Washington Real Estate Investment Trust

F:WRI

Earnings Call Transcript 2020-Q3

[Operator]

Welcome to Washington Real Estate Investment Trust Third Quarter 2020 Earnings Conference Call. As a reminder, today's call is being recorded.

Before turning the call over to the company's President and Chief Executive Officer, Paul McDermott, Amy Hopkins, Vice President of Investor Relations, will provide some introductory information. Amy, please go ahead.

[Amy Hopkins, executive]

Thank you. Good morning, and welcome to WashREIT's third quarter earnings conference call. Before we begin, please note that forward-looking statements may be made during this discussion. Such statements involve known and unknown risks and uncertainties, including those related to the effects of the ongoing COVID-19 pandemic, which may cause actual results to differ materially, and we undertake no duty to update them as actual events unfold. We refer to these risks in our SEC filings.

Reconciliations of the GAAP and non-GAAP financial measures discussed on the call are available on our most recent earnings press release and financial supplement, which were distributed yesterday and can be found on the Investor Relations page of our website.

Participating in today's call with me will be Paul McDermott, President and Chief Executive Officer; Steve Riffee, Executive Vice President and Chief Financial Officer; Taryn Fielder, Senior Vice President and General Counsel; Drew Hammond, Vice President, Chief Accounting Officer and Treasurer; and Grant Montgomery, Vice President and Head of Research.

Now I'd like to turn the call over to Paul.

[Paul T. McDermott, executive]

Thank you, Amy, and good morning, everyone. I hope everyone is safe and healthy, and we appreciate you being with us today. We're joining you from our corporate headquarters in Washington, D.C., where I've been working alongside many others from our team with social distancing and other safety protocols in place. We are all very happy to be back together on a voluntary basis. And while our technology has been incredibly effective and has helped us be successful while working remotely, there is no substitute for in-person collaboration.

Last evening, we released our earnings for the third quarter of 2020. Our results were largely in line with our expectations, and our portfolio continues to demonstrate strong stable credit performance as we absorb the near-term impact of the pandemic. While uncertainty remains regarding how protracted this economic downturn will be, we remain well positioned to bolster our long-term strategic growth plans once the operating environment improves.

Ahead of the downturn, we reshaped our portfolio with a long-term vision, and this focus has proven to be prudent from a capital allocation perspective. Our multifamily collections are consistently above national averages, and our suburban expansion through the Assembly portfolio acquisition is performing well. While our operating environment has changed drastically over the past 7 months, we swiftly adjusted to the demands of today's market. We have fully prepared our commercial properties for reentry by upgrading ventilation filters, implemented enhanced cleaning protocols and installing contactless opening technology and protective shields in addition to many other safety enhancements. We've worked diligently with tenants who have been financially impacted by COVID-19 to arrange deferral agreements that support their financial position and cash flow needs. Fortunately, these deferral arrangements have not been material and represent a cumulative impact of less than $0.01 per share through 2021. While uncertainty remains regarding how protracted this eventual recovery will be, we are confident in our ability to absorb the near-term impact while preserving our long-term growth opportunities for 3 reasons.

First, our portfolio and local economy continue to show resilience. We attribute our strong collection performance, which Steve will discuss in detail later on this call, to the fact that the composition of our office tenants and the employers of our multifamily residents are concentrated in industry sectors that have experienced the lowest job losses. The impact of local job losses for office-using sectors in the Washington Metro region has been limited, with no office using sector losing more than 4% of the total workforce year-over-year according to BLS data. 45% of our multifamily residents and 56% of our office tenants are employed in professional and business services, government or information sector jobs. Furthermore, nearly half of our professional and business services tenants are government contractors, which is a key differentiator as they are sticky office-using tenants linked to important programs, which results in significantly more stability in our region compared to other major metro areas and the U.S. overall.

The second reason we are confident in our near-term outlook and long-term growth prospects is the continued stability demonstrated by our multifamily portfolio. Our value-oriented multifamily portfolio has held up well during the pandemic and offers favorable demand and supply fundamentals over the long term. The Washington Metro region has a significant housing shortage that has been accumulating over many years as well as an affordability crisis that is only getting worse as the cost of homeownership continues to rise above affordable levels for median income earners. Thus, the largest renter cohorts remain underserved by new supply.

Over 95% of the multifamily units that have been constructed over the past 7 years are unaffordable for renters who earn $75,000 per year or less, a segment which comprises 57% of the Washington Metro renter base. Over 75% of WashREIT's units are affordable to those renters with a sustainable rent-to-income ratio of 30% or lower. Also driving our long-term demand fundamentals is that 80% of our multifamily portfolio is located in Northern Virginia, where job growth is the strongest and job losses have been the lowest. Northern Virginia has mission-critical cyber and technology jobs as government programs continue to grow and an inbound market of technology jobs compared to more expensive markets, which are losing technology jobs during the pandemic.

CBRE released its annual Tech-30 market report earlier this month, which ranks the nation's top tech markets in terms of resilience and potential for growth. The Washington Metro ranked second in the nation based on the presence of the best-performing, large-cap tech companies and the best combination of moderate office rents with a growing high-tech labor pool. Tech sector leasing activity in Northern Virginia is expected to increase in the coming quarters with more than 1.5 million square feet of active requirements in the pipeline according to CBRE. The third reason we are able to absorb the near-term impact of the pandemic while preserving our long-term growth opportunities is our research-driven approach to long-term capital allocation, which improved and derisked our portfolio ahead of this downturn. Our suburban multifamily portfolio, which we acquired last year, has performed very well as the preference for extra space, value and access to high-quality schools offered in our suburban markets, combined with a reduction in the perceived benefits of city-living during the pandemic, has provided the rare opportunity to continue to grow rents at our suburban assets despite challenging market conditions.

We have experienced minimal credit loss to date, largely due to the sale of 75% of our retail NOI last year, including our riskiest big-box retail assets. For the small amount of retail we retained, we collected 95% of contractual retail rents during the third quarter, including retail tenants in our office properties. Our retail portfolio includes a combination of assets in transit-oriented locations with strong redevelopment and mixed-use densification potential as well as highly integrated neighborhood centers in high net worth neighborhoods.

Our office portfolio is also well positioned with a weighted average lease maturity of 5.2 years, no exposure to co-working, no single-tenant risk, strong and stable collection rates and limited near-term lease expirations. All of our tenants have their own private space, which has become increasingly essential during the pandemic. Additionally, over half of our office portfolio is located in Northern Virginia, where commercial technology and government technology are expected to continue to fuel growth in the years ahead.

While tenant decision-making remains slower than normal, we are well positioned once decision-making accelerates with high-quality, move-in ready space at value-oriented pricing. Many of our speculative leasing opportunities, which had excellent momentum, pre-pandemic, are in our best assets, including Watergate 600, Arlington Tower and Silverline Center. We believe that cost effective, healthy and adaptive space is going to win in this environment as the market recovers.

Finally, we will soon learn the results of the federal elections. And while we are not predicting the outcome, Washington has a potential catalyst if the results bring alignment between the executive and legislative branches of government. Historically, if such alignment occurs, more legislation is passed, which has strongly correlated to greater office absorption for Washington, D.C. as lobbyist and law firms ramp up for drafting and implementing changing legislation. While we are not relying on this result, it will represent a unique catalyst for the Washington, D.C. office market among all other gateway markets.

All in all, we are confident in the resilience of our portfolio over the near term, growth potential over the long term and the opportunity for further transformation going forward.

Before I turn the call over to Steve, I'd like to briefly discuss recent ESG program developments. While we are in the midst of a pandemic, now is not the time to take our eye off of our long-term goals. The aspects of our business that define our strength as an institution over the long term are also critical to our success over the near term. We were honored to be recently named the best Corporate Responsibility Program in D.C. and Maryland by NAIOP. This award recognizes our robust ESG program from the environmental projects that were recently implemented to WashREIT's commitment to giving back to our local communities.

Additionally, earlier this year, we formed the WashREIT Diversity, Equity, Inclusion and Belonging Council to help the company continuously evolve to become an even more welcoming workplace for all individuals. We look forward to updating our stakeholders as we execute our plans to continue to promote a workplace that engages the full potential of all individuals and where equity is a core value.

Now I'll turn it over to Steve to review our collection performance, balance sheet, third quarter results and outlook.

[Stephen Riffee, executive]

Thank you, Paul, and good morning, everyone. I'll start off by discussing our cash collection performance before reviewing our third quarter results and outlook for the remainder of 2020 as well as recap our most recent steps to further strengthen our balance sheet.

Our multifamily collections continue to be excellent, which as Paul outlined, is a testament to our strong portfolio credit and the resilience of the Washington Metro economy. We collected 99% of cash and contractual rents during the third quarter, and our rent collections through the first 3 weeks of October are in line with our quarterly trend. We have offered deferred payment programs to residents who have been financially impacted by the pandemic, and only $58,000 of deferred multifamily rent remains outstanding year-to-date.

Our monthly multifamily collection performance continues to track above national averages. As Paul highlighted, we attribute our outperformance in part to our high exposure to industries that have outperformed during this crisis and low relative exposure to underperforming industries. We track the industries our residents are employed in, and our exposure is most heavily weighted to the most resilient economic sectors, and likewise, less weighted to the industries that have been most impacted, which has resulted in very high collection rates and stable cash flows.

The impact of COVID-19 on the Washington Metro market has been contained primarily to the leisure and hospitality, education and health and retail sectors, which represent over 75% of Washington Metro job losses, but only 55% of total job losses nationally through August. These 3 sectors comprise approximately 20% of our resident exposure and only 8% of our office tenant exposure. Thus, we are experiencing high collection rates and cash flows despite this crisis.

Turning to commercial. Our office and retail collections improved during the third quarter compared to already strong performance in the second quarter, primarily due to stabilizing trends. We collected 97% of cash rents from office tenants during the third quarter and over 99% of contractual rents, which excludes rent that has been deferred. As of October 20, our collections for October are in line with the same period in September. Similarly, to our multifamily resident industry mix, our office tenants are more weighted to the strong economic sectors than the U.S. overall, which has helped us experience limited credit loss. Year-to-date, we've agreed to defer a net $1.4 million of rent for office tenants, and we expect to collect 80% of that deferred rent by year-end 2021, with the balance thereafter. These amounts have not grown significantly since the second quarter when we had worked through most of these arrangements.

Retail comprised 6% of NOI year-to-date. And while retail tenants have struggled the most, we collected 88% of cash rents in the third quarter. Excluding deferred rent, our collection rate was approximately 95% during the third quarter. Year-to-date, we've agreed to defer a net $1 million of rent for retail tenants, and we expect to collect 50% of that rent by year-end 2021. Overall, we've only deferred a small portion of rent, and the expected cumulative cash NOI impact is less than $0.01 per share through year-end 2021. To date, we've not incurred material credit losses related to COVID-19. During the third quarter, we incurred approximately $0.01 per share of bad debt expense, and it was primarily attributable to COVID-19.

Turning to the balance sheet. We are pleased to report that we've addressed upcoming debt maturity needs and further strengthened our already strong liquidity position by executing a $350 million 10-year green bond. This transaction represents our inaugural green bond and further demonstrates our commitment to sustainability goals, which now includes achieving BREEAM certification for the Assembly portfolio as well as LEED Silver certification for Trove. Not only are these certifications a way to elevate operations to the WashREIT sustainability standard, but we are raising the bar for the entire value-add multifamily sector, which has often lacked investment in sustainability and efficiency opportunities. We intend to be among the first in the country to achieve BREEAM certification for existing multifamily properties. As of September 30, we have approximately $520 million of liquidity. Following the closing of the executed 10-year green bond this quarter, we will have no debt maturing until the fourth quarter of 2022 and a weighted average debt maturity of 5 years, further strengthening our liquidity.

In 2020, we've demonstrated access to long-term unsecured debt markets, term loan markets and eliminated secured debt. We maintained investment-grade ratings of BBB flat and Baa2 by S&P and Moody's, respectively. We expect to continue to remain well within our bank and bond covenants and have access to the mostly undrawn line of credit if needed. Again, we have no secured debt on our balance sheet, which allows us flexibility as we continue to improve our portfolio. Our third quarter financial performance was in line with our expectations, given the ongoing economic disruption. We reported core FFO of $0.36 per diluted share. Compared to the prior year, overall same-store NOI declined 4.9% and 3.6% for the third quarter and year-to-date periods on a GAAP basis and 4.1% and 2.9%, respectively, on a cash basis.

Our multifamily same-store NOI decreased by 3.8% year-over-year on a GAAP and cash basis. Overall, our multifamily fundamentals are holding up well, given the operating environment that we're in. Our suburban portfolio continues to outperform on occupancy and lease rate growth due to high demand for spacious value-oriented units.

Gross lease rates for our suburban properties increased 1.1% during the third quarter on a blended basis, and effective lease rates increased 0.2% on a blended basis. Gross lease rates for our urban properties declined by 2.9% on a blended basis and effective lease rates for our urban properties declined by 4.6% on a blended basis. In total, gross lease rates declined approximately 1.7% on a blended basis during the third quarter, and effective lease rates declined 3.1% on a blended basis. During the quarter, average same-store occupancy dipped slightly, but increased back to 94% at quarter end. While urban rents were generally under more pressure, our new rent declines were modest compared to national averages and other major gateway markets.

Operating portfolio occupancy, which excludes Trove, our recently delivered property that is an initial lease-up, was 94.6% at September 30, up from 94.3% for the end of the second quarter. Same-store office NOI declined 4.9% on a GAAP basis and 3.7% on a cash basis, driven by an expected decline in parking income, a couple of known and expected move-outs and credit losses related to COVID-19. While parking income increased by about 24% compared to the second quarter as transient parking increased, we have experienced monthly parking contract cancellations as full reentry has been delayed. Excluding the decline in parking income and credit loss related to COVID-19, third quarter same-store office NOI would have increased slightly on a year-over-year basis.

Same-store NOI decreased at our residual retail centers, which we report as Other, by approximately $300,000 on a GAAP basis and $270,000 on a cash basis, driven primarily by higher credit loss, which included receivables due from retail tenants impacted by COVID-19 deemed uncollectible. The combined write-off for all office and retail tenants was less than $0.01 per share and was primarily related to COVID-19.

Turning to leasing activity. While velocity and touring was hit by the economic shutdown, we signed approximately 40,000 square feet of office renewals, approximately 8,000 square feet of retail renewals, and 19,000 square feet of new office leases and 6,000 square feet of new retail leases during the quarter. We achieved rental rate increases of 17.6% on a GAAP basis and 3.4% on a cash basis for office renewals and 10% on a GAAP basis and negative 3.9% on a cash basis for new office leases. Rental rates increased 16.4% on a GAAP basis and 3.3% on a cash basis for retail renewals and remain relatively flat on a GAAP and cash basis for new retail leases.

The impact of operational cost saving initiatives at our commercial properties reduced operating costs by approximately $680,000 net of tenant recoveries during the third quarter. This step-down in cost savings compared to the $850,000 of cost savings recognized in the second quarter was primarily related to higher cleaning expenses due to an increase in the number of spaces being utilized at our office properties. Today, approximately 50% of our office spaces are being utilized by some of the tenant's personnel. Even though utilization by headcount remains lower, our protocols require us to clean the entire office space even if only a few employees are using it. We expect to continue to benefit from operational cost savings until office spaces return to normalized utilization. However, we anticipate operational cost savings will stabilize ahead of hitting normal pre-pandemic utilization levels. Now I'd like to turn to discuss our financial outlook. As reiterated in our earnings release last evening, we withdrew our previously issued 2020 outlook in April due to the volatile macro environment and continued uncertainty related to COVID-19. While uncertainty remains surrounding the magnitude of the pandemic and the durability of recovery, we are now 7 months into the pandemic and feel better about our ability to forecast the impact of COVID-19 for the balance of 2020. The historical economic stability of the Washington Metro region during downturns has been further demonstrated during 2020. However, the duration and extent of economic disruption in 2021 remains uncertain. While we're not providing guidance for 2021 today, we believe the growth in quarterly FFO that was originally expected in 2020 will resume in sequential quarters in 2021 from a low in the first quarter of 2021 in terms of cadence. However, we are still uncertain overall about the extent, impact and duration of the pandemic disruption.

We are reinstating full year 2020 guidance with a core FFO per share range of $1.44 per share to $1.46 per share. We expect our multifamily NOI to range from $59.25 million to $59.75 million; non-same store NOI, which includes Trove, to range from $26.75 million to $27.25 million; office NOI to range from $81.5 million to $82 million; and other NOI to range from $11.5 million to $12 million.

We have previously expected significant multifamily growth in 2020, but growth is now likely going to be deferred until the second half of 2021 and thereafter. Multifamily occupancy increased 30 basis points during the quarter supported by strong demand for our suburban properties, which allowed us to maintain occupancy while growing rents and preserving our seasonal rent roll.

We continue to outperform the Washington Metro market on resident retention as more of our residents are choosing to stay with us relative to our multifamily operators in the region. Our suburban retention was very strong at 63% during the third quarter compared to the Washington Metro suburban average of 58%. Our urban retention was 55% during the third quarter, well above the Washington Metro urban average of 46%. Total portfolio retention was 58% during the third quarter compared to the Washington Metro overall average of 54% according to RealPage.

While we are experiencing more pricing power and occupancy growth in our suburban submarkets, our urban submarkets showed responsiveness to pricing strategies during the quarter. Urban application volumes rebounded from March lows and trended 40% above prior year levels during the third quarter and remained above prior year levels through October. Going forward, we will focus on keeping occupancy as strong as possible throughout the winter months in advance of the expected lift from the spring leasing season.

Trove continues to lease up and is on pace to add growth in 2021 and additional growth in 2022. The pace of lease-up continues to be in line with our post onset of the pandemic expectations, and we just delivered Phase 2 this month. Trove lease-up had just begun when social distancing measures drew on-site touring to a halt. And while we had much success converting virtual tours into signed leases during the early summer months, we have pushed our expectations for stabilization to the first quarter of 2022 from the fourth quarter of 2021. We now expect to incur a loss between $400,000 to $500,000 in 2020 and continue to expect to reach breakeven occupancy near year-end.

Now moving on to commercial. Tenant improvement build-outs for near-term lease commencements have continued to progress uninterrupted. We still have approximately 39,000 square feet of signed leases that have not yet rent commenced and expect 16,000 square feet of those signed leases to commence by year-end. Although physical tours had paused, they resumed towards the end of the second quarter, and while traffic continued to increase throughout the third quarter, it remains well below pre-pandemic levels.

Overall, decision-making continues to be slow and the pace of phase reentry is slower than originally anticipated, but picked up in recent weeks as some tenants have reassessed reopening strategies and are signaling a near-term phased approach to reentry. Daycares and some local schools have reopened. And if the trend continues, we expect office utilization to continue to increase at a current gradual pace.

Our initial revenue expectation for 2020 included speculative office lease commencements that have been impacted by the current economic disruption. As Paul mentioned, the majority of this leasing was expected to occur during the second half of 2020 at high-quality space, where leasing momentum had been the strongest. We expect the lower speculative leasing assumptions to continue to be somewhat offset by higher revenue, lease renewals and extensions, and we have minimal commercial expirations for the remainder of 2020, limiting the downside risk of our internal leasing estimates. We expect occupancy to remain stable through year-end.

Currently, we expect to achieve additional operating cost savings of approximately $525,000 during the fourth quarter. This amount is net of expenses associated with preparing our buildings for reentry and the cost savings that we expect to pass along to our tenants. We expect G&A, including lease expenses, to range from $23.5 million to $24 million and interest expense to range from $37.5 million to $37.75 million. As mentioned on previous calls, we've lowered our initial capital expenditure expectations, including lowering development spending. We now expect development expenditures to range from $30 million to $35 million.

While our future multifamily renovation pipeline remains intact, the program remains suspended until the market allows for rent increases to deliver the appropriate ROI. We are pleased that nearly all of our future renovation potential is our strongest performing suburban assets, which will likely recover sooner than urban markets post-pandemic. And while market conditions remain highly uncertain, we feel confident in our ability to navigate these uncertain times over the near term while retaining the operational flexibility necessary to bolster our long-term growth once operating conditions improve.

And with that, I'll now turn the call back over to Paul.

[Paul T. McDermott, executive]

Thanks, Steve. In closing, while we are operating in a challenging environment, we remain confident in our ability to effectively manage through this period of uncertainty while preserving the embedded growth of our assets. While we, like others, are dealing with an unprecedented pandemic, we have kept our eye on executing, diligently strengthening the balance sheet, maintaining value as well as preserving long-term growth opportunities.

At our current stock price, we believe that we offer a compelling value proposition for investors, with a 7% dividend yield on a dividend that we are covering, a strong liquidity position, a development and renovation pipeline that can and will be reactivated once conditions approved and a solid long-term growth story. Now we would like to open the call to answer your questions.

[Operator]

[Operator Instructions] Our first question is from Blaine Heck with Wells Fargo.

[Blaine Heck, analyst]

So Paul, I think last quarter or maybe the quarter before when I asked about the investment sales market, you talked about how the transaction side of things is still relatively slow. Are you seeing any signs of an increase in transactional volume? And if so, is there enough to kind of figure out what the effect on pricing has been both in multifamily and office?

[Paul T. McDermott, executive]

Well, let's start with multifamily, Blaine. I would bifurcate the market between obviously urban and suburban, and I'll start with D.C. proper. Occupancy, obviously, there's been some deceleration downtown, but the big challenge really has been TOPA. It's still hurting downtown investment sales, and it's really probably -- for those who wanted to close by year-end, it's probably really become the Achilles' heel to that execution. I would say in the suburban markets and multifamily, that seems to be the hottest product right now, particularly in Northern Virginia. I would say our observation, and let's go back to the end of the fourth quarter of 2019 where we thought it was a very hot market, we definitely saw tremendous activity and some cap rate compression probably in January and February of this year. And then obviously, in March, there was a static period. But I would say that it is back with a vengeance right now, thanks to agency lending.

We have seen some cap rate compression. I think the cap rate now, I don't like to put all my eggs in the cap rate basket just because -- are they based on actual occupancy, actual collections, tax adjusted? Are you T12-ing, T3-ing, T1-ing? But we've definitely seen underwriting. I'd say probably since Labor Day, probably become more aggressive, and I'm really looking at that kind of year 2 growth assumption in the multifamily space, where I think, when we talked in the second quarter, some folks still probably had 0 to negative growth, and that growth rate now has translated to probably between -- just in the underwriting feedback we've got between 1% and 3%.

Just in terms of capital, I think as we talked about the Odyssey Index, the core funds are kind of gone. But we're definitely seeing 1031 activity with cash flows -- on cash flows with good collections, value-add core plus money. I mean debt is the real kind of supercharger here. Folks are really looking in the multifamily space for, what I'd say, 6% unlevered IRRs, 11% to 12% levered, and that's predicated on just over 2% debt. But it's clearly all about levered yields in the multifamily space.

Office, obviously a bit of a different story, Blaine. I'll start in the suburbs. The activity that we're seeing out there is really from the core plus capital, looking for longer-dated walls and/or shorter dates with a retention story. That capital is probably solving for an 11% to 13% or a 12% to 14% levered. They're trying to get 60% to 65% loan-to-value, but the -- under the prep and promote structures, they're usually looking for about a 6% prep with an overall 12% target.

Core capital really, we just don't see it in the main street right now. And I think when we look at both markets, the bigger deals -- even downtown, the bigger deals are falling short on pricing. And these folks are really, I don't believe, underwriting a tremendous amount of growth for the next 2 years in the commercial sector. They're probably taking face rates and discounting them 10-plus percent, and that's leading to a continued bid-ask gap like we talked about last time.

In D.C. proper, lots of CAs, lots of folks kicking tires, lots of fact finding. I think that we just see a lot of portfolio managers in discovery mode, but not a lot of serious capital chasing. I think size is very relevant because it looks like the capital markets, especially the local and regional banks, are kind of capping those loans in that $25 million to $50 million total loan value. Life companies are only lending on the best of the best. CMBS is out there, but I think borrowers are gun-shy. And the debt funds at kind of 4% to 5% rates are not terribly accretive to folks.

So seller financing. I just started to see creep back into the marketplace right now, and that's from sellers that have queues and probably needed to get the product traded sooner rather than later.

And my final comment would be just foreign capital, definitely seeing a lot of foreign capital back, bidding, looking around. They think D.C. is on sale. And they're looking at -- they're also looking for longer-term walls, but they're probably doing it through a local operating partner. And I think you're going to probably see that look, that foreign capital pick up post-election.

[Blaine Heck, analyst]

That's great commentary, very helpful. Maybe just a couple of follow-ups there and focusing on the multifamily side. Are you seeing more core deals on the market? Or are there also value-add deals? And if so, I guess, what's the pricing differential between the two? And then assuming you guys are looking at deals, are you mostly focused on Northern Virginia? Or are you looking at properties in D.C. proper and Maryland as well?

[Paul T. McDermott, executive]

Let me start with the last, and I'll work my way backwards, Blaine. The district right now, the district is really only 13% of our NOI stream. I don't think we're seeing any transactions in the district, like I said in my earlier comments, because of TOPA. And if you're looking for certainty of execution on closing, D.C.'s pushed out their restrictions to year end. There's nothing to say that, that won't become more protracted once we get to December 31.

And given some of the occupancy and concessionary issues that are dealing with in the district right now, I think that you're probably having a little bit wider-than-normal bid-ask. Have -- if I go back into suburbs right now, I think Northern Virginia, just because of the resiliency of the job market with check and the government contracting, that is definitely seeing more deals and more value-add deals.

And I think you're -- I remember talking to you last year at this time, I believe, when we were signed and sealed and executed on the Assembly portfolio and people were asking about suburban garden-style walk-ups. I mean that is one of the hottest products that's out there right now, and it's being priced well above replacement cost. And that is clearly value-add capital that it's not if, it's when they're going to grow rents. And I think they've brought that rent growth curve inward more than some folks that have been operating out there for some time. Like I said, I mean, they're growing rents probably to win these deals at the beginning of year 2. So have not seen, Blaine, a lot of core capital sniffing around those deals right now.

[Blaine Heck, analyst]

Okay. That's great. And the last one on the transaction side. At this point, would you guys be comfortable taking on more development risk through the acquisition of land or maybe an asset that's still under construction?

[Paul T. McDermott, executive]

Let's look at our development pipeline right now. I mean we have 767 units shovel-ready in a market we know very well. And we've got -- our litmus test has been the excellent renovation work that we've done. That is probably what we look at, first and foremost. As you know, we have covered land plays that we don't have to go out and seek already embedded in our portfolio as well as some multifamily assets that have additional FAR.

As far as broken construction deals right now, that's probably just too broad. That would be submarket by submarket. There are markets, as you know, we really still try to play and draft off of our affordability gaps. And so I haven't seen any broken construction deals right now in Northern Virginia that we would look at, but I think the -- we'd be in line with a number of other hungry capital potential participants.

[Blaine Heck, analyst]

Okay. That's great color. Last one for me, maybe sticking with you, Paul, or maybe even for Grant And I think Paul, you mentioned this a little bit in your prepared remarks, but I'm thinking back 4 years ago when we were looking at a pretty subdued office environment in D.C., and I think the hope was that alignment of the White House and Congress would spur more bills being passed and thus drive demand for office. But for, I think, a bunch of different reasons, that didn't really pan out like it has in past elections.

Now who knows what happens in this election. But if we do see alignment of the White House and Congress, do you think there's an argument that we actually could see a surge in office demand this time around? And if so, I guess, what's the difference between now and 4 years ago?

[A. Montgomery, executive]

Sure. Happy to answer that, Blaine. I think you sort of zeroed in on the point of that in that this -- the last 4 years have been different for a variety of reasons in terms of prior trends. And so our thought is that if we do reach alignment, that there is the opportunity for more of a typical relationship between the branches of government in terms of legislative and executive within the party that really hasn't existed over the last 4 years and a more cooperative stance. If there is alignment, may allow that to revert back more to the historical pattern, which we point out, typically, does relate to a higher number of legislative bills that are passed and then increased lobbying and legal precedents in D.C. that results in higher absorption.

[Operator]

Our next question is from Anthony Paolone with JPMorgan.

[Anthony Paolone, analyst]

When I think about your markets, you've got, on the office side, the law firms and government and some companies as the big space users. And then you have the smaller folks like foundations and lobbyists and consultants and stuff. Just wondering if you have a sense as to the smaller tenants, any initial thoughts as to whether you see them trying to give up space or work in a more remote world going forward or just what you're seeing in terms of their thought process right now.

[Paul T. McDermott, executive]

Yes, Tony, it's Paul. I would just use our portfolio -- our own experience and our own portfolio as kind of the litmus test. Smaller tenants are the ones that are back in the office right now. And that makes sense to me because for a 12- to 15-person firm, everyone is essential, number one. And they -- a lot of them don't necessarily have the technology infrastructure to support working from home. I mean if you look at our portfolio, I think we average roughly in the 5,500-square-foot range on that smaller tenant scale. And there -- some of them, yes, we've worked with, but I think a lot of them are very focused on making it work in the footprint that they have.

The larger tenants for either liability purposes or other reasons are the ones we're not seeing back in the spaces actively. And -- but the larger ones are also folks that, at least in our discussions, are folks that are actively trying to put together a workforce strategy. And we're starting to see some folks. I wouldn't say it's a trend, but we're definitely seeing some folks looking at longer-term deals because they're taking advantage of current market conditions and realize that they can probably capitalize on free rent clauses, parking clauses, et cetera. And so I would consider them. I wouldn't call them visionaries, but definitely opportunistically looking at their workforce strategy with probably a longer vision than some of the smaller tenants that we're dealing with.

[Anthony Paolone, analyst]

Got it. And what's happening in your Space+ space and with the leasing or just utilization there?

[Paul T. McDermott, executive]

I think we've had good traction. I think like everybody else, other office folks you've probably discussed with, we have experienced a lot of folks looking for shorter duration leases with flexibility. And that does kind of neatly fit into the Space+ box, which is roughly 3% of our NOI right now. I think that we're going to continue to see -- as more decision-makers come back, we will continue to see our Space+ inquiries grow. Our first deal, literally, Tony, that we did during the pandemic were folks moving out of WeWork and co-working, where they could come into Space+ and kind of get their own identity and more importantly, control the safety protocols within their own environment. So we think that, that's still going to get traction throughout the balance of 2020 and going into 2021, and looking forward to reporting on that further as we progress through this.

[Anthony Paolone, analyst]

Okay. And then just last question for me. You talked a lot about and gave a lot of color on the transaction environment. Anything specific to you all on the disposition side that could make sense or that you're contemplating now that could be used to fund capital to redeploy elsewhere?

[Paul T. McDermott, executive]

Tony, we're always -- I'm not trying to dodge your question, but I think as you know, we're always trying to be opportunistic in how we allocate capital. And so if we see an opportunity to monetize an asset, we will probably take advantage of it. But we're always looking at recycling. I think we've tried to be good stewards of our investors' capital, and we're on top of the market. We see what's being bought and what's being sold. I still think we're dealing with a bifurcation between multifamily and office, obviously. And office, a lot of that sales market is being driven by the lending community. So it would -- we have to have kind of the glass slipper, but of course, we would look at it if it opportunistically made sense for us.

[Operator]

Our next question is from Chris Lucas with Capital One Securities.

[Christopher Lucas, analyst]

Sort of a follow-up to Tony's question, Paul, which is just -- and it's counterintuitive, but you do have a couple of really nice infill retail properties, we've heard. While there's not a lot of retail that's traded, the stuff that has traded at a hot bed of -- considered high-quality infill in major markets is really trading at sort of pre-COVID cap rates or even lower, particularly if you adjust for NOI risk. And just curious as to whether or not a couple of the assets that you have Takoma Park, Spring Valley, in particular, would be something you'd look to monetize in this environment?

[Paul T. McDermott, executive]

Well, just -- I mean not at the risk of repeating myself, Chris. I mean we're always open for business as any real estate investors should be. But I look at a couple of those assets and one that you mentioned, Takoma, I mean, that's directly on the purple line. We have some, what I would consider, good cash flow and covered land plays. But if somebody thinks that they are worth more fully developed as a mixed-use asset, of course, we would take a look at it.

Spring Valley, as you know, we did an addition on that and wanted to make sure that, that leasing was complete. We're doing well there on a relative basis. We have not tested the market, Chris, just in terms of pre-pandemic cap rates. I mean we were, as you know, pretty comfortable with the high 6% cap rate that we achieved on our portfolio, the 75% of our retail portfolio NOI last year. But we haven't really tested the waters. But I'm not saying that if someone didn't come in with a compelling offer, that we wouldn't take a hard look at it.

[Christopher Lucas, analyst]

Okay. Great. And then, Steve, just on the guidance, the sort of implied fourth quarter guidance sort of declines from third quarter, and your NOI guides were sort of generally at the midpoint, down a few percent. Just kind of curious as to what is embedded in guidance. And if there's something specific that I'm either not missing or that you're aware of that we should be aware of that is driving that.

[Stephen Riffee, executive]

Yes. I saw your note, Chris, and thanks for the question. I'm glad you asked. I think when you were looking at total NOI guidance and trying to find all the pieces, there's something you're probably missing because we did not update guidance on JMII because we sold it mid-year, but it had contributed about $1.3 million to NOI before the sale. And when I think you were looking at total numbers, that if you put that in there...

[Christopher Lucas, analyst]

No, we took that out.

[Stephen Riffee, executive]

Okay. You got that.

[Christopher Lucas, analyst]

No, we took that out. Yes, yes.

[Stephen Riffee, executive]

Okay. It looks like you may have missed that. In terms of our own thoughts about the fourth quarter, if you look at -- obviously, this is the first time that we have given guidance in the COVID world. When we look at the office sector, I would say probably the 2 things that imply a little lower in, say, commercial or office is anticipating less recoveries of operating expenses in the quarter than what we just experienced. And we're probably being a little conservative. We're a little nervous about projecting bad debt, so we're a little heavier on our bad debt projections, probably for commercial and multifamily, honestly, than what we've experienced so far.

On the multifamily side, our trade-outs and our rents really haven't -- I mean we started to feel some slippage in September relative to the rest of the quarter. But when we look at what's happening in other gateway markets, I mean, a blended down of gross rents of 1.7% or even effective rents at negative 3% isn't bad as we're looking at all the data in all the gateway markets. But we are going into the winter months, so we're being a little bit conservative going through there. We're really happy that we've managed our lease maturity ladder so that it's really heavily weighted to the spring and summer months.

So we're just being maybe a little bit conservative in that front. And obviously -- and maybe just for some perspective for a second, too. In terms of our original guidance to -- we finally reestablished it. If you recall, we talked about a lot of things that we're going to be building up throughout 2020 sequentially so that we would end very strong in 2020 and have a lot of momentum going into 2021. Well, what would that be? We had the speculative lease commencements that have now been pushed out to -- and even those that were being under negotiations pushed out probably into 2021.

We also had -- because we -- without rent increases during the strong spring months into the summer as we were freezing multifamily rents, we would have had a lot of that growing by the fourth quarter. We also suspended our value-add renovation program, which we would have built up by then.

So here's an interesting perspective. When we look at our original guidance to the new guidance, the midpoint to midpoint, we're only $0.02 a share behind year-to-date through September 30 from where we originally planned to be. All that growth was supposed to build for the fourth quarter. So in our mind, obviously, we can't predict the extent and ongoing duration of the pandemic. But for us, it's a question of when, not if, that growth is coming because the spaces that we have, at least in our office portfolio are still at our best assets where there is interest.

And when we look at our multifamily, we're going to get a chance to go back to the strong leasing seasons and hopefully have rental increases this year and hopefully, again, start to resume our renovation program. And then there's the Trove, which it delivered right before the pandemic. And so it's slower on lease-up, but we've got pretty good growth in '21, just as that continues to lease up, and then even a lot more growth than that in 2022 considering when it got started. So I mean, that's our perspective in terms of looking into the fourth quarter and to the early winter in terms of guidance.

[Operator]

[Operator Instructions] Okay. With no questions coming into queue, I would like to turn it back over to Paul for closing comments.

[Paul T. McDermott, executive]

Thank you. Again, I'd like to thank everyone for taking the time to join us today. We appreciate your continued support, and we look forward to talking with you at NAREIT and over the coming weeks and months. So thank you. Please stay healthy and positive, and have a good day.

[Operator]

Thank you. This does conclude today's conference. You may disconnect your lines at this time, and thank you for your participation.