Washington Real Estate Investment Trust

Welcome to the Washington Real Estate Investment Trust fourth quarter earnings conference call. As a reminder, today's call is being recorded. Before turning over the call 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.

Thank you and good morning, everyone. 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 certain of these risks in our SEC filings. Reconciliations of the GAAP and non-GAAP financial measures discussed on this call are available in 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 Riffey, 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 will turn the call over to Paul.

Thank you, and good morning, everyone, and thanks for joining us today.

I hope you and your families are keeping safe and well. Last evening, we released our fourth quarter earnings results, which rounded out a year dedicated to stabilizing our operating fundamentals and maintaining and preserving future growth drivers against the backdrop of one of the most challenging operating environments in recent history. Thanks to the dedication shown by the Wash Reef team, the strong credit profile of our portfolio, and the resilience of the Washington Metro region, We continue to successfully navigate through the pandemic and expect to enter the vaccine led recovery phase with a stronger balance sheet, a reaffirmed strategic direction, and a portfolio that is positioned for growth as demand returns. With the vaccine rollout that commenced toward the end of last year, we are seeing signs of increased activity across both our multifamily and commercial portfolios. For multifamily, Net applications were up 30% year-over-year in January for our urban properties, and year-to-date trends already reflect improvement in occupancy as we head into the spring leasing season. We have focused on growing occupancy to begin reducing concessions and increasing rents. Currently, multifamily occupancy is over 95%, excluding our two rent control properties where we are not emphasizing occupancy gains as they offer limited rent growth potential in the current environment. Multifamily credit performance continues to remain very strong at both our urban and suburban properties and has consistently outperformed the national average by a wide margin over the past year. While multifamily lease rates declined 3.6% and 5.7% on a gross and effective blended basis during the fourth quarter, we believe that December represented the height of rental rate pressure as lease rate changes improved in January on a month-over-month basis and concessions declined. Furthermore, new and renewal lease executions with commencement dates in February and March indicate continued improvement in effective lease rate growth. Our renewal rates were strong during the fourth quarter, and that strength has continued into 2021. Both urban and suburban renewal lease rate growth increased by 90 basis points during the fourth quarter to 1.7% and 3.1%, respectively, and those renewal rate increases remained stable through January. The continued pricing power that we are experiencing at our suburban assets combined with the ability to influence lease terms with concessions, has allowed us to roll more leases into future spring and summer lease maturities at our newest multifamily assets. As a result of the strategic management of our lease expiration schedule, only 20% of our leases expired during the fourth quarter and only 17% expire in the first quarter. We think December marked a low point for pricing given the improving year-to-date trends that we are seeing. We believe the vaccine-led recovery will lead to an inflection in 2021, heading into 2022. However, it is too early to know the precise timing and extent of this benefit in 2021. Approximately two-thirds of our multifamily leases expire in the stronger spring and summer months, and we anticipate that these leases will benefit from an increased number of vaccinations. In the meantime, we plan to continue to focus on building occupancy and maximizing our retention rates, which continue to outperform our region. Moving on to commercial, our credit performance continues to hold up very well, as Steve will discuss in greater detail, and we expect that the vast majority of our commercial credit losses are behind us. Our forecast indicates that commercial occupancy could increase by nearly 4% by year end, although there is still too much uncertainty to accurately forecast occupancy gains over the course of the year. However, our outlook is improving, and we are seeing signs that tenant decision-making is accelerating. Leasing activity picked up significantly in January, and active Long-term renewal discussions with significant tenants are progressing well. For example, in January, we received a signed LOI from Sunrise Senior Living to renew their space at Silver Line, which currently represents approximately 1.5% of office revenue. We also have signed LOIs with B. Riley and an accredited third party at Arlington Tower. B Riley has a termination option in December, 2022, and we'll exercise this option on only one of its three floors, which allow the third party to enter into a sublease for this entire floor through 2022, and then enter into a direct lease with us through 2029. B Riley will extend the balance of their premises through 2026. Additionally, In January, we signed a 45,000-square-foot five-year lease renewal with Giant Food at Tacoma Park, which represents our second-largest retail tenant and over 6% of other rental income. We also signed a 15,000-square-foot 10-year lease renewal with our grocery anchor at Montrose Shopping Center. These two lease renewals represent approximately 10% of our retail rental income. Heading into the recovery, our office portfolio offers substantial growth potential, given that much of the available space is high quality, move-in ready, and located in our best assets. We have a weighted average lease term of approximately five years, limited near-term lease expirations, and our price points and floor layouts are well-positioned for our market. The average tenant size in our market and the space requirement that sees the most volume is about 4,000 to 6,000 square feet, which is both our median tenant size and the tenant size with the highest demand in the current environment. We have zero exposure to co-working operators, no co-working tenants, and no single tenant risk. We continue to see good traction with SpacePlus, which is our proprietary flexible office program that is managed in-house with spaces strategically located in our portfolio. SpacePlus represents approximately 3% of our office portfolio and is very well positioned once decision-making picks up. SpacePlus is move-in ready space that is private, not co-working space, that allows tenants to control the health and safety of their environment and it offers more flexibility than traditional leases. Additionally, SpacePlus offers premium pricing compared to traditional leases and on average has much longer terms than co-working providers achieve, allowing us to participate in the increasing demand for flexible office space while preserving our weighted average lease term and thus our opportunities for future portfolio transformation. While uncertainty about the timing and pace of reopening remains, The resilience of our region provides relative stability compared to other major metropolitan areas. Since the onset of the pandemic, the Washington Metro has benefited from fewer job losses than other major metropolitan areas and has already gained back roughly 180,000 jobs or 56% of the jobs lost from February to May. Additionally, Those job losses have been largely contained to non-office using sectors as office using sector employment in the Washington Metro market declined only 2% year over year in 2020, according to BLS data. As we continue down the path toward a vaccine-driven recovery, our region has several unique catalysts to accelerate the rebound in demand. The growing high-tech labor pool Federal investments in cloud, cyber, and artificial intelligence, as well as affordable office rents, continue to drive information sector leasing activity in Northern Virginia. Amazon continues to expand their regional office footprint and remains on pace with HQ2 hiring. Over the course of 2020, the tech sector contributed 36% of total leasing volume, and more than 800,000 square feet of occupancy growth in Northern Virginia, according to CBRE. Tech-driven leasing demand drove positive absorption for the sector in the fourth quarter, and that momentum has continued into January with the announcement of Microsoft's new 180,000 square foot sales headquarters in Roslyn, next door to Arlington Tower, and strategically located at the nexus of four bridges five major road networks, and three metro lines, and offers easy access to the Pentagon and downtown D.C. Government contractor awards should remain at record highs in 2021, and the cloud market alone is forecasted to grow 9% to 10% annually over the next three years, according to JLL. Northern Virginia's diversification over the past decade, blending government contracting with direct federal leasing, technology sector growth, investments in higher education, and medicine have set it up for a quicker than average office market recovery in 2021 and beyond, according to Newmark. With the arrival of our newly aligned administration, the Washington metro market is positioned to benefit from a surge in activity. Historically, alignment between the executive and legislative branches has resulted in a higher number of legislative bills passed with increased lobbying and legal presence in D.C. to influence, write, and then implement legislation, resulting in higher absorption in the D.C. office market. The historical correlation to office absorption in years with aligned branches of the government is very strong. Additionally, the election should have a positive effect on our local partner market and may even accelerate a shift back into the city for renters. Data analyzed by CBRE over the past six presidential elections indicates that, on average, DC metro rent growth was more than double the US average during the six months subsequent to each election. Furthermore, market level data indicates that urban submarkets, which have underperformed suburban areas during this downturn, will likely benefit the most from the boost of activity associated with the presidential election. Again, these are catalysts historically unique to the Washington metro area as opposed to other gateway metropolitan markets. It has been an eventful and unexpected year, and alongside the challenges that we have successfully navigated, we continue to make progress on de-risking and improving our portfolio. This pandemic has reaffirmed our commitment to and the direction of our capital allocation strategy as part of the wash rate transformation. Following our fourth quarter office asset sales and including stabilized income from Trove, multifamily comprises 53% of our NOI while office and retail comprise 41% and 6% respectively. And with that, I will turn it over to Steve to review our balance sheet, collection performance, fourth quarter and full year results, and our outlook.

Thank you, Paul, and good morning, everyone.

I'll start off today by reviewing the balance sheet before discussing our fourth quarter and full year financial performance and future outlook. In the midst of the uncertainty that dominated the capital markets during 2020, we took steps to strengthen our balance sheet and increase our operational flexibility. which has put us in a stronger position as we head towards the recovery phase of the pandemic. First, we made sure that we had ample liquidity at the onset of the pandemic by entering into a $150 million one-year term one with extension rights. Second, we closed and funded in December a $350 million 10-year green bond at 3.44%, and we used the proceeds to pay off the new $150 million term loan and our other $150 million term loan that was scheduled to expire in March of 2021. These actions addressed all of our debt maturities through the fourth quarter of 2022 and turned out our maturity ladder. Third, we fully unencumbered the balance sheet, allowing us optimal flexibility as we continue to allocate capital to further multifamily growth. Finally, we increased our balance sheet flexibility heading into 2021 with our strategic office asset sales and issued some equity through the ATM program to be ready to continue our capital allocation when visibility into the recovery is more clear. In that regard, at year end, we only had $42 million outstanding on our fully available $700 million line of credit, underscoring that we increased our liquidity further during the pandemic. All of our covenant ratios remained strong and we maintained our BAA2 and triple B flat investment grade ratings with Moody's and S&P. Now I'll turn to our cash collection performance. Our multifamily collections continue to be excellent, tracking well above national averages. We collected 99% of cash in contractual rents during the fourth quarter, and our rent collections through January are in line with our quarterly trend. We've offered deferred payment programs to residents who've been financially impacted by the pandemic in only a very small amount, about $15,000, a deferred multifamily rent remains outstanding. Our office and retail collections for the fourth quarter improved sequentially, continuing the trend of steady quarterly improvement since the beginning of the pandemic. We collected 99% of cash rents from office tenants during the fourth quarter and over 99% of contractual rents, which excludes rent that has been deferred. We deferred rent associated with office tenants, and that amount was $1 million as of January 31st. and we expect to collect approximately 75% of that rent that was deferred by year end with the balance thereafter. We collected 94% of retail cash rents in the fourth quarter, and excluding deferred rent, our collection rate was approximately 97%. Net deferred rent associated with retail tenants was $1 million as of January 31st, 2021, and we expect to collect 40% of that rent by year end. Overall, we've only deferred a small portion of rent, and the expected cumulative cash NOI impact is less than a penny per share through year-round 2021. Now turning to our financial performance, net loss for 2020 was $15.7 million or 20 cents per diluted share compared to net income of $383.6 million or $4.75 per diluted share the prior year. The largest decrease is primarily due to the net gains on asset sales that were executed during 2019 compared to small losses recorded on sales in 2020. Core FFO of $1.45 per diluted share for full year 2020 was in line with the midpoint of our guidance range. On a year-over-year basis, core FFO per share declined by 26 cents due to the strategic transactions completed during 2019, as well as the impact of the pandemic on leasing activity, parking income, and credit losses. Overall, same-store NOI declined 5.4% year-over-year on a gap basis and 4.9% on a cash basis for the full year 2020. Multifamily same-store NOI declined 0.9% and 1% on a gap in cash basis for the year, and 7.2% and 7.3% on a gap in cash basis for the fourth quarter. The full year and fourth quarter declines were primarily driven by the year-over-year new lease rate declines at our urban assets, which comprised 100% of our same-store portfolio during 2020. The impact of lease rate declines has an outsized impact on our same-store results during the fourth quarter, as the impact of urban flight on overall demand levels had a greater impact on lease rates during the winter months that were weaker. Our suburban properties, where lease rate performance has been the best, will be included in the same-store results in 2021. During the fourth quarter, we focused on maintaining occupancy, and it ended at 94.3%, excluding TRO. Office same-store NOI declined 7.1% and 6.4% on a gap in cash basis for the year, and 12.7% on the GAAP and cash basis for the fourth quarter. The full year and fourth quarter declines were primarily driven by lower parking income, no move-outs, and increased credit losses, reflected in the write-off of two isolated and specific receivables and the more significant lease intangibles related to COVID-19. Thanks to our GAAP NOI decrease for our remaining retail centers, which we report as other, by $2.1 and $1.8 million on the GAAP and cash basis for the year, $0.7 million on the GAAP and cash basis for the fourth quarter. The full year and fourth quarter declines were primarily driven by credit losses related to COVID-19, which increased in the fourth quarter, primarily due to the write-off of intangibles related to two leases. Overall, commercial credit losses reduced our core FFO by approximately two cents per share this quarter, which is higher than the third quarter impact and in line with the second quarter. However, The sequential increase this quarter was primarily driven by the write-off of intangibles related to the aforementioned leases, which are not indicative of change in the credit performance of our overall portfolio, which remains very strong and stable. Over 60% of the credit losses related to these leases were non-cash straight-line rent write-offs, as our cash losses were relatively flat on a sequential basis. We believe that we've addressed the credit risks that are apparent at this point in time. and we anticipate steady improvement in credit performance over the coming year. Turning to leasing activity for the fourth quarter and full year, we signed approximately 9,000 square feet of new office leases and 22,000 square feet of office renewals in the fourth quarter. Office rental rates declined 5% on a gap and 9% on a cash basis for new office leases, but increased 22% on a gap basis and 8% on a cash basis for office renewals. More importantly in December, The exchange of proposals and the negotiation of lease renewals picked up substantially, and that momentum has carried into January. Earlier, Paul gave color on two of our largest renewals and extensions at Silver Line Center and on the tower, for example. Retail signed a partially 8,000 square feet of new leases and 3,000 square feet of renewals during the quarter and achieved rental rate increases of 13% on a gap basis for new retail leases and 3% on a gap basis for retail renewals. And as Paul referenced, We signed approximately 60,000 square feet of retail leases representing 10% of our retail portfolio revenues since year end. Now turning to our outlook. With the development and rollout of vaccine programs and our growth prospects heading into 2021 have improved, but the timing of when we will reach an inflection point is still unknown. Therefore, the extent that vaccine rollouts will offset the pandemic in 2021 prior to the inflection is uncertain. We do, however, believe we will see rapid improvement once we get to that point, and that it will carry over into 2022, given that the embedded growth drivers that we had prior to the pandemic are still intact. While we believe the most disruptive part of the pandemic is behind us, the timing and pace of the economy reopening still remains uncertain, and we're not ready to forecast with a sufficient degree of accuracy the timing and extent of the recovery over the course of the full year. This close to quarter end, we have enough visibility to provide FFO guidance for the first quarter. However, we do not have enough visibility to provide FFO guidance for the full year. We are, however, providing full year guidance ranges for the financial performance metrics that we believe we are able to forecast with a reasonable degree of accuracy. While we're not calling the timing of and therefore the full impact of the pandemic prior to the anticipated inflection point, we will discuss the areas of our portfolio that we would expect to be the most responsive and to offer the most upside growth potential once the economy resumes. Starting with multifamily, Total operating portfolio occupancy ended the year at 94.3%, which is in line with our expectations and represents a relatively stable trend since the end of the second quarter. On a positive note, as Paul mentioned, we've gained occupancy since year end, and leading indicators point towards steady improvement in occupancy as we head into the strong leasing season. We've increased occupancy to slightly over 95%, excluding our two rent-controlled assets, and we are seeing effective lease rates trending in the right direction. Additionally, net application volumes have increased significantly on a year-over-year basis for urban properties. Overall, we had previously expected significant multifamily growth in 2020, and that growth is likely now going to be deferred until the economic recovery led by the greater vaccination takes hold. While we do expect a seasonal lift in the second quarter, we expect a broader inflection to occur at some point in 2021 heading into 2022. and for it to have a greater impact on 2022. We have a five-year pipeline of value-add renovations ready to resume once conditions improve, and we still expect future NOI growth from the Trove, which I will cover next. In terms of our renovation pipeline, we're constantly evaluating the health of each of our submarkets for rent growth and renovation potential, and we are encouraged by the metrics that we're seeing, especially in our newly acquired suburban portfolio. Certain submarkets in the metro area are seeing the rent gaps between Class A and Class B rents widen, which is an early indicator of renovation potential, while other submarkets continue to see rent gaps tightening. We are monitoring these trends, and we will resume renovations when the submarket fundamentals allow for rent increases to deliver the appropriate ROI, and we know the capital allocation is accretive. Trove delivered its final phase in the fourth quarter, and leasing momentum continues to increase. While our lease up had just begun when social distancing measures drew on-site touring to a halt in April, we continued to make substantial progress on lease up and have maintained a monthly lease up rate that is above long-term regional average against an extremely challenging backdrop. We reached break-even in December and remain on track to reach stabilization in early 2022. We expect Trove to add $100,000 of income in the first quarter, ramping up each quarter to approximately $1 billion by the fourth quarter of 2021. with significantly greater growth in 2022 over 2021 levels. Now, moving on to commercial, as expected, occupancy remained relatively flat through the year end. And while we only have a small amount, approximately 20,000 square feet of signed new leases that have not yet rent commenced, and approximately 20,000 square feet of signed LOIs for new leases that are expected to rent commence during 2021, we have minimal lease expirations during 2021. Our 2021 office lease expirations represent less than 3% of our overall revenue. And we believe that a renewal is likely or we are under negotiation for renewal for over 60% of that space. We do not have enough visibility on the timing of the inflection point for new office leasing. But it will be driven by a combination of widespread vaccination rollout, schools reopening, and the general community returning to more normalized activities. When that occurs, it will impact the timing of new lease commencements. We have a forecast that can result in oxygen growth of up to 4%. but that forecast is at risk if new leasing is delayed. For example, that forecast includes a little over $3 million of new leasing revenue in the fourth quarter that would be at risk if the inflection does not happen soon enough. So we're not ready to provide a guidance range yet without more visibility. Following the two retail renewals, which were executed in January and which represent 10% of our retail NOI, we have less than 3% of retail revenue expiring in 2021. While we are seeing recent signs, of and experiencing increased activity across our office portfolio, one of the most challenging calls for us to make is when sentiment will turn and decision-making will pick up to even higher levels again, and when those additional lease commitments will begin. With that said, we believe that we are positioned well once activity improves. And we expect our office portfolio to be highly responsive to the economy reopening. The majority of our vacancy is in high-quality space, some of which is in move-in ready status. Nearly 60% of our current vacancy in Northern Virginia, where job growth and absorption rates are the strongest, and where we're seeing the most touring and leasing activity. Parking revenue improved slightly over the course of 2020, driven by an increase in transient parking, but remains below normalized levels. Compared to other major metropolitan areas, our parking coverage is higher, which allows more of our tenants to choose to drive instead of taking public transportation. Our parking garage's capacity can serve over 50% of our building population prior to the pandemic on average. And we still currently have at least 50% parking capacity available, which provides an option for companies that want to encourage employees to return to the office before sentiment improves towards public transportation. We are guiding to a core FFO per share range of 29 cents to 32 cents per share for the first quarter. We expect multifamily NOI to range from 20 and a quarter to $20.75 million. Office NOIs range from $17.75 to $18.5 million, and other NOIs of approximately $3 million. G&A is projected to range from $6 to $6.25 million. Interest expense is expected to range from $10 to $10.25 million, and development expenditures are expected to range from $5 to $7.5 million. We expect NOIs to bottom in the first quarter, driven primarily by our year-end asset sales. Following the first quarter, and absent any major setbacks, to the current gradual pace of reopening, we expect sequential growth throughout the year to be driven by the lease up of the trove, the benefit of the more favorable multi-family leasing seasons coming off of the winter months, the phase resumption of unit renovations, and commercial rent commencements. Therefore, we expect our full year results for 2021 to be higher than the first quarter annualized results. Since our last earnings call, we sold two office assets and issued approximately 2 million shares through our ATM program at an average price of $23.86 per share to improve our balance sheet and position us to further strengthen our capital allocation once visibility aligns with opportunity to increase multifamily. Currently, we are not planning on reinvesting those proceeds in the near term. Thus, we estimate at this time that these two initiatives, net of their interest impact, will further strengthen our balance sheet and lower full year 2021 core FFO by approximately $0.09 per share. For the full year, we expect G&A to range from $22.25 to $23.25 million, and interest expense to range from approximately $41.5 to $42.5 million. These ranges do not assume any acquisitions are completed during the year. Additionally, assuming that leasing activity and utilization continues to increase and we achieve occupancy growth by year-end, we would expect commercial operating expenses to increase by approximately $1 million by the fourth quarter, from the first quarter expected range of $11.75 to $12.25 million. We believe that during 21, the vaccine distribution should create a positive recovery inflection point. From that point forward, we should see improvement with more to follow in 2022.

And with that, I'll turn the call back to Paul. Thank you, Steve.

During what was a challenging and unexpected year, we supported and protected our residents and tenants, stabilized our operating fundamentals, strengthened our balance sheet, and preserved long-term growth opportunities. While the timing of when we will reach an inflection remains uncertain, we believe that it will happen at some time in the second half of 2021 and that we are positioned for rapid improvement once we reach that point. Our region has several unique catalysts to accelerate the rebound in demand, including a strong economy and favorable demographics. Historically, we have seen Washington office absorption increase significantly when the White House and both branches of Congress are aligned with one party correlating with increased legislation, lobbying, and law implementation. That is a promising opportunity that we will be monitoring. We also expect the apartment market in the region to receive a relative boost compared to other markets over the six months based on historical patterns following presidential elections which should coincide with our strongest seasonal leasing months. Long term, our research indicates that we should expect sustained growth in Northern Virginia driven by government contracting, technology sector growth, and investments in higher education. While we certainly have not emerged from the pandemic at this point, we are seeing signs of our multifamily occupancy strengthening, concessions starting to decline, and improvement in effective lease rates. all of which are positive trends heading into our stronger seasonal leasing months.

Now, we would like to open the call to answer your questions.

Thank you. Ladies and gentlemen, at this time, we will be conducting a question and answer session. If you'd like to ask a question, you may press star 1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star 2 if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star key. Our first question comes from the line of Anthony Palone with JP Morgan. Please proceed with your question.

Okay, thanks and good morning. I guess first question for Paul, just from a bigger picture point of view, can you talk about just how you're thinking about capital allocation and the push to multifamily in an environment where it seems like cap rates have compressed actually and gone to like 4% in apartments. So how are you thinking about potentially making that trade and if that's still a push that you want to make here?

Sure, Tony. First off, I just want to acknowledge we've been getting some feedback that we've got static on our line. My apologies for that up front. In terms of capital allocation, Tony, I mean, we are going to continue to look for multifamily opportunities. I would say that right now when we look at the markets and what we're seeing out there, I do question the sustainability of those cap rates and just anecdotally some some color on that. I mean, agency borrowing costs have increased over 50 basis points since last summer. And even the new lending from the life companies and the debt funds, they're pushing back and they're really gravitating towards, you know, kind of trailing ones and trailing threes. I think the folks that we are competing against are probably core plus and value add folks really essentially competing for the same deals but with different leverage strategies. When I look around, like, where would we allocate capital right now? In D.C., I mean, with TOPA and the restrictions, I think D.C. probably had its lowest, you know, sales volume. The numbers I'm hearing are around $30 million for 2020, and in basically a multibillion-dollar region. But I do think, Tony, there are going to be opportunities in terms of looking at potentially some unstabilized deals in decent submarkets. I mean, we always preach research around here, and we follow jobs, and we track the rents and the income demographics. And I do think there are decent submarkets, and I do think that there are, you know, when we're looking at potentially an unstabilized property, those aren't going to have agency debt on those. And I think there's a, you know, an opportunity for us to jump in and make a basis bet. But we are, you know, we're definitely committed to continuing our capital allocation to multifamily. We look at, you know, what's taking place in the market right now, just in terms of, you know, our operating fundamentals. I think that, you know, as we, look at how we drove occupancy and how other operators driving occupancy using concessions uh it really feels like you know dc as a region this region held up pretty good to september had kind of a tough fourth quarter uh but candidly we like what we're uh we're seeing in january and we think that the traffic has picked up and hoping that goes well for the spring season um and you know, just some other observations, Tony, in general, because, you know, I've been reading the same things other people are about, you know, multifamily and how we're going to perform coming, you know, entering into recovery phase and a reentry phase. We actually, you know, we still feel like the Class B strategy is the appropriate strategy and has really only been amplified in these times. People look at DC and they question the supply that's going to deliver over the next couple of years. I mean, I'm looking at units that are supposed to deliver in 23 that I think there were 11,000 units forecasted to deliver in 23. On our math and the things that we're tracking, only about 3,300 of those units have been capitalized. And those units are delivering at price points you know, class A price points with a rent gap between our average, and this is net effective, our average class Bs and the net effective class As, there's still a $650 gap there. We think that, you know, a lot of folks right now, I mean, we're through the move home to mom and dad phase. We think people are planning on a reentry in 2021, whether it's, you know, summer or fall. And that's really driving a lot of the traffic right now. And with the growth that we've seen in rents in the suburbs, we think that, you know, some of the urban D.C. deals are looking, you know, on a relative basis kind of inexpensive. So we think there are going to be opportunities out there. I never, you know, would say it's not going to be competitive. They're all competitive, but I think it gets back to, you know, knowing what markets you want to be in and what price points you want to be at. And, you know, as you know, we don't really typically utilize debt. But we do think they're, you know, while I believe the first quarter will probably be slow because we had a big fourth quarter in terms of multifamily sales. And while I think the first quarter is going to be slow, we do think we're going to be presented with some multifamily opportunities for the balance of the year.

I appreciate all that color. Were you all active in some of the, uh, you know, bidding contests in the, in the four Q deal deal flow. And, you know, did you find yourselves if so, you know, far behind or it just didn't line up and it wasn't stuff you wanted or how did that work?

I think, um, again, I, I hate to keep going back to research, but we know that we think we have a good handle on the markets that Steve, you know, basically, uh, touched upon this in his remarks, we have an idea of the markets we think are kind of out in front and are going to recover quicker. And, you know, that will probably reactivate our renovation pipeline. But when I see folks, you know, when we have market observations, Tony, where we're seeing negative rent tradeouts and I'm seeing folks, you know, that are winning these deals, growing rents simultaneously at 1 to 3 percent, You know, we wish them well, but that's not, you know, we want to be pragmatic about our underwriting. And we looked at deals, certainly in the fourth quarter. We always look at deals. But I think we were very comfortable when we saw some of the price per pounds that were being, you know, ponied up. We were comfortable passing and maintaining discipline and being shot selectively.

Thank you. And then just one other, on the comment about potentially 400 basis points of occupancy pickup, just what's behind that? Is there a set of leases that just may or may not go your way? Is there a specific asset that you've got some traction on? Just curious what's behind the 400.

Well, that is, this is Steve, Tony. That's really looking at all our leasing. And if you think about what we're experiencing, we're having... we're having really good traction on renewals. So I think renewals are showing that there's conviction and people are ready to move on that. And that's happening already. So to get our occupancy gains, it's got to be our new leasing. And that's the one that we've been a little bit, we're very confident in terms of the space that we have. It's some of the very best space and assets that we had going into the call. And that's our normal lease up, including just looking at market color and activity. The question is really, for new leasing will people have the conviction soon enough, you know, that their workforce is ready to return to work and all. We see the conviction happening pretty actively on the renewal front. And so that's basically reflecting our new leasing assumptions. And for us, it's honestly a when, not an if question. And the when is really driven by, you know, when schools open, when the vaccine has more widely distributed, when activities return and really companies feeling like they've got to get ahead of it. We're seeing it in the department side. We're seeing people now starting to move back in. Our applications are getting closer to where they want to work. We're seeing it on the renewal side where companies are saying, okay, we're ready to make our long-term decisions. We just need to see the inflection help with new leasing a little bit. And so that's the risk for us is it's really a timing risk in terms of whether that'll happen soon enough in 21 for us to get the benefit to grow that occupancy. That's the call we weren't ready to make.

Got it. Great. Thank you for the call.

Thank you.

Our next question comes from the line of Blaine Heck with Wells Fargo. Please proceed with your question.

Great, thanks. Good morning. Paul, you touched a little bit on the 60,000 square feet of retail leasing you signed in January. First, is there any detail you can give on the rent spreads on that leasing? And second, now that you have longer-term renewals signed on that, you know, 10% of the retail portfolio, does that maybe change the pricing profile and make you any more willing to look to sell your remaining retail assets?

I don't have the rent spreads right in front of me, but I'm happy to follow up with you after the call. And those were two, you know, those were two critical anchors at their respective centers. In terms of changing it, certainly I think it changes the risk profile, but both of those centers are in that potential redevelopment bucket. You know, as you know, The giant at Tacoma not only isn't in an opportunity zone, but it's literally right on the purple line. So we think that that, you know, does represent a redevelopment opportunity. I think like most of, you know, going back to Tony's earlier question, and we want to allocate capital, most of it is do the rents that we're seeing right now justify you know, new development in that respective sub-market or don't they? Right now, I don't believe the rents are there for Tacoma. And then when I look at, you know, I probably said the same for the Montrose Shopping Center. Right now, I think, you know, suburban Maryland still has a couple of bumps, as we're all well aware of. So I do think that there are people that are starting to put the pen to paper right now looking at new return on cost metrics, looking at forward rents, you know, two years from now, and obviously looking at their land basis. And I think if somebody, you know, like we've always said, these were covered land plays, and I think the optionality that Washington Re has is does it Does it do it itself, or does it sell the dream? And I think that that's still where we are. And I think, Steve, do you have this reference?

Yeah, I do. Blaine, pretty much flat in terms of initial cash rent, but we've got bumps in it. So the gap increases about 15% lease over lease.

OK, that's great. And then, Steve, one for you. I know we've talked about this in the past, but just for an update in light of the recent office sales, just wanted to get a sense of how you guys are thinking about the dividend going forward. Your payout ratio was between 90% and 95% this quarter, and you've also talked about recycling more capital out of office and into multifamily, which is likely to be dilutive going forward. So just updated thoughts on the dividend would be helpful.

Yeah, we obviously provide our forecast and guidance in the boardroom. We discuss the dividend every quarter as the board thinks along with us. We're expecting to cover the forecast, to cover the dividend in our forecast for the year, and the board is confident that we should keep paying it. We do believe that once we get to a point of inflection, assuming we're going forward you know, through this pandemic and coming out the other side, we think, you know, our coverage ratio should strengthen. So there's really been no thought or discussion of cutting the dividend, honestly, in our board discussions.

Great. That's helpful. Thanks, guys.

Our next question comes from the line of Dave Rogers with Robert W. Baird. Please proceed with your question.

Yeah, good morning, everybody. I wanted to talk about the Class B rent gap. I think it came up maybe a couple of times in a variety of the comments. But can you maybe dive down a little bit deeper, and maybe this is for Grant as well, in terms of kind of the Class B rent gap? I think you said it's getting wider. And I would think that given the decline in rents and kind of the pandemic, we would see compression in those numbers. So I wanted to give you the chance to clarify, maybe both on the multifamily side and then within the office component as well.

Can you hear me now?

Yeah, sorry about that. Getting used to hitting the mute buttons here. So I think the comments in the note or our script said that we had had some compression market-wide throughout 2020, but that had actually started to flatten out in the fourth quarter, so there was no longer compression at the market level. At the sub-market level, which we are watching very closely as part of our ongoing analysis of when it will be the right time to turn renovations back on, there is quite a bit of variety in terms of the rent gap, so that some submarkets actually are widening, and that gap is growing because we are getting rent growth, and those particularly in some suburban locations. So, and there is, you know, variety, you know, some of the submarkets that's actually sort of how we chose our submarkets to begin with and that we chose submarkets that had a greater than average rent gap. So even the ones that we've had some compression in, we have, you know, 350 basis points greater gap in some of our submarkets like Columbia Pike, where the Wellington and Trover located, then you would have in market wide. So we're watching that closely. It's flattening out at the market level and is not compressing further as it had. And in some markets, we are actually seeing it go the other way in a positive direction. Hopefully that clears that up.

Maybe just a quick follow-up on that before talking office, if we could, is just suburban versus the urban component of where that compression has been. Is there a way to generalize between the two of those without kind of going each sub-market by sub-market?

I would say if there's a... It's wider. I don't have the exact number in front of me, but, you know, if the average for the region is around 20%, I would say it's wider in the submarkets in the suburbs where there has been less decline in Class A than there is Class B. I think over the course of the pandemic, B has outperformed A by about 230, 240 basis points. So I think that would probably sort of back into the difference there between those rent gap levels.

Okay, that's helpful. And then thoughts maybe just on the office component, and I don't know if that's for you, Paul, but how the rent delta is compressing maybe within and around the district.

Well, Dave, if I'm looking at, and I like to look at it kind of pre-pandemic and what we're currently seeing, like if I were to look at large deals in the Class A space, you know, probably pre-pandemic, a TI package was probably, you know, let's say 110 a foot, and today it could be anywhere from, you know, 130 to 140. Free rent probably was right on top of, you know, a month per year, and today it's probably, you know, one and a quarter, one and a half months per year term. And then you have your unused TI conversion, which is, you know, probably gone from, you know, 10%, maybe upwards to 20%. We're not really seeing those types of lifts. I think we've seen less slippage in the Class B space. And probably more importantly, you know, just like in the multifamily space, It's about retention. I mean, I looked, just reading with JLL, their deck and, you know, retention, excuse me, renewals in Northern Virginia were up, you know, up a third. And I think they're more economically, can be more economically viable for both the tenant and certainly for the landlord. So we're really focused on renewal. You have to remember, I mean, especially in the B space and looking at our portfolio, we're playing in that, you know, four to 6,000 square foot range. And so we're not really competing for those, you know, those hefty TI packages and big free rent packages. I think tenants are very savvy and they're going to, you know, obviously try to negotiate the best deal possible, but there's definitely a spread. uh you know for the big uh renovated a's and trophies that are that have to achieve occupancy and what they're willing to do to buy occupancy and the class b's so i still think there's you know we have an adequate delta uh between class a rents and class b rents you know in the region days okay thanks for that and then you mentioned the two renewals b riley and sunrise um

Can you talk about the tone of those conversations? Was that just a, it sounds like some flexibility was important in at least one of those deals, but talk about maybe the economics and how those shook out at the end.

Well, we, we, uh, just to be, you know, transparent, I mean, you know, sunrise, we've been talking about, uh, pre pandemic, um, and, you know, we applaud them, uh, in terms of their decision makers coming back, having a workforce strategy, and putting the pen to the paper, and it was a competitive bid situation. Flexibility, when we talk about flexibility, we see tenants that are operating in the space that are recognizing that it's kind of a tenant's market right now, making workforce strategy decisions. I think in terms of flexibility, I think tenants, we're seeing more just folks requesting a partial termination option in a future lease. Not that they're going to exercise it, but that they definitely want that at their disposal in case their model requires some type of shift in operating expenses. When I look at B. Riley, You know, B. Riley is committed to the space, but looked at their model and said, hey, you know, we have an option here to give back a floor, and that's what they've done. Fortunately, it was not that there are bad floors, but it was a good floor in Arlington Tower, and It showed just because as that space came to market, it was immediately picked up, you know, by a full floor user. And so, you know, the situation we have with B. Riley is that user will do their sublease through the end of the, to the point of the termination option, which I believe is December of 22, and then that user will have a primary lease with WASH REIT through 2029. Again, a lot of the tenants that we were talking to, Dave, we're not seeing tenants saying, hey, I want to get back half my space. But what they're looking for is optionality going forward based on how protracted or not a recovery can be. And those have been the discussions. We haven't seen huge redesigns. We just have not experienced that in our portfolio to date.

Thanks for those details, Paul. Maybe just a final question for me, Steve. You mentioned using the ATM. Can you talk about kind of when and how you're looking at using that going forward in terms of adding capital to the balance sheet?

Yeah, Dave, we just looked at the opportunity to continue our capital allocation, first of all, We, we wanted to strengthen the balance sheet. And we also wanted to, we can't time everything at the same time. So we wanted to get the office sales executed that that we felt good and could get executed. We did just a little bit of ATM. I think some somewhere around 2% is just a small sliver. of capital, but we wanted to go into 2021 with as strong a balance sheet as we could until we had more visibility for the inflection that we think. Sure, we have spring leasing seasons, but we think the pandemic is going to give us a lift, and we just wanted to be as strong as possible when we finally have that visibility. You know, we're not planning on using it or going to the ATM at this point. We wanted to go into and decide how much conviction we had on visibility. And, you know, really, we're also monitoring what's happening. And, you know, we like the multifamily business. We commented on the call. I'll just make a comment or two, you know, in terms of what we were observing, because we did have some investor meetings on the road at the end of the year, too. October and November were really good months for us still. I would say the leasing season extended a little bit, you know, into the September-October months. For us, it looks like December was the bottom from a multifamily standpoint. And in terms of it's the winter months, fortunately, we only had about 20% of our portfolio expiring at that time, and we have about two-thirds in the summer. But we saw December was tough, and our focus was on maintaining and then starting to push occupancy. And that's really helped us. We commented on it in our prepared remarks, but You know, we didn't think it made sense to push our two rent-controlled assets, but for everything else, since year end, we've got it up to about 95%. And that is getting to the point where we can start to burn off concessions, start improving effective rents. And we saw, in the month of January, a 300 basis point improvement in effective rents for new leases, which is the right trend. And as we look at our early indicators, renewals, and the leases getting signed in early February, looks like February, March are improving in the right direction too, both from an effective rent standpoint. And, you know, as I've said, we've improved our occupancy. So we feel good about that. You know, when I think about January versus the fourth quarter, if December was our toughest month and I look at January it's, it's better than December. And in fact, January is already kind of to the average of the fourth quarter, which had two, two better months in a February and March are, truly trending as they seem to be trending, then hopefully the first quarter will be better and all. And think about our guidance. We saw the winter coming, but we actually outperformed our fourth quarter multifamily guidance from a same sort of standpoint or from an NOI standpoint. And hopefully we'll prove to be conservative on the first quarter, but we're just going to have to see. And in terms of the other inflection points, Dave, it's just, as I said earlier, it's It's when will things happen soon enough and how much will they benefit 21?

Appreciate all the added color, Steve. Thanks.

Thank you.

As a reminder, ladies and gentlemen, it is star one to ask a question. Our next question comes from Chris Lucas with Capital One Securities. Please proceed with your question.

So it's now good afternoon, guys. Just a couple of quick follow-ups. On the Sunrise renewal, did you provide the duration of that renewal? It's seven years, Chris. Excellent, okay. And then the one sort of nearer-term lease that you haven't talked about is the Capital One expiration, which I guess is first quarter of 22. Any movement or conversation there? And what do you see as sort of... things that you need to see in order to get a response out of them?

We are having dialogue and kind of broker to broker and head of real estate to wash reed. The only thing tangible, Chris, that I think has happened in the last 90 to 120 plus days is just them executing. They're in three buildings, as you know, in Tyson's. outside of their main campus and them executing a short-term extension at one of the buildings. We are hearing that that same type of activity may be coming our way, but that's obviously one, Chris, we've all got our eye on. But to date, we have not traded paper since the beginning of the year.

Okay, thank you. That's all I had.

There are no further questions in the queue.

I'd like to hand the call back to management for closing remarks.

Thank you.

Again, I would like to thank everybody for your time today, and we look forward to seeing many of you at the upcoming conferences over the next several weeks. Thank you, everyone.

Ladies and gentlemen, this does conclude today's teleconference. Thank you for your participation. You may disconnect your lines at this time and have a wonderful day.