Hudson Pacific Properties [HPP] Conference call transcript for 2023 q1
2023-05-13 12:26:03
Fiscal: 2023 q1
Operator: Thank you all for joining. I would like to welcome you to the Hudson Pacific Properties First Quarter 2023 Earnings Conference Call. My name is Brica, and I'll be your operator for today's call. At this time, all participants are in a listen-only mode and you will have an opportunity to ask a question after the presentation. [Operator Instructions] Thank you. I would now like to turn the conference over to Laura Campbell to begin. So, Laura, you may begin.
Laura Campbell: Good morning everyone. Thanks for joining us. With me on the call today are Victor Coleman, CEO and Chairman; Mark Lammas, President; Harout Diramerian, CFO; and Art Suazo, EVP of Leasing. Yesterday, we filed our earnings release and supplemental on an 8-K with the SEC, and both are now available on our website. An audio webcast of this call will be available for replay on our website. Some of the information we'll share today on the call is forward-looking in nature. Please reference our earnings release and supplemental for statements regarding forward-looking information as well as the reconciliation of non-GAAP financial measures used on this call. Today, Victor will discuss macro conditions in relation to our business. Mark will provide detail on our office leasing, and Harout will review our financial results and 2023 outlook. Thereafter, we'll be happy to take your questions. Victor?
Victor Coleman: Good morning everyone and welcome to our first quarter call. In the first few months of the year, macroeconomic challenges have persisted, exacerbating uncertainty and putting downward pressure on office market fundamentals. We will touch on how this is impacting our leasing activity in a moment. Recently, however, we've seen much more of big tech return-to-work announcements, bringing employees back to office multiple days a week, citing performance, and efficiency concerns. These include Amazon, Oracle, Redfin, Lyft, and DocuSign to name a few. Castle Data and Transit Ridership also show improvement across our markets. With the return to office unfolding slower than many expected, we remain cautiously optimistic that these announcements and related trends will translate into increased physical occupancy and improved tenant demand at our assets. Important indicators continue to support the notion that the Bay Area and Seattle remain epicenters for talent and capital networks that drive the tech industry. For example, the first quarter venture capital investments was in line with historic 10-year average, with the Bay Area continuing to receive the bulk of these funds. The early 2020s brought a wave of funding accelerated by COVID-related macro forces with a minimal office leasing. Beyond AI, which is currently driving approximately 600,000 square feet of requirements in the city of San Francisco alone, other sectors like cybersecurity, defense, and energy remain compelling areas for growth. While it will take time for this to positively contribute to our leasing efforts, it reaffirms our view that our office properties are located in compelling growth markets. Turning to our studios. Last week, the Writers Guild of America elected to strike, leading to a halt in the domestic film and TV production. And unlike prior strikes where production ramped up in advance, this was instead a significant slowdown in filming through the first quarter. We suspect this is primarily the result of streaming companies more robust existing content pipeline, although the austerity measures as well may have played a role. For example, in the L.A. market overall, the first quarter filming and TV shoot days declined approximately 30% compared to the same period last year. This initial slowdown impacted independent studios and service providers such as ours, first, as major studios consolidated productions on site. With the strike underway, productions at all studios have now been disrupted. This slowdown was a precursor to what we will experience during the strike in the past, with the overall economic impact to be felt much more broadly. In 2007 and 2008, the writers' strike, which lasted 14 weeks, cost the California economy $2.1 billion or $2.8 billion in today's dollars. There have been seven such strikes since the 1950s, ranging from two to 22 weeks, with the average being 14 weeks. Whether brief or protracted, the strike will impact the entire studio business, albeit less for our Sunset Studio assets, where nearly 70% of our state's square footage is under multiyear leases with guaranteed minimums for service revenue. Lack of visibility around the strike's duration led us to suspend our 2023 FFO outlook and related studio assumptions while we're still providing assumptions related to our 2023 office outlook. Harout is going to discuss this further on the call. These studio-related union strikes are both temporary and relatively infrequent and we believe underlying fundamentals for content production and thus for the studio business overall remains solid. Even if spend on high-quality original content moderates in the coming years in pursuit of profitability, current estimates indicate it will be at least on par with last year's following a period of ramp-up post-strike. In these uncertain times, we stay focused on what we can control, executing on leasing, prudently allocating capital, reducing corporate expenses, proactively working on asset sales and further fortifying our balance sheet. We continue to live in upfront capital spend for market-ready suites, common area and base-building improvements until we have certainty around demand. We're currently evaluating potential disposition of six distinct assets, including a land parcel. We've also recently received Board approval to reduce our dividend by 40% to 50%, with the precise amount to be finalized at our Board meeting later this month. This will bring our dividend policy in line with other capital preservation efforts. However, even without the dividend reduction, we have a path to address all our maturities through year-end 2025, which Harout will also discuss later in this call. With that, I'm going to turn it over to Mark.
Mark Lammas: Thanks Victor. Our 344,000 square feet of first quarter leasing activity reflects tenant's continued slow decision-making, which notably decelerated amid recession concerns in the third and fourth quarter of last year. Our in-service office portfolio lease percentage was 88.7% compared to 89.7% at the end of last year. Note, this quarter, we've added 10900-10950 Washington to our future development pipeline. It is the only residential conversion we're considering at this point and we're actively working through entitlements to build approximately 500 units. Thus, the decline in lease percentage was mostly attributable to small to midsize expirations at our Peninsula and Silicon Valley assets. At the same time, the preponderance of our first quarter leasing activity also resulted from small sub-5,000 square foot tenants in those markets. Our GAAP and cash rents fell approximately 3% and 5%, respectively, with a decline mostly driven by a significantly below-market 20,000 square-foot short-term renewal. Our tenant improvements were in line with the trailing 12 months per square foot average but look higher on an annual basis due to shorter weighted average lease term. Trailing 12-month net effective rents are nearly 6% higher than last year and in line with pre-pandemic, that is first quarter 2020 trailing 12-month net effective rents. The average weighted lease term of 42 months reflects the impact of three larger short-term renewals. For new deals alone, our weighted average lease term was 67 months, which is typical given an average size of 4,000 square feet. Trailing 12-month weighted average lease term is approximately 9% higher than last year and in line with our pre-pandemic trailing 12-month weighted average lease term. We still have activity on both of our 2023 large block expirations, including 60% coverage on blocks space at 1455 Market. But given the broader dynamics in the mid-market neighborhood, we expect that backfill will take time. We also remain in discussions around a potential renewal with our full building tenant at Met Park North, even as we proactively market that space. In total, we currently have 47% coverage on our remaining 2023 expirations, with an average tenant size of roughly 11,000 square feet. Our leasing pipeline, which includes deals and leases, LOIs or proposals, has increased, up 11% to 2 million square feet since it dipped in the third quarter of last year. The average deal size within our pipeline is 13,000 square feet, above the 8,000 square feet on average for its signed deals over the last five years. The weighted average lease term of deals currently within our pipeline is more closely aligned with our five-year average of 82 months. Separately, tours at our assets are at the highest level since first quarter 2017. In slowing in the third quarter last year, the number of our tourists has increased more than 30%, largely driven by activity at our Silicon Valley assets. First quarter tourists represent over 1.8 million square feet of requirements, up 130% since third quarter last year, in part driven by an increase in average requirement size from 8,000 to 14,000 square feet. While it remains unclear how quickly these trends will translate into signed leases, historically, we've seen a clear correlation between an uptick in tour activity and new deals. And now I'll turn the call over to Harout.
Harout Diramerian: Thanks Mark. Compared to first quarter 2022, our first quarter 2023 revenue increased 3.2% to $252.3 million, primarily due to our acquisition of Quixote, which we purchased in the third quarter of last year. Our first quarter FFO, excluding specified items, was $49.7 million or $0.35 per diluted share compared to $75.2 million or $0.50 per diluted share last year. Specified items in the first quarter consisted of transaction-related expenses of $1.2 million or $0.01 per diluted share compared to transaction-related expenses of $0.3 million or $0.00 per diluted share and a trade name non-cash impairment of $8.5 million or $0.06 per diluted share a year ago. The year-over-year decrease in FFO was mostly due to lower production activity impacting Quixote and the lead-up to the writers' strike, though we were also impacted by higher interest expense and lower office occupancy compared to last year. First quarter FFO was in line with our expectations, but for studio results, particularly with respect to March projections. Our first quarter AFFO was $35 million or $0.24 per diluted share compared to $58.8 million or $0.39 per diluted share. The decrease was largely attributable to the aforementioned items affecting FFO. Our same-store cash NOI grew to $125.6 million or 7.2% from $117.2 million, mostly due to significant office lease commencement at Harlow and 1918 Eighth, as well as higher production-related revenue and lower operating expenses at Sunset Gower and Sunset Bronson Studios. During the first quarter, we repaid $110 million Series A notes and applied $102 million of sales proceeds from Skyway Landing to pay down our credit facility. At the end of the quarter, we had $828.3 million of total liquidity, comprised of $163.3 million of cash -- of unrestricted cash and cash equivalents and $665 million of undrawn capacity on our unsecured revolving credit. We have additional capacity of $138.9 million under our One Westside and Sunset Glenoaks construction loans. At the end of the first quarter, our company's share of net debt to company share of undepreciated book value was 38.2%. 66.2% of our debt is unsecured, and 90.3% is fixed or capped debt. As Victor noted, we continue to focus on de-levering by exploring asset sales, financing and cost and dividend reductions. Our anticipated dividend alignment will result in $58 million to $72 million of annual cash flow savings to further enhance our balance sheet. Market conditions have rightfully heightened focus on our debt maturities, and I'll take a minute to walk through our exposure. Following our paydown of the Quixote loan in April, we have only one smaller maturity remaining this year, a $50 million private placement notes. Our two 2024 maturities are both secured debt, the larger of which is One Westside for which we have indicative terms from third-party brokers on a refinancing. With respect to our $98 million 20% ratable share of loans secured by Bentall Centre maturing in July of next year, our partner, Blackstone, has already taken the lead in discussing with the existing lenders. As for our 2025 maturities, 96% of that indebtedness does not mature until the final two months of 2025, more than two and a half years from today. Three of our 4 2025 maturities comprised nearly two-thirds of the maturing amount are secured by high-quality assets: 1918 Eighth, Element L.A. and Sunset Glenoaks, the first two of which enjoy a high credit single-tenant occupancy, with the remaining lease terms into 2030. Sunset Glenoaks will be a fully operational state-of-the-art studio campus before its 2025 maturity. Our fourth and final 2025 maturity consists of $259 million private placement loan scheduled to mature in December 2025. While we are more than two and a half years away from that maturity, we are focused on ensuring that we have capital availability to address the loan ahead of its repayment. Turning to our outlook. We are continuing to provide several 2023 assumptions, including those most closely associated with our office portfolio to provide continued visibility. However, due to the high level of uncertainty around the duration of the writers' strike, we will not be providing a 2023 FFO outlook or studio-related assumptions at this time. Please note that we provided an office same-store cash NOI projection rather than our customary combined office and studio estimate in light of the writers' strike and uncertainty. As always, our 2023 outlook excludes the impact of any opportunistic or not previously announced acquisitions, dispositions, financings, and capital markets activity. Now, we'll be happy to take your questions. Operator?
Operator: Thank you. [Operator Instructions] The first question we have comes from Alexander Goldfarb of Piper Sandler.
Operator: We now have Michael Griffin of Citi.
Operator: Your next question comes from Nick Yulico from Scotiabank.
Operator: Your next question comes from Dylan Burzinski of Green Street.
Operator: We now have John Kim of BMO Capital Markets.
Operator: Thank you. We now have Blaine Heck of Wells Fargo.
Operator: Thank you. [Operator Instructions] And our next question comes from Ronald Kamdem of Morgan Stanley.
Operator: Thank you. I'd like to hand back to Victor for any final remarks.
Victor Coleman: Thank you so much for participating in our quarterly call. And as always, I want to call out the Hudson Pacific team for all their hard work and dedication in these challenging times. Have a good day.
Operator: Thank you. I can confirm this does conclude today's call. Please have a lovely day and you may now disconnect.
