Hudson Pacific Properties Q4 2023 Earnings Call Transcript

Quartr
Provided by Quartr
February 13, 2024

There are 15 speakers on the call.

Operator

everyone, and welcome to the Hudson Pacific Properties 4th Quarter 2023 Earnings Conference Call. My name is Emily, and I'll be coordinating your call today. I'll now turn the call over to our host, Laura Campbell, Executive Vice President, Investor Relations and Marketing. Please go ahead.

Speaker 1

Good morning, everyone. Thanks for joining us. With me on the call today are Victor Coleman, CEO and Chairman Mark Lamas, President Ruth D'Armirian, CFO and Art Swatho, EVP of Leasing. Yesterday, we filed our earnings release and supplemental on 8 ks with the SEC and both are now available on our website. The audio webcast of this call will be available for replay on our website.

Speaker 1

Some of the information we'll share on the call today is forward looking in nature. Please reference our earnings release and supplemental for statements regarding forward looking information as well as the reconciliation of non GAAP financial measures used on this call. Today, Victor will discuss our 2023 accomplishments and 2024 priorities, Along with macro trends across our markets, Mark will provide detail on our office and studio operations and development and Harut will review our financial results and 2024 outlook. Thereafter, we'll be happy to take your questions. Victor?

Speaker 2

Thanks, Laura. Good morning, everyone, and thanks for joining us. 2023 proved to be a challenging year as higher interest rates fueled recession fears and slowed the pace of office leasing across the country. Many industries including tech focused on cost cutting in part through layoffs and real estate downsizing. And while the nationwide office leasing activity improved incrementally in the Q4 remained about 10% below the 5 year quarterly average.

Speaker 2

Furthermore, A once in a generation dual studio union strike effectively shut down the entertainment industry. In Los Angeles, 2023 film and TV production in aggregate fell approximately 40% compared to the prior year led by scripted TV, which fell close to 70%. Against that backdrop and within our portfolio in many of the most impacted markets, our team has remained steadfast in our priorities to navigate These uncertain times aggressive leasing further strengthening our balance sheet in part through asset sales, executing on our active development opportunities as well as maintaining a leadership position in ESG. Specifically, we signed 1,700,000 square feet of office leases in 2023, averaging over 420,000 square feet per quarter. We executed on over $1,000,000,000 of asset sales, which enhance liquidity, allowing us to address our debt maturities until Q4 2025 and improve our leverage metrics.

Speaker 2

We're also on track to deliver our Sunset Glen Oaks Studios and Washington 1,000 development projects this quarter, and we received multiple ESG accolades. All of this we accomplished while quickly pivoting to streamline studio operations and maximize non production revenue during an historic strike. The Fed's January commentary did little to encourage a major shift in corporate sentiment around office leasing, but we continue to observe a variety of trends in our core industries and markets that are favorable. In the 4th quarter, tech leasing rebounded to approximately 15% of all activity, up from 10% in the Q4 last year, but still 5% to 10% below pre pandemic levels. In aggregate, tech layoffs appear to be slowing.

Speaker 2

Tech employment still exceeds pre pandemic levels and is relatively strong compared to other industries. AI is in its early innings and has been an important driver of growth, comprising of around 40% of leasing activity in the San Francisco market in the Q4. In the years to come, we expect to see second and third waves of AI growth as big tech builds out their own teams and non tech companies implement AI services both increasing the demand for office space. Venture funding levels for the full year 2023 were in line with 2020 and are still strong. Most of the funding that has disappeared versus peak years of 2021 2022 is for very large deals, say $250,000,000 plus, Whereas smaller deals are only 25% off peak.

Speaker 2

And while tech has embraced the hybrid model, research indicates companies that are working on innovative evolving technologies have a much stronger preference to be in the office. These are small to medium sized companies requiring 30,000 square feet or less that are growing and looking for space to support that growth. This is our area of expertise in the Silicon Valley and a trend we should benefit from in our leasing tours and pipeline. Turning to our Studio segment, following SAGS contract ratification in December, Production companies have been slow to green light new productions. And in January, production counts remained approximately 20% below 2021 and 2022.

Speaker 2

Based on the level of activity we're seeing real time, we now anticipate that production levels may not materially improve until the second half of the year. Media companies are still adjusting their business models through both revenue generating and cost saving measurements, But original content remains integral to subscriber growth. And as an example, Netflix, one of our largest tenants, Recently reaffirmed $17,000,000,000 of content spend for the year, which is in line with our 2021 2022 pre strike spend. On the transactions front, we successfully executed on 3 asset sales in the quarter, generating almost $890,000,000 of gross proceeds. Most notable of these was our $700,000,000 sale at approximately a 6% cap rate for our One Westside and Westside 2 office redevelopment to UCLA, which we owned 75.25 with Macerich.

Speaker 2

The fact that in the 5 years plus since acquiring this asset, we found not one, But 2 high quality innovation centric end users for this asset is a testament to our ability to identify and execute on unique opportunities and ultimately realize significant value for our shareholders. We'll be working with UCLA on their build out for certain elements of project on a fee basis going forward. We also sold certain tranches of a loan secured by our Hollywood media portfolio for $146,000,000 and a parcel of land in North San Jose for approximately $44,000,000 All of these proceeds served to significantly enhance our leverage and liquidity position. We also received additional ESG recognition in the 4th quarter. We were named an Office America's Sector Leader by GRESB for the 3rd year in a row and for a 2nd year in a row, NAREIT's leader of the light for Office and one of Newsweek's America's Most Responsible Companies.

Speaker 2

Our focus on ESG continues to further differentiate our platform and assets while providing value for our tenants, our employees and our shareholders. At Hudson Pacific, we remain committed to our long term strategy of optimizing our unique portfolio and platform to take advantage of future growth opportunities as they arise. In 2024, our priorities are fourfold aggressive leasing within our office and studio portfolios, executing on opportunistic dispositions, successfully progressing our New York studio development and further deleveraging and fortifying our balance sheet. In so doing, as the next wave of growth takes hold, We will be well positioned to leverage our portfolio, expertise and relationships to benefit our shareholders. Now, I'm going to turn the call over to Mark.

Speaker 3

Thanks, Victor. We signed 432,000 square feet of office leases in the 4th quarter. 75% of these were renewal leases and close to 65% of that activity was in the San Francisco Bay Area, including a 57,000 square foot renewal with GitHub at 275 Brandon. Our cash rents decreased just under 10%, While GAAP rents decreased 2%, largely driven by 2 midsized renewals in the San Francisco Bay Area, the expiring leases for which were signed at the top of the market. But for these two renewals, our cash rent spreads would have been flat.

Speaker 3

Our in service office portfolio ended the year at 81.9 percent leased with approximately 75 of 120 basis point decrease between the 3rd Q4 attributable to the sale of One Westside. We are still seeing tour demand accelerate. During the quarter, we had over 145 tours representing 1,400,000 square feet of requirements, up 4% since last quarter and 50% higher than this time last year. Our leasing pipeline also remains active with deals and leases, LOIs ore proposals totaling 1,900,000 square feet, slightly below last quarter, but still up almost 6% year over year. In 20222023, we had an atypically high number of office leases expiring, Largely the result of short term renewal leases signed during the pandemic.

Speaker 3

We also had several large 100,000 square foot plus leases rolling. This year, we have a more manageable 1,500,000 square feet expiring, which is aligned with our long term average. This includes only one tenant and known vacate of just over 100,000 square feet expiring. We currently have a variety of activity that is deals signed in leases, LOIs, proposals or discussions on approximately 40% of that space, which is relatively on track for this time of year. Importantly, While we cannot control how and when demand will return, we remain confident in our portfolio along with our team's ability to drive tour activity and execute on leasing in an effort to expedite closing timelines.

Speaker 3

That said, we are not banking on any material improvements in the operating environment this year. Our occupancy will likely be under pressure at least in the 1st 3 quarters of the year with a potential to return to essentially flat occupancy by year end. This is based on both our historical leasing trends and informed directly by our team's detailed space by space, lease by lease assessment of our portfolio and what we believe should be achievable. Turning to our studios. On a trailing 12 month basis, our in service studios were 80.4% leased and our stages were 84.7% leased with the change largely attributable to a single tenant giving back 6 stages in support space in the second and third quarters due to the strike.

Speaker 3

Our Coyote Studios and Stages were 29.3% and 30.1% leased respectively on a trailing 12 month basis. In terms of our service business, in the 4th quarter, Production resumed on certain of our long term lease stages, which led to a 7% increase in combined lighting and grip and other services revenue. We also grew our transportation revenue by approximately 10% from live events. Even as it's taking time for shows to enter production, We have seen a pickup in demand. From December to January, we saw a 45% increase in studio tours and more than a doubling in stage related inquiries.

Speaker 3

Utilization across our transportation assets also picked up incrementally in January. Looking out over the next 90 days, 45% of our available stages are booked, which is a new high watermark since the strike, following a multicam reality show taking all three stages at Quixote New Orleans. As for our in process developments, Sunset Glen Oaks is effectively complete and we are awaiting Department of Water and Power sign off required for certificate of occupancy, which we expect to have next month. We pushed out our completion date to Q1 to reflect this updated timing. We are actively touring and engaging with an array of productions interested in either long term or show by show leases.

Speaker 3

Construction continues at Sunset Pier 94, which will deliver year end 2025 and we are in discussions with multiple tenants interested in long term multistage leases. As for our Washington 1,000 development, we are finalizing FF and E and other marketing improvements as we await certificate of occupancy, which we also expect to receive next month. Large tenant demand in Seattle has yet to come back in a material way, We are staying flexible and actively touring full floor users. The building is stunning and we expect interest to accelerate once tenants can fully experience its impeccable design and fantastic indoor outdoor amenities, especially vis a vis competitive product. And now I'll turn the call over to Arun.

Speaker 4

Thanks, Mark. Our Q4 2023 revenue was $223,400,000 compared to $269,900,000 in the Q4 of last year, mostly attributable to the sales of Skyway Landing, 604 Arizona and 3,401 Exposition previously communicated tenant move outs at 1455 Market and 10,900ten,950 Washington as well as a reduction in studio services and other revenue due to the related union strikes. Our 4th quarter FFO excluding specified items was $19,600,000 or $0.14 per diluted share compared to $70,200,000 or $0.49 per diluted share in the Q4 last year. Subsequent items for the Q4 2023 consisted of deferred tax asset write off expense of $6,600,000 or $0.05 per diluted share and transaction related expenses of $200,000 or $0.00 per diluted share. Prior specified items consisted of transaction related expenses of $3,600,000 or $0.03 per diluted share.

Speaker 4

Our 4th quarter AFFO was $21,500,000 or $0.15 per diluted share compared to $62,100,000 or $0.43 per diluted share in the Q4 last year. Our 4th quarter same store cash NOI was $116,100,000 compared to $127,400,000 in the Q4 last year With the change mostly attributable to the large vacate at 455 Market and midsized tenant move outs in the San Francisco Peninsula and Silicon Valley combined with a single tenant vacating stake stages at Sunset Las Palmas during the strike. Note that our 2023 full year outlook assumed a 1.5% same store cash NOI growth at the midpoint, Including One Westside, which was sold 5 days prior to the end of Q4 and where we experienced the full benefit of cash rents in 2023, Our full year office same store cash NOI growth would have been 3.8%. This also includes 170 basis points of growth attributable to the WeWork letters of credit, which we drew down in the 4th quarter and were not accounted for in our 2023 full year guidance assumptions. Turning to the balance sheet.

Speaker 4

Following our $482,200,000 mortgage loan refinancing at Bentall Centre with Blackstone and the full repayment of our construction loan From the sale of Bone Westside and Westside II, we have no maturities until November 2025. Further, we use the net proceeds from One Westside side and Westside 2 as well as the sales of Cloud 10 and the Hollywood Media portfolio to repay outstanding amounts under our unsecured revolving credit facility. As a result, we improved our share of net debt to undepreciated book to 36.5 percent and our share of net debt to EBITDA at 8.9 We finished the year with approximately $800,000,000 in total liquidity comprised of approximately $100,000,000 of cash and cash equivalents and $700,000,000 of undrawn capacity under our unsecured revolving credit facility. The undrawn capacity of our credit facility reflects reduction under commitments to $900,000,000 in association with favorable adjustments made to our related definitions and covenant calculations this quarter. We also have another approximately $200,000,000 of undrawn capacity under our Sunset Glen Oaks and Sunset Pier 94 construction loans.

Speaker 4

Now I'll discuss our 2024 outlook. As always, This outlook excludes the impact of any potential dispositions, acquisitions, financings or capital markets activity or disruptions in studio operations related to an active strike. We're providing a Q1 and initial full year 2024 FFO outlook in the range of $0.15 to 0.19 dollars and $1 to $1.10 per diluted share respectively. There are no specified items in connection with this guidance. We are introducing 1st quarter guidance to provide greater visibility around how our initial expectations for earnings in the early part of the year compared to our full year projections.

Speaker 4

More specifically, while we are seeing steady improvement in production activity Since Saks contract ratification in December, most of the current activity relates to returning shows rather than new productions, The acceleration of which is an important driver of demand of our Quixote Studios and Services. We expect new activity to continue to ramp up into the second half of the year, which should in turn contribute to steady improvement in our quarterly FFO outlook. Now we'll be happy to take your questions. Operator?

Operator

Our first question today comes from Alexander Goldfarb with Piper Sandler. Please go ahead.

Speaker 5

Hey, morning out there. Just two questions. First, A lot of us on the call clearly understand real estate. We don't understand the movie business. So as we look at the guidance and the first quarter Guidance.

Speaker 5

Can you just help us understand the media walk through and the ramp? And then Victor, to your point About the studios just taking a bit longer, is there an assumption that, that $100,000,000 of NOI that you guys lost because of the strikes that that will come back or meaning annualized this year or is that something that could get pushed out, the recovery of that $100,000,000 could get pushed out to like $26,000,000 or beyond?

Speaker 2

Let me start with the generic, Alex. So thanks for the questions. And then I'll let Harub jump in on the first part. We'll walk you up the ramp a little bit, okay? So our prepared remarks sort of indicated in the last quarter that we assumed when the strike was ending in November and then it wasn't ratified till December.

Speaker 2

The production was cease and desisted until January. The current state of affairs right now is any Production that was in filming is back up and running now. Anything that was green lit is now has to be green lit again And the timeline has been delayed because writers had stopped writing. They couldn't write. And so we assumed that we would have a back end year And that's been the assumption and how we've ramped you up to the second half of the year.

Speaker 2

It may be Q2, late Q2. We're very comfortable it's going to be 3rd and 4th. And seasonality is not going to play as much of an issue going forward on that basis. In terms of the $100,000,000 yes, we think we're going to get there this year, But it could trickle through the Q1. It's clearly been January, the holds for the sound stages and the activity is there.

Speaker 2

The production has not been executed because the script writing and other aspects around that have not been completed. We do think there are multiple holds that are going to be executed for leasing and I think pretty much comfortable that how we've looked at this analysis being at this quarter is going to be low relative to the Q4, which will be high. That step up is exactly where we believe that it's going to be. Haru, do you want to

Speaker 4

walk through it? Sure. So Alex, good question on the impact on the media on our guidance. So the media, specifically Chiyoti and the timing around The activity there is contributing about $0.15 of our FFO. So meaning had that normalized quicker, We'd have $0.15 more of FFO and you can kind of see that in our results of activity for the remainder of the year.

Speaker 4

We're going from roughly a midpoint of $0.17 in Q1 to an average of I think almost $0.30 the rest of the year if back into the number. And that basically is the biggest driver is Chiyoti as a result of again The slower ramp up of the studio business. I think if you normalize for that, we'd be much more in line.

Speaker 5

Okay. And then the second question is, maybe Art can comment. The one of the positives that we were hoping for this year, Last year, you guys were hit by Block, which was a big impact. WeWork, big impact. This year, the granularity of the lease exposure was much smaller.

Speaker 5

I think the biggest one was like 90,000 and then 80,000 and then it dropped off precipitously. So it's much more Smaller impact. Based on your leasing comments that occupancy could decline through the 3rd quarter, That leasing tech leasing is still tepid. Do we still have comfort or do you guys still have comfort in the granularity of this year's lease exposure that We won't really see big impacts the way we did last year or are you viewing that the lease exposure this year while smaller tenants, we could end up with sort of the same treasury, if you will, this year that we saw last year?

Speaker 3

Alex, this is actually Mark because those are my comments as it related to softness in the 1st part of the year. I'll just give you a little bit of color around that and then Art can comment on status of some of the upcoming expirations. But Yes. So our own expectations is that for the first half of the year, we're likely to see a bit of softness on our levels relative to where we ended the year with steady improvement in the back half of the year. Just to put a finer point in terms of what that blows down to in terms of numbers.

Speaker 3

If you take our twelvethirty onetwenty 3 expirations together with Our schedule our 24 expirations about 1,700,000 feet of total expirations. If you take, say, 40% retention on that, which would be a historically conservative amount, We typically retain better than that amount, but if you took 40 percent, it's about 700,000 feet of that. We've already executed 75,000 feet of that. That leaves us about 1,000,000 feet of leasing to do on existing availability. We've already executed about $160,000,000 of that.

Speaker 3

So that leaves you about $840,000 to spec new leasing. On existing availability, it's fairly To get back to where we ended the year on occupancy, so 8.40 is fairly high level of activity. As we indicated in our prepared remarks, the team is as we do every year heading into year end, we do a Very, very detailed deep dive into every asset, every available space. And as we sit today, we think that number is achievable, which is why we commented in our prepared remarks that we think it's a good site to get back to year end 20,301, 2023 occupancy by end of this year.

Speaker 6

And Alex, if you we're 40% Inactive process right now, which we feel really good about. But you made a comment about small tenants. Yes, that's exactly right. That number is going to grow because Our average tenant size is well under 10,000 square feet. They're later year and these tenants aren't engaging just yet.

Speaker 6

So this doesn't reflect that once they start engaging, the small tenants are going to that number in the aggregate is going to help us a great deal.

Speaker 7

Thank you.

Operator

The next question comes from Michael Griffin with Citi. Please go ahead. Hello, Michael. Your line is now open. Please proceed with your question.

Speaker 8

Sorry, sorry, I was on mute there. Question for Harut, just kind of on the cash balance and sources and uses. If we look, I guess, relative to last quarter, from this quarter, your cash balance went up about $25,000,000 But then I'm just trying to reconcile the $700,000,000 that came in from the One Westside proceeds and then paying off the construction loans there, gets me to about $500,000,000 or so Maybe of net cash proceeds. So could you walk me through kind of where the remainder of that went and any commentary around that would be helpful?

Speaker 4

Sure. Just a reminder, the $700,000,000 is not all ours. We have a 25% partner. And

Speaker 2

so we take

Speaker 4

the $700,000,000 there was some closing costs. There is a holdback of about $16,000,000 that we should get by the end of 2024 And the remainder was first used to pay down the construction loan and then our net proceeds were used to pay down our line of credit. So every dollar every extra dollar we had we used to pay down line of credit. So we have another like I said another $16,000,000 coming to us. Well, split between us and Macerich that will come at the end of 2024.

Speaker 8

Got you. That's helpful. And then maybe just a more broad question on your markets and distressed opportunities you're seeing out there. Obviously, it seems like one of priorities is to pay down debt and to get the balance sheet in better order. But if you do see distress out there, could you look to capitalize on any opportunities?

Speaker 2

Yes, Michael, listen, we're not seeing the stress that is attracting us right now. We are Evaluating price per pound and the cap rate movements in all of our markets, but there's not a tremendous amount of deals out there that are truly The forefront deals that I guess Hudson would want to partake in right now. We've got our finger on the pulse clearly as to what's in the marketplace. I would say the activity that you're seeing that has been obviously given back to some of the lenders or certain sellers are looking to sell assets, There's more about like an owner user type aspect versus a value add aspect right now. That being said, I think we're going to see some opportunities that may be intriguing With existing partners on assets that we may have opportunities of taking out at some pretty Good valuations for the company to move forward on if there's upside in those assets.

Speaker 2

So we're in the market. I would say, I mean, of course, everybody's focused on San Francisco because of its depressed aspect, but there's only been a few deals done there. There's going to

Speaker 9

be opportunities in Seattle. There's going

Speaker 2

to be opportunities in the Valley and there's also going to be opportunities in Los Angeles.

Speaker 3

Great. That's it for me. Thanks for the time.

Operator

The next question comes from Blaine Heck with Wells Fargo. Please go ahead.

Speaker 10

Great. Thanks. Good morning.

Speaker 9

I was hoping you guys could give a

Speaker 10

little bit more color. I know you guys are done breaking out studio versus office same store guidance. But I do think that coming into 2024, there was some optimism that the studio side could Show some better results in the services business that could offset some headwinds on the office side. So any sort of general color you could give on the contribution of each those 2, the overall same store number would be really helpful.

Speaker 4

So we made a decision a while ago to only provide same store for the company overall instead of breaking it out between the 2. But you can see that the preponderance of our business is the office side and that's been the driver of our projection. There is some growth obviously in the media side, but the driver for at least 2024 is office. But just as a reminder, The Quixote business, which is the operating business is not in our same store number. So, if you add that And we change the definition of same store, I think would be up 5% year over year.

Speaker 4

So just to give you some context there.

Speaker 10

Okay. That's helpful, Garu. Just a follow-up on that to dig in on the office side. You do have a lot of vacancy at 1455 Market from the block move out. Can you just give us an update on your thoughts around backfilling that space and what's included in guidance, If anything.

Speaker 2

Yes. Let me start and I'm going to have Art dig in. We have right now In negotiations about 155,000 feet of deals, I think that could grow substantially with some existing negotiations and interest levels over the next 12 to 24 months. The assets Uniquely positioned because of the current build out with Block and Uber, that space is so unique and large floor plates Blaine, that seems to be where the interest level is. Clearly, the deals that we did With Block and Uber, we're in a different timeline.

Speaker 2

The market has shifted back to not necessarily where those levels were, But at least closer to where they were than where the rents would have been when they exited. So we still have some a little bit of headroom there and we're comfortable with some of the aspects on those deals that we're looking at. Yes. I mean relative to our vacancy in

Speaker 6

San Francisco, I mean the preponderance of it is in 1455 for the reasons Victor described. In addition to that, remember, it's really 2 buildings in 1, right? It's not just the build out that The residual value in the build out, but it's 90,000 foot plates on the podium and 25,000 square foot plates in the tower, which is Quite appealing to the users we're talking to. Yes, there's 150,000 square feet that we're actively in negotiations on right now. I just want to underscore that the growth behind it from within these tenants will would happen fairly imminent.

Speaker 10

Great. That's helpful. Last question for me. Can you talk about the impairment charge that you guys took in the quarter and what was driven by just the situation around that?

Speaker 4

Yes, sure. We're required to evaluate our assets. It's a GAAP valuation, not a market evaluation, to be clear. This is not an indication of fair value, but just kind of an indication of where there might be some impairment in terms of the valuation compared to our book balance. And so it's primary I mean, I don't want to get Specific on it, but primarily relates to a couple of assets that compared to the undiscounted cash flow don't seem to be long term value adds.

Speaker 4

So I mean, I don't know what I'll say about that, but that's it.

Speaker 7

Okay. So just to be

Speaker 10

clear, this isn't to suggest that you guys are looking to kind of dispose of any assets, But this was a revaluation that was triggered by something else?

Speaker 6

Correct.

Speaker 10

Okay. Thank you, guys.

Operator

Our next question comes from Caitlin Burrows with Goldman Sachs. Please go ahead.

Speaker 11

Hi, this is Julian Blouin on for Caitlin. Thanks for taking the question. I had a question on G and A. It looks like G and A is to be a little bit higher year over year and certainly higher than we were expecting. I guess Last year, I think you mentioned you were looking to reduce costs and reevaluating G and A and the company has yet to reinstate the regular dividend common shareholders.

Speaker 11

I guess what is driving G and A higher? And are there any opportunities to lower it?

Speaker 4

Let me answer the second one first. Yes, there's opportunities to lower it and we're going to constantly evaluate the G and A to make sure it's rightsize the increase year over year is primarily driven by an incentive plan. So it's while the expense is high, it's really going to be driven by stock price and return. So It aligns the management's interest with the investors' interest, meaning the shares won't be issued unless we achieve certain hurdles. So for accounting purposes, they're valued at target and those numbers can seem high year over year, but that doesn't mean you actually incur those costs because if you don't achieve those goals, none of those shares are issued, but the expense is still in our underlying numbers.

Speaker 4

Yes, and also thank you, Mark, just remind me. In the prior year, we We removed that portion of the incentive plan in 2023, which it caused an increase year over year from 2023 to 20 24. If you compare that to if you compare our G and A from 2024 to 2022, the increase isn't as stagnant. It's a small increase, but that's what drove the year over year increase. There's a lack of the same plan in 2023 compared to 20 24.

Speaker 11

Got it. Okay. That's helpful. And then maybe one quick one on the covenants. I guess the debt service coverage and adjusted EBITDA covenants tightened again in the Q4.

Speaker 11

I know some of the others got sort of amendments and were helped by the flexibility received. I guess how do you expect those specific covenants to trend in the coming quarters? And will an improvement in the studio NOI eventually start to help these metrics?

Speaker 4

Yes, for sure. Let me just I don't want to gloss over the improvement. Remember last quarter, The one covenant that everyone was concerned about was the unsecured indebtedness to unencumbered asset value, which was at 57.7 And this quarter is at 41.8%. I don't want to gloss over the improvements there. Yes, some of it relates to the adjusted definition, but the rest of it is driven by the management's reduction of debt, payoff of debt from asset sales.

Speaker 4

So that is important. It's not just the definitional changes associated with the line of credit. But to address your specific points around the EBITDA and fixed charges, so that's a trailing number. So right now, we're trailing A lot of the higher interest expense before the pay down that once that burns off, it will start changing directions. And yes, the studio business will help that number as it starts improving.

Speaker 4

So we expect that to start improving. I'm not saying it's going to be immediately up to back to 2.6, but our productions assume it's going to improve over the year.

Operator

The next question comes from John Kim with BMO Capital Markets. Please go ahead.

Speaker 7

Thank you. On the studio and service ramp in the second half of the year, getting you to about $0.30 FFO per quarter, Does it improve in 'twenty five as you realize some of those synergies in Coyote and you get the full benefit of Glen Oaks or is $0.30 maximum,

Speaker 4

Oh, no, no. We expect sorry, John. So just to be clear, it's not I just want to make sure I'm not Didn't misconstrue it. It's not $0.30 for the media business. It was $0.30 overall based upon the math, Okay.

Speaker 4

But the media business, we expect it to continue to improve year over year. So We definitely think there'll be improvement not only from the synergies of the business, but also just the overall business itself as it continues to get back to normalization. So 2024 again because of Q1 is a much lower year just That alone is going to increase in $0.25 without everything else that we just mentioned.

Speaker 7

Okay. So getting to $0.30 in 3rd Q4 would imply $0.28 of FFO in the second quarter. What are the chances that that disappoints just given the slower ramp up of production?

Speaker 4

It's really hard to know. We thought maybe for the Q1 for us to go ahead and comment on Q2 and thinking it might disappoint is, it's a bit early. I don't think we would have provided the guidance numbers we did if we thought it was going to disappoint. So I think we feel pretty comfortable with them. And, yeah, that's That's all I can

Speaker 9

say. Okay. My next question is on leasing activity.

Speaker 7

I think Mark mentioned 2 thirds of that was in the Bay Area this past quarter, but then also tour demand has accelerated. I was wondering if you could break down that Tour activity among your major markets, LA, Seattle, San Francisco and Silicon Valley?

Speaker 6

Sure. This is Art. Tour activity really kind of goes hand in hand with what we have in our active pipeline. And I would say that 65% of the $1,900,000 is spread out throughout the Bay Area pretty evenly. So We're talking about $1,200,000 $1,200,000 of the $1,900,000 is across the Bay Area.

Speaker 6

And so the team is working Ferociously to try to get all of those through the pipeline. It's going to come down to deal velocity, how long it's going to take to do some of these deals. And Going back to the first part of that question, which is tour activity, right, that's the precursor to all of this. And so the fact that we're up Call it 6%

Speaker 3

quarter over quarter,

Speaker 6

both in number and Square footage bodes well for the coming quarters. And so Seattle of that percentage, Seattle Both Seattle and Seattle is close to 25% and the rest rounds out LA where we don't have a lot of vacancy or expirations and Vancouver.

Speaker 7

May have missed this, but what was the 6%? I thought the activity was 50% higher.

Speaker 6

The tour no, the tour activity.

Speaker 7

The 2Rx was 6% higher?

Speaker 6

Yes. Year over year, it's 50% higher, right? 6% sequentially. Yes.

Speaker 7

Sequentially. Okay, got it. Got it. Great. Thank you.

Operator

The next question comes from Rich Anderson with Wedbush. Please go ahead.

Speaker 12

Hey, good morning. On the topic of sort of green lighting new production and understanding it's going to take some time because the writers were on strike as well. To what degree did that take you off guard like it did The Street apparently in terms of how your the cadence of your quarterly guidance your quarterly results that we're envisioning for 2024. But a bigger question is, does this suggests that there could be like this pent up option or activity, I should say, in the back half of the year. You don't want to guide to that, but Maybe there's a real chance to have a 2x type of catch up in your studio business on the other side of all this.

Speaker 12

Is that something that's at least possible?

Speaker 2

Well, let me sort of make general comment. I mean, once the stages are leased, they're leased, right? So you're going to have the revenue stream on the stages whenever they're fully leased. In terms of the ancillary revenue in the Quixote business, Yes. I mean, still on the market share for our Transpo business, we still have 70% of the market share.

Speaker 2

So when that Industry is fully up and running. We're going to benefit from it. I don't know if Rich, I don't know if it took us off guard. I mean, listen, what took us off guard was the fact is that the industry stopped and it never started even when the strike was over. It didn't start until January Because it wasn't ratified till December.

Speaker 2

They didn't work in December. So there is a ramp up period. We've always said that that ramp up period should be fairly aggressive and we're going to benefit from it. I guess what surprised us was really The green lighting of shows was truly the writers didn't write. I mean, as opposed to if you look back at COVID, there was communication in writing and when they got To the point that they were going to produce content, it started right away.

Speaker 2

This is just taking time. As we mentioned in our prepared remarks, the majority of our Tenants in the industry have still maintained a budget of production content that is going to be For this year, it will be back ended, but they're not coming off of their numbers. And we don't think it's going to be the case for 2025 or going forward. So I think we're pleasantly looking for production to start. And once that ramp up starts, it should continue.

Speaker 12

Okay. And then second question is on 2025. Mark, you said we're back to 1.5 1,000,000 square feet for 2024 in terms of office expirations, but it pops back up a little bit in 2025 and approaching 2,000,000 square feet and 18% of the portfolio. Do you guys see anything there that Sort of on your radar screen, sort of like a watch list further out or are things feeling a little bit more stable with a longer term view?

Speaker 3

Well, I mean, We'll tag team this with Art. I mean, as you know, we've got Uber in 'twenty five, early 'twenty five at 325,000 Victor mentioned activity we have at 1455 Market, which helps address the Square expiration and could even get us a head start on inroads there. After that, the expirations in 25 at least taper off. We've got Google for 180 at Foothill, we're keeping an eye on that.

Speaker 7

We I don't want to

Speaker 3

get too far into Art's commentary here, but As we go throughout the rest of the year, the expiration size at least comes down from there and there is some activity on that. Art, do you want

Speaker 6

Yes. To put a finer point on what Mark said about 1455, yes, some of the space we have actively in negotiation and the deals Behind that or the square footage behind that is both on the Uber and the Squarespace. So looking at both of them concurrently. And then beyond that, there's some mid sized deals that we're in negotiations on that perhaps rightsizing, but Nothing that's alarming beyond the first kind of couple of deals that Mark mentioned.

Speaker 12

Okay. Okay, fair enough. Thanks.

Operator

The next question comes from Tom Catherwood with BTIG. Please go ahead.

Speaker 13

Thank you and good afternoon everybody. Victor, in the press release and your prepared remarks, You noted your commitment to delevering. Can you provide your thoughts On near term levers to progress towards that and maybe what parts of the portfolio you consider untouchable when it comes to raising capital to repay debt?

Speaker 2

Great question. First of all, we have a few deals right now that we've got some reverse inquiries on. We're currently not marketing any asset to delever the portfolio, but we have At least 3 transactions that have come to us and 2 of which are by users. I think We maintain that we want to look at our B assets in the portfolio and eventually get rid of them at the right price and the right terms and the right conditions. There is no fire sale going on because we did a phenomenal job in the $1,000,000,000 last year That sort of rerouted the ship from the capital market standpoint.

Speaker 2

But we do have a couple of assets that I think will fall into the category of disposition for the first half of this year. And potentially, the ones that are, as you look at it, like off The table, there really is only one asset that we currently have in the portfolio that would be considered A Class A asset that we've got a reverse inquiry on that we would consider. The rest of them are not things that we can't live without, I guess, I would put it that way.

Speaker 13

Appreciate those thoughts. Thanks, Victor. And then maybe moving over to San Francisco, The GitHub renewal was a welcome surprise, especially given CEO's prior plans to go fully remote. Can you share any insights you may have into their change in real estate strategy and maybe whether there's any read through for other tech tenants in your portfolio?

Speaker 2

I mean, in a general basis, there is a lot of these tenants have come back and revisited the work from home status. As we said in the prepared remarks, we feel very comfortable we're at the tail end of this. Candidly, we're a little surprised that it's taken this long. And the West Coast is a slower mover as we're all feeling and unfortunately living with every single day. I guess you guys all know what my thoughts are around that.

Speaker 2

But that being said, I think there's a generic push For interaction, for onboarding and culture, and GitHub is a great example of that. They realized that they needed space, Albeit they didn't need all of it, but they needed space. And hopefully that follows suit with some of the other ones we're talking to right now that we thought We're also going to take a different direction and now come back and ask for renewals. So that's the general tenor. It seems as if The majority of the tech tenants have made their decision as to what direction they're going in

Speaker 6

and now they're executing on it. That's right, Tom. It was a win all around for the reasons Victor mentioned, and we are seeing that with the other Tenant, there this idea about rightsizing and it's really discovery period to figure out they figure out now people are coming back, they figured out we need space. Now they're just trying to figure out how much space and this is a great example of that.

Speaker 13

And just quick follow-up on that. Is this And again, I know each lease is different, each tenant is different. But is this a trend you're seeing more of in specific markets? Or is the kind of rethinking and setting of the real estate strategy pretty consistent across every across your portfolio?

Speaker 6

Yes, I think this decision making is consistent across the board, right? It starts with cost savings, getting your employees back, which by the way has been No small task and we're getting through that hurdle, but we're seeing it everywhere.

Speaker 13

Got it. Appreciate the insights. Thanks everyone.

Operator

The next question comes from Ronald Kamden with Morgan Stanley. Please go ahead.

Speaker 14

Hey, just my first one is just starting with the, I guess both the studio and the same store, NOI guidance. So number 1, can you just contextualize Sort of what did the studio do in 2023 and how much is baked into the guidance in 2024 versus the ultimate amount, which I think was $120,000,000 plus. Just what's the context on that? And then so tying it to the same store NOI, trying to get a better understanding of this down 12, what are the pieces, right? How much of that is Again, I know you're not breaking out studio versus office, but maybe what are the big lease expirations doing to it?

Speaker 14

What other pieces can we think about this down 12, which a pretty large

Speaker 2

number. Sure.

Speaker 4

I just want to make sure I understand the 120. I'm guessing that's the media number that kind of would disclose. That's a consolidated number that also includes The Quixote activity, not just the same store. So, that Quixote activity that I said previously is not in the same store number. So the 14% sorry, the number that we disclosed for the same store is without peeling.

Speaker 4

So if you factor that in, I think I mentioned earlier, it would be roughly at a 5% year over year increase, which is part of the whole activity for the company. In terms of The drivers year over year on the office side, I mean, a big one obviously is Square, bringing that number down. And then, we work giving back some space at a couple of our buildings. And we also, as I mentioned in my prepared remarks, we received some security deposit impact in 2023, that's not reoccurring in 2024. So it's impacting the numbers year over year.

Speaker 7

Got it. Okay. And then so

Speaker 14

I guess my last one would just be on the I think you touched on this earlier, but just on the disposition activity, How are you guys thinking about that? Any other assets in the market? What sort of is the right way for us to think about that? Thanks.

Speaker 2

Well, as usual, I mean, listen, we're not going to tell you what we're disposing of. So we're not going to do it until we make the announcement of those assets. But I think I just covered that in the last question. The ones that we're looking at right now are all reverse increase and there's at least 3 of them and there may be more.

Speaker 7

Thanks so much.

Speaker 2

You got it.

Operator

The next question comes from Vikram Malhotra with Mizuho. Please go ahead.

Speaker 9

Morning. Thanks for taking the question. I just want to go back to the studio side and Again, we're all trying to just ramp up and understand the kind of the variable, non variable piece of it is piece of it. But Is the tour activity that you mentioned being up 40%, 45%, is that a good leading indicator? Like what are other indicators you are monitoring to kind of realize that, hey, the ramp is real or likely and especially the new production as opposed to stuff has just stopped?

Speaker 2

So Vikram, I'll start with that. Listen, the activity is holds, right? I mean holds on space is the first And as a result, they're reaching out for vacant spaces On the sound sheet side, once they get picked up, then the equipment starts going out the door from that point on. And as I mentioned earlier, Anything that was in production is now back in production. So it's all sort of happening at the same time.

Speaker 2

And Mark?

Speaker 3

Yes, just to add a little bit more color, that's exactly what we're watching. As Victor is now, I think responded to

Speaker 6

Hello?

Speaker 4

Hello?

Operator

Apologies, everyone. It appears that the speakers have disconnected. Please be patient and please wait. No, we're here. We're here.

Speaker 2

Hello, operator, we're here.

Speaker 9

Yes, this is Vikram. Sorry, I don't know where you got cut off, but I don't think anyone could hear you.

Speaker 2

Yes, sorry, Vikram. We were just adding a little bit

Speaker 3

of color in response to your question. We are watching where Television and film show counts are and I don't know if you heard this, but the good news is we are back above Where we were at this time last year, but we are still behind or below 21% and 22% levels, Under 21 by say 18% by 25% under 22 by 18%, 21% was an exceptionally high year because of making up for the pandemic. In any event, as we project out by show count Well, for LA, which is where the lion's share of our Quixote businesses and our stages are, We do anticipate show count to be at a normalized level at or close to 21 We're 22 levels, sometimes towards the end ish of second quarter, early third quarter. And that's the sort of that one of the key barometers that we're keeping an eye on as we think about the recovery in the studio business.

Speaker 9

Got it. Okay. That's helpful context. Just on the office side, you mentioned the occupancy is under pressure the first, I think 3 quarters and you expect to ramp back up. I'm just wondering, I think you said 40% on the expirations, but In the pipeline or perhaps these are like leases in LOI or just stuff that signed but not commenced like what gives you the insight into sort of Down 3% and then up in the Q4, that seems very specific.

Speaker 3

Well, it is very specific because that's The way we model our activity, it's as granular, Vikram, as you could imagine. I mean, this is inputs from every person on our leasing team assigned to their respective assets, and it goes Suite by suite on renewal, likelihood of renewal or not renewal on activity on available space. And so when we look at output on say at the end of any particular quarter, It is a very it's the it's not some high level input and output. It's a very specific result based on very specific inputs and outputs.

Speaker 7

And I

Speaker 3

don't know how else to explain it other than to say, the Result of all of those inputs is that we see a bit of softening in the first half on occupancy with a steady recovery in the 3rd and into the 4th quarter.

Speaker 7

Okay. I don't know what else

Speaker 9

I can follow-up. I was just Wondering whether it's the lease rate or the occupancy because if it was occupancy, it must have been your close to signing a bunch of deals which would hit occupancy in second half.

Speaker 3

Yes, it is. I was being very specific about occupancy just because that's what's informing guidance.

Speaker 9

Got it. Okay. Then just last one, Harut, could you clarify, I was just confused on what changed in the Stockholm plan that was not there last year and is there this year? I'm wondering like Have the metrics on which you award stock, has that changed or something else? I was just confused.

Speaker 9

Like you said, something was not there last year, but it is this year.

Speaker 4

Yes. So last year, we didn't have our part of the stock comp plan that is driven by Like share metrics, if you will, like share stock price metrics that did not exist last year.

Speaker 3

Can I just say because this is a second? We forfeit the senior management team forfeited a portion of our long term incentive program. We voluntarily did that and So that's one of the year over year differences.

Speaker 9

Okay. That's it for that period. Thanks so much.

Operator

Our final question today

Speaker 2

Operator, we're going to take one more question because Yes. Sorry. This will be our last question because I'm sorry we went over, but we had a technical problem. Go ahead, Dylan.

Operator

Our final question today comes from Dylan Bircinski with Green Street. Dylan, please go ahead.

Speaker 7

Yes. Thanks for taking the question guys. Just one quick one, sort of given everything that's going on across your markets in terms of just vacancies and sublease availability continuing to move higher here. I guess, do you guys expect to be able to maintain face rents in this environment? Or can we finally start to see pressure on this front?

Speaker 2

Yes, I think that's a really good point. Right now, we did have a slight mark to market last year and the year before On an upward mobility, I think we're looking at it being flat right now to slightly down. The interesting thing is, Dylan, we're not seeing the concessions add in the same way from a free rent change and or increase in any CapEx or TIs. That being said, I think we are Comfortable at our rent matrixes that we're going out with and we're not getting pushed around a ton on that. At least with the deals that are in negotiations right now, we're going to continue to monitor that.

Speaker 2

But it's not something that's Pricing not to say, oh, we're coming off some big numbers or we're coming off current rent numbers. It's always going to be based upon the availability and the quality of the space. And we still maintain that our quality is high enough to sort of absorb the kind of rental rate structure that we're currently at.

Speaker 7

Perfect. Thanks for that color. Have a good one guys.

Speaker 2

Thank you, Dylan. Sorry that we went over and I apologize for those who we couldn't get to the questions to, but I know lots of you will be reaching out to the team.

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Earnings Conference Call
Hudson Pacific Properties Q4 2023
00:00 / 00:00