Welcome to the Corporate Office Properties Trust Second Quarter 2021 Results Conference Call. As a reminder, today’s call is being recorded. At this time, I will turn the call over to Stephanie Krewson-Kelly, COPT’s Vice President of Investor Relations. Ms. Krewson-Kelly, please go ahead.

Thank you, Terry. Good afternoon and welcome to COPT’s conference call to discuss second quarter 2021 results and updated full year guidance. With me today are Steve Budorick, President and CEO; Todd Hartman, Executive Vice President and COO; and Anthony Mifsud, Executive Vice President and CFO.

Good afternoon and thank you for joining us. Our unique investment strategy of clustering assets around U.S. defense installations supporting national security activities continues to generate strong, high-quality earnings. Second quarter FFO per share, as adjusted for comparability, of $0.58 exceeded the high end of guidance by $0.01 and was driven primarily by same-property results. Additionally, NOI from real estate operations in the quarter was up 8% and AFFO increased 17% from a year ago. Through the second quarter, we completed total leasing of 1.7 million square feet, which included 815,000 square feet of renewals, 205,000 square feet of vacancy leasing and 641,000 square feet of development leasing. So far, in the third quarter, we have executed 53,000 square feet of development leasing. And we are in advanced negotiations on another 250,000 square feet that should close this quarter. Based on this activity, we are highly confident we will achieve our 1 million square foot goal for the year. Regarding our large renewal at DC6, we have not finalized the lease yet. We reached agreement on business terms in June and expected documentation would follow quickly. The tenant is controlling the pace and progress of the actual lease document preparation and that process continues to labor. Based on their deployment, power usage and the nature of other activities we are conducting with them, we have every confidence they will remain in our building. During the quarter, we placed 197,000 square feet of development projects into service, including Project EL, a 107,000 square foot specialized facility we built for a defense contractor in San Antonio. We completed this project a full quarter earlier than forecasted and we expect to deliver two additional projects ahead of schedule later in the year, thereby accelerating lease commencements. We expect to deliver Nova C and 610 Guardian Way earlier than planned, which combined with Project EL, are adding nearly $0.03 to this year’s FFO per share. Stronger same-property operations and accelerated development completions drive us to once again increase the midpoint of our full year guidance for FFO per share as adjusted for comparability. The $2.26 midpoint of updated 2021 guidance is $0.07 above our original midpoint and 6.6% higher than 2020 results.

Thank you, Steve. Metrics and trends in our defense IT locations exhibit strength and we continue to capture strong demand as shown in our lease accomplishment to-date. In the second quarter, we leased 1.4 million square feet, including 661,000 square feet of renewals for a very strong retention rate of 89%. Cash rents on renewals rolled up 0.1% and annual escalations averaged 2.6%. For the 6-month period, we completed 815,000 square feet of renewal leasing, with a 78% retention rate, an average lease term of 4.3 years and cash rents rolling down 0.2%. Late in the quarter, we learned that a tenant at Redstone Gateway did not win the recompete of a large contract and at the end of the year will vacate RG 1200, a 121,000 square foot building. This will be our first opportunity in 10 years to demonstrate the strength of demand for second-generation space at the park. We already have strong interest from multiple defense contractors looking to move to Redstone Gateway, including two that have 2022 occupancy requirements and want to gain control of the full building. The strength of demand we continue to see demonstrates Redstone Gateway’s position in the market as the essential location for serving government customers on Redstone Arsenal. In terms of vacancy leasing, we completed 111,000 square feet in the quarter, representing 10% of our available space at the beginning of the period. For the first half of the year, we completed 205,000 square feet of vacancy leasing. Our leasing activity ratio was 105%, the highest level since well before the pandemic, demonstrating continued growth in demand across our portfolio. As such, we expect to accomplish healthy volumes of vacancy leasing in the remainder of this year. Regarding development leasing, second quarter achievement was a robust 630,000 square feet and consisted of a 265,000 square foot data center shell in Northern Virginia for our cloud computing customer and 179,000 square feet at Redstone Gateway in the form of two major pre-leases with KBR Wyle. We also executed a 183,000 square foot build-to-suit at the National Business Park. The tenant is a Fortune 100 company and an important defense contractor that provides secure infrastructure, artificial intelligence and cloud computing services to U.S. defense and intelligence agencies. Their selection of the National Business Park for their local headquarters further reinforces the dominance of our location for serving the missions at Fort Meade.

Thanks, Todd. Second quarter FFO per share as adjusted for comparability of $0.58 exceeded the high end of guidance by $0.01, driven primarily by stronger same-property results. Lower operating costs due to effective expense management and the timing of R&M projects boosted second quarter same-property cash NOI by nearly $0.02 above our second quarter forecast. We expect to complete these R&M projects in the third and fourth quarters, which will impact quarterly same-property cash NOI and FFO per share, as shown on Page 18 of the results deck. That being said, for the second consecutive quarter, operating savings and better than expected leasing outcomes are pushing our same-property cash NOI forecast higher. We now expect same-property cash NOI for the year to either be flat or increase as much as 1%, which at the midpoint is a 150 basis point increase relative to our original guidance. We are maintaining our full year occupancy guidance of 90% to 92%, which continues to incorporate the negative impact of joint venturing fully occupied, wholly owned data center shells to raise equity as well as the unexpected vacancy of the 121,000 square foot contractor building at Redstone Gateway in December. In early June, we sold two data center shells to a new 90:10 joint venture with Blackstone Real Estate, which generated proceeds of $107 million. The assets were valued at $119 million, which represented a 48% profit and demonstrated the value we create through development. Including three properties under development, we wholly owned 10 data center shells that we estimate represent more than $750 million of equity value we can monetize to fund the equity component of future development. Lastly, and for reasons already discussed, we are increasing our full year guidance from a previously elevated range of $2.19 to $2.25 to a new range of $2.24 to $2.28. Our updated guidance range implies 5.7% to 7.5% growth over 2020 results and 6.6% at the midpoint. It is important to note that early development deliveries are driving most of the increase to guidance and that the NOI from these developments expected in 2022 remains unchanged.

Thank you. At midyear, our FFO achievement has outperformed our business plan significantly. This quarter’s FFO result is the fifth time in the past six quarters that we exceeded our plan and the third time in which we elevated full year FFO guidance. Our key performance metrics such as vacancy leasing and development leasing are tracking at or above plan. Clearly, our strategy of concentrating investments adjacent to priority Department of Defense missions and creating value through low risk developments at these locations is delivering FFO growth and lowering our cost of capital. Our strategy continues to provide over 1 million square feet of new development opportunities annually and by expansion, high-value defense IT assets that benefit our shareholders long-term. This year, our development capability excellence is not only delivering projects on budget and on time. In several instances, we are completing projects ahead of schedule and accelerating our bottom line results. Our property operations excellence is wringing out additional performance from our portfolio and improving our same-property results. Our highly durable operating portfolio, strong balance sheet and reliable low-risk development program combine to create the very visible growth we are delivering. We have a strong set of development and leasing opportunities before us and the balance sheet and access to capital to seize upon them. With that, operator, please open up the call for questions.

Your first question comes from the line of Manny Korchman from Citi. Your line is open.

Hey, everyone. Good afternoon. You spoke about the demand at Redstone Gateway, especially for backfilling the space that is going to be vacated. Do you think that excess demand is going to lead to new developments there as well or are you just more confident refilling that space that you didn’t expect to get back?

Well, as Todd mentioned, we have two contractors vying to replace that tenant in RG 1200; only one of them is going to fit. So by expansion, yes, we think we take the other one to a new development.

I guess the question is more, were you already in development conversations with them and now one of those is going to get satisfied by this existing building backfill, or are you in new conversations with them since the tenant vacated?

These are pretty fast-breaking opportunities. So, we had not planned a development for them. It may have occurred had this not happened. But certainly, with the inventory, they see an attractive opportunity to make a move quicker.

And then back to our favorite topic, DC6. It sounds like you are frustrated with the process. Investors are certainly frustrated with the process. Is there anything else here that may change within your conversations or is it literally just waiting for somebody to pick up the pen and finalize the deal?

It’s really waiting for the point of contact to put some time and effort in finalizing the documents.

Are you offering a new best guess as to when that gets done or are you going to stay away from that?

I am out of that business. I have been two to three times in a row. Manny, in June, we were pretty excited that we thought we would wrap it up and literally nothing happened through July. So, we continue to wait.

Are they being responsive, Steve, or is it literally just silence?

How shall I say it, they pretend to be responsive, but then they fail to deliver.

Thanks very much.

Your next question comes from the line of Craig Mailman from KeyBanc. Your line is open.

Thanks. I’ll continue on DC6 for a second. You guys had said down 10% to 15% on rent. Is that still kind of the expectation? And also, are these guys trying to get anything like early outs from you or anything that could potentially impact scalability if you guys go to bring this to market eventually?

So we believe we reached business terms back in June. I don’t want to reveal all the elements of their lease, but I would say the structure is almost identical to the original lease we had.

Okay. And is that mark-to-market still pretty much in the ballpark?

Yes.

And they didn’t have any early outs in the first lease, right?

Well, they had a right to terminate early, but there was a significant penalty associated with it.

Okay. And then just on development in general, you guys are signing a lot of leases. Are you guys having any trouble getting materials given shortages of different building products going on or do you feel like you can maintain the similar pace of deliveries that you have historically done?

As our comments pointed out, we are finishing a couple of these projects earlier than we thought. We have had no problem getting the materials and the labor we needed to deliver. Two of those projects were just signed last year. So, the bulk of the development progressed through that period of time when there was a lot of narrative about shortages. We have had no issue.

Okay. And then just last one for me. Update on 310 NBP, I think you guys have said part of it would be leased by 2Q and the rest end of year. What’s the updated timing on that one?

I think your comment’s a little off. We said two floors would be leased by the end of the government fiscal year, which is 9/30. And we expect the remaining two by the end of the calendar year, which is 12/31.

Is that still the expected timing?

It is.

Okay, great. Thank you, guys.

Your next question comes from the line of Steve Sakwa of Evercore ISI. Your line is open.

Thanks. Anthony, I was wondering if you could help us think through the same-store occupancy target of 90% to 92%. I appreciate the RG 1200 project that put some additional vacancy into the portfolio. But can you help us think through how the low end would come into play at this point given that we are in August?

The low end contemplates the impact of one to two transactions or additional data center shell sales that are in our results for 6/30 as 100% leased transactions. Each of those transactions has about a 20 basis point impact on same-office year-end occupancy results. So, to the extent we execute both of those, we are managing based on the timing of our development capital needs. It’s really a question as to whether we execute the second of those data center shell sales.

And I realize you don’t provide overall occupancy trends. But if you were to think about where your overall occupancy is today, any sense for where that bottoms and when the bottom might be after Transamerica is out? How do you think about overall occupancy?

The bottom on a total occupancy basis is probably the end of the first quarter of next year when Transamerica will have moved out and we will have the impact of the non-renewal at Redstone. The total occupancy number for the second quarter versus the first quarter was impacted by us placing the balance of 2100 L into service, which was formerly not part of the denominator. That 81,000 square feet was placed into service during the quarter, the second quarter.

Got it. And maybe just one last question: any update on leasing at 2100 L and your thoughts around monetizing that asset once you lease it up?

Todd, why don’t you handle the leasing?

Data center was hit particularly hard during the pandemic and it's emerging slowly. We have seen an increase in activity in tours and have about 100,000 square feet of active prospects for the roughly 80,000 square feet of vacancy. Several of those are in proposal stage and proposals are being drafted. We’ve seen an increase in activity, we feel good that we are seeing more people and expect some leasing to emerge.

Regarding our thoughts, we fully intend when we have delivered the value we expected to, to take that asset to market and recycle it.

Got it. Thanks.

Your next question comes from the line of Jamie Feldman of Bank of America. Your line is open.

Great. Thank you. I’m curious if you have a sense of any price discovery on where cap rates are for your different products and markets?

We have a whole research piece on that. Rather than trying to remember what’s in that piece on the call, I recommend we follow up with you and with Stephanie, our head of IR, and provide support on those cap rates.

Okay. And can you talk about the Baltimore office market and your thoughts on backfilling the space you are getting back early next year and what that pipeline looks like?

Todd, why don’t you handle this?

Since the market became aware of the impending vacancy at 100 Light, the response has been very favorable. We have about 120,000 square feet of active prospects for that vacancy with about 80,000 of it needing 2022 occupancy. We have been pretty encouraged by the market’s reception to that space. It’s a unique space being one of the highest in the market, so we feel encouraged by the activity so far.

Okay, great. Thank you.

Thank you.

Our next question is from the line of Anthony Paolone from JPMorgan. Your line is now open.

Okay. Thank you. Maybe for Anthony, you have guidance out there which looks like a year-end run rate about $0.57 at the midpoint. I’m interested in the run rate going into 2022, because your fourth quarter looks like about $0.57 at the midpoint but you’ve got more visibility now on some leases. Any way to bottom line what the step down may be starting Jan 1 given what you know?

Hello, anybody there?

It’s Tony Paolone. I’m here, if you can hear me. So Anthony, the question surrounds run rate going into 2022, because your fourth quarter looks like about $0.57 midpoint in terms of ending the year, but you have more visibility on leases. Any sense for the step down starting Jan 1 given what you know?

I think the impact for the two large non-renewals in the first quarter equals about $8 million in annual revenue. On a quarterly basis, that’s about $0.02 per share, assuming there is no backfill for those spaces because those happen at the beginning of the year. We are not assuming any backfill for those. But we also get the benefit of full quarters from elements placed in service in the fourth quarter. So the run rate might be $0.01 to $0.02 lower than the year-end run rate at the end of the fourth quarter.

Okay, got it. Thanks. And then can you talk about the data center shell pipeline over the next roughly 18 months?

We have land positions to accommodate roughly another 1 million square feet. We do expect leasing next year. The timing of that leasing has been driven by the availability of critical power as the market has been consumed over the last couple years with robust development. But in total, it’s about 1 million in what we own today and potentially more thereafter.

Do you think there is any sensitivity on yields on those types of projects given where cap rates seem to have gone and materials costs?

It’s more a function of cap rates than material cost. The structure of the deals is yield on cost, so when costs go up, the rent will go up with them. It’s more pressure on the negotiated yield given cap rate compression.

And any thoughts on the dividend and when we might see a change?

Go ahead, Anthony.

We continue to view the dividend as a capital allocation decision. Since our development opportunities remain robust and we have no tax structure need to increase the dividend right now, we’re using additional net operating cash flow to manage the amount of equity we need to raise each year for capitalizing the development pipeline. Our payout ratio is incredibly strong and we have room to move it up when we either need to from a tax standpoint or when we don’t have development opportunities to invest in.

Got it. Okay, thank you.

Next question is from the line of Dave Rodgers from Baird. Your line is now open.

Hi. You touched on JEDI earlier. Can you talk about the more recent JEDI announcement and the impact or reaction in the defense community and whether that opens or closes any doors for you in the near-term that you’d previously planned on?

There is not great visibility into that space yet. We didn’t believe JEDI would be a material boost to our company because our data center shell customer had not really talked about the impact of it. With a multi-vendor opportunity, our potential opportunity set would be higher based on some of the locations we have. It’s pretty early to see a clear path.

That’s helpful. And maybe one for Anthony: the impact of the lease in Baltimore that you’ll get back the space in the third quarter of 2022 — it looks like you’ll reset the rent in the third quarter of 2021 — any meaningful impact from that we should think about?

That rent is rolling down about 10% from the current rent and that would start the month after we execute the renewal with the tenant. Right now, we forecast the change effective as of September 1.

Okay. Thanks, everyone.

Next is Bill Crow from Raymond James. Your line is now open.

Hi, good afternoon. Steve, I thought you viewed 1 million square feet of development leasing as readily achievable and maybe even a low bar. I’m wondering about your confidence in doing much better than 1 million square feet this year?

It’s a timing issue. There are several projects we expect to win that could occur by the end of the year, which would push us materially above 1 million. But the timing is uncertain and I don’t have enough confidence in the timing to put that into a forward-looking statement.

Understood. And then on DC6, what are market rents doing over the past year in competitive projects?

Our renewal rate is in line with other large deployment renewals that have occurred in the last 6 to 12 months. New leasing rates are materially lower, maybe as much as $15 a kilowatt a month lower. But renewal rates are in the range of the market.

And the reason for the roll-down on pricing is speculative development needing to put income into those assets?

Yes, that’s a key driver.

Appreciate it. Thanks.

Next is Tom Catherwood from BTIG. Your line is now open.

Todd, in your prepared remarks you mentioned a leasing activity ratio of 105%, which you said was a high for the company. How does that compare to prior periods, maybe last quarter or a year ago? Also, do you track the time it takes for leases to go from initial activity through documentation to execution? That period seems to be taking longer.

The ratio was affected during the pandemic. We’re now at levels that approximate pre-pandemic levels. Throughout the pandemic it dropped and it’s been steadily increasing since late last year and now post-pandemic it’s a high we haven’t seen in at least 18 months. We don’t track deal cycle time officially, but deal cycles have extended — something that might have been a 4-month cycle before is now 5 or 6 months, and a 6-month cycle might be 8. Tenants are considering many options and taking more time to decide. The good news is people are moving through the pipeline, it’s just taking longer.

Understood. There was a pickup in Northern Virginia; can you comment on recent activity there and whether you expect more vacancy leasing near-term?

It’s one of the markets where we have seen an uptick in activity. Its activity ratio is very strong and has come on strong over the last three months. We anticipate closing some of that activity but can’t comment on exact timing.

Thanks. Last one: on San Antonio, you finished a project early. What opportunity do you have to expand your portfolio down there, anything in the near-term?

I wouldn’t expect anything in the near-term. We’ve consumed all the land we’ve held on our balance sheet there. Ultimately the mission continues to grow and we have capacity inside the fence to accommodate government and contractors, but I wouldn’t expect anything in the next 12 to 18 months.

Got it. Thanks everyone.

Next is Chris Lucas from Capital One Securities. Your line is now open.

Hi. Steve, just wanted to follow up on your comment about prospective development leasing deals in Redstone. Are those deals part of the exterior outside defense land or inside the fence, or a combination?

The deals we’re working to close now and a start we might add are all outside the fence. There is longer-term opportunity inside the fence.

Anthony, on the data center shell capital raises, you suggested earlier in the year that a series of deals would be done across several quarters. It doesn’t sound like you’re as confident all of those deals will close this year. What’s your latest thinking on the data center shell JV process?

Our current forecast assumes we execute another joint venture by the end of the third quarter. Based on our thinking and the fact we have incremental EBITDA from operations to maintain leverage levels, we don’t think we need an additional transaction in the fourth quarter. Right now we would contemplate a JV on potentially two data center shells by the end of the third quarter, and that would be all for the balance of the year.

Okay, thank you. That’s all I had.

Thanks, Chris.

No further questions. I will now turn the call back to Mr. Budorick for closing remarks.

Thank you all for joining our call today. We will be in our offices this afternoon, so please coordinate through Stephanie if you’d like a follow-up call.

Thank you for your participation today in the Corporate Office Properties Trust second quarter 2021 results conference call. This concludes the presentation. You may now disconnect. Good day.