Highwoods Properties, Inc.
Q3 2013 Earnings Call Transcript

Published: 30 Oct 2013

[Operator:]

Welcome to the Highwoods Properties' conference call. (Operator Instructions) I would now like to turn the conference over to Tabitha Zane. Please go ahead.

[Tabitha Zane:]

Thank you, and good morning. On the call today are Ed Fritsch, President and Chief Executive Officer; Mike Harris, Chief Operating Officer; and Terry Stevens, Chief Financial Officer. If anyone has not received a copy of yesterday's press release or the supplemental, please visit our website at www.highwoods.com, or call 919-431-1529 and we will e-mail copies to you. Please note, in yesterday's press release we have announced the planned dates for our 2014 quarterly financial releases and conference calls. Also following the conclusion of today's conference call we will post senior management's formal remarks on the Investor Relations section of our website under the Presentations section. Before we begin, I would like to remind you that this call will include forward looking statements concerning the company's operations and financial condition, including estimates and effects of asset dispositions and acquisitions, the cost and timing of development projects, the terms and timing of anticipated financings, joint ventures, rollover rents, occupancy, revenue and expense trends, and so forth. Such statements are subject to various risks and uncertainties. Actual results could materially differ from those currently anticipated due to a number of factors, including those identified at the bottom of yesterday's release and those identified in the company's 2012 annual report on Form 10-K and subsequent SEC reports. The Company assumes no obligation to update or supplement forward-looking statements that become untrue because of subsequent events. During the call, we will also discuss non-GAAP financial measures, such as FFO and NOI. Definitions of FFO and NOI and an explanation of management's view of the usefulness and risks of FFO and NOI can be found toward the bottom of yesterday's release and are also available on the Investor Relations section of the web at highwoods.com. I'll now turn the call over to Ed Fritsch.

[Edward Fritsch:]

Good morning, everyone, and thank you for being on our call. Businesses are continuing to successfully punch their way through this economy. Economic trends remain positive, seemingly muffled only by the continued obstacles being thrown in the economy's path by the happenings or lack thereof in our nation's capital. While corporate balance sheets are flush with cash and carrying historically low amounts of debt and corporate credit facilities remain largely untapped, Washington's economic speed bumps are restraining growth from what we believe it could and should be. Regardless, despite these government-manufactured obstacles, we are seeing ample customer and prospect flow, users who are genuinely pursuing growth and adding office space. 2013 has proven to be a very productive year for Highwoods' shareholders. Year-to-date, we've announced $1.25 billion of buying, selling, developing and equitizing, 60% of this activity occurred in the third quarter alone. We've had many deals in the works, some longer than others, and are very pleased that so many came to fruition in the third quarter. This high level of brand-enhancing, value-add production enabled us to exceed the high-end of our initial expectations for all 2013 investment activity. We're also pleased to have delivered on our commitment to grow our company on at least a leverage-neutral basis. Looking forward, it is important to note that the upside embedded in our 90.6% occupied same-store portfolio, our 3.4 million square feet of 2013 value-add acquisitions, which were 81% occupied at closing and the ballast-creating projects in our $276 million, 87% pre-leased development pipeline, gives us momentum, as we head into the next couple of years. We have narrowed our 2013 FFO outlook, holding the midpoint at $2.80 per share, with an even more conservative balance sheet. Leverage is now 42%, almost 200 basis points lower than the beginning of the year. Our hard work to further strengthen our balance sheet has not gone unnoticed, and we are pleased to have received our second upgrade this year, this time from S&P, which now has us rated BBB flat, with a stable outlook. During the third quarter, we delivered solid FFO of $0.71 per share, acquired $316 million of value-add office, announced a $110 million build-to-suit, sold a $103 million of non-core, including the remaining Atlanta-based industrial assets and raised a $183 million of new equity. Also during the quarter, we leased 1.7 million square feet of office, including 1.2 million square feet of second gen space, the highest amount since the first quarter of 2005, and it has an average term of 6.1 years. Net effective rents on second gen office leases signed in the third quarter were a record high for our company. This is a result of a higher quality portfolio concentrated in the best business districts and less overall availability of Class A space in the marketplace. In addition, we are pushing asking rents in many of our markets on average by 3%. Looking ahead, development remains an important component in fueling our future growth, improving the overall quality of our portfolio and contributing to the long-term cash flow stability. Our current $276 million development pipeline encompasses 1.1 million square feet and includes three 100% pre-leased build-to-suit office projects totaling 871,000 square feet. A 166,000 square foot 25% pre-leased office building in a 100% occupied Highwoods-owned park and 59,000 square feet of 70% pre-leased amenity retail. In particular, we are excited to have commenced construction on a $110 million, 100% pre-leased, two building campus for MetLife on land that we own in Cary's highly desirable mixed-use Weston PUD in our Raleigh division. This Global Technology and Operations Hub will initially house approximately 1,200 MetLife employees, and completion is being phased in during the first half of 2015. This represents entirely new absorption for us and for the market. Their choosing Cary for this hub, which will be serving the Americas, is a testament to the strong technology-oriented employment pool that continues to attract companies to the greater Triangle area. We are also mass grading the adjoining 13.5 acres to accommodate a third building for potential future growth. 2013 has also been a very productive year for acquisitions, which continues to fuel both growth and cash flow stability, as we further enhance the quality of our portfolio and upscale our brand in our BBD submarkets. The high-end of our initial acquisition guidance was $325 million, which we have now surpassed by 70% or $224 million. The assets we have acquired this year now have a weighted average occupancy of 84%, up from 81% at the time of acquisition. Our largest acquisition in the third quarter was The Pinnacle at Symphony Place in Nashville, undoubtedly the best CBD Class A office tower in all of Tennessee for a total investment of $152.8 million. In concert with the purchase, pun intended, we have developed and deployed a highly-detailed marketing plan and our confident occupancy, which was 84.9% at closing, will stabilize within the next two years. As an aside, at the 553,000 square foot One Alliance Center that we acquired in late June, we already have leases signed or out for signature for an additional 73,000 square feet. With this activity in just four months time, we have put 40% of the acquired vacancy to bed. Similar to our experience at PPG Place, we continue to deliver on lease up of the vacancy in our newly-acquired office buildings. In the third quarter, we also acquired our JV partner's 60% interest in five Orlando CBD assets, a transaction we described during our last earnings call. Subsequent to the call, we bought our JV partner's 57% interest in GlenLake North and GlenLake South, two 10-story, Class A office buildings with structured parking in Atlanta's Central Perimeter, for a total incremental investment of $46 million, which equates to 30-plus percent below replacement cost. These GlenLake towers, which total 505,000 square feet, were 82% occupied at closing. Inclusive of these JV buyouts, we have now reduced the percentage of our annualized FFO from JV holdings from just over 10% at its peak, to now 3%. This reduction is in line with a key tenet of our long-term strategic plan, the reduction of complexity in our business model. Owning these assets outright, simplifies the leasing and property management processes, enabling us to be more nimble and provide greater flexibility to accommodate our customers' needs and growth. Turning to dispositions. In the third quarter, we sold a $103 million of non-core assets at an average cash cap rate of 6%. $91.6 million of the $103 million was the second tranche of our Atlanta industrial portfolio, which encompassed 16 buildings that were 95% occupied. Our timing for the exit of our Atlanta industrial market was a good move for our company and our shareholders. Pricing was strong. We averaged a 6% cash cap rate on the combined $140 million sale of 2.7 million square feet, and we recorded an overall gain of $50 million. This move also further concentrates our brand, as a top owner of high-quality office assets in Atlanta's BBDs. We are now projecting year-end occupancy to be between 89% and 90%, with 89.5% midpoint, 50 basis below the midpoint on our last forecast provided to you on July 25. It's important to note, the 50 basis point adjustment is entirely attributable to our third quarter investment activity. While Mike will talk about markets, I am going to briefly comment on two of our larger vacancies. First, LakePointe One; and two, in Tampa. Our extensive interior and exterior renovations are on target for completion by year-end. This well-designed urbanizing in and around these two buildings has helped us generate strong prospects for over three-quarters of the space that was vacated this past May. Second, at Windward Parkway, where AT&T vacated 223,000 square feet just this month, this building is already attracting interest from a diversified group of businesses. Our repositioning improvements are well underway and are also expected to be completed by the end of this year. As we've said before, this building is in a good location with numerous walkable amenities, has good bones and a generous parking allowance. In summary, our team delivered a very impressive quarter. I underscore my gratitude to my co-workers for their outstanding work and to all of you for your continued support of Highwoods properties. I now turn the call over to Mike.

[Michael Harris:]

Thanks, Ed. And good morning, everyone. As Ed noted in his opening remarks, we had a great quarter, leasing 1.7 million square feet of first and second generation office. Occupancy in our wholly-owned portfolio was 90%, flat sequentially, despite losing over 50 basis points of occupancy from acquisitions and dispositions completed in the quarter. On a same-store basis, occupancy in our wholly owned portfolio was 90.6%, up 60 basis points sequentially and 20 basis points year-over-year. Cash rent growth for the 158 second gen office leases signed this quarter declined 5.6%, while GAAP rents increased a solid 9.4%. CapEx related to office leasing was $17.35 per square foot, on par with our five quarter average, and our average lease term was 6.1 years, slightly longer than our five quarter average. As Ed noted, we had the highest office net effective rent on deals signed in our company's history. Across the board, there are shrinking options for customers seeking large blocks of Class A space. With this, plus limited new supply, a recovering economy and our improved portfolio, we are seeing an attractive amount of demand and occupancy upside. Turning to our individual markets. Our Atlanta division has been further transformed, predominantly by the very successful sale of our industrial assets. In addition, we acquired our JV partner's 57% interest in GlenLake North and South, which were 82% occupied at closing. Combined, these transactions negatively impacted Atlanta's occupancy, 321 basis points. GlenLake North and South, which encompass 505,000 square feet, are high-quality assets in the Central Perimeter submarket, one of Atlanta's BBDs, which has absorbed almost 800,000 square feet already this year. Owning 100% of these Atlanta properties materially enhances our leasing process and fortifies our position in that submarket. There is strong interest in these properties and we have solid prospects for over half of the vacancy. As Ed pointed out, we are seeing strong interest in One Alliance Center and the market is increasingly recognizing Alliance Center as an integrated complex with a number of shared amenities, enhancing both towers. In Buckhead, a dramatically recovered submarket, and certainly one of Atlanta's BBDs, we are able to push asking rents, particularly for the larger blocks of space. In the Nashville market, available Class A space has gone from 5.9% at the beginning of the year to an even tighter 4.7% at the end of the quarter. Our Nashville portfolio's occupancy is a robust 94.7%, despite the 185 basis point negative impact from our September acquisition of Pinnacle at 84.9% occupancy. The $42 million LifePoint headquarters building at our Seven Springs Park delivers at yearend, on time and on budget. We have had great traction on the 41,000 square feet of adjacent amenity retail, which is now 56% pre-leased and we have signed LOIs for an additional 29%. We also have two more pad-ready sites at Seven Springs that can support up to an additional 365,000 square feet of office. In Raleigh, our team leased 402,000 square feet of second generation space during the third quarter and occupancy increased 70 basis points to 90.6%. First gen leasing was also strong with the 427,000 square foot MetLife build-to-suit and subsequent to quarter end 41,000 square feet with two new customers who relocate to our recently announced development at GlenLake Park. Our market entry into Pittsburgh continues to exceed our expectations, ending the quarter at 94.2% occupancy. And with Class A vacancy in CBD Pittsburgh at 5.9%, we are pushing rents at all of our properties. In closing, all of our leasing representatives from across our system were here in Raleigh last week for a comprehensive planning and work session. Our team is energized and very pleased with the current level of leasing velocity. Terry?

[Terry Stevens:]

Thanks, Mike. Total FFO available for common shareholders this quarter was $64.1 million, up $11.3 million from third quarter of 2012. This increase primarily reflects $11.1 million higher NOI from acquisitions net of dispositions, $0.7 million in lower GAAP same property NOI, $1.3 million lower FFO contribution from joint ventures due to our acquisition of 7 assets from two of our JV's this quarter and $0.9 million in lower G&A. Third quarter results also included $1.1 million of deferred lease commission income in connection with the Orlando transaction. As I mentioned on our second quarter call, this amount relates to lease commissions that were scheduled to have been paid to us by the joint venture over the term of leases, signed before our acquisition of the JV assets. This deferred income was paid to us upon closing of the acquisition, and thus recognized in income and in FFO in third quarter. As a reminder, FFO and G&A amounts exclude property acquisition and debt extinguishment costs, which are disclosed in a table in our press release. On a per share basis, FFO for the quarter was $0.71, $0.05 better than third quarter 2012 and $0.01 better than second quarter 2013. Weighted average shares outstanding this quarter were 90.8 million, up 10.3 million from third quarter 2012 due to issuance of shares under our ATM program and our August equity offering. We do not expect to issue any common shares for the remainder of this year. Based on shares issued to date, weighted diluted shares outstanding are expected to be 93.0 million for the fourth quarter and 88.8 million for full year 2013. Same property GAAP NOI was $0.7 million or 0.9% lower this quarter compared to last year, while cash NOI without term fees was $0.6 million or 0.9% higher as straight-line rental income continues to convert into cash rent. Same property NOI growth this quarter was negatively impacted $1.6 million from PwC vacating 244,000 square feet in Tampa on May 1, and by $0.4 million to the positive one-time CAM adjustment last year. Excluding these two effects, the rest of the same property pool had positive $1.3 million and $2.6 million of GAAP and cash NOI growth, respectively. And accordingly GAAP and cash NOI growth would have been positive 1.8% and 3.7%, respectively. Same property NOI this quarter does not include the $1.1 million of deferred leasing commission income from the acquired Orlando assets. G&A this quarter was $8.2 million or $860,000 lower than third quarter 2012 and almost flat with second quarter 2013. The net decrease quarter-over-quarter was driven mostly by lower long-term equity based compensation, offset by modest salary merit increases and higher healthcare premiums. Turning to the balance sheet. From January 1 to September 30, we had $423 million of net investment funding, acquisitions, plus development funding, less disposition proceeds. During this same period, we reduced our leverage from 43.9% to 42.6%. Given the size of our 2013 net investments funding, total debt at quarter end is $191 million higher than at last yearend or 10%. But the average interest rate is 50 basis points lower, a 10% reduction and overall interest expense is virtually flat. The reduction in the average interest rate was achieved from a 30 basis point reduction in average rates on our fixed rate debt, a 19 basis point reduction in the average spread on our bank debt, resulting from our ratings upgrade and from higher use of our revolver. We are very pleased to have received in late July an upgrade in our senior unsecured debt rating from Standard & Poor's, from BBB minus to BBB flat. This followed a similar upgrade from Moody's in late June, which as you know from our last call, immediately reduced the LIBOR spread and facility fee of our unsecured revolving credit facility and bank term loans. As planned, during the quarter, we paid-off at par a $115 million, 5.75% secured loan. And in early October, five other secured loans were paid-off at par, a $67.5 million, 5.12% loan, and four loans totaling $32.3 million at 5.79% in our 50% owned Markel consolidated joint venture. On September 30, our JV partner contributed half the cash to make this pay-off. In the third quarter we issued 5.2 million shares of common stock, raising $31.9 million under our ATM prior to our August equity offering, when we raised an additional $150.9 million. Year-to-date, we have issued 8.3 million shares and raised $295 million. We are pleased to have a variety of equity-raising alternatives, including non-core dispositions to fund our growth on a leverage neutral basis consistent with our upgraded credit ratings. As noted in the release, subsequent to quarter-end, we sold $25 million of non-core assets with a weighted average cash NOI cap rate of 7.9%. Inclusive of these transactions, our pro forma leverage is currently 42.0%. Lastly, we narrowed the range of our 2013 FFO outlook to $2.79 to $2.81 per share from $2.76 to $2.84 per share, and updated certain of the specific assumptions. As a reminder and consistent with past practice, our FFO outlook excludes the impact of any acquisitions, dispositions or capital transactions that may occur after the date of this release. Operator, we are now ready for questions.

[Operator:]

(Operator Instructions) Our first question comes from Josh Attie with Citi.

[Kevin Varin:]

This is Kevin Varin with Josh. On the development front, what should we expect for yields on the overall pipeline?

[Edward Fritsch:]

We don't disclosed yield project-by-project, because I think that gives us a competitive disadvantage, if we quote it, while we're still chasing other transactions. But I can tell you that the pipeline that we have and all that we've done really since the deployment of the strategic plan, we've been all over a 9% cash yield upon stabilization year one. And then, we're probably 70 to 80 bps better than that on incremental cash, because most of the projects that we've done have been on company-owned land and then we're about a 100 bps better on the GAAP side. And credit varies and circumstances vary, but we've been all over that average.

[Kevin Varin:]

And then how should we think about the funding of future development. You mentioned non-core dispositions in your opening remarks, as it means to fund growth. But should you expect a combination of asset sales and equity that you've done in the past? And then what does the disposition pipeline look like getting in 2014, if that's the case?

[Terry Stevens:]

Based upon the current pipeline there is about $200 million of additional incremental cost to be incurred. That will be spent over really the next 21 months or so. Those projects are going to finish delivering until second quarter of '15. The funding of that will be covered basically on a leverage neutral basis. We'll use a combination of non-core dispositions and likely some ATM funding along with some additional debt financing to cover the cost of that over that period at time.

[Edward Fritsch:]

And Kevin a footnote to that, with regard to '14, obviously we haven't given out guidance yet, but we continue to call the portfolio. We still have several hundred million dollars of non-core assets, that when the timing is right, we'll dispose them. And I think we've had a very productive year with what we've sold this year, both in pricing timing and gains. And we'll continue along that same type of cadence over the next couple of years.

[Operator:]

Our next question comes from Jamie Feldman with Bank of America Merrill Lynch.

[Jamie Feldman:]

So Mike, you had commented that there's shrinking options for tenants looking for large blocks of space and limited new supply. Can you just provide a little more color on that? Is it specific markets, is it only a couple of markets? And then also, what are your expectations for supply starting to pick up in your markets?

[Michael Harris:]

It really is pretty much across all markets. Obviously, we look at in Tampa, we talked about the big block being our own block that we took back from PwC 244,000 square feet today, that's one of the bigger blocks in the market. But if we go across every one of our markets, what we see is, a lot of available suites in the 5,000 to 10,000 square feet, very few when you start getting over 25,000 and 50,000 feet. So to the extent you have that type of supply, it puts you in a little bit of a competitive advantage. In terms of new development, right now, the only market where we really see any steel going up is in Cool Springs in Nashville, with a spec project down there, about 250,000 square feet. I think across all the markets that we are in, very, very little in terms of just available supply coming on.

[Jamie Feldman:]

So I guess the next question is, what is it meant for rent growth, if there is such a tight market at the larger end? And I guess, a similar question for Terry is just that, can you talk through the big spread between the cash and the GAAP leasing spreads, and what the drivers were of that?

[Michael Harris:]

We're still seeing, as we mentioned in my remarks, Jamie, we had all of our leasing folks here in Raleigh last week. And across the board, I think all indications were good for demand. So as a result of that, we're going to start seeing a push rents up, as we see vacancy shrinking and no new supply. So I think that's a logical follow on for that. Again, this is part of being in the better BBDs that we're in, where we see that tightening up. And that's where we like to think we've got the opportunity to push rents. We talked about Buckhead being one, where you'll see big blocks of Class A space tightening up. So we're going to try to push it wherever we can, in every submarket, where we have that opportunity.

[Terry Stevens:]

On the second part of your question, a larger delta this quarter between the GAAP rate and the cash rent growth, just driven by the mix of customers and the fact that we had a several of them that had very long terms. And you can see that the average rental turn this quarter was about 6.1 years, which is higher than normal. So it was the longer-term on certain deals that we did that drove the GAAP rent growth up relative to the cash.

[Edward Fritsch:]

And for example, Jamie, we did one deal that was 90,000 square feet for '15 in a quarter years, so when we get strong escalators on that, obviously that pushes the GAAP.

[Jamie Feldman:]

And I think Mike had mentioned something about pushing rents 3%, is that market rents or is that your escalators?

[Michael Harris:]

In virtually every lease, we have on average about a 2.5%, 2.7% annual kicker. But with regard to asking rents, on average, we're going up on the asking side, depending on city market, et cetera. But 2% to 5%.

[Jamie Feldman:]

And then you're getting bumps of 2% to 3%?

[Michael Harris:]

Correct. Annual escalators built into the lease document.

[Edward Fritsch:]

Asking is our starting rents, and we escalate from there.

[Jamie Feldman:]

And then just a final question on Windward. You mentioned there was some, you are working on it, but there is some demand. Can you give a little more color on the size of the demand and realistically what you think how long it will take to back fill that space?

[Edward Fritsch:]

So we call it 5405 Windward. Just as a reminder, 223,000 square feet that vacated a few weeks ago, October 1. Right now, we have good prospects for about 125,000 square feet and we have what we call suspects for about another 0.5 million square feet. It's very diversified with regard to business sector. The 125,000 square feet we're currently doing space planning for them, right now. That doesn't mean we have a deal, but that gives you a sense for how seriously they are looking at it. They've toured it a numerous times. And so now we've got the test fits underway and we've exchanged economic terms back and forth several times. Also, Jamie, just as a reminder, we're investing several million dollars there to reposition the approach to the building and the buildings common areas. And we think that that will also make a significant positive impact for showings.

[Jamie Feldman:]

And just remind me the total size of the space.

[Edward Fritsch:]

223,000. So the prospect we have right now would fill 56% of the 223,000.

[Jamie Feldman:]

My understanding is that it's on like a fiber line or there is something unique about that submarket? That attracts tech tenants, is that true?

[Edward Fritsch:]

Well, there is a lot of fiber throughout that general submarket. It's a technology corridor. So that it's known for that to be part of the amenity base for customers that locate out in that area. Obviously, the utility companies whether it's fiber or power understand the type of customer that typically inhabits out there, and so they cater to that with both the fiber and the redundancy and electrical power.

[Michael Harris:]

Also a reminder, Jamie, these buildings have a very large footprint that is divisible. It's really two parts, so it can either be 60,000 square feet or one-fourth, later we can split it into two 30,000 square foot wings, which really gives a lot of flexibility to customers, if they want to go horizontal or if they want to go vertical.

[Edward Fritsch:]

And I also mention that we have a better than market parking ratio, and there are amenities within walking distance. So we don't feel cocky about it. But based on the improvements we're making and the feedback we have gotten thus far from the brokerage community and this early prospect, less than a month of getting the space back, we feel fairly good about it. Plus, the fact that the ending rent versus the asking rent, there is about a 15% increase in the delta. So we expect to be able to roll up rents 10% to 15%.

[Operator:]

Our next question comes from Vance Edelson with Morgan Stanley.

[Vikram Malhotra:]

This is Vikram in for Vance. Could you maybe just on that same topic, given the fact that there were currently at least a fewer options for larger A grade space. Can you maybe just talk about any competing supply that you might be starting to see from the private side or just any other in some of the markets? And the same, given the low supply, how have you seen occupancy trend in October? And then generally your expectations for the next 12 months, just more broader, I'm not looking for specific numbers.

[Edward Fritsch:]

As Mike said, we're really not seeing any spec development. He enumerated one example, but there really aren't others beyond that. The development that we're doing is, we've got $276 million of development underway and it's 87% pre-leased. We're not seeing other developers, whether it'd be our REIT peers or the private sector coming out with spec space. I think that, given how uncertainties have become more of a permanent thing, we see less aggression with regard to spec space coming in the market. And then a very unusual phenomenon has occurred that I think deserves underscoring and that is, despite the fact that demand dropped off in concert with the arrival of the great recession, pricing for construction remained high, which is counterintuitive. Normally, you would think that with the drop in demand that the cost of the supply would drop in accordance with that. But the cost of construction has stayed high. So in order to get into first gen space, built new to date, you have to think about a 20% or so increase in your occupancy cost. Hence I think that's holding a lot of spec development at bay and that any development that's coming out is much more likely to have some form of anchor or build-to-suit aspect to it.

[Vikram Malhotra:]

And then just generally, kind of any early trends in October in terms of occupancy, and just kind of your expectations for trends over the next 12 months.

[Edward Fritsch:]

Yes, as Mike said, we recently had an all hands leasing representative meeting here. The energy was good. They feel very positive about the velocity of showings and deals. We had a phenomenally active third quarter. We have very good prospects for some of these larger holes that we have in our portfolio. And they are also energized about the fact that we don't have any large expirations coming up. Just to expand a little bit, if you look over the last 15 months, we did experienced some large move outs, the last of which occurred at first of this month with AT&T, but there was two move outs that meant more than $4 million in annual revenues and one at $7 million. We don't have anything that even approaches that with the exception of one that's just above $3 million, and that's where we grew a customer's revenues by 60% by expanding them into a build-to-suit. So we really don't have these big large pending move outs like what we have experienced in three or four cases over the last 15 months and that will sure energize the group.

[Operator:]

Our next question comes from Brendan Maiorana with Wells Fargo.

[Brendan Maiorana:]

So Ed, I guess from that comment you just made, if I kind of look at the occupancy outlook for the next few quarters, AT&T at Windward was out, October 1. And then I think you kind of referenced LifePoint that comes out, and obviously that's an expansion into your new development, but it's a space to fill and then I think T-Mobile has got a little less space. So I think if I add those three up, it's about 460,000 square feet, but I guess reading your comments or listening to your comments, it sounds like you feel maybe 12 months from now or few quarters from now, you'll more than offset those move outs with the activity in the portfolio and lease up on the current portfolio as it stands today?

[Edward Fritsch:]

I do. I think that's well stated, Brendan, and then I would one bullet to that. We also feel pretty good about the activity that we are having on the value-add acquisitions we made this year. So this year we bought over 3 million square feet of space and the occupancy at the time of purchase was 81, you had 84 on that, and we're seeing good velocity of showings on that space. So it's an added, call it 3.4 million square feet that came into door at 81, we're now at 84 already, and we have good prospecting on where we're going further on those, so it's not just a backfill of these few larger holes, but it's also the delivery of some developments, like LifePoint will come in at 100% leased. Also, there is 3.4 million square feet that we bought at 19% vacant, and we're having good movement on the up-lease of that.

[Brendan Maiorana:]

So that's actually even more positive than what I thought, because I was sort of including that acquisition in the current portfolio. But you're saying kind of, if you look at your same-store portfolio as it gets reported in the supplemental, things that you have owned for the past 12 months that number, your occupancy, is probably at least in line with where it stands today, plus you have got lease-up on all the value add stuff that you did?

[Edward Fritsch:]

That's exactly right.

[Brendan Maiorana:]

And an update, I think in prior quarters you had said that the backfill on PwC felt pretty confident that you guys would have 100,000 square feet or so of the roughly 250, that they gave back, leased by the end of the year, it sounds like you've got very good activity. Do you still feel pretty confident in that number or do you think maybe that flips a little bit in terms of timing?

[Edward Fritsch:]

Yes, there is no reason for us to not continue to cling to project Santa Claus. We feel quite good about the prospecting we have for that. A deal is not a deal until both parties have signed, sealed and delivered it, but we certainly aren't backing off of that by any means. And maybe even better than what we've forecasted. I know the leasing agent right now rolling their eyes because I may have jinxed something, but we feel good about it.

[Brendan Maiorana:]

I'm sure, they'll do fine down there. And then maybe I'm looking at this a little bit splitting hairs a little too much, but it looks like Pinnacle, probably the occupancy there, even in the little time that you had it moved up from where you were in 84.9 and can you maybe give a little bit more color around that where you think you can take occupancy for that given the tightness in downtown Nashville.

[Edward Fritsch:]

You're correct, so we bought it on September 5, at 84.9. We've signed another 2.3%, or 16% of the vacancy exposure. And then we have a strong prospect for another 2%, so that would get us to 89.2, with signing these two deals. One is signed and is a very strong prospect. So we feel good that we'll be pushing 90% here once we execute this second lease, so 90-plus percent is certainly well within the sight.

[Brendan Maiorana:]

And then just last one for Terry. So the payoff of the mortgages that happened, how do we think about how you fund that? You've got I think another mortgage that comes due kind of midyear, did you do an unsecured issuance? And how should we think about the credit facility balance and maybe where that's likely to -- where you'd be comfortable with that over the longer-term?

[Terry Stevens:]

Brendan, you're right and that we did payoff about $100 million in early October of debt that would otherwise have come due in early '14 and it shows that actually on the supplemental as of September 30, but those are now been paid off using the credit facility as the funding source. The credit facility just so you know today has a balance of about $273 million, out of the $475 million, so there is still a good balance there. In terms of what we would do on the loan that comes due in mid '14, it's a secured loan. We really haven't made our mind up on that yet. We could decide to roll it back in the secured market. We have so many assets now that are unencumbered, we have just great options to use that pool, for secured loans if you want to go that way or we could go unsecured and do a bond deal. We just haven't made our mind up yet on that, but we have lots of options to take care of the maturities that we have in '14. Our total floating rate debt today that, which is the line and one bank loan is just under 10% of our total book value. We feel comfortable with floating rate exposure at that level. Could even go a little bit higher, so I think that gives you maybe some sense of where we're comfortable at in terms of the line of credit.

[Brendan Maiorana:]

I think that the mortgage that comes due is little over 3%, is that on today's terms that if you did mortgage debt or if you did on security, is it fair to say that it goes up to the range?

[Michael Harris:]

Good question. That loan came in through the acquisition of the Orlando assets. And so it was a mark-to-market at that rate. And it was lower because there's only about a year left on the term. So it just got a lower market rate giving the shorter term. And you're right, if we rolled that back into the secured market on a more realistic term, say five to seven years the rate would be probably somewhere in the mid-four's. So it would grow up a little bit.

[Operator:]

The next question comes from Dave Rodgers with Robert W. Baird.

[Dave Rodgers:]

Maybe on the disposition side as you start to talk more about development, you're certainly been more acquisition-friendly this year. You quoted I think it was a 7.9% cap rate on sales, maybe that was subsequent to the end of the quarter. One, did that include the industrial blend into that number or was that separate? And then maybe just more broadly, talk about how you're viewing non-core dispositions. Is there any incremental market for what you considered to be kind of non-core?

[Edward Fritsch:]

Sure, so if I miss any aspect to that pull me back, but we have very favorable results with the timing of the sale of our industrial assets, to have sold as much as we did and basically earn a low 6% cap and a $50 million gain on that, it was very well leased. So I think the timing of that was excellent and we kind of need to look at the industrial versus what else we have to sell. The other aspects that we've been selling, really been the non-core office properties and they vary in occupancy and submarkets and has been much more of a one-off sale here and there, but we still have, as I mentioned a couple of hundred million dollars worth of non-core sales that we would like to do and we're working them in concert with renewals, to be sure that we can maximize the value. So what we do is we compare, how long do we think it would take to lease it up if we have a hole and what the return on that would be versus if we just went ahead and rip the band-aid off now and sold it.

[Terry Stevens:]

Just to be clear, the $25 million that was sold in October were office assets in two markets. There were several buildings in Winston and one in Atlanta. And those office buildings were at 7.9% cap rate that I talked about in my comments. That did not include obviously the industrial assets in Atlanta that were sold partly in the second quarter and then the balance in third quarter.

[Dave Rodgers:]

And then maybe, I guess going back to total availability in the portfolio, due to some of the recent acquisitions and maybe a little bit due to the move outs, I think your total availability in the office side at least, it's kind of the highest that it's really ever been. And I think you've kind of positioned yourself to grow obviously occupancy over the course of the next couple of quarters. But as you look at that, the available space I guess, maybe break it down if you can in just broad terms, in the sense that, CBD or infill, what's maybe more BBD? Or even maybe a better way would be, can you tell us a little bit more about the demand for value space versus kind of the Class A premium space in that availability pool and how you're kind of see that leasing up?

[Edward Fritsch:]

So again, if I miss some aspect of that pull me back, but we have sold occupancy, for example we've sold well over 2 million square feet of industrial that was 93%, 94% occupied. So we have sold occupancy that has had a negative impact on our overall number. But just this year alone, we've bought 13 buildings that can price 3.4 million square feet that had 80 bps of negative impact on overall occupancy, but it does create that lease-up opportunity. So we've sold out of the six, our non-core product and we've bought in, what we think at attractive numbers and what we've invested in is BBD. We haven't gone and bought anything that's really not in many rich environment. And so we think that we've already evidenced some pretty good leasing velocity on what we bought already this year. Last year we bought more stabilized properties and that they were in the low-90s at the time of acquisition to expand footprints. But we've already seen good activity on what we bought, akin to what we experienced with our purchasing delivery of the assets in downtown Pittsburgh. The activity on Pinnacle has been good. The activity on One Alliance and Buckhead has been excellent. We've got good activity with the CBD buildings in downtown Orlando. Really across the boards on this value-add, it's not value-add discount space, this is quality assets in the BBDs, that for one reason or another had low occupancy, in virtually every case it's been, because there has been some issue related to the capital stack. And it's been confusing to brokers and users and prospects. And we've been able to come in and put our balance sheet beyond it, so we've [ph] Highwoodtized the asset, put together a very sophisticated marking plan, put our people and our brand on it, and we're seeing occupancy move in the right direction.

[Dave Rodgers:]

Last question, on the developments, what's driving a lot of these discussions? Is it just greater efficiency in overall real estate cost? Is it out-of-market locations, and it maybe some of both, but underlying I guess some of these discussions, where do you see decision makers at your tenant levels, making decisions in terms of wanting to do new development.

[Edward Fritsch:]

Well, there's no doubt that the decision, it's being made in the C-suite, and everyone of these instances, none of these are kind of cavalier moves. But the rationale for going into a build-to-suit fits into just a few silos. One, it's the pulling together of space that's in multiple buildings, into one building under one roof to garner synergies and better functionality and better communications, production and morale. Two is it's to, given the fact that a lot of -- what Mike was asked earlier, I think by Jamie with regard to the reduction of large blocks of Class A space. Those large blocks of Class A space that were available in '11, and '12, really were the results of new construction that was started in '08, and delivered in '09, that was very late in the cycle. So there was an absorption of those with no new backfill of development, once those were absorbed. And I think that's what's really playing well into our hands in each of these markets. So it's a customer who wants to be either who needs to condense from multiple locations into one or it's a customer that wants to dramatically restack, willing to pay some 20% increase over second generation space and/or wanting to present a whole new image to their client base, their employee base or it is a relocation much like MetLife is. So MetLife is an absolutely homerun, three men on, bottom of the nine, game seven of the series. I mean its total new absorption for us, its total new absorption for the market. It's good all the way around for business. It's a 100% pre-leased with a Fortune-40 company, for a long-term lease. So that type of migration relocation is the third silo and it's very accretive.

[Operator:]

Our next question comes from Michael Knott with Green Street Advisors.

[Jed Reagan:]

It is Jed Reagan here with Michael. Where do you think the mark-to-market rents on your portfolio stands today? I think you talked recently about maybe being sort of mid-single digits above market and then sort of related to that when do you think releasing spreads could turn positive?

[Edward Fritsch:]

I think you answered the question, I think that the first part of the question, I think that's appropriate. I think that some of it depends on a lot of the answers to the previous questions with regard to how much spec space comes on. We don't see much of that happening, which obviously will help us to push rent. So does inflation come and we can push rents, does absorption continue to come and we've seen very significant absorption in our markets quarter after, quarter after, quarter now. Atlanta absorbed 1.3 million square feet after absorbing 950,000 square feet this last quarter. So we're seeing good absorption rates, which means that we can continue to push these asking rates up, like we said 2% to 5% right now. And of course, the compounding of the annual kickers is the thing that really shows the way that we computed. And I'm sure since it's not a NAREIT-defined calculation, the way that we compute our cash rank comparisons as we take the initial rental rate, plus all the compounded annual escalators, plus the full CAM paid in the last year. And we compare that to the rent in the first year of the new lease, and we include, whether it's a renewal or a re-let. So we think that these annual escalators obviously accrue to our benefit and some times just out run the appreciation in the market. But when we do fall a little bit short, like you said, mid-single digits, we're making that up within the first year or year-and-a-half with the new lease.

[Jed Reagan:]

Have you been seeing any noticeable changes in cap rates in your core markets over the last quarter or so? And maybe any changes in the buyer profiles in these markets?

[Edward Fritsch:]

We have not, Jed, there just hasn't been that much activity, so I would describe it as stable. I think that the GAAP between gateway or CBD, verses other has narrowed because the other has gotten so expensive that money has kind of flowed into the mid-tier markets, but that gap narrowed and I would say it's stable right now.

[Jed Reagan:]

And then lastly, can you just a little bit about the decision to move forward on the new Raleigh development and GlenLake with the 25% pre-leasing. Just how do you feel about your chances there and could we see you moving further out the risk spectrum for developments in some of your other markets?

[Edward Fritsch:]

With regard to GlenLake, we have about 450,000 square feet in the three existing buildings there and we're 100% leased in those buildings. We have four more pads that are already graded, infrastructure in place. And given that we're 100% on the 450,000 square feet, we got to the point where we really are going to lose expanding customers to the competition or we're going to accommodate them in that part. So the 25% pre-lease we have are actually new customers to Highwoods, so that's 40,000 square feet of brand new business to us from two different users. In addition to that we have very good prospects to grow some of our existing client base within GlenLake as well as others in the market. Nobody else to date has put a spade in the ground to start any new construction and we think we're in a very good position to capture that.

[Michael Harris:]

And a remainder, GlenLake is definitely the BBD submarket here for us. Good amenities nearby, so if there was ever a place that we were going to embark on this, this is the one submarkets we'd want to get.

[Edward Fritsch:]

And just one minor footnote to that, Jed, we did, the space that we leased with a lower the floor, so we have theoretically the best space in the building still available and one of the best parks in the market.

[Jed Reagan:]

And then how about in other markets, might you start development with that kind of a pre-leasing profile?

[Edward Fritsch:]

I'd be cautious to say that we would start another one at 25% pre-lease. It would really depend on what our conditions are in that immediate submarket. And I think we would also be very calculated on how much we do as far as total spec within the portfolio. I don't want to say that we wouldn't. We're looking on a few things here and there, but more of the irons that are in the fire are predominately strong anchor tenant to build-to-suit development projects.

[Operator:]

And the next question comes from Michael Salinsky with RBC Capital Markets.

[Michael Salinsky:]

Just to go back to Dave's question, you talked about strong demand with your acquisitions in the BBD districts. Can you talk a little bit about non-BBD? Are you seeing any pickup in some of the commodity space, suburban stuff? Basically, Class A?

[Edward Fritsch:]

I think on the margin, I wouldn't say that there has been a stampede of expansion in commodity space. I would say on the margin that there are aspects of the lease terms that are tightening up to some degree, but I wouldn't say that it's a dramatic change in personality on demand or economics for that space.

[Michael Salinsky:]

Second, as you look to '14 at this point, other than T-Mobile and LifePoint, any additional large vacates that you are aware of at this point?

[Edward Fritsch:]

Yes, I am glad you brought that up. So I just want to underscore this again, and I appreciate the question, that we have for better or for worse, I think when we find out we're going to have a big move out, I mean we tell it, we put it out there, so we can start to communicate and give context to it and be sure that we are able to give updates as we go. But the three largest holds that we have right now are customers who are paying us $4 million or more in annual revenues. And going forward, so if you look out over the next 15 months, say starting with first quarter of '14 running into the first quarter of '15, we don't have any such customer of size that's even due to expire, whether we have renewed them or think that they would renew or not. The only large ones are the two that you have pointed out, so LifePoint, which is a 147,000 square feet, just over $3 million in revenue. I just want a footnote that we have grown their revenues by 59% by moving them into a bigger more expensive space. We currently have 11% out for strong prospects on that, but it's also in a submarket that's just around 3.5% vacant and more about 3.2% vacant on that. So you can get a submarket much tighter then that. So we feel quite comfortable about the ability to grow those rents. And then with regard to T-Mobile in Tampa at Lakeside, we currently have a strong prospect for a 100% of that space. Now, I call them a strong prospect, it doesn't mean that there's a lease out, it doesn't mean that we have a ribbon cutting party, but it does mean that we have good activity on it and we don't get that space back until the first of next year. And beyond that we don't have anything of size that we have to worry about or wrestle with.

[Michael Salinsky:]

Third question, you talked about 3% growth in asking rents, what are you seeing on effective rents?

[Michael Harris:]

The leasing CapEx that we're seeing today and we're looking at the blocks of space that we have. The concession levels, I think it's all subsided a little bit, as demand has increased than the amount of concessions that we have to give. Certainly have subsided somewhat, particularly in the free rent area. We have to look at it space-by-space in terms of the condition from a T.I. standpoint. But I would expect that we have one of the best, I think the best quarter we've ever had, in terms of our net effective rents this quarter at $13.57. I'd love to think that's a trend, we hit a high watermark on this quarter, but I believe that that trend will continue to stay up from our previous five quarter average.

[Michael Salinsky:]

And then finally, just as we look at kind of sources and uses explaining the development for next year, how much of your portfolio would you consider non-core and kind of in that sales bucket in the next couple of years?

[Edward Fritsch:]

I think over the next couple of years, we haven't given guidance for '14. But as we said, we still have a few hundred million of assets that we would like to sell. We've sold $1.3 billion, $1.4 billion at this point in time. So between acquisitions, development and dispositions, our portfolio is dramatically different than from when we started the strategic plan. I also think in as part of our strategic plan that as long as we own, let's call it a 100 buildings for hypothetical, and we are to rank those buildings one through a hundred, and we are to be looking at buildings 90 through 100 and say, there's a time to swap out of those, the dynamics of the market changing, is there anything changing with regard to that submarket of the building. And how do we trade those dollars for another set of buildings that are more akin buildings one through 10. So I think it's a constant culling process that we will be a capital recycler, as we always evaluate the bottom 10% of our portfolio.

[Operator:]

I am showing no further questions. I'll turn the conference back over to you Mr. Fritsch. Please continue with your presentation or closing remarks.

[Edward Fritsch:]

Thank you, operator. Again, a great quarter for the team, a phenomenal amount of capital activity, a very good lease prospecting. I appreciate all investors and others who are listening in for your continuous support. And as always, we're available for any questions you may have after this call. Thank you.

[Operator:]

Thank you. Ladies and gentlemen, that concludes the conference call for today. We thank you for your participation and ask that you please disconnect your lines. Have a good day.