Earnings Call Transcript - ALX Q2 2020

Operator, Operator

Good morning and welcome to the Vornado Realty Trust Second Quarter 2020 Earnings Call. My name is Richard and I’ll be your operator for today’s call. I will now turn the call over to Miss Cathy Creswell, Director of Investor Relations. Please go ahead.

Cathy Creswell, Director of Investor Relations

Thank you. Welcome to Vornado Realty Trust second quarter earnings call. Yesterday afternoon, we issued our second quarter earnings release and filed our quarterly report on Form 10-Q with the Securities and Exchange Commission. These documents, as well as our supplemental financial information package, are available on our website www.vno.com under the Investor Relations section. In these documents and during today’s call, we will discuss certain non-GAAP financial measures; reconciliations of these measures to the most directly comparable GAAP measures are included in our earnings release, Form 10-Q, and financial supplement. Please be aware that statements made during this call may be deemed forward-looking statements, and actual results may differ materially from these statements due to a variety of risks, uncertainties, and other factors. Please refer to our filings with the Securities and Exchange Commission, including our annual report on Form 10-K for the year ended December 31, 2019, and our quarterly report on Form 10-Q for the quarter ended June 30, 2020, for more information regarding these risks and uncertainties. The call may include time-sensitive information that may be accurate only as of today’s date. The company does not undertake a duty to update any forward-looking statements. On the call today from management for our opening comments are Steven Roth, Chairman and Chief Executive Officer, and Michael Franco, President, and our senior team is present and available for questions. I will now turn the call over to Steven Roth.

Steven Roth, Chairman and CEO

Thanks, Cathy, and good morning everyone. I hope all of you are continuing to stay safe and healthy. Yesterday after the close, we announced a very important 730,000 square foot lease with Facebook at our Farley Building. We normally don’t go for the drama of timing deals with earnings calls, but this one just worked out that way. This deal has been in the works for a while, and it’s not been a secret in the marketplace. People have been speculating: will even great companies such as Facebook commit in the middle of the pandemic prices? Will they commit to physical assets in light of all the work-from-home situation? Will they continue to expand in New York in effect of doubling down? We now know the answer to these questions is, yes. This commitment is a dramatic statement from one of the most important global tech companies that even in the midst of a pandemic, commerce must continue. This deal reinforces New York City as a great and unique place to do business with an unlimited highly educated workforce. New York continues to be the place to be. Farley is a unique property like none other in New York. It occupies a double-wide block; it is actually part of the Penn Station complex, the busiest transportation hub in the nation, across the street from Madison Square Garden. You get the picture. Most importantly, this deal further validates the west side of Manhattan as the place to be and it further validates our plans to redevelop our 10 million square feet of Penn district holdings into the bull’s-eye location in New York. Facebook’s commitment here expands our longstanding relationship with them at our 770 Broadway property, where they leased 757,000 square feet. Facebook is now our largest tenant by both revenue and square footage. Kudos to Glenn Weiss, our deal captain, and Barry Langer, who led construction and development support. 220 Central Park South is the most successful residential development ever; we are 92% sold or under contract, and we are now reaping the financial rewards from 220. It is a financial engine, feeding our liquidity and financial strength. Year-to-date through July, we have closed on 13 units for net proceeds of $598 million, all of this during the health crisis. From inception through July, we have closed 67 units for net proceeds of $2.42 billion. We expect closings in the balance of the year will bring in an additional $496 million in net proceeds. Our current liquidity is $3.8 billion, including $2.1 billion in cash and restricted cash and almost $1.74 billion undrawn under our $2.75 billion revolving credit facilities. Adding in the $496 million coming in from 220, we might say our liquidity is now $4.3 billion, consistent with my comments in my shareholder letter in April that we would be more aggressive in selling assets, given the persistent discount in our share price and that in many instances, we would rather have the cash than the building. In June, we announced that we were going to market to recapitalize two large high-quality assets, 555 California Street, which has to be a top 5 trophy in the nation, and 1290, one of the premier buildings on Avenue Of the Americas. We understand that this is a contrarian stance, as some believe the capital markets are frozen and now is not the right time. We disagree. The world is increasingly awash with liquidity, and there are really no great assets in the marketplace to compete. In the end, the market will speak. We are early in the process. We have been talking to investors for about a month, and interest in these high-quality assets is quite strong. This process is fluid and could have various different outcomes. As an example, we could simply refinance. We have indications of upsizing the 555 California Street loan from the existing $550 million to as much as $1.5 billion. Such has been the increase in value of this asset during our ownership. This process will play out over the next few months. Now, regarding rent collections in the second quarter, we collected 93% of office rents, 98% including agreed to rent deferrals; 70% of retail rents, 78% including agreed to deferrals; and 88% on a combined basis, 94% including deferrals. The trend for July collections is consistent with, if not a bit better than the second quarter. Rents that we have agreed to defer are generally scheduled to be repaid over the course of the next year. Quarterly earnings are important, very important, but my hope is that you would not focus on the very short term or on the volatility caused by a passing crisis. Our game is won by creating value over two to five years and sometimes even longer. I submit to you that this is undoubtedly a great time to be looking through the fog and putting capital to work. Now about our common dividend. Our company by mandate pays out as a dividend all of its taxable earnings. Our intention is to have a smooth and predictable dividend that increases with our growth. We believe the dividend is sort of sacred, but not more sacred than our balance sheet, financial strength, and liquidity. While we certainly have the wherewithal to continue to overpay the dividend forever, our management and Board believe that in this crisis period, our dividend should mirror our taxable earnings. Accordingly, last Thursday, the Board decided to right-size the dividend to $0.53 per quarter. By the way, I’m not a big fan of paying dividends in stock. Truth be told, recovery in the nation and in our city will be slow. Residential neighborhoods have decent activity and street traffic. The occupancy of our commercial boulevard is not so much, with office building census about 8%, and street traffic is very light. As you would imagine, it’s really tough to be in the retail or restaurant business in these quiet streets. Most office tenants do not plan on coming back in scale until Labor Day or even until year-end. And truth be told, it may even take a couple of years for New York’s ecosystem—tourism, sports, concerts, Broadway, museums, restaurants, nightlife, etcetera—to return to normal levels. The headline of the day is that everyone will work from home, or almost everyone will work from home forever, which would of course have a negative effect on office demand in that sense. I don’t believe it and I’m betting against it. There will always be some work from home, even a little bit more now that we have Zoom, etcetera, but in the end, culture, productivity, collaboration, innovation, and talent happen in office buildings. That’s my view on work from home. Now, over to Michael, who will talk about our earnings and the markets.

Michael Franco, President

Thank you, Steve. Good morning everyone. I too hope you’re all safe and healthy. Jumping to our earnings. Our earnings for this quarter reflect a number of items, all of which were known or should have been known and expected. Second quarter FFO and adjusted was $0.55 per share compared to $0.91 for last year’s second quarter, a decrease of $0.36. This decrease was reconciled for you in our earnings release, on Page 5 and in our financial supplement on Page 8. A little color on a couple of these numbers: First, you’ve had some bankruptcies, which should not be a surprise in this environment, in particular J. C. Penney, which has been on the brink for years now. We have no bone to pick with Penney. Over the past 11 years, they have paid us $200 million in rent and more, but we do have a $20 million hole to fill here. We have activity and interest for this property; it could be for retail or it could even be for last-mile distribution, the hottest business in the country. The J.C. Penney and New York & Company bankruptcies were the lion’s share of the write-offs in the quarter, which aggregated $45.1 million or $0.22 per share, but of which $36.3 million was for non-cash write-offs receivables, arising from the straight lining of rents and $8.8 million was for bad debts. Second, as we had specifically guided on our first quarter call, we call our variable businesses, which include Hotel Pennsylvania, BMS and cleaning, signage, and trade shows, came in as we had predicted down $9 million per month or $27 million for the quarter, that’s $0.13. When life returns to normal or almost normal, we expect these businesses to snap back to their prior financial performance. Cutting through these items though, our core office business was essentially flat. Non-comparable items in the second quarter were disclosed in the press release on July 20th; a little color on the largest one, we recognized a $305.9 million non-cash impairment loss on our investment in Fifth Avenue and Times Square retail joint venture. This comes a little more than a year after we recognized a $2.56 billion net gain on the April 2019 transfer to the joint venture and related GAAP-required write-off of our retained interest in these assets. This should also not be a surprise since the general feeling is that these assets are worth less today than they were then. We ended the quarter with New York occupancy at 96.4% and New York retail at 83.6%, handling the J. C. Penney at Manhattan Mall estate. Now, turning to leasing markets. Given the uncertainty of the trajectory of the pandemic, as might be expected, there is limited albeit some new leasing activity throughout our three markets, as most companies take a wait-and-see posture to see what the impact on their business and employees ultimately will be. The vast preponderance of office tenants are opting to renew their leases rather than uproot their organization and spend money building out new space. That being said, tours have picked up a bit in New York in the past few weeks and we are responding to several new major tenant requirements. Evidence that CEOs still need the office that’s integral to operating their businesses and New York City has a deep and unique reservoir of talent. In addition, certain large companies in our portfolio had positive renewal discussions at the outset of the crisis that have now picked up again, as they focus on the future and have the confidence that they need the same amount of space on a long-term basis. But to emphasize a point that Steve made earlier, the trend of users wanting to be in the best product with the most modern amenities and healthiest environments will only accelerate coming out of this health crisis. Importantly, as the market recovers from the COVID pandemic, our New York office expirations through the end of 2022 are modest and provide stability for our cash flow, amounting to only 1.8 million square feet, or 10% of our portfolio, and an average of only 4% per year at a weighted average expiring rent of only $76.53 per square foot. The retail environment is very difficult, and this crisis is accelerating the shakeout of the weak and poorly capitalized retailers. J.C. Penney, Neiman Marcus, J. Crew, Brooks Brothers, and so on. We’ve taken our share of hits, just like all the other retail landlords. Most retailers are focused on survival, and few are focused on opening new stores. Though a few strong and healthy ones, as evidenced by our recent deal with Target on the Upper East Side. Ultimately, retailers need physical locations, and the best locations, including the high streets of Manhattan, will survive and thrive, but it will take some time through the pain of getting to the other side. For sure though, our current stock price shows that the worst of retail has been more than what they are pricing. The city reopened for construction in mid-June; our development efforts have resumed in The Penn District. At Farley, we are targeting a December opening on the Moynihan Train Hall, along with some limited retail openings, and the first delivery of office space in January 2021. Retail demand is strong here given the expected deal that we inked. Farley and Moynihan in PENN 2 are the centerpoints of our vision to transform the Penn District into the new epicenter of New York, where we will be delivering for tenants cutting-edge, next-generation health and wellness environments, amenities, and services unmatched anywhere. Even during the shutdown, the reactions in the brokerage community and from multiple prospective tenants for our PENN 2 base design have been outstanding, and we are confident this is exactly what tenants want to see as we emerge in the post-COVID world. As we have said before, these three large Penn District projects are debt-free and are being funded from our balance sheet, including the aforementioned proceeds from 220 Central Park South. As these projects are completed and leased up, they will generate large accretive earnings. Beyond our developments, broader district improvements continue to progress also. The 33rd Street Long Island Rail Road entrance is almost complete and on schedule to open this December, adding another signature element to the district and improving the experience for commuters. Turning to the capital markets, they have basically been on hold for the past few months, as lenders and investors assess the virus's impact on the economy and real estate. The real estate financing markets are beginning to heal; the lenders are still in react mode and are highly selective in what they finance. Spreads are wider, and terms are more conservative; though the base rate is down, all-in coupons are still very attractive. As always, the focus is on our high-quality assets and sponsors, which we benefit from. We think over the next 12 to 18 months they’ll start to become a borrowers’ market with rates at historic lows. With the Fed pumping liquidity into the system and planning to remain accommodative until the economy recovers, interest rates are likely to remain low for as long as the eye can see. This should make the yields on assets with long-duration leases increasingly attractive to investors, particularly in relation to fixed income, spurring them off the sidelines, and maybe even resulting in cap rate compression, given the spread of traders. Lastly, our management teams have been thinking a lot lately about the future of cities. Nothing is certain, but for hundreds of years, cities have endured as central gathering places for work, living, and culture, and that cradle creativity and innovation; we believe this will continue to be the case. New York is the world city and notwithstanding a few bumps along the way, New York will continue to thrive and drive. With that, I’ll turn it over to the operator for Q&A.

Operator, Operator

Thank you. Our first question on line comes from Steve Sakwa from Evercore. Please go ahead, sir.

Steve Sakwa, Analyst

Thanks. Good morning. Michael or Steve, I didn’t know if you could maybe just address in general how the economics on the Facebook lease might have changed over the past nine months. I realize this lease has been in negotiation for quite some time. So I know you left the yield unchanged in the supplemental, but anything that you could talk about on rental rates or concession packages or kind of how that might have evolved over the course of time would be helpful? Thanks.

Steven Roth, Chairman and CEO

Thanks, Steve. Hi, how are you? You’re healthy?

Steve Sakwa, Analyst

Good thanks. Yes.

Steven Roth, Chairman and CEO

Yes, that’s good for you. So listen, we think this Facebook deal is a monumental milestone, both for the city in the middle of the pandemic and also for the West Side of New York, and most of all for Vornado’s plans in the Penn District, so that’s step one. Step two is, it has been a long—has been a long haul, it’s a big deal; neither party, neither we nor Facebook flinched at all during the entire period of time, both parties were committed to the deal and worked hard with various teams to complete the deal. It was a very complicated transaction. Now the Facebook—the Farley Building, as I think you know, I hope you know, is a very, very, very differentiated, different, unique, and marvelous piece of property. It’s double-block wide, which means it’s a low-rise campus; it’s a vertical campus and the floors are enormous. Our teams made a trip out to—after the West Coast a couple of summers ago, and we learned a lot from that. And one of the things that we learned was the way these tech companies like to work, they like to work in large campuses, they like large floors, they like low-rise buildings, and they like amenities for their employees. For example, they have restaurants, they have dry-cleaning operations, so that their employees— to take care of their employees; they have bicycle storage; they have everything that you can think of. And that’s something that the Penn District will provide and the Farley Building will provide. The deal as was—we have a policy of not talking about the specifics of the business terms of deals with our clients. Their privacy is important. We disclose what’s appropriate to be disclosed in our docs, and there will be certain disclosure in our docs about this deal as well. Having said that, the deal is within the parameters of our original underwriting. To be honest, there was a little bit of give and take in the end as a result of the environment, but it’s absolutely within the parameters of our underwriting. With respect to the disclosure in our docs, we will re-underwrite—we don’t re-underwrite these numbers every week or every month; we will re-underwrite the numbers and publish new and updated numbers in our 10-K at the end of the year. Remember, there are two components to the Farley Building. There is the Facebook deal, which is now fixed, and then there is the retail component of it, which is 120,000 square feet of very important retail. And I’m sure you know that there is an enormous confluence of pedestrian traffic that will come through the Farley Building from Manhattan West from Hudson Yards to get to Penn Station. All of that retail funnels through—all of that pedestrian traffic and commuter traffic funnels through the retail portion of the Farley Building. So we’re extremely excited about that and we are working on the rents. And so we will not re-underwrite this deal until we have more visibility on—in terms of the retail rents, and that won’t be until after the first of the year in the 10-K.

Steve Sakwa, Analyst

Okay, thanks for that color. I guess for the second question, just to kind of follow up on J. C. Penney’s. I can’t remember if it was you or Michael that sort of just talked about last-mile distribution as being a potential option. I mean, can you help us sort of think through that space and the timing and how you might perceive a whole redevelopment and what might all go into that?

Steven Roth, Chairman and CEO

I can’t be much more specific. With J. C. Penney, I think we made the statements that we don’t have a bone to pick with J. C. Penney; they paid us. I think the exact number’s $194 million in rent over the last 10 or 11 years. So, they don’t owe us anything. They’ve been catering for a while, and so their bankruptcy was absolutely expected. The space that they occupy is brilliantly located in the middle of the island; it could be for a retailer; it could also be, as I think it was in Michael's script, it could also be for a distribution—last-mile distribution center. Now that’s the hottest business in the country right now. And the scarcest product is in the dense metropolitan areas of which New York is the densest; to get space that can satisfy that requirement with enormous loading facilities and the ability to get panel trucks on and off the streets. So the J. C. Penney store, which is a department store, which has a very large shipping and receiving component, which we have the ability to enlarge, is such a piece of real estate that might qualify for that. So, as you can imagine, we are going to be talking to everybody. I do not believe that you should expect that we’re going to be reallocating this space quickly; this will be a long, slow slog.

Steve Sakwa, Analyst

Great, thanks very much.

Operator, Operator

Thank you. Our next question on line comes from Manny Korchman from Citi. Please go ahead.

Michael Bilerman, Analyst

Hey, it’s Michael Bilerman here for Manny. Steve, in your commentary, you said it was a great time to be looking through the fog and putting capital to work. And I wanted to know how you think about that from a Vornado perspective and you think about the Facebook deal now being official, the progress you’ve made on PENN1 and PENN2; would you be more aggressive in, let’s say, taking down Hotel Penn to position yourself for the eventual net cycle? I guess what are you thinking about in terms of putting incremental capital to work?

Steven Roth, Chairman and CEO

Michael. Hi, how are you? First of all, we’re in great shape. Okay? We have an enormous amount of liquidity on our balance sheet, that liquidity is growing, the Farley Building basically takes a multi-billion dollar asset out of risk and puts it into a secure financial asset; we have two very large buildings that we are talking about recapitalizing, which will generate, if our plan is successful, an enormous amount of additional capital. So if you pardon the expression, we are loaded. Okay? We didn’t see the pandemic coming, but we saw the end of a long expansion coming, and so we prepared for this. So the first thing is our balance sheet is in great shape and we are doing things such as closing 220—closing the 220 Central Park South, such as the Farley lease, such as the 555, 1290 buildings which are in the marketplace now; we’re doing things to continue to mend our liquidity. Okay? Your comment which specifically went to the Hotel Penn, I don’t really have much to say about that except that, as we continue to march along from the Farley Building to 2 PENN to 1 PENN, etcetera, the Hotel Penn is arguably one of the top two or three development sites that are available in the city. By the way, 350 Park Avenue, many of the people in the marketplace think is the single best development site, but be that as it may, I couldn’t resist getting that plug in. So, the issue is that Hotel Penn, in order to execute on that, you have to pay par. In other words, you have to build a building, and the land has a certain value, and you’re paying par for that. Okay? It’s not impossible that in this cycle, which I think is going to be a soft cycle for a while, that our capital will be able to attract a transaction or other transaction where we will be able to buy great assets at less than par. So we have all the capital we need for our development program. I will remind you, which I think we’ve told you multiple times over the course of the last period, that the Farley Building has no debt on it; it’s unencumbered, 2 Penn Plaza has no debt on it; it’s unencumbered, and 1 Penn Plaza has no debt on it; it’s unencumbered. The capital plan for those buildings is complete; Farley and our development plan is, I don’t know, pick a number of $1.5 billion which we have sitting on our balance sheet, ready to go. So we can complete all that with no debt. So we’re the part in the street phrase; we are loaded. All right, and we are—we believe—we’ve been through this five or six or seven cycles; the time to invest is when things look a little bleak. And I use the word to look through the fog intentionally. So we are alert, we are active, and we are interested in growing our business and taking advantage of the marketplace. The other thing, by the way, as an aside—and I think Michael said—we’ve been through this multiple times; the capital markets right now are what would I call them—they are sticky. They are not fluid. Lenders are appropriately concerned; the future is uncertain, and lenders are appropriately cautious. Okay? You go out and run this out a year, a year and a half, and that will all change. There is a flood of liquidity. The chaos and the fog, so to speak, will begin to lift, and it will become an aggressive borrowers' market, and you put our balance sheet together, borrowers' market, low interest rates, etcetera. This is a good, good time to be in our business.

Michael Bilerman, Analyst

Yes. The second question was just thinking about your commentary around New York and you just talked about being soft for a while in your prepared remarks. You talked about the ecosystem in New York returning to normal in a couple of years, and you think about, putting aside the announcement of Facebook that you had overnight. There is obviously a lot of retail vacancy, a lot of crime that has already been pre-pandemic, and actually this is very wealthy people out of the tri-state area, John, Lee Cooperman. We have a political situation in New York City that is not very sustainable. We have the density issue, and what gives you the confidence that we can—that the City can rebound?

Steven Roth, Chairman and CEO

That’s a combination of a metaphysical question and a political question. So first of all, you said in your question, putting Facebook aside. Well, I don’t want to put Facebook aside; it’s a monumental deal, a huge deal, and I couldn’t be more proud of the accomplishment. I couldn’t be more proud of Glenn and Barry and our teams, and I couldn’t be more proud of David and me who are middling. Okay? And so I don’t want to put it aside. But be that as it may, look, New York is the world city, and it has always been; it has been the world city for a century now. It’s got this enormous infrastructure with all the cultural things, all the business things, all the talent, etcetera. And even though every once in a while we try to screw it up, it ends up that New York comes out in better shape. I don’t want to make a political comment about the current management of the city. I think everybody has their own opinions about that; we understand that. But New York will—the infrastructure in New York will win the day. It always has and always will. Now I love Nashville, Austin, etcetera; they are great cities, okay? When you take the size of those cities and you take the size of their workforce, you take the after-hours activities in those cities, there is a small subset of people who want to live there, but it can’t compare to New York. I mean remember New York has eight professional sports teams. It has two hockey, two football, two basketball, and two baseball; nobody has got anything like that. So, and that's just one little instance. So New York has this enormous building infrastructure and our feeling is that it will continue to flourish. There are some things that are wrong with New York now. I hate the homeless situation, and I hate a lot of other things about it. I am not a big fan of de-funding the police, etcetera, but in the end, New York will win the day.

Michael Bilerman, Analyst

Thanks for the time, Steve.

Michael Franco, President

Michael, I would just add to what Steve said that. Look, the other day, in addition to all the infrastructure that New York has, right, it has a pool of talent that is probably unique. And so if you think about not only Facebook’s commitment but—and I referenced in my comments, and I think I referenced this in the press—we have major companies from various different industries that are looking beyond this short-term period, which is short-term; we’re going to have a vaccine or a set of therapeutics and it looks like near term. So the health issues are going to come off the table, and we’re going to get back to business. These companies, which are significant and extremely important, well-respected, they’re looking out and saying where do I want to continue to grow my business long-term, where can I access talent? And they are focused on New York, right, and in scale. And so I think this is not just us finding the sky; these are major companies that are global leaders that are going to continue to be the winners that are reaffirming their commitment to New York. Not to mention, what we’ve done in our own little district with Facebook.

Michael Bilerman, Analyst

Thank you.

Operator, Operator

Thank you. Our next question online comes from Jamie Feldman from Bank of America. Please go ahead.

Jamie Feldman, Analyst

Great, thank you. Good morning. Can you talk about the implications of the Facebook deal on 770 Broadway and what their longer-term plans are there?

Steven Roth, Chairman and CEO

Glenn, pick that one.

Glen Weiss, Executive

Hi, Jamie, it’s Glenn, how are you? So the Farley transaction is not at all connected to the 770 lease, number one. Number two, Facebook loved 770; as a matter of fact, they’re building more floors as we’ve said on this phone call this morning. So there is no connection from one deal to the other. If anything, I think the Farley transaction reflects the very strong relationship between the companies, which has grown from our initial deal at 770 some seven years ago.

Jamie Feldman, Analyst

Okay.

Michael Franco, President

Jamie, I would add that Facebook has talked to us about growing in that building and taking the entire building. So, and those conversations are continuing.

Jamie Feldman, Analyst

Okay, great. And then as you think about, I mean now that Farley is done, can you talk about the conversations around PENN2? I mean, what does that depth of demand look like? I know you’ve got some time before that project is completed, but just—that’s certainly the next step to the plate.

Steven Roth, Chairman and CEO

Yes, it surely is. So the first thing is that, I’m sure you have, but I’ll ask you again—take a look at our website where we have a fairly large picture book of what we are going to be doing at 2 Penn, what it’s going to look like, what the amenities are, what the services we’re going to bring to our tenants. And by the way, we look upon PENN2 and PENN1 as a campus because those two buildings will be interconnected. So we have basically a 12-plus million square foot campus on top of Penn Station, which I submit is an unbelievably scarce asset and valuable. The development plan for 2 Penn is long; it’s the better part of three years, but that’s what it takes. So we have lots of time in terms of the leasing. We are going to basically—Glenn is going to basically stay out of the market for the next year. We’re not even going to entertain—well, if something comes along maybe, yes. But basically our intention is to not start to lease it for a year when the market can begin to see better visibility into what the product will look like. Now, there were some conversations in past calls where we said that we had a 4,000 square foot anchor tenant to whom we were talking; that I said in last quarter’s call, that conversation has—as expected—gone into pause—not gone away, gone into pause. Okay? The major tenant in that building now is somebody called Madison Square Garden. They’ve been in that building for decades; that building is adjacent to their business. And so that’s really—it’s a status report on that. The other thing, by the way, is, the design of the building with the bustle creating the overhang, created the prominence, creating the entrance to Penn Station, etcetera. I mean, it has got universal applause. And so we’re pleased about that. There is an elephant company that’s in the marketplace that is looking, by the way, happens to be looking at both 350 Park Avenue and 2 Penn, which is an interesting combination of locations. And their boss basically said that going through the renderings and the presentation that he saw that the design and the bustle and what were the extraordinary piece of our architecture, and we agree with that.

Jamie Feldman, Analyst

Okay, thanks for the color. And you’re saying the tenant looking at 350 Park and 2 Penn, they would only take one—they are going to take?

Steven Roth, Chairman and CEO

Hey, Glenn is good, but he can’t sell a space twice. No, they would only take one.

Jamie Feldman, Analyst

All right, thank you.

Steven Roth, Chairman and CEO

Thank you. Thanks, Jamie.

Operator, Operator

Thank you. Our next question on line comes from Alexander Goldfarb from Piper Sandler. Please go ahead.

Alexander Goldfarb, Analyst

Hey, good morning, Steve. So this tenant that Glenn is talking to for both...

Steven Roth, Chairman and CEO

Hey, Alex. The first thing you should say is to Glenn and David, congratulations on this Facebook deal. That’s the first thing you should say.

Alexander Goldfarb, Analyst

Okay, that was—I could FaceTime you my question list and it says in writing, Steve, congrats on Facebook. So that’s there. Next I was going to give you applause for talking to Steve Schwartz, your buddy, about anchoring 350, but it sounds like Glenn is also trying to sell them on Penn Station, so look forward to that as well.

Michael Franco, President

Wow. First of all, I’ll pass the congrats off to Glenn and David. Second, don’t make that conclusion; it’s not a good conclusion.

Alexander Goldfarb, Analyst

Okay. As you know, we in the analyst community would never make bad conclusions. So first to Bilerman’s point, I mean Steve and Michael, you could have New York returned to more of the commuter day where New York office works, but the residential returns to a lower price point, that’s certainly conceivable; that you can have the two working concert. But the two questions are first, going to 555 and 1290, as you guys do more development, your portfolio, if you sell these two buildings, you would expose the overall, we know, to more of a developed build risk, etcetera. And they are tremendous buildings that I’m sure the cap rates have probably compressed over the past few months. In addition, you obviously have Trump, and there are all the people who love to write critical things of him, so it seems like any transactions run that risk of headline risk. So how do you think about parting with the two buildings given that they really do provide rate NOI that helps with the, as you redevelop, Penn Station, do 350, etcetera? And then also, take the political heat of everyone who nitpicks whatever price you pick, that somehow there is something there?

Steven Roth, Chairman and CEO

Oh, boy, so let me try to take that in pieces. First of all, I pay zero attention to what you call the political risk. We are the 70% partner in those buildings; the docs are rock solid; we make all the decisions; and by the way, that has been tested in the courts. So with respect to the fact that there is a partner in the building, who is—he doesn’t have anything to say about the decisions that we make, and so that’s fine. Step two is, don’t draw the conclusion that we’re going to necessarily sell the buildings. Okay? We have lots of different—as I said in my prepared remarks, it’s a fluid situation. There are lots of options we will pursue all the options. Our objective is to take capital out of mature buildings and have it available for more advantageous opportunities. So 555 now the book says—you settle the worst of step first and you save the best up for last. So in our counsel rooms—we have talked about, are those the right buildings to begin to draw our capital out of, or should we draw our capital out of other buildings or what have you? It was our judgment collectively—I think I was on the side of this—that in this very sloppy market, it would take an extraordinary building to get investor’s attention and to get a price or value that’s appropriate. So we have multiple billions of dollars of equity in these buildings, and I’d rather have the capital than I—than the buildings, and that’s my answer to your question.

Alexander Goldfarb, Analyst

Okay. They are some of the best buildings. So hopefully, yes, there is a way for you guys to stay in it.

Steven Roth, Chairman and CEO

The point is they are some of the best buildings in the country.

Alexander Goldfarb, Analyst

Okay. The second question is on the street retail: you took the impairment, which is non-cash, obviously reflects, as Michael said, the degradation of value from a year ago. How does this impact the preferred? And more to the point, I realize that the factors are still good, but if you think about ultimately trying to liquidate the preferred or when the leases rolled that are underlying the preferred, how is the $1.8 billion potentially impacted? So do you think you can get all your money out or when the leases roll, even if they roll, where current rents are, is that preferred still money good?

Steven Roth, Chairman and CEO

Michael, why don’t you handle that one?

Michael Franco, President

Good morning, Alex, and thanks for the question as well. So what I would say on the preferred is, let’s just go back, and I think I read all the reports, just for so everybody is clear on what the preferred is. The preferred was originally proxy for senior mortgage tenants, right? And so it sits on five of the seven assets in the venture and it is in that first lien position, right? And at the time of the transaction, zero to little bit less than 50% LTV on those assets. So there’s no debt problems on those assets, all the cash flow from all seven assets is available to service the preferred. But again, that is the first lien position on the assets. While the LTV is higher than the time of the transaction, the value is still well above the preferred. So, and again, to remind you, there was a period of time where we did not let past before we can think about that redeeming that preferred, which we have not yet hit. So, and then lastly I would say it’s now or not way; so it’s five or seven assets; it can be redeemed in whole or in part as we elect over time. So as we sit here today, and on many of those assets, we have meaningful term on those leases. And we acknowledge that bring many of those—we had to re-rent that today; those numbers would be lower. But we have term, right? We don’t know what the future holds when we get beyond five or six years; we hope that the market is stabilized and recovered; maybe not back to peak, but we’re in a vibrant market. Our belief is still that we can review the preferred and the timing may be different for the asset.

Alexander Goldfarb, Analyst

Okay. So, Michael. The first one.

Steven Roth, Chairman and CEO

Yes. Alex, let me jump in on top of that for a second. So the first thing is the preferred was structured by our teams in a very important, very somewhat complicated transaction where we sold or transferred 50% of our major high street retail assets. So the preferred served a very important purpose. I look upon the preferred as a financial asset, not as real estate. So I don’t look upon the preferred as real estate, I look upon it as a financial asset, number one. Number two, I look upon it as being not impaired on our balance sheet; if we thought it was impaired, we would have impaired it. So we look upon it as being a good financial asset. Number three is, we look upon it as a source of future liquidity should a certain timeframe pass, which is not very long incoming, and should we decide that we wanted to end up liquefying that. So it’s a financial asset, not real estate. It’s good, and it’s a source of future liquidity.

Alexander Goldfarb, Analyst

Steve, thank you. And Michael, thank you.

Operator, Operator

Thank you. Yes. So sorry, we have John Kim on the line from BMO. Please go ahead.

John Kim, Analyst

Thank you. Glenn and David, congrats on the Facebook lease. Steve, I wanted to clarify your answer to Steve Sakwa’s question. I wanted to clarify your answer to Steve Sakwa’s question on the yields at Farley being reassessed and yet at the same time, the Facebook lease was within your original underwriting parameters. Is the yield going to come down primarily because of retail, or is it the combination of the retail and the Facebook lease?

Steven Roth, Chairman and CEO

I don’t think that the—the answer is I’m not going to comment on that. The yield will come down, if it comes down at all, marginally. Okay? So the asset is within the tolerance of our underwriting.

John Kim, Analyst

Okay. And my second question was on the leases buying this quarter: 174,000 square feet where the rents it was stated will be determined next year at fair market value. Was that specific to one lease or multiple leases, and does Facebook have the same optionality on their starting rent?

Glen Weiss, Executive

It’s Glen, John. Go ahead, Steve.

Steven Roth, Chairman and CEO

Hang on for a minute, Glen.

Glen Weiss, Executive

Go ahead.

Steven Roth, Chairman and CEO

The Facebook lease has nothing to do with it. There is no optionality. The Facebook lease has set rents for the term. So now, with respect to the 174,000 foot, please Glen go ahead and answer.

Glen Weiss, Executive

The 174,000 leases is with one tenant; they exercised a five-year renewal option. The rent is the greater of market or the then rent; the rent gets set next fall of 2021, just as a five-year option for this space.

Michael Franco, President

Was that in the provision?

Glen Weiss, Executive

Yes.

Steven Roth, Chairman and CEO

So we had—what we had was the conundrum that we had was that this was a lease that was exercised. So it rightfully goes into the count of how much space we leased in the quarter, but we had an unknown rent to be determined in the future by a process. So we had to put it into the square footage that was leased, but we could not put it into the mark-to-markets because we don’t know what the rent is. And, by the way, this has been going on for a long time. This is, I think, Glenn, David, this is the first time I’ve ever seen this situation.

David Greenbaum, Executive

Let me just add a word, Steve, it’s David. So when a tenant exercises a renewal option, the clause says that the tenant owns this space and has exercised it and has confirmed an additional extension period, whether it’s five years or 10 years with the rent to be reset based upon the end market. The clause says that rent will never—that the rent the tenant’s are currently paying.

John Kim, Analyst

So this was originally in the lease, but not a COVID-related clause?

David Greenbaum, Executive

This is an old, old lease where the tenant exercised an extension option.

Steven Roth, Chairman and CEO

Correct.

John Kim, Analyst

Great, thank you for clarifying. Thanks a lot.

Operator, Operator

Thank you. Our next question online comes from Vikram Malhotra from Morgan Stanley. Please go ahead.

Vikram Malhotra, Analyst

Thanks for taking the questions, and congrats on getting Farley buttoned up. First, just on retail: can you help us bridge sort of the occupancy loss sequentially from the 90s to the low 80s this quarter?

Unidentified Analyst, Analyst

That was J. C. Penney’s.

Joseph Macnow, Executive

That’s J.C. Penney. Principally, J.C. Penney, Vikram. This is Joe. We took J.C. Penney because they rejected their lease out of the occupancy.

Vikram Malhotra, Analyst

And what was the balance?

Steven Roth, Chairman and CEO

Joe, the J. C. Penney represents the entirety over the course.

Joseph Macnow, Executive

I don’t know, Steve. Tom, do you have it handy?

Thomas Sanelli, Executive

Hey, Vikram...

Steven Roth, Chairman and CEO

You know what, Vikram, it was primarily J. C. Penney, and our finance team offline will give you the details and build it up for you.

Vikram Malhotra, Analyst

Okay, sounds good. And then just second on street retail again, can you give us a stand? I think over the next 12 or 18 months, you do have a—not a huge amount, but some expiration. Can you give us a sense of any larger tenants that may be up for renewal, and with those expirations, maybe any guidepost that to how we should think about kind of street retail NOI?

Steven Roth, Chairman and CEO

I think you’re asking for guidance, Vikram, which you know that we don’t do. Having said that, do we have a list of the specific tenants in our disclosure that expire over the next 18 months? Joe?

Joseph Macnow, Executive

No.

Steven Roth, Chairman and CEO

No, all right. So that’s a question, Vikram, that I’m not going to be able to give you the guidance that you’ve asked for. I apologize.

Vikram Malhotra, Analyst

Okay, no worries. And then if I can just squeeze one more in...

Steven Roth, Chairman and CEO

Yes, sir.

Vikram Malhotra, Analyst

Steve, you correctly predicted many years ago Manhattan kind of moving south and west, and obviously there has been a lot of development and progress. Just your high-level thoughts: whether it’s COVID-related, new types of demand, or new types of tenants coming into Manhattan. Do you foresee any changes in Manhattan, whether it’s with lease structures or co-working, or maybe a little bit more so big, big firms maybe thinking about suburban and any kind of high-level thoughts if we look out over the next five years.

Steven Roth, Chairman and CEO

That’s a very, very, very sophisticated question which obviously we, in running our business, we think about every single day. So a couple of things. Years ago, there was only one submarket in the city where people would live, and that was the upper east side; everything else was a mess. So in the process of being a mess, the other places, whether it be south or west or whatever, were a lot cheaper, and so younger people started to move to those cheaper neighborhoods, they became gentrified, and lo and behold now, after 20 years of movement, the upper east side is now the cheapest submarket in the city, and what have you. So things change. Right now, we have the advantage in the city where every submarket from river to river is sought after, has been gentrified and is a fine place to live with good restaurants and a good experience. Okay? So where people live is not that dispositive with respect to office development. Now, I would remind you that Long Island City is one to two train stops away from almost every office building in the city; and Brooklyn is one to two subway stops, which is like 10 minutes, 12 minutes, 15 minutes away from almost every office building in the city. So that’s the way cities work. Now, what we’ve seen is that the city is sort of splintering where the traditional business district, the Plaza District on Park Avenue is becoming more and more of a finance center, and the new West Side, and Chelsea and that region has become more and more of a creative center. And the way I describe it most of the time is, the people that wear ties go to the Plaza District; the people that don’t wear ties go to the West Side. And I sort of see that continuing. The big thing that I see is that every company, whether they—even the companies that wear ties, especially the companies that wear ties, want to attract a younger, more creative workforce, and in order to do that, many of them are considering leaving their traditional locations and moving to the south and the west. So, I mean, there are many instances of that. The insurance company that took 61/9 from us was that; many of the tenants that are in Hudson Yards today are traditional firms, banks, etcetera, who want to attract a different profile of worker. And so that continues. Now, the other thing is that economics are important, and as the West Side flourishes and gets to be a higher price point, then higher-priced other places will flourish as well. So now what’s happened is Park Avenue can compete very, very well with the West Side on price. So, I mean, that’s the way I see it. What I’m really saying is that I think where people live begins to lead the marketplace, and economics are really important and where people want to work. So right now it is the perfect storm to the West Side of Manhattan, and I guess, Vikram, I think I’m talking my book just a little bit. I’m talking my book just a little bit because I really believe it.

Vikram Malhotra, Analyst

Makes sense. Thank you.

Operator, Operator

Thank you. Our next question on line comes from Nick Yulico from Scotiabank. Please go ahead.

Nick Yulico, Analyst

Thanks. I’d like to discuss your cash same-store NOI, which decreased by 6% in New York City this quarter. Can you explain what contributed to this decline despite the situation at Manhattan Mall and other factors? Additionally, I want to clarify whether the deferrals you’re providing negatively affect your same-store NOI. When you refer to cash NOI, are you excluding the effects of these deferrals?

Joseph Macnow, Executive

Nick, this is Joe.

Steven Roth, Chairman and CEO

I’ll ask Joe and Michael to answer that.

Joseph Macnow, Executive

So, Nick, let me give you a little background. This is Joe. Steve gave you the percentages of collections and deferrals that translates into $48 million uncollected in the quarter, of which we deferred $21 million. We also abated $3 million, and we set up reserves for $9 million as non-collectable. That $12 million reduces FFO and FFO as adjusted and cash basis NOI and all the other metrics. We also went on a cash basis for revenue recognition for 56% or almost $9 million of all of the monthly rent not collected through the writing off of the $36 million of straight-line rents, which has the effect of putting those tenants on the cash basis. So going forward, more than half of all the rents not collected in the second quarter are now on a cash basis. While COVID-19 has given rise to a much higher level of rents not collected than we’re used to, it’s still relatively small for a company our size with $1.7 billion of annual rents and additional revenues coming from hotels and BMS, etcetera. And those numbers are in the NOI numbers. Now, deferrals are treated as cash collected for cash basis FFO, but not the write-offs, not the abatement, etcetera.

Michael Franco, President

The only add, Nick, is that the retail Joe referenced in terms of bad debt reserves has got the impact of the Forever 21 bankruptcy. But the other aspects in terms of it being down is really driven by the variable businesses that I referenced to you, of where that’s lower cleaning fees, signage, garage income, trade shows; those are the drivers. Again, I wish when life returns to normal, we expect those to return to normal.

Steven Roth, Chairman and CEO

I want to add one thing. Joe used the word abatements, and I think you mentioned $3 million or something like that. We want to be very careful here. Abatements are not meant to us. We are collecting our rents; we are doing a very good job of collecting our rents. It’s interesting the way the better companies in the industry are all coming in at about the same percentages in what have you; it is the rarest of rare things that we would agree to an abatement. And as you can tell, the number of abatements that Joe just disclosed to you is a very small number. Each of those very few abatements has a very specific reason why we do it. It’s not the policy of the company to do it; we do it only very, very rarely and only in special circumstances. So what we’ve been doing is collecting cash rent on occasion also on a fairly small number, giving tenants a deferral so that we work with our tenants and with a collection of that deferral in the following year, which is a very short-term loan, but abatements are a no-no, and I don’t want anybody to get the idea that we’re in the abatement business. We are not in the abatement business, thanks.

Nick Yulico, Analyst

Okay, thank you. That was helpful. Just second question is going back to the Facebook deal: Did you make any changes to the existing lease at 770 Broadway?

Steven Roth, Chairman and CEO

Glenn, we did not, correct?

Glen Weiss, Executive

We did not, no changes.

Nick Yulico, Analyst

Okay, thank you everyone.

Operator, Operator

Thank you. There are no further questions at this time.

Steven Roth, Chairman and CEO

So there are no further questions. So thank you all. We appreciate everybody joining us this morning, please stay safe and healthy. We look forward to seeing you soon. Our third quarter 2020 earnings call will be on Wednesday, November 4th, the day after Election Day, so I guess we’ll have some interesting stuff to talk about. We look forward to your participation. Again, please take good care. Thanks very much.

Operator, Operator

And thank you, ladies and gentlemen, this concludes today’s conference. Thank you for participating. You may now disconnect.