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Corporate Office Properties Trust
F:WX7

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Corporate Office Properties Trust
F:WX7
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Price: 29.6 EUR 2.07% Market Closed
Market Cap: 3.3B EUR
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Earnings Call Transcript

Earnings Call Transcript
2019-Q4

from 0
Operator

Welcome to the Corporate Office Properties Trust Fourth Quarter and Year-End 2019 Earnings Conference Call. As a reminder, today’s conference call is being recorded.

At this time, I will turn the call over to Stephanie Krewson-Kelly, COPT’s Vice President of Investor Relations. Ms. Krewson-Kelly, please go ahead.

S
Stephanie Krewson-Kelly
Vice President of IR

Thank you, Carmen. Good afternoon and welcome to COPT’s conference call to discuss fourth quarter and year-end 2019 results as well as our guidance for 2020. With me today are Steve Budorick, President and CEO; Paul Adkins, Executive Vice President and COO; and Anthony Mifsud, EVP and CFO.

Reconciliations of GAAP and non-GAAP financial measures management discusses are available on our website and in the results press release, supplemental information package and the results presentation posted on our website.

Before I turn the call over to Steve, a quick reminder that forward-looking statements made during today’s call are subject to risks and uncertainties, which are discussed at length in our SEC filings. Actual events and results can differ materially from these forward-looking statements and the company does not undertake a duty to update them. Steve?

S
Steve Budorick
President & CEO

Good afternoon and thank you for joining us. The company had a tremendous year in 2019 meeting or exceeding all of our business objectives including operating leasing, government leasing, renewal leasing and retention rate, new development leasing at record levels, capital recycling, year-end debt levels, and development investment. Importantly, our achievements positioned the company to deliver modest growth and [Technical Difficulty] in place suggest the 2021 defense budget will increase by another 2% to 3%.

All five of the demand types we have been discussing since the defense spending increases commenced in 2018, have recovered and produce solid achievements to benefit our shareholders. Last year, Redstone Gateway emerged as our fastest growing defense IT location. When we deliver the six properties under development, the park will contain 1.4 million square feet of highly lease operating properties.

We have great momentum in our leasing, talent support from the defense space and law enforcement activities located on the Redstone Arsenal 00:02:51 and have strong indications that additional opportunities may emerge in 2020 and 2021. Now, let's discuss the details. We captured demand across the portfolio with excellent leasing achievement. Our 4.9 million square feet of total leasing was the highest volume ever exceeding the 2010 record by 600,000 square feet.

The 2.2 million square feet of development leasing was 1 million square feet more than our prior record achieved in 2012. Then our 422,000 square feet of development leasing with the government was our third highest in our history. Our strong vacancy leasing was driven by defense industry expansion. As defense IT tenants committed to expansions to accommodate mission growth. Progress was incremental in nature and widespread throughout the portfolio. The 784,000 square feet of vacancy leasing was the highest volume since 2010 and consistent of 91 transactions with an average deal size of 8,600 square feet. The defense submissions we serve are now well funded and addressing pent-up requirements. In the past two years, the US government has leased 417,000 square feet in our operating properties.

We have two markets where demand is outpacing supply and where we have built on spec to create inventory. Over the past few years, we've delivered three spec buildings in Huntsville and one in College Park at the University of Maryland. All four are 100% occupied.

We started a fifth spec building in September in College Park which is already 25% leased, and in November, we started our sixth spec building, 8000 Rideout Road in Huntsville, and we're in discussions with multiple contractor prospects.

During the past two years, defense contractor demand for new facilities has also recovered, and we've signed five build-to-suit and large preleased transactions totaling approximately 600,000 square feet, adding nine data center shelf build-to-suit projects containing 2 million square feet. Since 2018, we've completed 14 build-to-suit and large prelease transactions totaling 2.6 million square feet.

Additionally, the government has returned to executing on long-term plans for new facilities at our secured campuses. In 2019, we executed 388,000 square feet of government leases for our antiterrorism force-protected buildings in secure campus locations, consisting of a 348,000 square foot prelease for NoVA C, and a 40,000 square foot lease at 100 Secured Gateway.

Since the beginning of 2018 and including the vacancy leasing, we’ve completed over 800,000 square feet of new government leasing. We expect continued strong leasing throughout our portfolio. Our initial development leasing goal for 2020 of 1 million square feet is 11% higher than last year's initial goal. It is supported by 2 million square feet of opportunities we have in our Shadow Development Pipeline.

And the (inaudible) on transactions the more than doubled their initial development leasing growth. We increased our capital raising commensurately to fund those opportunities. Modest dilution from last year's asset sales will tamper this year’s FFO growth to around 2.5%. However, the incremental EBITDA from our leased developments we've placed in service this year and next will produce robust FFO growth in 2021.

With that, I'll hand the call over to call.

P
Paul Adkins
EVP & COO

Thanks, Steve. We ended the year with strong leasing and operating momentum. Fourth quarter total leasing of 659,000 square feet included 162,000 square feet of vacancy leasing that increased our core portfolio to 95% leased at year end, a 60-basis-point gain over the start of the year. The largest increase has occurred in the National Business Park which improved by a 190 basis points and is now 91% leased, and in our Navy Support sub-segment which improved by 210 basis points ending the year at 95% leased also.

During the quarter, we completed 158,000 square feet of development leasing. The Elista Aviation leased an additional 47,000 square feet, exercising its expansion option for the remainder of 8,600 Advanced Gateway and expanded the size of 7,600 Advanced Gateway, increasing its fully leased Redstone campus to 366,000 square feet. We booked the 25,000-square-foot lease with a cybersecurity tenant at 4600 River Road, our current spec building at the University of Maryland. And Morrison & Foerster leased an additional 20,000 square feet at 2100 L with an office component of which is now 57% preleased.

For the year, our 2.2 million square feet of Defense/IT development leasing included 1.2 million square feet of data center shell build-to-suits, 548,000 square feet at Redstone Gateway, and 422,000 square feet with the US government. Our same property portfolio was 91.9% occupied at the end of the year, which was in line with updated guidance that incorporated portfolio composition changes equating to a 70 basis point decline. The change in portfolio composition during the year resulted from our decision to joint venture 1.3 million square feet of data center shells that were in our same property portfolio and to decommission DC-3.

We continue to make long-term strategic decisions regarding renewal economics to manage capital costs, eliminate downtime and maintain occupancy. During the year, we completed 1.9 million square feet of renewals, locking in 2.4% annual rent escalations. Last year, four large renewals totaling 442,000 square feet rolled down a weighted average 13.6% and drove our cash mark-to-market down 5.8%, 30 basis points below at the low end of our updated guidance. Each of these four renewals rolled off long-term leases and renewed with an average term of eight years. Excluding these four transactions, the remaining 1.4 million square feet of renewals in the year rolled down an average of 2.6%.

During the fourth quarter, one of these for renewals drove down cash rents 8.4%. A 140,000 square foot tenant was rolling off a 10-year lease. The tenant recently won a new government contract and needed to more than double its space. We renewed them at the high end of market and captured their expansion, which more than doubled their footprint. The tenant now leases 310,000 square feet for a new term of 10 years. Cash rents on the remaining 200,000 square feet of renewals during the quarter rolled down 2.7%.

Renewal leasing in 2020 looks strong. The 1.5 million square feet scheduled to expire are significantly less than recent years’ volumes and we forecast another strong tenant retention rate of 70% to 75%. In April, we have one large nonrenewal at 6721 Columbia Gateway which we built in 2009 for a single-tenant user.

We already executed the lease with a defense contractor for one floor leaving 100,000 square feet to lease. We are implementing a proven amenity enrichment strategy as we convert the building to multi-tenant use and expect demand for this Class A product to be robust. As discussed on recent calls, at DC-6, our wholesale data center in Manassas, one tenant gave back half of megawatt last week – last month and we expect another tenant to give back three quarters of a megawatt in July.

After which, we expect no further contractions or terminations. We are in negotiations with the 11.25 megawatt user whose lease expires August 1 and we anticipate a full renewal.

I'll conclude with an update on the development activity. In the fourth quarter we placed 375,000 square feet of fully leased development projects into service. Bringing the total for the year to 1.2 million square feet, all 100% leased. We have 2.3 million square feet of active development projects which are currently 79% leased and which will increase our core portfolio by 12%. Among these 13 projects, we have 490,000 square feet of availability and are currently negotiating leases for about half that volume.

Executing on this activity, will bring the development pipeline to 88% leased. During 2020, we expect to place 1.4 million fully leased square feet into service and similarly lease remaining 900,000 square feet under development before placing them into service in 2021 and 2022.

With that I'll turn the call over to Anthony.

A
Anthony Mifsud
EVP & CFO

Thanks, Paul. Fourth quarter and full year FFO per share as adjusted for comparability of $0.50 and $2.03 met the midpoints of our updated guidance. Our annual results were $0.01 lower than original guidance midpoint as a result of higher-than-budgeted dispositions to fund our expanding set of development opportunities.

Operations were strong as tenant retention of 77% for the year and 84% in the quarter, combined with higher operating margins to drive better-than-expected same property cash NOI growth of 3.9% for the year and 6.2% in the quarter.

During the year, we invested $470 million in development activity, 1.5 times the $275 million midpoint of our original guidance. In addition to issuing the final $46 million of our 2017 forward equity facility, we raised $311 million, which was more than double our original disposition guidance of $125 million to $150 million by selling a 90% interest in nine of our data center shells to a joint venture with Blackstone. Our data center shell dispositions clearly demonstrate our ability to create value through development.

Our 2020 plan is summarized on slides 20 and 21 in our presentation and it's straightforward and low risk. The $2.08 midpoint implies 2.5% growth over last year's results and includes the tenant contractions and non-renewals we've experienced and anticipate at DC-6, which equates to approximately $0.045 of dilution. The guidance also includes $0.015 of dilution from upsizing our 2019 dispositions.

We plan to invest between $325,000 and $375 million in development and have no acquisitions planned. We will continue to conservatively fund our development investment to maintain our balance sheet strength. To maintain leverage levels, our plan requires between $70 million and $90 million of equity capital, less than 25% of our expected investment. As you know, we have access to our $300 million ATM to issue equity

which, in light of the value creation inherent in our developments, would be accretive to FFO and NAV. Alternatively, we have more than adequate capacity in our remaining wholly owned data center shelves to raise the equity from additional JV sales.

The incremental EBITDA from developments placed in service will maintain our debt-to-EBITDA ratio at approximately 6 times. We forecast same-property cash NOI growth for the year of 1.25% to 2.25%, driven by moderate increases in same-property occupancy, modest rent roll-downs of 1% to 3%, and impacted by 100 basis points from the nonrenewal at 6721 Columbia Gateway.

Lastly, we’re establishing first quarter 2020 FFO per share guidance with a midpoint of $0.48, which is $0.02 below fourth quarter 2019 results. The difference is due to $0.015 of higher budgeted seasonal cost for snow removal and utilities, and $0.005 of dilution from selling JV interest in two data center shelves in December.

With that, I'll turn the call back to Steve.

S
Steve Budorick
President & CEO

Thank you, Anthony. We have two key takeaways from this call. The first is that we expect growth in defense spending toward higher occupancies and continued strong leasing across our portfolio. Since bottoming in the fiscal year 2015, and including the fiscal 2020 budget, the DOD space budget has increased by $137 billion, representing compound annual growth of 5% for 5 years.

There continues to be strong bipartisan support to fund defense and intelligence missions. Against this backdrop of solid defense growth, we expect to continue to see strong steady demand for new and existing space across our portfolio.

The second key point is that 2019’s achievements have laid the groundwork for us to deliver solid FFO growth this year and robust growth in 2021. Last year's development we've seen an equity raise, they've created waves of future EBITDA as developments are placed into service.

This incrementally will reduce our future equity requirements and also gain FFO traction while maintaining a strong balance sheet.

With that operator please open up the call for questions.

Operator

Thank you, Mr. Budorick. [Operator Instructions] And our first question is from Jason Green with Evercore. Please go ahead.

J
Jason Green
Evercore

Good morning. Given the stock's trading at roughly $30 and you need to call it roughly $80 million for development in 2020. I guess why not just pull the ATM down now and not have that something – not have that beast something that you have to deal with moving forward. I guess what what's the thinking there?

S
Steve Budorick
President & CEO

Well until those calls over we've been in a lockout Jason. So we plan to maintain our optionality. We may use the ATM and we’ll do it in a measured phase. And will also reflects ability to their increasing JV or add JVs other shows.

J
Jason Green
Evercore

Okay. And then just turning to the development tab. I guess, if we assume that the office project get an 8% yield and the data centers get 6.5% yield. On our math, it looks like the current CIP bucket would deliver about, call it, $15 million of NOI. Is that kind of the right ballpark and way to be thinking about this future growth that should come from the development pipeline.

S
Steve Budorick
President & CEO

Yes. That’s right on the money.

J
Jason Green
Evercore

Okay. Thank you very much.

S
Steve Budorick
President & CEO

Thank you.

Operator

Thank you. Our next question comes from Craig Mailman with KeyBanc Capital Markets. Please go ahead.

C
Craig Mailman
KeyBanc Capital Markets

Hey, guys. On the large number renewal in April, what's the gross square footage on that and when does the partial backfill commence?

S
Steve Budorick
President & CEO

So, 131,000 total square feet. There's about 100,000 that will come baking. And the commencement is immediate. This tenant is currently subleasing the space now.

C
Craig Mailman
KeyBanc Capital Markets

And then, what do you think downtime on that or you guys budgeting? Is there any capital you need to spend on that?

S
Steve Budorick
President & CEO

So, I think as Paul commented, we’re going to do a little bit of capital on the ground floor to introduce some of the amenities to help us be so successful with our redevelopments to this part. And it’s modes. I don’t have the budget number but a couple of million. This space is in great shape so I would expect TIs to be reasonable and downtime up to 12 month.

A
Anthony Mifsud
EVP & CFO

Weighted average night as well.

S
Steve Budorick
President & CEO

Yes, 9 to 12.

C
Craig Mailman
KeyBanc Capital Markets

Helpful. And then you guys had good success down at Huntsville last year and I will swear the NBP has been a little bit quiet recently. Of the two million square foot Shadow Pipeline, how much of that is NBP, if any?

S
Steve Budorick
President & CEO

None of the Shadow Development Pipeline – well, the rest of 310 NBP is in that number and there's no new projects at NBP. We built our last build in I think around 2016, which is 540 NBP. We initially subleased or preleased half of it. The tenant contracted a bit and we’re making progress filing that.

Besides the building set aside for the government and a couple of floors in 540, NBP is highly-leased. We have three parcels that are about 20,000 square feet that are vacant and then 10 that are below 10,000 square feet.

A
Anthony Mifsud
EVP & CFO

All right. Excluding NBP 310 where, well, if – when we leased NBP 310, we’ll be about 95% leased in the park.

C
Craig Mailman
KeyBanc Capital Markets

Okay. I'm just curious we've seen government spending picked back up contracts being put out. I know things are always fluid on where contracts go, but just given how well leased the park is, are you guys surprised at all to not have a demand pipeline there for a new building?

A
Anthony Mifsud
EVP & CFO

No. I'm not surprised. Currently, one of the dynamics that has occurred in and around this region has been defense contractor mergers over the last three or four years have generated some modest reductions and compelled us to backfill those spaces. And so that’s absorbing some of the growth that would otherwise drive the next building. But I wouldn’t be surprised at all to see us initiate a new building in 2021.

S
Steve Budorick
President & CEO

Yes. We called it the Shadow Development Pipeline, those projects over the next two years that we think are 50% or greater likelihood of happening. So I would say that the NBP is – has potential but just doesn't rise to that threshold right now.

C
Craig Mailman
KeyBanc Capital Markets

Okay. That’s fair. Appreciate it. Thank you.

Operator

Thank you. And our next question is from Manny Korchman with Citi. Please go ahead.

M
Manny Korchman
Citi

Hey, everyone. Just I know it’s a bit early to be thinking about 2021, but you guys mentioned a couple of times in your presentation on the call that the strong growth going into that – into 2021. If we just think about the plusses and minuses, sort of what’s left out there. What negative should we be thinking about? And on the flip side, you point out leasing at 310 NBP.

What other leasing could happen over the course of the next few months that would actually help drive that 2021 growth?

S
Steve Budorick
President & CEO

So let me take the hard part first. I think the one large risk that you should keep an eye on is the renewal at DC-6 of the 11-megawatt user. We're in discussions preparing for their extended term, but it's not signed yet, and that’s an important deal for us that would represent a pretty big negative if we didn't get the renewal.

Besides that leasing, we did a lot of leasing last year, obviously. That's going to – those tenants build-outs will occur during the year, and occupancy will increase, and we project a nice gain in occupancy over the course of the year, widespread throughout all of our properties.

A
Anthony Mifsud
EVP & CFO

And maybe…

M
Manny Korchman
Citi

Go ahead, Paul.

S
Steve Budorick
President & CEO

One of the keys is the commentary that we gave on the developments placed in service during this year and their contribution not just to this year but on an annual basis next year, and that really is what drives our confidence about the growth commentary that we’ve given on 2021.

M
Manny Korchman
Citi

Got it. And if we think on retention at that 70%, 75%, you’ve got the nonrenewal that we talked about at Columbia. For the other nonrenewals, sort of the non-retains, if you will, how much of that is based on rate versus those tenants not landing the contract, not needing the space, going elsewhere, sort of non-rate-sensitive reasons?

S
Steve Budorick
President & CEO

I don’t think very much of the nonrenewal portion that we’re looking at has anything to do with rates. So it is just tenants relocating…

A
Anthony Mifsud
EVP & CFO

Or contracting.

S
Steve Budorick
President & CEO

Or contracting in the normal course of business. I mean, it’s – we still think our tenant retention rate is excellent, and – but none of it has to do with rental rate sensitivities.

M
Manny Korchman
Citi

Thanks, Paul.

Operator

Thank you. And our next question is from Tom Catherwood with BTIG. Please go ahead.

T
Thomas Catherwood
BTIG

Excellent. Thank you. Page 9 of the presentation was really a helpful visual in it. It speaks to the driver behind a lot of 2018-2019 leasing. But when I look at 2020 guidance, it suggests maybe 1.3 million square feet of no and renewal leasing. Maybe 250,000 square feet of vacancy leasing and the bulk being renewals.

That’s down markedly from 2018 and 2019. Is that a reflection of slowing demand in the market or is that just reflection of a lower year of expirations and cut outs. Maybe some of your better spaces are already filled.

S
Steve Budorick
President & CEO

Are you driving at the new leasing or the renewal level?

T
Thomas Catherwood
BTIG

So, I'm not looking at development leasing, I'm just looking at new renewal. If I look at what's implied by getting to a 93.5% lease on with same-store.

S
Steve Budorick
President & CEO

Got it. So from a renewal standpoint, we have a much lower volume of maturing leases, not sure, then we have incurred for the last three. So that’s egg component. And then with our portfolio being as well leased as it is, many locations, we just have a less inventory available.

T
Thomas Catherwood
BTIG

So, it’s not a matter of I guess, asking at a different way. Area you continuing to see the same volume of demand that you have been for the past, call it, 12 to 18 months? Or is there's been a shift there?

S
Steve Budorick
President & CEO

Well, absolutely we have similar levels. We run – we have a process we managed. All of our potential opportunities every week. And that typically has 800 to 1 million square feet of opportunities from names and tours to prospects, and it’s steady, very steady as we speak.

T
Thomas Catherwood
BTIG

Got it. And then in November, the FBI formerly announced a $1 billion build-out in Huntsville. I think to even much so far as to refer to it is H – Q2. It looks like the bulk of those jobs won't relocate until 2021. But if you started to see any ancillary demand related to that move and kind of what is your appetite for expanding your holdings down there or in the Gateway fully support the build-out that you're seeing?

S
Steve Budorick
President & CEO

So, we actually have two leases that we achieved related to that pivot of those businesses or that component of the agency to Fort Meade. We have over 3 million square feet of additional development capacity on our development there, and about 1 million of that is in the secured campus. So, we’re extremely well-positioned to capture any relocating demand should that opportunity occur.

T
Thomas Catherwood
BTIG

Understood. And then maybe a last one for me, Paul. You mentioned the expansion with Morrison & Foerster over at 2100 L Street. Can you update us just on the progress on the balance of the building? Does Morrison & Foerster have any expansion options where you're holding floors off the market for a while? And then, remind us how your rents kind of compared the projects that start coming out of the ground after you guys?

S
Steve Budorick
President & CEO

Sure. Well, as I mentioned, we did sign another 20,000 square feet with Morrison & Foerster and that was at a rent that was actually higher than pro forma. So, we’re excited about that. That leaves 76,000 square feet of vacancy of office vacancy left in the building. And their expansion options are actually – there's nothing else being held off the market. They have a relatively limited five-year expansion and then that after that there’s no other encumbrances for 15 years which we think is a great positioning for leasing the balance of the building.

We were still excited and believe in the rents that we've underwritten for the project and have a pretty solid activity for the balance of the building. So, you may have noticed that we did move the delivery from Q1 to Q2 which was really just a two-week delay from the end of March to mid-April. But it will have zero impact on Morrison & Foerster’s lease commencement dates both for the original space they leased as well as the additional floor that they took.

T
Thomas Catherwood
BTIG

Got it. And then the balance of the space that's left is that kind of towards the bottom of the building or is it dispersed…

S
Steve Budorick
President & CEO

Yes.

T
Thomas Catherwood
BTIG

Throughout the building?

S
Steve Budorick
President & CEO

It's five. So they're taking 10 through 6. 4, 3 and 2 are encumbered. Half of 5 is 15-year space or – and half of 5 is 5-year – 5 to six years space of which we are going to – we have a prospect for that, but we're also going to move forward with the specs, a spec suites program or for two suites which has been, as you probably know, enormously successful in D.C. for the last bunch of years.

T
Thomas Catherwood
BTIG

Got it. All right. Thanks, everyone.

S
Steve Budorick
President & CEO

Sure.

A
Anthony Mifsud
EVP & CFO

Thanks, Tom.

Operator

Thank you. Our next question comes from Blaine Heck with Wells Fargo. Please go ahead.

B
Blaine Heck
Wells Fargo

Thanks. Good afternoon. So just to follow up on Huntsville, can you guys speak to the economics on those developments and the magnitude of the difference between the yields and margins that you guys can achieve on those projects versus the other opportunities that’s kind of making you guys much more active in Huntsville than elsewhere?

S
Steve Budorick
President & CEO

So all of the developments we’ve completed have cash yields north of 8% in Huntsville, so they’re very solid. 8% is a typical floor for our office development programs, and we’re achieving north of 8% at College Park. We have been more aggressive on data center shelves. I think we’ve disclosed our yields in the past, typically about 6.75%, but those are valuing at a 5% cap.

B
Blaine Heck
Wells Fargo

Okay. That’s helpful. And then sorry if I missed this, but can you talk about the interest in 100 Secured Gateway and 8000 Rideout Road which I think is where most of the un-leased space is and your development is there at this point?

S
Steve Budorick
President & CEO

So we’re negotiating the lease for the major component of 100 Secured Gateway vacancy. In recent Supplements, we’ve increased the spend and the size of that building to accommodate an identified additional need, but we expect, by the end of the quarter, we should be 80-ish percent leased on that building. And then – what was the second…

A
Anthony Mifsud
EVP & CFO

Or leased by year-end.

S
Steve Budorick
President & CEO

Yes.

A
Anthony Mifsud
EVP & CFO

Right.

S
Steve Budorick
President & CEO

Oh, and then 8000 Rideout Road, well, Paul, you’ve got…

A
Anthony Mifsud
EVP & CFO

We have a lease-out for the – so that’s 100,000 square foot spec building delivering in November of this year. We have our first lease-out with a well-known tenant, and we have more contractor prospects than we have space. So we’re – we expect to be very successful during the course of this year in stabilizing that asset.

S
Steve Budorick
President & CEO

What we’re doing with 8000 Gateway Rideout Road is we’ve approved the spend to build to this building and then immediately pour the foundation for the next building to cut our delivery time. So as we finish this lease-up, we’ll be in a position to come right out of the ground very quickly for the next one.

B
Blaine Heck
Wells Fargo

Okay, great. And then you guys touched on the four large renewals to drag the average cash rents bridge down in the second half. Are there any similar kinds of specific situations where you have large renewals that you expect to be big drags in 2020?

S
Steve Budorick
President & CEO

No. If you look at our change in rent guidance, it’s minus 1% to minus 3%, which is really the way the balance of the portfolio performed excluding those four deals, and they were all strategic tenants that we wanted to keep coming at very long leases. One of those tenants had been in their space for 20 years.

B
Blaine Heck
Wells Fargo

Got it. Thanks, guys.

S
Steve Budorick
President & CEO

Thanks, Blaine.

Operator

Thank you. Our next question comes from Dave Rodgers with Baird.

D
David Rodgers

Yes. Good afternoon. Paul, I guess, may have answered this maybe in a couple of different ways. But on the 2 million square feet of development demand that you're seeing as opposed to maybe asking by market, can you tell us how much is government, how much is data, how much is defense, and then maybe how much might be regional or if any?

P
Paul Adkins
EVP & COO

About half of that demand is datacenter shells, and this is over the next two years. So, that's a pipeline of that. Another large component of it is additional demand that we see in the pipeline down at Redstone Gateway, and the rest of it is scattered amongst the Fort Meade/BW Corridor and downtown DC.

S
Steve Budorick
President & CEO

About 20% is government projects.

D
David Rodgers

20% government. Thank you. And when you say demand in DC, are you just talking to 2100 L?

S
Steve Budorick
President & CEO

Yes.

D
David Rodgers

Or is there more there? Okay.

S
Steve Budorick
President & CEO

No.

D
David Rodgers

Steve, I guess, going back to the dispositions versus equity, I think in one of the press release, your comment was no need to really do equity. It sounded like maybe just in your comments earlier that that was maybe more the top of mind. I guess, how do you weigh that versus the remaining datacenter shells first and kind of saving equity for maybe a higher price in the future.

S
Steve Budorick
President & CEO

So, as Anthony pointed out, we’re trading today. Issuing equity on the ATM will be accretive to both the FFO and NAV. So, I think it’s a good – it’s a good choice for us and when we look at the value in those data center shells, kind of, like to think of them as a long-term capital reserve that we could tap in the future while we don’t have access to equity. So, I would not be surprise if you see us starting to drawn some capital with the ATM.

D
David Rodgers

Okay. Clear. Thanks for that. And then, I guess, maybe going back to the 2021 guidance, you use the term robust quite a bit in the development pipeline explains a lot of that. But maybe Steve or Anthony, as you look at 2020, it looks like maybe your guidance implies $0.05 ramp between the first quarter and the fourth quarter or something to that effect.

But how much of that ramp do you start to see in the second half of the year. How does that kind of play out in 2020 in your mind as a development comes online?

S
Steve Budorick
President & CEO

Yes. The ramp is really back end weighted. So, you’ll see some of it in the third quarter but the majority of it that will get to a point where it will represent a fair representation of what we will do in 2021 in the fourth quarter.

D
David Rodgers

Okay. Thank you.

Operator

Thank you. Our next question comes from Rich Anderson with SMBC.

R
Richard Anderson

Hey. Thanks. First, I want to say, I think the disclosure, I haven't said this before is like one of the most user friendly from my taste and I just wanted to mentioned that. I think you’ll do a good job with the disclosure quarterly. Tough on my tone or cartilage but that’s another thing.

But now – now with my questions, first one is you’ve kind of – I've seen the defense spending, right size a few years aback. And now it’s growing basically at a 2% per year. I'm wondering when you think about the long-term prognosis of your company, how do you – and once you kind of get through all this development, EBITDA coming on line next year and the year after, is the same-store growth profile going to be anything better than sort of whatever the defense budget is, or is there some way to stay at or above 3% when your key demand driver is only growing at 1% or 2%?

S
Steve Budorick
President & CEO

Well, our rental levels are not per se related to the defense budget percentage of increase. They’re really driven by the market in which those buildings operate. So I would bifurcate the thought of growth in budget from growth in rent. Rent is a local issue, driven by supply and demand.

We’ve – the last several years, we’ve typically rolled down 1% to 3% on a cash rent basis. What we have to remind people is we have embedded growth in our lease structures that, over a long period of time, can exceed the growth in the market rent, and that’s what really drives that 1% to 3% reset.

Our average escalators are 2.4% to 2.5%. So, on average, we take a one-year step-back, and then we progress forward with growth of the portfolio. But I think our portfolio and our rent structures, barring spiked – condition where we can spike rents, it’s a 2.5% growth portfolio.

D
David Rodgers

Yes. Okay. I mean, that’s fair. I get you. It’s a market-driven phenomenon, but at the end of the day, certainly the defense spending influences the market, one way or another.

S
Steve Budorick
President & CEO

Correct.

D
David Rodgers

In terms of same-store – I should know this. DC-6 is not in thesame store pool, correct?

S
Steve Budorick
President & CEO

Correct.

D
David Rodgers

What if it was? Like, what – I know there’s a lot going on there, but what would be the impact same store if it was included?

S
Steve Budorick
President & CEO

So the – yes, go ahead.

A
Anthony Mifsud
EVP & CFO

I know what the percentage impact would be but if you look at the disclosure that we put out last night, DC-6 generated a little over $15 million worth of cash NOI in 2019. Our guidance for that property that we also disclosed last time was between $9 million to $10 million for 2020. So that asset alone is forecasted to go down, call it $5.5 million at the midpoint in cash NOI, so off of the base of $250 million worth of same office cash NOI is probably 2% of that.

D
David Rodgers

Okay. Good…

S
Steve Budorick
President & CEO

And so that – if you're 2% down this year but then again you're going to get a reversal of that when we reestablish income in the vacancy we got back.

D
David Rodgers

Right. And Steve, I appreciate the candor on the core tenant there. Is the guidance assuming sort of a flat renewal or do you have something baked in where you have a downward movement on the rent at DC-6?

S
Steve Budorick
President & CEO

Well, we've budgeted conservatively. I’ll leave it at that but I don’t really want to negotiate that lease in public.

D
David Rodgers

All right. Last question for me is more of a modeling question. You have a kind of a funky straight line rent cadence, too. What would – sometimes up, sometimes down. I'm curious what should we be modeling for straight line rent in 2020 and beyond?

S
Steve Budorick
President & CEO

For 2020, I would model about $2.5 million to $3 million in the first three quarters and slightly higher in the fourth quarter as some of the leases commence from the new leasing from as well as some of the developments coming online. So, that total of about, call it, ended $12 million is probably a good run rate. Our cadence this year was impacted a little bit by some – one of the tenant contractions at DC-6…

D
David Rodgers

Okay.

S
Steve Budorick
President & CEO

Had a termination payment that showed up as a termination payment, but then it had a straight line write-off as a result of the contraction on that 1 full megawatt. So, it had some add things running through it this year.

D
David Rodgers

Okay, perfect. Thanks very much.

Operator

Thank you. Our next question comes from John Guinee with Stifel.

J
John Guinee
Stifel

Great. This is actually very impressive guidance because what you're saying, I think, is that it’s going to ramp in the second half about the same time DC-6 falls off. Is that fair to say?

S
Steve Budorick
President & CEO

Probably not exactly timed that way. It will ramp slightly in the third quarter. But by the fourth quarter, we’ll have the full impact of the decline in DC-6 as well as the ramp from the development place and services.

J
John Guinee
Stifel

Got you. Okay. So, sort of along the same lines, Steve, what's – is there any lease term fees or land sales in 2020? And what's the big picture on land? Do you still got about 290 million of land, which is a very big number relatively to most people this day and age.

S
Steve Budorick
President & CEO

Well, the land that we own, John, is associated with priority defense missions and we like (inaudible) holding that land to create the opportunity to expand as needed to support the missions we’re aligned with.

We cleaned up a lot of the smaller with the company at accumulated over the last couple of years, but we really don’t have much left to clean up.

A
Anthony Mifsud
EVP & CFO

And with respect to termination fees in 2020, we’re sort of budgeting our typical $1 million to $2 million.

J
John Guinee
Stifel

Yes. But no more land sales?

S
Steve Budorick
President & CEO

Not in a forecast for 2020. When you think about what we have left to sell in terms of nonstrategic land, it’s a small parcel off of Dorsey Road and our land up at North Gate. But that’s really it because we sold the farm in Frederick in the fourth quarter of last year.

J
John Guinee
Stifel

Okay. And then looking at 2020, you’re at – by the way, great disclosure, Stephanie. You’re in-place rents are $35.40, including $47 in Lackland in San Antonio and about $34.5 at Fort Meade BW Corridor. Those are pretty big numbers. Do you think you can renew these things at pretty much flat on a cash basis?

S
Steve Budorick
President & CEO

Yes, absolutely.

J
John Guinee
Stifel

Okay. Good enough. Thank you.

S
Steve Budorick
President & CEO

John, just so you know, the San Antonio rents, those are two of the buildings in our campus there that leases expire this year. Each are 125,000 square feet. And the rents that we disclosed are the full base rent, plus recoveries from the government. So those – that’s the reason they’re at such high rents, and that’s expenses that the government asks to operate the facility down there.

So we expect those leases to continue to increase, the typical increase in our government leases across the portfolio. If you pull those two buildings out, the average rent on the renewing space is about $33 a foot, which is in line with what we accomplished in the fourth quarter of this year.

J
John Guinee
Stifel

They don’t have a call center in that building, do they?

S
Steve Budorick
President & CEO

Not in – no, not in these buildings.

J
John Guinee
Stifel

All right. Thanks a lot.

S
Steve Budorick
President & CEO

Thank you.

Operator

Thank you. Our next question comes from Omotayo Okusanya with Mizuho.

O
Omotayo Okusanya
Mizuho

Yes. Good afternoon. So during this quarter then, very strong renewal rate but, again, negative cash rent spread. And I guess could you just talk a little bit more around the strategy of ensuring the renewals but kind of taking a little bit less rent? And exactly kind of why – I get the long-term NPV of that, but why we continue to kind of have that situation just given the market seems to be very strong?

S
Steve Budorick
President & CEO

Sure. So let’s just talk about fourth quarter lease. Is the 140,000-square-foot tenant rolling up for 10-year lease, will that rent grown at 2.5%, 3% for a decade? We knew that tenant at market and at the higher end of market, but the rent growth in the lease structure exceeded the market growth. Moreover, the tenant also needed more than 100% expansion. So, yes, we took a little bit of a hit on that rent for sure, but we doubled their lease capacity.

And importantly, they're reconfiguring their existing space and their expansion to serve a very high priority mission that – and we have a great confidence we’ll be in that building for a very long time. So – and then one last point, if you look at our full year mark-to-market, the change in actual rent is about $3.5 million that we lost. And if you look at the average rent that we put in place, it’s about $33 a foot. It equates about 115,000 square feet of non-renewal. So getting the renewal is far more important from an FFO standpoint than losing the tenant having no rent through downtime, and then ponying up, big tenant improvements to replace them. And as that lease (inaudible) we’ll again, grow with the same kind of structure.

O
Omotayo Okusanya
Mizuho

All right. Thank you.

Operator

Thank you. Our next question comes from Jamie Feldman with Bank of America.

J
Jamie Feldman
Bank of America

Great. Thank you. I mean, I know we've seen JEDI in the press and then other cloud contracts. Can you talk about what you're expecting to see in terms of demand in different sub markets from that. And then are they any other major initiatives that have been announced that have yet to kind of flow through base demand.

S
Steve Budorick
President & CEO

Well, no. both of those issues there's not a lot clarity. So, JEDI in federal court in the government accounting office field and there's no telling when that will get results.

And then with regards to Space Commanders. It just been no announcement of – in the firm selection for the command and the supporting elements that could be at multiple basis for space command. I think that will play out over the next 12 months.

J
Jamie Feldman
Bank of America

Okay. And then what about – there was another global cloud contract before…

S
Steve Budorick
President & CEO

Yes, there's a big one – Yes. Go ahead, Paul.

P
Paul Adkins
EVP & COO

There's another, almost the same size, if not slightly larger than JEDI that’s been out there. But has not been awarded yet. And, again, we have very little insight as to what impact on the market and don’t think in anyway it’s affecting the continuation of our data center show relationship and pipeline with our customer.

J
Jamie Feldman
Bank of America

Okay. And then speaking with data centers, can you just talk more about the two tenants that are giving back space? Where they're going and is there a risk you started to see that more in the portfolio?

S
Steve Budorick
President & CEO

So, we only had one tenant moved out of the building and that was the gaming platform that was not that successful. The rest of just reduced the load that they're leasing and their footprint. So, the good news is – if there is good news – we were occupied to a level where we had very little floor space – raised floor space to lease. So, we’ll now have a nice contiguous block to compete for the larger demands that have been in the market where we just not had enough capacity to fulfill them in the past.

J
Jamie Feldman
Bank of America

Do you think there's other tenants that have excess capacity as well or space this big have been fully utilized?

S
Steve Budorick
President & CEO

This is it. All the leases rolled from the original leasing.

J
Jamie Feldman
Bank of America

Okay.

S
Steve Budorick
President & CEO

We do have an exciting prospect that we’re going to say a lot about, but we hope to have some news in the next quarter or two.

J
Jamie Feldman
Bank of America

Okay. And then from the stick-up in demand, what kind of rent growth have you seen in some of these sub-markets? I guess Northern Virginia specifically but speaking that you can talk about some of your others.

S
Steve Budorick
President & CEO

Yes. Actually, Northern Virginia’s picture is pretty solid. There's been – our assets in Tysons Corner have seen roughly a 10% increase in rents over the last 12 months. So, it has to do with the location of where those assets are, walkable to metro and basically right at the foot of the Burrow, the new multi-million square foot mixed use. So, there's definitely rising rents both in Tysons as well as Herndon along the Silverline, just the amount of tech demand that’s emerging on the Tow Road and in Route 28 South Corridor.

So, the outlook of our assets in Chantelle and the vacancies is also improving and has significantly improved over the last three to four quarters. So, we have some vacancy out in Chantilly that we’re repositioning 70,000 square feet. So we’re cautiously optimistic about leasing. And so the Northern Virginia and Tysons/Herndon in particular is definitely a rapidly strengthening corridor.

J
Jamie Feldman
Bank of America

And then what about some of your other submarkets?

S
Steve Budorick
President & CEO

I would say – I mentioned PAX River as strengthening. We’re 95% leased and getting tighter, so we’re raising rents slightly down in PAX River. Columbia Gateway is steady. We continue to be 94% leased. We do have the nonrenewal coming up here. So I…

A
Anthony Mifsud
EVP & CFO

Each lease we sign in Huntsville is literally establishing a new market high.

S
Steve Budorick
President & CEO

Yes. So…

J
Jamie Feldman
Bank of America

Yes. What would you say Huntsville rents are like year-over-year?

S
Steve Budorick
President & CEO

So it’s very cheap to operate those buildings, but we’re getting rents in the $27, $28 range.

A
Anthony Mifsud
EVP & CFO

Right. And a couple of years ago, they were $22.

S
Steve Budorick
President & CEO

Expenses in Texas are down like $3.

J
Jamie Feldman
Bank of America

Those are gross rents, $27?

S
Steve Budorick
President & CEO

Yes.

J
Jamie Feldman
Bank of America

All right. Great. Thank you.

S
Steve Budorick
President & CEO

Thank you.

Operator

Thank you. [Operator Instructions] And our next question is from Chris Lucas with Capital One.

S
Steve Budorick
President & CEO

Hi, Chris.

C
Chris Lucas
Capital One

Hey. Good afternoon. Steve, just can you give us an update on the land position you have for the data center shelves? It looked like it ticked up. Just kind of curious as to what sort of volume of data center square footage you have sort of in inventory that is not currently under construction.

S
Steve Budorick
President & CEO

Yes. So we picked up one additional parcel to create capacity at one of our sites in the last quarter or so. And we have blank capacity for about 1 million square feet in three different campus locations, some of which we expect to get this year and the remaining next year.

C
Chris Lucas
Capital One

So has the customer changed at all their sort of pace of demand from you – for you from the data center sales?

S
Steve Budorick
President & CEO

No. I think overall the pace is steady. But remember, we had a really lumpy really year in the last year which contributed two million square feet development and achievement. We completed five leases. But our overall line of period of time, I think we have reached – it ‘s going to be right where it’s been.

C
Chris Lucas
Capital One

And then just on DC-6, I guess the question that always comes back is sort of why are you in the business of owning that kind of an asset given it’s multi-tenanted and it has not sort of core tenancy to it, at least not historically. Is there a view that at some point here, maybe you get lucky and get an additional lease on that this thing is something that would be monetized or has this become a longer-term hold for you?

S
Steve Budorick
President & CEO

Well, we certainly go on a sale when we don’t have maximum value and we have capacity to lease. We've got a major lease to renew. So we're going to operate through the next few years make an optionality thereafter.

C
Chris Lucas
Capital One

Okay. Great. Thank you.

Operator

Thank you. And I'm not showing any further questions in the queue. I would like to turn the call to Mr. Budorick for his final remarks.

S
Steve Budorick
President & CEO

Thank you all for joining our call today. We will be in our offices this afternoon so please coordinate through Stephanie if you’d like a follow-up call. Thank you very much.

Operator

Thank you for your participation to today’s Corporate Office Properties Trust fourth quarter and year-end 2019 conference call. This concludes the presentation. You may now disconnect. Good day.