Q2 2023 Kilroy Realty Corp Earnings Call
Participants
A. Robert Paratte; EVP, Chief Leasing Officer & Senior Advisor to the Chairman; Kilroy Realty Corporation
Eliott Trencher; Executive VP, CFO, CIO & Treasurer; Kilroy Realty Corporation
John B. Kilroy; Chairman & CEO; Kilroy Realty Corporation
Justin William Smart; President; Kilroy Realty Corporation
William E. Hutcheson; SVP of IR & Capital Markets; Kilroy Realty Corporation
Blaine Matthew Heck; Senior Equity Analyst; Wells Fargo Securities, LLC, Research Division
Caitlin Burrows; Research Analyst; Goldman Sachs Group, Inc., Research Division
Camille Bonnel
Dylan Robert Burzinski; Analyst; Green Street Advisors, LLC, Research Division
Michael Anderson Griffin; Senior Associate; Citigroup Inc., Research Division
Nicholas Philip Yulico; Analyst; Scotiabank Global Banking and Markets, Research Division
Peter Dylan Abramowitz; Equity Analyst; Jefferies LLC, Research Division
Stephen Thomas Sakwa; Senior MD & Senior Equity Research Analyst; Evercore ISI Institutional Equities, Research Division
Vikram L. Malhotra; MD; Mizuho Securities USA LLC, Research Division
Presentation
Operator
Hello, and welcome to the Kilroy Realty Corporation 2Q '23 Earnings Conference Call. My name is Elliot, and I'll be coordinating your call today. (Operator Instructions) And I'd like to hand over to Bill Hutcheson, SVP of Investor Relations and Capital Markets. The floor is yours. Please go ahead.
William E. Hutcheson
Good morning, everyone. Thank you for joining us. On the call with me today are John Kilroy, Chairman and CEO; Justin Smart, our President; Rob Paratte, Chief Leasing Officer and Senior Adviser to the Chairman; and Eliott Trencher, our CIO and CFO.
At the outset, I need to say 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. The call is being telecast live on our website and will be available for replay for the next 8 days, both by phone and over the Internet.
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. John will start the call with our second quarter highlights. Justin will review our in-process development pipeline, and Eliott will discuss our financial results and provide you with our updated guidance. Then we will be happy to take your questions. John?
John B. Kilroy
Thank you, Bill. Hello, everybody. Thanks for joining us today. As you saw in the press release we issued last night, we recently closed on a $375 million secured financing on a portion of our One Paseo campus in the Del Mar submarket of San Diego. The loan has an 11-year term. It bears interest at 5.9% on a fixed rate, interest-only basis. We ran a competitive process that had a multitude of premier life insurance companies interested in providing the debt, and we're fortunate to execute with a terrific partner in New York Life that originated the entire loan.
One Paseo is a world-class mixed-use campus. It spans across 36 acres. As a reminder, the portion of One Paseo that we finance is on 23 acres, delivered in phases from 2019 to 2021 and is comprised of roughly 290,000 square feet of office, 95,000 square feet of high-end retail and over 600 luxury apartments.
On prior calls, we've talked about the flight-to-quality dynamic occurring in the leasing market. It is increasingly evident that this theme is also prevalent across the capital markets, and it played to our favor in our One Paseo transaction. Lenders are still open for business on competitive terms for the highest quality properties, and One Paseo certainly fits that description. Occupancy is approximately 95% across the entire project with market-leading rents on the office, residential and retail.
Consistent with our strategy, Kilroy places a premium on optionality. While our existing liquidity position is strong, we decided that being opportunistic in raising incremental capital today would result in better risk-adjusted execution as we prefund future needs and position for future opportunities. The additional liquidity we secured at an attractive rate bolsters our ability to play defense in a softer environment while affording us the option to go on offense when market conditions improve. Eliott will go through what this means for our sources and uses in his remarks.
Shifting to the economy, we are increasingly seeing more green shoots. Inflation is cooling, and the labor market appears to be healthy. Near-term recession probabilities have been reduced, and the idea of a soft landing is becoming more plausible. Strategic deal flow is accelerating, and while not at the pricing we like, it is encouraging to see more transactions getting done.
On the leasing front, while deals are taking longer, there is increased tour activity amongst tenants. Large-cap tech companies, which have been laying off employees are showing signs of stabilizing as stock prices have meaningfully outperformed and job postings are starting to slowly increase.
Lastly, innovation is alive and well and continues to flourish in markets like ours with the right talent base and infrastructure. While markets change based on where we are in the cycle, the three pillars of our strategy have stayed constant: high-quality properties, strategic capital allocation and a fortress balance sheet. This simple approach allows us to play offense in good times and defense in the challenging times. We believe there will be opportunities in the future, and we are taking steps to ensure that we are ready when the time comes.
Our goal remains the same: own and operate the highest quality portfolio of mixed-use office and Life Science properties clustered in innovative supply-constrained markets.
Turning to office fundamentals. In-person work continues to pick up momentum as major employers require their people to return to office. Recent announcements from Meta, Google and AT&T amongst many others, demonstrate that management teams see the benefit the office has on productivity, collaboration and culture building. The data is backing up the narrative as the percent of job postings that are remote has declined 900 basis points since 2022.
As we've been saying, the key is getting employees back to the office with more commuters in foot traffic, our cities are starting to come back to life. Seattle is a prime example as Amazon employees have been crowding the streets of South Lake Union and the Denny Regrade since May.
Looking at a recent study, Amazon commissioned for these two submarkets which is where most of our Seattle properties are located. Foot traffic is up 82%. Restaurant activity is up 86%, hotel demand from Amazon alone was 26,500 room nights in May 2023, a 130% increase over the prior 2 years. This activity not only brings vibrancy to the neighborhood but also enhances safety.
Physical occupancy at Kilroy's portfolio is up 800 basis points from the beginning of the year and over 500 basis points from just last quarter. Our parking income is also a beneficiary with NOI up approximately 20% compared to the first half of last year.
Turning to second quarter results. We signed a total of 285,000 square feet of leases similar to last quarter with cash leasing spreads up roughly 2.5%. Activity was robust in our Los Angeles portfolio, where we transacted 160,000 square feet of leases headlined by 50,000 square foot renewal and expansion with LeBron James' Media Company uninterrupted at our Columbia Square project in Hollywood.
We also signed a 25,000 square foot new lease with Edelman, a world-renowned public relations company at the same project. Our Hollywood portfolio is now 91% leased. Many of you have toured our mixed-use project at Columbia Square and understand the world-class quality of the project, which has led to our recent success.
And in Long Beach, we continue to make progress on our recently renovated Aero project. During the second quarter, a major financial service firm committed to take 25,000 square feet of the campus bringing it to 89% leased. Aero has taken a slightly different path to ultimately achieve similar results. The 7-building campus developed by Kilroy in phases beginning in the late '80s through the early 2000s was redeveloped in 2020 after the move out of a major tenant. We spent roughly $20 per square foot, improving and updating the lobbies and outdoor amenities.
Since we commenced the improvement project, we have leased over 450,000 square feet and have achieved rents roughly $7 higher per square foot than pre-renovation. To remind everyone, we are in the process of rolling out a similar plant at our West 8th project in Seattle, and the early market feedback is encouraging with tour activity up significantly.
In summary, both, Columbia Square and Aero, are examples of best-in-class projects that are achieving solid capture rates and attracting world-class tenants across various sectors. The Life Science business remains well positioned with healthy secular tailwinds. The population continues to age, new drugs continue to get improved with 2023 on track to exceed last year's levels. And total funding during the second quarter approached $40 billion, increasing 15% from the first quarter.
During the second quarter, we signed a 25,000 square foot extension with Neurocrine Biosciences, a life science tenant in Del Mar. And we continue to have several prospects during the second phase of Kilroy Oyster Point in South San Francisco. As a reminder, our Kilroy Oyster Point project is not projected to stabilize until 2025 or about 2 years from today. We are pleased with our second quarter operating results and believe we are well positioned for continuing success. And as we think about the future, Kilroy is focused on the things we can control and well positioned to be opportunistic when the time comes.
Our primary focus for the balance of the year is leasing. The current environment will separate winners and losers through a combination of patients and strategically positioning our assets to be top-tier choices for tenants. We believe the Kilroy platform is well positioned to create alpha as we lease up the portfolio.
In addition, we are committed to maintaining our top-notch balance sheet and robust liquidity profile as we demonstrated with the 1 for sale loan. As a reminder, over the last year, inclusive of the 1 for sale financing, Kilroy has secured approximately $900 million of fresh capital at a blended rate in the high 5% range. Also, I would like to acknowledge that none of what we do would be possible without a best-in-class team. We have a deep and talented group of professionals that has been critical to our success.
We're going to continue to invest in our human capital while also striving for ways to get better, always trying to get better. I want to personally thank all of my teammates at Kilroy for their hard work and dedication.
To wrap up my remarks, we are encouraged by the green shoots we are seeing. There continues to be more activity across leasing, investments and finance for the best-in-class product that Kilroy is known for, whether it's new tenants entering the market, existing tenants looking to renew and expand our strategic transactions being made, the common theme is preferential demand for well-located high-quality assets.
Fundamentally, we expect this trend to continue, and the Kilroy platform could not be better positioned. At some point, there will be a time to play offense. And when that time comes, Kilroy will adhere to its core principles. We will allocate capital into acquiring, developing and redeveloping premier assets in the right markets that will outperform well into the future while always maintaining a strong balance sheet. That completes my remarks.
Now I'll turn the call over to Justin.
Justin William Smart
Thank you, John. As of the end of the second quarter, our in-process development totaled approximately $1.8 billion with about $590 million left to fund. The majority of which is for the second phase of our Kilroy Oyster Point Life Science Development in South San Francisco.
In April, the core and shell of our fully leased development project at 9514 Towne Centre Drive in the UTC submarket of San Diego. The building is in the tenant improvement phase, and we commenced revenue recognition in July, a few months earlier than anticipated. As we have discussed on prior calls, Indeed Tower is also expected to enter the operating portfolio in the fourth quarter of 2023.
So as we enter 2024, our in-process development pipeline is expected to be approximately $1 billion, the smallest it has been since 2016. All three current pipeline projects are Life Science. Supply remains something of a bright spot for the market nationally. There have been roughly 5 million square feet of new office starts year-to-date, which represents a roughly 75% decline from the 2-year trailing average.
In addition, roughly 15 million square feet of office has been converted or demolished year-to-date. The net of these two has reduced the national office stock by 10 million square feet. Said another way, as demand for high-quality space surges, there is currently little new product in the pipeline to be delivered over the near term, creating a future shortage of high-quality product that tenants want.
As many of you know, our strategy has been focused on the high end of the market. As John referenced, it is increasingly clear that there is a significant bifurcation between high- and low-quality office buildings. And we expect more of the low-quality and obsolete properties to be converted or repurposed where possible.
To that end, according to JLL, 17% of total U.S. vacancy is derived from approximately 1% of office buildings, highlighting the outsized challenges for owners of commodity product. Out performance of high-end product is not unique to the office sector. Luxury hotels have generated better RevPAR growth than the overall market since 2020, and Class A apartments have had better absorption than the overall market every year for the past decade.
Focusing on premier product has been a pillar of our strategy for many years, and it has proven to be -- to generate better results over the long term. That said, we are excited about our future land bank comprised of eight development projects totaling 8 million square feet across our five markets.
From a product-type perspective, these products will be approximately 30% Life Science, 20% Residential and 50% Office. We continue to advance design and entitlements on these future projects, so that we are prepared to be first movers when market conditions warrant.
With that, I will turn the call over to Elliot.
Eliott Trencher
Thank you, Justin. FFO was $1.19 per share in the second quarter, a $0.03 decline from the first quarter, mainly due to Amazon's move out in Seattle. This was partially offset by higher interest income. The 2Q results also include roughly $0.03 of positive nonrecurring items tied to 10 termination fees and restoration payments. On a same-store basis, second quarter cash NOI was up roughly 3%, driven by free rent burn off at the first phase of Kilroy Oyster Point in South San Francisco. GAAP same-store NOI was down roughly 2%.
At the end of the quarter, our stabilized portfolio was approximately 87% occupied and 89% leased. The decrease from the prior quarter was due to previously disclosed move-outs. Net debt to second quarter annualized EBITDA was about 6x. Our liquidity remains robust. And after accounting for the proceeds for the One Paseo financing, we have roughly $1.9 billion in total capacity, comprised of $1.1 billion on our line of credit and $830 million of cash and marketable securities, which includes $170 million available under our term loan facility.
In total, our available cash is sufficient to cover the majority of our near-term development spend and address our next bond maturity in December 2024. In addition, our dividend is incredibly well covered with a payout ratio of approximately 50% of [FAD] through the first half of the year.
Furthermore, by putting in place an 11-year mortgage, we maintain a well-laddered maturity schedule with an average duration of 6 years. Now that proceeds to the December 2024 bond maturity have been identified, our next maturity is not until October of 2025. We are focused on keeping liquidity high and leverage low and are thrilled we could boost our liquidity on efficient terms via the One Paseo loan.
Now let's discuss our 2023 guidance. As always, no acquisitions are forecasted, and we continue to expect dispositions to be between 0 and $200 million. We anticipate drawing down the remaining $170 million from our term loan during the third quarter. The loan for One Paseo closed in late July, and we expect to keep most of the cash available on the balance sheet.
From an FFO perspective, the interest income we generate from the cash will mitigate much of the incremental interest expense. As Justin mentioned, 9514 Towne Centre Drive stabilized in the third quarter of this year, one quarter earlier than anticipated. And 4690 Executive Drive is expected to stabilize in the fourth quarter of next year, one quarter later than previously estimated. Indeed Tower is still projected to enter the stabilized pool in the fourth quarter of this year.
Development spend for the remainder of the year is expected to be $250 million to $300 million. When factoring in the roughly $175 million of spend in the first half of the year, the full year estimate is now $425 million to $475 million, with a midpoint unchanged from last quarter. Capitalized interest for the next two quarters is expected to remain around the second quarter run rate. No change to our G&A estimate. We are tightening the range for full year average occupancy to 86.75% to 87.75%, with no change to the 87.25% midpoint. Cash same-store NOI is now projected to be 1.5% to 2.5%, a 100-basis point increase at the midpoint due to better-than-anticipated parking revenue and some nonrecurring income.
In summary, our prior 2023 FFO guidance was $4.30 to $4.50, with a midpoint of $4.40 per share. Based on our performance to date, we are adjusting and tightening the range to between $4.43 and $4.53. The new midpoint of $4.48 represents a roughly 2% increase from the prior guidance.
The biggest drivers behind the increase are higher interest income, better parking revenue and earlier revenue recognition for our 9514 Towne Centre Drive development. These are partially offset by additional interest expense from the One Paseo financing.
To provide further clarity, our updated midpoint implies average quarterly FFO of roughly $1.04 per share for the back half of the year, which is $0.15 lower than the second quarter. To bridge the gap on the $0.15, we subtract $0.03 for the nonrecurring items I mentioned earlier. Next, we back out a net $0.05 due to lower occupancy, which factors in our move-outs and move-ins. Finally, we subtract $0.07 for various other items, most notably the dispositions and additional interest expense.
That completes my remarks. Now we will be happy to take your questions. Elliot?
Question and Answer Session
Operator
(Operator Instructions) Our first question comes from Nick Yulico with Scotiabank.
Nicholas Philip Yulico
Just in terms of the second half of the year, I want to make sure we had some of the moving parts, right, in terms of occupancy impact. So I think you previously said Pac-12 was a move out in July. I think that was about 114,000 square feet. And then I wasn't sure if you have an update on Riot Games, where I guess there was a partial expiration in July and some additional expiration in November. Any update there?
A. Robert Paratte
Yes. Nick, this is Rob. I hope you're doing well. It's hard to get very specific with Riot Games. We're having a variety of discussions on different floors that they lease from us, both in '23 and '24. And I just can't predict ultimately how much space they'll take, but we are in contact with them and continue to have negotiations ongoing.
Nicholas Philip Yulico
Okay. And then I guess in terms of South San Francisco, maybe you could talk a little bit more, Rob, about the demand you're seeing in that market. I know you turned one of the buildings into multi-tenant for KOP Phase 2. Maybe you could talk about leasing demand there for smaller users versus larger tenants where it sounds like the larger tenant demand is a little bit slower. Maybe you're more active on the other tenant base.
A. Robert Paratte
Sure. There's not a lot of change between Q1 and Q2 in terms of just the number of tenants in the market and kind of the basic market fundamentals. There's about 2.5 million square feet of demand in the market. A portion of that is on hold but is supposed to be coming back towards the later part of this year.
I think notably, a handful of younger companies are getting funding rounds, which we hadn't seen in Q1. So companies like Backsight, Hexagon Bio and Septerna have gotten funding rounds completed recently. Since we did announce the multi-tenanting of our -- one of our three buildings, our tour activity has picked up an interest, meaning people are wanting to see the space, wanting to understand what's in it.
We're exchanging plans with a couple of companies right now in terms of the technical capabilities of the space. So overall, as I said in the first quarter, we're pleased given the overall environment with the activity we have. And we still -- as John said in his comments, we had 2 years until we're actually complete.
Operator
Our next question comes from Stephen Sakwa with Evercore ISI.
Stephen Thomas Sakwa
Yes. I don't know, Eliott or Rob, if you could maybe just talk about maybe the next 18 months and some of the, I guess, more pronounced maybe known move-outs, just kind of remind us, what you know is to be vacating over the next, say, through the end of '24?
Eliott Trencher
Steve, it's Eliott. I'll start. We've talked about the expirations over 100,000 feet for the balance of this year. There are two. There's Pac-12, which as everyone knows, is moving out. And there's Riot, which Rob just addressed. Next year, we also have two. One in the Bay Area, one in Seattle, and those are both TBD and how they play out. And in 2025, we do not have any expirations over 100,000.
Stephen Thomas Sakwa
Okay. And just to circle back on the G&A. And I know you guys did better than we had expected in the quarter. Just kind of remind us, what you're expecting overall for G&A in dollar terms and I guess, including the expenses for John's retirement, just -- and will that be equally weighted between Q3 and Q4? Or is that tilted to Q4?
Eliott Trencher
Yes. So the overall number inclusive of the retirement charges will have a range from 90 on the low end to 104 on the high end, which is consistent with what we talked about last quarter. In terms of the -- how it plays out through the balance of the year, there's going to be a portion that continues to be amortized.
So we amortized the portion in actually a little bit of 1Q, but it jumped up meaningfully in 2Q. So we've taken, call it, about three of the $0.10 tied to the retirement charges so far. That will be similar in 3Q. And then in 4Q, it will be a little bit higher depending on performance.
Operator
We now turn to Blaine Heck with Wells Fargo.
Blaine Matthew Heck
Just to clarify on the occupancy guidance. I'm assuming current guidance assumes Riot stays in place, but I wanted to clarify that. And then also, what does guidance assume with respect to Indeed Tower when it comes into the operating portfolio later this year? Is that held at the current lease rate? Or is there additional leasing factored in there?
Eliott Trencher
Yes. So Blaine, we don't typically talk about assumptions for particular tenants. And so I think on Riot, there's not much more we can say beyond what Rob mentioned. For Indeed, you're correct, it is going to come in, in the fourth quarter. And we anticipate that it comes in at the current levels. So that will weigh on the occupancy in the fourth quarter, and that obviously also impacts the average number as well.
Blaine Matthew Heck
Okay. And then a second question, maybe a high-level question for John. There was a lot of optimism earlier this year after the midterm elections, which were, I think, generally seen as a step in the right direction for San Francisco. Can you just talk about any improvement you've seen or signs of improvement to come with respect to crime, homelessness and just overall creating a bit of a more hospitable business environment?
John B. Kilroy
Well, you know me, I always have to give a little story. So if you've ever been involved in an intervention of somebody who's an alcoholic or a drug addict, you're not going to get any place unless they are hit bottom and they want to change. And that's the way I would characterize San Francisco. San Franciscans across most of the political spectrum, the economic spectrum, the demographics spectrum are fed up, and they've taken action. I think there's a real chance to replace and get a majority on the Board of Supervisors next year in the elections. The numbers look really good on that.
I think there is a real opportunity to get rid of some of the bad judges that are up there. And there's some other things in the political wins that I won't talk about. And that's all made possible by the fact that over the past couple of years, a broad coalition of people have gotten together, they represent people like myself that are CEOs of companies, not just in real estate but across the spectrum of different types of companies. They represent school features. They represent the broad spectrum of the demographic base. And the wins are definitely changing.
What has also happened is at the state level, we have the state law enforcement in San Francisco that can take action that the locals can't. We have the Feds in there, taking action that the locals can't. And that all sounds sort of ominous. But the fact is there are forces at work that I think are going to clean things up. It isn't going to be easy. It isn't going to happen overnight.
But I was at a meeting as an example, I think it was last week. It was a big group. It was a cross-section of business leaders from everything from restaurant associations and in the hotels to folks again like myself, et cetera.
And universally, people are committed to funding and actively participating and changing what became a mess. So I'm more optimistic to tell you the truth than I've been in the last 2 or 3 years by far, but there's work to be done. It's kind of like a war. You can see that you're going to win it. it could take longer than you think. It's going to be bloody. And I don't mean that bloody in the sense of San Francisco, but I do think it's getting better. And you can see it on the streets. As people come back to work, the streets are far more vibrant. There's people in the lobbies of buildings, the restaurants are full.
Certainly, some restaurants have gone out of business and whatnot that were dependent solely on the office community and whatnot as people were working from home. But there's generally an era of people see that there is a future that's far brighter. So that's -- sorry for the long-winded answer. But I would just punctuate again that I'm more optimistic now than I've been in the last 3 years, because I see things really working in a positive way.
Operator
Our next question comes from Michael Griffin with Citi.
Michael Anderson Griffin
I wanted to touch on retention for a bit. I know it was lower, similar to the last quarter. As we look to the back half of the year, is the expectation for this retention rate to stay low or -- John, you were talking about some of those green shoots we could potentially see an uptick in these retention levels?
John B. Kilroy
Yes. It's -- Mike, some of these bigger tenants just don't know. They're all trying to figure out what they're doing. I'm unwilling to predict retention levels. You're a young guy, and I don't think you have kids. And as you know, I've got six, most of them are grown, but the game shoots and ladders. We're going to continue to see shoots, but we're now seeing longer and more ladders.
And so in that context, I think things get better over time, but they're not going to get better instantly. There's nothing in my mind that says that we're back to 2019, certainly not in San Francisco.
So we'll see. It's interesting that some of the people that have moved out of buildings -- our buildings, are talking to us about potentially moving back into buildings. And I'm not speaking specifically to San Francisco but across the platform. So there's just a lot of kind of wait and see. We're very busy dealing with people and the optionality they're trying to structure.
And as I've made a comment to in my remarks, in the case of like Columbia Square and Hollywood, we hadn't seen any leasing there for 2 years. Now all of a sudden, it's on fire. What changed? And it's right during the middle of this big industry -- entertainment industry strike.
If you talk to people, it's just that they're seeing -- they're being more optimistic. They're getting people back to work. They have plans to expand. So those things can change pretty quickly. I'll make another comment just about -- I think I've said this before at various things, including your event in March. I remember a couple of times in different downturns, people talking about Silicon Valley as a case in point, having 20-some years of supply. And within 2 years, there was nothing to be -- there was nothing of substance available. I'm not predicting that will happen in the next year or 2, but I think it will happen over time, because people are starting to get back to work, and innovation is alive and well.
There are a lot of new companies being formed. I just -- if I could predict it, I wouldn't be in this business. I'd be in the venture capital business.
Michael Anderson Griffin
Great. Maybe expanding on that green shoot opportunity you talked about. I think we've heard more about AI driving space requirements, particularly in San Francisco. I mean, how big can you quantify this as terms of a long-term driver in the market? And any color you have around that would be helpful.
John B. Kilroy
Sorry, Mike, you cut out in the first part of that. So can you just start with your -- the early part of your question?
Michael Anderson Griffin
Yes, just -- AI demand in San Francisco and kind of the opportunity set that you see there? I know the market has been kind of soft, but that seems like a potential green shoot for space requirements there.
John B. Kilroy
Yes. There is a tenant in one of our buildings that sublease 50,000 feet to an AI company. Here, there's a lot -- I know some things I can't talk about with regards to folks that are going to be investing quite heavily in AI that haven't really announced yet, and they're big, big players. I have no idea how big it's going to be. If you talk to some of the folks that are in it and with well-established companies, they think it's going to be enormous. And it's one of those things that when Uber came out, people thought, well, what it's still the idea, it's not going to happen, and they needed (inaudible) and everything else. The same thing with Airbnb came out, everybody thought, what a stupid idea. We now know that they're the biggest hotel company in the world.
So I don't know. With AI, the world is its market. I mean it literally could be involved in everything. And with that will come both, good and bad things. And I don't want to get into that, but it could be really big. I think a lot of people hope it's going to be giant and instantaneous or immediate, I don't know how. Normally, these things grow, and then they start getting bigger and bigger. If you look at the pattern of most of these tech companies, they started with 5,000 feet, and they had an idea. They leased 10,000 feet for 10 years and then all of a sudden, they need 30,000 feet, then they needed 100,000, then they needed 400,000 and so forth. It doesn't take many of those to change the market, but I don't know.
Operator
We now turn to Caitlin Burrows with Goldman Sachs.
Caitlin Burrows
Maybe a follow-up question on the One Paseo deal. Given that only 5% of your debt or so was secured as of 2Q. Can you just go through what drove the strategy for this property? And under what situations going forward you expect to use additional secured versus unsecured strategies?
John B. Kilroy
Yes. I'll start, and then Eliott, may want to give some comments. Caitlin, we're sort of agnostic. As you know, we haven't been big users of secured debt. What drove this is if we take a look at bond debt, it was considerably more expensive. Obviously, our goal was simply to take -- to pre-fund any of the commitments that we have, whether it's development or loans that come due and take that off the table. We had 18 months, I think, before the bond deal in next year comes up. Now goes out to 25, so it's 30 months or so for the next tranche. We had some development. We were already prefunded.
We think there's going to be an opportunity to play offense here. We're not exactly sure when and how that's going to play out. But our view is we're just sort of prepositioning for success. We've got best-in-class product. We are at a terrific financial position that where we can take care of whatever our obligations are as they come up and be very methodical about that. We're at a terrific financial position to play offense.
And then we have the ability to start new product as it's needed. And as Justin pointed out, we think there's going to be a real shortage. So that's what drove that transaction. It was just the most efficient way to go. Eliott, I don't know whether you have a further comment.
Eliott Trencher
No, I think that's all spot on. In terms of do we do more of these? I mean, who knows? We certainly like the efficiency of the bond market. But there's a time and place where secured debt makes sense, and we thought this was it. But this is not an indication of a bigger shift in strategy.
Caitlin Burrows
Got it. Okay. And then maybe just on return to work and office utilization. You gave some details on year-to-date improvement up 800 basis points and up 500 basis points from last quarter. I guess, could you go through how you measure that? And do you have any visibility to what could happen over the next, say, 3 to 6 months?
John B. Kilroy
You want to deal with that, Eliott?
Eliott Trencher
Yes, sure. So Caitlin, we have a process where we go through each of our markets and do a combination of survey data with our tenants and card reading data with our tenants, we sort of triangulate all of it to put it together and track this information monthly.
So that's our process. It's generally tracked the castle data up until recently where the castle data had sort of flat lined, but we continue to see increases in our portfolio. So a little tough to predict exactly how it will pan out, but we think that all of the announcements that we've referenced earlier, in particular, in the Bay Area and Seattle are good leading indicators that we should still continue to make progress on the physical occupancy.
John B. Kilroy
I'd just add a little comment that's just interesting. As you can well imagine, we deal with a number of architectural firms that not only deal with us, they deal with other developers, deal with particularly a lot of users. So one of the things that they're saying is that they're not real busy on new buildings, but they're very busy on reconfiguring space for tenants.
And I was talking with one a few weeks ago in Seattle, who's active all over the Western United States. And the comment that was made is that they're doing a third thing for the same tenant on a major -- on their utilization of a major campus and they keep trying to figure out how to add more capacity for more people, because their numbers keep changing.
So what has sort of happened at least in some of these companies is they were wondering whether people were going to come back to work, they wanted people to come back to work. Now they're coming back to work. Now they're coming back to work more, and they're coming back at higher rates.
In some cases, people have slowed down the back-to-work reentry in terms of making -- giving time to reconfigure their space to bring more people back to work. So those are just some anecdotal comments, but it's happening in real time.
Operator
We now turn to Vikram Malhotra with Mizuho.
Vikram L. Malhotra
Just going back to sort of the green shoots comment. I guess we've heard from a couple of multifamily players that there's a bit more, I guess, they're themselves seeing green shoots and more traffic. You talked a little bit about the AI trajectory or potential, I should say there. But could you maybe just elaborate a bit more on, like, say, the office, the pipeline you're looking at? What sort of types of tenants, the size requirements? And if you could break that up sort of between strictly office and then Life Sciences?
John B. Kilroy
Yes, you want to take that, Rob?
A. Robert Paratte
Sure. Let me make a couple of just general comments about what we're seeing in terms of just -- and give you sentiment in terms of the tenant markets. Real estate -- we've said this before, real estate is a very local business. And even though headlines nationally are that demand is off and less than we'd like. We're seeing positive absorption play out in our portfolio in cities like Seattle, Hollywood and Long Beach, as John had mentioned.
Another note I think I'd make is that while overall market experienced negative absorption, the newest and best buildings have actually experienced over 100 million square feet of positive absorption in the last 2 years. A note that's really important about the Bay Area is that VC funding overall is down. Everyone knows that and reads it. But Bay Area companies took more than half of the funding nationally. And that's about $20 billion. So we're expecting to see more demand come out of that sort of investment.
And the last point I'd make is the transaction pace remains somewhat slow, but it's picked up, and tenants are really seeking flexibility in their lease terms and they're -- just how they utilize space, not only their space, but our space, meaning our common areas, our decks, et cetera. the mix, I'd say, portfolio-wide is somewhat balanced between technology and professional services and banking firms. That's particularly true in San Francisco, where you have about 1/3 of the demand right now, there's about 4.5 million square feet of demand. About 1/3 of that is from technology. The other 1/3 of that is from professional services, banking, et cetera.
Everybody is talking about AI. You just mentioned that. Right now, in San Francisco, there's about 750,000 square feet of AI demand. Those tenants have started out probably in the fourth quarter of last year and the first quarter of this year in the 5,000-foot range, and they've now grown to about 10,000 to 15,000 feet.
So on the AI front, as John said, it's very difficult to predict where that goes. And these companies are in early stages. So more to come on that. And I think one of the things we track really closely are what the big [fan] companies and the level below the fan companies are doing with respect to AI, because those companies will spawn a lot of [eater] companies, if you will, over the next, whatever you want to call it, 2 years or so.
John B. Kilroy
I think there was also a question about the mix.
Vikram L. Malhotra
Yes. Any green shoots in terms of Life Sciences more strictly?
A. Robert Paratte
Yes. I mean, as I mentioned, the VC funding that the Bay Area commanded over 50% nationally. And I mentioned earlier, several firms that we didn't see in Q1 got funding just recently in Q2. And when you get that sort of investment, then demand typically follows. It doesn't follow immediately. And Boards of Life Science companies are still trying to keep people or companies within the space they have rather than taking new.
But that said, as I said at Oyster Point, we're seeing -- we're pleased with the activity we're seeing, both in a larger tenant format as well as multi-tenant, meaning a floor, 40,000 foot to 80,000-foot tenant range.
Vikram L. Malhotra
Great. And then just one clarification on maybe sublet trend across San Francisco, maybe even just broader Bay Area. Some of my recent conversations suggested that sublet volumes are likely to -- I'm saying material, but we were at such high levels, but moderate or come down. And I'm wondering if you -- in real time, seen any trends that would indicate sublet space is coming off the market more rapidly.
A. Robert Paratte
Yes. I hate making predictions, because I'll do it and then something will be announced this afternoon. But it definitely feels in the Bay Area, particularly that sublease space has plateaued in terms of big tech giving back space. There's actually been some talk, and it's very -- again, who knows what it plays out to, but some tenants actually looking at perhaps taking some of the space back off the market.
And we saw that happen during the pandemic where our tenant based on the sublease market, because they weren't using it or occupying it, and then they subsequently took it off. So we are seeing although the numbers ticked up this quarter in terms of available sublease space, I do think it's plateaued. And again, you have to distinguish between the true Class A really marketable sublease space and the, what I would call second and third tier space that's going to struggle mightily during this time. So it's not going to have activity.
Operator
Our next question comes from Dylan Burzinski with Green Street.
Dylan Robert Burzinski
Just going back to your comments on being patient with regard to going on offense and potentially looking at acquisitions. Could you guys help us, give us a sense for some of the data points or things you're looking at to sort of start that work?
John B. Kilroy
Well, it's kind of the obvious stuff, but it's -- we look at based upon our what we all see, what we all have available as information and more particularly, what we have with regard to the relationships we have with tenants, what they're thinking as they confide with us on various comments. How that sort of relates to Kilroy's position and where we want to place our bets, there's going to be a lot of confusion in my view, with regard to what's transacting early on.
We're seeing right now, properties that were -- properties we never would have had an interest in back in 2019 or 2018 or whatever that may have traded back then that are coming back into trade now, where there's either failed debt structure or failed ownership structure or whatever it might be. There's just a lot of product out there that is not quality that's going to be busted up.
And we're going to see that in all of our markets. whether it's a formal marketing process or a soft marketing process, I think you're going to see some things trade at very low rates that are properties that require hundreds of dollars of CapEx. And if you buy it and you spend it, you're going to end -- you're still going to end up with a pig. So it's going to be mixed.
And what we look at is what -- we're in this business to make money. So if you can buy a quality product at a good rate that has super upside, that's interesting, but we want to know that there is a more functioning market. If you take a look at 2010, which is probably a pretty good thing for -- to look at with regard to Kilroy, we moved into San Francisco and bought some properties at very low prices that were okay, yields, and we didn't predict the yields would go up too greatly for a few years and then a skyrocket, they really hockey sticked. And that ended up making us a lot of money and our shareholders a lot of money and made some great growth.
We were able to do that because others were licking their wounds, they didn't have a capital structure, and they didn't see the opportunity. I think we're going to see some of that. Now the problem is, and I've talked to just about everybody on this in investor calls or the NAREIT conferences that there is a lot of products that we're just not interested in, either locationally or because of its physical bones. It's just obsolete or near obsolete. We do not want to touch that at any price, unless it's -- unless you can buy it, you have a covered land play, and you have a really great development site. We might be interested in one-offs on that.
So we look at everything. We'd like to see a little bit more stability in the capital markets. Obviously, if you're going to buy stuff, you want to have the capital to do it. You don't want to be under stress or throw curveballs to the investor market. We think our position for -- as I've commented on in my formal remarks, is very strong for us to play offense.
Frankly, as a company, we've never had the quality of development pipeline that's ready to go, not even 10% of that in prior -- coming out of prior recessions that we have today. So we think we're really well positioned in that regard. We think we're really well positioned on the capital front with liquidity and so forth. And we think we have the right kind of product. So it's going to play out over time. I don't know exactly how it's going to play out, but I think we'll be opportunistic as we have in the past, and we've come out of these things pretty well out of future downturns.
And so that's kind of the way we're thinking. I can't really be -- I can't get -- if everybody had the rule book on exactly what to do, exactly when, there wouldn't be any opportunity, because we'd all be doing it. It's going to be a case of one-offs. I think it's going to be tough to buy big portfolios, because so much of the game has changed. It used to be, you could buy a lot of Class B product. You anticipated that those products -- those projects or buildings would be relevant. And as I've made comment on many times before, I think a lot of the buildings that are out there today are no longer relevant. So more to come.
Dylan Robert Burzinski
Appreciate that thorough detail, John. I guess just one more. Are you able to share the underwritten LTV and debt yield at One Paseo?
Eliott Trencher
We can't share that. But what we can say is that given the nature of the partner, you can assume that this was underwritten conservatively.
Operator
We now turn to Peter Abramowitz with Jefferies.
Peter Dylan Abramowitz
Just a modeling question, I wanted to clarify. So does the One Paseo deal take the need for term loan proceeds off the table sort of near or medium term, at least through the rest of this year?
Eliott Trencher
So the way the term loan was structured is that we have 12 months to pull down the cash, and if we choose not to, then those proceeds go away. But from what you can -- what we said in our formal remarks, we do anticipate pulling down the remaining $170 million of cash on the term loan by the end of the third quarter. And then just as you think about it modeling-wise, there, we have a spread of SOFR plus 100 relative to wherever we can reinvest it. But certainly, the rates on reinvesting capital have gone up in the last 3 months. So the dilution there is somewhat modest.
Peter Dylan Abramowitz
Got it. And then one more on Life Science. So there's a pretty meaningful amount of new supply coming to South San Francisco right now, maybe not as much San Diego. Could you just talk about what you're seeing on the ground in terms of how rents are moving and how the new supply is affecting your conversations with potential tenants, particularly at Oyster Point?
John B. Kilroy
Rob, do you want to cover that?
A. Robert Paratte
Sure. This is Rob. Sure, John. Again, I guess, what I'd -- first of all, I'd define -- let's define the market. We're in Oyster Point, which is a very specific submarket in South San Francisco. And it's -- I like to call it the Main and Main of the Life Science market in the Bay Area. There is less product being delivered in that because -- that particular submarket. We have about a little over 0.5 million feet that we're competing with. This new construction and rental rates and new construction have not declined materially.
There is other space in South San Francisco, however, as I just said, different submarkets. So there's a submarket north of us called Sierra Point, which has different fundamentals and is just a market we actually prefer Oyster Point over, and most of the large tenants do as well.
Operator
Our final question comes from Neil O'Connell with Bank of America.
Camille Bonnel
Can you hear me? Okay. Sorry. The name was wrong. It's Camille Bonnel from Bank of America. Many of my questions have been already addressed. So just one for me. Eliott, your update around parking revenues, adding positively to core operating outlook, does that only reflect the utilization that you're seeing today?
Just given that a number of larger companies are starting to implement that return to work over the summer and into the fall, does it mean that if these trends continue to improve, we'll see further upside to guidance from this income stream?
Eliott Trencher
To the first part of your question, yes, this reflects what we've seen to date. So to the extent that utilization continues to get better, then we hope that, that continues to translate to better parking revenue.
Operator
This concludes our Q&A. I'll now hand back to Bill Hutcheson, SVP of Investor Relations and Capital Markets. Closing remarks.
William E. Hutcheson
Great, Elliot. Thank you for coordinating the call. Thank you, everyone, for joining us today. We appreciate your continued interest in Kilroy. Have a good day.
Operator
Ladies and gentlemen, today's call has now concluded. We'd like to thank you for your participation. You may now disconnect.
