BXP, Inc.

Good day and thank you for standing by. Welcome to Q1 2023 BXB Earnings Conference Call. At this time, all participants are on a listen-only mode. After the speaker presentation, there will be a question and answer session. To ask a question during the session, you will need to press star 1-1 on your telephone. You will then hear an automated message advising your hand is raised. To return your question, please press star 1-1 again. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your first speaker, Helen Hahn. Vice President, Investor Relations. Please go ahead.

Good morning and welcome to BXP's first quarter 2023 earnings conference call. The press release and supplemental package were distributed last night and furnished on Form 8K. In the supplemental package, BXP has reconciled all non-GAAP financial measures to the most directly comparable GAAP measure in accordance with Reg G. If you did not receive a copy, these documents are available in the Investors section of our website at investors.bxt.com. A webcast of this call will be available for 12 months. At this time, we would like to inform you that certain statements made during this conference call, which are not historical, may constitute forward-looking statements within the meanings of the Private Securities Litigation Reform Act. Although BXB believes the expectations reflected in any forward-looking statements are based on reasonable assumptions, it can give no assurance that its expectations will be attained. Factors and risks that could cause actual results to differ materially from those expressed or implied by forward-looking statements were detailed in yesterday's press release and from time to time in BXP's filings with the SEC. BXP does not undertake a duty to update any forward-looking statements. I'd like to welcome Owen Thomas, Chairman and Chief Executive Officer, Doug Linde, President, and Mike LaBelle, Chief Financial Officer. During the Q&A portion of our call, Ray Ritchie, Senior Executive Vice President, and our regional management teams will be available to address any questions. We ask that those of you participating in the Q&A portion of the call to please limit yourself to one question. If you have an additional query or follow-up, please feel free to rejoin the queue. I would now like to turn the call over to Owen Thomas for his formal remarks.

Thank you, Helen, and good morning, everyone. Today, I'll cover BXP's continued steady operating performance as demonstrated in our first quarter results, the key economic and market trends impacting our company, and BXP's capital allocation activities and funding. Despite significant economic headwinds, BXP continued to perform in the first quarter. Our FFO per share was above both market consensus and the midpoint of our guidance. and we increased our FFO per share guidance for all of 2023. We completed 660,000 square feet of leasing in the first quarter with a weighted average lease term of 7.7 years and kept occupancy flat despite more challenging leasing market conditions. Finally, BXP just published its 2022 ESG report and announced our second annual ESG Investor Webcast for May 31st. Though the office sector is clearly facing challenges in the current economic environment, there are two underappreciated trends which we believe will have a significant impact on BXP's longer-term performance. First, the deceleration in leasing which we forecasted last year and are now experiencing is driven primarily by the economic slowdown, a cyclical trend rather than remote work, a secular trend. In other words, we believe the current leasing slowdown is cyclical and will recover along with economic conditions. Our clear evidence for this observation is our own leasing experience. In 2022, when the economy was much stronger and significantly fewer workers were using their offices, we leased 5.8 million square feet, essentially a normal year just below our 10-year average level of leasing. This year, the economy is clearly weaker, but many more workers are back in the office and our leasing has slowed. Though we are not in a recession defined as negative GDP growth, approximately 75% of S&P 500 companies are forecasting lower earnings this quarter, and aggregate earnings are expected to drop over 6%. There are seemingly daily announcements of corporate layoffs. With slowing growth, companies are more focused on cost control, reducing headcount, and taking less or reducing their space. In addition, capital market volatility on the heels of recent bank failures drives companies to be more cautious in capital outlays, including capital required for leasing new space. With more challenging economic conditions, the return to office trend continues to improve. Major tech companies have announced return to work expectations and specific policies, and many companies in a variety of industries continue to tighten their requirements, increasing the days expected in the office. President Biden has mandated a substantial increase for in-person work at federal offices. U.S. West Coast cities, though improving, remain behind the rest of the U.S. and other global business centers in their return to office work. The second underappreciated trend is office users are much more discriminating about building quality than the current market sentiment regarding the overall office asset class. The premier workplace segment continues to materially outperform the broader office market. Users are compelled to upgrade their buildings and workspaces to attract their workforce back to the office. Clients increasingly prefer assets with the highest quality managers and consistent and stable ownership. Buildings facing debt default do not have the tenant improvement and leasing commission capital available to complete leases and are therefore uncompetitive. Lastly, full or significant remote work is more frequently allowed in practice for support workers across industries in areas such as accounting, IT, and HR. This segment of the workforce does not as commonly occupy premier workplace assets, putting more pressure on the market for lower quality buildings. As described previously, CBRE is tracking the performance of premier workplaces in the U.S., and for the five CBDs where BXP operates, premier workplaces represent approximately 17% of the 733 million square feet of space and less than 10% of the total buildings. In the first quarter of this year, direct vacancy for Premier workplaces increased only 20 basis points to 10.7%, while direct vacancy for the balance of the market increased 80 basis points to 15.5%. Also for the first quarter, net absorption for the Premier segment was a negative 200,000 square feet versus a negative 3.3 million square feet for the balance of the market. For the last nine quarters, net absorption for the premier segment was a positive 6.9 million square feet versus a negative 28.6 million square feet for the balance of the market. Rents and rent growth are higher for premier workplaces, and we believe the segment captures the majority of all gross leasing activity, including two buildings undergoing renovation, Ninety-four percent of BXP CBD space is in buildings rated by CBRE as premier workplaces, which has been and will be critical for our long-term success. Moving to private real estate capital markets, U.S. transaction volume for office assets slowed materially to $6.6 billion in the first quarter, down 47 percent from the fourth quarter of last year. The reduction was by no means an office-specific trend, as transaction volume across all real estate asset classes was also 43% lower over the same period. Real estate values have reset down due to higher capital costs, and sellers have so far been unwilling to accept lower prices, creating a bid-ask gap common in declining markets. Mortgage financing for office is challenging to arrange and available for only the highest quality leased assets and sponsors. Given the dearth of transaction activity, office asset pricing is difficult to determine, but there were several data points of note in the quarter. In the seaport of Boston, ARE announced the sale of a 37% interest in a lab development at 15 Necco Street to an offshore property company. for a valuation of over $1,600 a square foot and approximately a 5.4% cap rate. The building, which is being delivered into service later this year, comprises just under 350,000 feet and is fully leased to a strong credit life science user for 15 years. In downtown New York City, a global property company purchased the 49% interest it did not own in One Liberty Plaza for $426. a square foot, and a 6% cap rate from a global fund manager. The 2.3 million square foot building is 80% leased. There are several smaller non-Premier workplaces currently in the market testing pricing at cap rates of 7% or greater. Regarding BXP's capital market activity in the first quarter, we completed the acquisition of a 50% interest in WorldGate, a residential conversion opportunity located on Worldgate Drive in Herndon, Virginia, near Reston Town Center for $17 million. The property currently consists of two vacant office buildings comprising 350,000 square feet and a 1,200-stall parking garage, all situated on a 10-acre site. The plan, which is subject to receiving entitlements, is to demolish the two office buildings and reuse a portion of the existing garage to support a 349-unit rental and for-sale residential development. The EXP will serve as managing member and developer in partnership with Artemis Real Estate Partners, the current owner of the project. Development is not expected to commence until 2024. Additional new acquisition opportunities will undoubtedly grow in this environment, and we will remain highly opportunistic and solely focused on premier workplaces, life science, and residential development. We added the previously described 290 and 300 Benny Street developments to our active construction pipeline this quarter and now have underway 16 office, lab, retail, and residential projects, as well as View Boston, the observation deck at the Prudential Center. These projects aggregate approximately 4 million square feet and $3.3 billion of BXP investment, with $1.9 billion remaining to be funded and are projected to generate attractive yields upon delivery. We have received recent inquiries about our funding sources and needs, which is understandable in the current market environment. We currently hold elevated levels of liquidity and have access to both the unsecured debt market and private secured mortgage market for select assets, albeit at higher rates and spreads than a year ago. We could also monetize select residential assets and attract JV partners into our lease development pipeline. Our internal discussions on funding strategy are not about whether we are able to access capital, but rather how to best select and sequence our capital raising options to minimize costs and maximize flexibility. Mike will provide more details in his remarks. In summary, despite unconstructive market conditions, BXP had another productive quarter with financial performance above and leasing in line with expectations. BXP is well positioned to weather the current economic slowdown given our position in the premier workplace segment our strong and liquid balance sheet with access to multiple capital sources, our significant development portfolio in progress, and our potential to gain market share in both assets and clients due to the current market dislocation. Lastly, on an organizational matter, John Lang, our Senior Vice President who oversees the LA region, has elected to pursue professional interests outside of BXP. John joined us seven years ago and has been an important contributor to BXP's growth in the LA region. Melissa Cohen, a LA native and former project manager in BXP's New York office, will rejoin BXP as head of development for LA. Alex Cameron, our current head of leasing in LA, and Melissa will be BXP's senior leaders for our LA region. These changes will be effective at the end of June.