Ladies and gentlemen, thank you for standing by. Welcome to Douglas Emmett's quarterly earnings call. Today's call is being recorded. At this time, all participants are in listen-only mode. After management's prepared remarks, you will receive instructions for participating in the question-and-answer session. I will now turn the conference over to Stuart McElhinney, Vice President of Investor Relations for Douglas Emmett. Please go ahead.
Thank you. Joining us on the call today are Jordan Kaplan, our President and CEO, Kevin Crummy, our CIO, and Mona Gisler, our CFO. This call is being webcast live from our website and will be available for replay during the next 90 days. You can also find our earnings package at the investor relations section of our website. You can find reconciliations of non-GAAP financial measures discussed during today's call in the earnings package. During the course of this call, we will make forward-looking statements. These forward-looking statements are based on the beliefs of, assumptions made by, and information currently available to us. Our actual results will be affected by known and unknown risks, trends, uncertainties, and factors that are beyond our control or ability to predict. Although we believe that our assumptions are reasonable, they are not guarantees of future performance, and some will prove to be incorrect.
Therefore, our actual future results can be expected to differ from our expectations, and those differences may be material. For a more detailed description of some potential risks, please refer to our SEC filings, which can be found in the investor relations section of our website. When we reach the question-and-answer portion, in consideration of others, please limit yourself to one question and one follow-up. I will now turn the call over to Jordan.
Good morning, everyone. Thank you for joining us. Our revenue during the Q1 is up compared to the Q1 of 2022, the increase was offset by higher operating costs and interest expense. The slowdown in the leasing pipeline that we mentioned on our last call resulted in a decline in our leased rate, even though we actually signed more leases in the quarter than usual. We continue to have strong demand from tenants under 10,000 square feet who dominate our markets. Because larger tenants have become more conservative in response to recessionary concerns, we leased less total square footage. Accordingly, we have reduced our assumptions for average office occupancy and same-property cash NOI.
The national economy is challenging for all of us, but for some office CBDs, remote work, oversupply, and overwhelming reliance on large tenants and concerns about reduced urban appeal seem to pose additional obstacles. As I have said before, our market supply constraints, smaller tenants, short commutes, and low reliance on public transit supported relatively high leasing volume and utilization during the pandemic. As the pandemic eased, leasing in our markets was very strong until the Q4 of 2022, when larger tenants became more concerned about recession. While economic downturns are unpleasant, they are not new to us. We remain confident in the resilience of our portfolio and in our ability to navigate these challenges. We've guided our company through four recessions and always found the silver lining.
We repurchased $6 million shares of our common stock in late March and early April, we are well positioned to take advantage of other opportunities created by the current economy. With that, I will turn the call over to Kevin.
Thanks, Jordan. Good morning, everyone. Our balance sheet and cash flow after dividends are strong. We have no outstanding debt maturing until December 2024, and almost half of our office portfolio remains unencumbered. We developed our debt strategy to protect our company during times like these. Our debt is all non-recourse, secured by first trusted mortgages at the property level. We have no corporate level debt and no corporate covenants. We have a perfect 30-year debt repayment record and are confident we will maintain it during this downturn. Our cash flow after dividends remains one of the best in our industry, and we use less than half of our AFFO for dividends, leaving us with substantial liquidity. Our multifamily projects continue to perform well and lease up at a good pace.
At Bishop Place in Honolulu, our office-to-residential conversion project, we just delivered another floor of apartment units and expect to deliver three more floors by year-end. Only two unconverted floors will remain, which are currently leased by office users for several years. At The Landmark L.A. in Brentwood, we have now leased over 70% of the 376 new units that we began delivering in April last year. With that, I'll turn the call over to Stuart.
Thanks, Kevin. Good morning, everyone. Smaller tenants continued to drive our leasing in Q1. We signed 235 office leases covering 625,000 sq ft, consisting of 168,000 sq ft of new leases and 457,000 sq ft of renewal leases. Our leasing spreads during the Q1 were positive 6% for straight line and -6.7% for cash. This is somewhat better than recent quarters, we don't expect to achieve meaningful gains in office rental rates until our lease rate begins to recover. Our leasing costs this quarter were $5.37 per sq ft per year, which is a bit lower than recent quarters and well below average for other REITs in our benchmark group.
Turning to multifamily, our portfolio was 99.3% leased at quarter end. Rents continue to roll up across our portfolio. With that, I'll turn the call over to Peter to discuss our results.
Thanks, Stuart. Good morning, everyone. Turning to our results, compared to the 1st quarter of 2022, revenue increased by 5.7%, reflecting the addition of new units to our multifamily portfolio, which has increased by 617 units, and higher in-place office and multifamily rental rates. FFO decreased by 5% to $0.47 per share, primarily as a result of higher interest expense on our floating rate debt. AFFO decreased 13.5% to $81.4 million. Although our leasing costs per sq ft remain low, we paid the tenant improvement costs this quarter to move in a large number of tenants with whom we executed leases last year. Same-property cash NOI decreased by 1.5%, with higher rental revenue and parking revenue offset by continued inflationary pressure on utilities and wages.
Our G&A remains very low relative to our benchmark group at only 4.3% of revenue. During late March and early April, we repurchased 6 million shares of our common stock at an average cost of $12.32 per share. Turning to guidance, as Jordan said, we are adjusting our assumption for average office occupancy, which we now expect to be between 81%-83% for the year. We adjusted our expected range of same property cash NOI growth to be between -1.5% and -0.5%, and for straight line revenue to be between $1 million and $3 million. These adjustments are offset by the benefit of our stock buyback, our guidance range for full year FFO remains between $1.87 and $1.93 per share.
For information on assumptions underlying our guidance, please refer to the schedule in the earnings package. As usual, our guidance does not assume the impact of future acquisitions, dispositions or financings. I will now turn the call over to the operator, so we can take your questions.
Thank you. We will now begin the question-and-answer session. To ask a question, you may press star then 1 on your touch tone phone. If you're using a speakerphone, please pick up your handset before pressing the keys. If at any time your question has been addressed and you would like to withdraw your question, please press star then 2. Again, in consideration of other participants, please limit your queries to 1 question and 1 follow-up. At this time, we will pause momentarily to assemble our roster. The first question will be from Alexander Goldfarb from Piper Sandler. Please go ahead.
Hey, morning out there.
Hi.
Hey, how are you, Jordan? Two questions. First, on the stock buybacks, I believe you have floating rate debt where the swaps burned off, you know, this year. What are your thoughts on instead of the buybacks using that cash to pay down, you know, those floating rate loans to try and reduce, you know, the impact of rising rates?
Well, I mean, we have I actually think the floating rate debt is at a good margin, and it's pretty good debt. The question is just when do we want to reswap it? I think there is going to become an opportunity to reswap it if you look a little longer out, not including this year. I think it swaps down it back to a reasonable rate almost already. I'm not anxious to use cash for that. I think there's better uses for it, and that's very good debt with a lot of time left on it. I'd like to mention something. In the lead in to our call, Stuart's section, it said that Mona is our CFO, which actually Peter's our CFO.
Just some behind the scenes is that Stuart doesn't like to re-record his opening over and over again. He says, "Use my last one." He didn't mean use my last one from the dark ages. He actually just meant use my last one from, like, the last year. They obviously pulled one from four years ago. Anyways, maybe nobody caught that except for us. What was your second question?
The second question is, when we were out in Hawaii at the investor event, you were talking a lot about how downtown L.A. tenants are moving to the west side, not enough space for all these tenants that are coming. Yet you're also talking about the large tenants being the weak spot in your portfolio. Small tenants, very active. Large tenants, not active. I'm just curious how we rationalize that if downtown L.A. tenants are moving to the west side, those, you know, I would think, are larger tenants. Why wouldn't we see some increase in large tenant activity in your portfolio as well?
Most of that increase has been reflected in Century City. They're actually a bit larger than even we can accommodate. Now Century City, I think almost all the full floors and the towers and some of those other buildings are gone. We don't have a lot of blocks of space they can. When to us, large tenant is 10,000-40,000 sq ft. And, you know, when you get over 20, that's a full floor already, right? 10-20 is more. I mean, we have full floor tenants, plenty of them, but nothing close to the way Century City operates. A ton of them moved to Century. I think Century City is very full right now.
We're hoping that some will move in at, like Beverly Hills and Westwood or the other places where those people tend to head. Maybe there's a little bit of activity there. In those markets, we have not had the blocks of space that would have accommodated someone that's looking for 50,000 feet when we just haven't had it.
Okay. You would expect some spillover eventually?
Well, what I think is that there's definitely tenants moving. I mean, you can look at CBRE's report or some other reports. Tenants are moving from downtown to the west side. I don't know if a small one, you know, smaller ones, they have a great reason to be there. They probably live over in Pasadena or in that area. It's a big deal for them to make the hop all the way across. Now, they might probably, like these larger ones, are having trouble getting people to come into the office downtown, so they're saying, we're moving. I mean, the anecdotal stories that I've heard is law firms that have called everyone back in and they're saying, "Well, come back in, but we don't wanna be downtown." They're literally abandoning leases.
They're still paying on them, and they're leasing space in Century City, and they're saying, "Okay, now everybody back in." That. I mean, I don't know that. Yeah, I think there will be some spillover, think, hope, whatever. I mean, they're definitely moving our way.
Okay. Thank you.
Thanks, Alex.
The next question is from Camille Bonnel from Bank of America. Please go ahead.
Hi. Good morning. Can we focus a bit more on what you're seeing in the Olympic Corridor and Brentwood submarkets? What have the reasons, tenants been saying to your leasing teams when they move out?
Hey, Camille. Yeah. I mean, our tenants You know, we've got almost 3,000 tenants. The list of reasons they move out is a long list. You know, they're growing, they're shrinking, their, you know, partners retiring, or they're breaking off into 2 different firms. It's a huge list of reasons. It's kind of that same list of reasons that we've always seen, so no noticeable shift in, you know, or trends to point to there. Some submarkets, you mentioned some specific submarkets. I know we've had some movement around in some of the submarkets. Our submarkets are so small that, you know, they're sensitive to small changes.
We really internally think it's more useful to focus on in kind of our major regions, the west, you know, West L.A., Valley, and Hawaii, because individual submarkets really, can bounce around, pretty easily with small changes.
Okay. I guess as my follow-up question, small tenants seem to be very active in your markets. Are you tracking enough demand to keep up this level of leasing momentum through 2023? If you have any comments on your tenant watch list, if there's been any changes following the recent events with SVB, that'd be much appreciated.
Okay. As we foreshadowed last quarter, we said we saw the pipeline slowing down, and it did slow down, and you're seeing it. This is. If you're asking me if it's gonna slow down more than this, no, we are not seeing that. We're seeing this amount of activity, which is still a good amount of activity, I mean, over 600,000 feet. Not anything to what we're used to, which we wanna be closer to we wanna be around 800,000 feet, and we get four quarters of a million feet. You know, it is substantially off, but I don't consider it. We don't view it as being able to go off a lot more. What was your second, your second question?
If there's been any changes to your credit tenant watch list?
You know, tenants are... I guess there's two versions of that. Tenants are still chipping away and paying that are kind of the hangover group from COVID, and that number is down. I think the last time I saw that number, it was $17 million. If you're asking if more tenants are going on our watch list, yeah, a little here and there, but not much. Not noteworthy amounts. No. The credit of tenants is very good. I don't know if you would recall, but even in COVID, when, you know, 10% of our tenants weren't paying because the state said you don't have to pay, we kept saying that these people can all pay. That's not gonna be where we end up.
I think where we are actually gonna end up over those, you know, whatever the 2 or 3 years of COVID is maybe like 20 basis points. Forget about 10%, it's gonna be almost a nothing number. The reason for that is, as we've said, it's smaller tenants. They have very good credit, and by the way, they sign on the lease, so personally. That, you know, not a lot of default in our portfolio over the long haul, and I wouldn't expect a lot right now.
Thank you for taking my question.
All righty.
The next question is from Blaine Heck from Wells Fargo. Please go ahead.
Great. Thanks. Jordan, several of your office REIT peers have expressed optimism this quarter around the return to office mandates that some of the tech companies that were, you know, really quick to go fully remote during the pandemic have now implemented. You know, I know you guys don't have much exposure to tech, but can you talk about whether you think this could be beneficial to the L.A. market in general and your portfolio in particular? Maybe not from those tenants, exactly, but other supporting kind of smaller tenants.
I love seeing people come back to work, and I love seeing those tenants bringing people back in. I think it's very good for the economy and L.A. economy and all economies where large tenants have been having people stay home, whether it be San Francisco or New York or anywhere. If you wanna more specifically talk about our portfolio, you know, I would love to say it's gonna be like a big deal and blah, blah, but we've been over 80% for a long time. Maybe we're gonna go to 100 or 95. I don't think it's been getting in our way of leasing. I don't think it's been getting in the way of anything, quite frankly.
Even our parking, I know Ken sends me a little analysis of visitor blah, blah. I mean, we're able to like more spot track it. It's fast. I noticed that on the last one Ken sent me, our visitor is back to full, like back to the 100% level that it was pre-pandemic. I guess I'd like to say that would be a good benefit to us, but I actually think the entire issue that we're facing is the I don't know if they wanna call it a recession or whatever, the real estate recession that we're having or the conservative way that people are approaching expecting a real estate recession that's caused a slowdown on leasing.
I don't think there's anything else. I think it's not dissimilar from the last four recessions that we've been in since Ken and I have been running this company. We have to work our way through the recession. As we come out of it, I'm sure we'll come out extremely well.
Okay. That's really helpful color. switching gears real quickly to the investment front. can you talk about any recent conversations you've had with your capital partners, you know, whether they're willing and interested in acquiring office or multifamily assets, and maybe what sort of return requirements or return targets that they have, in this kind of environment?
Sure.
Hey, Blaine, it's Kevin. We've been having those conversations and having meetings with our capital partners because as we've said on previous calls, we are super anxious to deploy some capital in this market. There are not a lot of people that feel the same way, although there are some. It's gonna be lower competition. Office and multifamily in West L.A. are both okay with our partners. You know, we've all adjusted our return expectations in accordance with interest rates, and so it's not gonna be as it was. We're looking forward to some opportunities coming out and deploying capital.
Great. Thank you, guys.
Thanks.
The next question is from Michael Griffin from Citi. Please go ahead.
Great. Thanks. Maybe to piggyback on Blaine's question there on capital allocation. You know, you've talked about being kind of, you know, ready to look at opportunities. I think we've seen some stuff that's mainly been in like Orange County, so not exactly your wheelhouse sort of trade at discounted valuations. Anything you're seeing from the transaction market or, you know, talking with your contacts out there. You know, I know you've got Proposition U in West L.A., so that kind of helps the supply front. Kevin, just on, you know, you talked about office and multi being okay with your partners. Does one of these screen better as the other for a potential investment opportunity? Thank you.
Sure. Well, I think that there's more certainty around the demand for multifamily in the near term, and people are trying to figure out the demand for the office from a tenant perspective and an underwriting perspective. You know, I would expect that multifamily is gonna trade at a tighter price range than office. You know, so far we haven't seen anything that really fits the profile of asset that we're looking for. What we look for specifically are assets with a smaller tenant base, maybe a problem in the rent roll or something that needs to be repositioned, where we can deploy our operating platform into the asset to maximize its potential. We just haven't really seen that come out yet.
You know, I'm optimistic that towards the latter half of this year, we're gonna see some opportunities.
I really feel like I will be surprised to see opportunities in residential, let me just say it that way. I think it's still trading pretty tight. I think we have a better chance of making some good deals in office if you just, you know, because we have a lot of conviction around it, and that's where you see the weakest conviction from, like, the broader capital markets. I know it's not fun to go against the tide, but that's where we excel.
Thanks. This is Nick Joseph here with Michael. Just question on occupancy. I think our guide is 82% average occupancy for the full year. Can you just talk through how you get there? Just give a little one key on it.
Well, you want to talk about it, or you want me? What happens is, this quarter, we look at what happened this quarter in terms of leasing, and we can start projecting out pretty good because occupancy is a function of leasing. We go, "Well, we didn't hit goals for leasing, and therefore we're gonna be our average occupancy is gonna be lower." I mean, it's actually just kind of calculating math out.
Great. Thanks.
The next question is from Steve Sakwa from Evercore ISI. Please go ahead.
Great. Jordan, thanks for clarifying about Peter. I thought I missed an announcement this morning about his resignation.
By the way, Mona still works here too. I mean, maybe she was also surprised to hear that because she actually asked to do the switch. Like what? Anyway, yeah, that was weird.
Yeah. Thank you. Coming back to leasing, you know, Jordan, I know you did a lot of renewal leasing, but you know, clearly the linchpin in getting occupancy and lease rate up is the new volume. You know, based on your comments, it sounds like it's less of an RTO problem and more of an economic outlook problem. To the extent that that doesn't really clear up this year, does that sort of suggest that the leasing volume, you know, you did in this quarter on the new side is kind of the new, you know, run rate, if you will, until the economy's really on firmer footing?
Probably what you said, I hope not, but you certainly understand the situation. Let me say it that way. I hope that's not true. I know we just keep accelerating our push on the new deal and the leasing, and we're doing, you know, we're constantly adding and doing things. I actually think that it was oddly low this quarter, and that we probably for the next three quarters will... I'm hopeful that we'll do a little better. Usually, when we have a very low quarter like this, we get some recovery. I think this number's lower than a run rate that I would expect, and it was lower. Obviously, I just said 1 second ago, it caused us to adjust our occupancy. I'm not expecting...
Basically what we're expecting, we gave in our adjustment to the assumptions, which would probably not be this run rate of this quarter for the rest of it. I. You certainly understand it. I think we'll get some recovery over the next 4 quarters, 3 quarters.
Okay, great. Then on the capital deployment side, you know, I'm sort of just wrestling with the share buyback. I sort of understand at the, you know, at the implied cap rate where you trade is probably high single digits, maybe on certain days pushing low double digits. You know, how that would stack up against the new deal. I agree with you, apartments probably won't come cheaply, so you'd have to be looking at office. I guess you already know what you own. I mean, can you envision finding deals that are as good as what you already own to make them even more accretive than buy back stock?
Well, I can envision it. I can envision a lot of things. I know some deals where the people in the building are anxious to have us come in and take over, okay? I think there might be some deals out there where people are saying, "You know, maybe I'm not getting top dollar for this, but I'm not gonna sell 100% of it. I'll sell a big chunk to you, but we just don't wanna run this anymore." There might be opportunities there that are very good opportunities for us. Very, very good. That's frankly a lot of what Kevin's focusing on, and he's traveling and doing the whole deal around.
You know, you're right to say we own a lot, and we own a lot of what we own is the best of whatever market it happens to be in. There's still deals out there, deals we'd like to do, and I think there's still a few groups out there that are kind of have an attitude that I just described, and that's really the opportunity around office that I was talking about.
Great. Thanks for the time.
Thanks.
The next question will be from Dylan Burzinski from Green Street. Please go ahead.
Hi, guys. Most of my questions have been asked already. I guess just curious, given the news coming out of Hollywood and the strikes being there, do you guys expect that to have any impact on you guys' portfolio?
Dylan, it's Pierre. Probably shouldn't have much impact. We don't tend to have, you know, a lot that's, you know, that's affected. We get a little bit of temporary production space, you know, when a show's up and running and, you know, that might go away. It's pretty ancillary to our overall business.
Do you guys have any update on sort of the discussions that you're having with Warner Bros., given their expiration in the latter half of next year?
I don't think we have that much of an update. I mean, I've said our expectation is that they move out, although they haven't said they're doing that, and I think they're going through a lot right now. It's, you know, maybe they're not. Their plans are changing fast. Now on the other side of the coin, I've also said we're marketing the buildings. That's kind of gonna be it until they come to us. They're not under any pressure to say, "We're moving out," because they don't have any options. They're, you know, they're gonna play to the end and see where they end up. I know they're.
At this moment, the reason we expect them to move out is because they, you know, same announcements that you guys are able to read about how hard they're working to cut costs. You know, if a company just continuously cuts costs, then they go away. At some point, they're gonna, you know, change, you know, their view and say, "Now we're, you know, rebuilding this or that." We don't know where that's gonna end up.
Do you have a sense of the utilization of the space today?
I think the utilization is extremely low, like barely any. I think that's their utilization of like every office space that they have. I mean, if people start you know, the studios have been very slow to bring people back into office space. I would just say it that way.
Okay.
The next question will come from Tayo Okusanya from Credit Suisse. Please go ahead.
Hi, yes. Good morning out there. Quick question in regards to the swaps, that are going to be dropping off. I think the mindset before was you were just gonna let the underlying variable rate debt float. Is that still kind of the idea given, you know, some of the latest news from the Fed around, you know, rate policy?
Hey, did the Fed do their announcement yet or did they go out?
Yeah, they did. They raised 25 basis points.
Well, that's new news to me. I just heard it just now, so I have to think about it. I actually think there might be some opportunities considering we have some very good debt in terms of the margins to kind of let this year play out. It's forward swap maybe starting earlier next year. That number's down in the 3 range. You know, it put our swaps more in the low 4s, which is fine, and we could swap out and start fixing some of this and start layering it back in. Like, I mean, our intention is not to just put the whole company to floating, of course. I also, as I said in the past, I don't like...
You know, nobody flies a kite during a storm, you know, even though you need wind to fly a kite. I like to, you know, some more time, see how things settle a bit before we do something.
Sounds good. Thank you.
If you have a question, please press star then one. The next question is a follow-up from Michael Griffin from Citi. Please go ahead.
Hey, great. Thanks. I think you touched on the Warner Bros. lease a couple questions ago. I'm curious. I know you have the conversion in Hawaii. I think you're doing some stuff you said at Landmark. Is this a candidate for conversion? I mean, apartments might be, you know, pretty hard because of the floor plates, but like, could it be converted to a movie studio? Like, don't they film, like, didn't they film Larry King around there or in that general area? Just a thought. Thanks.
Well, that... I mean, the floor plate's actually, the debt building could be converted to an apartment building, but I can't imagine a scenario in which we'd do that. I mean, that Burbank media district, while during this recession and what's going on, seems to be showing some weakness and maybe because of the new construction that happened there, it's even showing more weakness. I'm gonna tell you that for like 25 years it's been the strongest office market in all L.A. County. I mean, it's been a very strong office market. Maybe downtown Santa Monica and maybe some Beverly Hills, but it's a really solid office market, so I can't imagine.
Unless you have a building down there that's really, like, almost dysfunctional, I don't see a lot the spread between office rents and apartment rents being a wide enough gap to encourage anybody to do a conversion. Frankly, I think out there office rents are probably higher than apartment rents. I mean, just 'cause we have a tenant moving out, we're gonna have some vacancies, that's a miles from the idea of saying is it a market or can we do better long term with a conversion, especially in the media district.
Maybe to that point, like if it's a big single tenant user of that building and they've got like 430,000 sq ft or whatever, how hard is it to cut up the building into like the smaller tenants, you know, the Emmett bread and butter, so to speak?
The floor plates are very good for being broken up. The building can be broken up quite easily. There's larger tenants there, though. I mean, you know, we could do a few floors of smaller tenants. My guess is you're still dealing with tenants that are 50,000-200,000 sq ft. That would be perfect. I mean, to do, you know, 3 or 4 tenants is more what I'd like to go to. I mean, the reality is they really are our only large tenant. We have one other that's large-ish, that's the WME, they're right in the middle of Beverly Hills, which is like the heartland of small tenants. They just happen to have grown big in one of our buildings. That's it. That's where it all ends.
All right. That's it for me. Appreciate the follow up.
Thanks.
Ladies and gentlemen, this concludes our question and answer session. I would like to turn the conference back over to Jordan Kaplan for any closing remarks.
Well, thank you all for joining us, and we look forward to speaking with you again in a quarter.
Thank you, sir. The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.