BXP, Inc.

Good day and thank you for standing by. Welcome to Q2 2023 BXP earnings conference call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there'll 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 withdraw your question, please press star 1 1 again. Please be advised that today's conference call is being recorded. I'll now like to hand the conference over to Helen Hahn, Vice President, Investor Relations. Please go ahead.

Good morning and welcome to BXP second 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 investor section of our website at investors.bxp.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 meaning of the Private Security Litigation Reform Act. Although BXP 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 BXC's filings with the SEC. BXC does not undertake the 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 above-expected operating performance in the second quarter, key economic and market trends impacting BXP, BXP's capital allocation activities, and a personnel and organizational announcement. BXP continued to perform in the second quarter, once again demonstrating sentiment in the office industry is worse than what we're experiencing. Our FFO per share was above both market consensus and the midpoint of our own forecast. And once again this quarter, we increased our FFO per share guidance for all of 2023. We completed 938,000 square feet of leasing in the second quarter with a weighted average lease term of eight years, despite continued challenging leasing market conditions. We completed multiple company and asset-specific financings, both elevating our liquidity position and demonstrating BXP's sustained access to the capital markets. U.S. economic growth is challenging to forecast, as there are currently two competing and viable theories predicting very different trajectories. The first theory is that inflation is increasingly under control due to pandemic economic anomalies wearing off and Federal Reserve interest rate hikes. and the economy has and will remain healthy with a strong labor market and continued GDP growth driven by consumption. The second theory is that inflation is already well under control, and the Federal Reserve has been overly aggressive in the magnitude and timing of its interest rate increases, which will create dislocation in sectors of the economy, as has already started to occur with regional banks and commercial real estate, and will result in a recession possibly as soon as later this year. We are obviously hoping for the first outcome, but have prepared BXP for the second by increasing liquidity currently at $3.1 billion, pursuing additional capital-raising opportunities, and being measured in discretionary capital expenditures and new investment activity. Whether or not we have an economic recession, U.S. companies are experiencing a recession in earnings, which for the S&P 500 are predicted to drop over 6% year over year in the second quarter. With lower earnings, companies look to cut costs, including expenditures for space, which is the primary driver of our slower leasing in the first half of 2023 versus last year. Large tech companies, the most significant source of new employment and net absorption of space last cycle, are largely absent from the current leasing markets. In analyzing the market demand for office space, it is important to understand the behavior of underlying users, which, in the broadest sense, are bifurcated into two groups. First, there are knowledge workers who are client and or product facing and execute the core functions of a business where creativity and collaboration are critical to success. And second, support workers who provide services to the core functions of a business in areas such as IT and accounting, where tasks are more repetitive and collaboration less of an imperative. Knowledge workers generally have dedicated workstations and are increasingly in the office as business leaders understand the importance of in-person work for this group and are enforcing firmer in-person work policies. In many cases, companies working remotely are announcing return to office plans. Companies working on a hybrid basis are increasing the number of days expected in the office. Companies are tying year-end evaluations and bonus levels to office attendance. On the other hand, support workers often work in shared workstations with more workers than seats with much less prescriptive office attendance policies. This workforce bifurcation is creating the ever-increasing performance gap between premier workplaces and the balance of the office market. A primary tool companies utilize to increase knowledge worker attendance is to provide modern workspace rich with amenities and an easily commutable location, the definition of a premier workplace. Conversely, support functions are not as commonly located in premier workplace assets. Therefore, remote work and shared workstations puts more pressure on the market for lower quality buildings and secondary locations. The divergent impact of AI on knowledge and support jobs could also continue to widen the building quality performance gap, as AI drives knowledge job growth and automates support processes. We share in our IR materials every quarter CBRE's report on the performance of the premier workplace segment. In the five CBDs where BXP operates, premier workplaces represent approximately 18% of the total space and 10% of the total buildings. At the end of the second quarter, direct vacancy for premier workplaces was 11.6% versus 16.5% for the balance of the market. Also for the second quarter, net absorption for the premier segment was around 800,000 square feet positive versus a negative 2.1 million square feet for the balance of the market. For the last 10 quarters, net absorption for the premier segment was a positive 6.7 million square feet versus a negative 31.9 million square feet for the balance of the market. Rents and rent growth are higher for premier workplaces, and we believe the segment captures most of all gross leasing activity. Including two buildings undergoing renovation, 94% of BXP's CBD space is in buildings rated by CBRE as premier workplaces, which has been important in driving the increasing office attendance statistics in our buildings and is a critical differentiator for BXP in the marketplace. Moving to private real estate capital markets, U.S. transaction volume in the second quarter rose 43% from the first quarter to $9.6 billion. though volume is down 50% versus the second quarter last year. Interestingly, sales volumes for other asset classes is weaker, up less than office in consecutive quarters and down more versus last year. Real estate values have reset down due to higher capital costs and demand challenges in specific sectors, and most sellers continue to be unwilling to accept lower prices, creating a slowdown in transaction activity, common and declining markets. New mortgage financing for office is not available from domestic lenders. Non-U.S. banks will consider financing only for the highest quality leased assets and sponsors and at modest loan-to-values. Completed office sales and recapitalizations invariably involve buildings with long-weighted average lease terms and or seller financing. Given the dearth of transaction activity, office asset pricing is difficult to determine. but there were a small number of relevant data points this past quarter. A fund manager backed by a private equity firm purchased two lab portfolios in the Boston area from a public REIT. Three buildings on Second Avenue and Waltham comprising 329,000 square feet, which are 100% leased for over six years, sold for $266 million, representing pricing of $809 a foot and a 5.8% initial cap rate. Also in the deal, two buildings on Memorial Drive in Cambridgeport comprising 99,000 square feet and vacated for redevelopment sold for $99 million, which was a price of just under $1,000 a square foot. Also located in Santa Clara next to BXP's Peterson Way development site, campus at 3333, sold for 183 million, representing pricing of $742 a square foot and a 6.1% initial cap rate. The building comprises 246,000 square feet, is fully leased on a long-term basis, and was sold by a domestic pension fund to a domestic fund manager. Now, moving to BXP's capital market activity for the second quarter, we are being patient with new investment activity as we believe acquisition opportunities will grow in number and become more attractive in this environment. We will remain opportunistic and solely focused on premier workplaces, life science, and residential development in our six target markets. We are considering additional capital raising through dispositions and joint ventures with our in-service residential assets and select pre-lease developments. This quarter, we placed fully into service 2100 Pennsylvania Avenue, a 476,000 square foot market-leading premier workplace in Washington, D.C. that is 91% leased. In late June, we opened and placed into service View Boston, a three-story observation pavilion atop Prudential Tower, in the back bay of Boston that offers panoramic views of the city as well as an immersive experience showcasing Boston's many neighborhoods and cultural landmarks. BXP has been constructing the first phase of the Platform 16 Premier Workplace Development adjacent to Google's Downtown West project in San Jose. BXP owns a 55% interest in the project, and the first phase includes a 390,000 square foot building, as well as a garage and foundation for all three phases, which in total will comprise 1.1 million square feet. Unfortunately, market conditions in the Silicon Valley, including San Jose, have deteriorated meaningfully, with rising direct vacancy, few large space requirements, and technology companies, including Google, putting significant space in the sublease market. As a result, we've decided to pause construction of the project at grade with completion of the garage and foundation scheduled for year end 2023. So disappointing as market conditions recover, we will have a project that can be delivered to users in under two years, which is 12 to 14 months more quickly than a ground up development. Further, this decision reduces our near term development spend by approximately $200 million, thereby enhancing our liquidity. BXP recently accomplished two important milestones in the pre-development of the 900,000 square foot 343 Madison Premier Workplace in Midtown Manhattan. We completed a joint venture with a leading global real estate investor who will own a 45% interest in the project. Further, the joint venture completed a 99-year ground lease with the Metropolitan Transit Authority for the 343 Madison Avenue site. Under the terms of the lease, the joint venture is required to construct a direct entrance into the Long Island Railroad's east side access project known as Grand Central Madison. The joint venture can terminate the ground lease and be reimbursed for its costs in constructing the access to Grand Central Madison. With direct access to transit in the relatively tight Grand Central submarket, 343 Madison is a unique offering and preliminary discussions with potential anchor clients have been constructive. BXP continues to execute a significant development pipeline with 13 office, lab, retail, and residential projects underway. These projects aggregate approximately 3.1 million square feet and $2.6 billion of BXP investment, with $1.6 billion remaining to be funded and are projected to generate attractive yields upon delivery. On a personnel matter, after a 25-year distinguished career running BXP San Francisco Region, Bob Peister has elected to retire early next year. We have asked Rod Diehl, who currently runs leasing in BXP San Francisco Region, to succeed Bob. Rod, an 18-year BXP veteran, is an accomplished leader with a strong track record of commercial success with BXP's clients. With this change, we are also adjusting our organizational structure. BXP has and will continue to execute its business in three regions on the West Coast. However, given that LA and Seattle are relatively new regions for BXP and currently underscaled, we will manage these three regions with a unified organizational structure under ROD, sharing resources across the regions to the benefit of BXP's clients and shareholders. Alex Cameron and Melissa Cohen will continue to be our senior representatives in the LA region, and Kelly Lubschen, our senior representative in the Seattle region. So in summary, despite strong negative market sentiment, BXP had another productive quarter with financial performance and leasing above expectations and a stable dividend. BXP is well positioned to weather the current economic slowdown given our leadership position in the premier workplace market segment. our strong and liquid balance sheet with access to multiple capital sources, our significant development pipeline providing growth, and our potential to gain market share in both assets and clients due to the current market dislocation. Let me turn it over to Doug. Thanks, Owen.