Vornado Realty Trust
Q3 2016 Earnings Call Transcript

Published: 2 Nov 2016

Operator:

Good morning, and welcome to the Vornado Realty Trust Third Quarter 2016 Earnings Call. My name is Karen, and I’ll be your operator for today’s call. This call is being recorded for replay purposes. All lines are in a listen-only mode. Our speakers’ will address your questions at the end of the presentation during the question-and-answer session. [Operator Instructions] I will now turn the call over to Ms. Cathy Creswell, Director of Investor Relations. Please go ahead.
Cathy Creswell:

Thank you. Welcome to Vornado Realty Trust’s third quarter earnings call. Yesterday afternoon, we issued our third quarter earnings release and filed our Quarterly Report on Form 10-Q with the Securities and Exchange Commission. We also issued a press release and investor presentation regarding the spin-off and merger of our Washington D.C. business with JBG Companies. These documents as well as our supplemental financial information package are available on our website, www.vno.com. In these documents and during today’s call, we will discuss certain non-GAAP financial measures. Reconciliations of these measures to the most directly comparable GAAP measures are included in our earnings release, Form 10-Q and financial supplement. Please be aware that statements made during this call may be deemed forward-looking statements and actual results may differ materially from these statements due to a variety of risks, uncertainties and other factors. Please refer to our filings with the Securities and Exchange Commission including our Form 10-K for more information regarding these risks and uncertainties. The call may include time sensitive information that maybe accurate only as of today’s date. The Company does not undertake a duty to update any forward-looking statements. On the call today from management for our opening comments are Steven Roth, Chairman of the Board and Chief Executive Officer; David Greenbaum, President of the New York Division; Michael Franco, Executive Vice President and Chief Investment Officer; and Stephen Theriot, Chief Financial Officer. Also in the room are Mitchell Schear, President, Washington, D.C. Division and Joseph Macnow, Executive Vice President and Chief Administrative Officer. Matt Kelly, a Managing Director of the JBG Companies and the Chief Executive Officer Designate of JBG Smith Properties is also with us. I will now turn the call over to Steven Roth.
Steven Roth:

Thank you, Cathy. Good morning, everyone. Welcome to Vornado’s third quarter call. Before we begin, I'd like you all to go through our mega 64,000 square foot Victoria Secrets Flagship on Fifth Avenue opened a few days ago. I invite everyone to go take a look. It's an amazing retail emporium and the newest jewel in our high street retail crown. We have a lot to talk about this morning. Here is how we will organize the call. First, David will cover our flagship New York business which after Washington spins out is as the bankers call it, RemainCo. Next CFO, Steve Theriot will cover a financial results and capital markets activity. Then I will discuss the transformative transaction we announced last evening the spin/merge of our Washington D.C. business with JBG. Then Chief Investment Officer, Michael Franco will take you through highlights of the Investor Deck we posted last night. And finally, Matt Kelly, a Managing Partner of JBG and Chief Executive Officer Designate of the combined business is with us here today. Welcome Matt. He will bat cleanup and give you his comments before we go to Q&A. Okay. Let’s get started [indiscernible] David.
David Greenbaum:

Thank you and good morning everyone. The Washington D.C. news today. I'll be brief in my prepared remarks and happy to take any questions when we get the Q&A. A few observations on the markets in New York. As I've said before the most important metric if we look at our employment numbers, in particular office using jobs. Private sector employment is up about 80,000 jobs for the trailing 12 months and at 3,773,000 jobs is that an all-time high. Office using employment is also up 14,000 jobs a year-over-year and at 1,373,000 jobs again is at an all-time high. While this rate of growth for office sector jobs is less than the 35,000 average annual increase over the past six years since the recovery kicked in. We are still seeing good office job growth later in the cycle, increasing at a bit over 1% per annum. Most of the brokerage houses have reported modestly increasing space availability levels both for the quarter and the year-to-date of about 50 basis points. No big deal. Asking rents remain at or near record levels, and leasing activity for the first nine months at over 27 million square feet is up about 4% from last year and on par with 10 year averages. We have seen the shifting of tenant demand away from commoditized buildings which are not leasing well to new and updated buildings which are seeing good activity as tenant seek more modern and efficient space. We anticipated this trend early, having completed 6.5 million square feet of high quality building repositioning in the last four years alone, our fleet is in great shape. Let me now turn to the quarter beginning with our office portfolio. As expected our occupancy at the end of the third quarter fell slightly by 50 basis points to 95.5% primarily as a result of the U.S. Customs Service vacating nearly 150,000 square feet at 1 Penn Plaza for a long planned return to the World Trade Center. We have already released about 50,000 square feet of that space and have a strong pipeline to fill out the remainder. For the quarter, we leased 335,000 square feet in 40 transactions at average starting rents of $68.11 representing mark-to-markets of 7.1% GAAP and 6.2% cash. About 40% of leasing activity was in Penn Plaza. Let me remind you that this reduced level of activity is a reflection of the fact that during the past three years 2013, 2014 and 2015 we leased the better part of 9 million square feet handling our major future expirations. A couple of examples, in 11 Penn Plaza we entered into long-term renewals with AMC Network and Macy's for an aggregate of 975,000 square feet. At 2 Penn Plaza we renewed MSG for 325,000 square feet and where we knew we would have space coming back to us, we completed headquarters leases with Neuberger Berman for over 400,000 square feet in 1290 Fifth Avenue and with Amazon for 470,000 square feet at 7 West 34th Street, all space that was otherwise coming back to us in the 2017, 2018 period of time. We remain basically full, and our expirations are modest with just 113,000 square feet of leases expiring for the balance of this year and only 600,000 square feet in all of 2017 with no one tenant representing more than 75,000 square feet. We have a robust pipeline including more than 560,000 square feet of leases in negotiation and another 700,000 square feet in active discussions. Last month a joint of Vornado and the related companies, a natural marriage teaming up the largest owners in Penn Plaza and Hudson Yards, was designated by New York State to redevelop the historic McKim, Mead and White-designed Farley Post Office Building. The building will include a new Moynihan Train Hall serving Long Island Railroad and Amtrak passengers, which will be constructed Skanska. As Governor Cuomo described last month, the Train Hall will be a grand civic space. At 250,000 square feet larger than the main hall at Grand Central, the Train Hall will increase the floor space for the commuting public by over 50%. Over 90 feet above the main train passenger level there will be a grand skylight supported by historic trusses to allow light to stream into the Train Hall. Vornado related joint venture will acquire approximately 850,000 rentable square feet in the building to be developed into creative office space and ancillary Train Hall retail for an upfront payment of $230 million. The Farley Building adds to our growing portfolio of new office developments on the West Side including 61, 9th, 512 West 22nd Street, 260, 11th and 85 10th Avenue. The interior of the original Farley Building, a postal facility, was built as a warehouse with great 17 plus foot floor to floor ceiling heights and floor plates averaging over 200,000 rentable square feet. It has the same spectacular bones as our 770 Broadway here in New York and theMart in Chicago both of which have proven to be best-in-class creative space for creative office class tenants such as Facebook and Google. We are confident that this building also will contribute to the ongoing repositioning of our Penn Plaza portfolio as a hub for high quality TAMI tenants seeking to locate near the most important transportation hub in New York. Governor Cuomo and his team deserve enormous credit for advancing this important project. We are proud to have been designated and look forward to working with the state and the railroads to deliver the governor's vision of a grand gateway to New York City. Turning now to our premier street retail portfolio, during the third quarter we leased 7,500 square feet with strong positive mark-to-market of 69.2% GAAP and 53.4% cash. Occupancy ticked up 180 basis points to 96.7%. Ed Hogan, who runs our retail leasing machine in New York, would tell you that over the last couple of months we have seen retail leasing activity increase for the entry of some new tenants into the market and interest from cosmetics tenants, intimate apparel and food retailers. As Steve mentioned, we invite you to visit our 640 Fifth Avenue property, which just last week Victoria Secrets opened their four level stunning new 64,000 square foot flagship store. To enable to Victoria’s Secrets to complete its fit-out and open for the important holiday season we completely restacked and repositioned the former H&M space in record time working three shifts a day and delivering the space to Victoria's Secrets in February. At the adjacent 3,000 square foot store with 25 feet of frontage on Fifth Avenue, Nespresso last week opened the pop-up store for the holiday season and we have a long-term lease out for this space with a tenant which will open its first flagship retail store in New York. At theMart in Chicago, same-store numbers for the third quarter were very strong positive 12.4% GAAP and 5.5% cash. Great tenants continue to be attracted to the innovation focus space at theMart and we are proud of the quality of the two tenets we added in the third quarter, Kellogg and Caterpillar. Adding these household names to an already blue-chip roster continues to reinforce the preeminence of this unique asset, we leased 20,000 square feet of office space at average starting rents of $47.46 representing mark-to-market of 58.2% cash. These leases got our occupancy up by 40 basis points to 98.2%. In San Francisco at our 1.8 million square foot 555 California Street, we leased 72,000 square feet this quarter including a 54,000 square foot renewal lease with McKinsey & Company. With average starting rents of around $90 per square feet, we believe the building's position as the premier office building in San Francisco is clear. Our amenity reached redevelopment of the concourse level should be completed around year end and we are also making very good progress with potential tenants for the former Bank of America banking hall that we call The Cube. Overall for the New York division, we had a very strong quarter with a same-store increase of 4.9% GAAP and 9.6% cash or an even stronger 6.5% GAAP and 11.7% cash excluding the Hotel Pennsylvania which really tells a truer story. The hotel business in New York continues to feel the impact of oversupply in the market on both occupancy and pricing. And with that, I'll turn the call over to Steve Theriot.
Stephen Theriot:

Thank you, David. Good morning everyone. Net income for the third quarter of 2016 was $0.35 per share as compared to a $1.5 per share for the third quarter of 2015. Net income for the third quarter of 2015 included net gains on sale of real estate of $136.2 million or $0.72 per share. After adjusting for net gains and other items that affect comparability in both periods, adjusted net income per diluted share for the third quarter is $0.39 or $0.02 above the prior year’s third quarter. FFO as adjusted which we formally called comparable FFO was $1.24 per share for the third quarter or $0.03 above the prior year’s third quarter. See Page 39 of our Form 10-Q for a reconciliation of FFO and FFO as adjusted. Our fad ratio exceeded 100% in the first and second quarters and is 95.5% for the third quarter. Our fad ratio will continue to remain elevated for the balance of 2016 as a result of the capital outlays for tenant improvements and landlords’ work related to the bulge of leasing activity in the last two years ahead of the commencement of the incremental cash rental revenue. We expect our fed ratio will return to its normal loss level in the mid-80's by the end of 2017. As David noted, our New York business had a strong quarter with same-store increases of 4.9% GAAP and 9.6% cash. Excluding Hotel Pennsylvania, it is an even stronger 6.5% GAAP and 11.7% cash. On to our Washington business. As noted on Page 48 of our Form 10-Q we reaffirm our guidance for a New York business for the full-year 2016. I'm sorry Washington - our Washington business for the full 2016. Within that guidance we expect to be at the midpoint of our guidance for core operations of flat to up $4 million. The leasing pace at the Bartlett is running at an incredible 60 units per month. Since we open the rental office in June of this year, we have leased over 65% of the units of this 699 unit project. A big testament to the quality of the development and the competitiveness of the product. We have leased 455 units and the rental office just opened five months ago just incredible. We leased 177,000 square feet of office space in Washington, excluding Skyline, with mark to markets to negative 4.8 GAAP and negative 10.3% cash. Quarter in occupancy of the Washington portfolio excluding Skyline was 91.1% down 20 basis points from the second quarter. Now to capital markets activity in the quarter. We completed a five-year $675 million dollars refinancing of theMart at a 2.7% fixed rate. This loan replaces the 5.75% $555 million mortgage that was scheduled to mature in December. We redeemed all of the outstanding 6 7/8% Series J preferred shares at par or $246.3 million in the aggregate which will result in savings of $17 million or $0.08 per share per year. We have virtually no remaining consolidated debt maturities in 2016 and our 2017 maturities or $360 million. Our share of partially owned entities debt maturities is $33 million for the remainder of 2016 and $89 million for 2017. Excluding Skyline and the financing for 220 Central Park South project which will self-liquidate as sign contracts closed our consolidated debt metrics are fixed rate debt accounted for 74% of debt with a weighted average rate of 3.81% and a weighted average term a 4.7 years. And floating rate debt accounted for 26% of debt with a weighted average interest rate of 2.23% and a weighted average term of 4.9 years. Debt to enterprise value is 26% percent, debt net effect to EBITDA is 5.5 times including our share of partially owned entities debt other than Toys "R" Us, debt net of cash to EBITDA is 6.4 times. In closing, for Vornado has a fortressed balance sheet with modest leverage and well staggered debt maturities. We have $4.1 billion of liquidity comprised of $1.7 billion of cash, restricted cash and marketable securities and $2.4 billion undrawn under our $2.5 billion revolving credit facilities. I will now turn the call back to Steve.
Steven Roth:

Thanks Steve. From here on my remarks followed by Michael and Matt will focus on Washington and the spin/merge transaction. A few years ago in response to a chronically undervalued stock price and an admittedly too complex and diffused collection of assets and businesses. We began a program to simplify and focus the Company, all with an objective of day lighting our treasure trove of assets and creating value. As I said at that time everything was on the table and that we would leave no stone unturned. We have since exited business lines and non-core investments gotten out of the mall business sold out of the showroom business. Retaining of course the giant 3.7 million square foot Chicago Mart building. We spun off our shopping center business into urban edge properties all told this activity told total $9.1 billion. Of course along the way we acquired and developed assets into our core all the while upgrading the mix and quality of our portfolio. Last evening we announced another major milestone. The spinning off of our Washington D.C. business and simultaneous merger with the JBG Companies in what is known in the trade as a tax-free spin/merge transaction or technically a reverse Morris trust. A little history here, we acquired our Washington business in 2002 at the right time in the cycle and at a great price. We have since built it through acquisition and development to be the largest owner in the region. In 2011, we suffered a double whammy when the Department of Defense and related contractors began vacating with total 2.5 million square feet under the BRAC statute, just as the Washington office market was softening. At the Nader, we suffered a $70 million hit to annual income. Even though our flagship New York business powered through and its growth well exceeded the hit from Washington, our stock price has suffered. What to do? For various reasons selling the Washington business was not an option nor did we want to sell it at the bottom. Some would say that by not selling we are actually buying and that's sort of true. We do like the Washington marketplace and we do like our assets in Washington especially at that price. So no sell but we did believe the best strategy was to separate Washington and New York for reasons that I will speak about in a minute. The tax-free spin-off was the perfect solution. Spinning our Washington business as it is would have been just an okay execution but combining it with the market leader JBG would be a blockbuster. At that point we initiated an approach to JBG and began a courtship. Three things happened. One we got to know each other very well. Two, the JBG gang began to appreciate that the permanent capital and scale of the public company format may be an even better business model than their private fund model. And three I decided at that time not to proceed. I simply couldn't get comfortable with serving two masters their private limited partners and our public shareholders. This time around we have it exactly correct. There will be no new funds and the existing funds will run off, we all the Management, the Board and shareholders, will all worship at the altar of stock price standing shoulder to shoulder. JBG having caught the bug pursued an IPO, pursued a merger with several other already public candidates and finally made a deal with NYRT, which I believe everyone on the call is probably familiar with. Maybe the JBG guys stubbed their toes on the NYRT deal, maybe not whatever. There were lessons learned there and these guys are very fast learners. But I can assure you that the JBG team are great real estaters and great moneymakers and after all that's what I'm after. I cannot emphasize enough the capability of the 150 person JBG team. This is the real prize in this deal. Key business terms an important information regarding our JBG Smith transaction are available in the press release and investor presentation on our website at www.vno.com. A couple of points before Michael takes you through the investor deck. Vornado shareholders are expected to own approximately 74% of the combined company. JBG limited partners are expected to own approximately 20% and JB Management is expected to own approximately 6% all of those percentages being subject to closing adjustments. The combined company will be led by JBG’s senior management team critically management's interest will be perfectly aligned with shareholders’ interests they will be huge equity holders of restricted stock in units with appropriate vesting and lockup periods. Management will certainly be eating its own cooking. We very carefully selected which JBG assets would be included, always with an eye towards future growth. Valuations were determined fairly and absolutely symmetrically. JBG Smith Board of Trustees will consist of 12 members, a majority of whom will be independent. Vornado and JBG will each designate six trustees. I will be Chairman of the Board, Matt Kelly will be Chief Executive Officer and a member of the Board. We expect to file our Form-10 in December and we expect to complete the distribution and combination in the second quarter of 2017. Vornado’s Board has already approved the transaction and JBG’s investors have consented. This is a great deal for Vornado. This is a great deal for Vornado and its shareholders. It was very carefully constructed. It is transformative and it accomplishes many of our most important goals. It creates two highly focused pure plays each with its own stock price which I view as a report card and each of the two will be the largest and the leader in its market. Investors will be free to invest in New York or Washington or both as they choose, no fondling here. The main event for us is our flagship New York business which is more than four times the size of Washington. Separating Washington from New York will daylight New York's treasure trove of assets and superior financial performance. Importantly, it is the big fix for Washington. JBG Smith will be the market leading powerhouse with unrivaled portfolio and substantial growth opportunities. In fact, I believe the new JBG Smith has the potential to be the fastest growing real estate company in the country. And the map works. At its simplest, pure play New York unburdened by Washington has betrayed much better and Washington with JBG management has to perform and trade much better. I'll say it again. At its simplest, pure New York unburdened by Washington has betrayed much better and Washington with JBG management has to perform and trade much better. Simply stated, that's why this is a great deal. Now, I will turn it over to Michael who will take you through the investor presentation.
Michael Franco:

Thanks, Steve, for that introduction and good morning, everyone. Turning now to the slide deck we posted on our website last night. There is a lot of detail in there. We won’t review all of it on this call, but I'm going to take you through the highlights. Starting on Page 1, I want to start by reiterating that this transaction was a continuation of the strategy Vornado began several years ago to simplify and focus our business. When all this said and done, we will have driven significant shareholder value by creating three best in class pure play publicly traded REIT’s. Urban Edge with its growth-oriented focus and portfolio of retail assets and high barrier centers, a highly focused New York City centric Vornado with premier office assets and the only publicly investable High Street retail portfolio of significant scale and JBG Smith which will be the largest pure play and soon to be powerhouse Washington D.C. real estate company. Page 2 provides an overview of the transaction. Vornado is spinning off its Washington D.C. business and JBG is merging in its operating company and a portfolio of selected assets. It’s a marriage of the two largest and most well respected real estate organizations from the DC market the product of which will be the market leading pure play DC Real Estate Company. The combined transaction value is $8.4 billion. Much like we set up Urban Edge, JBG Smith will be well capitalized with substantial liquidity and a strong balance sheet designed to execute on its business plan. As Steve said earlier, Vornado’s shareholders are expected on approximately 74% JBG’s current limited partners approximately 20% and JBG management approximately 6%. We'll talk more about how we derive these percentages in a moment. As we review shortly, we've taken steps to totally align the interest of JBG Smith management and shareholders. In addition, while this deal was motivated by strategic considerations about the opportunities in Washington D.C. there will be significant cost synergies tolling about $35 million before accounting for public company cost from combining complimentary portfolios and platforms, creating an overhead cost structure in line with best in class peers. As for Vornado RemainCo, it will be the premier pure play New York City real estate company. We expected the aggregate of Vornado RemainCo and JBG Smith’s dividends will be at least equal to Vornado’s current dividend. Finally, we expect this transaction to close in the second quarter of 2017. Page 3 shows you the statistics and makeup of the combined portfolio in this transaction. The asset quality and urban infill concentration of the 79 asset operating portfolio and almost 20 million square foot development pipeline will stand head and shoulders about its competitors. The combined portfolio is diversified in terms of property asset classes and also geographies in the metro DC region where we'll have a significant presence in the best submarkets. Downtown DC, Crystal City, Pentagon City, Roslyn, Reston and Bethesda. JBG Smith will be an excellent position to drive outsize returns in value over time with his unmatched portfolio. Steve covered the strategic rationale for the transaction at the outset. So let's move the Page 5. This page provides an overview of the thought and strategy that went into selecting the JBG assets to merge with the Vornado Charles E. Smith portfolio and position the combined company for outsized growth. We strategically selected the best assets in the larger JBG pool of assets the compliment of Vornado DC portfolio. Our objective was to create a combined portfolio with a unique profile by selecting strategic high quality assets, both operating and land with high growth potential that reinforce key attributes including one critical mass and core in metro served markets, two concentrations in complimentary submarkets particularly in mixed-use environments, three an enhanced diversification and four, strong value at opportunities. And we deliberately excluded assets that did not fit these objectives, such as those in non-metro served areas highly leveraged GSA lease buildings, near-term sale candidates and hotels condominiums and townhouses. These assets will be sold as part of the natural wind down the legacy JBG funds. Now let’s moved to the methodology. We used to value the assets to be merged. And the resulting ownership levels which other subject to Page 6. We rigorously under wrote in a review of comps on each other's assets to arrive at fair market values for each side. As Steve said asset pricing was done fairly and symmetrically with the net result being implied weighted average cap rate of 5.1% on each side's operating assets. For the non-operating assets including under construction development and land assets we used a consistent return on cost per pound methodology. Finally, to arrive at a value for each management company we used a combination of valuation approaches including multiples on precedent transactions and DCF analysis. The result is that Vornado's Management company is being contributed it $80 million and JBG company is being contributed at $335 million. A reflection of the fact that JBG generates 4 to 5 times more and third-party fees than Vornado DC's Management company. The bottom line is that Vornado shareholders expect on approximately 74% of the company and JBG’s Management and LPs will own 26%. Moving on to Page 7. It was critical to us that the transaction ensured total alignment of management interests with those of JBG Smith shareholders. As Steve mentioned earlier JBG Smith will not raise new private investment funds. The JBG legacy funds are fully invested no longer in acquisition mode and will be wound down. The only thing that matters is the shareholders. Importantly the vast majority of the management team’s net worth will be tied up in JBG stock. JBG Management will own approximately 6% of the combined company putting it in the top decile of companies. Of the JBG Management company shares 50% will vest immediately and be locked up for three years and 50% will vest over months 31 to 60 and be locked up until the end of the fifth year. The management team will not receive promotes on contributed assets, but will continue receiving promotes they're entitled to on legacy fund assets as the funds are wound down. Finally, we are also instituting a $100 million formation equity grant award for a broad group of JBG Smith employees. That is entirely performance based to align interest deeper into the organization. To be clear this award only becomes in the money if the stock goes up and is only worth $100 million if the stock doubles. Let me move on to process and timing on Page 8. We expect to file the Form 10 by the end of this year we complete the transaction the second quarter of 2017 subject to the receipt of customary third-party consents in Hart-Scott-Rodino. There's no shareholder vote required on the Vornado side and JBG has already received all the investor approvals for the transaction. So closing is just a matter of time. The pro rata distribution ratio for Vornado shareholders will be one for two. So investors will receive one share JBG Smith for every two shares of Vornado stock they own. Vornado will provide interim support services in areas such as IT, tax and SEC reporting pursuant to a transition services again. Before turning it over to Matt to discuss the prospects for JBG Smith. Let's first take a quick look at the post-spin Vornado. Pages 9 through 17 cover Vornado RemainCo, which is really the main event. With the separation of DC Vornado RemainCo will be the premier pure play in New York City REIT with a portfolio of irreplaceable best-in-class office and High Street retail assets in one of the best markets in the world and one where we are a clear leader. Upon completion of this transaction 99% of our EBITDA will come from our core New York real estate segment including theMart and the 555, California. New York City will itself account for 88% of our EBITDA after the spin-off up from 70% today. All-in-all it's a world class business having divested non-core assets and now at this latest step, we hope investors will be better able to appreciate what a powerhouse our New York business is. We don't have time to cover every page in this section but the images and financial figures clearly demonstrate what a unique collection of assets we have, one we have spent years curating and which cannot be replicated. In addition the figures show the impressive growth our New York business has historically delivered both on an absolute basis and relative to our peers. The metrics are industry leading. So to sum up as the New York City focus pure play, with a fortressed balance sheet, attractive growth opportunities and a deep and experienced management team with a proven track record Vornado will be well positioned to further enhance shareholder value. Now let me turn the floor over to Matt Kelly to walk you through JBG Smith properties.
Matt Kelly:

Thanks Michael and Stephen. Thanks to you all for joining the call. I am Matt Kelly and I will be CEO of JBG Smith Properties. For those who don't know JBG is a vertically integrated operating platform that is focused exclusively on the DC market for over five decades, we’re known for our creative deal-making and capital allocation skills and for our deep bench of development and value creation expertise across product types. While our DC market experience in office, residential and retail is unrivaled, we have been trendsetters in our market by mixing uses and projects that deliver the amenities and features that tenants demand. Concentrating in passive growth locations with metro access and deep retail potential have been key drivers of our success. We've been the most active player in the Washington market and we are the definition of a local sharpshooter. We know our market block by block and see virtually every opportunity in the market. Since 2000 we have acquired over 19 million square feet and have developed almost 18 million square feet across all product types. Our team has worked together for an average of 20 years and our leadership spent multiple generations. We have delivered top tier results for our investors with a leverage IRR of over 23% on $3.7 billion dollars of equity deployed and over 250 investments across nine discretionary funds. None of our funds have lost money, even those that we initiated at the high point of the last cycle. As shown on Page 20, the JBG team will form the senior most leadership of this combined company. Most of us have spent our entire careers at JBG and have worked together managing capital on behalf of some of the best-known university endowments and foundations in the world. Before closing we will hire a CFO from outside the company with a focus on public market experience. In addition to the JBG team, Mitchell Schear will join our Executive Committee and Jim Creeden, Patrick Tyrrell and Lori Kramer of Vornado will serve in key EVP positions in the new Company. As we combine the operating teams of both companies we will be focused on efficiency, minimizing risk and combining the best from two great teams. The Washington Post rated JBG the number one ranked large company to work for in our market across all industries and we intend for JBG Smith to continue in that tradition of first class management and execution. Our team will have strong alignment with investors, we will own roughly 6% of the new Company and our investment will represent the vast majority of the net worth of this team. Let's move to Page 21, and talk about the combined company and why we're so excited about this opportunity. JBG Smith will be the largest player in our market with some of the best existing assets and a market leading development pipeline. We will be powerhouse of a company with unmatched scale and access to growth opportunities. Our proven track record of delivering on mixed use value creation and in field locations could not be a better match for an opportunity like Crystal City. What many have seen as a challenged office portfolio in a tough market and we see as an opportunity to pick off low hanging fruit and position Crystal City as a vibrant amenity rich destination within Washington. Combine this with the best-in-class balance sheet and the momentum of recovery in our market and we couldn't be more excited to get to work executing our vision for this new company. Before, I move on to the highlights of the company in the portfolio a word about process. What I cover today will be high level prior to launch we will follow-up with a deep dive road show to give investors much more granular information and an opportunity to meet us face to face. As you can see on Page 22, including assets under construction and near-term starts, JBG Smith will own 14 million square feet of commercial space and almost 6,000 apartment units making us the market leading player in Washington with some of the best assets in the market. On Page 23, you'll see that combining our portfolios comes with minimal overlap and creates an ownership profile concentrated in a complimentary collection of the most sought-after submarkets in the area. Over 98% of the portfolio is within half a mile of the planned or existing metro station. These assets existing construction and future development have taken years in some cases well over a decade to assemble and title, design and execute. No other player in our market has access to a growth pipeline like this. With a strong balance sheet and a proven track record of execution, we believe we can turn that into strong income growth and value creation. Before we talk about future opportunities, I will spend a minute on the existing portfolio and development assets that have recently delivered or commenced construction which is summarized on Page 24. The combined portfolio has free rent burn off and signed, but not yet commenced leases totaling 590,000 square feet of occupancy. The combined company has five recently delivered apartment buildings totaling over 1,400 units at our share with average occupancy of 72% as of September 30. All five are on top of or next to a brand new or planned grocery store and many have additional adjacent small stores. All our metro served and benefit from a rich face of amenities. As you can see on Page 25, we have four trophy quality assets currently under construction totaling over 820,000 square feet. Three of these are commercial assets including CEB Tower in Roslyn and retail projects adjacent to Reston Town Center in Bethesda Row. These assets are 63% pre-leased with most of the balance of the lease up consisting of eight of the top 10 floors of CEB Tower arguably the best building in the submarket with unobstructed views of the DC Mall in monumental core. The fourth assets, the trophy apartment building facing the main entrance to Nationals Park, it will sit amid the new retail heavy entertainment district between the stadium in the Navy Yard metro station. All of these projects are fully capitalized. Pages 26 and 27 cover our development pipeline which includes a range of projects in various states of readiness for construction. Our near-term pipeline consists of seven projects of which five are mixed use and two are standalone CBD trophy office buildings. By value and scale, roughly half our office and the balance multifamily in retail. All of these projects are entitled, designed and substantially ready to commence construction. We expect that most if not all of the retail and apartment projects will proceed in the short-term based on current office market conditions are biased is to patiently pursue pre-leases before going vertical, and we are currently following that strategy with the office assets listed here. We also intend to capitalize this company in a manner that will enable us to pursue all of these projects, while also maintaining a strong balance sheet. On Page 27, we've laid out a summary of the balance of the future development pipeline of this company. At over 17 million square feet this is the largest treasure trove of growth opportunities you'll find in any company in our market. This pipeline would enable us to double the size of this company through assets entirely under our control today. I want to be clear on something here. We will not be levering this company to go hog-wild on development. We may be new to the public markets, but we are not new to capital allocation in the avoidance of risk. I will cover that a little more when we talk about the balance sheet. The first I want to address Crystal City specifically. Crystal City is one of the most compelling opportunities in this company's portfolio. Its challenges were tailor made for our toolkit of deep development expertise, retail experience and our place making driven approach. It has everything going for it including metro, critical mass, proximity to key demand drivers, views and great access not to mention a jurisdiction with great schools and low taxes. But it lacks a critical mass of amenities. Its existing amenities are compromised, underground retail with not enough anchor space and it lacks sufficient residential density to be a vibrant 24 hour place. The fix for these deficiencies is exactly the sort of thing we're best to creating in the skill set that we've perfected throughout our 55-year history. When we've done this elsewhere it has taken a years to assemble the critical mass to change a neighborhood. With Crystal City, the concentrated ownership is their day one. All that is required is the right plan and sufficient time to implement it. We talked a lot about place making and changing neighborhoods and to send the sounds like renovating dozens of assets and spending billions of dollars. That's not what we're talking about and that is not what Crystal City needs. Any great neighborhood he did well executed retail heart. What we've done on Page 28 is to overlay the size of all of Crystal City on three of the most vibrant high rent districts in our market. One of which we primarily created the Shaw Logan Circle neighborhood of Northwest DC. As you can see here and zoomed in on Page 29. The heart of these neighborhoods is typically very small just a few blocks. This heart has multiple anchors, plenty of services banks, dry cleaners et cetera, but it also has a carefully curated mix of amenity retail. Local shops, maker shops, streetscape, parking green space et cetera. It also has enough residential to be a place worth visiting after work hours. If it's truly special it will have one or more destination anchors often entertainment based. The point is that repositioning a large concentration of assets like Crystal City does not require the renovation of the entire place. To the contrary it only requires the right execution of a relatively small subset of the neighborhood requiring far less capital. Done right, that well-planned heart can drive outsized occupancy and rent growth in all of the neighboring uses. The age of building stock on Page 28 is included to demonstrate that while all of these submarkets have older buildings stock in Crystal City. They all rented a premium because they are great amenitized vibrant places that’s the missing ingredient. We will have much more detail on our plans for Crystal City down the road, but I want to repeat that it is one of the elements of this new company that we're most excited about. Now let's talk about capitalization on Page 30. We intend to launch this company with substantial liquidity and a strong balance sheet with deep capacity to fund future growth without over leveraging the company. In addition to a very manageable debt maturity profile. We will have an appropriately sized credit facility for access to immediate capital and flexibility, but our debt financing strategy will not rely on corporate debt. Long-term financing will be done on a non-recourse basis at the asset level. We will also be aggressive about identifying opportunities to recycle within the portfolio by selling or joint venturing selected assets whose market value exceeds replacement cost and deploying that capital into newer higher growth internal investments and potential acquisition. Finally, on Page 31, a word about our market. Washington's office market has had a rough run for almost a decade. And the office market our average five-year net absorption was negative 250,000 square feet versus a 20-year average of positive 3.3 million square feet. Although many private sector players right sized after sequestration and BRAC, the wreckage in the office market has taken a long time to recover. With much of that tenant rightsizing behind us and most recently our best job growth year in a decade. We believe that Washington is poised to grow in the coming years where much of the rest of the country has begun to flatten out or even soften. Discounted cyclicality is not a typical for our market. We further believe the growth will be concentrated in the places that offer what tenants and consumers want. Vibrant retail services, amenities, walkability, and transit. On the apartment side having the highest median household income in the country and in a lower rent share of wallet than other gateway cities supports much of the strong apartment absorption we've seen in spite of high levels of supply. When for sale housing is added to the mix our total housing units that actually been in line with demand. So this outcome has not been surprising. All of these trends lead us to conclude that Washington has a healthy base from which to grow in the coming years especially infield submarkets that offer what tends demand. As I said before we look forward to meeting with investors prior to launch to provide a deep dive review of the portfolio and our strategy. We're very excited about this opportunity and we believe this powerhouse of a company will be an incredible platform to deliver strong shareholder value over time. Now I will turn it back to Steve to wrap up.
Steven Roth:

Okay, thanks Michael. Thanks, Matt. Thanks, Steve, everybody. I have a few shoutouts before we go to questions. To Bobby [Cogard], who is the patriarch of our Washington business. To my friend Mitchell Schear who is a prince among men. To our Chief Investment Officer Michael Franco, who was Superman executing this complex deal, and to Michael Glosserman, Rob Stewart, and Matt Kelly my new partner at JBG. I will be Matt Kelly's biggest cheerleader. With that we would like to go to questions. This was a record 55 minutes.
Operator:

Thank you. We will now begin the question-and-answer session. [Operator Instructions]. Our first question comes from Manny Korchman from Citi. Manny your line is open.
Michael Billerman:

Good morning, it's Michael Billerman here with Manny. Just a question on the balance sheet strategy for JBG Smith. You start the day with about $2.4 billion of debt, call it mid 30s leverage to the existing operating assets about seven times debt to EBITDA. There was some footnotes talking about incremental cash being put in the entity, I wasn't sure what sort of levels, but maybe talk a little bit about where that balance sheet needs to be from a leverage and debt to EBITDA perspective, especially given the amount of future development opportunity.
Michael Franco:

Hey, Mike, it’s Michael Franco. I think, first of all, your calc is NOI not EBITDA. So from EBITDA perspective, I think it starts lower than that. Secondly the intent here much like we do with Urban Edge, is to set this Company up for success. And so we finalize the plans near-term particularly on what development et cetera will be, we plan to put the right amount of cash here. So our expectation is that this thing will be somewhere in the low to mid sixes at the outset, but still to be finalized. I would say that needs to be refined and it's too early to put a specific number on it. But if I had to guess today, that’s a working assumption I think is appropriate.
Steven Roth:

Michael, let me give you an overall philosophy as we have been talking internally with Matt and his partners at JBG Michael and our team. So first of all this company will function well within the parameters of acceptable public company debt levels. Okay, we know exactly what those are - we've been doing it for 40 years and so the Company will be capitalized well and will function and operate well within the normal tolerances for a public company, number one. Number two. Just like we did with Urban Edge and as we always do, we will set forth our program for execution of development and whatever and the company will be capitalized at the get go with cash balances and revolving credit lines and et cetera and some unencumbered assets as well so that it will be able to aggressively execute on its business plan. Number three. In the early years the company will not seek an investment grade rating. It will be, it will finance at the project level with non-recourse debt. And so basically that’s the plan.
Michael Billerman:

Great. We just a follow up in terms of…
Steven Roth:

Matt and his team and we will get much more specific about that as we get closer to launch it would be a perfect transparency on the balance sheet.
Michael Billerman:

And then just in terms of corporate governance at Vornado, one of the things that's come up over the years was the split of the Chairman and CEO roles. And I am curious how you think about that now that there is more at least insight to where the entity is going overall. I assume there is two ways. Either you become Chairman and someone else becomes CEO, or someone else becomes Chairman and you stay CEO. Can you give us a little bit of color in terms of how you are thinking heading into next year?
Steven Roth:

First off, in terms of succession, Jeff Olson has succeeded me in a chunk of our portfolio and now Matt Kelly is succeeding me on another chunk of our portfolio, so I think we're making progress in that regard. You're asking something that is not answerable at the current time.
Michael Billerman:

Okay. Thank you.
Operator:

Thank you. And our next question comes from Anthony Paolone from JPMorgan. Anthony your line is open.
Anthony Paolone:

Yes. Thanks, good morning. Congratulations on the announcements.
Steven Roth:

Thank you.
Anthony Paolone:

Steve, I was just wondering, Steve Roth, if you could talk a little bit about the post-spin Vornado and how you see the priorities and what we should be thinking about in the investment community as it relates to things like the post office project, other initiatives in New York, and also just general financial communications. I mean not to overshadow the third quarter, but I think this is the third quarter this year you guys missed numbers. So just wondering how you think about how the post-spin Vornado looks to investors.
Steven Roth:

Well, the first thing is that we believe and I think everybody believes that Vornado's stock sells at a discount maybe even a substantial discount to NAV if that's a measuring stick. So interestingly, when we spun off Urban Edge, which probably when it's buried inside Vornado it trades at a discount; outside of Vornado it trades at a premium because the assets and the management are worth it. We expect exactly the same thing to happen with JBG Smith. So as it gets isolated and as it becomes its own company, and we expect investors to appraise it and give it a price which is here I say better than the price that we think it's awarded buried in Vornado. As we do this and as we start to skinny down the company, Vornado RemainCo or Vornado New York becomes much more transparent, much more visible and we believe investors will focus on that and we’ll reward it with appropriate pricing. The assets of Vornado in our mind are unique, extraordinary and very valuable and so the objective of our program is to a) get JBG Smith the best management team in the marketplace. Have though that business perform wonderfully and grow and be recognized by investors for its merits and the same with Vornado New York. Vornado New York will aggressively pursue all of the projects we have and continue to grow and flourish in New York.
Anthony Paolone:

Do you think post the spin that the organization, the Vornado organization will remain sort of as is in terms of leadership and everybody's involvement day to day, or do you think that will change at some point as well?
Steven Roth:

First of all, we think that Vornado New York, if you want to call that this has an unbelievably talented, gifted and deep organization. Having said that, organizations always change.
Anthony Paolone:

Okay. Thanks.
Operator:

Thank you. And our next question comes from Steve Sakwa from Evercore ISI. Steve, your line is open.
Steve Sakwa:

Thanks, good morning. I guess I just wanted to go back to Page 6 on some of the valuation. I think the operating assets are relatively straightforward. I don't know if this is for Steve Roth, Steve Theriot or Matt or a combination, but I guess I'm trying to get a better handle on how you guys really thought about the platform and management company value. I guess I'm trying to really understand the eight times multiple on for the JBG value and if I am thinking about that, is that taking the funds and the income that will come to effectively the new Company over the next seven or eight years as those funds wind down. There's basically nothing left at the end of that fund life and I guess I'm trying to get a better handle on how that valuation was kind of arrived at.
Steven Roth:

I’m happy to answer that question. First of all that was done very carefully. Second, basically we had advisors on this transaction and we pursued in depth what the comps were and what the values were and what the market was. So JBG in its current state has EBITDA of somewhere in the mid-40's that’s after all expenses and what have you. That's what comes to the bottom line of the current JBG. Our advisors and our exploration into the comps is that these companies trade for between 9 and 10 times. So if you take a midpoint on that that means the - let's say call it $45 million of EBITDA coming out of JBG would be worth somewhere $400 million maybe a little bit higher and the reason I say maybe a little bit higher is because it's the premier company and its marketplace and you know it would probably sell for premium. So if the JBG partners were to sell this company in its current incarnation as a going concern we think the market value of that is somewhere between $400 and $450 million step one. Step two is that’s approximately the number or in the range of what we were talking about when we engage with JBG a couple of years ago. And that’s even less than the number that was negotiated in the famous or infamous NYRT transaction. So let’s say that. So our number was $335 million that's not in cash. That is in the script and so the value of that was - what happens is they are going to be getting a percentage of the company in shares and those shares will fluctuate so if they fluctuate down at where they fluctuate whatever. Now we also back valued our management company at $80 million. I can tell you that our management company has zero EBITDA. So the way we look at it we paid a Vornado shareholder paid a net $335 million less $80 million or $255 million for the JBG platform the whole shooting match. The team, all their employees and what have. Now I've already talked about what the going concern value of JBG was let's talk about what the value would be to us. Well to us, the net was $255 million and we've already said that we're going to run off - we're not going to do with do any more funds and we're going to run off the assets that were excluded. Those assets that are excluded have a fee stream which is pretty substantial and the discounted value of that is somewhere between $175 million maybe even up to $200 million depending upon the discount rate you use. So now we get that our $335 goes down to $225 because of the value of our management company and then goes down to let's use a number of $175 or $180 so it goes down the $60 million, $70 million is the net cost of this whole platform to us. But that's not the end of the store. By combining the JBG platform and the Vornado existing platform there are synergies. Those synergies are we believe a gross $35-ish million maybe a little more maybe a little less. And then that doesn't it you have to deduct from that the course of being a separate public company which we're guesstimating at call it somewhere between $12 million, $15 million. So maybe Michael is telling me he thinks is less, but let’s say so maybe we think the net synergies of combining the two companies are pick a number $20 million to $25 million less than it would be. Okay, well that has a value and is very favorable compared to the net $60 million, $70 million price buying this platform. So that's the math which as you can tell I think from my fairly detail remarks was very carefully analyzed and thought about. Now let's go to the last point. Would you rather own the company with JBG combined that would be worth less. Let's say $50 million is a quarter of Vornado share $0.25. Would you rather have the combined company with its assets as opportunities as future and the leading management platform in the marketplace. Even if it costs you a quarter or $0.30 to do that and the answer is of course you would. Okay. So I think Steve that’s a long-winded answer to your question.
Steve Sakwa:

No, no I think that's helpful. If you think about it, it sounds like the multiples are lot lower than eight times when you kind of net out the value that was put on Vornado, so I think that helps a bit. I guess, the land bank is obviously very large, and I guess, Matt, you spoke a little bit about being sort of prudent. At 17 million feet, how do you think about development relative to the size of the Company because it's obviously about 13% of the value of the combined Companies sitting in a land bank today?
Matt Kelly:

Yes. I think a good couple relevant points. And thanks for the questions Steve. The land bank is unlevered. And so there is no gun to our head with respect to timing and how and when we capitalize on those various opportunities. When we make the rounds with a much more deep dive road show we will get into specifics as to what projects that are soon to start and how we've made the capital allocation decisions. But generally speaking we respond to market conditions. As I said earlier being called a developer I think sometimes is a bad word in this business because there are a lot of folks out there who've gotten it wrong who have done too much, too fast, don't pay attention to supply and demand and overbuild. That has not been our history that is - I think one of the primary reasons why we have outperformed and over delivered. And as we think about development, it’s primarily rooted on what will add value and strength to the portfolio over time and what is most responsive to market conditions not just market conditions today but as we look out two, three, four, five years and where we see supply and demand trends going, what will play into those trends and what will be the most valuable assets on long-term.
Steven Roth:

The land bank is extremely important to us, okay we have a land bank, they have a land bank. If you look at the two opportunities they are extraordinary - the land I don't look at the land as land I look at it as future buildings okay and I look at those future buildings as profit opportunity. So first of all the locations of all of these opportunities are the best in the Washington region by far. So we have explored - first of all it’s big really big. Second of all it’s in the best submarkets in depth. The third thing is that this is an opportunity to create new buildings at outsized returns which are substantially better than you could buy a similar building in a similar location on a returned basis, which means that there is a profit to a big profit in this land as you develop it over time. Now there's a trend going on in the world today A, new buildings are much more valuable than old buildings. B, there's obsolescence in real estate. So that when you build a new building you can make it state-of-the-art what the customer wants whether it's an office building or a residential building. And three the capital maintenance capital for a new building is like almost zero for the first 10 years or so as opposed to an older building. So this portfolio of opportunity we look upon it up as opportunity is one of the things that makes this a unique investment opportunity.
Steve Sakwa:

Thanks, just two more quick questions. Matt, I guess the JBG combined Company is going to be fully wedded to just Washington D.C., or could we see any kind of geographic expansion over time?
Matt Kelly:

We are going to be laser focused on Washington as we have been, we have a lot of opportunity in that market and as Steve just articulated with respect to not only the land bank but the existing assets in the upside that we see there and that is going to be our focus.
Steve Sakwa:

Okay, thanks. And then, Steve, I don't want you to feel left out about big Vornado. So just in terms of the allocation between office and street retail, street retail is almost third of remaining Vornado. How do you sort of think about that number in light of the retail environment today and might we see that number go down, would you think about selling some of these mature assets or should investors think that that number stays relatively high?
Steven Roth:

First of all, before I get into that - that's your fourth question in the series by the way my friend. I want to say a response to Matt just answered your question about being laser focused in Washington, I want to say amen to that answer. With respect to Vornado, we have no formulaic compositions or that drive our investment philosophy. We react to marketplaces, we react to opportunities. So we have a unique skills in what we do, we have unique skills in the retail, we have by far away the largest portfolio, we have unique skills in office and repositioning office et cetera. We also have pretty damn good skills in residential as well. And so we will run the business and grow the business as the opportunities present themselves. Similarly that's my answer to your question about will we sell. We have a record of selling and we have a record of selling aggressively into strong markets. I just mentioned before, we invested $9 odd billion of stuff over the last couple of years. So we are aware of the markets and we will act accordingly.
Operator:

Thank you. And our next question comes from Alexander Goldfarb from Sandler O'Neill. Alexander your line is open.
Alexander Goldfarb:

Great, thank you, good morning. First question is for Matt and certainly welcome to public lands. Given that you guys by background are private and now you have to see all the fun that public REITs go through, how do you think about making the transition, both from an investment side where before you guys had sort of free rein, you could be opportunistic and do what you wanted to do, versus a public format that seems to like sort of a set standard or a template for the company to invest in and then continue with that. And then also on the disclosure side, conference calls, proxy, quarterly earnings and all that, how do you guys view making the transition, given that it seems like all of JBG is taking over for the new entity.
Matt Kelly:

Thanks for the question, Alex. I’ll take the last part first and then I’ll go in reverse order. As far as reporting and everything you just described. Well, yes, we have been private, we have not been a private sole proprietor with a single investor the way I think a lot of our developer, competitors in the market are structured. We have hundreds of investors. We have nine funds. We do regular quarterly reporting. We are very transparent. We spend a lot of time with our investors. We communicate in a copious fashion and that's not going to change. We will be supplementing the team with folks who have deep public market expertise in the areas that you described, because it's critical that we get that right and we will. The first part of your question with respect to flexibility, I think there is a misperception that somehow you can't be nimble if you're in the public markets or that you can't take advantage of opportunities perhaps in the same way you might in the private market. I just don't buy that. I think good real estate decisions are good real estate decisions whether you're public or private. And I think one of the things that we have demonstrated in our history as we have moved from being a syndicator to a fund manager to a fund manager with lots of joint venture relationships and other things that in fact no matter what your capital structure and your legal structure and your ownership structure as you can still attack and pursue aggressively the best real estate decisions and take advantage of the best opportunities in the market. And that's exactly what we intend to do because that is a big part of our success and that's not going to be changing even though our structure will be.
Alexander Goldfarb:

Okay, and then as a second question, as you guys look at DC, you mentioned that you want to do development but obviously do it in a prudent way so you don't OD on it. At the same time, the portfolio still has the same issues of rental roll down or filling vacancy that the legacy portfolio had down there. So if you think about some of the challenges that REITs have gone through recently where you've either had companies with large-scale developments that's diluted earnings or every year it seems like leases are going to come, but now we have to wait until the following year. How do you think about managing the Street's expectations for earnings growth or NAV growth and in terms of that it is not people having to wait for the next year for things to come, but that as you execute your plan, you can sort of show tangible growth in the current year as well as pointing to people towards the value creation in the outer years.
Matt Kelly:

Well, I think a lot of this is - there are two parts to what drives your question I think part of it is just the market and how does the market behave and what is going on in the market. And second is where are we positioned within that and how do we manage expectations. I think as it relates to the market is the market where we are invested we believe in this company is in the best places within that market. The submarkets that will outperform and have consistently outperformed. As it relates to managing expectations we have historically always made an effort to under promise and over deliver and we understand the importance of avoiding surprises. We understand the importance of frankly not over promising. And as you said at the very beginning of your question we are going to be very prudent as to what we develop and when we develop it. But when you talk about existing assets and their performance. You really can't talk about that to separate and distinct from new development because a lot of what we do and in particular if you look at Crystal City a lot of what we will do is predicated on improving that as a place and delivering new and different uses to Crystal City retail and residential in particular that will turn it into a different place that we believe will actually have as big an impact with respect to the value in the income potential of those new deliveries as it will on the existing inventory of the supply in that submarket.
Alexander Goldfarb:

Okay. Thank you, Matt. Thank you.
Operator:

Thank you. And our next question comes from John Guinee from Stifel Nicolaus. John, your line is open.
John Guinee:

Okay. Steve that was one of the best explanations for paying $335 million for a platform I have ever heard. So I guess my question for Matt is, why did you give it away? [Multiple Speakers] That is a segue into my serious question. My serious question is, in order to get your partners to sign off on the numbers, there was a 51 cap for the JBG portfolio, and then it was also a 51 cap for the Vornado portfolio. I kind of get the numbers for JBG, that number doesn't really surprise me. But a 51 cap for the Vornado portfolio is a little surprising. Can Michael or Steve go into a little depth as to the intricacies of that, maybe what the stabilized valuation is of the Vornado portfolio?
Steven Roth:

Michael.
Michael Franco:

John by intimation you thought the number of the coverage should be higher. Is that your question?
John Guinee:

That is just a guess, yes.
Michael Franco:

So it complimenting us and around the best place. What I would say isn't and we've put this sheet out there because we knew all of you would be interested in it, but the reality is this is one page reflected in an intensive 60-day effort on both sides. I think, frankly, to settle on one number is almost does a disservice to the process. The reality is that you know that is the byproduct of all the work product and we have a downtown portfolio that's better than JBG is and you know it's a lower cap rate in that Crystal City is more capital intensive is higher. So it just so happened coincidentally that's where it came out and I really mean that. You have a buildup of what your assets go and obviously we've spent a lot of time crafting which assets we polled and because we want this company built for success but it's somewhat coincidental that that end up at the same number. The methodology was consistent in terms of you know district to district and submarket to submarket. And it just so happened to end up there. And then we probably have a little more capital intensity on our assets given Crystal City and JBG does. And so therefore they probably have a bit more embedded growth on the other asset. But I think the bottom line is you're dealing with two parties that are highly sophisticated that are tough negotiators, we've both been successful for our investors investing and you would expect when you get two groups like that together that there is going to be a fierce analysis done on both sides to get to the right place and that's where we ended up.
John Guinee:

Okay. And, Matt, here's an easy one for you. I think you've got a pretty big position in Reston, contiguous to Reston Town Center which is arguably the most successful suburban submarket in the greater DC area. Can you talk a little bit about what you own out in the - along the tollway?
Matt Kelly:

Yes. So, what's been included here and we will get into a lot more detail about the each specific asset of the portfolio and hopefully have an opportunity to tour folks through some of these things. But what's been included here is basically a concentration on two nodes within the greater Reston submarket. One is the - at the site of the [Wheeley] Avenue Metro stop, and that is mixed use project, retail heavy, grocery anchored, lots of apartments right in the strike zone of what we do. And then the one you just described which is the Summit office buildings in Reston Town Center West, RTC West, which some of you may recognize that was the former Reston Executive Center which we actually acquired from Vornado. That is not only an existing office building but you'll see in the presentation it is also one of the new development projects. That is an asset where we are delivering retail the RTC West retail on Page 25; it’s about 40,000 square feet of ground floor, small store retail that is designed to amenitize those buildings. That asset sits right in between Boston Properties, Reston Town Center and the exit platform for the new under construction metro station and it is right in the footpath connecting those two and that retail we believe will be phenomenally successful. It has already been successful in enabling us to lease that building. This is against the backdrop of Northern Virginia suburban office it's enabled us to lease that building with the retail only roughly half pre-leased and not yet delivered, so lease that building fully and that rent that exceeds where they were when we acquired it by 20% that's against the backdrop of a market that has been flat and that has as you heard me articulate earlier have negative net absorption and so that is a micro case study of the power of amenities and the power of retail and that's even before the metro has shown up.
John Guinee:

Great. Thank you.
Matt Kelly:

Thanks, John.
Operator:

Thank you. And our next question comes from Jed Reagan from Green Street Advisors. Jed, your line is open.
Jed Reagan:

Good morning, guys. Couple of housekeeping questions. Will JBG Smith have to be staggered forward and does the company plan to opt out of [indiscernible].
Steven Roth:

The Company's governance will be set up almost exactly the way we set up Urban Edge. So it will begin with a staggered Board with a commitment to destagger in three years. It will go to the majority voting. It will not opt out of [indiscernible].
Jed Reagan:

Why not be staggered from the outset?
Steven Roth:

We just think first of all the investors really were very sympathetic and understood what we did at Urban Edge and what we're doing here. When you born a company we don't know what the trading price is, we don't know what the dynamics are. These are very important companies to protect in their early years. So we just thought that the company needed - as an infant does and as an adolescent does, the company needed protection in its early years, but investors know that there is a commitment that it will go to conventional governance shortly.
Jed Reagan:

Okay. In terms of the $100 million performance-based formation award, can you lay out the hurdles required to earn that and are the share price targets relative to peers or absolute?
Steven Roth:

The answer to that is they're basically options. And so the hurdles are the stock price has to go up and basically we are advised and this was also researched extensively that this is normal for - and an IPO kind of a situation. This is sort of an IPO kind of situation and we think that we want the management to be incentivized. We think this is standard practice and appropriate.
Jed Reagan:

Okay, but just to be clear, that is on an absolute share appreciation, not relative to peers?
Steven Roth:

That’s correct. They are standard options.
Matt Kelly:

And Jed, as Michael said in his remarks, the $100 million number only - that's only relevant if the stock doubles you get $200 million. It's not something that it will have a $100 million of value, but only by virtue of time passing or anything else that only happens if and when the stock doubles. The triple is worth more. But it's an option.
Steven Roth:

That's just the face amount of stock that the option will control. The accounting cost of that is somewhere around 15% give or take.
Jed Reagan:

Sure, that's helpful. And the last one, if I may. Obviously the main focus today is the DC spin, but just looking ahead, Steve, could a final chapter of simplification be a separation of the New York City office and street retail business, or are those two property types that would be synergistic in your view?
Steven Roth:

Oh, God, you're asking a monumental question. Let me answer it this way, okay. We are committed to creating shareholder value. We have evidence that over the last short number of years by doing the strategic move after strategic move after strategic move, okay. That market will tell us what they think of JBG Smith and what they think of RemainCo New York and then we will act accordingly.
Jed Reagan:

Okay; thanks for the color.
Operator:

Thank you. And our next question comes from Nick Yulico from UBS. Nick, your line is open.
Nick Yulico:

Thanks; just one question on G&A. The only mention I saw here was that you talked about $35 million of synergies. Can you go through some of the math, because it looks like Vornado had $25 million of DC G&A last year, so how do you get to $35 million of synergies?
Steven Roth:

We are not going to get into the detail of that, currently the Vornado number is I think larger than that. What we did was and this is very preliminary and it will be subject to obviously more of a granular work as we get closer to the launch. We took the two organizations, understood the overlap, understood redundancies and made estimates guesstimates as to what the synergies would be as happens in every merger. Now this is interesting because the two businesses and the two organizations are in the same geography, which makes it a little bit more prone to be to efficiency.
Nick Yulico:

Okay. So what is it then as we think about pro forma Vornado, I mean what is the amount of G&A that is going to go away after the spin is completed?
Steven Roth:

Once again, that's not something that we're ready to talk about yet.
Nick Yulico:

Okay, but I mean is it fair to assume most of it? I mean you do report G&A for your CC segment. I mean how should we think about this?
Steven Roth:

What I'm saying to you is postponed, you are thinking about it until we actually get into the details later on in the process, okay. But obviously there's three pieces of G&A. There is the JBG G&A that coming in. There is the Vornado local Washington G&A that's going in, the spin co and then there's remainder Vornado G&A which obviously has to be reduced because of the exit of the Washington Company. All three of those will be subject to great study and we’ll be communicating more about that later.
Nick Yulico:

Okay. Yes, it would just be helpful to get that information since you guys are setting $35 million of synergies. Thanks.
Steven Roth:

Okay. Nick.
Operator:

Thank you. Our next question comes from Bikram Malhotra from Morgan Stanley. Bikram your line is open.
Bikram Malhotra:

Thank you and congrats, guys. I know you must have put in a lot of work into this, so congrats for getting it done.
Steven Roth:

Thank you very much.
Bikram Malhotra:

Just two quick questions focusing on New York and remaining Vornado. Over the last call it two or three weeks, some of your peers have talked about decelerating trends. Seems to be sentiment, whether it's the investor community or even brokers. Seems to have changed a bit on New York, so would love to get your thoughts and maybe a bit more granularity on how you view the market, even if by segment?
Steven Roth:

I am going to David to answer that?
David Greenbaum:

Good morning, thanks. Listen as I said in my remarks. We have continued to see good leasing activity in the City. In fact above trends from last year and on average basically with kind of 10-year trends. In terms of rents we have can continue to see rents remain stable. I think some of our competitors have said and I'll echo it that we've seen moderately increasing concessions and some of that relates to in fact construction costs, so the building space has escalated significantly. So with that some of the TI packages in fact have increased. And then you know I think most importantly what I would emphasize is that we're seeing in New York as a continuing very, very good diversification of trend in terms of the nature of [paintings]. So I'll go back and I'll tell you back in 1990 as we looked at office sector jobs. One out of every two office sector jobs at the time was financial services related. As we look at this City today that number today is less than one out of every three. So although there has been a lot published of that the lack of growth in financial services in fact to some extent. A continuing slight loss in financial services jobs. The reality is as you look at the overall health of the city in the diversification of job growth. I think it is good as we've ever seen. I also well but I just reemphasize what I said and that is. We are in a mature recovery. We have seen office sector job come down from the peak that we saw over the 2011 to basically 2014, 2015 period of time. But on a trailing 12-month basis we're still seeing very good office sector job growth somewhere around 14,000, 15,000 jobs which translates into about 2 million and 2.5 million square feet of absorption. So continuing trends I would tell you we are continuing to see pretty good growth.
Bikram Malhotra:

Okay, great. And a quick clarification on the same-store EBITDA growth in New York. Roughly how much of the 9% or 9.5% was a contribution from [indiscernible]?
Steven Roth:

Bikram, you are fading out. Can you say that again, please?
Bikram Malhotra:

Just a quick clarification on the same-store EBITDA growth in New York. Roughly how much of the 9.5% was from free rent burn?
David Greenbaum:

And which is 9.5% was from free rent burn-off no. The 9.5% that we talked about the - what we said is gor the three months. The GAAP number was 9.6% and the cash number was 11.7% for the quarter. So I'm not sure I understand the question exactly.
Bikram Malhotra:

I was just asking if the cash number, because you had laid out a part where over the next year or so there is incremental bump from - or incremental cash coming online, so I was just wanting to…
David Greenbaum:

Yes, the 11.7% which is what we had projected as we had advised you guys over the last year. Related to the bulge of leasing activity that we've concluded in the 2014 and 2015 year period of time and yes a significant piece of that obviously relates to the burn-off of free rent as it relates to the cash number.
Steven Roth:

The 9.6% which is the GAAP number has not burn-off in free rent because I commenced rent at the time free rent period began.
Bikram Malhotra:

That helps. I was just clarifying on the cash number, so I may have got the number mixed up, but that's helpful. Thank you very much.
Steven Roth:

Okay.
Operator:

Thank you. And our next question comes from Manny Korchman from Citi. Manny your line is open.
Manny Korchman:

Hey, guys. Matt, can you give us, at least at this point, where you think about the timing and the process of selling down the JBG assets that are not going to fit into the new entity?
Matt Kelly:

Yes. From a timing perspective, we believe that process will unfold that’s the matter of years not months. It's probably somewhere in the three to five year time frame. There will be a number of assets that are currently being held for sale that will be sold in the next 12 to 24 months. Obviously a lot of that’s dependent upon market conditions and buyers in the market. But that is a very concerted effort on our part as we manage to the business plans of the assets in those funds. You know it's not a - they are in wind down mode; it's not fire sale we're not doing that. We are managing those assets for the benefit of the investors that continue to hold those interests. And these are finite [light] funds. These are not long term hold vehicles and as assets reach the point in their business plan where it makes sense to sell them. That's exactly what we will do.
Manny Korchman:

And are there assets in there that need more than just management? Are there redevelopments or anything else like that that stayed in that - the not ongoing pool, I guess is the right way to think about it, that's going to take up any significant amount of Management or other people's time?
Matt Kelly:

We will go through that in more detail when we do a deeper dive, but I can say that the vast majority of the assets left out are fairly low maintenance that. There inevitably will be a couple that were not good strategic fits either because they were not in submarkets that are consistent with the strategy of JBG Smith that may have redevelopment opportunities whether or not we pursue those is a question mark, we may sell them or recap them. But generally speaking what has been left out is a fairly low maintenance basket of assets a lot of the biggest assets are long-term flat highly levered fully leased buildings GSA building that will not be going in to the company. Those will be sold over time and those require very little to no actual maintenance and they do course pay you know they will be paying fees for the services we provide to the REIT.
Manny Korchman:

And last one for me, you guys have alluded to coming out with more information a couple of times in a road show. Is that something that's going to be ready for [indiscernible] in a couple weeks or is that going to come following up?
Steven Roth:

It's going to come much closer to the launch date which is the second quarter.
Manny Korchman:

Thanks everyone.
Operator:

Thank you. And our final question comes from Jed Reagan from Green Street Advisors. Jed your line is open.
Jed Reagan:

Thank you. Just a couple follow-ons about the development pipeline. How would JBG Smith fund the pipeline over time if the equity cost to capital wasn't attractive? And then, to Matt, of the $17 million or so of development rights in the future pipeline, how much of that is as of right or have you already received formal entitlements for?
Matt Kelly:

Sorry Jed on your last question how much of what is as of right?
Jed Reagan:

How much of it has been titled?
Matt Kelly:

I don’t have an exact percentage for you as to what's ready to go on the 17 million right now that we tried to articulate that in the near term development pipeline. All of that is ready to go there is a large proportion of the 17 million that is matter of right, which is to say that it is consistent with the underlying zoning but in many jurisdictions in Washington in order to be able to pull a building permit you have to do a lot of work and get something closer to the start line. Some of those assets are some of them are not we will go through in detail and bucket those things so that investors will have a lot of transparency to what's in there. On your first question about how we will capitalize assets. We intend to be stingy with the equity of this Company. And only when we are trading at what we think are very attractive values. Ideally premiums to net asset value will issuing equity even be considered a possibility for us. When it comes to flexibility and how we finance things. There are a number of assets in this portfolio that if we believe we can recycle within the portfolio by selling assets, its value that dramatically exceed replacement costs. We will do that and deploy that capital into net new value creation opportunities in particular where the yields on costs are high. And when we look at yields on costs, we don't look at yield on costs from the standpoint of incremental cost only. We look at yields on costs from the standpoint of what is our land actually worth and what is the yield on cost for the new project inclusive of that land value. Because if that doesn't pencil and it points more toward simply selling your land and that's a well-trodden path for us as far as the thought process. When it comes to capital sources, I’ve talked about project level leverage, non-recourse asset level financing. We also have by virtue of our third-party capital business, a ton of relationships that we have cultivated over decades of prospective joint venture partners. Many of them will be much happier that we are in a permanent capital structure then in a finite life vehicle. Because many of the best partners out there want a partner who will hang around with them potentially forever if that's the plan and not have an artificial arbitrary exit date imposed upon them by virtue of a fund life. Those partners are folks that can be selectively - resources and capital providers often at times when the REIT markets are not the most efficient source of capital to fund new opportunities. We will have to weigh that against how much of an asset we want to own. How much of the way that we want to own in a project versus how much do we want to share with an investing partner? And frankly are we getting enough out of that to deal with that partner to warrant doing that? But that analysis is one that is really forms the bedrock of how and when we have decided to do everything that we've done throughout our history and that won’t be changing in this new contract.
Manny Korchman:

Okay; appreciate that. And I'm sorry if I missed this, have you quoted the expected transaction costs for this deal or is it too early to put that out there?
Steven Roth:

Yes. Too early. We will get to that as well.
Manny Korchman:

And then, lastly, maybe for David or Steve, did you quote the timing for the Farley development we're commencing and when that could kind of get to the finish line?
David Greenbaum:

We've been designated by the state of New York. As I said, we would expect the deal to close some time next year and realistically construction with then begin I would say sometime in 2018, but we'll have to get back to you with some more concrete data as we get closer to where the closing.
Steven Roth:

But we do know one thing. Skanska, our construction partner on the deal is the end date; the delivery date for this station will be in 2020. So this is a major construction project vis-a-vis the train station.
Manny Korchman:

Okay.
Steven Roth:

I think that's our last question. So I thank you everybody for participating. We think that this has been a bit of a very long call, but we think we have lot to talk about. We're very excited about JBG Smith. Thank you everybody.
Operator:

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for your participation. You may now disconnect.

Vornado Realty Trust Q3 2016 Earnings Call Transcript

Other Vornado Realty Trust earnings call transcripts:

Vornado Realty Trust
Q3 2016 Earnings Call Transcript