Brandywine Realty Trust

Good day and thank you for standing by. Welcome to the Brandywine Realty Trust second quarter 2023 earnings call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during the session, you will need to press star 1-1 on your telephone. You will then hear an automated message advising that your hand is raised. To withdraw your question, please press star 1-1 again. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Jerry Sweeney, President and CEO. Please go ahead.

Thank you very much. Good morning, everyone, and thank you all for participating in our second quarter 2023 earnings call. On today's call with me are George Johnstone, our Executive Vice President of Operations, Dan Palazzo, our Senior Vice President and Chief Accounting Officer, and Tom Wirth, our Executive Vice President. Chief Financial Officer. Prior to beginning, certain information discussed during our call may constitute forward-looking statements within the meaning of the Federal Securities Law. Although we believe estimates reflected in these statements are based on reasonable assumptions, we cannot give assurances that the anticipated results will be achieved. For further information on facts that could impact our anticipated results, please reference our press release as well as our most recent annual and quarterly reports that we follow with the SEC. During our prepared comments, they will review our second quarter results and progress on 2023 business plan. Tom will then review second quarter financial results and frame out the key assumptions driving our 23 guidance for the balance of the year. And after that, Dan, George, Tom, and I are certainly available for any questions. So moving to our prepared comments, the second quarter saw continued leasing momentum throughout our portfolio. During the quarter, we executed 568,000 square feet of leases, including 177,000 square feet of new leases within our wholly owned portfolio. Our joint venture portfolio achieved a very strong 401,000 square feet of lease executions, including 139,000 square feet of new leases. The combined activity totaled 969,000 square feet And as we showed on page one of our SIP, these are our highest combined leasing volumes for the past four quarters. The operating metrics were strong as well. For the second quarter, we posted rental rate mark to market at 17.6% on a gap basis and 5.8% on a gap basis. As we look at the balance of the year, our mark to market will vary by region. with CBD Philadelphia at a 17% cash and 30% gap rental rate increase. The PA suburbs will be a 2% cash positive and 9% gap positive. Our mark to markets in Austin, we anticipate being negative on both a cash and a gap basis, given the current market conditions. This quarter, we did have 18,000 square feet of positive absorption. We currently stand at 89.4% occupied and 91.1% leased based on the 224,000 square feet we have for lease commencements. More importantly, as we view our portfolio, our core marks of Philadelphia CBD, University City, the Pennsylvania suburbs, and Austin, which comprise about 94% of our NOI, are 91.2% occupied and 92.7% leased. During the quarter, both our GAAP and cash same store outperformed our business plan ranges. The second quarter capital costs were also in line with our business plan ranges. And tenant retention came in at 71% above the top end of our full year forecast, but we are maintaining our existing range based on forecast activity between 49 to 51%. Spec revenue range remains 17 to $19 million with 16.1 million or 89% at the midpoint already achieved. The speculative revenue range represents approximately 1.1 million square feet of which 787,000 square feet or 72% is already completed. Our operating platform is solid with a stable outlook. We have further reduced our forward rollover exposure through 24 to an average of 6.6% and through 26 to an average annual rate of 7.3%. We are definitely seeing a pickup in activity. Conversion to lease execution remains frustratingly slow, but overall velocity, the starting point to any leasing cycle, continues to improve. several key points we'd like to highlight for you. One is the quality curve thesis remains intact, as our fiscal tour volume has been very encouraging. Second quarter physical tours exceeded the first quarter by 5%, exceeded our 2022 quarterly average by 47%, and also exceeded pre-pandemic levels by a significant margin as well. On a wholly owned basis, during the second quarter, 118,000 square feet of our new leasing activity, where 67% of those leases were a result of the flight to quality. We also saw tenant expansions continue to outweigh tenant contractions during the quarter. I think as further evidence of the emerging market recovery, our total leasing portfolio is up 21% from last quarter and stands at 3.5 million square feet. And that excludes The 1.3 million square feet we have in our joint venture pipeline, which is also up from last quarter by over 200,000 square feet. The wholly owned pipeline is broken down between 1.3 million square feet in our wholly owned operating portfolio and 2.2 million square feet on our development projects, which again, like the joint venture pipeline, is up over 200,000 square feet from last quarter. The 1.3 million square foot existing portfolio pipeline includes approximately 160,000 square feet in advanced stages of lease negotiations. Also, in that pipeline, 31% of our operating portfolio new deals are prospects looking to move up the quality curve. As we noted on page one of our supplemental package, we did receive notice during the quarter from the state of Texas that they had terminated their lease at our Uptown ATX campus effective August 31st, 2023. The state currently occupies 100% of one of our buildings there that had an anticipated lease expiration date of October 26th. The state has relocated their employees into a state-owned building. We are still assessing if that notice was provided in accordance with the requirements of the lease. And while we continue to make that assessment, to determine if we're entitled to additional rent or remedies, we have conservatively assumed that we will not receive any rent after August and have removed that income from our FFO range. The overall impact of the early termination will be over $14 million in terms of reduction in total forecasted rent over the remaining lease term, and that includes about $1.5 million in 2023, in $4.4 million in 2024. In addition, we'll also need to write off approximately $370,000 in straight-line rent over that 90-day period. And then to the extent that it is ultimately determined that that lease was effectively terminated, in accordance with our uptown ATX master plan, we would plan on taking that building out of service similar as we did to the 905 building, as it would not be available for any releasing activity consistent with our master plan development program. Turning to our EBITDA, our second quarter net debt to EBITDA increased to 7.6 times, which is up from 7.4 from the first quarter, primarily due to increased development spend of about $75 million. However, as occupancy and NOI increases during the balance of 23, We anticipate this ratio will decrease to our business plan range with asset sales taking place in the second half of the year and our targeted $100 million reduction in JV debt attribution also occurring by the end of the fourth quarter. As we did note in the SIP, this ratio has been higher due to development spend and debt attribution from joint ventures. Based upon our development pipeline investment at quarter end, we have $338 million of capital invested in $93 million of JV debt, generating really no meaningful NOI at this point. And if we remove that investment from our 7.6 metric, our leverage would be 6.4 times well within our core portfolio range. On the liquidity front, we also made solid progress on both our joint venture debt maturities and development financing during the quarter. In June, Our Commerce Square joint venture closed a five-year, $220 million secured financing with a 7.875% coupon, which replaced a $204 million mortgage loan. Given the state of the financing market, the rate was higher than we initially anticipated earlier in the year, but that loan had some flexibility that is open for prepayment after June of 25, and it does provide additional proceeds to fund current and future leasing costs. In connection with that refinancing, we did make a $50 million contribution to the venture to both fund closing costs, redeem a portion of our preferred equity partners' equity interest, and pay down all accrued but unpaid partner preferred dividends to put that joint venture on very solid financial footing. Substantive quarter end, our MAP joint venture, is finalizing a short-term extension on our $180 million loan from the current lender that we will take that maturity through October 1st of 23. That extension will provide additional time to work on a recapitalization strategy with both that leasehold lender and the fee owner of the properties. We are also in advanced discussions on a construction loan on our 155 King of Prussia Road project, and we anticipate that loan will close in August. On our other joint operating joint ventures, we do have $70 million of overall investment, with $620 million of non-recourse mortgages maturing next year before any extension options or exercise. Of that $620 million, about $112 million is attributable to Brandywine, as our ownership stake ranged between 15% and 20%. We are working very closely with all of our partners and our lenders on loan extensions and refinancing efforts and would expect to report additional progress on these non-recourse financings in the coming quarters. Currently, our consolidated debt is 93% fixed at 5.03%. We have no consolidated debt matures until our October 24 bond, $350 million bond. We also have no outstanding balance at the end of the quarter on our $600 million unsecured line of credit, and we have approximately $32 million of unrestricted cash on our balance sheet. As we noted on page 13 of our SIP, based on our projected development spend, our business plan, after fully funding remaining development spend, all TI and leasing costs, we project in Toml Amplify that we will have full availability on that $600 million line of credit by year end 2023. For the quarter, at our guidance midpoint, our $0.19 per share dividend per quarter dividend represented a 66% FFO payout ratio and an 84% CAD payout ratio. So another great quarter controlling capital spend. As such, as we noted in the SIF, we're changing our CAD range to 90% to 100%. down from 95 to 105, and we anticipate our coverage to be at the low end of the new range. As I'll talk about in a few moments, our business plan projects 125 million of sales that will generate some additional liquidity as well as some gains. Certainly, as our business plan progresses, the board will closely monitor capital market conditions, both company and market overall liquidity, sale activity progress, and our dividend payout levels as we assess the dividend going forward. Looking at our development pipeline, our wholly owned development pipeline aggregates $302 million of costs and is 30% life science and 70% office. These wholly owned developments are 83% leased with the remaining funding requirement of $51 million, which is built into our capital plan. The majority of that spend is for tenant improvement and leasing commission costs that would only be spent attendant to lease executions. Our joint venture developments have a brandywine share of $512 million. At full cost, this pipeline is 32% residential, 38% life science, and 30% office. As we noted in the SIPP, Higher interest costs than originally contemplated will impact our total costs. And based on the current SOFR curve, we currently estimate the cost increase due to higher rates will approximate $23 million. Based on the preferred structure of those joint venture developments, it's anticipated that Brandywine will likely be required to fund those additional costs. And we noted those increases on the development page in the set. Further, as I stated last quarter as well, stating the obvious, given the volatility in capital markets, other than fully leased build-to-suit opportunities, future development starts are on hold, pending more leasing on our existing pipeline and more clarity on the cost of both debt capital and cap rates. Looking ahead, given the mixed-use nature of our master plan communities, primarily at Schuylkill Yards and Uptown ATX, As we identified on page 14 of the SIP, our expected forward product pipeline mix is 27% life science, 42% residential, 22% office, and 9% support retail, entertainment, and hospitality. And also, as we identified back on page six of the SIP, our objective is to grow our life science platform to over 23% of our square footage based on land we currently own or control and approvals currently in place. Just a quick review of specific projects on page seven. 2340 Dulles Corner is 92% pre-leased with $23 million of remaining funding. 250 King of Prussia Road remains 53% leased with $20 million of remaining funding. That 53% lease did not change quarter over quarter. But we do have a strong pipeline of about 200,000 square feet of deals in that pipeline, of which 100% of that pipeline is life science. Based upon that pipeline, we did slide the stabilization date of that project by one quarter. In addition, when you take a look at our overall pipeline development activity, that pipeline of our development projects is up 10% quarter over quarter. And as I mentioned earlier, stands at 2.2 million square feet. Lease executions, even with the pipeline building, have been slow in coming. We have a number of leases in various stages of negotiation and are working hard to get them across the finish line. Given this dynamic, we did slide the stabilization date on 30-25 JFK by one quarter. And given the market conditions and pipeline activity in Austin, did slide the one uptown office component by two quarters in their stabilization date. On 3025, to touch on that, we have a current active pipeline that's up slightly from last quarter for the life science and office components. We've done an amazing number of tours through the project. That tour activity continues. The delivery of the first block of residential units is underway this quarter. with a good level of activity since our marketing launched several weeks ago. Our 3151 Life Science project is under construction. SEAL is up to the fifth level. We have a leasing pipeline there of almost 400,000 square feet, and all systems go there in terms of the number of hardhat tours we're doing as well. Turning to Austin, our uptown ATX Block A construction From a construction standpoint, it's on time and on budget. On the office component, our leasing pipeline stands at 721,000 square feet, which is up 180,000 square feet from last quarter. That pipeline includes a mix of prospects ranging from as low as 5,000 square feet to as large as 200,000 square feet. So as that curtain wall in the building is going up and the lobby finishes are being completed, We're seeing an uptick in activity there as well. Our next phase of B-Labs on the ninth floor of Sears Center is well underway. This conversion to graduate lab space is now 66% released. The full conversion will be completed in the first quarter of next year. The total costs which are built into our capital plan are $20 million, and we expect a return on cost there of 11%. Just a quick look at the sales market. There is no question that the sales market has been impacted by a challenging rate environment, a pullback by lenders on commercial real estate financing, particularly office, and negative macro overtones on the office sector itself. In spite of this, based on our pre-marketing efforts, we're still maintaining our $100 to $125 million sale target. As we originally noted when we announced our 23 business plan, We did anticipate those sales occurring in the second half of the year. We do have about $200 million of properties in the market for sale now. Those properties are in our Met DC and Pennsylvania suburban markets. We also have several joint venture properties on the market at the same time as well. This quarter, we did gain certainty on the sale of an asset in Austin and expect that $53 million sale to close in the next several weeks. We have several other properties moving through contract negotiations, a couple of which may necessitate some level of short-term seller financing. In general, we continue to see a good list of bidders. The primary challenge being getting acquisition financing at both a cost and a loan to value range that makes sense for the buyer. But we continue to work with our buyers and their potential lenders to try and come up with a good solution. We do plan to continue to sell non-core land parcels during the balance of the year. And on the joint venture front, as I alluded to earlier, about 20% of our total debt is coming from our JVs through debt attribution. We do plan to recapitalize several of these JVs during the second half of 23 with the goal to reduce our attributed debt from our operating JVs by 24% or approximately $100 million by the end of the year. that will certainly be additive to improving our EBITDA multiple. Dollars generated from those activities will be used to fund our remaining development pipeline commitments and obviously reduce leverage and improve the company's liquidity. With those comments, I'll now turn it over to Tom to provide an overview of our financial results.

Thank you, Jerry, and good morning. Our first quarter net loss totaled 12.9 million or 8 cents per share. And FFO totaled $49.6 million, or $0.29 per diluted share, and $0.02 above consensus estimates. Some general observations regarding our second quarter results. Being above consensus, we had several moving pieces and several variances compared to our first call guidance. Management and leasing and development fees totaled $3.7 million, or $1.3 million above our first quarter projections. primarily due to higher third-party lease commission income. Our portfolio operating income totaled $75 million, $1 million below our $76 million forecast due to some leasing commencing slightly behind budget. FFO contribution from our joint ventures totaled $4.5 million and was $1.3 million above our forecast, primarily due to lower interest expense from the delay in completing the Commerce Square Mortgage to June of 23. Termination and other income totaled $1.4 million and was $900,000 above our first quarter forecast. We anticipate the second quarter result will be a good run rate going forward. We also forecasted one land sale to generate $600,000 gain and that's been delayed until the third quarter. Our second quarter debt service and interest coverage ratios were 2.9 and 2.8 respectively. slightly better than our forecast, and net debt to GAV was 41.7%. Our second quarter annualized core net debt to EBITDA was 6.5 times and within our 2023 range, and our annual combined net debt to EBITDA was 7.6, three-tenths of a turn above our guidance. However, we anticipate the metric to improve with higher EBITDA and the forecasted asset sales. Regarding the portfolio, as highlighted last quarter, 405 Colorado is now included in our core portfolio for the second quarter. As Jerry outlined, we continue to make some progress on our financing front. As anticipated, in June, our joint venture refinanced the Commerce Square property with a five-year first mortgage at a rate of 7.75%. The mortgage totaled $220 million and replaces the previous $204 million mortgage maturity, providing $16 million of good news capital for existing and forecasted leasing activity. While the rate is above our forecasted rate, the CMBS market was open, which allowed us to complete this refinancing despite the recent bank failures. While we were successful in completing the Commerce Square financing, we continue to see challenges in the financing market for office properties. The traditional banks are allocating little or no money to new originations for new office loans, except for certain situations such as fully leased bill-to-sue properties and good relationships with the sponsor. We think some lenders will be flexible and provide shorter-term loan extensions on performing portfolios with good sponsorships. Regarding our joint venture debt, we are working with our partners on the 2024 maturities to possibly extend the current maturity dates with existing lenders. We're also considering some asset sales within those portfolios to lower leverage, and we have commenced marketing efforts with new lenders on a couple of joint venture properties. We anticipate executing a short-term extension on our $100 million first mortgage on our MAP portfolio. As you know, we are a 50% partner in the joint venture portfolio, which owns a leasehold position, a portfolio of assets. And we are working with the lender to recapitalize that loan, along with talking to the joint venture lender, as well as the ground owner. Regarding 23 guidance, we have narrowed our guidance by 4 cents, maintaining a midpoint of 116. And the range is mainly attributable to the variability of our asset sales program, both in terms of volume and timing, as well as our projected land sales and related gains. Our 2023 business plan includes to have the following assumptions, 100 to 125 million of second half sales with dilutions not being significant, no new property acquisitions, no anticipated ATM or share buyback activity, and the share count is estimated to be 174 million diluted shares. Looking more closely at the third quarter of 2023, we have the following general assumptions. Property level operating income will total $77 million and be $2 million ahead of the second quarter, primarily due to increased occupancy at 405 Colorado, 250 King of Prussia Road, and the balance of the portfolio. Our FFO contribution from our unconsolidated joint ventures will total $1.5 million for the third quarter, The sequential decrease is primarily due to higher interest rate expense, primarily Commerce Squares refinancing, and then higher interest rates on our MAP-JV as a very favorable swap matures on August 1st, and a slightly negative impact for the commencing of our residential operations. Our G&A expense will decrease from our second quarter to $8 million due to reduced restricted share compensations. Our interest expense, including deferred financing costs, will approximate $26 million, and capitalized interest will approximate $3 million. Termination fee and other income will total $1.5 million for the quarter. Net management and leasing development fees will be $3.4 million, as we continue to forecast higher third-party lease commission income. Land gain and sales and tax provision will net to $1 million, dollar gain representing two forecasted land sales. As we look at our capital plan, as Jerry mentioned, we experienced better forecasted CAD payout ratio of 84%, primarily due to leasing capital costs being below our business plan range. Since our first half CAD payout rate was better than forecasted, we have adjusted our annual 2023 CAD range from 95 to 105% to 90 to 100%. Our capital plan for the second half of the year is very straightforward and totals 220 million. More importantly, we continue to prioritize liquidity and still project no borrowings on our $600 million unsecured line of credit at the end of 2023. Uses for the balance of 23 are comprised of $90 million of development and redevelopment projects, 66 million of common dividends, 10 million of revenue create capital, 30 million of revenue, sorry, 10 million of revenue maintain capital, 30 million dollars of revenue create capital, and 24 million equity contributions to our joint ventures. Primary sources are 105 million of cash after interest payments, 10 million projected on our construction loan for 155 King of Crusher Road, $15 million increase in cash will be the result, and we do have $120 million of land in other property sales. Based on this capital plan outlined above, we project having full line available at the end of the year. We also project that our net debt to EBITDA will fall at the upper end of our range of 7.0 to 7.3, and then the minimal projected income by year end on our development projects. Our debt to GAV will be in the 40 to 42 range, and our core net debt to EBITDA range of 62 to 65 by the end of the year, which excludes our joint ventures and our active development projects. We continue to believe this core leverage metric reflects the leverage of our core portfolio and eliminates more highly leveraged joint ventures and our unstabilized development and redevelopment projects. We believe these ratios are elevated due to our growing development pipeline, and believe that once these developments are stabilized, our leverage will decrease back towards the core leverage ratio. We anticipate our debt service and interest coverage ratios to approximate 2.7, which represents a sequential decrease in our coverage ratios due to our projected development spend and higher interest rates. I now turn the call back over to Jared. Thanks, Tom.