Highwoods Properties, Inc.

Good morning and welcome to the Highwoods Properties Earnings Call. During the presentation, all participants will be in a listen-only mode. Afterwards, we'll conduct a question-and-answer session. At that time, if you have a question, please press the 1 followed by the 4 on your telephone. If at any time during the conference you need to reach an operator, please press star 0. As a reminder, this conference is being recorded Wednesday, April 28th. I would now like to turn the conference over to Brendan Majorana, Executive Vice President, Finance. Please go ahead.

Thank you, Operator, and good morning. Joining me on the call this morning are Ted Klink, our Chief Executive Officer, Brian Leary, our Chief Operating Officer, and Mark Mulhern, our Chief Financial Officer. As is our custom, today's prepared remarks have been posted on the Web. If any of you have not received yesterday's earnings release or supplemental, they're both available on the Investors section of our website at highwoods.com. On today's call, our review will include non-GAAP measures such as FFO, NOI, and EBITDAIR. Also, the release and supplemental include a reconciliation of these non-GAAP measures to the most directly comparable GAAP financial measures. Forward-looking statements made during today's call are subject to risks and uncertainties, which are discussed at length in our press releases as well as our SEC filings. As you know, actual events and results can differ materially from these forward-looking statements, and the company does not undertake a duty to update any forward-looking statements. One of the most significant factors that could cause actual outcomes to differ materially from our forward-looking statements is the ongoing adverse effect of the COVID-19 pandemic on our financial condition, operating results and cash flows, our customers, the real estate market in which we operate, the global economy, and the financial markets. The extent to which the pandemic impacts us and our customers will depend on future developments, which are highly uncertain and cannot be predicted with confidence, including the scope, severity, and duration of the pandemic and its ongoing impact on the U.S. economy and and potential changes in customer behavior, among others. With that, I'll now turn the call over to Ted.

Thanks, Brendan, and good morning. Let me start by saying our buildings, which have remained open since the start of the pandemic, are starting to see utilization rates rise, albeit modestly. We estimate portfolio utilization is around 30%, up about 5% from three months ago. Generally, small and medium-sized customers are returning to their offices faster than larger users, though we are now hearing customers of all sizes are planning to return to their offices over the next few months. As I mentioned last quarter, it remains difficult to predict the duration and the severity of the current recession and when leasing will return to pre-pandemic levels, but activity has definitely picked up compared to one quarter ago. During the first quarter, we signed 553,000 square feet of second-gen leases, including 247,000 square feet of new deals, roughly in line with our long-term average for new leases. The count of new deals signed was a healthy 42, also around our long-term average. In addition, we continue to see increased requests for proposals, showings, and space planning from prospects and there are several existing customers requesting renewals far in advance of their expirations. With the improving macro environment, particularly in our markets, we're optimistic going forward. Part of our optimism stems from the numerous companies who have announced job growth plans in our markets. Companies such as Oracle, Google, Fidelity, Microsoft, Robinhood, NTT, ServiceMaster, ADECO, Airbnb, and Biogen have all announced hiring plans in our markets in just the past three months. Some are migrating from other locations, and others are expanding. Plus, just this week, Apple announced plans to build out what will become its second largest campus on the East Coast, right here in Raleigh, where it will hire over 3,000 people with average salaries of $187,000 and invest over a billion dollars. Importantly, these employers are not planning major work-from-home initiatives in our markets. Rather, their major investments represent new workplaces that will bring employees together versus working from home. Rents on signed leases are naturally a little softer than they were pre-pandemic, but we believe are holding up reasonably well considering the challenges over the past year. With a 553,000 square feet of second-gen leases signed during the quarter, rents were modestly positive with 0.5% cash rent growth and 8.1% gap rent growth. On average, the movement in market rents is consistent with what we have anticipated, with net effective rents down 5% to 10% as a result of higher concessions. What we are seeing is a migration to higher-quality buildings, and in particular, small- to medium-sized users that are seeking space in the best buildings in the BBDs across our markets. Turning to our results, we delivered FFO of $0.91 per share in the first quarter. Our same-property cash NOI growth was also strong at 5.7 percent and 4.8 percent when excluding temporary rent deferral repayments. As expected, occupancy dipped in the first quarter to 89.6%, where we expect it to remain before improving late in the year. Our first quarter results and outlook for the remainder of the year give us confidence to increase our FFO outlook to $3.54 to $3.66 per share, up two cents per share at the midpoint. This outlook does not include any impact from the planned investment activities we announced last week. Our agreement to acquire the portfolio of office assets from preferred apartment communities and ultimately fund the acquisition by accelerating the sale of non-core assets. We will update our outlook when the acquisition closes. In addition to the increase in our FFO outlook, we also raised our same property cash NOI growth outlook to 3.5 to 5.25%, up nearly 40 basis points at the midpoint. Turning to investments, obviously the biggest investment news for our company is the agreement to acquire a portfolio of office assets from PAC for a total investment of $769 million and the corresponding acceleration of $500 to $600 million of non-core dispositions. We expect to close the PAC acquisition in the third quarter. As you know from our call last week, we're upbeat about this acquisition as it improves our portfolio quality, increases our long-term growth rate, and provides immediate and ongoing financial benefits. An important component of our strategy is to fund the acquisition primarily by selling non-core assets across several markets. Our plan is to sell 500 to 600 million by mid-2022, roughly half of which we expect to close by year-end 2021. Most of the buildings teed up for sale in 2021 are fully occupied single-tenant properties with long-weighted average lease terms, which we believe will garner strong reception from prospective buyers. These properties are already in the market and will be launched soon. We're not seeing any significant change in asset prices compared to pre-pandemic values for high-quality assets with limited near-term lease role in the BBDs of our markets. Job and population growth that regularly exceed national averages, combined with the maturation of our cities, continues to fuel interest in Sunbelt markets. In fact, institutional investors who have historically focused only on gateway markets are now focusing on our markets, validating what we've been saying for many years. Turning to development, we placed in service two 100% leased developments that have a combined value of $108 million and encompass 345,000 square feet. Our remaining pipeline is now $394 million and is 75% pre-leased. Our $285 million Asurion project in Nashville is on time and on budget and will deliver in the fourth quarter. At Virginia Springs II, our best-in-class project in the Brentwood DBD of Nashville, we signed a 30,000 square foot lease during the quarter, which brings pre-leasing to 32%, six quarters before projected stabilization. Finally, at our office project in Midtown Tampa, prospect activity is increasing as the overall mixed-use development is nearing completion. The Element and Aloft hotels opened before the Super Bowl. The REI Co-op opened in March. The Whole Foods, Shake Shack, and numerous other restaurants and retailers are scheduled to open in the coming months. And the apartments have begun leasing to new residents. Before I turn the call over to Brian, I'd like to reiterate our strong performance so far this year. To recap, in the first quarter, we collected over 99% of rents. signed 247,000 square feet of new leases, delivered two 100% lease development projects representing an investment of $108 million, and we maintained a strong balance sheet with leverage of 37% and a net debt to EBITDA ratio of 5.1 times. Given this performance, we have updated our 2021 per share FFO outlook with a two-set increase at the midpoint, and raised our same property cash NOI outlook nearly 40 basis points at the midpoint. We have limited lease rollover risk during the next few years, built-in growth from delivery of our development pipeline, recovering momentum in our markets, and improving activity within our own leasing pipeline. And we're excited to once again deploy our proven playbook of opportunistically using our balance sheet for attractive investments, such as a planned acquisition of a desirable and resilient portfolio of office assets from PAC, and then subsequently selling non-core assets with less upside to return our balance sheet to pre-acquisition metrics to reload our dry powder. In summary, we're confident that we have the ingredients in place to drive sustainable growth over the long term. Brian?