Hello, and a warm welcome to today's First Quarter 2022 Kilroy Realty Corporation Earnings Conference Call. My name's Emma, and I'll be coordinating the call today. You have the opportunity to ask a question at the end of the presentation by pressing star followed by the number one on your telephone keypads. If you'd like to change your mind, please press star followed by the number two to cancel your request.
It's now my pleasure to hand today's call over to Bill Hutcheson, Senior Vice President of Investor Relations to begin. Please go ahead.
Thank you, Emma. Good morning, everyone. Thank you for joining us. On the call with me today are John Kilroy, Tyler Rose, Rob Paratte , and Eliott Trencher. At the outset, I need to say that some of the information we will be discussing during this call is forward-looking in nature. Please refer to our supplemental package for a statement regarding the forward-looking information on this call and in the supplemental. This call is being webcast live on our website and will be available for replay for the next eight days, both by phone and over the Internet. Our earnings release and supplemental package have been filed on Form 8-K with the SEC, and both are available on our website. John will start the call with first quarter highlights, and Eliott will discuss our financial results and provide you with updated 2022 earnings guidance.
We'll be happy to take your questions. John?
Thank you, Bill. Hello, everybody. Thank you for joining us today. I'll begin with some big picture comments and then share highlights from the quarter. We recently passed the two-year mark from the start of the pandemic and are starting to see what a new normal looks like. People have moved back to cities, kids are attending school in person, and travel has returned. On that last point, it was great to see so many of you live at the Citigroup conference in March. Physical office occupancy has continued to progress. Many of our largest customers started returning to the office in recent weeks, the effects of which are tangible in our markets. Traffic is up, public transportation is more crowded, cities are cleaning up and starting to feel more vibrant.
Ridership on BART in the Bay Area was up roughly 20% versus last month and over 140% versus last year. We are encouraged by the initiative San Francisco took last month with their Welcome Back to SF plan, encouraging employers to return to the office. Those who signed the pledge, including many companies such as Google, Microsoft, Meta, Salesforce, Uber, and Kilroy, committed to implement in-person work policies beginning in March. While we expect the coming months to have some fits and starts, we're feeling more encouraged by the progress to date. One thing that has not changed throughout the pandemic is the importance of technology and life science companies as an engine that drives our economy. Since the start of the pandemic over two years ago, the Nasdaq is up roughly 90%. VC funding is up 85%.
While there will be volatility year to year, access to capital for these industries remains robust. Hiring continues to be very healthy as well. Job postings for large technology companies in our markets is up roughly 75% year-over-year, highlighting the growth and competition for talent on the West Coast and in Austin. Despite all the headlines, companies continue to lease office space. According to JLL, leasing nationwide has increased for five straight quarters. In the first quarter of 2022, had leasing volume that represented approximately 75% of pre-pandemic levels. Technology and life science customers remain a major driver of demand, especially in our markets. A few examples include Meta signed a nearly 600,000 sq ft lease in downtown Austin and a 200,000 sq ft lease in Bellevue.
Bristol Myers Squibb took over 400,000 sq ft in the UTC submarket in San Diego, and Roblox, the gaming company, leased 200,000 sq ft in the Bay Area, just to name a few. Not surprisingly, a disproportionate amount of this leasing has been in newer and more amenitized buildings. Our strategy has long been to buy and build the best office and life science buildings in our markets in order to attract big, sophisticated, and growing users. A Green Street report from last month analyzed portfolio quality among the publicly traded office companies, and Kilroy scored over 90 out of a possible 100 points, ranking us number one in our group of peers. Our commitment to modern, amenitized, and sustainable workplace environments differentiates our portfolio and positions us to succeed in multiple environments.
On this note, we'd like to point out that earlier this month, we filed our eleventh annual sustainability report. Sustainability, health, and wellness are integral to both us and our partners. Our efforts continue to earn global recognition from leading organizations, including GRESB, Dow Jones, Nareit, and ENERGY STAR. These initiatives remain central to Kilroy's values, and we plan to continue being a leader in these areas. We are not without challenges. Geopolitical risk is elevated, inflation is accelerating, and the capital markets remain somewhat volatile. While these macro factors are beyond our control, our long-term leases, high concentration of creditworthy tenants, and low leverage provide a buffer to navigate any short-term choppiness. In summary, our portfolio quality, strong tenant credit, and fortress balance sheet position us for both defense and offense.
Our downside will be protected in tough times, as seen by the resilience of our portfolio during the pandemic. We are prepared to be opportunistic when appropriate, as we demonstrated through active capital recycling this past year. Turning to the highlights from the first quarter, leasing was headlined by the renewal and expansion of Nuro for 114,000 sq ft in Mountain View through 2032. We are pleased to be able to grow with this innovative company, which represents another VC-backed company expanding in the Bay Area. After a slow start due to Omicron variant, activity improved throughout the quarter, and we are currently in late stage negotiations on more than 350,000 sq ft of office in our core portfolio across multiple markets. While there are no guarantees these leases get done, it demonstrates the improved tenant confidence in the market.
Overall, leasing spreads on deals signed during the quarter were +7%. It is worth noting that our leasing spreads stayed positive every quarter throughout the pandemic, a testament to the quality of our real estate and the built-in growth within our portfolio. Our lease rollover remains modest, with an average of 7% expiring per year through 2025. We continue to see strong residential demand in our markets, which is good for our multifamily portfolio in the near term and encouraging for our office portfolio in the longer term. Our roughly 1,000 residential units are 97% leased as of today. Jardine, our most recent project in Hollywood, now sits at 94% leased, a mere 11 months since delivery, and is achieving top of the market rents at nearly $6 per sq ft.
Life science continues to be a point of strength across all markets, with vacancy rates in the low single digits. Leasing activity for life science projects remains robust, and we continue to have good interest in both Kilroy Oyster Point and our future start in San Diego, Santa Fe Summit. As a reminder, upon completion of all phases of these developments, NOI from life science properties could get as high as 30% of total company. On the capital allocation front, we began construction on the last two San Diego life science redevelopments, pardon me, we discussed last quarter. In total, we now have three life science redevelopments, which have an estimated total cost of $115 million or roughly $60 million of incremental spend.
All three projects are fully leased, and upon stabilization, will generate $20 million in total NOI or $10 million above pre-redevelopment levels. Additionally, during the quarter, we continued our expansion in Austin by acquiring a land site in the Stadium District for $40 million. The Stadium District, together with the adjacent Domain submarket, have become Austin's second downtown with 4,000 apartments, 50 restaurants, 900 hotel rooms in close proximity. The Class A office market is roughly 3 million sq ft and 99% leased to several customers, including Amazon, Meta, and Indeed. Our site is kitty-corner to the southern end of The Domain, close to a future light rail stop, which connects to downtown. Most importantly, it's directly adjacent to the brand-new Q2 Stadium, home to Austin FC, Austin's major league soccer club and the only professional sports team in the region.
As part of the land acquisition, we have a permit-ready, high-quality design from one of our favorite architects, which allows us to lock in a GMP contract, which we've done with the builder. We expect to start construction later this year. In total, we expect to spend just over $700 per sq ft, including the entitled land, which, as I mentioned, we previously closed on, to develop what we believe will be the best building in the submarket that will complement our Indeed Tower, the best building in the Austin CBD. We also made progress building out our team in the region. We recently announced the addition of Fernando Urrutia, Senior VP of leasing for our Austin-based team.
Fernando, a graduate of UT, has been in the Texas commercial real estate for over a decade and brings to Kilroy Austin market relationships, leasing acumen, and transaction expertise. We also have two very seasoned Kilroy executives who will be relocating from the West Coast to oversee asset management and construction in the Austin market. To recap, since June of 2021, we have acquired two projects in Austin that will total 1.2 million sq ft or roughly 5% of total company NOI and put together the foundation of a local team that will facilitate our continued expansion in the region.
In closing last quarter, I outlined five objectives for the year. Complete and lease our development projects, proactively manage the operating portfolio, look for external growth opportunities, maintain a conservative balance sheet, and lastly, engage politically when necessary to help shape public policy. While it is still early in the year, we are pleased with the progress on several of these initiatives, and we remain committed to these goals as the year progresses. That completes my remarks.
Now I'll turn the call over to Eliott.
Thank you, John. FFO was $1.16 per share in the first quarter. This includes $0.03 of positive one-time items from lease termination fees and moving some retail tenants back onto accrual accounting, offset by $0.01 of front-loaded G&A spend. Taking the net of the two, adjusted FFO for the first quarter was $1.14 per share or $0.04 higher than last quarter, largely driven by a full quarter of revenue from Kilroy Oyster Point, phase I. On a same-store basis, first quarter cash NOI was up 12.8%. Excluding one-time items and adjusting for tenants that were not paying rent in the first quarter of last year, cash same-store NOI was 10.1% for the quarter.
This growth was driven by lease-up at the residential portion of One Paseo and free rent burn-off for some larger office leases. Same-store NOI was up 9.1%. At the end of the quarter, our stabilized portfolio was 91% occupied and 93% leased. The decrease in occupancy from the fourth quarter was driven by a 145,000 sq ft move-out in San Diego that we previously discussed. Turning to the balance sheet, our liquidity today stands at approximately $1.3 billion, including approximately $175 million in cash and full availability of our $1.1 billion revolver. As we have previously discussed, our line of credit, combined with cash on hand and our projected dispositions, will more than fund the development pipeline through 2022.
Net debt to Q1 annualized EBITDA was 5.9x , and we have no debt maturities until December of 2024. As a reminder, last year we issued $450 million of bonds, 2.65%, and used the proceeds to redeem our 2023 maturity, thereby giving us plenty of runway to navigate the current debt markets. Before we get to guidance, one change we made to our disclosure this quarter is on page 18 of the supplemental, where we expanded the pool of deals for the change in rent calculation. Previously, this number was based on spaces that had been vacant 12 months or less. Given the decrease in activity during the pandemic, we are starting to see leasing in more spaces that have been vacant for longer than 12 months.
Beginning this quarter, our change in rent calculation includes spaces that have been vacant since the start of the pandemic, which should give investors a better sense for what is going on in the portfolio. As John mentioned earlier, our leasing spreads on deals signed this quarter were +7%. Had we used our old methodology, it would have been +6%. Now let's discuss our updated 2022 guidance. To begin, let me remind you that we approach our near-term performance forecasting with a high degree of caution, given all the uncertainties in today's economy. Our current guidance reflects information and market intelligence as we know it today. Any COVID-related impact or significant shifts in the economy, our markets, tenant demand, construction costs, and new supply going forward could have a meaningful impact on our results in ways not currently reflected in our analysis.
Projected revenue recognition dates are subject to several factors that we can't control, including the timing of tenant occupancies. With those caveats, our updated assumptions for 2022 are as follows. As always, no acquisitions are forecasted. We continue to assume $200 million -$500 million of dispositions. Development spending for the balance of the year is expected to be $500 million -$575 million, a modest increase from our prior forecast due to the inclusion of our recently acquired Austin site. We expect to commence revenue recognition for the remaining 51% of 333 Dexter by the third quarter and for 250,000 sq ft of life science redevelopments by the early fourth quarter.
It is important to note that the prior tenants for 12400 High Bluff and 4690 Executive Drive, our life science redevelopments in San Diego, moved out in the first quarter. NOI at those properties will drop over the next couple of quarters before ramping back up in the fourth quarter. These buildings are now in the redevelopment pipeline, it does not show up in our occupancy. Year-end occupancy is still projected to be 91%-92% for the office portfolio, and residential occupancy is projected to stay around current levels. Same-store cash NOI is expected to be between 5% and 6%, a 50 basis point increase at the midpoint due to the strong results from the first quarter.
Putting this all together, we project 2022 FFO per share to range between $4.44 and $4.58 with a midpoint of $4.51, which is a $0.06 increase compared to our prior guidance. The implied run rate in our new guidance is below the first quarter results due to the dispositions expected to occur over the balance of the year, which have a roughly $0.11 impact, and from the $0.02 of net non-recurring items in the first quarter.
That completes my remarks. Now we'll be happy to take your questions. Emma?
Thank you. If you would like to ask a question today, please press star followed by the number one on your telephone keypad now. Our first question today comes from Nick Yulico from Scotiabank. Nick, please go ahead. Your line is now open.
Thank you. Maybe sticking with the guidance, Eliott, I just wanted to be clear on this. It sounded like there was, you said a $0.02 non-recurring item in the first quarter, and guidance went up $0.06. Just trying to understand what's the difference and the delta in the rest of the guidance spreads.
Yeah. You can roughly break it up into three buckets, and there's about a third, a third, a third. A third being the net one-time items that you outlined, a third being the residential portfolio, which was strong in both the first quarter, and the last third was sort of miscellaneous other, including some earlier lease starts and cap interest being slightly higher.
Okay, thanks. I guess maybe a question for Rob or someone else, you know, just maybe an update on some of the leasing conversations, you know, you're having and you know, the dichotomy between some of the markets you're focused on.
Sure. How you doing, Nick? Let me give you a broad overview to start with, just four points I'd like to make. These points are tied directly to Kilroy's portfolio, where we operate, where all the top-tier talent pools are located, and where you're seeing a flight to quality. The four points are, as John said, in all cases, leasing activity in our markets has improved and optimism is improving. Reentry remains fluid. The third point is that American office workers are back to work at the highest levels since the pandemic. In Austin, our newest market is leading the way at 61%, followed by Dallas and Houston. So Texas is really gonna be a bellwether, we think, for return to office nationally.
The last thing I'd say on this third point is that average occupancy for the top 10 metros in the U.S. is about 40.5% today, and a lot of that has been impacted in the last six weeks by Easter, Passover, and extended spring breaks. That has affected demand, we think. The last point I'd make is that real estate executives that we're speaking to at major companies are almost entirely consumed with bringing people back to work with various programs. You've probably read about Google having concerts at their campus in Mountain View and other schemes like that to bring people back to work. I can go into individual markets if you'd like, or I can stop there.
Yeah, that's great. I guess maybe just to follow up on San Francisco itself, if you can tell us, you know, in terms of traditional office leasing demand, how that's looking, and also how you think employers are looking at, you know, Silicon Valley, you know, if they already have some campuses in Silicon Valley and, you know, if that's being used as maybe, you know, workers can go to Silicon Valley. There's been some press about, you know, at least one company, you know, saying that, you know, they could put employees into the valley. They don't have to go into San Francisco. They can work remote, or if they wanna go to the office, go to the valley. I guess I'm just wondering how, you know, latest feel on San Francisco proper leasing.
Okay, sure. As of yesterday, VTS reported that tours are up 23% in San Francisco, February to March. Just to give you a little color, year-to-date leasing in the city was 732,000 sq ft. 611,000 of that was Class A leasing. 121,000 of that was Class B. As a broker said to me yesterday, "If you're sitting on commodity space, you're not busy. If you've got quality space, you're actually pretty busy in San Francisco." Sublease space has dropped to about 6.5 million sq ft from a high of 9.4 million sq ft during the pandemic, so that's a positive. John had mentioned BART and, you know, Bay Bridge crossings. All of those metrics are up.
Weekly badge swipe data from Track by Kastle has increased over the last three months. We're seeing a good uptick in activity in the streets. If you toured San Francisco three weeks ago, it's totally different today, just in terms of how many people are on the street, how many people are in lobbies, and that kind of thing. The last point in your question on Silicon Valley, in the conversations we're having with real estate executives, you know, I would like to see. I think we'd all like to see San Francisco and Seattle have higher physical occupancy than we have today. It's hovering around 24%, 25% for both markets.
That said, as you know, Silicon Valley's been extremely busy, but the real estate executives we're talking to are making plans for San Francisco and are bringing people back to work. That has not translated into big tech making big moves. But the point I made in my four points, I think most people in that world are really focused on getting bodies back into the office so that then they can start projecting what their demand really is.
Okay. Thanks, Rob. Appreciate it.
Thank you, Nick. Our next question today comes from Brian Spahn from Evercore. Please go ahead, Brian. Your line is now open.
Hi. Thanks. For the new development in Austin, you know, there's obviously a lot of development going on there, and can you maybe just walk us through what your pitch is for prospective tenants there? John, you mentioned the light rail. Just curious, what's the immediate amenity base like there, and what's the walkability to The Domain?
Rob, you wanna take the pitch part?
Sure.
'Cause we're in the process of making the pitch.
Yes. We're really excited about the Stadium District. The Domain, clearly Domain proper gets a lot of attention because of the shopping mall that surrounds the existing office buildings. But the Stadium District is an up-and-coming neighborhood with a huge amount of residential coming in, as John pointed out in his comments. The light rail is gonna be a major impact to connecting the whole area, Domain as well as Stadium District, to downtown. We actually see it.
I always like to look at marketing and how we play off a different market, in different ways, and we actually see the Stadium District as a real opportunity for new amenities and improved amenities, less congestion in and around our project. There are some competing mixed-use projects that are, relatively close in timing to ours that will include hotels, restaurants, and that sort of thing. We think with the stadium there and their food and beverage programs, their conference centers, that kind of thing, what we're planning on site as well as what's happening in the immediate neighborhood, we're gonna have a very vibrant, market there. Keep in mind from when we put shovels in the ground to deliver space, it's probably a two-year process. Things are changing quickly in that sub-market.
Yeah, on the light rail, you know, that rail line's about 32 miles long. It's gonna have nine stations. The McKalla Station at the stadium is scheduled for completion in the fall of 2023. It's fully funded. Downtown through The Domain and up to northwestern Austin, what I understand is that that's gonna be complete somewhere in 2025. Pursuant to the city, if that slipped, I don't know.
All right. Just in Austin CBD, Rob, can you talk a bit more about the leasing efforts at Indeed Tower? When do you think you get the remainder of that building leased, and what are you hearing from the tenants, prospective tenants there?
Sure. The CBD, as John mentioned in his remarks, you know, Facebook took over 650,000 sq ft recently. That deal, by the way, just to give color, had been in discussions for almost four years. That is not something that just popped out of nowhere. It took a long time between the pandemic and Meta really putting ink to paper. TikTok took the balance of the largest Class A space in that sub-market. We're averaging about a tour every 7-10 days. We have, I would say, a handful of tenants that are over 100,000 sq ft each that we're in discussions with looking at the space. The space, if you've not been to it, you should see it. It just shows extremely well.
We've got a beautiful lobby, as you'd expect from a Kilroy project, beautiful, very clear, light and air views around almost all floors of the project. Our floor plates at 33,000 sq ft hit all sorts of different tenant types, whether it's professional services or tech. By the way, just to give a little more color, the tenants that I said we're talking to are a mix of professional services and technology. It's nice to be able to fish in a couple of different ponds, if you will.
Hey, Rob, will you point out how we're positioned with regard to the square footage we have left versus the other Class A projects? In the market that are, you know, available in the same timeframe?
Right. We have the largest contiguous block of Class A space, trophy space, I would say, in the market right now and for this foreseeable future. We have over 200,000 sq ft right now that we're marketing, and as I said earlier, we've got more interest than we have space. We're really focused on trying to do the right thing for the asset. I'd also say, without getting into our competition and, you know, who they are, that some of the transactions that have happened, you know, before we closed on Indeed and during our lease-up of Indeed, have been at rates that we're just not, you know, we're just not gonna transact at those levels.
Great. Thanks very much.
Thank you, Brian. The next question today comes from John Kim from BMO. Please go ahead, John. Your line is now open.
Thanks. Good morning. John and Rob, you both gave examples of tech companies leasing space and a return to office as being a driver. On the flip side, the Nasdaq is down 20% from its recent high. You've seen a lot of the major tech companies, their share prices drop 60% or more. Has that had an impact on either leasing activity or more of these companies putting sublease space on the market?
You wanna take that, Rob?
Yeah. This is Rob, John. We're not seeing that. If you look nationally at the requirements that are in the office sector right now, even in Midtown Manhattan, it's quite robust from FAANG companies. We're just not seeing a letup. I would say particularly in Seattle and Bellevue, where there are some things going on that have not signed yet, there's gonna be more happening up there. San Francisco, you know, activity is picking up, as we've said, and larger deal size is picking up. We're just not seeing the 500,000, you know, 1 million-foot requirements that we saw in 2018, 2019 yet. As I've said on previous calls and investor meetings, you know, hiring has continued unabated for all these tech companies.
You know, it's just a matter of fact that they're gonna need office space to fill, you know, to house these employees. You know, one thing I'd say that was really interesting was an interview with Eric Schmidt, the former CEO of Google, where he's quoted saying, "I don't know how you build a great management team virtually. Virtual tools are not the same as informal networks that occur within a corporation." We're seeing from FAANG as well as the companies below FAANG, you know, there is interest, continued interest in San Francisco and in the other markets where this top-tier talent pool is available.
Okay. Looking at your office lease expirations, it's very manageable. In 2023, you have 11% of your lease expiring by square footage. What's a reasonable expectation of where this goes to by end of the year as far as what you address this year?
I don't wanna predict, but I can tell you know, we're in discussions on the bulk of the space, and, you know, a lot of the interest came up, starting in February. I'd remind everyone, you know, we still had Omicron floating around in January and early February. A lot of the conversations we're having on our 2023 expirations started in earnest in February. A few of them, a couple of them were before, but we're under discussions right now with the bulk of it. I feel, you know, knock on wood, I feel like we will be successful.
Thank you.
Thank you, John. Our next question today comes from Jamie Feldman from Bank of America. Please go ahead, Jamie. Your line is now open.
Great. Thank you. I appreciate your comments on, you know, FAANG requirements being robust. Can you talk more about the, maybe the smaller tenants in the market, where, you know, clearly it sounds like, you know, capital maybe is starting to slow from, like, the venture capital side. Also your leasing volume in the quarter declined well below your trailing four-quarter average. Is there something you can point to for that, and do you think it starts to pick up in the future?
Yeah. Let me start with the latter question first, Jamie. I would have loved to announce deals that we have in the works for the first quarter, but we're just not going to do what I would call silly things to get a transaction done. We always maintain our discipline and negotiate the best deals we can for ourselves, but also try to make it mutually beneficial. We're close on some things. John gave you the number at 350,000 sq ft. Those are late stage discussions. I don't wanna give more color on that, but more to come that I feel confident about.
First question was. I'm sorry, what was that? It was on--
Oh, just, I mean, you talked about FAANG.
It was about smaller users.
Oh, smaller. Yeah, smaller.
It depends on the market. We just, you know, we have a 6,000 sq ft transaction happening in Bellevue right now that should be signed any day now. On the smaller side, Hollywood has been slow in the 30,000 sq ft and below, you know, tenant size. In San Francisco, there's quite a bit of activity, tour activity in that size range of 15,000-30,000 sq ft. You know, in Austin, sort of the sweet spot tenant, if you will, in the CBD is about 15,000 sq ft, and tour activity there has been very robust both from tech as well as professional services. We're not seeing a letup. In fact, I've seen over the last six-seven months an uptick in smaller tenants taking space.
A lot of those, as I said earlier in those numbers for San Francisco, you know, these are relocations to better space upgrades.
Yeah. Yeah, I'd add to that. You didn't mention San Diego. We don't have any space. I mean, we have 2100 Kettner where we're not really wanting to do smaller deals, other than as they backfill bigger tenants that we're working with. In the Del Mar area, as an example, we don't have the space. We have tons of demand for the smaller tenants for high quality space down there, but we just don't have the product. But I think, you know, it's a good question you ask, Jamie, because smaller space, I think, has lagged, at least in a lot of areas. What we're seeing, and Austin would be a good case, we're seeing a lot of financial services, VC type companies, law firms and whatnot that are both big and smaller ones.
That market, as you know, is booming. It's attracting a lot of new folks to the market that want to, you know, get their oar in the Austin waters. So that's been an area that has certainly lagged the smaller tenants, and that's coming back. The thing that I would say that is across the board, and Rob made a comment about this, about what's happened up in San Francisco with roughly six-sevenths-- or 85% of the stuff that was leased in the first quarter was all high quality space. That, I mean, that's the ticket. It's all about high quality space. It's all about the best locations and best product.
You know, we think we do very well when we look at our portfolio on that score.
Thanks, John, and Rob. I appreciate it. When you think about a pullback in VC funding, whether it's the life science or the tech, I mean, how exposed do you think your portfolio would be to that and, you know, delayed decision-making by those types of tenants or even, you know, failures by those types of tenants?
You know, it's hard to predict. I mean, you know, there's been all-time highs in VC funding, and it's backed off a little bit. But it's still, if you look at it over a 10-year period, it's on track to be one of the best years ever. I don't know how to predict that. We obviously talk with some of our VC friends about what they're doing. They all seem to be very busy, but I don't know how to predict that, Jamie.
Jamie, this is Eliott. Maybe just to add on to that and John's point, when we look at the trends in VC funding, you're right in that they're down from 2021, but I think it's important to keep the context of 2021 was a record year of VC funding by a multiple of two. If we're down a little bit in 2022, but we're still at the second-best year by a meaningful margin, we think that's a healthy environment for companies, even if it wasn't as good as last year, because their availability to capital is still quite strong. We think when we take a step back and look at kind of the bigger picture trends, as John mentioned, things are still in pretty good shape.
That's very helpful. Then just shifting gears to the asset sales. Can you just talk about what kind of bid you are seeing for assets, you know, what the buyer pool looks like? Then also, you know, your comments on quality. You know, do you think we should expect to see Kilroy continue to shed assets to improve portfolio quality even more in the coming years?
Well, Eliott, you wanna take what we're seeing in the wake of asset sales and so forth, and I can take the qualitative afterwards.
Sure. Jamie, similar to kind of on the leasing side, I think that on the capital markets, just with the change in interest rates that has happened over the last six weeks or so, the volume of asset sales have sort of slowed as everyone tries to figure out where things are going. It's interesting because while the 10-year is, I don't know where it is today, but call it high twos, on a relative basis, this is sort of where we were in 2018. It's not the absolute level of where the 10-year is that is giving people pause, it's just the volatility. Volume has not been as high as it's been kind of even at the end of 2021.
In terms of the trades that have happened, they're still plus or minus in the same ballpark as where asset values were at the end of last year. Volume a little bit lighter, but asset values are plus or minus similar.
On the quality side of things, you asked, would we expect our quality to improve even further? Well, I think most people know. In terms of scale, I think we probably have the highest quality portfolio of anybody in the country. So it's, you know, we're in pretty good shape on the quality spectrum. In terms of what we sell, does that materially impact the overall quality? Maybe a little bit. Then of course, you know, our development's all top-tier quality. I don't know how to say that. I mean, I don't wanna signal exactly which buildings we're thinking of selling.
We're very focused, as we have always been, on where to be and physicality, how is a building set up to perform for the long term, whether we can make any more value by owning it versus selling it and using that, you know, for alternative investments. That's gonna continue to be the way we operate the company. I think we're, you know, from a qualitative standpoint, even though some of the assets we have might be somewhat older, they've all been, by and large, gone through major renovations over the last few years. I think we're really positioned at a very high mark and higher, again, than I think anybody else on a portfolio basis, as to the quality standard.
You know, I can't give you much more than that, Jamie.
Yeah. I guess maybe a better way to ask it is just, do you feel like the low end of the range of what you'd want to own long term has changed during the pandemic? I know you're always recycling, but have you kind of raised the bar on the long term keepers?
I'd say at the margin, yes. Obviously, it's been well written about by all of you folks and others, whether it's the brokerage, the real estate brokerage community or, you know, that the trend to high quality assets has been accelerated by COVID. I think we were identifying that over 10 years ago in conversations like this, or that I might have spoken at or others from Kilroy might have spoken at the industry groups. We'd signaled long before that, you know, I think I coined the term, not your father's office space, and that's been used pretty widely by our peers as well. What we do is really to differentiate ourselves from other providers in a number of ways. You toured a bunch of our assets, so I'm not gonna get into describing it all.
We always look to how do we differentiate with the understanding that we do so to attract and retain and to create long-term value and not just do a deal where a building is great today, but might not be great after the first tenant. You've seen us do that, for example, the 300,000 sq ft or so down in San Diego that we've converted to life science. Those are all buildings that had the physicality that permits life science. They added floor heights and floor loading and structural and so forth that is necessary for those kinds of assets, and that we were very easily able to convert at relatively modest numbers those spaces to accommodate life science.
We take a look at not only the existing use, but what they might become in the future. We look at what the life is after the existing tenant, obviously the market. You know, all those factors get into it. I think you and others will continue to see that if we have the highest quality portfolio today, we'll even have a higher quality portfolio tomorrow and the year after tomorrow.
Okay. Thanks for everyone's thoughts.
Thank you. Our next question today comes from Manny Korchman from Citigroup. Please go ahead, Manny, your line is now open.
Hey, everyone, good afternoon. I know you don't include acquisitions in your guidance, but are you actively looking for acquisitions on the life science side? If so, are those strictly land deals or add to your life science platform?
I'll take that one. This is John. Manny, how you doing? We look at everything, well, most everything, at least in our markets. We've not been able to find any assets that we like to convert to life science that makes sense to us. You certainly, as I've said many times before on these kinds of calls, you can, you know, you can make a lot of buildings life science in terms of physicality. The question is, do people wanna be there? Can you make money? Most of what we see going on, we don't know how people make money.
You know, there are a lot of smart people out there, and they may have a much better formula on a particular building than we do, but we have not seen anything to buy. We look at everything. From a development standpoint, or from a conversion standpoint, our own portfolio where that's really well located, where people wanna be, and the buildings lend themselves to being converted, we do that. We think we have more of that in scale. Some of it you can't get to right away because it's being occupied by others.
From a development standpoint, what we have always loved about development, whether it's office or whether it's life science, is we can develop best-in-class assets that, you know, we think just get better and better with time, as rates then go up and demand goes up and so forth. Our focus has been on the development side because there you have something that really is attractive to the user, that has all the bells and whistles and the amenities and, you know, all the things that they are looking for. Our focus is gonna be far more on development. That doesn't mean we won't look at opportunities to acquire existing life science or to convert existing assets. We just haven't found anything that makes financial sense to us.
Thanks, John. Are you only looking in your existing markets, or expanding on the life science side, or are you looking for new markets there as well?
We look at a lot of different things, but I'm not gonna tell you any particular markets that we're looking at because I don't want competitors to know. I can tell you there's nothing active in our radar about life science in a different market today.
Right. Thank you.
Thank you. Our next question today comes from Caitlin Burrows from Goldman Sachs. Please go ahead, Caitlin. Your line is now open.
Hi there. Maybe just continuing on the life science topic. We've heard that life science development construction costs and lead times are being extended as delivery of key material systems and generators are taking longer. Are you seeing any impact to your in-process life science projects or your plans at Santa Fe Summit?
We have not, Caitlin. We have GMP prices and delivery schedules mapped out on everything that we start before we start. Does that mean something could happen? Sure. Things happen all the time. We have a very intense risk management group in our construction development team. You know, we deal with that stuff all the time. It's true that construction costs have escalated big time. It's true that there are some things that are longer lead. I think this is going to be an issue for a lot of folks that are developing or thinking about developing.
If you own tons of land and, you know, you've got a long delivery schedule and you've got a need to develop soon because I'm talking about a lot of the private people that, you know, they develop or lose, you know, I don't think that's a good place to be. We don't have to develop anything right away. We can take a pause if we want, and we're gonna measure the market. When we measure the market, that's not just demand, but it's construction costs. For example, up in Bellevue right now, in Seattle, construction costs have gone up far greater than they have in most other markets in the country.
When you think about it, Amazon's doing 4 million sq ft and others are doing millions of square feet, and there's only so many contractors and subcontractors and so forth, and they're all busy as heck. Now, we have a development site up there called SIXO, but it's a couple of years before we can start it anyway. If we had it ready to start today, if we had all the approvals and all the rest, beyond assessing the market, we would say it makes no sense to start today because you got to let some of this stuff get through the system and get back to better pricing.
A long-winded answer, but we really pay attention to this stuff. We don't start things without having a GMP price. We do a heck of a lot of due diligence on our general contractors and our subcontractors. That's what people come to expect from Kilroy. That's what we do. We're very rigorous and even more so today.
Got it. Okay. I think early on, you had talked about how there was the one, and I think it was expected, large vacancy in San Diego. I was wondering if you could talk about the leasing activity or expectations for that vacancy that occurred in the quarter at one of the Sabre Springs buildings.
Sure. You want me to take that one?
Yeah. Sure. Just to give some color, the I-56 and I-15 c orridor is the area where the San Diego vacancy is, but that is a corridor that has been, I would say, evolved to where you see life science activity happening. There's a 500,000 sq ft life science company that just signed a lease out in that corridor on 15. And as you go north, you have the several of the FAANG companies in the market. We've been pretty engaged with a variety of companies on the space we have. I've got nothing to announce as far as we're gonna sign something imminently, but the activity is good. The space shows very well.
Actually the location of it is so oriented toward I-56 and I-15 that it's probably the first stop as you go into that corridor. We're gonna do fine there. We just need to get big tenants, you know, making decisions.
Got it. Thanks.
Thank you, Caitlin. Our next question today comes from Vikram Malhotra from Mizuho. Please go ahead. Your line is now open.
Thanks so much for taking the question. Just wanted to get your thoughts on this, what this quality divide in, say, San Francisco or the Bay Area may eventually do to where rent differentials exist between these two groups and maybe even values. Is that an opportunity for Kilroy to maybe look to redevelop some value add property and create sort of an asset longer term that fits into the portfolio?
Yeah. Let me start with that. This is John. You know, there's a lot that's got to play out. Until people start to digest their back to work activities and how people are gonna use space and what that's gonna translate into remodeling space or demand for space, as Rob pointed out in his remarks, you know, it's hard to. We sit around, you know, as we look at various areas, we say, "Yeah, that site is well located. Could be a great redevelopment play," but we're not acting on it right now. I think we've got. You know, we have a lot on our plate right now with regard to leasing activity. We have some buildings we wanna sell. We've been active in Austin. We wanna grow in that market.
We're getting everything entitled that isn't entitled and getting entitlements that are, you know, for a range of uses and so forth, so that we have a lot of optionality. You know, we're not really looking at the valley right now in a serious way towards acquiring either companies or properties with regard to converting. Will we? Of course, we always have an eye on these things, but I got to tell you, we're not looking in earnest. The quality divide is very real.
The quality divide, you know, as I said in my comments earlier in somebody else's question, it's never been more pronounced. COVID has done nothing but accelerate those trends. I would not wanna own commodity office space or have it be in locations where people don't wanna be. I think that it's a loser's game, and I think a lot of people are gonna get hurt. Rob can give you more color if you'd like with regard to the rent differential beyond the demand differential for high quality versus commodity space.
Rob, maybe you wanna make a comment on that.
Sure. Just to add color to what John was saying, and I'll talk about San Francisco since everyone likes to hear about the city. Class A trophy rates are higher right now than they have been pre-pandemic. Again, that's Class A, you know, view space, and there's very little of it. It's right now less than 8% vacant in that sub-market. By contrast, let me point out two things. There's sublease space, and then there's direct space, which is also a differentiator. But right now there's probably a $15 a foot gap between Class A rates and what I would call Class A- to B rates.
That gets further impacted when you look at 43% of the space. That is, sublease space on the market has a term of about 2.5 years on it.
That's interesting. Yeah. We'll soon see where it eventually the gap settles out and what this means for the value gap as well versus you know sort of pre-COVID levels. Just maybe one more for Eliott. Can you just clarify for us two things on the expense side, overall expense? Any changes in the OpEx outlook for the balance of the year, any puts and takes there? Remind us on the interest expense side. I know there were changes you outlined, but I just wanna make sure what are you factoring in for just higher rate environment?
Nothing on the OpEx side, to think about. I think you may be referring to how it was up a little bit sequentially, and our reimbursements were correspondingly up a little bit, so there's really no notable change there. On the interest expense side, we have no variable rate debt. We have no maturities, for the balance of this year or next year, as we said, till the end of 2024. There really aren't a ton of moving pieces there. As I alluded to earlier, our cap interest is going to be a little bit higher. I think last time we gave a range of $70 million-$80 million, so we're probably trending towards the higher end of that range. That's a function of our Austin project that we acquired.
That's really the only moving part for this year.
Okay, great. Then just sorry, one metric I was wondering if you had, we know obviously what the sublet rates are across, say, the city or the Bay Area. I'm just wondering, in your own portfolio, do you have, a sense or is there anything, out to sublet today?
I mean, there's nothing material. The biggest sublease that we had in our portfolio has been absorbed. It was at 350 Mission. Both Yelp and Sephora absorbed that space. Again, it's an example of, in both cases, those companies moving from lesser quality, poorer location to stronger Class A asset. You know, the asking rate and the transactional rate for sublease space is all over the map. It really depends on the motivation of the sublessor, and in most cases, sublessors are just trying to reduce expense. If they're not gonna hold out for an extra $5 or $10 a foot if they wanna move the space. Most cases, they've already written it off.
Great. Thanks so much.
Thank you, Vikram. Our next question comes from Blaine Heck from Wells Fargo. Please go ahead, Blaine. Your line is now open.
Great, thanks. Just one for me here, probably for Rob. Can you give any more color on leasing progress at KOP phase II? I know you guys, you know, still have a lot of time until completion, but are there any conversations you guys are having now that I think that project has gone vertical?
Hi, Blaine. It's interesting. Similar to Austin, we're doing presentations. Jonas Vass, our Head of Construction and Development, and I are doing presentations every 7-10 days with users. Tour activity has really picked up pretty dramatically in the last five weeks. Some of that activity involves entire building in one case, and some of it's just, you know, a floor multi-tenanting kind of scenarios. Demand in the market still remains very strong at 3.5 million sq ft. Activity for space that's ready to go, meaning lab space that's built out or that's further ahead of us in the construction cycle, is continuing to lease and do well. It's been very active and will continue to, we think, increase over the next, you know, over the summer.
That's helpful. Thanks.
Thank you, Blaine. Our next question comes from Pedro Cardoso from TCD. Please go ahead. Your line is now open.
Hi. Thanks for the good question. Quick one for me. Can you guys please comment on current physical occupancy and how that's been trending? I'm just trying to get a better sense of returns, return to the office trends. Thank you.
This is Rob Paratte. Sure, I'll touch on that. As I said in my comments, let's start with Austin. Physical occupancy. If you're asking kind of market by market, Austin's in the lead at 60%. San Diego is about 50%, and that's at our One Paseo project, Del Mar. You could actually argue it's probably closer to 60% based on the last year or so. LA and San Francisco and Seattle are all. Again, it depends on the sub-market. You can't. It's very dangerous to generalize about the market as a whole, but LA, San Francisco, and Seattle are all in the 25%-30% range. But again, it's very, you know, Bellevue is gonna have a much higher occupancy rate than Seattle. It's all a function.
You know, the good news is, as John said in his comments, there's a concerted effort by tech companies to bring people back to work, and they're doing that. That said, they also are sensitive to, you know, the talents that they've hired and not losing them. So they're being a bit, you know, gentle, I guess, in terms of bringing people back.
Got it. That's very helpful. Thank you.
Thank you. Our next question comes from Daniel Ismail from Green Street. Please go ahead. Your line is now open.
Great. Thank you. Just another follow-up on Kilroy, Oyster Point Phase II. I'm just curious how the underwritten yields there have changed. You mentioned earlier on the call the fixed cost to develop the project, but I assume rents have run pretty significantly, since you guys broke ground.
Yeah, this is John. Rents have gone up. They're at all-time highs. They're quite a bit higher than we forecasted. I'm unwilling to say, you know, what we think our new yields are gonna be, but I think we're gonna do better than what we initially felt we'd achieve. More to come. You're right, the rents are up. I don't recall exactly what we underwrote to, but they're up, you know, somewhere in the neighborhood of, I don't know, $10 to, what, Rob? Somewhere $10+ a sq ft a year.
Yeah. I mean, if you go back to our Cytokinetics and Stripe deals, rents are up over 25% from when those deals were done. There's been no letup in asking rates increasing.
Got it. That's helpful. Then I'm just a curiosity question. We've seen San Diego life science rents increase pretty dramatically the last few quarters. I'm just curious if you think San Diego life science rents will eventually reach parity with South San Francisco and Seattle, or do you think there'll still be a gap between those markets?
I think in some of the newer deals that I've heard about, they're breaking $7 triple net. So that's what? $84. The rates in South San Francisco in some cases are higher than that. Daniel, I think they're there. I mean, it may be different as you get further away from UTC and from Torrey Pines. You know, you may end up with a little bit but a little bit less, I don't know. We've underwritten to considerably less in regards to Santa Fe Summit. I don't think there is gonna be much differential. I think there will be. I mean, now I'm speaking of really great product in really great locations.
The market is definitely going to distinguish between stuff that's, you know, not as good or not as well-located, for sure. That's, you know, you gotta take that with a grain of salt what I said.
Got it. That makes sense. Thanks, John.
Thank you. This concludes today's Q&A session. I'd now like to hand the call back to Bill Hutcheson.
Well, thank you so much, Emma, and thank you everybody for joining our call today. We appreciate your continued interest in KRC. Have a good day.
This concludes today's call. Enjoy the rest of your day, and then I'll disconnect your lines.