Dream Office Real Estate Investment Trust (DUN) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen. Welcome to the Dream Office REIT Fourth Quarter Conference Call for Friday, February 17, 2023. During this call, management of Dream Office REIT may make statements containing forward-looking information within the meaning of applicable securities legislation. Forward-looking information is based on a number of assumptions and is subject to a number of risks and uncertainties, many of which are beyond Dream Office REIT's control that could cause actual results to differ materially from those that are disclosed in or implied by such forward-looking information. Additional information about these assumptions and risks and uncertainties is contained in Dream Office REIT's filings with securities regulators including its latest annual information form and MD&A. These filings are also available on Dream Office REIT website at www.dreamofficereit.ca. [Operator Instructions] Your host for today will be Mr. Michael Cooper, Chair and CEO of Dream Office REIT. Mr. Cooper, please go ahead.

Thank you very much, and welcome, everybody, to our year-end conference call. I wrote a report to Board and referred to it's feeling like Groundhog Day over and over again in the Office sector. I'm here with Gord, and Jay. They'll deal with the financials and the operations. I just want to talk a little bit about some of the strategy and other opportunities we're seeing. Last month, we closed the sale of 720 Bay the highest end in use and value was at a health science building. We're pleased with the sale. I always liked the building. I think the building is going to perform well in whatever form over the long term. But with a good opportunity to get liquidity. This 250,000 square foot building is about 1/4 of the space that we have in the Discovery District. And I think it proves out that the Discovery District has an additional value over just other office buildings. It's not a commodity. So we have another 750,000 square feet there, including 250 Dundas. I think that's pretty exciting. In addition, we own about 26 million shares at Dream Industrial and it's been doing very well. It's about $400 million of investment in liquidity, and that's a pretty exceptional asset for Dream Office. At 2200 Eglinton, we mentioned that, it's been -- we've received approval for about 2.5 million square feet of residential density for the most part, in addition to the 165,000 square foot office building. Basically, the density is divided into 4 phases about 600,000 square feet each. We're in discussions now with the developer, we know very well for them to develop condos on the first phase. And after cost, the entity is probably at about $70 a foot, with 2.5 million square feet. That's about $175 million, plus the 165,000 square foot office building. So once we get all the zoning done, once we get -- make progress on it, the $110 million book value could become $200 million, and that's an additional $2 a share basically. The Bay Street collections has come along great and Gordon has a lot of updates on it. But just a couple of other examples. 74 Victoria is zoned residential. That's where the passport office is, the federal government is attendant there. It's on Yonge Street. It's between the King and Queen subway stop. And we could build a significant residential building there if we decided to go ahead with that. 30 Adelaide, it's interesting because if we can eliminate the requirement to replace the office base, which seems rational given the desire for housing. It's probably worth $300 million just as a residential development. So we see lots of value with office buildings. Our base fee collection is going to be occupied with -- all the work will be done, the restaurants will be in place, I think to be very exciting. And our other office buildings are doing very well and we've got lots of opportunities to get extra value out of our company aside. That's a general overview. I'm happy to answer questions at the end. But gentlemen, do you guys want to start your comments?

No problem. Thanks a lot, Michael. Well, good morning, everyone. It's Gord Wadley speaking. First and foremost, I hope you're all keeping really well. It's nice to get a chance to connect with you today and share some of our work that the teams completed not just in Q4, but over the course of the year. I look forward to sharing some of the big news and the key milestones regarding our asset plans. As Michael mentioned, we've now fully completed our Bay Street collection, and we're quite proud of it. Since we pushed well past the public health crisis, our team has been working in unison with existing tenants, new tenants and prospects to ensure seamless transition back to our buildings. That being said, the return-to-office rebound many expected has been a bit tempered when you measure it by traditional indicators it came to occupancy and net new absorption. However, on our team, there's real optimism when looking at future commitments, tour activity, trailing occupancy and like Michael mentioned, new retail. On the cost side, we're seeing some stabilization on materials and finishing trades which we feel positioned stream office very well in the years ahead. Anecdotally, in the 13 years that I've worked at Dream, we've never printed more parking passes or security access cards than we did over the course of the last 2 quarters in 2022. From a macro perspective, overall vacancy in Toronto has stabilized to approximately 14% across all classes. This is a level not seen since the great financial crisis. From our perspective, vacancy in our core portfolio has moved in lockstep with market dynamics, taking us to an overall current and committed rate that's slightly better than market at approximately 88%. Despite some of the industry challenges and what you read in the news and social media, we're starting to see some material improvement. It was the most active year of leasing for Dream Office in the last 3 years, with rents holding up very well on the just over 700,000 square feet of deals we completed during the course of 2022. That's in contrast to the 480,000 square feet of deals we did the year before that. And we continue to see really positive momentum and some increasing activity going into the spring with a number of prospects and some conditional deals totaling almost another 100,000-plus square feet. Closing out Q4, we completed approximately 25 transactions for almost 180,000 square feet and over 110 -- over 110 deals for almost 700,000 square feet for all of 2022. For some additional context, we did 7 transactions over 25,000 square feet, and this is important, we did another 4 transactions over 50,000 square feet. So from our perspective, material deals of scale are getting done, and companies are making big commitments, albeit they're taking a little bit longer and the tenants are much more pragmatic with their capital outlays and they're ultimately being much more prudent with their balance sheet given the uncertainty around inflation and their cost of capital. Our rates have been very resilient, and we saw average net rents up 8% versus budget, but given some of the cost pressures, NERs remained largely flat year-over-year. We've seen a marked improvement in net rents, and that's a real testament to the quality and the location of the buildings that we own. The efforts of our operating team and ultimately staying true to our asset and capital strategy. Our construction and development team has managed very well, and I can now officially say today that we've completed all our major work on 8 buildings that make up our Bay Street collection. In conjunction with world-class hospitality and hotel designer Paolo Ferrari, we've completed 7 lobbies, 112 bathrooms, 8 refacades and dramatically upgraded all key base building components including elevators, HVAC, mechanical. And in addition to all this, we further continue to dramatically reduce our carbon footprint in partnership with the Canadian Infrastructure Bank toward our goal of being net-zero by 2035, and I want everyone to keep in mind that's almost 15 years earlier than the commitments announced by our federal government. I look forward to getting an opportunity to tour anyone on this call who's interested. It'd be great to walk you through in person and share firsthand all the great work our team has done. We're really proud of it. On our last call, we mentioned we are close to announcing a number of best-in-class retail and hospitality concepts that align with our bold vision for Bay Street collection. We worked very hard to create a new class of asset known as boutique luxury in the core of the Financial District and adding these curated retail amenities in partnership with some of the globe's top restaurant tours and place makers we believe will make our core assets very appealing. Executing on our hospitality strategy has been a major catalyst to attracting and retaining some of Canada's most discerning companies, and we've seen this over the course of last year with 25 office deals done on Bay Street collection at an average net rent of over $38 a foot. The past few quarters, we've been highlighting the negotiations of completing some marquee deals, we're very proud to say today that we've completed 4 deals with arguably Canada's top restaurant tours that total over 30,000 square feet and 2 more are conditional. When completed, this will total approximately 445,000 square feet of total retail absorption at average rents close to $70 a square foot and annualized NOI impact of an additional $3 million. These are all in our most desirable assets completing and supporting our goal of bringing an elevated and all-new experience of boutique luxury that is totally unique to Toronto's Financial Corp. We're very proud to share today that we are bringing Milos to Toronto. We are working very closely with owner, Costas Spiliadis and his team. Milos has grown from its roots in Montreal and is now one of the most sought-after restaurant brands globally. This is an absolutely incredible experience, not just for our buildings, not just for our tenants and not just for the financial core, but I really believe it will be a great drop for the city and our team is very proud to be working with Costas and the team at Milos. Also today, we want to share -- we've reimagined our concept of our Alleyway project. We partnered with Charles Khabouth's INK Entertainment Group to open an incredible new concept to Bay Street that will have an elevated outdoor urban oasis in the Alleyway. This is an amenity that's been missing to date in downtown Toronto. INK's long history as a food and entertainment in [ Persario ] is an absolute game-changing addition for the financial core and is an exciting feature that everyone can share at on the Bay Street collection. We're also very proud to say that we have one of Toronto and 1 of Canada's best restaurants joined in our portfolio with Alo at Adelaide Place as well as a premier Omakase restaurant. We have 2 more incredible offerings also under contract that should close next quarter and allow for an extra 15,000 square feet of net new retail absorption. Quarter-over-quarter, we remain relatively flat on our current and committed. We're off by about 20 basis points on an apple-to-apples basis, but I want everyone to know on this call that 2 of the large deals that we anticipated to close in Q4 are still conditional on some lagging municipal approvals, which we feel confident we'll get. We have a very cautious optimism with the additional 150,000 square feet of LOIs and conditional deals and very active negotiation we'll report on these in subsequent quarters. Even going into this quarter, we secured a very important multi-floor deal and additional key renewal that retains 2 large tenancies at 20 and 36 Toronto. As a portfolio, we recovered 100% of expiring revenues in 2022 and are already firm and committed on just over 80% of expiring income in 2023. In the current pipeline, we're actively negotiating and trading paper on over 14 deals and RFP responses for 300,000 square feet across both portfolios. There's a lot of press and focus around shadow vacancy and the state of the sublease market in Toronto. To be honest with everyone, this hasn't been an issue or something we're seeing in the REIT. Currently, in our portfolio, there's just around 75,000 square feet of space available for sublet or put differently, it's less than 1.5% of the portfolio nationally. In Saskatchewan and Calgary, occupancy is flat, we sold Princeton Tower. Our current and committed occupancy went from about 76% to 78.8%. Tours and activities in those markets have picked up. We've recently received and are responding to numerous RFPs with all levels of government. Our current and committed occupancy is hovering around 88% in our core portfolio. For additional context, if we didn't sell 720 Bay, our current and committed will be closer to 90%. Collections continue to be very strong at over 99.5% for the year. Our average WALT in the portfolio are still quite high at just around 5.3 years. Operationally, and of great importance. I also want to update on our ESG goals achieved this past year at Dream Office. While the Dream organization has always emphasized the importance of being good corporate citizens, we're making it an absolute priority to increase transparency. As more than ever, investors want to know how businesses are incorporating ESG principles into their operations and in unison, how we're building on our early successes in this arena. Over the course of this past year, we highlighted some of our accomplishments, which included our reductions in energy and water consumption, waste management, greenhouse gas admissions as well as a number of highlights on employee development and the diversity of our workforce. We've rolled out our social procurement policy late in 2021 and which we allow 20% of contract awards to equity seeking groups and remain on target for the goals that we want to achieve. We established a diversity inclusion and advancement team to ensure that our entire workforce as every equal opportunity succeed and also the trades, contractors and service providers align and share their inclusivity policies with us. This is to ensure everyone we deal with is doing their parts to be leaders in inclusion. One core goal was to improve on our national leading GRESB score that we secured in 2021, which is often regarded as the leading sustainability benchmark in our industry. We think this will be a valuable communication tool for our tenants and investors, both private and public. In 2022, we were able to successfully increase our score to 92 out of 100, making us the top performer nationally and the third best in North America while maintaining our 5-star rating. We're also continuing to work toward our goal of additional green building certifications for our properties, and we were named in 2022 Platinum by Green Lease Leaders. When upgrading our assets, we put a real focus on improving consumption metrics and data of GHG and carbon utilization associated with our overall net-zero strategy. These variables are at the absolute forefront of what we hope will separate us from our peers. As a landlord and a leader, we have a tremendous opportunity and responsibility to influence and improve our carbon footprint and in turn align with the growing sustainability demands of our clients. We all work really hard on implementing our ESG strategy throughout our portfolio. Being a good community and environmental steward is absolutely core to our business. And as tenants become much more sophisticated in their commitment to the environment and the community, we want to be ready to share strategies, be a resource and ultimately partner to make very meaningful contributions to support sustainability in the environment. Overall, our goal is to be recognized as one of the top sustainable REITs in Canada, and we look forward to sharing our progress over the coming quarters. In closing, and ultimately, I feel really good about our portfolio. The quality improvements that we've made to our assets both at an operating and at static level, put us in a very strong position as tenants continue to figure out what their long-term plans are around their specific accommodations. Our biggest partners and tenants all 3 levels of government have been really great champions of the work we're doing around environmental and community stewardship. But I'd say to everyone physical assets aside, I really couldn't be more pleased with how the team has navigated through some of the evolving challenges to the industry. Their effort, dedication to not only our company but to our clients is what I'm candidly most proud of. At the end of the day, it's this combination of having irreplaceable assets coupled with the quality, high character team of people we have operating and leasing those buildings that gives me the greatest confidence going forward into 2023. Thanks so much, everyone, and I'm going to turn it over to Jay.

Thank you, Gord. Hi, everybody. Happy Friday. 2022 was certainly an interesting year. As you know, we typically like to provide our internal forecast and commentary on our February calls. Last year at this time, we're really looking forward to the other side of the pandemic, so we can improve our occupancy with very high rents. So after the conference call, Office somehow became an even more complicated sector. While we have past COVID, we're now facing an uncertain economic environment, persistent inflation, high interest rates and lack of clarity over the return to work policies by tenants navigating similar economic challenges at us. Despite all of that, we think the business held up very well this year and delivered stable results and we are also very well positioned to improve long-term income, quality and value. On the quarter, we reported $0.37 per unit of FFO and comparative properties NOI of plus 0.1%. We are happy to see that this was the first quarter since the pandemic that we have reported positive CP NOI. Quarter-over-quarter, adjusted for the sale of 720 Bay, we improved our in-place occupancy by 20 basis points. And as Gord has mentioned in his remarks, we are seeing good signs of touring velocity early this year. We are also finishing up construction on a fully committed retail and restaurant space. We are optimistic that this will drive momentum on the leasing for the office component shortly. For 2023, our internal forecast calls for FFO of between $1.40 and $1.45. We are projecting low single-digit positive CP NOI from the income portfolio based on high 80s in-place occupancy in Downtown Toronto and low 80s occupancy in the other markets by the end of 2023. We also forecast slight inflation in G&A and mid-90s FFO per unit from our Dream Industrial investment based on the guidance that management team provided on Wednesday's conference call. Excluding onetime termination fees, our 2022 FFO would have been approximately $1.50. The estimated decrease in FFO relative to 2022 in our current forecast is primarily attributed to higher year-over-year interest expense. For context, we started 2022 with an all-in variable rate of 2.3%, which has increased to 6.6% by the end of the year, and our mortgage refinancings for 7 to 10 years in 2023 is expected to be in the high 5s. We estimate that the increase in interest expense will be approximately $5 million or $0.10 per unit. We are already in advanced negotiations for many of our mortgages due in 2023 and are confident that we will achieve reasonable terms on the refinancing. We intend to keep leverage in the low to mid-40s with ample liquidity to manage operations and capital programs over the next few years. By 2024, we intend to reduce debt to EBITDA to below 10x. Our net asset value per unit for Q4 was $31.36 based on a stabilized income cap rate of 5.1% for Downtown Toronto and 7.6% for other markets, which is consistent in the cap rate surveys movements from appraisers and brokerage reports. This implies $600 a square foot in Downtown Toronto and $225 a square foot in other markets, which we feel very comfortable with. We took 5 properties or 25% of the properties by fair value to third-party appraisers in the fourth quarter. And in addition, performed detailed valuation analysis on the remaining assets consistent with the methodologies used in the appraisal process based on observable market inputs. 720 Bay was a unique asset because we closed the sale on January 30. So the valuation defers to sale price of $135 million, and we recognized a gain of $20 million against the previous carrying value. We would like to mention that the IFRS valuation exercise is designed to capture a reasonable fair value estimate in accordance with accounting standards through the lens of an average market participant. We believe that the buildings in our portfolio are very unique and have significant embedded value and alternative uses because of their locations or attributes. The prime example is our Bay Street collection, which is so unique because it is incredibly difficult to buy such well-located land to build small heritage buildings as a replacement cost would be astronomical. We have invested significant capital on both the interior and exterior to elevate the standard to best-in-class luxury boutique offerings for smaller tenants who want a Bay Street address with a very high-end working space. We have leased up the retail spaces with world-class restaurants and believe that the area will become a great destination for lunch and after-work events. The combination of location, size and the capital we have invested creates a very high barrier entry against comparable new supply. Another example is 720 Bay, which Michael addressed in his opening remarks, this was previously valued as an office income property, but has proven to offer higher and better use to occupiers in the health science and education district. The transaction proved out the liquidity and the value in the more challenging investment market otherwise but we believe we have other assets such as 655 Bay, 250 Dundas, and 438 University that also shares attractive attributes to the growing health care and education industry. Across our portfolio, we have identified at approximately 3.5 million square feet of incremental residential density across 3 sites, which will benefit significantly from positive immigration and population trends in Toronto. Over time, we think there are other opportunities across our portfolio to explore incremental residential exposure for our REIT as well. Lastly, our 2.065 -- 26.6 million Dream Industrial units are currently worth $450 million on carrying value of $400 million, a trading value, which approximates half of the market capital of Dream Office, depending on the metric used. We remain optimistic over the fundamentals of the industrial sector and Dream Industrial is very well positioned to continue our performance. As the liquid securities, they also provide Dream Office with great investment, good margin underline, attractive yield and flexible liquidity on demand. Collectively, we think our REIT offers patient investors a very compelling opportunity to invest and own a collection of difficult to replace assets that will grow in value over time through diversified means. So thank you for your interest, and we look forward to reporting our results over the course of 2023. Now I'll turn the call back to Michael.

Thanks, Gord. Thanks, Jay. Now we'd be happy to answer your questions.

[Operator Instructions] We have our first question from Lorne Kalmar with Desjardins.

Jay, maybe just one quick housekeeping technical question. On the FFO guidance that you gave, does that exclude DIR?

What do you mean by excluding DIR, the FFO guidance includes all the components, DIR, G&A and all the assumptions that I outlined are in the range of $1.40 to $1.45.

Okay. Perfect. And then you guys clearly have some good visibility on all these restaurants set to come on stream. Can you maybe provide some color on sort of the cadence of how they're going to come on stream in terms of timing?

Yes, no problem. It's Gord speaking. We have one of the restaurants. There's still more information to come, and we want to be respectful to the announcements by our partners. But one of them we're expecting to come on just at the beginning of the summer. The other one is looking towards the end of the year. We have another one at -- so 2 in the summer on towards the end of the year and another 1 as early as May.

Okay. Perfect. That's very helpful. And then the Bay Street collection you guys are done. Obviously, occupancy is still well below where it was pre-pandemic, although granted they're far from the only buildings. What's the sort of outlook for the leasing on those assets?

Good question. It's actually -- Jay mentioned that tours are up dramatically this quarter. And a couple of our buildings where some of the residual work was taken a little bit longer. We've had a number of tours, 1 of our buildings, 80 Richmond, just as an example, we had a few vacant floors there. We're trading paper on 70% of some of that vacancy right now. And we removed this scaffolding just after we got back from holidays. So we feel pretty good about it. 330 Bay as well too. There are some in dual vacancy there. A lot of it was driven by construction. But with the announcement of Milos, with the refacade done on the building as well, we've seen a huge uptick in tours and the feedback just on the common areas, especially from prospects has been really positive. So we feel good about the absorption and the guidance we've given for the balance of the year.

Okay. I saw the lobbies they look great. And then maybe just last quick one for me. Any known non-renewals in the portfolio of significance?

No. We'll announce next quarter but we were able to be in a pretty favorable position with our largest expiry. The tenant did give back a little bit of space. We were able to take the space that they gave back, do a long-term deal with a major U.S. national bank. And then the tenant that was expiring renewed longer term on the balance of the space. So our biggest expiry for the year, we've been able to address.

We have our next question from Sairam Srinivas with Cormark.

Congrats on a good quarter. Just looking at just probably sticking to a long-term question in terms of all these leases, especially on basically coming up. On the Bay Street collection, when you do all these stores and when people are looking at these properties, what's the profile of these prospective tenants over there? And if they were to kind of, let's say, look at alternative options within the downtown core, how would they be comping the collection with?

That's a really great question. So the benefit for us on Bay Street collection is, we have small average size floor plates. And we don't directly compete with the AAA new-build towers that have big 30,000, 25,000, 40,000 square foot floor plates. Average floor plate size is around just over 5,000 square feet. So the type of tenants that we're seeing, especially this quarter are financial services firms, law firms and professional services firms. And the feedback that we're getting from people is they like the idea of having a Bay Street address, which is probably Toronto or Canada's most high-profile address or street having a Bay Street address and having their own floor in these newly renovated buildings. So they're not directly comping it on an apples-to-apples basis in terms of rent. We still compete on a gross basis is lower than those AAA towers. But people that want to have the Bay Street address, peple that want to have their own floor we're probably the most viable option for them. And to be honest, it's mostly been financial services firms and professional services firms that have been coming through and looking at our assets.

I'm probably going to sound a bit speculative when I say this, but are you also seeing tenants -- larger tenants would rather -- in pre-pandemic days go for these larger floor plates. Are you seeing that kind of downside in comp, let's say, a smaller Bay Street address right now and probably open a satellite office somewhere in suburbs to kind of aid people getting back to the office? Are you seeing some trends like that coming in?

That's not a ton, but we did have one example to close out the quarter where we had 1 tenant that was in a large institutional AAA tower. I think they were in about 11,000 square feet there. They felt pretty small. Their occupancy needs were compressed. So they did a full floor deal with us at 80 Richmond for just over 5,000 square feet. But there hasn't been that many more data points in terms of people really giving back that much space to be honest, in my experience, I think for the most part, that's taken in place over the course of the last 24 months. I don't think we're going to see much more.

That probably makes sense. Probably just switching on to dispositions. On 720 Bay, Michael, Jay, can you just comment on what is the profile of that -- of the buyer look like? Like was that more institutional investment kind of buyer or was it more user-related purchase?

It was health sciences business.

All right. Okay. And in terms of the prospects of further -- are there any -- let me rephrase this, are there any prospects for future dispositions in the portfolio?

We sold [ 140 ] buildings between 2016 and 2019. 720 Bay was an outlier. There's a few non-core buildings that we've been open to selling for years. And I think we sold 1 recently in Saskatoon. But generally, we're pretty happy with our portfolio and the way it's constructed. So we're not that anxious to be selling assets now.

Makes sense, Michael. And probably just thinking about the residential density you guys mentioned on the current portfolio. Is that something you would look to develop within the REIT or within the broader, or would it be like within the broader Dream group as such?

I think that whatever portion of it gets developed within the Dream Group will be in Dream Office. We are looking at bringing in partners potentially to 250 Dundas and so that we could manage to own our share without leveraging up.

Our next question comes from Mark Rothschild with Canaccord.

Michael, you went through a bunch of different items of value that in some cases or most cases don't really generate income now and probably don't get much value from investors or investors that aren't Dream related or Dream [ unlimited ]. To what extent does that matter in the near-term, does that -- do you consider maybe looking to monetize some of that now? Or do you just think that there's a lot of value there that over time will resurfaced and you just have to wait.

I don't know. I mean, we have a long-term view at Dream Office, which we always had. With regard to 2200 Eglinton, we're in the process of creating the ability to use that density. And I mentioned that we are working with another developer to develop the first quarter of it. Of all those things I think we want to maximize the value on our own balance sheet. I don't think we're looking to like -- I don't think it would be the 30 Adelaide Street East REIT. I think we want to have a vibrant portfolio and we're going to stick, I think, with what we've been doing, I mean, I think the strategy is maybe bringing other developers do a little bit less than we would have done 3 years ago ourselves for bringing part to other developers. And then with the cash that we've raised, I think we're going to be buying back shares a little bit more aggressively than we have recently. But I think we're doing what we're going to do.

Okay. Great. And then maybe just one question for Gord. The rental rates that you've got seem to have held in pretty well while vacancy has increased. To what extent is this flowing through into net effective rents? And how is that changing? And is it just the face rate fair holding? Or is it really just occupancy slipping, but rents are hold -- are staying firm?

That's a good question, Mark. So rents like I mentioned, year-over-year, we're up about 9% on a net rent basis. NERs are flat. They're down actually probably about 1.5% versus what we had in the budget and the biggest driver for that has just been cost. So material cost, improvement costs. And the other thing that's caught the whole market is broker commission. The costs are favorable because it's gone up quite significantly as an industry standard over the course of the past year as well, too. Occupancy for the most part, lagged a little bit, as I mentioned before, in completing the work. It took a little bit longer in terms of getting some of the scaffolding and things down. But the deals that we're in active negotiations with right now, the over 150,000 feet. The rents are tracking better than the 8.5% increase in net rents we had year-over-year on a net basis. And to be honest with you, Mark, NERs are looking a little bit better, too, just because we're seeing a bit better pricing on finishing trades.

We have our next question from Mario Saric with Scotiabank.

I want to get back to the residential density, the 3.5 million square feet that was highlighted across 3 sites. Did that include 2200 Eglinton or is that above and beyond that?

That include...

Sorry, Jay.

But Michael did highlight 74 Victoria and other ideas in his remarks. So I said that the 3.5% is based on the 3 identified sites, which are in our disclosures, but there's a potential upside in the future.

Okay. In terms of 2200 Eglinton the value creation is pretty substantial. The numbers seem to make sense to us anyway in terms of the upside. How should we think about the recognition of that [ $155 million ] or so that you highlighted as value creation over time. Like what are the key events that you see that filtering into your book value over time?

Sure. I'll make a temp to add that. So as of Q4, our carrying value actually stayed pretty flat. And there's a couple of reasons for that. We had to go through a pretty thorough process with the valuation process. And why was -- when this was originally appraised by the lenders, it did include the expectation, it would be rezoned, though, obviously, it's derisk but we're still working through a couple of subdivision plans, which should be done by midyear and to I'll give us better clarity on the various phases. So we could work out the pro formas and ultimately, the value is derived from the expected profits of these developments over the phases. The other thing we did was when we did the valuation in December, we had an independent broker due to the assessment of the site based on what they could see a monetization value, and we fell within the range as well. So even though we felt it was a conservative value based on observable data that was the carrying vote booked. Now Michael has been -- has mentioned he was talking to various developers on opportunities, $70 net was mentioned when those conversations crystallize some of that value will definitely be in our carrying value over time, depending on sort of how these projects are laid out. So I do anticipate that over 2023, you'll probably recognize value in between the quarters, and it will probably go up in stages in between the 110 and the 200. I hope that helps.

Okay. And then just I probably asked this question either 1 or 2 conference calls ago, like how should we think about like the 4 phases there, the timing? Can you just lay out how we should expect to see that evolve over the next quarters, it's -- 4 years, 8 years, 10 years, how should we think about what happened?

No. No, it.s not like that what I would say is, every input for rental has been changing and each government is trying to deal with affordable housing their own way and encourage rental their open way. So that needs to settle down. I think we're looking at starting the first phase in 2024 and subsequent phases to start pretty quickly thereafter. So -- but we don't have enough information. I mean I think a lot of the industry is uncertain about what the inputs are but I think it will become much clearer over the next 16 to 18 months.

Got it. Okay. And then just coming back to another theme during the call and your prepared remarks, the Discovery District and 720 being 25% of your overall portfolio there. So it appears that an alternate use for buildings in that market seems to have a higher value than just straight traditional office. Is that something that you plan to do yourself, it's outside the 720 Bay, which was a different approach? Is that something you plan to be yourself? Or are you kind of highlighting that the market is there for some pretty aggressively priced additional dispositions?

We're not looking at selling anything at 250 Dundas, there's opportunities related to the hospitals also schools for how we redevelop that. At 438 University, there's quite a lot of long leases and same thing at 655 Bay. I think the point we're trying to make is they're not commodity buildings. And if you're looking at what the value of the building is those ones seem to have a different value. But I mean, if somebody offered you what your house is worth, you would be stupid to sell it because all you have to do is get another house or something. So I mean it's kind of tiring. But no, we are not looking to dispose of all our assets and be the 30 Adelaide Street.

Okay. And then maybe one last housekeeping question for Jay. The quarter-over-quarter change in the cap rate, how much of that would have been appliable to the reclassification of 720 Bay?

So we back it out actually. And then -- so 720 Bay is carved out at [ 135 ]. And then the remaining portfolio in downtown Toronto, I think, went up about 40 basis points. And I think on experience that I think you can imply a fact if we had a gain of about $20 million, you can probably derive the cap rate at 72 Bay held at.

Our next question is from Jake Stivaletti with CIBC Capital Markets.

You mentioned the repositioning of some of your assets, specifically in other markets. Is there any time line on that? And I know you mentioned you're not focusing on dispositions. But have you been able to gauge with the appetite like in the private market.

So in non-core markets is what you're asking, Jake.

Yes.

I mean we sold Princeton Tower towards the end of last year to a private buyer. And there was some interest on some of our other assets. I think in Calgary, when we're looking at our asset strategy, we're in discussions all the time looking at what the highest and best use is. We've got some really good located assets in Calgary. So we're looking at different repositioning strategies there right now. And I think we're going to have more information on that one going over the course of the next 2 quarters.

Yes. Just for example, Kensington House in Calgary down on the Bow River. It will be a great development residential site down the road as the Dream head office in Calgary is there right now. 606 is quite interesting, too. It's got a tax arcade. It's across from City Hall. We're looking at ideas where we had to explore everything. There's been a lot of sort of activity on the conversion side in Calgary recently. So we're exploring that. In Kansas City right now, we do have a lease with a bank. But long-term, it's actually is a relatively nice residential district next to a Costco. So we're being pretty proactive on asset management. It's still early days, but we're turning over all the rocks on every single building we can.

Great. And then last question. I know it's just touched already a little bit, but so tenant improvements is increased quite a bit. I understand that the year-over-year comparisons isn't as quite useful given the government renewals in 2021. But can you provide a bit of color on what you expect those to look like through 2023?

Yes. No, that's a really good question, and I'm glad you're pulling out the government deals because it's -- there's a difference in what we're seeing in the private and the public sector on competitive deals. So we're seeing a lot of tenants that are trying to push capital cost up. So typically, we would budget $50 a square foot or $60 a square foot and landlords work tenant improvement allowances. We brought that up about 20% to 25%, just looking just to protect ourselves on scope creep and cost variables. We're getting a lot of people that are looking at getting some other term free rent or some interim free rent that depending on how you look at it, it impacts the NERs as well too. And a lot of that is capital preservation. Just on the part of the companies so they can build a bit of a war chest. I think everybody we talked to and everybody, I tour is quick to say, they're still not 100% convinced what the next 8 to 12 months are going to look like. So everybody is being really prudent with their own capital. And to be honest with you, Jake, like everybody has a different cost of capital. We have a different cost of capital than some tenants do. So it just becomes an exercise in capital preservation. And for good tenants, I sit right beside Jay and right beside Michael, so big tenants and deals of scale, we're always talking about making sure we've got good covenants and great deposits to backstop any other risks putting more money into the deals. But we're seeing it, and I suspect this is a trend that we're probably going to see towards -- until the end of 2023 as well.

[Operator Instructions] We have our next question from Matt Kornack with National Bank.

Just we're -- we got about 2, 3 years left on a pretty fulsome development cycle in the city of Toronto with regards to Office. But with what you're doing on 720 Bay and some of the proposals from your peers who own offices where the new developments will have residential and sort of 50% of the existing office space on the site. Do you forsee after this supply pipeline that we may actually see a reduction in the amount of office space in the city.

Matt, that's a great question. I think that what we're going to see is a slowing up of new developments. And I think we're going to see obsolete buildings having different uses. So as an example, 720 Bay will not be in the office market with the new owner. So 250,000 square feet will be gone. I think what we will see continued demand for some new buildings, good demand for interesting abilities like we own and more and more buildings will be obsolete will be turned into something else. So 10 years from now we may have lesser office buildings, but still have ones.

Fair enough. And you mentioned with regards to the city and zoning some that some require replacement -- like is that standard across the board if you have office assets that the city would like to have some replacement of office? Or can you build your residential on the core?

Currently you need to replace the existing office. However, I think that there may be an openness to considering changing that as the housing needs are very, very high, and there is no need for old office buildings. So that we're working on, we'll see how it goes, but I just expect that will be similar to what happened with sort of the downtown industrial buildings that became available to use in different ways.

Okay. Fair enough. And then, Jay, just a quick follow-up. I think Mario asked the question with regards to IFRS versus Michael's $200 million on 2200 Eglinton, did I hear you correct that you had $110 million of incremental value for density in that? And then maybe more broadly to other projects. Is that the only one where you're kind of carrying density value in the existing valuation and the rest are treated is kind of pure office assets or how should we think about your IFRS on that front?

Yes. To clarify the -- one hand with the carrying value. And if the value is $200 million I guess there, $90 million would be the incremental. We're going to have a lot more in over the next couple of quarters. And ultimately, we're probably going to package all of that up and bring it to external appraise. So again -- and to say that, hey, this is what we can do with the first 2 phases, for example, this is the site density and subdivision plan, and they will use that information now that they have more clarity to provide the value either Q1 or Q2. The other site that has embedded density value [ $250 million ] done that because we have the rezoning completed. We have appraisal for that as well. So that 1 is held at density value. And we have financing to support that as well. I think everything else is valued as a traditional office for now.

We have our next question from Sam Damiani with TD Securities.

Just a comment on tours being up big. I think it's since the beginning of the year, what would you attribute sort of the main reason for that spike in entering activity in the last month or 2?

Sam, I think it's largely attributed to the fact that we've got this scaffolding down and the construction. We've been marketing and hyping up Bay Street collection in the better part of the last 2 years. Now that a lot of it's down, it's finished and is presentable. A lot of the pent-up tours, people are seeing it. They're walking it and our most influx of tours have been in that submarket or in that specific neighborhood. So we're starting to see a lot more of that. And just carrying off to the end of last year, we saw as an industry, a real pickup in tour. So I think people are starting to figure out. They're starting to get people back to the office. They're starting to figure out what their long-term accommodation plans are. And there's -- even speaking of my peers at different companies. They're all saying the same thing, just more people walk in the street, and I think for us, where we've seen the biggest uptick in tours is because we finished the work, and they're not much more presentable.

Perfect. That's helpful. And I'm not sure if it was your comment Gord or Jay's, but it was mentioned that there's a high barrier to entry or you've created a high barrier to entry on your Bay Street collection. I just wonder if you could expand on it a little bit in terms of what exactly you meant.

Yes, sure. So Sam, if you think about a big office building, you can buy a piece of land, you have development program, and then you have hard and soft costs. So let's say, hypothetically, it becomes $1,000 a square foot that is the pro forma for a new development. With Bay Street, it's so unique because, a, the location center [ ice ]. So it's very hard to acquire land in that area. Second, I think our average building size, there is 10 or 12 stories or sometimes even lower. So you wouldn't typically buy a piece of land to build a small building because the development pro forma is either not economical or otherwise, you're left with a very high price per square foot. So that's the second one. Third, given the physical attributes of these heritage buildings and the capital that we have put in make exception on the inside and the outside and we're tracking a unique class of tenants. And the theme has always been that if you're a high revenue-generating firm, with fewer employees at high revenue per employee. You want your own Bay Street address. You want your own elevator Bay and your own brand and your own floor in that location. You don't really have a lot of other options. Lastly, you got the restaurants and the retail amenities and when that's all done you have a entire. It's almost like a vibrant community that's hard to replicate elsewhere. I think the combination of those 4 factors create a pretty high moat.

And like what other landlord in the downtown market would be would you see as your closest competitors on the Bay Street collection?

Well, you don't...

There's nobody...

Yes. [indiscernible].

Hallmark is similar in some ways, but they're not in the core. And there's a couple of individuals like the flatiron building and stuff like that. So there isn't really one that you can participate in the public market, but what I would say to add to what Jay was saying is the value of these smaller special buildings is very high, and we've seen that for a long, long time that a 60,000 square foot building that is special trade at multiples of what a commodity building trade for.

That's very helpful. And the last question, just to clarify a comment Gord, I think you made in your opening remarks talking about again the Bay Street collection you mentioned, there's 25 deals, $38 a foot on average. What was the GLA on those deals in total and does that $38 average includes any retail space?

Yes. It didn't include the retail space, Sam. On average, probably the gross absorption on that 25 -- on those 25 deals just probably around about 75,000 square feet throughout it and they've been great. Like some renewals, we did 1 and not only is it gets blended in, but we did 1 net new deal at 80 Richmond, where the rents were approaching north of $45 a square foot, just to start and a pretty strong NER. So we're starting to see renewals we're doing well on. But the net new deals, we haven't seen any paper come in less than $35 a square foot at the start, and we've been able to push rents up to average at least $38 a foot. And there is some renewals blended into that. Yes, there is some -- just for your team, Sam. There's some renewals blended in that 25 deal number.

[Operator Instructions] Our next question is from Pammi Bir with RBC Capital Markets.

Just on 2200 Eglinton now coming back to that. You mentioned that you're in talks with the developer. Just what's your sense of how much of that you might look to actually monetize this year? And then I'm just curious as well, how many parties have you been in talks with or that have maybe expressed interest in the site for the residential?

I think that we will monetize none of it this year. If we're going to monetize any that might be half of the first phase. We have spoken to a few, very few, but these are people we would partner with. And we pretty much know who we're comfortable working with. So we want to develop a bunch of ourselves, and we're [ trying ] to develop some of it with others.

Got it. And then just -- maybe just one extra question on that. Is there a mix that you have in mind yet for the condo versus rental? Or is that sort of all part of the 4-phase planning?

Everything is changing. Our initial intent was to develop that all as apartments but it doesn't make a lot of sense right now. Hopefully, it will as things settle down. So we're content to bring in a partner for half of the first phase as condos.

Okay. And then just a couple of housekeeping items. Maybe Jay, on the $1.40 to the $1.45 FFO guidance, are buybacks factored into that? Or could there be some upside to that range?

Yes. Now our internal forecast, we do factor in buybacks. So we anticipated like everybody is going to have the capital allocation sensitivity. So when we ran the numbers, hence, we gave a range with or without the buybacks, given that there's only 2 million shares left to buy back and all subject to pricing, of course. It would likely stay within the range anyway. So right now, if you do some buybacks, there's accretion, so you'll probably be on the higher end of the range.

Okay. And then just lastly, I think I know the answer to this, but just on the high 80% occupancy guidance for the year, I'm assuming that was on a committed basis.

In place.

Okay. In place -- sorry, in place, high 80% by the end of the year?

In downtown Toronto, low 80s in other markets. So right now, there's a spread. As we commented on prior calls, a lot of it is just the timing of these large restaurant deals. They're in their fixture and furnishing period. And so we'll see all of that come online probably towards the second half of the year and then there will be some leasing in addition to that. So hopefully, a lot of the buildings are built by the end of the Q4.

And thank you. And we have no further questions in queue. I will now turn the call back over to Mr. Cooper for closing remarks.

Thank you very much. I appreciate everybody spending time with us today. Jay, Gord and I are available anytime to answer further questions. Once again, thank you for your support, and we look forward to speaking to you next quarter and maybe in between. All the best. Bye-bye.

And thank you. This concludes today's conference. Thank you for participating. You may now disconnect.