KRC — Q3 2026 Financial Report Analysis

Kilroy's Q3 2026: a big new life-science campus is now costing money instead of earning capitalized interest

Kilroy Realty, a landlord that owns office and life-science buildings in San Francisco, Los Angeles, Seattle, San Diego and Austin, reported third-quarter 2026 revenue of $271.6 million, down 2.9% from a year earlier, and net income available to shareholders of $15.5 million, or $0.13 per diluted share, versus $156.2 million ($1.31). Most of the drop in profit is a comparison effect: Q3 2025 included a $110.5 million gain from selling buildings, and Q3 2026 had no sales. But the underlying business also got weaker. The company's $1.2 billion Kilroy Oyster Point Phase 2 campus in South San Francisco moved onto the books as a finished property in Q1 2026 while only 7% occupied, so its costs and interest now flow through the income statement instead of being added to the building's cost.

The numbers

Kilroy does not report an "operating income" line; the operating margin above is our calculation from the income statement (total revenues minus total expenses, including depreciation). NOI, net operating income, is the rent a landlord collects minus the direct cost of running its buildings (property expenses, property taxes, ground rent); it leaves out corporate overhead, interest and depreciation. Both NOI and FFO are company-defined non-GAAP measures taken from the 10-Q.

Where the income went

The 10-Q breaks the $15.6 million fall in NOI into four groups of buildings:

• Buildings sold: -$13.1 million. Kilroy has been selling properties to raise cash. In the first nine months of 2026 it sold four operating properties for $347.5 million in gross proceeds: the three-building Kilroy Sabre Springs campus in San Diego ($124.5 million, January), a Del Mar building ($21.0 million, March) and two Hollywood apartment buildings with 393 units ($202.0 million, April). Their rent is gone; so is the Q3 2025 property sold for the $110.5 million gain.
• Development properties: -$4.0 million. The filing attributes this "primarily due to one development property with limited occupancy added to the stabilized portfolio in the first quarter of 2026, which resulted in the cessation of cost capitalization." That is Oyster Point Phase 2: 871,738 square feet across three buildings, 7% occupied and 49% leased. The gap between those two numbers is space that tenants have signed for but are not yet paying rent on.
• Same-property portfolio: -$4.1 million (-2.4%). These are the 113 buildings owned for the whole comparison period, the cleanest read on the core business. Revenue rose $1.9 million (parking and residential income, expense reimbursements, lower bad debt), but base rent fell $0.9 million from lower occupancy and rates, and property costs rose $6.1 million: utilities, contract services and security (+$3.6 million) and property taxes (+$2.3 million, of which $1.6 million was smaller tax refunds than last year).
• Buildings bought: +$5.6 million from one property acquired in Q3 2025 and a four-building property acquired in Q4 2025.

Below NOI, depreciation rose $5.7 million (mostly the acquisitions and Oyster Point), interest income fell $2.5 million on lower cash balances, and interest expense rose $7.2 million for the capitalized-interest reason above. Taking out the sale gain, net income was roughly $51.8 million in Q3 2025 versus $20.3 million now, still a fall of about 60%.

Leasing: rents on renewals are rising, but the vacancy is not filling fast

Kilroy signed 802,811 square feet of leases in the quarter: 678,540 square feet on previously leased space and 124,271 square feet of first-generation leases (new buildings or space at development projects). On previously leased space, new rents were 30.6% higher than the expiring rents on a GAAP basis and 9.7% higher in cash terms. GAAP rent averages the rent over the whole lease, including free-rent months and built-in increases; cash rent is what the tenant pays at the start. The wide gap between the two means tenants are getting meaningful free rent or low starting rents that step up later.

Tenant retention was 78.3% for the quarter but only 45.0% for the year to date, so earlier in 2026 more than half of expiring space was not renewed. Getting tenants in is also expensive: tenant improvements and leasing commissions averaged $94.43 per square foot on second-generation leases and $283.72 on first-generation ones.

By region, occupancy at September 30 was 75.3% in the San Francisco Bay Area (86.2% at the end of 2025, before Oyster Point joined), 72.2% in Los Angeles (75.1%), 79.5% in Seattle, 83.4% in San Diego and 84.0% in Austin.

What the headline numbers hide

• The 90% EPS drop is mostly a one-off in last year's quarter. The $110.5 million Q3 2025 sale gain accounts for most of the change. FFO, which excludes such gains, is the better gauge, and it fell 19.9%. For the nine months, GAAP net income also carries a $61.8 million Q1 impairment (a write-down of an asset's book value to what it can be sold for) on the Hollywood apartments, which were then sold in April; FFO adds that back too.
• A land parcel is carried well above its sale price, with no write-down yet. Kilroy has signed a deal to sell its East Village land in San Diego for an estimated $19.5 million, targeted to close in Q4, but the parcel's carrying value was about $63.1 million at September 30. The company recorded no impairment because the parcel did not yet meet "held for sale" rules and passed a probability-weighted cash-flow test. If the sale closes at that price, a loss of roughly $44 million (before closing costs) would follow in Q4 GAAP results. The 10-Q also warns that changes in plans for its other development land "could result in an impairment loss in a future period"; that pipeline carries $1.54 billion of costs to date.
• Cash flow is falling with income. Operating cash flow for the nine months was $385.1 million, down 15.8%, which the filing attributes to lower income from properties outside the same-property pool, lower capitalized interest and a large lease termination fee in 2025 that did not recur. It still comfortably exceeds GAAP net income of $30.3 million, because depreciation and the impairment are non-cash charges.
• Buybacks helped per-share figures only a little. Kilroy repurchased 2.36 million shares for $72.7 million (average $30.80) in the first nine months, none in Q3. Diluted shares were 1.3% lower than a year earlier.
• The dividend is covered on FFO, before leasing costs. Q3 FFO of $104.6 million compares with $63.4 million of dividends and distributions paid in October ($0.54 a share). FFO does not deduct the tenant-improvement and commission spending that new leases require, which is running high.
• Debt is lower. Total debt fell to about $4.38 billion from $4.59 billion at the end of 2025 after Kilroy repaid $250 million of notes in April and July. Available liquidity was about $1.4 billion, mostly the undrawn credit line.

Takeaway: The 90% earnings fall overstates the damage, but the business is still shrinking. FFO is down a fifth because Kilroy is selling buildings and has a $1.2 billion South San Francisco campus that is 49% leased and only 7% occupied. Earnings now depend on how fast tenants who have signed at Oyster Point move in and start paying rent, since that space now carries full operating and interest costs.

What to watch next

The 10-Q gives no FFO or earnings guidance (the company typically gives that in its earnings release, not in the 10-Q). It does give some forward markers:

• Oyster Point Phase 2 lease commencements. The 42-point gap between leased (49%) and occupied (7%) is the clearest source of future rent growth. Each quarter's occupancy figure for the campus is the number to track.
• Los Angeles expirations. Leases on 984,628 square feet (7.6% of leased space) expire in 2027, and 794,446 square feet of that is in Los Angeles, already Kilroy's weakest region at 72.2% occupied. Adjusted for space already re-leased, 2027 expirations would be 958,485 square feet, so little of it has been backfilled yet.
• More asset sales and possible write-downs. The East Village land sale (Q4), two land sites under contract in Los Angeles and San Diego expected to close in phases from early 2027, and the board's remaining $427.3 million buyback authorization show how Kilroy is using its capital: selling land it no longer plans to build on, not starting new projects. It expects to spend only $25-75 million on development in the rest of 2026.

Our read: with no major development deliveries ahead and sale proceeds going to debt repayment and buybacks, near-term FFO depends almost entirely on leasing. Stronger leasing spreads (rent increases on renewals) help, but at a portfolio about 77% occupied, the occupancy rate matters more than rent spreads. We would want to see the stabilized occupancy figure stop falling and Oyster Point move-ins show up in revenue before calling a bottom.