Duke Realty Corporation
Q3 2012 Earnings Call Transcript

Published: 1 Nov 2012

[Operator:]

Ladies and gentlemen, thank you for standing by, and welcome to the Duke Realty Quarterly Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Instructions will be given at that time. (Operator Instructions) As a reminder, this conference is being recorded. I would now like to turn the conference over to our host, Mr. Ron Hubbard. Please go ahead.

[Ron Hubbard:]

Thank you Dach. Good afternoon everyone, and welcome to our third quarter earnings call. Joining me today are, Denny Oklak, Chairman and Chief Executive Officer; Christie Kelly, Executive Vice President and Chief Financial Officer and Mark Denien, Chief Accounting Officer. Before we make our prepared remarks, let me remind you that statements we make today are subject to certain risks and uncertainties that could cause actual results to differ materially from expectations. For more information about those risk factors, we would refer you our December 31, 2011, 10-K that we have on file with the SEC. Now for our prepared statement, I'll turn it over to Denny Oklak.

[Denny Oklak:]

Thank you, Ron. Good afternoon everyone. First, we would like to acknowledge all the people affected by Super-storm Sandy during the past week. We know that this storm inflicted unprecedented hardship and loss on many, particularly those of the East Coast where we have many friends on this call. So please note that you have been in our thoughts and prayers during this week and I would also just add as a sidebar that it appears that Duke Realty has been very fortunate and our properties have suffered minimal damage from the storm. So moving on, today I will highlight some of our key accomplishments during the quarter in both our operational and asset strategies. Christie will then address our third quarter financial performance and progress on our capital strategy. We followed up the positive momentum in the second quarter with a very solid third quarter across operations, asset repositioning and capital raising. We signed over 7.4 million square feet of leases in the third quarter and achieved extremely high tenant retention at 90%. We started $115 million of development projects, $44 million of bulk industrial and $48 million of medical office and a $23 million of suburban office project. Five of our seven new development starts are a 100% pre-leased while two projects are expected to start on our land in markets with excellent fundamentals. I’ll touch on the developments in a little more detail shortly. Our in-service occupancy increased 35 basis points from last quarter to 92.5% while our overall occupancy was relatively flat at quarter end at 91.9%. We made continued progress on our asset repositioning strategy during the quarter with a $92 million medical office portfolio acquisition and generated $34 million of proceeds from disposition of suburban office and non-core industrial and land assets. On the capital front, we issued our second unsecured bond deal of the year of $300 million offering executed at Duke Realty record low effective yield of 3.93%, further lowering our cost to capital and further extending our debt maturities. Christie will speak more in depth on our capital activities in a moment. As has been the case throughout 2012, economic indicators have been mixed and GDP growth slow. However, some key industrial demand drivers such as consumption, port traffic, the manufacturing index and trucking indices continue to trend up slightly. These demand indicators in the longer-term trends in ecommerce and supply chain modernization have put us in a great position given our high quality, modern growth portfolio. These factors are contributing to our strong industrial operations so far this year. The medical office facility business remains active, particularly on the new development side and as you know, we recently acquired two larger medical office portfolios which help us expand that piece of our business. The suburban office sector continues to be sluggish in many markets given the lackluster employment growth, but some markets are beginning to show a comeback. Looking at the remainder of the year, we expect continued steady results in our industrial and medical office businesses, yet are somewhat cautious on the overall economy going into 2013 until there is more clarity post election as to the U.S. fiscal situation. Turning to operations; we had another strong quarter of leasing at 7.4 million square feet, bringing year-to-date total to nearly 21 million square feet, above last year, at this time by over 1.5 million square feet. As noted earlier, we renewed 90% of our leases during the quarter, a testament to our best-in-class operations teams and the high quality of our properties. Run rate growth continues to be positive in most markets at 1% overall growth across the portfolio. With respect to same property performance, we achieved positive same property NOI growth for the 12 months, and three months ended September 30th, of 3.5% and 2% respectively. We expect the pace of same property growth to moderate over the next few quarters given the expected slower pace of our occupancy gains and only modest rental rate growth expected in the near-term. Now let me touch on some key activity within each product type for the quarter. With respect to leasing in our in-service industrial portfolio, we’re continuing to see fundamentals improve with the completion of nearly 1.1 million square foot of new industrial leases and about 4.9 million square feet of renewal and extension leases. Including new leases on development build-to-suites or industrial leases totaled over 6.6 million square feet. Bulk industrial in-service occupancy for the quarter rose to nearly 94%, 40 basis points above the previous quarter and more than 150 basis points above a year ago. This reflects the overall relative strength of the bulk industrial market across the country. 11 of our 18 bulk markets are over 95% leased and only three are just slightly under 90%. We do know that there are some upcoming tenant move-outs, so we will need to back though, so we do not expect to see a significant increase in that occupancy over the next couple of quarters. Some of our larger lease deals included a 598,000 square foot, five year renewal for a major internet retailer in our Cincinnati market and a 1.2 million square foot renewal for Hachette Book Group, a leading global publisher of books for their national fulfillment center in our Lebanon Business Park in Indianapolis. In Columbus, we executed a major new expansion and renewal lease for Restoration Hardware. The new 418,000 square foot expansion was combined with an extension lease on the existing 805,000 square foot facility we developed back in 2008 all for our future 15 year term. We also executed an expansion and renewal deal in Chicago at a bulk distribution facility we acquired in late 2011. The tenant Peacock Engineering signed an expansion totaling a 163,000 square feet and a lease extension at another near by facility totaling 360,000 square feet all for a blended term of 10 years. The office leasing environment continues to be challenged across most markets as expected. We maintained our in-service portfolio occupancy at around 86% for the quarter and executed over 550,000 square feet of new and renewal leases. Some markets such as Raleigh, Nashville and Houston where we started speculative office project on our land are picking up with significant new demand. Most other markets are slow with limited job growth. In the medical office sector, our team continues to take advantage of health system consolidation and the trends for greater outpatient services which continues to drive strong demand for our medical office business. Our medical office in-service occupancy increased 120 basis points from the previous quarter to 91.9%. There was also a substantial amount of medical office investment activity this quarter. We executed one acquisition, a portfolio of seven medical office assets totaling $92 million which comprises 334,000 square feet with a mix on and off campus facilities. The transaction was a sale leaseback for 15 years with the Harbin Clinic, the largest independent multi specialty physician practice in the State of Georgia. Harbin is the dominant healthcare provider in the rapidly growing region of Northwest Georgia. This was an excellent transaction on which we were directly with the tenant and their advisors over the last several months to complete. We also announced a significant MLB transaction that closed after quarter end during the month of October. We acquired a $342 million multi system portfolio that is comprised of 14 buildings totaling $1.2 million square feet. The acquisition included the assumption of $60 million of debt. The seller was [Casitas] Healthcare Properties, a private investment management firm. The acquisition is particularly significant for Duke Realty because it gives us a sizeable medical office presence in Florida, one of our targeted healthcare markets. The transaction also increases our holdings of high quality well leased properties that complement our existing healthcare portfolio in the south and southeast areas of the country, as well as expands our existing relationships with five different hospital systems including Adventist Health, Scott & White, Ascension Health and [Dinova] and with the Veterans Administration. The portfolio is currently 89% leased with over half of square footage leased to Anchor Health Systems or the VA. The portfolio has an average age of 7.5 years and average remaining lease term of 7.8 years and 13 of the 14 facilities are located on or adjacent to hospital campuses. This portfolio is one of the highest quality portfolios marketed in the last three to four years and fits strategically into our overall asset strategy. The combined Harbin and Seavest acquisitions totaled approximately $434 million and have a projected stabilized yield of about 7% with good annual rent increases. These are strong risk adjusted yields that are immediately accretive to our AFFO and provide long term rental rate growth. Including the (inaudible) deal which closed quarter end, our medical office portfolio now totals nearly $6.2 million square feet and we are now at our asset repositioning target of 15% of our total assets invested in medical office facilities. I want to congratulate our healthcare and acquisition teams for their excellent work in reaching this goal. Going forward you will see us focus less on acquisitions and more on building this MOB portfolio through new development with our many healthcare relationships. Disposition activity was relatively light in the third quarter with $34 million of proceeds, $9.4 million was from two non-core industrial assets, $8 million from two suburban office assets and $9.3 million from a medical office property held in a joint venture with the remaining proceeds on developed land parcels. Now turning to development, I'm pleased to report that our development starts year-to-date are the strongest in several years. After $259 million of starts during the first two quarters, we started another $115 million across seven projects during the third quarter, with a diversified mix of industrial, medical office, office, builder suit and speculator projects. All consistent with our asset strategy. In total we have 4.7 million square feet across 18 projects under construction that are 75% pre-leased in the aggregate. The development start this quarter, includes three industrial facilities, two projects are the expansion projects I previously mentioned. The first one is in Columbus, a 418,000 square foot expansion for restoration hardware. We acquired (inaudible) land purchase option at our West Jefferson Park and when complete the bulk industrial facility will total over 1.2 million square feet and serve as a retailer’s primary distribution center for the eastern US. The second expansion was in Chicago, a 163,000 square foot add-on to an existing 243,000 square foot facility we acquired in late 2011. On both of the expansion projects, we're expecting stabilized yields in the 7.25% range. We also started an industrial spec development, a project that briefly mentioned on the last call. It's a 600,000 square foot facility, expandable to 1 million square feet. Indianapolis fundamentals continue to improve with the current vacancy at 5.2% and rent growth averaging 2% this year. We're strategically placing this facility in the northwest Indianapolis sub-market in our AllPoints at Anson Business Park. Though some speculative industrial development is going on in the city, no other [bulk] warehouse buildings are planned in the northwest sub-market and we're 95.3% leased in our In-service industrial portfolio. We started one other speculative deal this quarter, a 158,000 square foot, phase 2 office building in Houston, transaction that I also mentioned on the last call. The project is located on the remaining 8 acres of our 42 acres Sam Houston Crossing Park in the northwest submarket of Houston. As I am sure you are all aware that Houston economy and real estate market is very strong and we have high interest in the project. We project to achieve a stabilized return north of 9% on this building. Lastly we began three 100% pre-leased on-campus medical developments totaling 181,000 square feet in Atlanta, Cincinnati and Indianapolis, with an average lease term of 15 years. Each transaction was sourced from existing tenant relationships, Northside Hospital, [Tryout] and community health. Including these three news MOB development starts, our medical office development pipeline at quarter end totals 210 million and is 97% pre leased. Moreover our medical office development pipeline remains robust as we head into 2013. Our total development pipeline at September 30 stands at 4.7 million square feet totaling 475 million of stabilized costs. We are projecting a weighted average stabilized yield of 7.3% at an average yield over the initial term of 8.1%. As you can see our development platform is once again beginning to drive growth. We are a strategic land bank and key personnel in a number of markets that are experiencing very strong real estate fundamental and we expect to execute on additional build-to-suit and selective spec development opportunities. I will now turn the call over to Christie to discuss the financial results and capital plans.

[Christie Kelly:]

Thanks Denny and good afternoon everyone. As Denny mentioned, I would like to provide an update on our third quarter financial performance as well as the progress on our capital strategy. Our third quarter 2012, core FFO was $0.26 per share, which is consistent with core FFO per share for the second quarter of 2012. We generated $0.20 per share in AFFO in the third quarter of 2012, which is slightly down from $0.21 per share in the second quarter of 2012, but under the score improved from $0.18 per share in the third quarter of 2011. This growth in AFFO over the prior year as a result of the continued successful execution of our asset repositioning and operating plan. At September 30, we now owned approximately 31% less in service office square footage than a year ago. For the nine month year-to-date measurement period ending September 30, our AFFO per share has grown 5.2% over the comparable period in 2011, which is inline with the result we predicted when we announced our asset repositioning three years ago. With regard to payout ratio, AFFO for the quarter translates into a conservative 85%, while our year-to-date payout ratio is slightly below 84%. We are pleased with our operating results for the quarter and anticipate continued solid execution throughout the rest of the year. Turning to the capital side of the business, we have successfully generated new capital through several transactions during the quarter in an effort to lower house capital and fund the continued execution of our asset strategy. In September, we took advantage of the favorable interest rate environment and successfully executed a $300 million offering of senior unsecured notes at a 3.93% effective yield. This offering represents our lowest coupon rate ever for us for a non-convertible issuance. We are very pleased with the timing and execution of this transaction and by the acceptance of our investors in the market. We utilize the capital generated during the quarter to repay $191 million of unsecured debts that matured to fund our continued development activity as well as to fund the $92 million Harbin Medical Office portfolio acquisitions. We ended the third quarter with a $113 million in cash which was utilized in October to repay $50 million of unsecured notes at [debt] maturity as well as to partially fund the Seavest Medical Office acquisitions that closed in October. During the third quarter of 2012, we issued approximately 5.8 million shares of common stock under our $200 million ATM program, generating net proceeds of approximately $85 million. Since the end of September, we have issued an additional $1.5 million of our common shares which generated net proceeds of approximately $22 million. We have been strategic in utilizing our current ATM program and issuances to-date have averaged $14.87 per share. Proceeds from this ATM program have been used to fund our acquisition and our development activity as we've communicated. We generated $34 million in proceeds from non-strategic asset dispositions as Denny previously mentioned. We also expect disposition proceeds to increase significantly during the fourth quarter. These proceeds will also be used to fund acquisitions and development expenditures including the Seavest MOB acquisition. Our liquidity is very solid. We had no borrowings outstanding on our $850 million line of credit at September 30 and after the previously mentioned $50 million of unsecured debt that was paid off in early October; we have no significant debt maturities until May of 2013. I will conclude by saying that I'm very pleased with our results for the third quarter and we believe we have continued to execute on all aspects of our strategy. And with that I will turn it back over to Denny.

[Denny Oklak:]

Thanks Christie. Yesterday, we narrowed our guidance for FFO per share to $1 to $1.04 for 2012. And we are confident about our opportunities for the fourth quarter. In closing, after a solid quarter we believe our value creation story is gaining momentum as our operations continue to improve with strong occupancy, modest rental rate growth, our capital raising continues to be highly efficient, our delevering plan is on target and our asset repositioning continues with a solid development pipeline and the demonstrated ability to execute strategic acquisitions and dispositions. Thanks again for your support of Duke Realty and now we will be happy to open it up for questions.

[Operator:]

(Operator Instructions) Our first question will come from the line of Brendan Maiorana [Wells Fargo]. Please go ahead.

[Brendan Maiorana:]

Christie, I had a question with the outlook on leverage. If we go back to the beginning of the year or if we just look at what you guys have done this year, acquisitions net of dispositions are $575 million. You have done $370 million of development starts not spending. And at the sometime, I think your ATM issuance today, if we layer in the amount that you have done, that’s for October, I think it's probably somewhere around $250 million, $260 million. It seem like your leverage is moving up at a time at the beginning of the year when you expect the leverage to move down. What are you going to do to get leverage down?

[Christie Kelly:]

Brendan, I just want to say, as it relates to leverage, we have basically held that plan with second quarter performance. We went out in the second quarter with a $300 million offering and we also went out this quarter with a $300 million offering and we've been balancing the compliments associated with our asset strategy, really effectively over the last couple of years as it relates to capital strategy execution. As we look forward, we're going to keep pulling the levers that we've put in place to manage our leverage which also include non-strategic dispositions that we've outlined and so, specifically what we are going to do get our leverage executed as it relates to our longer range target is continue to execute on non-strategic dispositions and as well to the extent that we are funding growth, we're going to fund growth with 60% associated with both equity issuance as well as dispositions. And we are just going to keep on, specifically as you look forward to 2013, we are committed to our goals and view that we are on track to execute those goals as I had communicated previously.

[Brendan Maiorana:]

So I guess just sort of thinking about that from a high level, if your goals are still that I think debt-to-EBITDA, debt plus preferred EBITDA of 7.75 times and debt plus preferred to over GAV of 50% and you are going to fund that kind of the growth with 60% equity, call it 40% debt at the margin and then delever via net dispositions, is it is that suggesting that to get to those leverage targets that there is a reduction in the asset base because it would seem like there would need to be more equity issue if you were going to meet those targets with growth in the asset base?

[Christie Kelly:]

Brendan what we said is that we are going to keep our business effectively the same and that’s the way we have really driven forward and so specifically as it relates to equity what we have said is that we are looking to issue equity wrapped around our strategy acquisition and we are also issuing equity very prudently as I had mentioned we have that ATM program out for two years before we pull the trigger and specifically as it relates to the overall price performance on the second ATM program that’s overall been at $14.87 and so while I would love to just snap my fingers and have our multiple specifically inline with our peers particularly if you look at AFFO and the fact that we have moved billions of dollars worth of product in terms of non-strategic dispositions and really grown AFFO. Hence, kept a very modest coverage ratio, I would love to have that all work, and so we are working at every single day to make sure that we are executing in the best interest of our shareholders and still bring our leverage in alignment with everybody on the phone and our investors would expect of top quality (inaudible) such as ourselves.

[Brendan Maiorana:]

Sure, and then the other question I had was just with respect to guidance, if I look at, it’s sort of a same question what you have got, your acquisitions were more than expected dispositions thus far it had been a little bit than expected. And it seems like your core operating metrics are trending ahead of expectation, so you are still sort of towards the midpoint, you are couple of pennies ahead had but you are kind of near the midpoint, is there, was it just more issuance on the ATM or was it the September debt offering, what caused you from not having your underlying earnings guidance be a little bit higher?

[Christie Kelly:]

Well, first Brendan, I just want to remind everybody and I know you this is that we bunked our guidance last quarter $0.02. We are also taking the range and the midpoints above consensus and you are right. We have been outperforming in terms of operations and as well we’ve really been keeping pace with our peer set as well as outperforming in the market. And in terms of execution, the quality of the earnings is very strong. It’s really just a matter of timing as well as the fact that we have really invested accretively as it relates to development, and that’s going to take a little while to come on line, but over the long term those are really value accretion plays for our shareholders. So I think the message that I would leave everybody with is that we have solid performance, we are executing ahead of plan, we are specifically driving shareholder value and you can expect us to do that going forward.

[Operator:]

Our next question will come from the line of Josh Attie with Citigroup.

[Josh Attie:]

Can you tell us what the line of credit balance today after all the deals that you've announced in October?

[Christie Kelly:]

After all the deals that we've announced in October Josh, we've got $150 million to $200 million.

[Josh Attie:]

And how much, you know you've already brought the suburban office portion of the portfolio down to around 30%, how much more non-core is there to sell?

[Christie Kelly:]

$500 million or there about.

[Josh Attie:]

Okay, and how do you think about I think there's also, you have almost $180 million of high coupon preferreds that mature or that are redeemable early next year, how do you think about funding that; do you have a pipeline of asset sales that a lot could get done between now and then, how should we think about those preferreds whether you plan to redeem them early and how you would potentially fund that?

[Christie Kelly:]

We have a strong pipeline of disposition Josh and I'll turn it over to Denny to just to comment a bit on the market and what we are seeing out there.

[Denny Oklak:]

Josh, I think the first thing I would point out is we can't redeem them early, they are not redeemable until February of next year. So otherwise we probably would have done that

[Christie Kelly:]

We've chipped away at everything that we possibly could Josh since the ’09 time period as you know.

[Denny Oklak:]

And so yeah as Christie said we still have some room to go to get us down to our 25% target overall on the suburban office piece. As you noted we are at about 30% to 31% right now. So we are still focused on selling some of those non-strategic assets which will get us there. And as Christie mentioned in her prepared remarks and I guess going back and looking we really haven't had a balance on our line of credit for a year now. This is sort of the first balance of any that we've had since we did the Blackstone transaction. And that's really the way we are operating today. We are not running a balance on our line at all except for miscellaneous timing differences. So our intent is to at year end with the closing of the dispositions we have in the pipeline here to have again, no balance on our line at the end of the year and then we will just have to see what our close is as to how we fund those preferred, potential preferred redemption in early next year or actually late February next year. So I don't know that we are in a position to exactly answer that yet until we see how the dispositions at close go in the fourth quarter.

[Christie Kelly:]

And again, I would just like to reiterate that we are just going to keep doing what we've been doing and from the perspective of really managing our cash flow forecast together with the acquisition, development and disposition, we have a very good perspective on what it is that we need to do. We're involved in following the market every day so that we can pull the trigger at the right time to the extent that it makes sense to do something from an equity perspective and we're just going to keep, we're going to keep adding.

[Josh Attie:]

If I could just follow up on the dispositions, you did a lot last year, you did about $115 million to-date and if you take the preferred redemption, the line of credit balance, that’s about $300 million of asset sales or capital between now and February or March, can you just talk about what you have in the disposition pipeline? Is there a lot of good activity? Are there large and chunky deals and that’s why the activity has been slower year-to-date?

[Denny Oklak:]

So, I would say, yes to both of those. I guess, first of all, I would say, what I said was, I believe with our dispositions in the fourth quarter, we won't have a balance in our line of credit from like the Seavest and Harbin acquisitions. And actually we didn’t have a line of credit after the Harbin, didn’t have a balance on the line after the Harbin acquisition. So we actually have a $113 million of cash at the end of third quarter. We paid down some $50 million of the debt. The rest of that went basically towards to the Seavest acquisition and then I think with the disposition proceeds in the fourth quarter, we’ll basically took care of Seavest. But what I also said, Josh, I think it's still even though it's only three months away, it's still little early for us to exactly tell you how we plan to redeem those preferred shares in February, because we’ll just have to see how the disposition plan goes over the next three months. And then going back to your disposition yeah, it has been relatively slow for the first basically nine months of this year on the disposition side because we have been working through some tougher assets, smaller portfolios, but we have also been marketing some larger portfolios and I think you will see that overall disposition activity pickup in the fourth quarter.

[Operator:]

(Operator Instructions) Our next question will come from the line of Jamie Feldman with Bank of America.

[Jamie Feldman:]

I guess just kind of bigger picture right in terms of leverage, do you guys feel may be that heading into what could be a recovery, may be it makes sense to have a little bit more leverage and take advantage of lower rates; I mean has something changed in your though process? And then along the same line, just looking at the supplemental, year-over-year your net debt to EBITDA metrics haven’t moved all that much, but if you were bake in kind of where we stand today in terms of the acquisitions you have done and then may be and including the EIBTDA from those acquisitions; those were materially better?

[Christie Kelly:]

I’ll start with the later part of your question first; I mean that’s a matter of timing right. We ended up by executing the Blackstone transaction here on this a year ago and with that $1.80 billion acquisition that had some EBITDA that went with it and we have been reinvesting for EBITDA generation and as it relates to the outlook, yes it’s very solid and stronger EBITDA profile than what our company had before, so positive. As it relates to leverage, we are committed to delevering our balance sheet and specifically that's why you have seen us be very measured in terms of what we have executed from an unsecured debt perspective. We do not view that levering up in this environment is the right thing for our shareholders and we are able to run our business in a disciplined fashion such that we can appropriately manage the investments from the acquisition and development perspective and fund it accordingly without levering up.

[Jamie Feldman:]

So in terms of numbers, what is the proforma net debt to EBITDA at today, and then what’s your goal?

[Christie Kelly:]

Today, we closed the quarter with debt plus preferred EBITDA at a little north of 8 and 8.4 and in terms of the target for 2013 is to bring under at 7.75 which we’re committed to do.

[Jamie Feldman:]

Do you think, it has moved as a result of the post quarter transactions?

[Christie Kelly:]

Jamie, in terms of post quarter transactions, I mean I can get back to you on specifically, what that is, as it relates to proforma; I am looking at it on a longer term basis given almost $500 million that we have got invested in development. The significant amount of acquisitions that we have executed over the past 2.5 years and further the income generation from the outstanding operating performance of our in place portfolio.

[Jamie Feldman:]

Okay, and then just turning to operations; I mean, how are you guys doing on the kind of continuation of the warehouse recovery; it had a very good year to say, even like this you don’t have two years, do you feel like we can continue the momentum here; you feel like maybe its losing a little steam, how are you looking ahead and what are the key drivers.

[Dennis Oklak:]

Jimmy I think its still pretty strong out there right now. I mean reasonably strong and steady. I don't really feel like there's anything that's pushing us back. I would also say that I still wouldn't call us in any kind of a boom in the industrial business, I mean we certainly picked up on occupancy really across the country, the occupancies are in pretty good shape. There's still I qualify this except for Southern California. There's still relatively little spec development going on around the country, so we are not in what I would call a high growth mode, but leasing activity is still pretty strong and I think when you look at an economy that's growing at between 1.5% and 2% I think we should all feel pretty good about the industrial fundamentals and how they have been. Again looking forward, pending of some kind of resolution to the whole fiscal cliff issue, I think we are looking at again in 2013 growth like we've seen this year in the 1.5% to 2.5%, and I think if that occurs we will see continued slow and steady improvement in the industrial business. You know if the fiscal cliff causes the economy to turnaround and go into a recession or negative growth next year than it’s probably a different story. I think we will see some stagnation in the industrial business if that happens and probably most other businesses.

[Christie Kelly:]

My only point there is, as it relates to Duke Realty we have very modest lease rollover and some of the longer lease terms in the industry. So as we look at what's in front of us and as it relates to the risk profile, whether that be asymmetric to the downside or not, I would say we have a very solid performance profile going forward. The only other thing I will add to that too, is as it relates to our progress to date, our beta has come in significantly and something that we track every month, every quarter, every year and we have improved our beta over 20% over the past year of execution on our asset strategy which has been better than office, industrial as well as the healthcare comps and over the five year average we’ve brought that in 30%. So we are very focused on making sure that we have the right risk profile and further to that are prepared for any risk off sort of environment that we maybe heading into for 2013.

[Jamie Feldman:]

Okay and then I think on the call you had mentioned some known move-outs that you are now expecting warehouse occupancy to grow, can you talk us through some of those.

[Dennis Oklak:]

Yeah, there's a couple of bigger ones that come up, I think mostly early next year. The one that I would mentioned specifically is Wal-Mart in Savannah is an 800,000 square feet. They have given us notice that they are not going to renew that lease. And then it’s a combination of a few again also in that several hundred thousand square feet and I'm not talking about 50,000 square feet or so, I'm talking about a few bigger ones. So we just have some work to do on that (inaudible).

[Jamie Feldman:]

Anything on the office side?

[Christie Kelly:]

Not really.

[Dennis Oklak:]

No, not really. I can’t think of anything significant on the office side coming at us. What's hurt us more on the office side over the last 12 months is some unanticipated bankruptcies. So, hopefully we don’t have anymore of those coming at us.

[Jamie Feldman:]

Okay, and then finally, just looking at the same store page, so medical office you got 8.1% NOI growth, you had 0.9% occupancy growth. Can you just talk us through some of those numbers? How do you get such big revenue growth and such big expense growth in that business and then also you had mentioned those bumps on the new acquisition? What's the magnitude of those bumps?

[Dennis Oklak:]

Well, first of all, all are the same property in the medical [offer], I think you have to remember that’s a relative small portfolio still today and it's a relatively new and growing portfolio. So a lot of that increase of NOI, I will call in excess of occupancy is really some (inaudible) free rent that has been out there but then, there is also again within that portfolio, there is good annual run rate increases, higher than we would see on the industrial side, pretty much throughout that portfolio and that’s generally in the 2% to 3% range, sometimes even a little higher than that, and that would also be true of the medical office acquisitions that we recently completed.

[Operator:]

Our next question comes from the line of John Stewart with Green Street Advisors. Please go ahead.

[John Stewart:]

Denny, I know you referenced the fiscal cliff and just the wild card there and talked about reducing the risk profile from an operational perspective, but how do you think about levering up a bit here with some of the acquisitions that you’ve made out of that uncertainty?

[Dennis Oklak:]

Well again John what I would say is we don’t view that we are levering up. We’ve always said through this repositioning cycle that we have been going through here that things aren’t going to always match up. Sometimes dispositions would occur before acquisitions and sometimes acquisitions would occur before dispositions. But I think if you look at our history over the three years or so in doing this, we were pretty fortunate and matched them up pretty well, and so what we are seeing is that we still think we have got that matching going on and by the end of this year everything should be matched up again and nobody will think that we have levered up to do this.

[John Stewart:]

By the end of this year, okay. And then Christie you had mentioned that you would contemplate an equity issuance wrapped around a strategic acquisition do you see best one such?

[Christie Kelly:]

John we thought about that, and given the strength of the disposition pipeline and what we saw coming for in front of us that we didn’t really think that that was the appropriate response for our investors.

[John Stewart:]

Okay, so in other words we shouldn’t expect to taking Denny’s comments about having everything lined up by the end of this year. We shouldn’t expect a marketed deal between now and year end if there is any equity issuance they would likely be on ATM?

[Dennis Oklak:]

I would say that’s probably right John, and again it just depends on how the disposition activity goes and where a lot credit balances because we basically said we are trying to keep that line of credit eventually zero and timing wise it will go and down little bit, but we want to keep it at zero.

[John Stewart:]

Okay, and then last week Denny just wanted to get your thoughts in terms of whether you think you are being compensated or what you think as the appropriate margin to be compensated for the risk of development specially when you think about kind of stabilize yield on the pipeline of 73 and cap rates here at 7 stabilized, do you think you can buy that?

[Dennis Oklak:]

Well, I think when you look at our development pipeline today, John it is really, I would say pretty nominal risk in it. That called $475 million pipeline is 75% freely since most almost all the vacancy is in those three spec holdings that we started in the second and third quarter this year. So I think we are taking very, very minimal risk almost, the rest of the pipeline is basically 100% lease build to suits. Most of it on the MOB side but I guess a little bit of the industrial like those two expansions that I mentioned that are also 100% lease. So I really think there is almost no risk in our development pipeline today.

[John Stewart:]

This is a fair point, but also with those kinds of margins, you are not creating a lot of value either?

[Dennis Oklak:]

I would tell you, we are when you look at those. Again a lot of this are MOB with buildings, with 15 leases (inaudible) 15 years with high credit tenants, then those are going to trade at fix cap today, I think even getting a 100 or 125 basis points or more yield we are creating some value there, a lot of value.

[Operator:]

(Operator Instructions) looks like we have a follow-up question from the line of Brendan Maiorana with Wells Fargo.

[Brendan Maiorana:]

So Denny a follow-up, just wanted to ask you a little bit about the Houston spec office building. Houston is not a big market for you guys especially on the office side and I guess from your prepared comments this is an add-on into the existing parks that you guys have, but should we take this deal as indicative that you are likely to grow more in Houston and specifically on the office side?

[Denny Oklak:]

No, I guess that's two different questions. One is yes, I think we are likely to grow more in Houston but two, not on the office side. Again, this is a site when we first moved into Houston five years or six years ago now I guess. We bought one site right on the eight (inaudible) on the northwest side sort of north northwest. We built a spec building just basically an identical building to what we are building now. We leased it up to a 100%, it’s a 100% leased today and we have ones we’ve sold some of the land and we had one site left to again just do a rear building right on the (inaudible). So that market is so strong right now, I mean the office vacancy in that submarket is under 5% and so and it was a lot of demand in the market. So we just made a decision now is the right time to start that building and we've got I would say, I think that building is a 158,000 square feet, I would say we've got 450,000 square feet of prospects for that building today and its not going to be done until mid next year. So we feel really good about that one and its just one of those isolated areas where we had a piece of ground that it was time of build on.

[Brendan Maiorana:]

And related to that and we've had this discussion about land periodically for the past several years, but I don't think you and I at least have talked about it. Over the past couple of quarters your land balance its over $2 a share and its remained relatively high and I know that the amount of development starts that are out there are somewhat sluggish and some of the development that you are doing is build-to-suit that's not on land that you have an inventory now, but do you see a pathway to getting that balance down to more reasonable levels over the next few years or do you think in this, and you call it a 2% economy that its just going to be a higher balance than you would like to carry for a while?

[Denny Oklak:]

Well, a couple of things I would say relative to land and development combined here. First of all, it’s been pretty difficult to really sell any land in this market. The last two years have been two of the slowest years we've ever had on just selling land in the more like $20 million to $30 million range. So we've had a little success there and but not a whole lot. Second, development has been pretty slow but I think as far as the industrial and the office development that we've started, we've employed some land there which is good and this for example some of the expansion work we had, we put on our land. We've done some build-to-suits on our land over the last couple of years in the industrial side and then on the office side, that Primerica deal, that office deal we got going in Atlanta was a 15 year lease with Primerica who is A rated company and that use some of our land for our legacy part and then I take a lot of, all of spec development that we started, the three projects were on our existing land. So now I think we're starting to see an acceleration of deploying that land in the development and then the final piece, I would say, our land is, the medical office business doesn’t really, we don’t own any land for that and really don’t employ any of our land generally speaking and if we are employing our own land, we buy it right as we are starting the project. So a lot of that is on long-term ground leases. So yeah, if you could always target the exact amount of land that you wanted to own, certainly over the last three years or four years, we would have owned as much as we did but now we got some really key strategic land positions there and I think we are going to be able to take advantage of them as development picks up.

[Brendan Maiorana:]

If you are $613 million today? Where do you kind of see that balance trending over the next several years and where would you like to get eventually?

[Denny Oklak:]

Well, I think we probably want that somewhere down in $350 million to $400 million. We would probably be more of a target for us and there is couple of reasons for that but two other major ones are increase in our MOB business because we don’t need land for that and now that’s going to be 15% of our business and actually right now it’s been a higher percentage than that on our development business. And then second, the suburban office piece of the business is more expensive land then the industrial piece, so that’s now down from if you think about where we started this repositioning which was sort of in the middle of this downturn, we were at 55% suburban office and so now we are down to around 30% right now. So going forward, I think you are going to see a lot lower investment and may be even almost no investment in suburban office development land.

[Brendan Maiorana:]

And about how long do you think it will take to get down to those levels?

[Denny Oklak:]

Well can you tell me what the economy is going to be like for the next two years or three years then I can answer that question.

[Brendan Maiorana:]

Let’s say it’s the same as it is?

[Denny Oklak:]

I think it will take us at least three or four years to get there.

[Operator:]

We have a follow-up question from the line of Josh Attie with Citigroup. Please go ahead.

[Josh Attie:]

Thanks. On the suburban office portfolio the same-store growth has been flat to up year-to-date and the occupancy has been kind of flattish, can you talk about what the driver that growth has been and also what the rent spreads are?

[Denny Oklak:]

Well, Josh I would say couple of things, the occupancy has been relatively flat because strategically to get to our target when we lease up a building we it’s ready to sell, we sell it, if it’s not in our one of our longer-term strategic market. So some of that occupancy stay in right there at 85% to 86% level it’s been driven by our strategic plan. As far as the same-store growth goes, we have been, I would say that portfolio generally speaking has been pretty stable especially post Blackstone disposition, some markets have gone up a little bit and been good as I mentioned earlier. Our occupancy in Raleigh today is I think 94.5% on the suburban office site, so it’s been very strong. We struggled a little bit in St. Louis. We have lost a little bit of our occupancy there, but if you look at in the aggregate it’s been pretty stable. So we’ve at least been able to hold our row and generate a little bit of same-store growth from that property even in this environment.

[Josh Attie:]

What kind of role, what have been the rents spreads on new leases generally that portfolio?

[Denny Oklak:]

Well, last year a little bit positive, but I think when you look back at that portfolio most of, a lot of that is in the markets where we had big fluctuations in rent. So we haven't had any big decreases in rental rates for the most part on that portfolio.

[Josh Attie:]

It’s flat up on a GAAP basis or a cash basis?

[Denny Oklak:]

GAAP is how we count.

[Josh Attie:]

So probably down a little bit on cash?

[Denny Oklak:]

Potentially but not much, I wouldn’t say because, I would say we would also say we don’t get as bigger bumps in rent on suburban office side as we are getting on clearly medical office side and probably not even on industrial today.

[Josh Attie:]

Okay, and then one more question on the build-to-suite industrial project in Chino, that opens I think early next year, what's the activity and there's nothing leased yet, what's the activity been and do you expect that to be fully leased when it opens or will it take 12 months after it’s finished to kind of lease up?

[Denny Oklak:]

Yes, it won't be complete until I think towards the end of the first quarter next year. The activity has been pretty good. We've had some pretty good discussions with folks. We are probably going to want to since we are starting limited spec development out there, we are going to be more inclined to hold what we want our rental rates to be especially I would say that market, so I can't really say whether it will be leased, when it opens fully leased, but I think it will lease in what our proforma timeframe was for that development.

[Operator:]

We also have another follow-up question from the line of Jamie Feldman with Bank of America.

[Jamie Feldman:]

Denny, similar to the question I asked on warehouse, can you talk a little bit more about suburban office in terms of I know you had mentioned some markets that are getting stronger, but in general there has been a lot of talk about less space per employee, tenants wanting more efficient space, wanting new construction, kind of what are you seeing across your entire portfolio outside the top markets that maybe further drag on the recovery rather than just job growth?

[Denny Oklak:]

Well, Jamie, I think we've seen the trend of less space per employee and a few of those different things now for the last decade probably. So I think that trend is maybe continuing, but that was probably about out of steam, because you just can't go any further. And then the other thing that happens is our parking rate is parking, really because our parking ratio used to be 3% to 3.5% per thousand square feet. Today we are building them at maybe 4.5% to 5.5% per thousand square feet if we are building them or some tenants are demanding that. So it just gets harder to fit more people in there. And then if you try to do that then your cost goes up, you know new construction can't compete because the cost goes up, because of the office land, you need more land to put that parking or you need to build that. So your basis goes up. So again I think there are some competing factors there. I would say that I think the main driver of the suburban office business today is really demand and how companies, how confident companies are feeling. So when we see growth, we see companies whose business is doing really well and they need more space and they are expanding. In most other places we just see companies just holding the same or even slightly downsizing when they want to renew. And I think that's just been a consistent theme, and even though we are starting to see some job growth that appears maybe a little bit more than we were only in certain markets are we seeing that translate into the net significant net absorption in the suburban office business.

[Operator:]

(Operator Instructions) At this time, there are no further questions on the call.

[Denny Oklak:]

I would like to thank everyone for joining the call today. We look forward to seeing many of you at NARIET Conference in San Diego in a few weeks. Or if not, we will reconvene during our fourth quarter and year end earnings call in late January. Thank you.

[Christie Kelly:]

Take care, everybody.

[Operator:]

That does conclude our conference for today. Thank you for your participation and for using AT&T Executive Teleconference. You may now disconnect.