Earnings Call Transcript - KRC Q1 2025

Operator, Operator

Hello, and welcome to the Kilroy Realty Corporation 1Q '25 Earnings Conference Call. My name is Harry, and I will be your operator today. All lines are currently in a listen-only mode and there will be an opportunity for Q&A after management's prepared remarks. I would now like to hand the conference over to Doug Bettisworth, Vice President, Corporate Finance. Thank you. Please go ahead.

Doug Bettisworth, Vice President, Corporate Finance

Good morning, everyone. Thank you for joining us. On the call with me today are Angela Aman, CEO; Jeffrey Kuehling, EVP, CFO and Treasurer; and Eliott Trencher, EVP, CIO. In addition, Justin Smart, President; and Rob Paratte, EVP, Chief Leasing Officer, will be available for Q&A. Please note that some of the information we will be discussing during this call is forward-looking in nature. Please refer to our supplemental package for a statement regarding the forward-looking information on this call and in the supplemental. This call is being webcast live on our website and will be available for replay for the next eight days. Our earnings release and supplemental package have been filed on a Form 8-K with the SEC, and both are also available on our website. Angela will start the call with a strategic overview and quarterly highlights. Eliott will provide a transaction market outlook and Jeffrey will discuss our financial results and provide you with updated 2025 guidance. Then we will be happy to take your questions. Angela?

Angela Aman, CEO

Thanks, Doug, and thank you all for joining today's call. Despite an environment defined by volatility and macroeconomic uncertainty, I'm pleased to report on a positive start to 2025, with solid leasing activity executed during the quarter and encouraging forward leasing indicators across our portfolio. Office demand in our markets continues to rebound as we benefit from the ongoing solidification of return to office mandates, recent meaningful improvements in the health, safety and vibrancy of some of our most important submarkets, and materially growing demand from the burgeoning AI industry. San Francisco best represents the intersection of these important trends. The rapid expansion of new AI business formation and growth in the City of San Francisco, combined with recent return to office mandates for major employers in the market and a crime rate that is now the lowest in 23 years, have all contributed to growing foot traffic and the re-amenitization of major office corridors in the city. During Q1, we saw signs of this positive momentum playing out in our portfolio with the execution of a nearly 60,000 square foot lease with a technology company at our 201 3rd Street asset, representing our largest lease execution in the city since 2019. In addition, during the period, we also experienced a 60% year-over-year increase in tour activity in our San Francisco portfolio, providing strong visibility on the future pipeline. As discussed on prior calls, we have also seen some large, well-established AI users expand into other West Coast markets and the ongoing search for high-quality talent. As an example, during the first quarter, we signed a 34,000 square foot expansion of a 9,000 square foot data analytics and AI tenant that originally took occupancy just last year at our recently redeveloped West 8th asset in Seattle. This transaction represents a common theme in AI leasing. Tenants are being rational and disciplined as they initially leased space, while placing a high priority on landlords who will work with them to accommodate future growth needs. And often, as in this example, anticipated future growth is materializing quickly as these businesses rapidly scale. Across the entirety of our office portfolio, the forward leasing pipeline continues to expand in size and improve in quality. During the first quarter, we saw a 40% year-over-year portfolio-wide improvement in our activity despite the increase in volatility that defined the first two months of this year. Although it's reasonable to question if recent headlines will impact the pace of future leasing activity, we have, to date, seen a de minimis impact on transaction volume or velocity. Turning to life science: the industry entered 2025 with a combination of hope related to the economic and market backdrop for the sector and caution on the policy and regulatory outlook. Since then, market volatility has dampened some enthusiasm around the return of public market financing for the space, while the policy and regulatory outlook has proven more complicated than originally anticipated. That said, the scope of the opportunity for the life science sector remains unprecedented and recent messaging from the newly appointed FDA Commissioner that emphasizes a commitment to protecting innovation and maintaining a science-based approach to regulation has been broadly encouraging. While there's little question that the sector will need to continue to adapt to a rapidly evolving financial and regulatory climate, consistent with what we have seen play out on the office side, there has been, to date, no discernible impact on life science leasing momentum in our portfolio. During Q1, at our KOP Phase 2 development project in South San Francisco, we continue to experience meaningful tenant engagement, supported by the project's differentiated design, high-quality construction, broad amenity offerings, and, importantly, scale, which provides confidence in our ability to meet the ambitious future growth objectives of many of these prospects. We have advanced our discussions with several potential tenants and are actively working with them on space plans and pricing. Active demand requirements currently include tenants interested in our spec suites, as well as several users in discussions for full floors or multiple floors on the campus. We understand and appreciate the attention and focus that this project continues to receive from the investment community, and we will provide timely updates on the status of lease-up when they are available. As Eliott will cover in a moment, we remain very active on the capital allocation front as we work towards monetizing those parcels in our future land bank with the highest and best use outside of the company's core competencies. Last night, we announced that the first phase of our Santa Fe Summit land parcel disposition is now under contract. In addition, we are also evaluating a number of operating property dispositions where we can achieve attractive valuations and advance our broader strategic goals for the portfolio. As we realize proceeds from these efforts, we will evaluate the full spectrum of redeployment opportunities, including acquisitions, leverage reductions, and/or stock buybacks, appropriately balancing economics, future growth plans, and balance sheet strength. I'm also pleased to highlight that in April, we published our annual sustainability report, introducing new ambitious goals that we hope to achieve by 2030 across a wide range of important environmental and social topics. Corporate responsibility is embedded into our culture at Kilroy, and I am excited about the significant milestones that we, as a team, are committed to realizing over the coming years to maintain our leadership in this important area. Looking ahead, our focus remains on staying agile, investing in our tenants, portfolio, and platform, and maintaining superior financial and operational flexibility. I want to thank the Kilroy team for their hard work and dedication throughout a challenging start to 2025, particularly for our Los Angeles-based team that continues to execute despite significant disruption associated with the January fires and for continuing to respond to change with courage and innovation. Kilroy is well positioned to execute on our near- and long-term goals and to capitalize on the exciting trends playing out across our West Coast market. Eliott?

Eliott Trencher, EVP, CIO

Thanks, Angela. Office sales volume in the first quarter was roughly flat year-over-year. That said, there's a wider array of capital pursuing deals, which can generally be grouped into three buckets: institutional, high net worth, and users. Institutional capital pulled back the most when rates increased in 2022 but has returned in recent quarters. For example, 300 Howard Street, a vacant 400,000 square foot building in San Francisco was recently recapitalized by two institutional groups for $111 million or $265 per square foot. The price per pound for this building is consistent with other trades of vacant properties in Downtown San Francisco, but the transaction is meaningful for the city since it is the first stand-alone deal over $100 million since 2022. Furthermore, the recap is a great endorsement from sophisticated investors that the changes in the city are tangible and putting San Francisco on the right track. Additionally, users have been selectively buying office buildings over the past few years, filling a void in the market. The latest example is LendingClub, which recently went under contract to acquire 88 Kearney Street in San Francisco for $75 million or roughly $320 per square foot. The significance of this trend is that it reinforces the importance of and commitment to the office and highlights that companies place value in office buildings beyond what investors are currently underwriting. While both of these transactions are in the City of San Francisco, there are similar dynamics playing out across all of our markets with notable activity increases in Silicon Valley, Seattle, and Bellevue. Turning to our land sites, we continue to work on maximizing value across the pipeline. As previously discussed, at the Flower Mart in San Francisco, value maximization will come from both creating optionality in the ultimate use and optionality in the phasing of execution. To that end, we continue to work through our internal process evaluating alternatives and are hopeful of getting a warm receptivity from the new growth-oriented leadership at the city. There is still more work to be done, and we will provide further updates as appropriate over the coming quarters. The second way we are working to maximize value is through select sales. As Angela mentioned, we signed an agreement to sell a portion of our Santa Fe Summit site in San Diego for a gross price of $38 million. The sale covers five of the 22 acres, and the deal is scheduled to close upon the receipt of entitlements, which we estimate to be in 2026. We remain in active negotiations on multiple other sites in Southern California and continue to be on track to generate gross proceeds inclusive of this initial sale in excess of $150 million. As previously discussed, we anticipate the future land sales to have elongated closing timelines with proceeds to be realized over the next few years. With that, I will turn the call over to Jeffrey.

Jeffrey Kuehling, EVP, CFO and Treasurer

Thanks, Eliott. Before we dive into quarterly results, I want to spend a few moments highlighting the enhancements we made to our disclosures this quarter. First, we provided additional details around the individual components of rental income. The added context highlights the strength of our operating portfolio by more readily identifying drivers of our rental income stream. Second, we added a reconciliation from cash NOI to total NOI. We hope the schedule provides a more intuitive view of our business and visibility into the earnings impacts of nonrecurring items, specifically items like restoration and settlement income. Finally, we introduced an additional retention statistic that highlights the effect of direct leases executed with in-place subtenants. The new metric acknowledges where we've eliminated downtime and maintained occupancy by retaining the in-place subtenant. In the first quarter, the retention rate, including subtenants, was almost 1,500 basis points higher than our base retention rate. For comparison, our 2024 retention rate, including subtenants, would have been 42% and almost 1,100 basis points higher than our base retention rate. Now, turning to the first quarter, FFO was $1.02 per diluted share and cash same-property NOI declined 160 basis points year-over-year. During the period, we delivered cash same-property base rent growth of 90 basis points despite a 300 basis point decline in average occupancy, reflecting the strong contractual rent escalations embedded throughout our portfolio. Occupancy ended the quarter at 81.4%, down from 82.8% at year-end. And on our last earnings call, we discussed the known move-outs of several larger tenants in the first quarter totaling 216,000 square feet. The one meaningful variance from our previous expectations was the timing of Dermtech downsizes and renewal. The 110,000 square foot lease expired in March and is shown as a month-to-month expiration on the lease expiration schedule in the supplemental as of March 31. In April, the downsize and renewal were executed, resulting in an 81,000 square foot move-out in the second quarter. First quarter GAAP re-leasing spreads were negative 15.8%, while cash re-leasing spreads were negative 23%. Re-leasing spreads were impacted by a single large transaction in which we invested minimal capital to secure a three-year lease with an existing subtenant. The shorter lease term provides us with the opportunity to reset rents earlier when the market recovers. This deal resulted in a strong net effective rent. However, the minimal capital commitment led to lower base rents and spreads. Excluding the impact of that single lease, cash re-leasing spreads would have been approximately negative 8.3%, which is consistent with last quarter. Turning to guidance, we're reaffirming our full year guidance, including FFO, cash same-property NOI growth, and average occupancy expectations. The midpoint of our range implies a modest deceleration of FFO, consistent with our average occupancy assumptions, as a reminder, the midpoint of guidance also assumes the cessation of interest capitalization at the Flower Mart in the second half of the year. As for the balance sheet, Kilroy has a significant unencumbered asset base, a well-structured debt maturity schedule, and substantial liquidity, which together create tremendous financial flexibility and position Kilroy to be nimble and responsive as we navigate a dynamic capital allocation environment in the coming quarters. With that, we're happy to answer your questions.

Michael Carroll, Analyst - RBC

Yes, thanks. I got on a little late, so I'm not sure if I missed this or not. But Angela, can you provide an update on how you're viewing the Flower Mart site right now? And maybe can you provide some potential options that Kilroy might have for that specific site and what you're analyzing today?

Angela Aman, CEO

Sure. Yes, Eliott talked about this a little bit in his prepared remarks, but all we can say at this point is consistent with what we said last quarter. The exercise we're going through is intended to explore a wider range of uses for the Flower Mart site than what was originally programmed. And also to ensure that we can execute it in a way where it can be phased, and we can be responsive to the market as it continues to improve and recover in San Francisco. As I mentioned earlier, we're very bullish about what we're seeing in the city of San Francisco from a leasing standpoint and from a safety and vibrancy standpoint, particularly just over the last few months. We are working hard on the Flower Mart side, and Eliott mentioned, we're very hopeful that we'll get a warm receptivity from the new administration.

Michael Carroll, Analyst - RBC

Can you discuss the timing of these decisions? Is it expected to happen within the next year, or how long should we anticipate this annualization process to take?

Angela Aman, CEO

Yes, we are currently engaged in multiple discussions regarding the site and will continue these conversations with the city throughout this year. There are several possible directions this process could take, which makes it challenging to predict the timing for a resolution regarding the Flower Mart. However, it’s important to note that our guidance included an expectation that we would cease capitalizing on the Flower Mart at some point in the latter half of the year. As we gain more clarity on the specific path we are following, we will adjust that expectation as necessary.

Jana Galen, Analyst - Bank of America

Thank you. Good morning.

Angela Aman, CEO

Good morning.

Jana Galen, Analyst - Bank of America

Just hoping you could comment a little bit more on the level of leasing this quarter. Maybe some has pulled forward in Q4 or perhaps the fires in L.A. impacted the leasing sales cycle there. Just any kind of commentary around what the forward pipeline looks like today maybe geographically? Thank you.

Angela Aman, CEO

I'll share a few insights before handing it over to Rob for a broader overview of the pipeline and its current status. The activity this quarter reflects several factors. It's worth noting that Q4 was an unusually strong quarter for leasing volume. There were a few deals that were originally expected in the first quarter but were completed in the fourth quarter instead. This was beneficial for our ability to increase occupancy quickly, but it did affect leasing activity from quarter to quarter to some degree. We also had a couple of deals that slipped into the first week of April, and if those had closed a week earlier, our leasing volume would have shown a notable increase compared to the same quarter last year. We're optimistic about the pipeline and the efforts the team has made to rebuild it following the impressive volume we saw in the fourth quarter last year. I'll let Rob provide more details on that.

Rob Paratte, EVP, Chief Leasing Officer

Yes, I want to emphasize that our leasing teams are fully engaged and are actively managing numerous transactions. In some quarters, we are fortunate enough to bring in business from future quarters, as we did in Q4. However, in quarters like Q1, some of that work extended into Q2. It's crucial to note that our leasing team is dedicated to rebuilding the pipeline, and we currently have several promising transactions underway. It will take some time to see the results. The demand characteristics in our various markets fluctuate, which is beneficial for Kilroy. Right now, San Francisco is very active, having recorded its first quarter of net positive absorption in five years according to CBRE. This trend is encouraging, and we've noticed that activity reflected in our portfolio. Bellevue, Washington, is also a robust market, and we often wish we had more space to lease there. Seattle is benefiting from positive factors mentioned earlier, such as improvements in the political environment and law enforcement. We're experiencing a noticeable increase in activity at West 8th from various tenants. Conversely, L.A., particularly on the West side, has been slower, partially due to natural disruptions from the fires. However, we have seen a slight increase in our activities in L.A., and we're hopeful that this trend will continue. Last quarter, L.A. faced more challenges than other markets. On a positive note, our Long Beach asset continues to perform well in leasing. San Diego and Austin are also doing well, and we have a solid pipeline in both regions.

Angela Aman, CEO

Yes, I'd just reiterate also the tour activity we mentioned in the prepared remarks, we're up 40% portfolio-wide and importantly, up 60% in the city of San Francisco. So we really are seeing good momentum build. And I think the team is working hard to take advantage of that, capitalize on it.

Jana Galen, Analyst - Bank of America

Thank you. Very helpful. That's it for me.

Steve Sakwa, Analyst - Evercore ISI

Yes, thanks. Angela, I just wanted to come back to the leasing pipeline and the deal activity you mentioned that slipped. I guess, one, could you just kind of actually quantify what the leasing pipeline is? And what level of deals kind of slipped, I guess, from Q1 into April?

Angela Aman, CEO

Yes, I think the pipeline is up something like 15% on a quarter-over-quarter basis. We don't typically talk about the absolute size of the pipeline, but you have seen really healthy momentum rebuilding that pipeline. And again, I think tour activity tends to be one of the most important leading indicators in terms of forward lease activity. So we're seeing really good progress there, as I mentioned, with a 40% portfolio-wide improvement, really driven by the city of San Francisco, but certainly more broad-based as well. Across the different markets, as Rob was highlighting. We've got different dynamics playing out in many of our markets. But I think across the board, seeing that improvement and return to office across many of our metrics, seeing the last election results and the way that several of our cities are improving from a health, safety and vibrancy perspective, all of that is certainly contributing to the pipeline. And then really in San Francisco and to some degree, Seattle Bellevue, and a little bit in San Diego as well, we're seeing AI as a real driver of leasing activity and momentum more broadly across the board.

Steve Sakwa, Analyst - Evercore ISI

I'm sorry, but were you able to quantify the April, I think you said, some deals that you thought would get done in Q1 kind of slipped into Q2. So is there a quantification you can put around that?

Angela Aman, CEO

Yes. There was probably at least, I'm going to say, 50,000 to 60,000 square feet of deals that just slipped into the first quarter of April. But again, the pipeline was at March 31st, the forward pipeline was about 15% of where it had been at 12/31.

Seth Bergey, Analyst - Citigroup

Hi, this is Sydney on for Seth. So on the sale of land, Santa Fe Summit for $38 million, is the plan for a second phase of the sale of the other 17 acres? And then more broadly, how are you thinking about monetizing the land bank versus other existing operating portfolio dispositions?

Eliott Trencher, EVP, CIO

Hey, Sydney, it's Eliott. We are currently assessing several sales I mentioned earlier, including one focused on land that has potential for better use beyond office and life science. This aligns well with our core strengths. If we have strategically located land, it should be directed towards office and life science development when the timing is appropriate, which isn't the case yet. That's how we prioritize our land bank. Regarding your second question, any actions we take to monetize our land bank won't prevent us from considering the sale of operating properties. We are exploring those opportunities as well, focusing on where we believe there is interest from third-party investors and where we see potential value that is not fully recognized in the market outlook. That's the approach we've taken in deciding which assets to monetize.

Sydney [indiscernible], Analyst - Citigroup

Great. Thanks. And then one more for me. In terms of renewals, are you still seeing companies reduce base on renewals? Or have you seen more of a trend of expansions like the one at West 8th?

Rob Paratte, EVP, Chief Leasing Officer

I apologize if I misunderstood the question. In terms of renewals, we mostly observe companies retaining their existing footprint. While you asked about renewals, many new companies entering the San Francisco market are actually looking for larger space requirements, especially AI companies that prioritize flexibility. As Angela mentioned, the significant deal we secured in San Francisco was due to our ability to support their dynamic growth patterns. Compared to 1.5 years ago, when most companies were adjusting their space by 5% or 10%, the renewal situation is much stronger now, with many companies choosing to stay in their current footprint.

Caitlin Burrows, Analyst - Goldman Sachs

Hi, good morning. I have a question about capitalized interest. It seems that the two major factors for capitalized interest in the next 12 months will be KOP 2 and Flower Mart. Starting with KOP 2, you've incurred $828 million so far, and it looks like that could increase to around $1 billion, likely to be realized in early '26. As for Flower Mart, I noticed you haven't specified the amount spent on it. Could you provide more details on what impact that might have?

Jeffrey Kuehling, EVP, CFO and Treasurer

Sure, Caitlin. You nailed it with KOP 2. So it will come off in early 2026. And then last quarter, we did touch on some of the individual components for the Flower Mart. So there's about $7 million of capitalized interest per quarter and then an additional $1 million of carry costs for the parcel such as insurance or taxes.

Robert Paratte, EVP, Chief Leasing Officer

Yes, Caitlin, this is Rob. I'll talk about a couple of markets. If you look at Bellevue, for example, there is an AI component to it. Our transaction in Bellevue was the third largest of the quarter in Q1, but there's other uses such as private services, law firms, Tommy Bahama with a large renewal that happened in South Lake Union, a retailer, and that was office space, not retail space, Lululemon being another retailer that used office space. In San Francisco, the most notable additions aside from technology were really JPMorgan and their large renewal with the city and Morgan Lewis moving to the Trans-America Pyramid. And I think just one side note that's really, I think, compelling about the change in San Francisco related to JPMorgan, through a combination of their expanding business, it's a key market for them. The combination of expanding business and philanthropy on their own account, they're contributing up to $1.2 billion to the economic growth and prosperity of San Francisco, and we're seeing more companies doing that. So this tracks exactly with what Angela was saying about the improving environment. So professional services have always been part of San Francisco, and you're going to continue to see that, I think, particularly with the large law firms that are either wanting to come here for technology or just other Pacific business.

Nicholas Yulico, Analyst - Scotiabank

Hi, thanks. So I guess just going to the occupancy guidance range for the year. So if we adjust for Dermtech happening in the second quarter, not first quarter, it looks like you're sort of right in the middle of that average occupancy guidance right now with that impact. So can you just maybe flesh out a bit like what the assumptions are to get to bottom or high end of the range in terms of what does that mean? For leasing activity picking up or not and any major known move-outs still expected? Thanks.

Jeffrey Kuehling, EVP, CFO and Treasurer

Thank you, Nick. You accurately captured the Dermtech situation. There is another lease that may impact the second quarter, specifically 23andMe in South San Francisco, which is approximately 65,000 square feet. We have accounted for that in our guidance. If it occurs this quarter, there will be a slight decrease in occupancy. Looking ahead to the third quarter, I want to remind everyone that we will have two development properties entering the stabilized pool, which will also affect occupancy within our guidance. This will result in a slight decline in the third quarter. By the fourth quarter, our projections stabilize, and as noted with the signed but not occupied figures this quarter, we have several rent starts set to begin at the end of the year. Therefore, you will see some fluctuations in the final number based on how many of those we initiate.

Angela Aman, CEO

Yes. I think the other thing to note is just Rob did a good job on hitting, particularly in San Francisco, which is our largest market. The degree to which tenants are looking for plug-and-play space and flexibility in the ultimate footprint in use and really working to get into space as quickly as possible. So that's where our spec suite program is particularly effective. And we do have a number of market-ready spec suites available in that market as well as across other markets. But to the extent over the next quarter or two, we really can accelerate leasing activity, we've got a shot at getting some of those in occupancy by year-end, which would drive us to the upper end of the range. So that's really the focus in terms of the variability in terms of what could get us to the top end of the range. But even just based on things that are signed to date, we expect Q4 to be a positive net absorption quarter.

Nicholas Yulico, Analyst - Scotiabank

Okay. Yes. Thanks. That's helpful. I guess just then following up too on the spec suites at KOP 2. So it sounds like maybe that getting some leasing there could be in the upper end of the guidance range? And is that right? And then also just sort of a timing standpoint, I mean, if you were to get any sort of lease signing on how fast that could actually hit occupancy in the spec suites? Thanks.

Angela Aman, CEO

Right. So when Jeffrey mentioned the redevelopment assets that are coming into the stabilized occupancy pool in Q3, those are redevelopment properties, not KOP. KOP wouldn't come in until 2026. So lease-up at KOP is not a driver of the occupancy guidance we've given or our performance within that range. I do want Rob to spend a minute, though, just talking a little bit and expanding on the momentum we've seen at KOP, which has been notable and, as I mentioned earlier, has included activity both on the spec suites as well as full-floor multiple-floor users on the campus.

Rob Paratte, EVP, Chief Leasing Officer

Sure. Hi, Nick. We continue to see steady interest and activity from early-stage and mid-emerging science companies. We also observe a variety of users in tech and fintech, but the predominant user remains in life sciences. I can't comment on what others have mentioned or the overall market conditions, but we are quite busy at KOP, which is really exciting. We are currently engaged in discussions with two larger users in need of scale and a pathway for future growth. Our campus and available land align perfectly with their needs. Additionally, we are starting space planning and design discussions with several of these users, and with a few, we are completing detailed cost estimation analysis for various single-floor users. This is important as it leads to the next stage of either a signed letter of intent or a lease. We have a lot happening right now. While the broader situation may not speed up the signing process, our team remains focused and we haven’t seen any pullback to date. Finally, in response to your question to Angela, by building and marketing the spec suites, we actually have generated considerable activity, making it a promising opportunity for 2025.

John P. Kim, Analyst - BMO

Thank you. Just following up on KOP 2. We've seen this quarter that you were a little bit more, I would say aggressive on lease spreads and higher TIs; is that something that you're doing now at KOP 2 to help stimulate demand as you look for anchor tenants?

Angela Aman, CEO

Yes. Well, I want to first address sort of the question about spreads and leasing activity that was executed in the quarter, and then I'll let Rob kind of touch again on the leasing strategy at KOP 2. But just remember what Jeffrey mentioned in his remarks, that really the driver of the negative spreads during the quarter, the most significant driver of the negative spreads was one larger lease we signed. It was a direct deal with an existing subtenant that had very little capital in it. And that drove, as a result of having no capital and comping off of a deal that had a full capital market TI package. The optically looks like a lower spread. But as Jeffrey mentioned, it was a very positive net effective rent. And I think the right decision for that building. It's also a three-year lease, which gives us the ability to get another bite at the apple and reset rent in a few years as the market continues to improve. So I think across the board, that was the right decision. So obviously, contributing to a negative spread number in the quarter. I think if you just look at second-generation leasing, I think that the TILC number was pretty consistent actually with where we had been throughout all of 2024. So I think if there was any increase, it was only in first-generation space, and it's just a function of the build-out of those tenants. But I think a very small pool there as well.

Rob Paratte, EVP, Chief Leasing Officer

Certainly, John, your Cinco de Mayo comment yesterday was clever. Regarding KOP, we have a range of offerings, including Shell and existing spec suites, available in various sizes. We have a strong understanding of our competition and set our pricing accordingly. We are proactively pursuing tenants based on several factors, such as their identity, occupancy timelines, and space requirements, among others. While I prefer not to disclose too much about our strategy as many are listening, we are monitoring all transactions in the market and engaging with numerous prospects. As I mentioned to Nick earlier, we are currently working on some promising deals.

Angela Aman, CEO

Yes. I think, obviously, it's a very competitive environment right now given the amount of supply in South San Francisco. But we have an incredibly high-quality, well-amenitized project. And I think the biggest thing that's been driving forward some of the conversations we've been having on the leasing side at KOP 2 really has been the scale of our project and our ability to accommodate future growth for a lot of these tenants. That's been much more important in the conversations or at least as important as just economics and the competitive environment there.

John Kim, Analyst - BMO

And maybe a follow-up for Rob. Can you rank your markets in terms of where you see the most leasing activity and the likelihood of occupancy growth? I noticed this quarter, Seattle and Austin had an increase in lease rates. So I don't know if that is representative of what you're seeing on the ground with your pipeline?

Rob Paratte, EVP, Chief Leasing Officer

Yes, I believe Bellevue is our strongest market with the most activity, followed closely by San Diego, which is also performing very well. At One Paseo, we quickly run out of space, but we've made some recent expansions, and it remains our second strongest market. Austin's rental rates are stable, sitting in the high 40s to low 50s on a triple net basis, depending on the specifics of the package and concessions. All these markets show strong potential. In San Francisco, there is still a notable difference between top-tier and lower-tier rental prices. However, our current product is well-suited for emerging technology companies, including both AI and general tech. For instance, projects like 201 3rd are attracting considerable tech interest, while projects such as 303 2nd and 101st have a mix of technology and other types of tenants. Overall, San Francisco may take some time to rebound, but we are observing positive movement in the sublease market, which has now decreased to 6 million square feet due to some absorption and conversion to direct space. We experienced positive absorption for the first time in Q1, and currently demand stands at 7 million square feet. While I cannot predict rent growth in that market, the conditions are certainly improving compared to recent times.

Angela Aman, CEO

I would like to add that during last quarter's call, we discussed the opportunities within our portfolio that stem from some of our top quality vacancies, which include locations in Seattle, Indeed Tower in Austin, and 2100 Kettner. The improvements in leasing rates that you mentioned for Seattle and Indeed, as well as Austin, really highlight the strength of those two assets. Additionally, one of the leases that delayed from late March to early April was for 2100 Kettner. We are making significant progress in leasing these spaces, which offer very attractive economics and feature some of the highest quality vacancies in our portfolio, positioning us well to achieve that growth as promptly as possible.

Dylan Burzinski, Analyst - Green Street Advisors

Hi, good morning. Thanks for taking the question. I guess just going back to some of the comments made on KOP Phase 2, are you guys able to sort of give a square footage of the overall pipeline that is sort of touring or looking at that space today? And maybe if you can comment on sort of the two larger users that are interested just how big of a potential space needs those are?

Angela Aman, CEO

Yes. I mean, I guess I'll start with that the second part of your question first. I mentioned in the prepared remarks, we've got some users looking at the spec suites. We have a number of users looking at spec suites, and those generally range from 15,000 to 25,000 square feet. Floor plates at KOP 2 are in the 40,000 to 44,000 square foot range. So when I mentioned other larger tenants exploring full floor uses or multiple floor uses, I would say it's somewhere between one and three floors at other parts of the campus.

Eliott Trencher, EVP, CIO

I think it's a little early to say. And without talking about any individual owners' basis specifically, I think that there's a balance between where someone has sort of bought a building and then what kind of capital they're intending to put into the building. And certainly, some of the trades earlier in the cycle, which had a lower basis, our view was those buildings needed a fair amount of capital. So it will be interesting to see how different folks' business plans play out, what the total amenity offerings are and how they kind of contrast to market to see what that means in terms of tenant preference.

Peter Abramowitz, Analyst - Jefferies

Yes, thank you for taking the question. Just want to ask, have you commented on DirecTV and their expiration '26 and '27. And can you kind of handicap what you think the likelihood of a renewal is?

Rob Paratte, EVP, Chief Leasing Officer

I won't handicap it, but we have discussions with them. They've been a long-term tenant. So I don't have much more to say right now. The '27 expiration is one we're focused on as well as '26.

Angela Aman, CEO

Yes, I believe the team has done an excellent job over the past few quarters in preparing for the lease expirations in 2026. They have engaged in active discussions with all tenants whose leases are expiring next year, and they are also starting to initiate conversations with those whose leases are set to expire in 2027. While it's still early for some of the 2027 discussions, many of our tenants' plans are still evolving, especially as their office return policies become more defined. Therefore, the conversations we had six months ago have changed positively regarding renewal retention in recent quarters.

Brendan Lynch, Analyst - Barclays

Great. Thank you for taking my question. Eliott, entitlements in California can be quite challenging. What do you see as the risk that the Santa Fe Summit site doesn't receive the entitlements that the buyer is seeking?

Eliott Trencher, EVP, CIO

So the transaction that we've completed has a residential as-of-right use. And so that's the reason that this portion was the first portion to be sold. So can't predict how any process will go out, but this is something that has a right. We're confident we can do.

Brendan Lynch, Analyst - Barclays

Okay. Thank you. It sounds like you're a bit tight on capacity in San Diego. What is the prospect of developing the rest of the space at Santa Fe Summit into incremental office space?

Eliott Trencher, EVP, CIO

That's not our expectation. I think one development in a lot of markets, you need it does not make sense today, and that's why we have not undertaken any kind of development. But as I kind of mentioned earlier, that's the balance of the Santa Fe Summit land site is something that we are evaluating as one of our potential land sales. And that area has really transformed. There's been a lot more residential that's come into that part of town. And so we think there's a higher and better use there.

Angela Aman, CEO

Yes. To your point, though, I mean, San Diego has been a great market for us. We've performed extraordinarily well, particularly in submarkets like Del Mar, which is what drove the acquisition we did last year to continue to increase exposure and capacity in San Diego and give the team more to lease in that market since it's been going as well as it has. So we're certainly interested in continuing to grow that portfolio. This site just doesn't, to Eliott's point, really, it's not office or life sciences are not the best uses for this site.

Steve Sakwa, Analyst - Evercore ISI

Thank you. And the next question will be from the line of Caitlin Burrows with Goldman Sachs. Caitlin your line is open. Please go ahead. And limit yourself to one question.

Angela Aman, CEO

Hi, Steve.

Caitlin Burrows, Analyst - Goldman Sachs

I was wondering if you could explain your reasoning for excluding the same-store NOI GAAP trends and the commenced leasing, as I believe it may be causing some confusion or misinterpretation.

Jeffrey Kuehling, EVP, CFO and Treasurer

Sure. We tried to just reevaluate the entire package to make sure it was really clear on what the economic drivers of our business were. So specifically, when we're looking at cash versus GAAP NOI, the revenue recognition timing with some of the nonrecurring items seemed to be causing a lot of volatility and maybe confusion for understanding our business. So we tried to step back and simplify the same-property NOI disclosure to make sure that it actually tracks more closely with the economics of the day-to-day business. And then by expanding kind of the reconciliation between cash and total NOI, we hope that's much easier to see just how those kind of items flow through the financial statements. As we think about kind of leases commence, we think there's a lot of information on kind of the forward-looking part of our business, specifically with the signed but not occupied spreads available, the leases we executed in the period that we thought gave enough context for people to understand where the business was going from a forward perspective, and I decided that was probably the best disclosure to keep.

Operator, Operator

Thank you, everyone. This will conclude today's Kilroy Realty Corporation 1Q '25 Earnings Conference Call. Thank you again for everyone who joined us. You may now disconnect your lines.