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CUPERTINO, CA-Mission West Properties this week reported a big jump in year-over-year fourth quarter occupancy, if a slight decrease from the third quarter. The locally based REIT owns and operates eight million square feet in 111 commercial R&D properties primarily located in the Silicon Valley. Unemployment in Santa Clara County, the heart of the Silicon Valley, jumped from 5% to 7.7% during 2008.

Mission West says its average occupancy at leased properties as of the end of the year was 66.4%, down 30 basis points from the third quarter of 2008 but up 470 basis points from the start of the year, when occupancy was 61.7%. Average monthly rental revenue per square foot in the final three months of the year was $1.26, down from $1.42 at the start of the year.

Company president Ray Marino told analysts that preliminary fourth quarter data from CPS Corfac International peg Silicon Valley R&D vacancy at 16.8% or 28.3 million square feet, including 5.2 million square feet sublease space, on 1.4 million square feet of negative net absorption. Office vacancy is estimated at 24.5% or 11.1 million square feet, including 944,000 square feet of sublease space, on negative net absorption of 671,000 square feet.

While not addressed in the most recent call, Marino said in the third quarter conference call that its vacancy picture is not what it seems. Four percent of the vacancy is space for which it is being paid until 2011, he says, and another 10% is related to the McCandless properties, for which the company had only recently obtained all the necessary city approvals.

Looking forward, Marino says there is downward pressure on rents due to the completion of several new speculative developments primarily in the office market in San Jose, Sunnyvale and Mountain View, coupled with the general increase in sublease space. Add to that extreme lack of demand and 112,000 square feet of expiring leases in 2009 at an average rent of $0.82, and the forecast for 2009 is for FFO of between $0.52 and $0.54 per share, which is approximately the same as last year, and based on no new leasing. The company expects an additional 240,000 square feet to be vacated in 2010.

“We are assuming we will do some leasing but we have no way to judge what that will be,” CEO Carl Berg told analysts. “We intend to be extremely aggressive in the marginal areas like Fremont and South San Jose with our older properties.”

When asked about leasing requirements in the marketplace, Berg responded by saying “Does the fact that phone only rang twice in last three months give you a clue?”

The company inked one new lease and three renewal leases in the fourth quarter. The new lease, 39,000 square feet for 37 months, carries a lease rate of $0.94 per square foot, as is, with no tenant improvement allowance or lease commissions. Renewal leases totaled 283,000 square feet with an average weighted term of 59 months. The weighted average rent on the renewals is $0.49 per square foot, due to two leases with Fujitsu that include pure industrial space. The other renewal was in the $1.50 per square foot range, according to Marino. As for current rents, Marino says deals at competitive properties are being signed at between $0.75- and $0.90 per square foot, depending on improvements.

On the investment front, Marina says he is beginning to see upward pressure on cap rates. There have been fewer bidders on average for each deal, he says, adding that several large deals have fallen out of escrow and in some case were brought back to market only to be withdrawn a second time.

The company has two sales is the works. The City of Milpitas has offered to acquire one of its buildings on McCandless Drive in Milpitas—a 72,000-square-foot building—for $15 million or $204 per square foot. The deal, which would result in a GAAP gain of $7.7 million, is scheduled to close in April.

The company also is in the process of negotiating a 12-month extension of a buyer’s option to acquire a Mission West land parcel on McCandless Drive. The buyer has offered to pony up $2 million that would not count against its ultimate purchase price, and has spent upwards of $10 million on development plans and entitlements.

“We are waiting for their [development] approvals to sign off on the deal and if they do not close they have agreed to turn over all their plans and approvals to us so we would be able to market it more easily,” Berg says. “It’s very difficult to know if anyone will close in a market like today but they certainly have spent a lot of money and seem very committed to it.”

Tenant reimbursements for the fourth quarter increased 30% in the fourth quarter from the same year-earlier period due primarily to common area maintenance. Operating expenses increased 42% primarily due to higher repair and maintenance costs and higher property tax assessments. Same store NOI on cash basis decreased 3.9% in the fourth quarter mainly driven by higher operating expenses.

Mission West’s financial performance in the fourth quarter produced FFO of $12.8 million, or $0.12 per common share, which compares to $14 million, or $0.13 per common share, in the same year-earlier period. For the full year, FFO fell to $55.3 million, or $0.52 per share, from $114.8 million, or $1.09 per share, in 2007. For the year, lease termination fees and related security deposit forfeitures totaled $2.8 million, of $0.03 per share, down from $51.7 million, or $0.49 per share, in 2007.

Net income for the fourth quarter was $5.3 million, or $0.26 per common share, up from $0.08 in the same year-earlier period. All but $0.06 of the 2008 fourth quarter net income is attributable to the sale of two Morgan Hill, CA R&D properties in the Company’s unconsolidated 50-50 joint venture, TBI-MWP. For the full year, net income was $0.50, down 47% from $0.95 per share in 2007. There were no property sales boosting earnings in the first three quarters of the year, according to the report.

In the past year the share price has traded as high as $12.45 [May 2, 2008] and as low as $5.69 [Nov. 21, 2008]. A few days after the low, Mission West’s board authorized the purchase of up to $5 million of its common stock on the open market. Instead, the company recently acquired a stock in competitor Apartment Investment Management.

“We have approval to invest up to $15 million in three to four different REIT stocks…where we can get a decent return and feel we won’t take a lot of risk,” Berg told investors on Thursday. “The investment we made in the first quarter was in AIV and our average price on that after dividends is $9.55. We believe they are capable of making their dividend and we think there is some upside in the stock.”

On Friday, AIV reported a greater-than-expected fourth quarter loss , issued a warning that it its 2009 results would come in below Wall Street’s already low forecasts, and said it planned to reduce its dividend by more than 50% and cut at least 300 jobs.

Shares of AIV closed Friday at $7.25, down $0.49 on the day and off 43% from its 2009 year-to-date high of $12.70 on Jan. 6. Shares of Mission West finished Friday at $7.20, up $0.06 on the day and down less than 6% from its year-to-date high of $7.66, also on Jan. 6.

Should Mission West have purchase it’s own stock instead? Marino declined comment.

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