Keeping Boston Properties at the Top of Its Game

Winter 2014
Boston Properties CEO Owen Thomas, interviewed by Colliers International Boston CEO Thomas Hughes Jr., shares insights with Development '14 attendees.

Introducing Boston Properties CEO Owen Thomas during a “CEO Insights” session at Development ‘14 in Denver, Thomas Hynes Jr., CEO of Colliers International, Boston, described the firm as “the gold standard” of the office development business. Boston Properties is one of the largest pure-play office REITs in the U.S. as well as one of the nation’s largest developers and owners of Class A office space. Listed on the Standard & Poor’s 500 index, it has a total combined market capitalization of $30.5 billion. Some key takeaways from the session follow: 

On business strategy: Boston Properties has a relatively simple business strategy: it builds or buys the best office product in four of the top seven markets in the U.S. Within each of those four markets — Boston, New York, Washington and San Francisco — it owns and operates properties in both the central business district (CBD) and suburban areas. The company focuses on developing and owning projects for the long term. Although real estate is and always will be a cyclical industry, Thomas said that in those four markets, “in each cycle, the highs get higher and the lows get higher.” Boston Properties owns 1 percent of the Class A office space in the U.S. and 3 to 4 percent of the space in the four markets in which it does business.

On the capital markets: Boston Properties operates in two important markets that drive its returns: the property market and the capital market. “Getting both of these right is key to [our] making money,” said Thomas. “In the capital market, we are in unprecedented territory right now in terms of the low level of interest rates and the duration of those low rates. People have been calling for a rise in interest rates for the last three years, but in the last month [as of late October] they have dropped another 30 basis points. That is the key driver … in the capital markets today.”

On interest rates: Thomas cautioned that predicting the direction of interest rates is a perilous business. As an investor, “you have to have a view of what will happen, but you’d better have a plan for outcomes that you do not expect,” he said. “Our view is that rates will, at some point, go back up, but I don’t think it will happen quickly. There is a forward swap curve and that curve is telling us that the market thinks that 10-year U.S. Treasury rates will be stable at 3 percent for almost the next two years.”

On buying, holding, selling or developing: The question often asked at this stage of the cycle is, does the smart investor buy, hold or sell real estate assets? “We love to buy assets and we have a lot of capital,” asserted Thomas. “But if you look at all of the major markets we are in, there have been three or four CBD transactions where the prices per square foot are in excess of [costs associated with] developing new buildings in those markets. We are building at replacement cost and buildings are trading above replacement cost. The yield range is from 3.5 to 4.5 percent on those buildings.” He added that Boston Properties typically is able to generate yields of around 7 percent when it develops new buildings. “Our view is, why should we buy older buildings when we can build new ones with a much higher yield?” 

Should the company be selling buildings now? “When you look at the history of Boston Properties since 1997,” he said, “the company has done a great job of taking risks in up markets and unloading risk before the market turns. Pre-2007, there was a significant amount of selling, and after 2008, the company made major acquisitions such as the GM [General Motors] Building [in Manhattan] and John Hancock Tower [in Boston]. In the last year and a half, we have been net sellers of real estate. We are taking that capital and reinvesting in new development.”

On flexible leadership: Thomas said that Boston Properties is blessed with a seasoned, entrepreneurial senior management team structured for growth. “We are four regional development companies that are centrally funded and, to some extent, have some centralized services,” explained Thomas. “Each regional head is the CEO of that region. They each have their own property management, leasing, development, legal and construction teams. All of those people report to the regional CEO. To be a real estate developer and investor, you need to be nimble. You cannot go back to headquarters to get everything approved. Each of our regional heads has the autonomy to conduct their business and to be entrepreneurial. The headquarters wants to be helpful wherever we can. But where we get involved is with capital … on an acquisition or a development.”

On playing both offense and defense in leasing space: Thomas observed that almost all of the net absorption of office space in its buildings now comes from creative and energy tenants. As of the beginning of 2014, just 50 percent of its space was leased to law firms and financial companies. But Boston Properties wants to keep these prestigious companies as tenants, even if they are not growing or, in some cases, are shrinking. 

If a major law firm, for example, occupies five floors and has four or five years left on its lease, but only needs four floors, Boston Properties will take back the unneeded floor early and will even offer the firm the capital to redo its remaining space — with a catch. “In return, we want a long-term extension of the lease,” said Thomas. This win-win solution, in which both the tenant and building owner get what they want, is characteristic of Boston Properties’ approach to many of the issues it faces today.