Kilroy Realty Corporation (KRC)

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Kilroy Realty Corp. (KRC)

Q2 2010 Earnings Call

August 3, 2010 2:00 pm ET

Executives

Tyler Rose - CFO

John Kilroy - CEO

Jeff Hawken - COO

Heidi Roth - Controller

Michelle Ngo - Treasurer

Analysts

James Feldman - Bank of America-Merrill Lynch

Josh Attie - Citigroup

Sri Nagarajan - FBR Capital Markets

Chris Caton - Morgan Stanley

John Guinee - Stifel Nicolaus

George Auerbach - ISI Group

Suzanne Kim - Credit Suisse

Michael Knott - Green Street Advisors

Vincent Chao - Deutsche Bank

James Sullivan - Cowen and Company

Mitch Germain - JMP

Dave Rodgers - RBC Capital Markets

Presentation

Operator

Good day, ladies and gentlemen, and welcome to the Kilroy Realty Corporation's second quarter 2010 earnings conference call. (Operator Instructions)

At this time, I would now like to turn the call over to Mr. Tyler Rose, Chief Financial Officer.

Tyler Rose

Good morning everyone. Thank you for joining us. With me today are John Kilroy, our CEO; Jeff Hawken, our COO; Heidi Roth, our Controller, and Michelle Ngo, our Treasurer.

At the outset, I need to say that some of the information we will be discussing this morning is forward-looking in nature. Please refer to our supplemental package for a statement regarding the forward-looking information in this call and in the supplementals.

This call is being telecast live on our website and will be available for replay for the next 10 days both by phone and over the Internet. Our press release and supplemental package have been filed on a Form 8K with the SEC and both are also available on our website.

John will start the call with an overview of the quarter and our key markets. I'll add financial highlights and update an earning guidance for 2010, and then we'll be happy to take your questions. John.

John Kilroy

Thanks, Tyler. Hello everyone, and thanks for joining us today. A lot has happened at KRC since our last call. We added two more acquisitions to the two we announced in April, and closed four transactions in the second quarter for a total purchase price of approximately $411 million.

Four new projects increased the size of our stabilized portfolio by $1.3 million sq. feet.

In the capital markets, we successfully placed a $250 million debt offering of ten-year notes, and tendered for $150 million of our outstanding 2012 exchangeable notes. We are also nearing completion on a new $500 million revolving bank facility.

Our leasing momentum continued, with results that mirrored the first quarter. We signed new or renewing leases on about 332,000 sq. feet of space during the second quarter, and year-to-date we've now signed leases on more than 800,000 sq. feet. In addition, we have a large pipeline of letters of intent that currently totals 616,000 sq. feet.

Approximately half of these LOIs are related to office leases, and a third are related to potential new leases on currently vacant space. The average deal size is approximately 17,000 sq. feet.

As a result of our leasing success over the past three quarters, occupancy in our stabilized portfolio increased 85.1%, up from 82.8% at the end of the first quarter. We are now 89% leased.

I should also note that market conditions remain mixed. Leasing is still competitive. Tenants continue to negotiate aggressively on leases, and decision-making timeframes remain extended. However, as we said last quarter, we are seeing stabilization in most submarkets.

San Diego experienced positive absorption for the second consecutive quarter, while many of the vacancy rates in our other submarkets were basically flat compared to last quarter. Given the ongoing uncertainties in today's commercial real estate markets, financial strength remains a crucial advantage in both leasing and in acquisitions.

Tenants continue to underwrite landlords for their ability to execute on promises and property maintenance; sellers continue to prefer buyers who come without financing contingencies and who can provide surety of execution.

Now let me give you some details on the four acquisitions we completed in the quarter. In May, we closed on the purchase of 303, 2nd Street, a 732,000 sq. foot office project in the South Financial District of San Francisco for approximately $233 million. The property is currently 89.7% occupied, and we recently signed 37,000 sq. foot lease that brings the project to 94.7% leased. This puts us ahead of our budget in terms of lease-up timing.

As we've mentioned previously, this was a strategic acquisition that allows KRC to diversify its geographic footprint with a significant foothold in the San Francisco market, an area in which we anticipate future growth.

In June, we purchased a 99,000 sq. foot office building in the city of Orange for approximately $22 million. The property which is near Children's Hospital of Orange County came with entitlement rights for additional potential development of office or medical space up to 1 million sq. feet.

It's currently 100% occupied by a single tenant with strong credit quality. Initial cap rate is 7%, but with our contractual rent bump scheduled for next June, the return will jump to 8.6%. Also this June, we completed the acquisition of 272,000 sq. foot office building located in the city of Irvine in Orange County for approximately 103 million.

The building which was completed just three years ago is a premier address, and a best-in-class property, not only within the John Wayne Airport submarket where it's located, but across Orange County. It is a LEED certified silver, by assets rating an airport submarket. The building is currently 96% occupied, with the two largest leases expiring approximately eight years from now. The in place first year cap rate is 6.7%.

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