Ladies and gentlemen, thank you for standing by. Welcome to Douglas Emmett's second quarter 2014 earnings call. [Operator instructions.] I will now turn the call over to Stuart McElhinney, Vice President of Investor Relations for Douglas Emmett.

Thank you. Joining us today on the call are Jordan Kaplan, our President and CEO; and Ted Guth, our CFO. This call is being webcast live from our website and will be available for replay during the next 90 days. You can also find our earnings package at the Investor Relations section of our website. During the course of this call, we will make forward-looking statements. These forward-looking statements are based on the beliefs of, assumptions made by, and information currently available to us. Our actual results will be affected by known and unknown risks, trends, uncertainties, and factors that are beyond our control or ability to predict. Although we believe that our assumptions are reasonable, they are not guarantees of future performance and some will prove to be incorrect. Therefore, our actual future results can be expected to differ from our expectations, and those differences may be material. For a more detailed description of some potential risks, please refer to our SEC filings, which can be found in the Investor Relations section of our website. When we reach the question and answer portion, in consideration to others, please limit yourself to one question and one follow-up. I will now turn the call over to Jordan Kaplan, President and CEO of Douglas Emmett. Jordan?

Thanks, Stuart. Good morning everyone, and thank you for joining us. We had our best quarter ever for office leasing, signing a total of 1 million square feet of leases. That included a record-breaking 375,000 square feet of new leases, which increased our leased percentage to 91.9%. Our leasing and tenant demand have been excellent, especially in Warner Center and especially from tenants over 10,000 square feet. Large tenants can take more time to move in, so the average time from lease execution to occupancy for new tenants more than doubled last quarter. Our leased to occupied spread widened to 240 basis points, our largest move in inventory in seven years. This pushed about 80,000 square feet of expected 2014 occupancy into 2015. Focusing on the general health of our Los Angeles sun markets, they are 89% leased and rents continue to rise in all of them except Warner Center. The average straight line value of office leases we’ve signed was over 4% higher than that of our prior leases for the same space. The performance of our multifamily portfolio also remains excellent, with average asking rents 8% higher than a year ago. We’ve been finalizing the plans for our 496-unit residential development in Honolulu, with construction expected to start at the end of 2014. In Brentwood, the long development process is still proceeding well, with groundbreaking projected for late 2015. Finally, as we previously announced, Kevin Crummy has joined us as our new chief investment officer. We enjoyed a great working relationship with Kevin during the 20 years he was at Eastdil Secured. His tremendous knowledge of our markets, his experience and judgment, will all be great assets for us as we continue to expand our portfolio. With that, I will now turn the call over to Ted.

Thanks, Jordan. Good morning everyone. I’ll begin with our results, then address our office and multifamily fundamentals and finish with 2014 guidance. Compared to a year ago, in the second quarter of 2014 our revenues increased by 1.8%, our FFO increased 4.5% to $70.8 million, or $0.40 per diluted share, our AFFO increased 3% to $56.9 million or $0.32 per diluted share, and our G&A decreased by 5% to $6.7 million, or only about 4.4% of total revenue. Comparing the cash basis results for our same properties, in the second quarter of 2014 to the second quarter of 2013, revenues increased by 0.6%, with higher in-place office rents, higher parking and other income, and better multifamily revenues, partially offset by lower office occupancy. Expenses increased by 2.4%, primarily reflecting higher utility rates and hotter weather, only partially offset by the greater efficiency from our ongoing sustainability efforts. And, as a result, cash same-store NOI decreased by 0.3%. The ongoing decline of our noncash FAS 141 income resulted in a reduction of our GAAP NOI in Q2 by 0.6%. As noncash rent items continue to convert into cash rent, the percentage of our FFO that we convert into AFFO continues to increase. Now trying to office fundamentals for the quarter, as Jordan mentioned, we had a record leasing quarter signing 213 office leases covering 1,430,000 square feet, including 375,000 square feet of new office leases. These are both high-water marks for us. Tenant demand in our submarkets is strong across our diverse mix of industries, with technology and healthcare above trend during the second quarter. About 40% of our leasing in the quarter was in Warner Center, where we increased our leased percentage by 100 basis points. This is great news, but as Warner Center has somewhat higher TIs and longer…

[Operator instructions.] And your first question comes from the line of Jamie Feldman.

Could you provide a little bit more color on the change in occupancy outlook? I understand fundamentals are good. You pushed out some leases that are going to take occupancy next year, but how does that work that you keep your same store flat, you narrow the range on your FFO? I would think if nothing else, maybe it takes your same store to the lower end of the range and takes your FFO to the lower end of the range. Can you just help us think all that through?

Sure. We have always said that, as happened in 2013 and 2012, that the gains in occupancy this year would be all happening in the fourth quarter, or largely happening in the fourth quarter. So what this did really was just push off that occupancy by a few months. Actually a fairly small impact of 80,000 square feet for a couple of months on same store NOI. And we have more than made it up with a variety of other factors.

So I guess talk about the other factors. Is it better rents? Better margins?

It’s a whole lot of factors, rent, expenses, all of those other things. But none of them are significant. These are pretty small numbers here.

And your next question comes from the line of Rich Anderson.

When I look at this quarter, you kind of have these building blocks of things really starting to come together, whether it’s the mark-to-market or it’s the occupancy starting to build. You know, the spread between leased and occupied. And so does it require a little vision into 2015 to think when does the breakout really start to happen? Because you’ll have better occupancy comps to deal with relative to 2014, you’ll have this 80,000 taken occupancy as well. And in the meantime, you have all this buildup in rent growth that’s going on around you. So do you think that, while you just kind of maintain guidance right now, that the real story becomes 2015 for you guys?

I would like to say I hope so. The truth is, when you compare 2015 to 2014, and I haven’t gotten that deep, into that direction, in terms of predicting… But I will say this, I feel like this is a very good year. Because, you know, we’re looking at our cash flow and more of the AFFO than anything, and our cash flow is building a lot of steam. It’s really gotten going. We’re cash-flowing huge amounts. And the numbers that we think about when we’re looking at the company, is the way the company’s cash flow and how much excess cash we’re generating. I look at the health of the buildings, and if there’s huge amounts of capex needed anywhere, or if it’s all looking pretty good and up to date. And then in terms of leasing metrics, I’d say how fast are we leasing, and are we leasing at higher rents? It’s stunning that we leased a million feet in the quarter. I remember when people were asking me last quarter how I felt, which was in the beginning of May, the very beginning of May. And we felt bad about what had happened in the previous quarter, and we were saying, “Listen, we’re telling you, this quarter’s looking very strong.” And it continued very strong, as you’ve now seen in our reported numbers. So when we look at when will the good news be exposed to the world, I feel the good news is exposed to the world. We’re cash flowing a huge amount, and we have very, very strong leasing going on right now. Now, how that filters its way through to certain numbers and metrics in 2015, we’ve got to take a look at that. And I hope it comes through in as positive a way as we’re seeing it today.

You had this great quarter, as you describe, and great year so far. And if you popped up your FFO guidance by 5%, you would not be down a half a percent today. You’d be up 2% or 3%. So the market’s fickle like that, I suppose. But that’s what I’m waiting for, is to see the FFO number and the AFFO number start to really grow and move away from some of these moving parts that maybe kind of disguise the good stuff that’s going on behind the scenes.

That all could be. We have been very, very bad at predicting how what we say will relate to how the stock moves. [laughter] I mean, we’ve been horrible at it. So that may be the trick, I don’t know.

And then just on Time Warner, Ted, you gave a little bit of discussion about higher TIs. But to what degree do you think, to get the especially strong tenant demand there, did you have to kind of really discount on the rent side? Or is it mainly just TIs?

First of all, you said Time Warner, and obviously Time Warner is not the same as Warner Center.

Excuse me, I meant Warner Center.

So it’s not a question that, for the larger tenants, we had to do more TIs than we usually do for larger tenants. It’s just that there was a larger percentage of those tenants in this, and Warner Center is a market where there is a little more TIs. But I don’t think for those markets or for those sized tenants, it was out of line. It was more a skewing of the mix. So again, in general, you look at it, for very small tenants, it’s just paint and carpet. When you get up to full floor tenants and above, then there’s usually some TIs to be done.

So really, there wasn’t any kind of major discounting on the rent side. It was basically just bigger tenants, more TIs, that kind of thing.

That’s correct.

And your next question comes from the line of Alexander Goldfarb. Alexander Goldfarb - Sandler O’Neill : First, the addition of Kevin, and with your G&A being down, I’m assuming that Kevin may help offset some of that reduction. [laughter]

Actually, Kevin viewed us as a 501c3 and just came for free. Alexander Goldfarb - Sandler O’Neill : Judging what Eastdil guys make in commissions, that may be. But you know, you guys have never been a deal machine as far as just buying a lot of stuff up at once. But you have steadily bought one or two deals a year. Certainly you guys have their own good relationships within your core markets, so the addition of Kevin was what? Was that he was looking for a bit of a change and you guys said, you know what, we could use someone like that? Or is there a shift in your thought process for potential deal flow, or how you want to orient the portfolio going forward?

Well, as you know, Bill retired, so for starters we had an opening of needing a CIO. Kevin is an extremely good fit for that position in terms of we’ve worked together for 20 years on almost all of our major capital projects that we’ve done, whether it was raising private equity or buying buildings or financing and stuff. He knows the company well. He’s one guy that I knew could come in here and would not have to lean as heavily, let’s say, on my relationships with the other owners in the market in terms of accessing new deals, and has many of his own, some of which are better than mine. I just was super pleased. You know, it’s a good fit. It’s a very good fit for him too. He was in a job where he did a tremendous amount of traveling. He has some younger kids. So it just all came together very well for us, and you know, for sure it’s my best acquisition of the year. [laughter] I can tell you that. I’m real happy about it. And I’m hoping for great things, not to put too much pressure on him. Alexander Goldfarb - Sandler O’Neill : Okay, but we shouldn’t expect a ramp up in the acquisition activity? It should be about the same. It’s just replacing Bill.

Well, I always hope for a ramp up in acquisition activity. That would be with or without Kevin. And I even more hope for it with Kevin. But we’re not changing our metrics or our discipline for what we are or aren’t willing to buy, I guess if you’re asking that question. But you know, maybe he’s going to work super hard and source even more stuff. I hope he is. Alexander Goldfarb - Sandler O’Neill : And then as far as the leasing activity this quarter versus last, what sort of changed? Was it tenants who just, in the first quarter, they weren’t making any decisions, and suddenly, in the second quarter, they decided? Or is this spillover from, you know, people who were either displaced because tech people were taking up offices where they were and therefore they had to look for a new office, and you’re getting sort of a benefit of growing tech and a collateral effect, if you will.

I don’t think that it was the latter. I think the reality is, I don’t think we really understood exactly… We actually thought, as you’ll recall, going into the first quarter, that all the metrics were looking really good and everything was going really well. Then all of a sudden, the leases didn’t get signed. I don’t think we really understood that, but I think that this quarter, probably there’s been a little from that, but I think it’s just underlying, reflects greater tenant demand in the market.

Yeah, we have general very good tenant demand. When you slice a quarter break right on a day, we get caught sometimes too little in one, too much in another. The same thing’s happening to us at the end of the year with occupancy. It happened to us between first quarter and second quarter. But in general, as you guys always ask us on these calls, the pipeline is just very, very strong. And there’s a lot out there. I hope it all falls perfectly in the quarters and lays out right, but it’s out there, and it’s moving, and I’m glad that the actual results for this quarter gave you a good look at it.

It may be worth talking about a story we had in Century City, where we had a tenant that was disbanding and gave us back a full floor. And within days, we had a new tenant that came in and was willing to take that space on the day the old tenant moved out, and upped the rent. And two days later, or a week later, we had a second tenant come in to argue over that space, and we got it all back filled. So there’s good, strong tenant demand out there, and that’s what we saw in that quarter. Alexander Goldfarb - Sandler O’Neill : So bottom line is, the first quarter was a bit of an anomaly. For the balance of the year, you may not do a million square feet, but you feel like third and fourth quarter should be pretty healthy, positive net absorption quarters?

All of the signs look good.

Leasing. Leasing.

Yes.

And your next question comes from the line of Jordan Sadler.

I guess I’m curious about, I feel like this question hasn’t been asked yet, in terms of rent growth and it ultimately translating. So I’ve got the obligatory question this quarter. In terms of at what point do we sort of switch over and start to see the positive mark-to-market? Not quite that simple, but are you seeing things that are pointing us in the right direction still, because it does seem that we’re getting closer, you guys are still talking about rent growth. Are we still seeing the same sequential rent growth trajectory, I guess, that should continue to give us the same confidence we had last quarter?

I think the answer is yes, that the rent growth trajectory is the same as before. As I said in the prepared remarks, one of the things that is going to sort of suppress that statistic a little bit is we’re not seeing rent growth at Warner Center. So to the extent, like this quarter, where you have 40% of the new leasing in Warner Center, you’re going to see that we don’t have the boost off of the last rents coming from the current increases. So when that happens, it’s going to slow down that transition.

How do you think about that submarket, and that exposure, today, vis-à-vis the rest of the portfolio? You’ve got all this positive feeling and this confidence about what’s going on in the markets more broadly. I mean, in you prepared remarks you talk about every market has rent growth, except for Warner Center. And it’s sort of this…

Yeah, I hate [that space]. I mean, you know, we’re super accurate in everything we say and we always say “except for Warner Center” because it’s the truth. But I hate having to say that. I feel very good about Warner Center, and we like the market a lot. I will tell you that also we’re not alone in that. You have a tremendous amount of capital going into that Warner Center market from Westfield and the mall extension that they’re doing there, and numerous apartment developers that are building additional units. And in terms of larger tenants that are making commitments there, I mean, you guys read last quarter about the Farmers thing. They’re actually selling their location on mid-Wilshire, and took a lot more square footage there. So you know, in terms of being an office owner, you can’t ask for better things to happen, right? You don’t want people to build office, you do want more residential. You do want more amenities. Guess what? Everyone’s spending a huge amount of capital for all of that stuff, all good stuff. In terms of the office, going back into the recession, there was construction, as you know, with the Lennar project. It added 1.2 or 3 or 4 million feet. I can’t remember. And that’s been a lot for us to absorb, but it’s being absorbed. And we always have to say that, “except for Warner Center,” which I hate, well, we always have to say that. It is not reflective of our feeling toward the market. We like the market a lot.

That market’s overall occupancy has actually been moving up pretty steadily and pretty fast over the last six quarters. Our own rates got hit a little bit with some of the move outs in Q1, but other than that, they’ve been moving up pretty smartly as well.

Any thoughts to reduce the exposure there, given the appetite?

And your next question comes from the line of Vance Edelson.

Just going back to the topic of potential acquisitions, a few months ago you mentioned an investment pipeline, and that you might be able to get some deals done this year. Can you give us an update on that? Were there deals you were looking at, at the time, that were just deemed too expensive, which is perfectly understandable? And is there any pipeline to speak of right now?

Yes, there is a pipeline right now. There were some things that just, as you said, we felt like we missed on for one reason or another. One or two things. But actually, the pipeline is pretty good right now.

And then as you mentioned a few minutes ago, in early May, you were able to tell us one month into the quarter that things were off to a good start from a leasing perspective, and that clearly proved correct. Anything you can tell us about the trends you’ve seen in July? I guess it’s August now, but the trends you saw last month relative to what you experienced during Q2? Did it just remain robust, or did it actually get any better, for example?

Getting better than Q2 would be like Olympian. So I wouldn’t want to say it got better, but it is still very strong.

And then maybe just one more quick one, if I can. The reference to the higher utility rates being somewhat offset by lower usage, is that electric or water, or both? And should we consider the higher costs to be kind of the new norm, sort of a permanent cost of doing business? Or is that really just an anomaly?

First of all, what’s happening is utilities keep raising rates, which makes it more cost-effective for us to do even more energy saving tactics. So we do energy saving moves, utilities raise rates, and we do our best to hold them flat to down, and they push their best to cause it to go up. I mean, in Hawaii, it’s just horrific. And we’re seeing it here too. So whether it be water rates - you know what’s going on with California in water - or electric rates, both of them. And we’re definitely doing what we can. I mean, we literally have regular meetings on energy and utility conservation. Regularly scheduled meetings on the subject. Scanning through our buildings. Every building ranked, you know, how energy efficient is it? Keep looking at the ones on the bottom. What can we pick up there? What can we do there? Making sure the ones that are in the good zones stay in the good zone. I mean, it’s an important line item for us that gets a lot of attention.

And your next question comes from the line of Brendan Maiorana.

I was a little bit confused on Warner Center. Ted, you mentioned it was 40% of the new leasing activity, which would suggest that it was, call it 150,000 square feet of new leasing. But at the same time, net absorption was only about 30,000 square feet. It was 100 basis points on your overall portfolio there during the quarter. I didn’t think there were big move outs that were supposed to happen in Warner Center during the quarter, so why wasn’t your net absorption higher in Warner Center during Q2?

Well, first of all, it doesn’t take big tenants moving out to have that be an issue. You can have a combination of a lot of smaller tenants. I think there were some tenants in the 20,000 to 50,000, which I don’t think we would consider a big tenant of the type we talk about, that moved out. But it’s also a lot of smaller tenants.

But there were some move-outs in Warner Center that happened during the quarter?

You know, that’s the nature of our business. There are always move-outs in any submarket, or almost every submarket, in every quarter. And the point is that A) you try and keep the people and then B) if you didn’t, you have to backfill those spaces. And that’s our job.

So Jordan, I completely hear your comments about the great leasing volume that you guys have done, best quarter ever, from overall perspective, from new leasing perspective. I think maybe the disconnect, thinking about it from my end, is you know, I think we look at you guys as kind of a lease up story, and there was great leasing volume that happened in the quarter, but at the same time, your net absorption was plus 30 basis points, which I think if I dial back to the beginning of the year, that seemed about like a normalized quarterly run rate average that we would expect to get occupancy where we thought it would be at the end of the year. Do you think that the leasing volume stays high, and the move-outs go down going forward, and that’s going to get the occupancy and the net absorption to really pick up?

Yeah, exactly, which we’ve told you. Just the way leases have fallen the last few year. And we try and get some forward view, whether someone’s shrinking, moving out, expanding, whatever. A lot of that activity tends to fall in the fourth quarter. The move-out activity falls earlier, and as leasing velocities stay strong, when we get into the fourth quarter we get great gains. And that’s what’s been happening. So our kind of loss side of that equation has been front-loaded on the year, and our gain side of the equation has tended to be back-loaded on the year, which is the same answer, essentially, to the other question we were asked, of how can you lose occupancy and not change your actual financial guidance. And it’s just because it happens at the end of the year anyway.

If I just think about the year-end occupancy target, it’s still up 190 basis points from where you ended Q2. And if I take off the 50 basis points that we know is going to hit in Q1, your leased spread on that adjusted number is about 190 basis points. So how confident are you in hitting the revised occupancy target by the end of this year, given that it’s still a pretty big ramp to kind of get to the midpoint of your revised target?

The revised occupancy target?

Yeah, exactly.

Well, I will tell you this. Especially for folks on Warner Center, which has larger leases, translating from the leasing, which is the first step that we have to do, is figure out what the leasing’s going to be throughout, into occupancy, is getting tougher and tougher, because these larger guys take longer to move in. And especially when you have that cutoff, and we thought a lot of it was happening at the end of the year, or if they flip over into January or February, boom, they’re gone. You know, not really a big money difference, but a difference in terms of that metric at the end of the year. So obviously it’s proven to be a hard number for us to pay.

And your next question comes from the line of Jed Reagan.

I guess just following up on that line of questions, the occupancy guidance change, was it strictly an issue of the lease commencement timing? Or were there any unexpected move-outs or terminations? And I guess on the lease commencement timing issue, did your previous guidance anticipate any of that sliding out past 2014? Or did it all come as a complete surprise?

Whenever there’s occupancy, there are lots of different factors, and it’s not really possible to say it’s only one thing. However, this was the thing that sort of stood out for us, that really explains the whole thing. But yes, there are lots of little ups and downs, people moving out, people moving in, and so forth. And so you play that out. In terms of what happened here, in a funny way, we actually went back and looked at this, in all of these leases that are now moving into next quarter were all ones that came in at the last day of May and then June. The ones that moved into the next year. As Jordan said, this is because our tenants move in so fast. This is a looking forward and making estimates, and as Jordan said, it’s not always easy. Last year, all of the leases we signed in Q2 moved in by the end of 2013.

So they were included in the occupancy numbers, which is the assumption we made. I mean, for the speed at which our tenants move in, usually you’d think a guy that you signed in Q2, you’d go, okay, they’re going to be in occupancy. So it’s very odd for them to launch out beyond that date.

And then I guess a related question. If you were giving guidance for your percent lease through year-end, rather than occupancy, do you think that number would be changing? And then how about if you were to think about sort of your occupancy expectations for mid to late 2015? Do you think you’d feel better, worse, about that outlook versus three months ago?

We haven’t given guidance on any of those things, and I’m not sure that we’re in a place right now to do that. Leased has its own problems, when you pick a particular date, because then what you’re really predicting is exactly what leases get signed in that last period of time, during December. So it has its own issues. Again, we’re in a model that’s significantly different from a lot of other of our peers, because 60% of our tenants move in within that two to three month period after they sign their lease. So again, you come down to it, if you end up with a quarter like the first quarter, which again, we had good tenant demand, we were feeling very good about it, and then they just decided not to sign their lease in March. If you had that in December, you’re going to see leased rate drop down a lot. So both numbers have a lot of play in them.

We’re doing our best to predict these numbers for you, and obviously, if you’re doing a ton of leasing, of course we have a good view toward occupancy next year. But you know, the hard information we give you, we give you. Like, if you asked, how’s the pipeline? I can look right now at the pipeline and go, “Yeah, the pipeline’s great. There’s a huge amount going on there.” Now, how many of those guys are going to sign this quarter, and how many are going to move into next quarter? I’m guessing on that. They’re pretty educated guesses. We do two to three million square feet a year, and we nail our occupancy within 100,000 feet. It’s pretty good, right, at the end of the year? Still, when we miss it, and I know people don’t like it when we miss it, and I certainly don’t like when we miss it down, that’s unpleasant. But it is not the same as starting the year, and if you do these huge leases where the people sign like two years in advance, you kind of know everybody that’s moving in, you should know your occupancy pretty well. As Ted was saying, we have a million plus feet that we don’t even know the name of the tenant when we start the year, that’s going to be part of our occupancy at the end of the year. And it’s hundreds of tenants that make that up. So we’re feeling a little stung from having missed it, and so I think we’re getting tentative about wanting to make very many predictions.

And just last one, on some of the occupancy, the clients this quarter… Ted, I think you talked about some known move-outs in Warner Center. Were there any other locations that were impacted as far as move-outs? And then as you look forward, are there any bulkier expected move-outs we should be thinking about for this year and next year?

Again, there are always move-outs in any quarter, and you could see it even just in what happens in… For example, we had, in Honolulu, we saw a tick down in occupancy in Olympic Quarter. And both of those are ones where you had tenant move-out, and it takes us, sometimes, a quarter or two to backfill that space. And so the answer is yes, there was about a 24,000 square feet tenant in Honolulu, contracted its space because they lost a contract, and so we’re backfilling that now, and we’re working at it.

And your next question comes from the line of Ralph Nussbaum.

I’ve got two questions for you. The first is, can you just give a little more color on the trend you’re seeing in Santa Monica versus, say, in Brentwood? Are there any notable differences in terms of the velocity of leasing and traffic you’re seeing in those two districts?

Santa Monica has obviously been one of the strongest markets, and is really strongly leased now. And the rents have been moving up nicely there. Brentwood, as we’ve said in the past, sort of consists of two markets. One has been the market on San Vicente, which has been not far off from Santa Monica in terms of being full for a while now. And then you have the space along Wilshire, which, as you know, we had some issues where we were struggling a little bit with that, with the 405 being worked on, which now has recovered very strongly in the last three or so quarters, I think it’s been, and that’s been coming back. But again, that market is still not at the level that Santa Monica is…

Santa Monica might be the strongest market in L.A. I mean, you’re really comparing it to the champ, at least for sure the downtown Santa Monica market, where we own all our buildings.

The second question is a follow up, I think, to what Jed and Brendan were getting at. And you guys had a great quarter in terms of absolute leasing volume, and feel good about the numbers, yet the stock goes down today. You know, I think it comes back to sort of the, I don’t want to use the word game, right, but game of having conservative guidance and beating it. And at least on the occupancy line two quarters in a row, that hasn’t happened. So you know, do you guys walk away from this saying, you know, maybe whatever we thought the definition of conservative was before, we need to go revisit that? [laughter]

You know what? What’s funny is that I thought we were doing that last time, because we were sitting there at the beginning of - I may get these numbers wrong, but I think we had done, in just the month of April, about 400,000 feet. Which you know, a normal whole quarter for us is like 700,000 feet. So when someone asks, like, how are you looking in terms of occupancy numbers you’re predicting? Great, I’m feeling great.

Yeah, you used the term “extremely confident” in early May of last year. And that’s the issue, right?

In my first month, I had done more than half of what I would normally do in a quarter. But you know what? Then May/June, we get all these… Great, I’m glad to be leasing in Warner Center, but all of a sudden the leases fall in January or even February, and I’m like, oh god, call them back and tell them start in December and get my number right. I mean, just a tiny miss looks like a large miss in this.

I think also that from our point of view, while I think we understand being conservative is good, I don’t know that we’ve been good at doing what’s also known as sandbagging.

We try and give the real number. We try and sometimes put a range around it, but we try and give you the real number, and particularly, though, if there’s anything we do that’s, let’s say, even a little more conservative, we will be quicker to adjust a number that looks like it’s going the wrong way in a negative fashion than we are to adjust a number that looks like it’s going in the upside way. And that’s probably where more of the conservativeness comes in. But we try and give you kind of where we think the world’s going to end up, when we give you the numbers, initially. The adjustments are made quicker in the down direction, though. That’s true.

And your next question comes from the line of Michael Bilerman.

I think sometimes everyone forgets that you do 800 or so leases a year, averaging 3,500 square feet. So call it 60 a month. So the leasing machine that you have, just the volume, is a lot. So that certainly plays a part, I think, in some of the dynamics, because you’re not doing big 100,000, 200,000 square foot leases, where you can get that far out clarity.

Yeah. No, that’s true.

So if we look at the back half of the year in terms of what’s still rolling, you’ve got about 576,000 square feet. And 35% of that is in Warner Center. So I guess how should we think about the renewal percentage first, on that 576,000?

Well, in general, our renewal percentage really fairly tightly surrounds 70%. Now, with that said, it has a good range. When you look at it quarter to quarter, it has a pretty good range. It could pop up in the mid-80s, and it could pop down to 50. Because quarter to quarter, you can have a bigger lease that throws it off if the guy moves out. I’m going to let Ted talk a little bit on this, but usually, if you think we’re zeroing in on 70%, that’s an extremely safe assumption.

I think that’s a fair assumption. I mean, the problem on the renewal side is, again, our tenants tend to make the renewal decisions quite late in the process, because they can. So I think that 70% that Jordan gave is a good assumption. We have a lease by lease analysis of it, but that literally can change on a day to day basis as people are going through the negotiation process.

I think a misconception that people have about renewals, I’ll just mention, although it’s not the question you’re answering, is that that percentage, in a good market or a bad market, it seems to be pretty consistent. It’s not like in a good market the renewal percentage goes up. Maybe you think it would, but just looking backwards for us, it doesn’t. And in a bad market, it doesn’t necessarily go down either. It’s a pretty consistent rate through both types of rates markets.

I guess I was hoping for a little bit more granular detail. Because I’ve got to assume, Jordan, that two quarters in a row, to drop, with all the caveats that we’ve been talking about, in terms of your business, but to drop your occupancy 100 basis points in terms of year-end, I know it’s only a moment in time, that at this point, you sit around the table prior to having this call, saying, “We’ve got to make expletive word, these numbers at this point.”

You know what? If you’re right that sitting around a table, with Ted and Bill and the guys, that we’re all together, when we’re working on the script and the release, and I’m going, “Please let us hit these numbers,” you are right. We’re pretty focused on it. Now, if you’re saying, am I going into operations - and [unintelligible] flow here - so I can go into operations and go, “Guys, now all the rules are changed. Here’s what I care about. I want people’s occupancy to start this year. You’ve got to cut rates? Do it. You’ve got to chase bumps? Do it. This is the number I want,” I did not do that. We pushed for the best economics out of the leases. We look for the best mixture of credit and long term value that we can get. And I deal with that hand as it’s dealt. And I go back and I do my best, as does Ted and Bill and the rest of us, to try and figure out, like, how are these numbers going to play out? But I don’t bend operations backwards to meet the numbers. And certainly I’m not going to say I haven’t thought of doing it, but I realize that that’s out there. And I’m not thinking of doing that.

Well, I guess, look, there’s two factors that you have, right? You have the tenants that are in place that you know are rolling, which is this 575,000 square feet. Ideally, your renewal percentage has averaged the last eight quarters at 61.3%, to be exact. And it’s as low as 50%, it’s gone up to 80%, but that’s somewhere in that ballpark. Now you know those guys are rolling with 35% of that in Warner Center. So what I imagine is, as you think about your occupancy target, that you’ve gone through that roll in saying, “Okay, we’re working with this guy, this guy is a 20,000 footer here. There’s 10,000 here. We think that the likelihood at this point is, this amount percent is going to roll in the back half of the year.”

Yeah, we do that.

We have a program that tracks every space in the portfolio that is rolling within the next 18 months. And every week, people go in and update both what they think the situation is, and then rate what they think about whether that tenant’s going to move out or not.

So the only next step I could take, because we see [unintelligible] with these tenants. I mean, we’re negotiating with them. We’re trying to move rent up, etc., etc. So there’s bid and ask on all these guys. Unless they’ve just a flat out said, “I’m moving. I’m going to Arizona,” or whatever. Now, I could go in and go, “Hey, make their deal. I need that deal done. I want it done now. I want them in this chair.” I could go in and start saying, “Make the deal, make the deal, make the deal.” That’s what we don’t do. We see all that. We know, every single tenant, where they’re at, what they want, and what we want. But you know, if we go in to try and make these numbers work, and start saying, “Hey, I’ve committed to such and such occupancy at the end of the year, therefore go make this range of deals,” we’re going to be managing the numbers towards metrics that, in truth, don’t really have a lot to do with the financial health of the company, and trading that for numbers that really matter to the company, like what we get out of these leases and the economics that we get.

And particularly in a rising rent market, chasing occupancy now, as opposed to letting it come to you on a good basis, is not a smart move.

Yeah, I want our guys to stiffen up and negotiate hard, and to move rates up now. We have a huge commitment to these markets.

So if we think about the 360,000 that’s signed, you said 80’s going to be flowing into 2015. So I assume the balance starts this year. And then Ted, you said, typically, call it a two- to three-month timeframe from signing to taking occupancy.

Yeah, that’s the sort of the median. Yes.

So, you know, come the third quarter, that will be it, right?

No. No, because when I said that’s the median, we have tenants that literally will take occupancy within a week after signing their lease. And we actually have a significant number that take occupancy within 30 days.

Do you know the signature suites on there? Have you ever gone on our website? We have those signature suites that are ready to go. It’s a lot of little deals that move very fast.

But it would appear, if you just go through the renewal percentage, and what you sort of need to do, it is a downshift in terms of volumes relative to where you’ve been, if we’re doing our math right. Certainly you do not need to keep a 1.7 million square foot pace.

No, if we stay on this pace, we can all fire off the fireworks off the roof of the building and go, hey, the whole portfolio is full. [laughter]

As Jordan said, while we feel really good about what’s happening, we’re not prepared to just continue to assume record velocity every quarter. But you’re absolutely right. Were we to do that, life would be really good.

Well, then next year, you’d go, “How are you going to improve on this?”

Just as we think back to that May call, you talked about 70,000 square feet that sort of moved from what you thought was going to be in the first quarter, therefore you wanted to move down the occupancy target by 50 basis points. You do a 1.043 million this quarter, and you talk about 80,000 that’s going to shift into 2015 that was done. Even if you net that 150 down, the number was still massive in the second quarter. And that’s I guess what everyone’s just having a harder time getting around, was sort of like, even if you take these skews from last quarter, this 70,000 flipped into the second quarter, and you take the excuse that 80,000 is now going to take occupancy in 2015 and the spread between leased and occupancy is wider, it’s actually 90 basis points wider than it’s been over the last seven years, it still, I guess, is not letting people sit well, you know?

So I don’t know that it’s a good idea to try, and it’s hard to follow all the numbers that you’re going through, and maybe, Michael, we can set up a time to talk it through afterwards. But remember also that when we’re looking at the change in these things, there are two sides to the equation. The first one is new leasing, because renewals in many ways, in some ways, it’s the renewal percentage, not the renewal number that matters. And secondly, it’s in the outflows. And again, as Jordan said earlier, and actually I think we’ve said in prior calls, for whatever reason, it seems like the outflows in the last few years have happened in the first half of the year.

Yeah the first half of the year were our tougher quarters. So when we had a tough first quarter and it didn’t get matched with a lot of leasing, that quarter looked bad. Now, the second quarter was a strong quarter, right? But we didn’t get the occupancy to move into this year as we would have wanted, but it definitely covered for the previous quarter in terms of just lease percent. But it was against two of our tougher outflow quarters.

And your next question comes from the line of John Guinee.

Michael, thank you for your one question and a follow up. [laughter] Just a little bit more mundane. I think your other income is about $4.6 million, other expense is about $1.7 million, $2.9 million this quarter. Refresh my memory. How much of that is some sort of insurance settlement, and how much of that’s a health club? And does that burn off, or does that continue for the rest of the year?

As you can guess from the title, other income, other income is sort of a grab bag of a whole bunch of things. And as you mentioned, it includes some insurance proceeds. It also includes fees from our funds. It includes, for the moment, some interest on a $27 million loan we made in connection with the ground lease in Honolulu. And then it also includes the health club revenue, not health club expenses, but just the health club revenue. The expenses are down in other expense. So the insurance items, I think, will probably tail off as we move into the rest of the year. I think that the interest on the loan will end at the time when we exercise our option on the ground lease. The health club will continue as long as we continue to have that operated by a consolidated entity. And the other unrelated income stuff is just going to go up and down as it goes up. So overall, if I were looking forward, I would think that, going forward, in future quarters, that you’re probably more into a $2 million or $3 million run rate on here, probably closer to $3 million, I would guess. But it’s a very variable number, because really, this is where things that we don’t have a better place for on the income statement go to die.

And then I think you’ve answered this before, but I have to ask it again. On page 15, 421,000 square foot lease expiring in September of 2019, with an early termination September of 2016. I think that’s Time Warner.

Yeah, that’s right.

When do they have to exercise that termination option?

Early 2015.

Okay, do you have any clarity - are they occupying all 421,000 square feet? Are they subleasing it? What’s the status of [unintelligible] in the space?

They’re definitely fully occupying the space. It’s a large lease for us. They’ve indicated they’d like to stay on the space, but it’s a large lease, and you never really know what someone’s going to do. And it’s still pretty far out. We had some other questions since you’re mentioning that. In that footnote, we also had a 45,000 foot lease that we had, in the past, associated with Time Warner. And Time Warner spun off Time, Inc. And that was a lease with Time, Inc., so it’s not in that footnote anymore. It’s not that they moved out, which we got asked. So they’re all still there, and we’ve got some time in the program. But they are fully in the space.

If you’ll recall, it’s right at their studio, and in fact, if you go to Warner Brothers, and you look on their website, our building is shown, that sort of thing, because it’s where you start your tour for the Warner Brothers thing. You meet in the lobby there. So it’s been pretty integral to their [crosstalk].

They’ve incorporated it into their lot, to a great degree.

And then I guess from my perspective, and correct me if I’m wrong, the whole Warner Center, it’s sort of a B-minus submarket within the greater L.A. market, and the buildings there are kind of tired, and it’s an ex-corporate headquarters. Isn’t it possible the answer is you’re doing the best you can with a tough product in a tough market?

Well, I hate to call it a B-minus market, and I don’t think that, at least the buildings we have, are that tired. I know we’ve said this a lot of times, but what’s going on is that market increased something like 20% or 25%, with the new construction that went on there, through the recession, and so it’s the one market that has had a harder time or a slower time, if you will, in terms of recovering. Prior to the recession, some of the highest rents were in Warner Center. So that means like the Encino, Sherman Oaks, Glendale, and Burbank Airport district, Pasadena. Okay, highest rents? That Warner Center area. So you know, what happened was, just that great amount of supply coming on at, we’ll call it, exactly the wrong time, has caused us to be just a little slower in terms of recovering at the same pace as the other markets around here. The other thing that’s happening there is as so much more residential gets built, and as so much more retail gets built, and as larger tenants - you know, this is the good news, but also bad news - start moving out for cheaper places, whether it be Arizona or Texas or whatever, the space is getting backfilled with smaller tenants that are less rent-sensitive. But it’s a process where you have vacancy, and then you back up, you have a vacancy, and you back up. And we’re going through that. So we’ve been going through that, which is an improvement in the area, as well as absorbing the new space that was brought on. But I’ve got to say, when you go out there and you see what’s going on, and as I said, we’re not the only ones with this feeling, there’s a lot of capital being spent in that area, because it’s a very nice area to live, in terms of the schools and the housing and all the rest of it. You know, even though the metrics, the numbers you guys are seeing, it’s always except for Warner Center, when you go out there, it’s a really good market.

Let me add two facts to sort of underline what Jordan is saying. The first one is, I actually think, contrary to what I think you were assuming, I think that the physical buildings that we own in Warner center may be among the very best in our portfolio in terms of just new buildings. And secondly, if you look at Warner Center, and taking out the fact that it had new construction in the 2004-6 range, [then through the eights], over the last 15 years, since 2000, Warner Center has added more occupied class A office space than any other of our submarkets. So the problem has not been demand in Warner Center. Warner Center has added a lot of demand. The problem has been, up until now, the addition of all the space back in that period right before the recession, and then continuing into it.

So there’s a shift now, and as I said, it’s amenity construction, it’s residential construction. All great stuff for that area.

And then one last comment. You guys switched from having this call at 11 a.m. Pacific on a Wednesday to 11 a.m. Pacific on a Friday. Maybe next quarter we just switch it to 3 p.m. Pacific? [laughter]

Well, we could do that. I mean, actually, the reason this switch happened is I was supposed to be out of town next week, which I didn’t end up being, but we’d already set the date. So we kind of moved it forward on ourselves. I wanted to move the call earlier, and all the people left here prepared their accounting numbers and their releases and the quarterly stuff freak out, because I ruin their timeline. So the compromise was to slam it to the end of this week, because I thought I was going to be out next week. I suspect we’ll go back to the Wednesday like our normal schedule going forward.

3 p.m. Friday. A lot better. A lot easier.

I suspect we wouldn’t have as many people calling in with questions, that’s for sure.

And your next question comes from the line of Jamie Feldman.

Can you guys just talk about how the current leasing pipeline compares to this time last quarter?

I think it’s a tiny bit less than it was at this point last quarter.

In terms of square footage?

Yeah, the square footage in the pipeline. Yeah. Last quarter, when we were having this call, which was the first week in May, our April was, like, crazy. Was it 460,000 square feet or something like that? Come on, 460,000 square feet in one month. That would be a stunner to have in any other month this year. So it’s going to be a little off from that, but still extremely strong.

And then how does it break out by the different submarkets. I’m also trying to get a sense of, obviously you’ve talked a lot about Warner Center, but what about some of the other parts of your portfolio?

It’s pretty well spread with certainly kind of new coming in Warner Center, because that’s where the space is.

And your next question comes from the line of Jed Reagan.

Just curious if the pricing environment out there makes you a little more keen to develop new buildings, or just acquiring existing ones? So are you actively looking at any new development opportunities? And then maybe just related to that, any updates on the Brentwood permitting process?

Well, in terms of being able to develop, there’s just not a lot of development opportunities for office, so mostly you’d be talking about residential, which that is where we’re doing development. Brentwood, I mean, where it’s at is we had a good round of meetings with the various community groups, and with the city council and all those people. We’ve submitted our initial environmental impact report. It’s being reviewed. It’s a very big document with a lot of sections that have been done right and have to have gotten comment from the community in terms of everything they want to have in that report. We got that comment, we got the report down. We turned it in. And we are now waiting for comment back from the city in terms of yeah, I want more on this, a little less on that, or whatever. We’re also kind of constantly in dialog on it. So that’s where that’s at. Does that answer your question?

I meant sort of gut feeling, kind of like you’re still on track, or relatively where you were last time?

For the Brentwood deal, yeah. I mean, as on track as you can be in a process that is absolutely unpredictable in terms of whether you’re going to get approvals, when you’re going to get approvals, you know, if there’s community groups that are going to want to negotiate this, that, or the other. I mean, this is a very tough process. It’s like asking a politician if he’s on track to being elected. [laughs] I mean, yeah, I guess so. But in terms of the project in Hawaii, we’re really pleased with where that’s going. There was a little sliver of land that we had an opportunity to buy, which we did buy. And it’s allowed us to reposition the buildings a little bit, which is very positive for what’s going on there. You know, we have 30 acres where it’s just this weird little piece. I think we only paid $70,000 for it, but it allowed us to make a pretty big change that made the whole thing flow better. So we’re making that change, and that stalled us a couple of months.

And there are no further questions.

Well, thank you everybody. And next time, we won’t make it so late in the day for those of you on the East Coast. And we look forward to speaking with you then. Goodbye.