite small, the sandwich shop to some larger exposure areas that we’ve talked about. Its all over the board.

[Paul Adornato:]

And in terms on the flipside on new leases that you’re signing, again any break down in terms of smaller tenants kind of leading the recovery or is it too early to see that yet.

[Dennis Oklak:]

I don’t think there’s any trends. On the bulk industrial side one thing I would mention is we’re still seeing some of the larger deals get done out there again. People even in this environment are leasing larger bulk industrial spaces mainly for consolidation purposes and for cost saving purposes on their part. So we’re still seeing some pretty sizable leases get done in most of our markets but overall it’s a little slow. We don’t see the smaller leases picking up at all right now I would say. I think its really still pretty slow in that area.

[Bob Chapman:]

I’d just say on the industrial side I think it’s the, the bulk of our leases are in the 20 to 100,000 foot size and there’s the occasional large one that Dennis mentioned that we’d like to have more of actually because it would take a lot of these properties I mentioned off the table. But its really, that’s where the focus is on the 20 to 100’s. And then the same thing on the office side, sort of the medium size. Atlanta is an example on the office side, there’s really good activity in the suburbs on the 5 to 10,000 square foot tenant size.

[Operator:]

Your next question is a follow-up from the line of Michael Bilerman - Citi

[Michael Bilerman:]

I’m just wondering if you can just walk through some of the guidance items in terms of where you stand today in terms of occupancy, same store, G&A, lease term fees, service operations, and some of the key variables as we head into 2009.

[Dennis Oklak:]

The truth is I think we’re pretty much in line with all those guidance items including just general occupancy expect for the fact that I think we are experiencing the higher defaults as we mentioned. But our occupancy is probably going to come in pretty close to that original guidance. G&A I think what the numbers we mentioned that we’re looking at for third and fourth quarter were right about there. Christie Kelly To the point that Dennis was making the guidance that we had given from an occupancy perspective was in that 85% to 89% range and we are expecting to come in at the lower end of that which has been consistent with our messaging including what we were talking about at NAREIT and consistent with what we’ve seen in previous trends in terms of downturns through the life of our portfolio. Same store NOI growth we had given guidance to the negative 5% to flat range and based on what we’re seeing we’re going to come in as we had mentioned on the call towards the lower end of that which means we’re going to see some more if you will declines coming through the second half of this year which again I’m sure for everybody on this call, is no new surprise. But our team is holding their own. Lease buyouts, we’re on the modest side of our lease buyout range. As it relates to G&A we are managing our operating costs and our operations in line with the volumes that we’ve seen. We talked about the severance that we incurred and we’re keeping an eye on that every day, every week, every quarter. And we’ll be taking the appropriate actions necessary to keep our G&A expenses in line with our volume profile. And on the good side we are achieving our deleveraging quicker than we had originally planned so coupled with some of these operational areas if you will which again are within the targets that we were looking at, we are seeing a bit of if you will decline on the FFO but that’s really for the right reasons.

[Dennis Oklak:]

The only thing I would add is a point that Bob made in the remarks is one of the reasons we’re towards the lower end on that same store is our blend, extend, and don’t spend strategy. We’ve been very successful at renegotiating some very significant leases particularly on the office side across the portfolio, some maturities that were coming up in the next year or two that we really wanted to take off the table and move down the road and we’ve done that. But when we do that typically we’re providing some free rent this year, two months, three months, something like that and then making it up later on with the extended term and rental rate increases. So that is having an effect on our same store guidance for 2009.

[Michael Bilerman:]

And just going back to G&A, so I know the way you state your G&A it excludes non cash charges, is the severance, the $3.5 million that was in the quarter in your guidance number.

[Dennis Oklak:]

First of all in the year to date G&A number that includes $6.1 million of severance cost and going forward there isn’t any severance costs for the rest of the year estimated in our G&A right now.

[Michael Bilerman:]

But that’s in the 142 to 164 is the severance that has been taken.

[Dennis Oklak:]

That’s right.

[Michael Bilerman:]

And so there was effectively $2.5 million of severance in the first quarter, I don’t remember—

[Dennis Oklak:]

About $3, yes that’s right, $2.5.

[Michael Bilerman:]

And that was in the $10 million of G&A that was recorded.

[Dennis Oklak:]

That’s correct.

[Michael Bilerman:]

Just going back to lease term piece, what is the full year expectation. You had about $4.7 million in the quarter and I don’t know if you can just walk through, it was a relatively small amount of square footage, it was about 500,000 square feet so I’m just trying to piece that together in terms of whether that space has been re leased or sort of what the lost rent will be and then thinking about your total guidance for the year.

[Dennis Oklak:]

For a high level I would tell you that we’re still not seeing a lot of lease buyouts. We just, as Christie mentioned come in at the lower end of our range so probably if we’re, I think its going to be unusual, it would be unusual if we go over $10 million this year probably. And then two of those termination fees that we took we did have immediate backfills for them so we’ve offset some of that space issue, the vacant space. And that’s probably 30% of the total number so far we’ve backfilled right away and the rest is jut back on the market.

[Michael Bilerman:]

Then just on service ops, I know that tends to be volatile sometimes, $17 million year to date, what is dialed in for your full year number.

[Dennis Oklak:]

Well again I think that’s a pretty good reflection for the year, the second half of the year will probably be pretty close to that. The biggest part of that this year again is our BRAC project out in DC and that as Bob said, moving along really pretty much right on schedule and everything is going well. Obviously that’s such a big project, it is somewhat heavily dependent on timing because we recognize the fees and the land gain as we incur the total project costs, but right now we’re pretty much on schedule and targeted to be just about where we thought we’d be on volume and fees this year, maybe just a little bit less than we originally anticipated.

[Operator:]

Your next question is a follow-up from the line of Michael Knott - Green Street Advisors

[Michael Knott:]

Can you just give us a little color on the lenders underwriting on these big secured packages that you have been securing and about to secure in terms of LTV, debt yield, cap rates you’re using and also can you just comment on whether the underlying collateral for those loans are better than your average quality property in your portfolio or on par.

[Christie Kelly:]

First of all in terms of taking a step back, the underwriting debt that we’re seeing is really at sort of the 50% loan to value range. Cap rates are if you will not out of the expectation in terms of solid product in our portfolio and in terms of debt service coverage, we’re seeing in the lower end of the range, the [inaudible] usually underwrite from the 1 7 to 2 2 range and we’re seeing in the lower end of that spectrum. In terms of debt yields its in the 15% to 16% range and to that point we’ve been very focused on making sure that we get the most if you will proceeds for the NOI that we’re offering up because of the fact that industrial is in very high demand our product is exceptional as you know, and so we’re making sure that that actually translates to the appropriate loan sizing for our business.

[Dennis Oklak:]

And then on the quality of the properties its really been pretty standard properties and I think we’re very pleased because we’ve got a good mix of office and industrial in basically every portfolio that we’ve done, good mix geographically, we certainly haven’t cherry picked the portfolio for the secured debt. Christie Kelly We’ve been very conscientious about that because you can imagine that the unsecured NOI is just as important if you will as what we’re securing so when we actually embark on these secured financing initiatives we actually went through a very extensive roadmap and ensured that to Dennis’ point that we had a very balanced profile as to what we were offering up in the portfolios and that’s something that our team drove, the [life] companies and did not drive that at all. So we’re very pleased with where we are.

[Michael Knott:]

And just to follow-up on your comment on the cap rates, did you mean to say that there were sort of, the lenders were using similar cap rates to what you had outlined for your disposition expectations around 9%.

[Christie Kelly:]

They’re actually less because the disposition portfolio, that ranges in the 7.5 for example for that one unique transaction that we did in first quarter to the high 10 rates depending on age, location, that sort of thing. So I wouldn’t use the 9 as an overall.

[Dennis Oklak:]

I would say the truth is they’re not really paying as much attention to the loan to value, they’re way more focused on coverage and coverage out for the next at least five years. They’re focused on coverage and lease expirations in the portfolio is what they’re focusing on.

[Operator:]

Your next question is a follow-up from the line of Jamie Feldman – Banc of America

[Jamie Feldman:]

Just a very quick follow-up so within the 142 to 164 range, what are you assuming for the first half of 2009 FFO, what’s included in there.

[Dennis Oklak:]

I’m not sure I understand your question.

[Jamie Feldman:]

Its without any charges or one-time gains, I’m just trying to figure out what the number is that you have as the actuals for 1Q 2009 and 2Q 2009.

[Dennis Oklak:]

Its $0.84.

[Operator:]

There are no additional questions at this time; I would like to turn it back over to management for any additional or closing comments.

[Randy Henry:]

Thanks everybody, just a quick reminder our third quarter call tentatively scheduled for October 29, thanks.