The Q2 2023 BXP Earnings Conference Call has begun, and Helen Han, Vice President of Investor Relations, has welcomed everyone. She has reminded them that certain statements made during the call may be considered forward-looking and that BXP does not have a duty to update any forward-looking statements. Owen Thomas, Chairman and Chief Executive Officer, will then give his formal remarks. Ray Ritchey and the regional management teams will be available to answer questions during the Q&A portion of the call.

BXP reported an above-expected operating performance in the second quarter, completing 938,000 square feet of leasing with a weighted average lease term of 8 years. They increased their FFO per share guidance for the year and raised their liquidity position. Economic growth is uncertain, with two competing theories predicting different trajectories. BXP is preparing for a possible recession by increasing liquidity, pursuing additional capital raising opportunities, and being measured in discretionary capital expenditures and new investment activity.

Companies are experiencing a recession in earnings, which is causing them to cut costs such as leasing office space. There is a bifurcation in the workforce between knowledge workers, who are increasingly in the office due to firmer in-person work policies, and support workers, who often work in shared workstations with less prescriptive office attendance policies. This is creating a performance gap between premier workplaces and the rest of the office market, with companies utilizing modern workspace and amenities as a tool to increase knowledge worker attendance.

CBRE's report shows that premier workplaces represent 18% of total space and 10% of total buildings in the 5 CBDs that BXP operates in. Direct vacancy for premier workplaces is 11.6%, and net absorption for the premier segment was 800,000 square feet positive in the second quarter. U.S. transaction volume for office real estate rose 43% from the first quarter to $9.6 billion, though it is down 50% compared to the second quarter of last year. BXP's high concentration of premier workplaces is a key differentiator in the marketplace.

In the second quarter, real estate values have decreased due to higher capital costs and demand challenges, causing a slowdown in transaction activity. There were a few data points, such as a fund manager backed by a private equity firm purchasing two lab portfolios in the Boston area for $266 million and a building in Santa Clara for $183 million. BXP is being patient with new investment activity as they believe acquisition opportunities will become more attractive in this environment, with their focus solely on premier workplaces, life science and residential development in their 6 target markets.

BXP recently completed two important milestones in the pre-development of the 900,000 square foot 343 Madison premier workplace in Midtown Manhattan, having formed a joint venture with a leading global real estate investor. Additionally, they placed into service 2100 Pennsylvania Avenue in Washington, D.C. and opened and placed into service View Boston. BXP has decided to pause construction of the Platform 16 premier workplace development in San Jose due to market conditions in the area, which will save them approximately $200 million in near-term development spend and result in a project that can be delivered to users in under two years.

BXP has completed a 99-year ground lease with the Metropolitan Transit Authority for the 343 Madison Avenue site. Under the lease, the joint venture is required to construct a direct entrance to the Long Island Railroad East Side Access project known as Grand Central Madison. BXP is also executing a significant development pipeline with 13 office, lab, retail and residential projects underway, and Bob Pester has elected to retire early next year. Rod Diehl, an 18-year BXP veteran, will succeed Bob, and the three regions of BXP's business (San Francisco, Los Angeles, and Seattle) will be managed with a unified organizational structure.

BXP had a productive quarter with financial performance and leasing above expectations, as well as a stable dividend. They are well-positioned to weather the current economic downturn due to their leadership position, strong balance sheet, and development pipeline. During the second quarter, they signed 63 leases, 37 renewals, 26 new tenants, and 7 contractions. The occupancy rate was 88.3%.

The building is 91% leased and 61% occupied, with 800,000 square feet of additional leases anticipated to commence in 2023. There are 44 leases in negotiation totaling 1.17 million square feet and 1.7 million square feet of proposals in the pipeline. If 95% of the leases in negotiation and 1/3 of the proposals are completed, there will be 1.7 million square feet of additional leases executed during the second half of 2023. 140 Kendrick Street and 751 Gateway will be delivered in the third and fourth quarters respectively, and occupancy is expected to increase slightly by the end of the year.

The New York region saw a jump in second-generation leasing statistics, which was due to a below-market rent that was relet to a new tenant. Boston and San Francisco had roll-ups in leasing, while D.C. and Northern Virginia had roll-downs. In New York, the leases signed this quarter were down 11%. Utilization of office desks in CBD buildings is 80% in New York City, 75% in Boston, and 70% in San Francisco. On average, people are working in the office three days a week across the markets.

There has been negative absorption in the office space market in the United States, but there is an increase in tenant demand in the San Francisco CBD. The demand is largely driven by technology companies, and investment in AI is concentrated in San Francisco, New York, and Boston. CBRE research reported that San Francisco has received more than 50% of the total invested money in the third quarter.

In the San Francisco CBD office market, the concentration of user demand is mainly from alternative asset managers, private equity, venture, and hedge funds. BXP had strong activity at the General Motors Building in Manhattan, 200 [indiscernible] in the Prudential Center properties in Boston, 2200 and 2100 Pennsylvania Avenue in D.C., the urban core of Reston Town Center in Northern Virginia and their Embarcadero Center assets in San Francisco. They completed three law firm leases in New York, one in Boston and three in their D.C. portfolio. There were also three life science leases, a 55,000 square foot extension in Lexington, Massachusetts, a 12,000 square foot suite at 880 Winter Street, and a second full floor lease at 651 Gateway in South San Francisco. They are negotiating a third full floor lease at 651 Gateway and intend to complete a speculative turnkey installation on an additional floor.

BXP is seeing a decrease in tenant improvement costs due to a falloff in transactions in the markets, and BXP's portfolio is gaining occupancy as most clients want to be in premier workplaces. However, many available spaces in the market are not competitive with BXP's assets and some buildings are not in a position to compete due to their owners unwillingness to invest capital while their capitalization is in the restructure mode.

Doug discussed the leasing activity in 2023, noting that the majority of leases were small and medium-sized. In the debt markets, the company issued $750 million of 6.5% 10-year unsecured green bonds and refinanced a $105 million mortgage loan. They also exercised one-year extensions for two other mortgage loans. The company's remaining 2023 loan maturities are limited to a $500 million bond maturity and a $87 million mortgage loan on a joint venture.

The company is refinancing their loan and entering into interest rate swaps to fix the rate on their $1.2 billion unsecured term loan. They have strong liquidity of $3.1 billion and their financing plan includes paying off a $500 million bond with cash, refinancing their $700 million bond prior to its maturity, and refinancing their mortgage maturities. For the second quarter, they reported funds from operations of $1.86 per share, exceeding the midpoint of their guidance range by $0.06 per share. The outperformance was due to better-than-expected revenues and lower-than-expected operating expenses.

The company raised their FFO guidance for 2023 to $7.24 to $7.29 per share, due to improved performance in same-property NOI growth, net interest expense, revenue growth, and leasing volumes. The balance sheet is in excellent shape, but the high interest rate environment will remain a headwind for refinancing low-cost expiring debt.

Douglas Linde and Hilary Spann discussed the costs and yields of 343 Madison, a building that is still in the design phase. Linde noted that the return thresholds for the project have increased due to the current capital markets, and Spann mentioned that they have been receiving inbound calls from clients interested in anchoring the development, even though it would take several years to build the building.

Owen Thomas discussed the lack of transaction activity and the resulting difficulty in calculating IRRs. He noted that before interest rates went up, IRRs were in the 6s, but that with the more expensive capital, they have likely gone up 100 basis points or more. He also mentioned that the company is considering share buybacks as they believe their stock represents a good value, but they also have other uses for the capital, such as their development pipeline and potential opportunities.

Owen Thomas and Douglas Linde discussed potential capital raising through dispositions and joint ventures. They are focusing on residential assets and leased development properties as these are the least impacted by increasing cost of capital and cap rates. The IRR of potential joint ventures depends on future cash flow and expectations of future capitalization rates and rent growth. It is difficult to know the exact thoughts of potential partners.

Douglas Linde explains that Platform 16 is currently planned to be three commercial premier workplace buildings, and they are not pushing to do something different at the moment. He believes in the location and the rationalization of transportation, and the user who owns most of the land around there will build. They decided to hold off and let the market recover before delivering the building in 2024. Rodney Diehl does not have anything to add at this point.

Owen Thomas and Douglas Linde answer a question from Michael Goldsmith from UBS about the expected yields of their future projects and whether they are at risk of being delayed. They explain that most of their projects are already leased, and the ones that are not are almost finished. They also mention that they have a letter of intent for part of a building, and that their return expectations for future developments are higher than they would have been in 2019 or 2020.

Douglas Linde reported that leasing velocity was up in the second quarter but down year-over-year, but they are still expecting to have just over 3 million square feet leased for the year. The third quarter is expected to be slightly better than the second quarter, but the fourth quarter will depend on how many early renewals occur for 2024 and 2025 lease expirations. Tech demand on the West Coast has not started to materialize yet and they don't expect it to change in the near future, leading to a muted comparison to prior years.

Bob was congratulated on his retirement, and Alexander Goldfarb asked him what needs to happen for tech companies on the West Coast to reengage proactively on the office front. Bryan Koop added that they are seeing an increase in the amount of access and time spent with clients, focusing on workplace strategy, and title changes for directors of workplace strategy.

Owen Thomas and Rodney Diehl discussed the impact of tech companies on space demand. Thomas suggested that there may have been an overinvestment period with lots of employees hired and space taken, but that the Federal government and tech companies are now rolling out policies for returning to the office. Diehl added that there is now a positive tech driver in the form of AI demand, which is getting a lot of attention and is helping to pull the market out of downturns.

Douglas Linde answered a question from Nicholas Yulico regarding leasing and occupancy for the portfolio in the back half of the year. Linde stated that the amount of leasing done on a quarter-by-quarter basis compared to the previous years would be down for every quarter in 2023, due to build-to-suits in 2022 and the smaller check sizes of the demand coming from small professional services, law firms, and financial services firms. He also added that the pipeline of activity for the rest of the year is within the construct of the embedded earnings projections of 3-plus million square feet space.

Owen Thomas discussed the difficulty of accurately assessing NAVs, which are based on assumptions about rent growth and cap rate. He noted that BXP's look-through cap rate is currently 8.25%, but believes it is likely lower than that. Thomas also highlighted that BXP is interested in expanding in the premier workplace, life science, and residential development segments, and has been actively looking for investments in those markets. He noted that BXP has been leasing a lot of their Boston CBD portfolio in the past year, which is now well leased.

Douglas Linde explains that the majority of their available opportunity set in the Boston suburban market is in life science and that is their focus for growth. He also states that the suburban Boston office demand market is slower than the CBD market at the moment. Linde emphasizes that they are well positioned to capture incremental demand as the life science market recovers, but they will not build for the sake of building.

The demand for traditional office space in the greater Boston suburban market is light, but the company is capturing it due to their best properties in the best locations. They have completed one transaction with a downtown tenant and are talking to two more about the workplace strategy for knowledge workers. They are also seeing an early trend in what some people are calling Top Tech, which is some portion of the space needs bigger clear heights for work benches. They are expecting activity to increase in the next 12 to 24 months, however funding for smaller companies could impact this.

Douglas Linde explains that there is currently lots of available capital for life science and biotech investments, however it is being used more thoughtfully than before and is taking advantage of the drops in valuations for companies that were funded by investors who gave too much capital. He also notes that there is small life science demand but few big demand drivers, and that there is more supply than demand.

BXP is well-positioned with their assets in South San Francisco and Waltham, and they plan to lease them up as demand increases. They will need to do turnkey installations for companies, but they have the capital to do so. They cannot predict when demand will increase, but they expect it to get better over time. BXP may add or reduce their office concentration in certain markets.

Owen Thomas discussed their strategy of setting a perimeter of 6 markets to allocate capital to, and how the capital has shifted out of the CBD of Washington in the last 5 years. Michael LaBelle added that they are doing well on parking revenues, and that occupancy has increased in their buildings and cities, providing an opportunity to grow parking revenues. He also noted that the revenue beat in the quarter was modest and across the board.

Owen Thomas, Chairman and CEO of BXP, has reported that retail in most places has returned to pre-pandemic levels, though San Francisco is still lagging behind. Lord & Taylor has closed in Boston, but a fixed sporting goods store will open there next year. Hotels are still a couple of million dollars below pre-pandemic levels, but it is doing well and is expected to improve over time. Thomas concluded the conference call with no further questions.

This summary was generated with AI and may contain some inaccuracies.