Elme Communities
Q3 2015 Earnings Call Transcript

Published: 23 Oct 2015

[Operator:]

Welcome to Washington Real Estate Investment Trust Third Quarter 2015 Earnings Conference Call. As a reminder, today’s call is being recorded. Before turning the call over to the company’s President and Chief Executive Officer, Paul McDermott, Tejal Engman, Director of Investor Relations, will provide some introductory information. Ms. Engman, please go ahead.

[Tejal Engman:]

Thank you and good morning everyone. Please note that our conference call today will contain financial measures, such as core FFO and NOI that are non-GAAP measures as defined in Reg G. Please refer to the definitions found in our most recent financial supplements available at www.washreit.com. Please also note that some statements during this call are forward-looking statements within the Private Securities Litigation Reform Act. Such statements involve known and unknown risks, uncertainties and other factors that may cause actual results to differ materially. We provide these risks in our SEC filings. Please refer to Pages 8 to 22 of our Form 10-K for a complete risk factor disclosure. Participating in today’s call with me will be Paul McDermott, President and Chief Executive Officer; Steve Riffee, Executive Vice President and Chief Financial Officer; Tom Bakke, Executive Vice President and Chief Operating Officer; Drew Hammond, Vice President, Chief Accounting Officer and Controller; and Kelly Shiflett, Vice President, Finance and Treasurer. Now, I would like to turn the call over to Paul.

[Paul McDermott:]

Thank you, Tejal and good morning everyone. Thanks for joining us on our third quarter 2015 earnings conference call. We have generated a significant increase in leasing momentum across our portfolio this quarter, which delivered core FFO of $0.45, a $0.03 increase over the second quarter this year and a $0.02 increase over third quarter 2014. We are especially pleased about the strong uptick in leasing momentum at our three needle movers, Silverline Center, The Maxwell and 1775 Eye Street in the third quarter, which has been our busiest period so far this year. We believe these three assets will contribute $0.20 to $0.23 of NOI upon stabilization and are expected to be important drivers of our NOI growth as we execute the anticipated sale of additional legacy assets. Let me start with the Silverline Center, where we are in active discussions with four large prospects, all requiring at least 70,000 square feet of space. While we cannot accommodate all four prospects in this 532,000 square foot Class A office building, the high levels of interest and activity we are experiencing have validated our value-add repositioning of this asset, as well as our differentiated pricing strategy that offers excellent value in Tysons Corner. Silverline Center is 65% leased today and is currently expected to stabilize by the end of 2016, with economics that are in line with pro forma. The Maxwell, our 163 unit Class A multifamily development, is now 84% leased with a weekly leasing run-rate and price per foot that have met underwriting expectations. The Maxwell remains on track to stabilize by year end. Finally, 1775 Eye Street is 89% leased with two leases in final negotiations that will take the asset to 97% leased. This Class A office building in the heart of the CBD was 52% leased when we contracted to acquire it last year. We have had perspective tenants competing for space in this asset, which has met our pro forma and lease up timing, as well as rent expectations. More importantly, 1775 Eye Street demonstrates the new Washington REIT’s ability to take calculated risk in specific submarkets and provide a value added execution. Moving on to our 2015 dispositions, we successfully sold Country Club Towers in the first quarter and have closed on the sale of Munson Hill Towers this week for $57 million. Similar to Country Club Towers, Munson Hill is a multifamily asset located in a submarket, where we expect slower growth than the rest of our multifamily portfolio. Both of these sales demonstrate our ability to reallocate capital to higher growth assets, such as The Wellington, whose acquisition is being funded for the most part by asset sales. These include the sale of one parcel of land for $14.5 million that closed this quarter, as well as the sale of one retail asset expected to close by year end. We have one final parcel of land under contract and now expect that sale to close in the second quarter of 2016. We are close to selecting a broker to assist us with the evaluation and sale of approximately $250 million of primarily suburban office assets that are well-leased, unencumbered by debt or ground leases and should be well-received by the investment community. We expect to have these assets in the market within the next 30 days. While the sale of these assets represents a programmatic step to elevate the quality of our portfolio, we continue to evaluate the growth potential of all of our assets in an ongoing effort to proactively reallocate capital to higher growth assets with lower risk profiles on an ongoing basis. These include development and redevelopment opportunities embedded in our existing portfolio. While our guidance does not contemplate additional acquisitions this year, we continue to search for off-market value-add opportunities similar to the Wellington. While originating these opportunities may appear challenging to the outside, the acquisitions we have deployed recycle capital into, thus far, demonstrates our strength in identifying and executing deals that create value for our shareholders. I would now like to discuss our re-tenanting and repositioning plans for 2445 M Street, a 290,000 square foot Class A office building in the West End, following the Advisory Board’s announced future move to a 500,000 square foot development in Mount Vernon Square. The Advisory Board’s lease expires on May 31, 2019, which as of this earnings call leaves us with 3.5 years of rental cash flows. We have been planning for this contingency over the past year as it became progressively apparent that the Advisory Board’s final space requirement will be greater than 500,000 square feet and more than we could accommodate. The Advisory Board has, at its own expense, upgraded the asset with a state-of-the-art conference facility, as well as a contemporary self-service café and fitness center, investing over $15 million to enhance its marketability. The West End remains well sought after and our building enjoys one of the most desirable locations in the submarket surrounded by numerous restaurants and high-end hotels. We have already received inbound inquiries from tenant representatives and expect to have an anchor tenant signed before the Advisory Board’s lease expires. And early recapture of the space prior to lease expiration would be optimal for us. We are currently evaluating the most cost effective and value enhancing repositioning of this building and our preliminary analysis indicates that the capital required for this asset will support the Class A rental rates projected in mid-2019. Now, I would like to touch on some of the broader trends we are seeing in the overall PC market. While there was an improvement in office leasing activity across the region in the third quarter, the market remained bifurcated with continued divergence in the performance of quality, urban infill metro centric assets versus commodity products. While concessions remain high for both types of products, we are seeing a marginal increase in face rents for quality, amenity rich assets that are close to metro. Conversely, rental growth and commodity product remains flat. That said market participants are looking to the thaw in government leasing to drive demand for Class B office products. Our office portfolio continues to outperform most submarkets and our strategy remains to compete aggressively for deals in our projects undergoing lease up, such as Silverline Center. We continue to focus on tenant retention and the ability to strategically push rents higher when appropriate to do so. Our retail portfolio continued to experience strong rent growth from new and renewing tenants despite mixed results in the overall regional retail market. Over half of our retail assets are neighborhood, grocery anchored centers, which continue to be strong performers. Going forward, we expect retailers to continue to benefit from the strong demographics in our region. Multifamily supply continues to deliver at elevated levels with 13,200 units delivering in the past 12 months. Although record setting demand has surpassed the recent supply additions, increased competition has led to high concessions, which have negatively impacted effective rents. The good news is that construction starts have decreased by nearly 20% over the past year, which bodes well for an improved supply/demand balance by the end of 2016. Now, I would like to turn the call over to Steve to discuss our financial and operating performance.

[Steve Riffee:]

Thanks Paul and good morning everyone. Third quarter core FFO of $0.45 per share increased 7.1% compared to the second quarter this year and by 4.6% compared to the third quarter of 2014. Same-store cash NOI increased 20 basis points year-over-year, as 1.1% increase in cash rental rates more than offset the negative impact of higher operating expenses, including DC real estate taxes. Our 2015 full year same-store NOI guidance has been impacted by a 13% increase in DC real estate taxes. Core funds available for distribution or FAD was $0.36 per share, for the full year we expect a core FAD payout ratio in the mid-80% range. Third quarter office same-store cash NOI grew 2.2% year-over-year, driven by 1.9% of cash rental rate growth and 10 basis points of physical occupancy gains over the prior year. We benefited from annual rent increases at several of our office properties this quarter and grew office occupancy to 90.8% by quarter end. Office leasing increased by more than 120% over the second quarter and by almost 250% year-over-year. We leased approximately 285,000 square feet of office space with 93,000 square feet driven by new leases signed in the quarter. Four new leases, we experienced a 32% improvement in GAAP and a 17% improvement in cash rent spreads. For renewals, quarterly percentages were skewed by one short-term lease, where we were able to reduce a significant prior capital commitment for lower short-term rent. Excluding this lease, our office renewal rate was 1.4% higher on a GAAP basis and 4.7% lower on a cash basis and is more indicative of the current market. Retail experienced strong cash rental growth of 2.5% year-over-year. Retail same-store cash NOI declined 3.4%, primarily due to a full quarter impact of the tenant move-outs that occurred in the second quarter. We have released these challenging vacancies with rents commencing in mid-2016. As a result of this leasing, retail percent leased was 94% at quarter end with the new leases expected to commence in mid-2016. Retail leased approximately 128,000 square feet this quarter with 74,000 square feet driven by new leases signed in the quarter. Retail rental spreads continue to be strong. For new retail leases, we experienced a 24% improvement in GAAP and a 15% improvement in cash rent spreads, with renewals seeing a 15% improvement in GAAP and a 10% improvement in cash rent spreads. Moving on to multifamily, although our region has experienced another quarter of record selling absorption, it has been challenging to grow both rents and occupancy in certain submarkets. While we increased multifamily same-store NOI by 80 basis points over the second quarter, driven by 10 basis points of rental rate increases, we experienced 110 basis points of occupancy declines. We continue to compete to maintain and grow occupancy in the phase of record deliveries, which are projected to subside by the end of 2016 and beyond. Turning to guidance, we tightened our 2015 core FFO expectations by $0.02 to a range of $1.68 to $1.70 and lowered the midpoint by $0.01 per share to $1.69. The following assumptions underpin our narrowed guidance range. Overall, same-store NOI growth ranges from flat at the bottom end to positive 1% at the top end. The same-store office portfolio’s NOI is expected to grow 1% to 1.5%. Retail ranges were negative 2% to negative 1% and multifamily is expected to be a little over negative 1% at the bottom end to flat at the top. We continue to expect $0.01 per share NOI contribution in 2015 from The Maxwell, which remains on track to stabilize by year end and to contribute approximately $0.04 to $0.05 of NOI per share annually upon stabilization. We expect Silverline Center to contribute $0.06 to $0.07 of NOI per share in 2015 with a lease-up gathering greater momentum into ‘16. Of the $0.20 to $0.23 that we expect the Silverline Center, The Maxwell and 1775 Eye Street to contribute to NOI upon stabilization, approximately $0.07 to $0.08 is expected in 2015, leaving the bulk of the NOI upside for 2016 and ‘17. We have experienced strong leasing momentum in these three assets since the beginning of the third quarter. By the end of this year, Maxwell should stabilize and 1775 Eye Street is expected to be 97% leased. And as Paul said, the Silverline Center is in active lease negotiations with several large prospects. Our interest expense is expected to be approximately $60 million and our G&A guidance range remains unchanged at $19 million to $20 million. And finally, our guidance does not assume any equity issuance. On September 15, we entered into $150 million 5.5 year unsecured term loan with members of our bank group, utilizing terms and definitions through an accordion feature of our recently completed credit facility. This essentially completes the refinancing of the bonds that matured in the second quarter and increases our flexibility to sell assets as the size of the term loan is more optimal than that of a larger bond offering. The term loan fits well on our debt maturity ladder and has been swapped to 2.72% all-in fixed as an interest rate. And it is pre-payable without penalty, further enhancing our flexibility. We plan to continue to increase flexibility and optionality for the use of proceeds from the expected sale of approximately $250 million of primarily legacy suburban office assets. We have approximately $163 million of secured debt scheduled to mature in 2016, as well as the option next October to prepay approximately $100 million of fixed rate secured debt that is scheduled to mature in 2017. While we are not ready to provide our 2016 guidance at this point, our options to reallocate capital begin with our ability to strengthen the balance sheet by prepaying the fixed rate secured debt, which has a weighted average interest rate of 5.7%, as well as a floating rate mortgage. We will also evaluate value add acquisition opportunities similar to the Wellington, as well as a leverage neutral share buyback and debt pay down, if that is of the most prudent option at that time. And with that, I will now turn the call back over to Paul.

[Paul McDermott:]

Thank you, Steve. I would like to follow-up on our acquisition of the Wellington, which closed at the beginning of the third quarter. This off-market acquisition, which was primarily funded by legacy asset and land sales, currently our best source of capital, epitomizes prudent capital allocation for Washington REIT for four reasons. First, our research identified the Wellington submarket as one with a significantly greater than average GAAP between Class A versus Class B rents and strong potential to grow Class B rents. Second, we purchased the asset at an approximately 40% discount to replacement costs. Third, we have the opportunity to renovate approximately 680 units and generate mid-teen returns, which is higher than our average return on renovations and significantly higher than our cost of capital. And fourth, the Wellington came with additional FAR to develop approximately 360 new units in a submarket with limited supply. While acquisitions like the Wellington aren’t easy to replicate, these are the type of value-add deals you should expect from Washington REIT. To conclude, the highlight of this quarter is the increase in leasing velocity across the portfolio. From backfilling the majority of our old headquarter space at 6110 Executive Boulevard to the active lease negotiations in progress at Silverline Center and 1775 Eye Street we remain confident in our ability to deliver future NOI growth. Furthermore, our leasing progress has been instrumental in positioning approximately $250 million of legacy suburban assets for sale. Compared to last year, the investment sales climate for suburban product is notably higher, which makes us feel optimistic about the timing of this sale. We look forward to updating you on the progress of this seminal step in transforming Washington REIT from a suburban office investment to an urban infill REIT owning and operating high-quality, transit oriented and amenity rich assets in the Washington Metropolitan region. Finally, the key leading indicators for our region continue to bode well for the future, with August posting an annual job growth of 61,100 jobs, of which 18,000 were gained in the traditionally office space using professional and business services sector. To put this in context, in August of last year, the region posted 14,300 jobs, with 1,100 jobs lost in professional business services. The region’s year-to-date office absorption is a positive 709,000 square feet versus negative 1.8 million square feet in calendar year 2014. In the third quarter and for the first time in 5 years, Northern Virginia, DC and Suburban Maryland have all posted positive absorption. We continue to expect market fundamentals to recover in our nation’s capital, which has historically performed well and with low volatility through all phases of the cycle. Now, I would like to turn the call back over to the operator for questions.

[Operator:]

Thank you. [Operator Instructions] Thank you. Our first question comes from the line of Tony Paolone with JPMorgan. Please proceed with your question.

[Tony Paolone:]

Alright, thank you. Good morning. Paul, I think you referenced some competition for space this quarter at 1775. And I was just wondering if you could talk about whether you think that’s one office or if you are seeing some further evidence or any evidence of lease economics improving or CapEx diminishing or just a little more detail on any inflection you might be thinking about there?

[Paul McDermott:]

Sure, Tony. Just to step back for a second, we had a specific asset management strategy for 1775 Eye Street. We tried to first attack the more challenging space simultaneously with undergoing a – what we thought was a very positive, rent positive renovation program. So, we saved what I would like to call a filet for the last, which was the top floor. We did have two tenants competing. We had one tenant in about – I think about a $62 range and then another tenant in upper 50s, close to $60 range. Because of the tenant mix and because of the size of the footprint, we went with the lower rent just because we thought that if Washington REIT, we are going to continue to recycle assets obviously. We wanted to provide a good tenant mix with, as importantly a good balance sheet for our perspective tenants. And I think that, that Tony was probably the first time since I have been here that we have had good competition above pro forma competing for vacant space. I would not characterize that as an overarching statement on Washington D.C., because I think as you know we continue to have the have and have not. I think DC is clearly winning the battle versus the suburbs over half of the leases that were done of the, let’s call it, on the 700,000 square feet this quarter, I think it was 685,000. Over half of those were done in DC. So, I think that the urban infill transit-oriented deals on our numbers, I think 90% of the deals over 20,000 square feet they were done year-to-date or have all been within approximate to a metro. So, I still think tenants are favoring transit oriented, heavily amenitized assets. But specific to 1775 Eye Street, that’s – hopefully, we are going to see that more reflective in our portfolio as we go forward. I would say a statement just specifically to our office portfolio and this includes suburban and downtown. Leasing activity picked up considerably in terms of foot traffic and the amount of looks that we are getting on issuing LOIs. That picked up significantly this past quarter.

[Tony Paolone:]

Okay, got it. And one of the things you mentioned too was as it relates to the ABC space to engaging a redevelopment plans, you had some rents in line for 2019 that would make that work. Any way to characterize like what kind of improvement you would need to see from current levels to hit that?

[Paul McDermott:]

Right now, I mean, I think we are probably and I think as we tried to message even on some of our MDRs, it really depends. We very much broad-based the TI program and actually, the base building renovation program, Tony. I think that, right now, let’s call that building an upper 40s to low 50s building today. Let’s just say $50. I think if we do the renovation light program, we would probably be in the low to mid 50s. And again, let’s talk about a standard 10-year deal. We still are underwriting, probably $80 to $100 for a TI package on a 10-year deal with a euro term. If we can get something approaching a more of a $60 rent, if the market is there, we are going to probably be putting obviously more into the base building. Stepping back for a second, I think a lot of people know and the people who toured the ABC space, they put in, as I messaged on the call, they put in over $15 million of their own money. We have also had some common areas already been done and I think about half of the bathrooms have been done. So, we are not going to need to – this isn’t going to be a complete base building renovation, but I think if we see the market being there right now and quite frankly with the amount of activity we have already had from tenant reps calling us about what our plans were for that building, we feel pretty good that hopefully we can get to a upper 50 number then. The other, I think nirvana would be a build-to-suit, which would be a much more detailed and programmatic renovation of the building catering around the tenant. And optimistically that would probably be in a mid to upper 60s number, Tony.

[Tony Paolone:]

Okay, got it. And just last question, you talked about putting out some other assets for sale. Beyond that, is there more you want to do with the portfolio like can we see another round of sales in the second half of ‘16 into ‘17 or do you think putting this package out there gets you to where you want to be?

[Paul McDermott:]

Look, I think you are asking us and I think we are culminating being prudent allocators of capital, I think are the area that we really wanted to, we felt over the last year that we really wanted to position for sale was our suburban Maryland office asset. We, of course, have other assets that we think are going to hit the inflection points over the next two to three years, but as far as a big programmatic portfolio sale, I think suburban Maryland is what we have in our sites for closing on the first half of 2016. We have a lot of tax planning to go along with that. And so we are going to be the people that have expressed interest already, they know it’s coming. We have talked about a structured sale, but I think after we closed this asset, I think we will be back to kind of good blocking and tackling portfolio managing and examining assets on a one-off basis and continuing to prune. I do think, with that said we have some obvious outlier candidates, Tony on a one-off basis that we would also look to monetize. And I think that some of the people that we have also talked to have said that they are willing to look at those one-offs in addition to this $250 million. So we feel good about the climate that we are going into the sale lease. But outside of this, I mean programmatically in terms of portfolios, no we don’t have anything – any immediate – plans for the immediate future.

[Tony Paolone:]

Okay, great. Thank you.

[Paul McDermott:]

Thank you, Tony.

[Operator:]

Thank you. Our next question comes from the line of Brendan Maiorana with Wells Fargo. Please proceed with your question.

[Brendan Maiorana:]

Thanks. Good morning. Steve, if you got the 2.50 coming in the door, how much of that you think you need for leverage reduction versus what could be recycled into new investments?

[Steve Riffee:]

Well, Brendan, the timing of everything for ‘16 is why we are not quite ready to give guidance. But we have been running sensitivity analysis. And I have looked at what if you reinvested the entire 2.50 where you get towards all our goals, what if you reinvest half of it, where do we get towards all of our goals. I think of especially in watching our targeted debt to EBITDA annualized at the end of the fourth quarter of next year. And I think we can achieve that either way by reinvesting or by say, paying down debt with about half of it. I – we continue to do tax planning. My instincts say that we will have to reinvest some. But I really like the optionality so that we will have I think an opportunity to pay down a lot of secured debt that will help us meet our deleveraging targets. So at this point, on a preliminary basis I think we could get there more than one way?

[Brendan Maiorana:]

And then the – so your debt to EBITDA target, would that sort of be like mid-6s by the end of next year or is that just sub-7?

[Steve Riffee:]

It’s trying to get under 7, it took under 7 this year. And we are shooting as the next level on an annualized fourth quarter of next year basis to we are targeting 6.5 or under at that time.

[Brendan Maiorana:]

Okay. And then just thinking about maybe near-term sources and uses, so your line balance is 195, is that – like is that a little above sort of normalized level that you think about carrying or how should we think about that?

[Steve Riffee:]

Yes, it is. And keep in mind that the way we conducted this year, we tied up the Wellington, but had to close in July. And we structured a series of reverse 1031 exchange sales that had a different sequence. So the rest of paying for the Wellington is really coming from the sale that closed this week. And also we had a sale coming in the fourth quarter. So you will see the line come down for those. And I think we are going to try to term out debt and keep the line at a fairly low level, but it will fluctuate based upon the timing of asset sales.

[Brendan Maiorana:]

Yes. It sounds like $100 million sort of like a reasonable mid-cycle balance for the line to think about?

[Steve Riffee:]

Yes. And by the way, the line can’t be paid down until the last asset under the 1031 exchange is closed. So the sum of all of that is going to allow us to close – to pay down the line more than just one asset when it closes within the fourth quarter.

[Brendan Maiorana:]

Okay. And then Paul, if you kind of head your way and the balance sheet were not a consideration, is there – are there investment opportunities that could be there for the full 2.50 if that’s where the balance sheet were set?

[Paul McDermott:]

Yes. I mean candidly, we are still pretty active in the market Brendan, in terms of looking at opportunities. I still think that we are seeing more value creation opportunities in that kind of B multifamily space and we have identified some candidates. That and then I think that we are going to have an opportunity to potentially reposition some retail assets. So those would probably be our bigger focus. And you let me know today balance sheet is in a consideration and we will work on it.

[Brendan Maiorana:]

Yes, no. I was hoping maybe I could separate you guys and put you in like be soundproof phone booth while Steve gave us answer.

[Paul McDermott:]

No kind of silence here.

[Brendan Maiorana:]

Yes. I guess it didn’t work. Last question, so just – I kind of appreciate that you guys, a lot of buyer interest and stuff like that. There was volatility in the fixed income markets over the summer. Spreads have wind down and some things and maybe lenders or a little bit more cautious. Is that – do you think that that is having – do you think that is or could have an impact in terms of the number of buyers and pricing that you are likely to get for this portfolio?

[Paul McDermott:]

So let’s break it out. Okay. So being a former lender, I know that there is a couple of issues at hand. And the first thing, let’s just say I am starting over and I have Brendan and Paul’s hedge fund and we are going out, we want to target mid-teens in the suburbs. We need products with good operating history, we have that. We need product that has no big deferred maintenance numbers, we have that. And we don’t want to buy CapEx stocks and I think we have got that. I think that right now, the lending community, you are in the fourth quarter that specifically where we want to close next year. A lot of the lenders and specifically you take out some of the really big boys that try to get all their commitments up and down by the second quarter and have them closed throughout the year. So we are going to be dealing with new allocations at the beginning of next year, Brendan and the lenders that we talked to have definitely gotten a lot more comfortable. This time last year, I think quite frankly, I think the imaginary wall at Bethesda. I have definitely seen lenders up in Northern Rockville and I see them going up to 70 if we are talking about suburban Maryland assets. The biggest thing that we haven’t seen subside is the continual inflow of capital. And you noticed we haven’t seen a tremendous amount of trades in the district proper. We have definitely continued seeing that capital looking for and chasing yield. And there that circle is kind of growing wider and wider. So we feel pretty good about the reception this is going to get. Yes, do I think that – I think that there are some challenging sub-markets there, when you look at suburban Maryland in general, but I think the operating history and kind of the care and feeding at these assets that Washington REIT has put in over the years probably put us in a good position.

[Brendan Maiorana:]

Okay, great. Thanks.

[Operator:]

Thank you. Our next question comes from the line of John Guinee with Stifel. Please proceed with your question.

[John Guinee:]

Great, okay. I have got a couple of questions, the first one is a real softball, so but you got to answer it quickly. If you go through your properties, your office properties on Page 27 of the sup, which ones fit into the category of metro centric, urban, things that where you think there might be a little light at the end of the tunnel and I don’t know the answer, so just to giving you an opportunity?

[Paul McDermott:]

Well. Thanks John. Look, if – I am on Page 27. So 1901 Penn like it as it is, but also has redevelopment opportunity. 51 Monroe is on a metro. 515 King we like that and packaging that up with another asset in terms of recycling. 6110 is probably an asset that we think that it could – somebody else can probably recognize some more upside there than we can. 1220 19, 1600 Wilson, we still think have legs underneath them. Silverline, we have already talked about. 600 Jefferson would probably be another opportunity for someone else to improve and allocate capital to, same with Wayne Plaza. Courthouse is what I already talked about, about packaging with King. One Central has redevelopment opportunity associated with it, 1776 G, actively leasing, West Gude, definitely a sales candidate that has opportunity with it, same with Monument, 2000M, 2445. We like Cuanaco, that’s a hard one for me, John. I like that one a lot, so 1140 Connecticut, 1227 25th, again a lot of traction. Same with Braddock, John Marshall, we just re-upped the Booz on it. So we like the FFO coming off of that. Fairgate at Ballston, probably could have some appeal through the broader market some time in the future. Army Navy and 1775 Eye, we like and we think fits that mold that you are referencing earlier.

[John Guinee:]

Great, okay. Wonderful summary. Thank you. And then going to the previous page, if I look at retail, 2017 and 2018, you have got for what a retail portfolio, is a surprisingly high rollover, 11% of the square footage in ‘17 at $27 average, around 16% of the portfolio in 2018, $15 average rent. Do those represent risks or opportunities?

[Tom Bakke:]

John, hey, Tom Bakke. So, a lot of that is big box retailers in Hagerstown, Gateways and the other centers. And fixed renewal rates, most of them are either in the queue to renew or will be shortly and I think that is going to be pretty standard rollover management. I think the retail, we got hit with some challenging vacancies earlier this year and that’s what’s caused us to sort of have a little bit of slowing in momentum in retail, but we have got this leased up now, so that portfolio gets back to fairly just plugging along. And we are moving rents up on the mom and pops and sort of handling the bigger retailers, the bigger rollovers.

[John Guinee:]

Okay. And then the last question, it looks like the logjam is opening up on the GSA and all of their agency leasing and that’s the good news. The bad news is that when you look at it, it appears to us and remember we are looking at the world from 50,000 feet. So, we would appreciate you if you would correct any misconceptions and then talk about the magnitude in terms of square footage and velocity. But it appears to us as the GSA, as on one hand, taking about 10% to 20% or more, less space as they rollout of existing buildings into new buildings. And then the basic base building requirements are between Energy Star, Life Safety, terrorism, building access, white boxing down to the shelf, that’s $75 to $100 – $175 to $100 square foot of base building work and then the TI packages are and leasing commissions is another $75 to $100. That’s the bad news. The good news is that they clearly want to be metro-centric in certain buildings that will prevail, but how many square feet are we talking about in the whole GSA relocating tenants and the magnitude and the duration of this fairly significant effort?

[Paul McDermott:]

Well, John, I mean, I don’t have a precise rollover number on GSA. I can step back and tell you what our observations are on it. I mean, they are definitely starting to thaw. If you look at, let’s just say, the universe of 100% of the leases, 25% are moms and pops and onesies and twosies. Of the 75 remaining, the GSA has probably accounted for 37% of leases that have gotten done, followed by contractors doing 18%, technology doing about 11%, and law firms doing about 10%. Our observations with a GSA on some of the RFPs that they have put out, is definitely champagne taste on a beer budget. You are right, they do want to be around metro and they do want all the amenities, but a lot of those are not going to come at $35 and $40 rents. We purposely don’t chase GSA deals and we don’t – we are not actually trying to put them in any of our space and we don’t like to see them going into neighboring space. As you know, they are extremely hard on the building. I actually think on the base building stuff, the space that they are moving out of, I think your numbers might even be a tad light, given the densification that they have put into some of this space and how hard they are on it. I also think that it impacts the marketability of our – of the Class A office space. So, we don’t really see ourselves competing on the Class A and B plus space. We don’t see ourselves as much competing with that. We see the GSA, the type of deals that they are trying to go into is really that B minus, C plus space, because that’s – they are constrained by a budget. They are continuing, you are right, they are continuing the compression circuit. And I don’t see that changing right now. I think they were trying to get down to somewhere between 120 and 150 per employee. Don’t know if they have achieved that, but a lot of the stuff that they want to do takes capital even for them to stay put. And so that’s why I think you have seen a lot of stalling, a lot of kicking the can. You also have to remember we are running into an election year and we don’t see a lot of people running on a platform that they are going to expand the government footprint. So, I don’t have a precise answer for you right now on what the residual impact is going to be, but they have to go somewhere. And yes, they want all the bells and whistles. But my question has been and will always be, can they afford to pay for it?

[John Guinee:]

Yes. Well, that was a great answer, anyhow. So, thank you very much and have a good weekend.

[Paul McDermott:]

Thank you, John. You too.

[Operator:]

Thank you. Our next question comes from the line of John Bejjani with Green Street Advisors. Please proceed with your question.

[John Bejjani:]

Good morning, guys. I was hoping you could share a little more color on multifamily. From what we have seen, most apartment REITs have seen a notable improvement in their DC operations this year despite the elevated supply growth. So, what’s – if you could share any additional thoughts on what’s been impacting your portfolio’s performance relatively speaking? That would be helpful.

[Tom Bakke:]

Hey, John, Tom Bakke. The – I think we have experienced some margin compression here as we have sort of gotten through the back half of the year or gotten into the back half of the year. I think we have seen some – and it’s been a little bit of a reaction to just the overall competitive landscape and all the new supply. We started pushing rents late in the summer, which is generally your peak leasing season. And we found with the majority of the renter base is the millennial generation, which everyone talks about. And you send out your 60-day notice to renew. And what we find is that they will compete on the online your renewal all the way down to the day before, because it’s pretty easy for them to move. And when we were pushing rent, we got a lot of pushback on our retention. And I think we had to adjust that strategy and we are entering the fall with a better, I think lease up strategy and occupancy strategy. And then we have got some of that margin compression on the expense side with taxes moving up in DC and additional marketing and advertising to sort of get – drive some of the velocity. So, I think that’s what’s hurt us a little bit, but I think we feel that our strategy is now in place or per sustained performance.

[John Bejjani:]

Okay, great. And I guess just one more question can you update us on the status of Epstein Becker given the Advisory Board move out?

[Tom Bakke:]

Yes, we are in renewal discussions with them. They are competing us against a couple of options. They are, like most law firms, looking at a change in how they use the space. And so on one hand, it’s easy to move. On the other hand, it’s cheaper to stay and just a little more painful to restack and reconfigure. And we are working through a financial structure with them that we hope will keep them, but we still have not made a deal yet. They expire at the end of ‘16 as you know.

[John Bejjani:]

Alright, great. Thanks, guys. Have a good weekend.

[Tom Bakke:]

Thanks.

[Paul McDermott:]

Thank you, John.

[Operator:]

Thank you. Our next question comes from the line of Chris Lucas with Capital One Securities. Please proceed with your question.

[Chris Lucas:]

Yes, good morning guys. Just a couple of sort of timing oriented questions. Paul, you mentioned interest at the Silverline and the LOIs that you have out. I guess I was just curious as to what your census is to the decision timing for each of those roughly and then sort of what the expectation would be if one of them or more was selected in your building, what the timing would be for actually rent paying at that point?

[Paul McDermott:]

I will start off and then I will ask Bakke to hand the negative with me. I believe that the two of the four principal ones that we are focused on right now are fourth quarter decisions. And when I say that, I would expect us to be probably executed in the fourth quarter. And those would probably be 4Q – 3Q or 4Q rent commencements. It just depends on when we get the deal done, Chris. But again, we are in pretty detailed discussions with – as we alluded to, more than one. So I would hope – I don’t know if we are going to have something to message at NAREIT. But I would hope definitely between NAREIT and the holidays, we would have something to signal back to the marketplace. And then I would probably put on anywhere from 6 months to 9 months to 12 months depending on which deal it is in terms of rent paying. But I certainly would think we would have something to factor into 4Q of ‘16.

[Tom Bakke:]

Yes. Chris, just to add one thing. I think that’s of nice little stat is our pipeline of proposals at the end of Q2 at Silverline was about 2.55. And our pipeline at the end of Q3 on proposals, it’s just proposals not general interest, is 3.80. So I think that’s an indication of the increased momentum we are seeing and increased interest in the asset.

[Chris Lucas:]

Okay, great. And then on the disposition program, can you walk us through sort of the timing of broker selection process for putting the books together and then an expectation for what you would think would be the reasonable timeframe for the disposition program to be sort of – the price to be decided?

[Paul McDermott:]

Sure, Chris. So we will probably select a broker within 10 business days of today. We are down to two groups and are having final evaluations in such over that time period. I expect kind of the boat to be in the water over the next 30 days. And then we will not call for offers probably until after the holidays. We want to give – listen, these are – it’s a larger portfolio than the communities is used are seeing from us. I think I am sure there are going to be a lot of questions. And with the war room and such that we are setting up, I think that that will probably take 30 days to 45 days. We will be calling for offers in the first quarter. I think as I alluded to earlier and I think as Steve has tried to message, we want to do the appropriate tax planning for value creation purposes. And so it could close in the first quarter. But I would not be shocked if we did a structured deal and it ended up being – it ended up closing in the second quarter. But we certainly anticipate that portfolio to close in the first half of ‘16.

[Chris Lucas:]

Okay, great. And then just a follow-up on that point, Steve as it relates to the reverse 1031 exchange, once you are done with the – you have got Monsoon Hill done, you got one more asset to complete. Is that it for that 10 – reverse 1031 or is there some way to allocate more back to it, some of the proceeds from this potential sale?

[Steve Riffee:]

There is a little bit of room. If something could go that fast based on the timeframe that we are on in terms of when it will really get to market and what exactly is in the portfolio and how to price, I doubt that anything else could close in the fourth quarter. So I believe that before the fourth quarter is over, it will be what’s already in the market. And when that closes, we will get all the funds back from the intermediary. But they have to hold them that’s why we haven’t paid line down yet until the last deal closes.

[Chris Lucas:]

Great. Thank you very much.

[Paul McDermott:]

Thanks Chris.

[Operator:]

Thank you. [Operator Instructions] Our next question comes from the line of Dave Rodgers with Robert W Baird. Please proceed with your question.

[Dave Rodgers:]

Yes. Good morning guys. Two questions around lease economics for the quarter. I guess, the first was both on office and retail economics for leasing overall when taking capital and spread, etcetera, all into consideration were pretty low compared to what you have done historically and I realized some had to do with positioning assets for sale. So I guess the first question is can you kind of give us the sense of what that looks like without the asset repositioning in there or I guess maybe another way to say it is if we are looking at Silverline lease up, etcetera, are we going to start to see that number come back up or do we continue to see pretty difficult comps in those numbers going forward here as you continue to lease up the asset for sale, I guess just some color on current and then future?

[Paul McDermott:]

Well. Chris, with regard to the Silverline itself, since it...

[Dave Rodgers:]

Okay.

[Paul McDermott:]

Dave. I am sorry, Dave, with regard to Silverline itself, it’s an asset coming out of redevelopment. So a lot of that space would be first generation non-recurring CapEx on that particular asset. And I don’t know if you want any other color on just what’s going on with our portfolio.

[Steve Riffee:]

Dave, are you – is the question around are we seeing sort of overall lease economics trending in one direction or another in terms of capital and concessions?

[Dave Rodgers:]

Yes. I guess bifurcating the difference between what’s going on in the core portfolio and the portfolio that you are positioning for sale. So yes, what’s happening with lease economics, I guess in the portfolio aside from the positioning that Paul mentioned in the prepared comments about positioning the assets for sales in Maryland?

[Steve Riffee:]

Well, first of all, this is Steve and then I will let Tom. One of the things that I think Paul tried to get across is our assets and our suburban assets don’t have a lot of deferred maintenance. So they are not going to – we haven’t had to put a lot of that CapEx and to get them ready for sale. So that – I don’t think there is anything unusual happening with regard to the fact that we would like to take some assets to the markets if you getting at that, Dave.

[Paul McDermott:]

I think, really – Dave, it’s Paul. The biggest thing that we had to do was backfill our headquarter space. And we did that over the summer. Albeit, we were aggressive to try to get that lease done, but that was really kind of a key linchpin for us to move 6110 to put that into that portfolio to move it forward. In terms of – I think I tried to message it earlier, just in terms of what we are seeing. We are seeing a lot more leasing velocity downtown. Tom, I think has been pretty consistent on the calls. We haven’t really seen a lot of changes in terms of the concessions. I think face rents have probably moved up about $1 year-over-year, but we haven’t really the net effective as we – that has not translated into net effective growth. And then in the suburbs right now, that’s – it’s just too broad to make a suburban statement. I think that really has to be a much more granular view on a submarket by submarket basis. We are specifically – I wouldn’t read anything into the leases that were done over the last – even in 2015 on the suburban portfolio. Those have really – we probably try to put as minimal TI packages as we have. We have met the market in terms of face rents and concessions. But what we really wanted was duration, Dave so that we could sell that because we – I think the logical buyer that’s going to come up is probably going to be some type of fund that’s looking for some type of value add to opportunistic yield and they are going to need duration of cash flow to leverage up off of. And so that’s how we would try to position the suburban portfolio.

[Tom Bakke:]

I think David, I will additionally, but I think several of the retail deals we did were fairly expensive from a capital investment standpoint because these were old, lower-level spaces, very challenging vacancies that did require some landlord capital. So those may have skewed some numbers a little bit this quarter on the retail side, but I don’t think that’s necessarily a trend.

[Dave Rodgers:]

Okay, that’s helpful.

[Operator:]

Thank you. There are no further questions at this time. I would like to turn the floor back to Mr. McDermott for any final remarks.

[Paul McDermott:]

Thank you. Again, I would like to thank everyone for your time today. Everyone at Washington REIT is committed to continue to transform this company into a best-in-class operator of real estate in the Washington DC region. We remain confident in our region and enter the fourth quarter with greater visibility on the two high profile catalysts that will continue to drive our stock performance. These are the continued lease up of our needle movers Silverline, Maxwell and 1775 Eye Street and the sale of approximately $250 million of legacy office assets. We look forward to updating everyone further on our progress at NAREIT next month. Thank you everyone.

[Operator:]

Thank you. This concludes today’s teleconference. You may disconnect your lines at time. Thank you for your participation.