UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
x | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the Quarterly Period Ended March 31, 2015
¨ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission File Number: 1-13087
BOSTON PROPERTIES, INC.
(Exact name of Registrant as specified in its charter)
Delaware | 04-2473675 | |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) |
Prudential Center, 800 Boylston Street, Suite 1900, Boston, Massachusetts 02199-8103
(Address of principal executive offices) (Zip Code)
(617) 236-3300
(Registrants telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of large accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act.
Large accelerated filer x | Accelerated filer ¨ | |
Non-accelerated filer ¨ (Do not check if a smaller reporting company) | Smaller reporting company ¨ |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x
Indicate the number of shares outstanding of each of the issuers classes of common stock, as of the latest practicable date.
Common Stock, par value $0.01 per share | 153,407,015 | |
(Class) | (Outstanding on May 4, 2015) |
BOSTON PROPERTIES, INC.
FORM 10-Q
for the quarter ended March 31, 2015
Page | ||||||
PART I. FINANCIAL INFORMATION |
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ITEM 1. |
1 | |||||
a) Consolidated Balance Sheets as of March 31, 2015 and December 31, 2014 |
1 | |||||
b) Consolidated Statements of Operations for the three months ended March 31, 2015 and 2014 |
2 | |||||
3 | ||||||
4 | ||||||
e) Consolidated Statements of Cash Flows for the three months ended March 31, 2015 and 2014 |
5 | |||||
7 | ||||||
ITEM 2. |
Managements Discussion and Analysis of Financial Condition and Results of Operations | 25 | ||||
ITEM 3. |
Quantitative and Qualitative Disclosures about Market Risk | 61 | ||||
ITEM 4. |
Controls and Procedures | 62 | ||||
PART II. OTHER INFORMATION |
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ITEM 1. |
Legal Proceedings | 63 | ||||
ITEM 1A. |
Risk Factors | 63 | ||||
ITEM 2. |
Unregistered Sales of Equity Securities and Use of Proceeds | 63 | ||||
ITEM 3. |
Defaults Upon Senior Securities | 63 | ||||
ITEM 4. |
Mine Safety Disclosures | 63 | ||||
ITEM 5. |
Other Information | 64 | ||||
ITEM 6. |
Exhibits | 64 | ||||
65 |
PART I. FINANCIAL INFORMATION
ITEM 1Financial | Statements. |
BOSTON PROPERTIES, INC.
(Unaudited )
March 31, 2015 |
December 31, 2014 |
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(in thousands, except for share and par value amounts) |
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ASSETS | ||||||||
Real estate, at cost |
$ | 18,153,816 | $ | 18,231,978 | ||||
Construction in progress |
797,148 | 736,311 | ||||||
Land held for future development |
271,327 | 268,114 | ||||||
Less: accumulated depreciation |
(3,646,853 | ) | (3,547,659 | ) | ||||
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Total real estate |
15,575,438 | 15,688,744 | ||||||
Cash and cash equivalents |
1,064,396 | 1,763,079 | ||||||
Cash held in escrows |
588,218 | 487,321 | ||||||
Investments in securities |
20,736 | 19,459 | ||||||
Tenant and other receivables (net of allowance for doubtful accounts of $1,099 and $1,142, respectively) |
47,768 | 46,595 | ||||||
Accrued rental income (net of allowance of $1,126 and $1,499, respectively) |
713,874 | 691,999 | ||||||
Deferred charges, net |
806,468 | 831,744 | ||||||
Prepaid expenses and other assets |
165,985 | 164,432 | ||||||
Investments in unconsolidated joint ventures |
196,188 | 193,394 | ||||||
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Total assets |
$ | 19,179,071 | $ | 19,886,767 | ||||
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LIABILITIES AND EQUITY | ||||||||
Liabilities: |
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Mortgage notes payable |
$ | 4,289,120 | $ | 4,309,484 | ||||
Unsecured senior notes (net of discount of $11,899 and $12,296, respectively) |
5,288,101 | 5,287,704 | ||||||
Unsecured line of credit |
| | ||||||
Mezzanine notes payable |
309,475 | 309,796 | ||||||
Outside members notes payable |
180,000 | 180,000 | ||||||
Accounts payable and accrued expenses |
224,086 | 243,263 | ||||||
Dividends and distributions payable |
112,796 | 882,472 | ||||||
Accrued interest payable |
186,630 | 163,532 | ||||||
Other liabilities |
483,762 | 502,255 | ||||||
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Total liabilities |
11,073,970 | 11,878,506 | ||||||
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Commitments and contingencies |
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Noncontrolling interests: |
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Redeemable preferred units of the Operating Partnership |
633 | 633 | ||||||
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Redeemable interest in property partnership |
105,520 | 104,692 | ||||||
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Equity: |
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Stockholders equity attributable to Boston Properties, Inc.: |
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Excess stock, $.01 par value, 150,000,000 shares authorized, none issued or outstanding |
| | ||||||
Preferred stock, $.01 par value, 50,000,000 shares authorized; |
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5.25% Series B cumulative redeemable preferred stock, $.01 par value, liquidation preference $2,500 per share, 92,000 shares authorized, 80,000 shares issued and outstanding at March 31, 2015 and December 31, 2014 |
200,000 | 200,000 | ||||||
Common stock, $.01 par value, 250,000,000 shares authorized, 153,481,007 and 153,192,845 issued and 153,402,107 and 153,113,945 outstanding at March 31, 2015 and December 31, 2014, respectively |
1,534 | 1,531 | ||||||
Additional paid-in capital |
6,286,260 | 6,270,257 | ||||||
Dividends in excess of earnings |
(690,993 | ) | (762,464 | ) | ||||
Treasury common stock at cost, 78,900 shares at March 31, 2015 and December 31, 2014 |
(2,722 | ) | (2,722 | ) | ||||
Accumulated other comprehensive loss |
(11,907 | ) | (9,304 | ) | ||||
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Total stockholders equity attributable to Boston Properties, Inc. |
5,782,172 | 5,697,298 | ||||||
Noncontrolling interests: |
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Common units of the Operating Partnership |
617,274 | 603,171 | ||||||
Property partnerships |
1,599,502 | 1,602,467 | ||||||
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Total equity |
7,998,948 | 7,902,936 | ||||||
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Total liabilities and equity |
$ | 19,179,071 | $ | 19,886,767 | ||||
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The accompanying notes are an integral part of these consolidated financial statements.
1
BOSTON PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three months ended March 31, |
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2015 | 2014 | |||||||
(in thousands, except for per share amounts) |
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Revenue |
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Rental |
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Base rent |
$ | 490,682 | $ | 455,018 | ||||
Recoveries from tenants |
88,593 | 81,934 | ||||||
Parking and other |
24,788 | 24,333 | ||||||
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Total rental revenue |
604,063 | 561,285 | ||||||
Hotel revenue |
9,085 | 8,193 | ||||||
Development and management services |
5,328 | 5,216 | ||||||
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Total revenue |
618,476 | 574,694 | ||||||
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Expenses |
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Operating |
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Rental |
221,350 | 206,388 | ||||||
Hotel |
7,576 | 6,797 | ||||||
General and administrative |
28,791 | 29,905 | ||||||
Transaction costs |
327 | 437 | ||||||
Depreciation and amortization |
154,223 | 154,270 | ||||||
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Total expenses |
412,267 | 397,797 | ||||||
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Operating income |
206,209 | 176,897 | ||||||
Other income (expense) |
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Income from unconsolidated joint ventures |
14,834 | 2,816 | ||||||
Interest and other income |
1,407 | 1,311 | ||||||
Gains from investments in securities |
393 | 286 | ||||||
Interest expense |
(108,757 | ) | (113,554 | ) | ||||
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Income before gains on sales of real estate |
114,086 | 67,756 | ||||||
Gains on sales of real estate |
95,084 | | ||||||
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Net income |
209,170 | 67,756 | ||||||
Net income attributable to noncontrolling interests |
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Noncontrolling interests in property partnerships |
(15,208 | ) | (4,354 | ) | ||||
Noncontrolling interestredeemable preferred units of the Operating Partnership |
(3 | ) | (619 | ) | ||||
Noncontrolling interestcommon units of the Operating Partnership |
(20,188 | ) | (6,160 | ) | ||||
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Net income attributable to Boston Properties, Inc. |
173,771 | 56,623 | ||||||
Preferred dividends |
(2,589 | ) | (2,589 | ) | ||||
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Net income attributable to Boston Properties, Inc. common shareholders |
$ | 171,182 | $ | 54,034 | ||||
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Basic earnings per common share attributable to Boston Properties, Inc. common shareholders: |
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Net income |
$ | 1.12 | $ | 0.35 | ||||
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Weighted average number of common shares outstanding |
153,230 | 153,030 | ||||||
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Diluted earnings per common share attributable to Boston Properties, Inc. common shareholders: |
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Net income |
$ | 1.11 | $ | 0.35 | ||||
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Weighted average number of common and common equivalent shares outstanding |
153,873 | 153,169 | ||||||
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The accompanying notes are an integral part of these consolidated financial statements.
2
BOSTON PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
Three months ended March 31, |
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2015 | 2014 | |||||||
(in thousands) | ||||||||
Net income |
$ | 209,170 | $ | 67,756 | ||||
Other comprehensive income (loss): |
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Effective portion of interest rate contracts |
(3,533 | ) | | |||||
Amortization of interest rate contracts(1) |
627 | 629 | ||||||
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Other comprehensive income (loss) |
(2,906 | ) | 629 | |||||
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Comprehensive income |
206,264 | 68,385 | ||||||
Net income attributable to noncontrolling interests |
(35,399 | ) | (11,133 | ) | ||||
Other comprehensive income (loss) attributable to noncontrolling interests |
303 | (62 | ) | |||||
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Comprehensive income attributable to Boston Properties, Inc. |
$ | 171,168 | $ | 57,190 | ||||
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(1) | Amounts reclassified from comprehensive income primarily to interest expense within the Companys Consolidated Statements of Operations. |
The accompanying notes are an integral part of these consolidated financial statements.
3
BOSTON PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY
(Unaudited and in thousands)
Common Stock |
Preferred Stock |
Additional Paid-in Capital |
Dividends
in Excess of Earnings |
Treasury Stock, at cost |
Accumulated Other Comprehensive Loss |
Noncontrolling Interests |
Total | |||||||||||||||||||||||||||||
Shares | Amount | |||||||||||||||||||||||||||||||||||
Equity, December 31, 2014 |
153,114 | $ | 1,531 | $ | 200,000 | $ | 6,270,257 | $ | (762,464 | ) | $ | (2,722 | ) | $ | (9,304 | ) | $ | 2,205,638 | $ | 7,902,936 | ||||||||||||||||
Redemption of operating partnership units to common stock |
259 | 3 | | 8,686 | | | | (8,689 | ) | | ||||||||||||||||||||||||||
Allocated net income for the year |
| | | | 173,771 | | | 33,168 | 206,939 | |||||||||||||||||||||||||||
Dividends/distributions declared |
| | | | (102,300 | ) | | | (11,705 | ) | (114,005 | ) | ||||||||||||||||||||||||
Shares issued pursuant to stock purchase plan |
2 | | | 313 | | | | | 313 | |||||||||||||||||||||||||||
Net activity from stock option and incentive plan |
27 | | | 1,842 | | | | 19,774 | 21,616 | |||||||||||||||||||||||||||
Contributions from noncontrolling interests in property partnerships |
| | | | | | | 629 | 629 | |||||||||||||||||||||||||||
Distributions to noncontrolling interests in property partnerships |
| | | | | | | (16,574 | ) | (16,574 | ) | |||||||||||||||||||||||||
Effective portion of interest rate contracts |
| | | | | | (3,165 | ) | (368 | ) | (3,533 | ) | ||||||||||||||||||||||||
Amortization of interest rate contracts |
| | | | | | 562 | 65 | 627 | |||||||||||||||||||||||||||
Reallocation of noncontrolling interest |
| | | 5,162 | | | | (5,162 | ) | | ||||||||||||||||||||||||||
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Equity, March 31, 2015 |
153,402 | $ | 1,534 | $ | 200,000 | $ | 6,286,260 | $ | (690,993 | ) | $ | (2,722 | ) | $ | (11,907 | ) | $ | 2,216,776 | $ | 7,998,948 | ||||||||||||||||
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Equity, December 31, 2013 |
152,983 | $ | 1,530 | $ | 200,000 | $ | 5,662,453 | $ | (108,552 | ) | $ | (2,722 | ) | $ | (11,556 | ) | $ | 1,302,465 | $ | 7,043,618 | ||||||||||||||||
Redemption of operating partnership units to common stock |
18 | | | 627 | | | | (627 | ) | | ||||||||||||||||||||||||||
Allocated net income for the year |
| | | | 56,623 | | | 8,746 | 65,369 | |||||||||||||||||||||||||||
Dividends/distributions declared |
| | | | (102,050 | ) | | | (11,218 | ) | (113,268 | ) | ||||||||||||||||||||||||
Shares issued pursuant to stock purchase plan |
4 | | | 357 | | | | | 357 | |||||||||||||||||||||||||||
Net activity from stock option and incentive plan |
12 | | | 704 | | | | 8,760 | 9,464 | |||||||||||||||||||||||||||
Contributions from noncontrolling interests in property partnerships |
| | | | | | | 468 | 468 | |||||||||||||||||||||||||||
Distributions to noncontrolling interests in property partnerships |
| | | | | | | (4,093 | ) | (4,093 | ) | |||||||||||||||||||||||||
Amortization of interest rate contracts |
| | | | | | 567 | 62 | 629 | |||||||||||||||||||||||||||
Reallocation of noncontrolling interest |
| | | 4,089 | | | | (4,089 | ) | | ||||||||||||||||||||||||||
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Equity, March 31, 2014 |
153,017 | $ | 1,530 | $ | 200,000 | $ | 5,668,230 | $ | (153,979 | ) | $ | (2,722 | ) | $ | (10,989 | ) | $ | 1,300,474 | $ | 7,002,544 | ||||||||||||||||
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The accompanying notes are an integral part of these consolidated financial statements.
4
BOSTON PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
For the three months ended March 31, |
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2015 | 2014 | |||||||
(in thousands) | ||||||||
Cash flows from operating activities: |
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Net income |
$ | 209,170 | $ | 67,756 | ||||
Adjustments to reconcile net income to net cash provided by operating activities: |
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Depreciation and amortization |
154,223 | 154,270 | ||||||
Non-cash compensation expense |
11,011 | 10,380 | ||||||
Income from unconsolidated joint ventures |
(14,834 | ) | (2,816 | ) | ||||
Distributions of net cash flow from operations of unconsolidated joint ventures |
1,350 | 1,431 | ||||||
Gains from investments in securities |
(393 | ) | (286 | ) | ||||
Non-cash portion of interest expense |
(10,884 | ) | (7,676 | ) | ||||
Settlement of accreted debt discount on repurchases of unsecured exchangeable senior notes |
| (92,979 | ) | |||||
Gains on sales of real estate |
(95,084 | ) | | |||||
Change in assets and liabilities: |
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Cash held in escrows |
1,044 | 2,961 | ||||||
Tenant and other receivables, net |
(1,173 | ) | 21,652 | |||||
Accrued rental income, net |
(23,250 | ) | (10,127 | ) | ||||
Prepaid expenses and other assets |
3,447 | 5,989 | ||||||
Accounts payable and accrued expenses |
(5,535 | ) | 1,288 | |||||
Accrued interest payable |
23,098 | 11,128 | ||||||
Other liabilities |
(23,136 | ) | (22,197 | ) | ||||
Tenant leasing costs |
(27,608 | ) | (16,565 | ) | ||||
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Total adjustments |
(7,724 | ) | 56,453 | |||||
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Net cash provided by operating activities |
201,446 | 124,209 | ||||||
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Cash flows from investing activities: |
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Construction in progress |
(60,013 | ) | (97,025 | ) | ||||
Building and other capital improvements |
(19,391 | ) | (17,510 | ) | ||||
Tenant improvements |
(26,950 | ) | (31,551 | ) | ||||
Proceeds from sales of real estate |
194,821 | | ||||||
Proceeds from sales of real estate placed in escrow |
(201,857 | ) | | |||||
Proceeds from sales of real estate released from escrow |
99,916 | | ||||||
Deposit on real estate |
(5,000 | ) | | |||||
Capital contributions to unconsolidated joint ventures |
(2,444 | ) | | |||||
Capital distributions from unconsolidated joint ventures |
24,527 | 113 | ||||||
Investments in securities, net |
(884 | ) | (1,099 | ) | ||||
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Net cash provided by (used in) investing activities |
2,725 | (147,072 | ) | |||||
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5
BOSTON PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
For the three months ended March 31, |
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2015 | 2014 | |||||||
(in thousands) | ||||||||
Cash flows from financing activities: |
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Repayments of mortgage notes payable |
(7,024 | ) | (6,630 | ) | ||||
Repayment of unsecured exchangeable senior notes |
| (654,521 | ) | |||||
Proceeds from real estate financing transaction |
6,000 | | ||||||
Payments on real estate financing transaction |
(636 | ) | | |||||
Deferred financing costs |
(20 | ) | (18 | ) | ||||
Net proceeds from equity transactions |
(145 | ) | (527 | ) | ||||
Dividends and distributions |
(883,684 | ) | (496,330 | ) | ||||
Contributions from noncontrolling interests in property partnerships |
629 | 468 | ||||||
Distributions to noncontrolling interests in property partnerships |
(17,974 | ) | (5,143 | ) | ||||
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Net cash used in financing activities |
(902,854 | ) | (1,162,701 | ) | ||||
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Net decrease in cash and cash equivalents |
(698,683 | ) | (1,185,564 | ) | ||||
Cash and cash equivalents, beginning of period |
1,763,079 | 2,365,137 | ||||||
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Cash and cash equivalents, end of period |
$ | 1,064,396 | $ | 1,179,573 | ||||
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Supplemental disclosures: |
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Cash paid for interest |
$ | 104,508 | $ | 220,790 | ||||
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Interest capitalized |
$ | 7,965 | $ | 17,709 | ||||
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Non-cash investing and financing activities: |
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Additions to real estate included in accounts payable and accrued expenses |
$ | 9,243 | $ | 9,393 | ||||
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Dividends and distributions declared but not paid |
$ | 112,796 | $ | 114,799 | ||||
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Conversions of noncontrolling interests to stockholders equity |
$ | 8,689 | $ | 627 | ||||
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Issuance of restricted securities to employees |
$ | 42,279 | $ | 26,534 | ||||
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The accompanying notes are an integral part of these consolidated financial statements.
6
BOSTON PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
1. Organization
Boston Properties, Inc. (the Company), a Delaware corporation, is a self-administered and self-managed real estate investment trust (REIT). The Company is the sole general partner of Boston Properties Limited Partnership (the Operating Partnership) and at March 31, 2015 and December 31, 2014 owned an approximate 89.5% general and limited partnership interest in the Operating Partnership. Partnership interests in the Operating Partnership are denominated as common units of partnership interest (also referred to as OP Units), long term incentive units of partnership interest (also referred to as LTIP Units) or preferred units of partnership interest (also referred to as Preferred Units). In addition, in February 2012, the Company issued LTIP Units in connection with the granting to employees of outperformance awards (also referred to as 2012 OPP Units). On February 6, 2015, the measurement period for the Companys 2012 OPP Unit awards expired and the Companys total return to shareholders (TRS) was sufficient for employees to earn and therefore become eligible to vest in a portion of the 2012 OPP Unit awards (See Notes 7 and 10). In February 2013, February 2014 and February 2015, the Company issued LTIP Units in connection with the granting to employees of multi-year, long-term incentive program (MYLTIP) awards (also referred to as 2013 MYLTIP Units, 2014 MYLTIP Units and 2015 MYLTIP Units, respectively, and collectively as MYLTIP Units). Because the rights, preferences and privileges of OPP Units and MYLTIP Units differ from other LTIP Units granted to employees as part of the annual compensation process, unless specifically noted otherwise, all references to LTIP Units exclude OPP Units and MYLTIP Units (See Notes 7 and 10).
Unless specifically noted otherwise, all references to OP Units exclude units held by the Company. A holder of an OP Unit may present such OP Unit to the Operating Partnership for redemption at any time (subject to restrictions agreed upon at the time of issuance of OP Units to particular holders that may restrict such redemption right for a period of time, generally one year from issuance). Upon presentation of an OP Unit for redemption, the Operating Partnership is obligated to redeem such OP Unit for cash equal to the value of a share of common stock of the Company (Common Stock) at such time. In lieu of a cash redemption, the Company may elect to acquire such OP Unit for one share of Common Stock. Because the number of shares of Common Stock outstanding at all times equals the number of OP Units that the Company owns, one share of Common Stock is generally the economic equivalent of one OP Unit, and the quarterly distribution that may be paid to the holder of an OP Unit equals the quarterly dividend that may be paid to the holder of a share of Common Stock. An LTIP Unit is generally the economic equivalent of a share of restricted common stock of the Company. LTIP Units, whether vested or not, will receive the same quarterly per unit distributions as OP Units, which equal per share dividends on Common Stock (See Note 8).
At March 31, 2015, there were two series of Preferred Units outstanding (i.e., Series Four Preferred Units and Series B Preferred Units).
| The 12,667 Series Four Preferred Units are not convertible into or exchangeable for any security of the Operating Partnership or the Company, have a per unit liquidation preference of $50.00 and are entitled to receive quarterly distributions of $0.25 per unit (or an annual rate of 2.00%) (See Note 7). |
| The Series B Preferred Units were issued to the Company on March 27, 2013 in connection with the Companys issuance of 80,000 shares (8,000,000 depositary shares each representing 1/100th of a share) of 5.25% Series B Cumulative Redeemable Preferred Stock (the Series B Preferred Stock). The Company contributed the net proceeds from the offering to the Operating Partnership in exchange for 80,000 Series B Preferred Units having terms and preferences generally mirroring those of the Series B Preferred Stock (See Note 8). |
All references herein to the Company refer to Boston Properties, Inc. and its consolidated subsidiaries, including the Operating Partnership, collectively, unless the context otherwise requires.
7
Properties
At March 31, 2015, the Company owned or had interests in a portfolio of 168 commercial real estate properties (the Properties) aggregating approximately 45.5 million net rentable square feet, including ten properties under construction totaling approximately 3.3 million net rentable square feet. In addition, the Company has structured parking for approximately 43,341 vehicles containing approximately 14.7 million square feet. At March 31, 2015, the Properties consisted of:
| 160 office properties, including 129 Class A office properties (including nine properties under construction) and 31 Office/Technical properties; |
| one hotel; |
| five retail properties (including one property under construction); and |
| two residential properties. |
The Company owns or controls undeveloped land parcels totaling approximately 483.1 acres.
The Company considers Class A office properties to be centrally located buildings that are professionally managed and maintained, attract high-quality tenants and command upper-tier rental rates, and that are modern structures or have been modernized to compete with newer buildings. The Company considers Office/Technical properties to be properties that support office, research and development, laboratory and other technical uses. The Companys definitions of Class A Office and Office/Technical properties may be different than those used by other companies.
2. Basis of Presentation and Summary of Significant Accounting Policies
Boston Properties, Inc. does not have any other significant assets, liabilities or operations, other than its investment in the Operating Partnership, nor does it have employees of its own. The Operating Partnership, not Boston Properties, Inc., generally executes all significant business relationships other than transactions involving securities of Boston Properties, Inc. All majority-owned subsidiaries and joint ventures over which the Company has financial and operating control and variable interest entities (VIEs) in which the Company has determined it is the primary beneficiary are included in the consolidated financial statements. All significant intercompany balances and transactions have been eliminated in consolidation. The Company accounts for all other unconsolidated joint ventures using the equity method of accounting. Accordingly, the Companys share of the earnings of these joint ventures and companies is included in consolidated net income.
The accompanying interim financial statements are unaudited; however, the financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and in conjunction with the rules and regulations of the Securities and Exchange Commission. Accordingly, they do not include all of the disclosures required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments (consisting solely of normal recurring matters) necessary for a fair statement of the financial statements for these interim periods have been included. The results of operations for the interim periods are not necessarily indicative of the results to be obtained for other interim periods or for the full fiscal year. The year-end consolidated balance sheet data was derived from audited financial statements, but does not include all disclosure required by accounting principles generally accepted in the United States of America. These financial statements should be read in conjunction with the Companys financial statements and notes thereto contained in the Companys Annual Report in the Companys Form 10-K for its fiscal year ended December 31, 2014.
Fair Value of Financial Instruments
The Company follows the authoritative guidance for fair value measurements when valuing its financial instruments for disclosure purposes. The Company determines the fair value of its unsecured senior notes using market prices. The inputs used in determining the fair value of the Companys unsecured senior notes are categorized at a level 1 basis (as defined in the accounting standards for Fair Value Measurements and Disclosures) due to the fact that the Company uses quoted market rates to value these instruments. However, the
8
inputs used in determining the fair value could be categorized at a level 2 basis (as defined in the accounting standards for Fair Value Measurements and Disclosures) if trading volumes are low. The Company determines the fair value of its mortgage notes payable using discounted cash flow analyses by discounting the spread between the future contractual interest payments and hypothetical future interest payments on mortgage debt based on current market rates for similar securities. In determining the current market rates, the Company adds its estimates of market spreads to the quoted yields on federal government treasury securities with similar maturity dates to its debt. The inputs used in determining the fair value of the Companys mortgage notes payable and mezzanine notes payable are categorized at a level 3 basis (as defined in the accounting standards for Fair Value Measurements and Disclosures) due to the fact that the Company considers the rates used in the valuation techniques to be unobservable inputs.
Because the Companys valuations of its financial instruments are based on these types of estimates, the actual fair values of its financial instruments may differ materially if the Companys estimates do not prove to be accurate. The following table presents the aggregate carrying value of the Companys indebtedness and the Companys corresponding estimate of fair value as of March 31, 2015 and December 31, 2014 (in thousands):
March 31, 2015 | December 31, 2014 | |||||||||||||||
Carrying Amount |
Estimated Fair Value |
Carrying Amount |
Estimated Fair Value |
|||||||||||||
Mortgage notes payable |
$ | 4,289,120 | $ | 4,428,519 | $ | 4,309,484 | $ | 4,449,541 | ||||||||
Mezzanine notes payable |
309,475 | 306,143 | 309,796 | 306,156 | ||||||||||||
Unsecured senior notes |
5,288,101 | 5,749,666 | 5,287,704 | 5,645,819 | ||||||||||||
|
|
|
|
|
|
|
|
|||||||||
Total |
$ | 9,886,696 | $ | 10,484,328 | $ | 9,906,984 | $ | 10,401,516 | ||||||||
|
|
|
|
|
|
|
|
The Company uses interest rate swap agreements to manage its interest rate risk. The valuation of these instruments is determined using widely accepted valuation techniques including discounted cash flow analysis on the expected cash flows of each derivative. This analysis reflects the contractual terms of the derivatives, including the period to maturity, and uses observable market-based inputs, including interest rate curves. The Company incorporates credit valuation adjustments to appropriately reflect both its own nonperformance risk and the respective counterpartys nonperformance risk in the fair value measurements. Although the Company has determined that the majority of the inputs used to value its derivatives fall within Level 2 of the fair value hierarchy, the credit valuation adjustments associated with its derivatives utilize Level 3 inputs, such as estimates of current credit spreads to evaluate the likelihood of default by the Company and its counterparties. However, as of March 31, 2015, the Company has assessed the significance of the impact of the credit valuation adjustments on the overall valuation of its derivative positions and has determined that the credit valuation adjustments are not significant to the overall valuation of its derivatives. As a result, the Company has determined that its derivative valuations in their entirety are classified in Level 2 of the fair value hierarchy.
Recent Accounting Pronouncements
On April 10, 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2014-08, Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity (ASU 2014-08). ASU 2014-08 clarifies that discontinued operations presentation applies only to disposals representing a strategic shift that has (or will have) a major effect on an entitys operations and financial results (e.g., a disposal of a major geographical area, a major line of business, a major equity method investment or other major parts of an entity). ASU 2014-08 is effective prospectively for reporting periods beginning after December 15, 2014. Early adoption is permitted, and the Company early adopted ASU 2014-08 during the first quarter of 2014. The Companys adoption of ASU 2014-08 resulted in the operating results and gain on sale of real estate from the operating property sold during the three months ended March 31, 2015 not being reflected as Discontinued Operations in the Companys Consolidated Statements of Operations (See Note 3).
In February 2015, the FASB issued ASU 2015-02, Consolidation (Topic 810): Amendments to the Consolidation Analysis (ASU 2015-02). ASU 2015-02 affects reporting entities that are required to evaluate
9
whether they should consolidate certain legal entities. ASU 2015-02 modifies the evaluation of whether limited partnerships and similar legal entities are VIEs or voting interest entities, eliminates the presumption that a general partner should consolidate a limited partnership and affects the consolidation analysis of reporting entities that are involved with VIEs, particularly those that have fee arrangements and related party relationships. ASU 2015-02 is effective for fiscal years, and for interim periods within those fiscal years, beginning after December 15, 2015. Early adoption is permitted. A reporting entity may apply the amendments in ASU 2015-02 using: (a) a modified retrospective approach by recording a cumulative-effect adjustment to equity as of the beginning of the fiscal year of adoption; or (b) by applying the amendments retrospectively. The Company is currently assessing the potential impact that the adoption of ASU 2015-02 will have on its consolidated financial statements.
In April 2015, the FASB issued ASU 2015-03, Simplifying the Presentation of Debt Issuance Costs (ASU 2015-03), which requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The recognition and measurement guidance for debt issuance costs is not affected. ASU 2015-03 is effective for financial statements issued for fiscal years beginning after December 15, 2015, and interim periods within those fiscal years and shall be applied on a retrospective basis, wherein the balance sheet of each individual period presented should be adjusted to reflect the period-specific effects of applying the new guidance. Early adoption is permitted for financial statements that have not been previously issued. The Company does not expect the adoption of ASU 2015-03 to have a material impact on its consolidated financial statements.
3. Real Estate Activity During the Three Months Ended March 31, 2015
Dispositions
On February 19, 2015, the Company completed the sale of a parcel of land within its Washingtonian North property located in Gaithersburg, Maryland for a gross sale price of $8.7 million. Net cash proceeds totaled approximately $8.3 million, resulting in a gain on sale of real estate totaling approximately $3.7 million. The parcel contains approximately 8.5 acres of the approximately 27 acre property.
On March 17, 2015, the Company completed the sale of its Residences on The Avenue property located in Washington, DC for a gross sale price of $196.0 million. Net cash proceeds totaled approximately $192.5 million, resulting in a gain on sale of real estate totaling approximately $91.4 million. The Company has agreed to provide net operating income support of up to $6.0 million should the propertys net operating income fail to achieve certain thresholds, which has been recorded as a reduction to the gain on sale. The Residences on The Avenue is comprised of 335 apartment units and approximately 50,000 net rentable square feet of retail space, subject to a ground lease that expires on February 1, 2068. The Residences on The Avenue contributed approximately $1.1 million and $0.8 million of net income to the Company for the period from January 1, 2015 through March 16, 2015 and for the three months ended March 31, 2014, respectively.
10
4. Investments in Unconsolidated Joint Ventures
The investments in unconsolidated joint ventures consist of the following at March 31, 2015:
Entity |
Properties |
Nominal
% Ownership |
Carrying Value of Investment(1) |
|||||||
(in thousands) | ||||||||||
Square 407 Limited Partnership |
Market Square North | 50.0 | % | $ | (7,345 | ) | ||||
The Metropolitan Square Associates LLC |
Metropolitan Square | 51.0 | % | 8,850 | ||||||
BP/CRF 901 New York Avenue LLC |
901 New York Avenue | 25.0 | %(2) | (12,907 | ) | |||||
WP Project Developer LLC |
Wisconsin Place Land and Infrastructure | 33.3 | %(3) | 45,283 | ||||||
Annapolis Junction NFM, LLC |
Annapolis Junction | 50.0 | %(4) | 25,935 | ||||||
540 Madison Venture LLC |
540 Madison Avenue | 60.0 | % | 67,809 | ||||||
500 North Capitol LLC |
500 North Capitol Street, NW | 30.0 | % | (2,493 | ) | |||||
501 K Street LLC |
1001 6th Street | 50.0 | %(5) | 42,735 | ||||||
Podium Developer LLC |
North Station (Phase IAir Rights) | 50.0 | % | 5,576 | ||||||
|
|
|||||||||
$ | 173,443 | |||||||||
|
|
(1) | Investments with deficit balances aggregating approximately $22.7 million have been reflected within Other Liabilities on the Companys Consolidated Balance Sheets. |
(2) | The Companys economic ownership has increased based on the achievement of certain return thresholds. |
(3) | The Companys wholly-owned entity that owns the office component of the project also owns a 33.3% interest in the entity owning the land, parking garage and infrastructure of the project. |
(4) | The joint venture owns two in-service buildings, two buildings under construction and two undeveloped land parcels. |
(5) | Under the joint venture agreement, the partner will be entitled to up to two additional payments from the venture based on increases in total square footage of the project above 520,000 square feet and achieving certain project returns at stabilization. |
Certain of the Companys unconsolidated joint venture agreements include provisions whereby, at certain specified times, each partner has the right to initiate a purchase or sale of its interest in the joint ventures at an agreed upon fair value. Under these provisions, the Company is not compelled to purchase the interest of its outside joint venture partners.
The combined summarized balance sheets of the Companys unconsolidated joint ventures are as follows:
March 31, 2015 |
December 31, 2014 |
|||||||
(in thousands) | ||||||||
ASSETS | ||||||||
Real estate and development in process, net |
$ | 1,036,221 | $ | 1,034,552 | ||||
Other assets |
224,398 | 264,097 | ||||||
|
|
|
|
|||||
Total assets |
$ | 1,260,619 | $ | 1,298,649 | ||||
|
|
|
|
|||||
LIABILITIES AND MEMBERS/PARTNERS EQUITY | ||||||||
Mortgage and notes payable |
$ | 831,039 | $ | 830,075 | ||||
Other liabilities |
38,500 | 34,211 | ||||||
Members/Partners equity |
391,080 | 434,363 | ||||||
|
|
|
|
|||||
Total liabilities and members/partners equity |
$ | 1,260,619 | $ | 1,298,649 | ||||
|
|
|
|
|||||
Companys share of equity |
$ | 201,037 | $ | 209,828 | ||||
Basis differentials (1) |
(27,594 | ) | (27,786 | ) | ||||
|
|
|
|
|||||
Carrying value of the Companys investments in unconsolidated joint ventures (2) |
$ | 173,443 | $ | 182,042 | ||||
|
|
|
|
(1) | This amount represents the aggregate difference between the Companys historical cost basis and the basis reflected at the joint venture level, which is typically amortized over the life of the related assets and liabilities. Basis differentials occur from impairment of investments and upon the transfer of assets that were |
11
previously owned by the Company into a joint venture. In addition, certain acquisition, transaction and other costs may not be reflected in the net assets at the joint venture level. |
(2) | Investments with deficit balances aggregating approximately $22.7 million and $11.4 million at March 31, 2015 and December 31, 2014, respectively, have been reflected within Other Liabilities on the Companys Consolidated Balance Sheets. |
The combined summarized statements of operations of the Companys unconsolidated joint ventures are as follows:
For the three months ended March 31, |
||||||||
2015 | 2014 | |||||||
(in thousands) | ||||||||
Total revenue (1) |
$ | 39,532 | $ | 38,034 | ||||
Expenses |
||||||||
Operating |
16,275 | 15,464 | ||||||
Depreciation and amortization |
9,071 | 9,092 | ||||||
|
|
|
|
|||||
Total expenses |
25,346 | 24,556 | ||||||
|
|
|
|
|||||
Operating income |
14,186 | 13,478 | ||||||
Other expense |
||||||||
Interest expense |
7,980 | 8,012 | ||||||
|
|
|
|
|||||
Net income |
$ | 6,206 | $ | 5,466 | ||||
|
|
|
|
|||||
Companys share of net income (2) |
$ | 14,642 | $ | 2,625 | ||||
Basis differential |
192 | 191 | ||||||
|
|
|
|
|||||
Income from unconsolidated joint ventures |
$ | 14,834 | $ | 2,816 | ||||
|
|
|
|
(1) | Includes straight-line rent adjustments of $1.6 million and $0.6 million for the three months ended March 31, 2015 and 2014, respectively. Includes net above-/below-market rent adjustments of $(0.1) million and $0.1 million for the three months ended March 31, 2015 and 2014, respectively. |
(2) | During the three months ended March 31, 2015, the Company received a distribution of approximately $24.5 million, which was generated from the excess loan proceeds from the refinancing of 901 New York Avenues mortgage loan to a new 10-year mortgage loan totaling $225.0 million. The Companys allocation of income and distributions for the three months ended March 31, 2015 was not proportionate to its nominal ownership interest as a result of the achievement of specified investment return thresholds, as provided for in the joint venture agreement. |
5. Derivative Instruments and Hedging Activities
On February 19, 2015, the Company commenced a planned interest rate hedging program in contemplation of a financing with a target commencement date in September 2016 and maturity in September 2026. The Company entered into five forward-starting interest rate swap contracts during the three months ended March 31, 2015, which fix the ten-year swap rate at a weighted-average rate of approximately 2.492% per annum on notional amounts aggregating $250.0 million (See Note 12). The Companys interest rate swap contracts consisted of the following at March 31, 2015:
Derivative Instrument |
Notional Amount |
Effective Date | Maturity Date | Strike Rate |
Balance Sheet Location |
Fair Value | ||||||||||||||||||
(in thousands) | (in thousands) | |||||||||||||||||||||||
Interest Rate Swap |
$ | 50,000 | September 1, 2016 | September 1, 2026 | 2.571 | % | Other Liabilities | $ | (1,062 | ) | ||||||||||||||
Interest Rate Swap |
75,000 | September 1, 2016 | September 1, 2026 | 2.476 | % | Other Liabilities | (946 | ) | ||||||||||||||||
Interest Rate Swap |
50,000 | September 1, 2016 | September 1, 2026 | 2.523 | % | Other Liabilities | (844 | ) | ||||||||||||||||
Interest Rate Swap |
50,000 | September 1, 2016 | September 1, 2026 | 2.480 | % | Other Liabilities | (654 | ) | ||||||||||||||||
Interest Rate Swap |
25,000 | September 1, 2016 | September 1, 2026 | 2.348 | % | Other Liabilities | (27 | ) | ||||||||||||||||
|
|
|
|
|||||||||||||||||||||
$ | 250,000 | $ | (3,533 | ) | ||||||||||||||||||||
|
|
|
|
12
The Company entered into the interest rate swap contracts designated and qualifying as a cash flow hedges to reduce its exposure to the variability in future cash flows attributable to changes in the 10-year swap rate in contemplation of obtaining 10-year fixed-rate financing in September 2016. The Company has formally documented all of its relationships between hedging instruments and hedged items, as well as its risk-management objective and strategy for undertaking various hedge transactions. The Company also assesses and documents, both at the hedging instruments inception and on an ongoing basis, whether the derivatives that are used in hedging transactions are highly effective in offsetting changes in cash flows associated with the hedged items. All components of the forward-starting interest rate swap contracts were included in the assessment of hedge effectiveness. The Company has agreements with each of its derivative counterparties that contain a provision where the Company could be declared in default on its derivative obligations if repayment of the underlying indebtedness is accelerated by the lender due to the Companys default on the indebtedness. As of March 31, 2015, the fair value of derivatives in a net liability position, which excludes any adjustment for nonperformance risk, related to these agreements was approximately $3.5 million. As of March 31, 2015, the Company has not posted any collateral related to these agreements. If the Company had breached any of these provisions at March 31, 2015, it could have been required to settle its obligations under the agreements at their termination value of approximately $3.5 million. The Company accounts for the effective portion of changes in the fair value of a derivative in accumulated other comprehensive income (loss) and subsequently reclassifies the effective portion to earnings over the term that the hedged transaction affects earnings. The Company accounts for the ineffective portion of changes in the fair value of a derivative directly in earnings. During the three months ended March 31, 2015, the Company has recorded the changes in fair value of the swap contracts related to the effective portion of the interest rate contracts aggregating approximately $3.5 million in Other Liabilities and Accumulated Other Comprehensive Loss within the Companys Consolidated Balance Sheets. During the three months ended March 31, 2015, the Company did not record any hedge ineffectiveness. The Company does not expect to reclassify into earnings any amounts recorded within Accumulated Other Comprehensive Loss relating to the forward-starting interest rate swap contracts within the next twelve months.
The following table presents the location in the financial statements of the gains or losses recognized related to the Companys cash flow hedges for the three months ended March 31, 2015 and 2014:
Three Months Ended March 31, |
||||||||
2015 | 2014 | |||||||
(in thousands) | ||||||||
Amount of gain (loss) related to the effective portion recognized in other comprehensive income (loss) |
$ | (3,533 | ) | $ | | |||
|
|
|
|
|||||
Amount of gain (loss) related to the effective portion subsequently reclassified to earnings (1) |
$ | (627 | ) | $ | (629 | ) | ||
|
|
|
|
|||||
Amount of gain (loss) related to the ineffective portion and amount excluded from effectiveness testing |
$ | | $ | | ||||
|
|
|
|
(1) | Consists of amounts from previous interest rate hedging programs. |
The following table reflects the changes in accumulated other comprehensive loss for the three months ended March 31, 2015 and 2014 (in thousands):
Balance at January 1, 2015 |
$ | (9,304 | ) | |
Effective portion of interest rate contracts |
(3,533 | ) | ||
Amortization of interest rate contracts (1) |
627 | |||
Other comprehensive income (loss) attributable to noncontrolling interests |
303 | |||
|
|
|||
Balance at March 31, 2015 |
$ | (11,907 | ) | |
|
|
|||
Balance at January 1, 2014 |
$ | (11,556 | ) | |
Amortization of interest rate contracts (1) |
629 | |||
Other comprehensive income (loss) attributable to noncontrolling interests |
(62 | ) | ||
|
|
|||
Balance at March 31, 2014 |
$ | (10,989 | ) | |
|
|
(1) | Consists of amounts from previous interest rate hedging programs. |
13
6. Commitments and Contingencies
General
In the normal course of business, the Company guarantees its performance of services or indemnifies third parties against its negligence. In addition, in the normal course of business, the Company guarantees to certain tenants the obligations of its subsidiaries for the payment of tenant improvement allowances and brokerage commissions in connection with their leases and limited costs arising from delays in delivery of their premises.
The Company has letter of credit and performance obligations related to lender and development requirements that total approximately $21.6 million.
Certain of the Companys joint venture agreements include provisions whereby, at certain specified times, each partner has the right to initiate a purchase or sale of its interest in the joint ventures. With limited exception, under these provisions, the Company is not compelled to purchase the interest of its outside joint venture partners (See also Note 7). Under certain of the Companys joint venture agreements, if certain return thresholds are achieved the partners will be entitled to an additional promoted interest or payments.
In connection with the assumption of 767 Fifth Avenues (the General Motors Building) secured loan by the Companys consolidated joint venture, 767 Venture, LLC, the Company guaranteed the consolidated joint ventures obligation to fund various escrows, including tenant improvements, taxes and insurance in lieu of cash deposits. As of March 31, 2015, the maximum funding obligation under the guarantee was approximately $16.4 million. The Company earns a fee from the joint venture for providing the guarantee and has an agreement with the outside partners to reimburse the joint venture for their share of any payments made under the guarantee.
In connection with the mortgage financing collateralized by the Companys John Hancock Tower property located in Boston, Massachusetts, the Company has agreed to guarantee approximately $25.7 million related to its obligations to provide funds for certain tenant re-leasing costs. The mortgage financing will mature on January 6, 2017.
In connection with the mortgage financing collateralized by the Companys consolidated joint ventures Fountain Square property located in Reston, Virginia, the Company has agreed to guarantee approximately $0.7 million related to its obligation to provide funds for certain tenant re-leasing costs. The mortgage financing will mature on October 11, 2016.
From time to time, the Company (or the applicable joint venture) has also agreed to guarantee portions of the principal, interest or other amounts in connection with other unconsolidated joint venture borrowings. In addition to the financial guarantees referenced above, the Company has agreed to customary environmental indemnifications and nonrecourse carve-outs (e.g., guarantees against fraud, misrepresentation and bankruptcy) on certain of its unconsolidated joint venture loans.
In 2009, the Company filed a general unsecured creditors claim against Lehman Brothers, Inc. for approximately $45.3 million related to its rejection of a lease at 399 Park Avenue in New York City. On January 10, 2014, the trustee for the liquidation of the business of Lehman Brothers allowed the Companys claim in the amount of approximately $45.2 million. During 2014, the Company received an initial distribution totaling approximately $7.7 million. On March 11, 2015, the Company received a second interim distribution totaling approximately $4.5 million, which is included in Base Rent in the accompanying Consolidated Statements of Operations for the three months ended March 31, 2015, leaving a remaining claim of approximately $33.0 million. Recently, claims of similar priority to that of the Companys remaining claim were quoted privately reflecting a value for the Companys remaining claim of approximately $5.5 million. The Company will continue to evaluate whether to attempt to sell the remaining claim or wait until the trustee distributes proceeds from the Lehman Brothers estate. Given the inherent uncertainties in bankruptcy proceedings, there can be no assurance as to the timing or amount of proceeds, if any, that the Company may
14
ultimately realize on the remaining claim, whether by sale to a third party or by one or more distributions from the trustee. Accordingly, the Company has not recorded any estimated recoveries associated with this gain contingency within its consolidated financial statements at March 31, 2015.
Insurance
The Company carries insurance coverage on its properties of types and in amounts and with deductibles that it believes are in line with coverage customarily obtained by owners of similar properties. In response to the uncertainty in the insurance market following the terrorist attacks of September 11, 2001, the Federal Terrorism Risk Insurance Act (as amended, TRIA) was enacted in November 2002 to require regulated insurers to make available coverage for certified acts of terrorism (as defined by the statute). The expiration date of TRIA was extended to December 31, 2014 by the Terrorism Risk Insurance Program Reauthorization Act of 2007 and further extended to December 31, 2020 by the Terrorism Risk Insurance Program Reauthorization Act of 2015 (TRIPRA), and the Company can provide no assurance that it will be extended further. Currently, the Companys property insurance program per occurrence limits are $1.0 billion for its portfolio insurance program, including coverage for acts of terrorism other than nuclear, biological, chemical or radiological terrorism (Terrorism Coverage). The Company also carries $250 million of Terrorism Coverage for 601 Lexington Avenue, New York, New York (601 Lexington Avenue) in excess of the $1.0 billion of coverage in the Companys property insurance program. Certain properties, including the General Motors Building located at 767 Fifth Avenue in New York, New York (767 Fifth Avenue), are currently insured in separate insurance programs. The property insurance program per occurrence limits for 767 Fifth Avenue are $1.625 billion, including Terrorism Coverage. The Company also currently carries nuclear, biological, chemical and radiological terrorism insurance coverage for acts of terrorism certified under TRIA (NBCR Coverage), which is provided by IXP as a direct insurer, for the properties in our portfolio, including 767 Fifth Avenue, but excluding certain other properties owned in joint ventures with third parties or which the Company manages. The per occurrence limit for NBCR Coverage is $1.0 billion. Under TRIA, after the payment of the required deductible and coinsurance, the NBCR Coverage provided by IXP is backstopped by the Federal Government if the aggregate industry insured losses resulting from a certified act of terrorism exceed a program trigger. In 2015, the program trigger is $100 million and the coinsurance is 15%, however, both will increase in subsequent years pursuant to TRIPRA. If the Federal Government pays out for a loss under TRIA, it is mandatory that the Federal Government recoup the full amount of the loss from insurers offering TRIA coverage after the payment of the loss pursuant to a formula in TRIPRA. The Company may elect to terminate the NBCR Coverage if the Federal Government seeks recoupment for losses paid under TRIA, if there is a change in its portfolio or for any other reason. The Company intends to continue to monitor the scope, nature and cost of available terrorism insurance and maintain terrorism insurance in amounts and on terms that are commercially reasonable.
The Company also currently carries earthquake insurance on its properties located in areas known to be subject to earthquakes in an amount and subject to self-insurance that the Company believes is commercially reasonable. In addition, this insurance is subject to a deductible in the amount of 5% of the value of the affected property. Specifically, the Company currently carries earthquake insurance which covers its San Francisco region (excluding Salesforce Tower) with a $170 million per occurrence limit (increased on March 1, 2015 from $120 million), and a $170 million annual aggregate limit (increased on March 1, 2015 from $120 million), $20 million of which is provided by IXP, as a direct insurer. The builders risk policy maintained for the development of Salesforce Tower in San Francisco includes a $60 million per occurrence and annual aggregate limit of earthquake coverage. The amount of the Companys earthquake insurance coverage may not be sufficient to cover losses from earthquakes. In addition, the amount of earthquake coverage could impact the Companys ability to finance properties subject to earthquake risk. The Company may discontinue earthquake insurance or change the structure of its earthquake insurance program on some or all of its properties in the future if the premiums exceed the Companys estimation of the value of the coverage.
IXP, a captive insurance company which is a wholly-owned subsidiary of the Company, acts as a direct insurer with respect to a portion of the Companys earthquake insurance coverage for its Greater San Francisco properties and
15
the Companys NBCR Coverage. Insofar as the Company owns IXP, it is responsible for its liquidity and capital resources, and the accounts of IXP are part of the Companys consolidated financial statements. In particular, if a loss occurs which is covered by the Companys NBCR Coverage but is less than the applicable program trigger under TRIA, IXP would be responsible for the full amount of the loss without any backstop by the Federal Government. IXP would also be responsible for any recoupment charges by the Federal Government in the event losses are paid out and its insurance policy is maintained after the payout by the Federal Government. If the Company experiences a loss and IXP is required to pay under its insurance policy, the Company would ultimately record the loss to the extent of the required payment. Therefore, insurance coverage provided by IXP should not be considered as the equivalent of third-party insurance, but rather as a modified form of self-insurance. In addition, the Operating Partnership has issued a guarantee to cover liabilities of IXP in the amount of $20.0 million.
The mortgages on the Companys properties typically contain requirements concerning the financial ratings of the insurers who provide policies covering the property. The Company provides the lenders on a regular basis with the identity of the insurance companies in the Companys insurance programs. The ratings of some of the Companys insurers are below the rating requirements in some of the Companys loan agreements and the lenders for these loans could attempt to claim that an event of default has occurred under the loan. The Company believes it could obtain insurance with insurers which satisfy the rating requirements. Additionally, in the future, the Companys ability to obtain debt financing secured by individual properties, or the terms of such financing, may be adversely affected if lenders generally insist on ratings for insurers or amounts of insurance which are difficult to obtain or which result in a commercially unreasonable premium. There can be no assurance that a deficiency in the financial ratings of one or more of the Companys insurers will not have a material adverse effect on the Company.
The Company continues to monitor the state of the insurance market in general, and the scope and costs of coverage for acts of terrorism and California earthquake risk in particular, but the Company cannot anticipate what coverage will be available on commercially reasonable terms in future policy years. There are other types of losses, such as from wars, for which the Company cannot obtain insurance at all or at a reasonable cost. With respect to such losses and losses from acts of terrorism, earthquakes or other catastrophic events, if the Company experiences a loss that is uninsured or that exceeds policy limits, the Company could lose the capital invested in the damaged properties, as well as the anticipated future revenues from those properties. Depending on the specific circumstances of each affected property, it is possible that the Company could be liable for mortgage indebtedness or other obligations related to the property. Any such loss could materially and adversely affect the Companys business and financial condition and results of operations.
7. Noncontrolling Interests
Noncontrolling interests relate to the interests in the Operating Partnership not owned by the Company and interests in consolidated property partnerships not wholly-owned by the Company. As of March 31, 2015, the noncontrolling interests in the Operating Partnership consisted of 16,242,774 OP Units, 1,845,626 LTIP Units (including 217,688 2012 OPP Units), 309,818 2013 MYLTIP Units, 476,320 2014 MYLTIP Units, 368,415 2015 MYLTIP Units and 12,667 Series Four Preferred Units (none of which are convertible into OP Units) held by parties other than the Company.
Noncontrolling InterestRedeemable Preferred Units of the Operating Partnership
The Preferred Units at March 31, 2015 consisted of 12,667 Series Four Preferred Units, which bear a preferred distribution equal to 2.00% per annum on a liquidation preference of $50.00 per unit and are not convertible into OP Units. The holders of Series Four Preferred Units have the right, at certain times and subject to certain conditions set forth in the Certificate of Designations establishing the rights, limitations and preferences of the Series Four Preferred Units, to require the Operating Partnership to redeem all of their units for cash at the redemption price of $50.00 per unit. The Operating Partnership also has the right, at certain times and subject to certain conditions, to redeem all of the Series Four Preferred Units for cash at the redemption price of $50.00 per unit. In order to secure the performance of certain post-issuance obligations by the holders, all of
16
such outstanding Series Four Preferred Units were subject to forfeiture pursuant to the terms of a pledge agreement and not eligible for redemption until and unless such security interest is released. On May 19, 2014, the Companys Operating Partnership released to the holders 319,687 Series Four Preferred Units that were previously subject to the security interest. On July 3, 2014, the Companys Operating Partnership redeemed such units for cash totaling approximately $16.0 million, plus accrued and unpaid distributions. On October 16, 2014, the Companys Operating Partnership released to the holders 27,773 Series Four Preferred Units that were previously subject to the security interest under the pledge agreement. On November 5, 2014, the Companys Operating Partnership redeemed such units for cash totaling approximately $1.4 million. An aggregate of 12,667 Series Four Preferred Units remain outstanding and subject to the security interest under the pledge agreement. Due to the holders redemption option existing outside the control of the Company, the Series Four Preferred Units are presented outside of permanent equity in the Companys Consolidated Balance Sheets.
On February 17, 2015, the Operating Partnership paid a distribution on its outstanding Series Four Preferred Units of $0.25 per unit.
The following table reflects the activity of the noncontrolling interestsredeemable preferred units of the Operating Partnership for the three months ended March 31, 2015 and 2014 (in thousands):
Balance at January 1, 2015 |
$ | 633 | ||
Net income |
3 | |||
Distributions |
(3 | ) | ||
|
|
|||
Balance at March 31, 2015 |
$ | 633 | ||
|
|
|||
Balance at January 1, 2014 |
$ | 51,312 | ||
Net income |
619 | |||
Distributions |
(619 | ) | ||
|
|
|||
Balance at March 31, 2014 |
$ | 51,312 | ||
|
|
Noncontrolling InterestRedeemable Interest in Property Partnership
On October 4, 2012, the Company completed the formation of a joint venture that owns and operates Fountain Square located in Reston, Virginia. The joint venture partner contributed the property valued at approximately $385.0 million and related mortgage indebtedness totaling approximately $211.3 million for a nominal 50% interest in the joint venture. The Company contributed cash totaling approximately $87.0 million for its nominal 50% interest, which cash was distributed to the joint venture partner. Pursuant to the joint venture agreement (i) the Company has rights to acquire the partners nominal 50% interest and (ii) the partner has the right to cause the Company to acquire the partners interest on January 4, 2016, in each case at a fixed price totaling approximately $102.0 million in cash. The fixed price option rights expire on January 31, 2016. The Company is consolidating this joint venture due to the Companys right to acquire the partners nominal 50% interest. The Company initially recorded the noncontrolling interest at its acquisition-date fair value as temporary equity, due to the redemption option existing outside the control of the Company. The Company accretes the changes in the redemption value quarterly over the period from the acquisition date to the earliest redemption date using the effective interest method. The Company records the accretion after the allocation of net income and distributions of cash flow to the noncontrolling interest account balance.
17
The following table reflects the activity of the noncontrolling interestredeemable interest in property partnership in the Companys Fountain Square consolidated joint venture for the three months ended March 31, 2015 and 2014 (in thousands):
Balance at January 1, 2015 |
$ | 104,692 | ||
Net income |
75 | |||
Distributions |
(1,400 | ) | ||
Adjustment to reflect redeemable interest at redemption value |
2,153 | |||
|
|
|||
Balance at March 31, 2015 |
$ | 105,520 | ||
|
|
|||
Balance at January 1, 2014 |
$ | 99,609 | ||
Net loss |
(106 | ) | ||
Distributions |
(1,050 | ) | ||
Adjustment to reflect redeemable interest at redemption value |
1,874 | |||
|
|
|||
Balance at March 31, 2014 |
$ | 100,327 | ||
|
|
Noncontrolling InterestCommon Units of the Operating Partnership
During the three months ended March 31, 2015, 258,599 OP Units were presented by the holders for redemption (including 46,992 OP Units issued upon conversion of LTIP Units) and were redeemed by the Company in exchange for an equal number of shares of Common Stock.
At March 31, 2015, the Company had outstanding 309,818 2013 MYLTIP Units, 476,320 2014 MYLTIP Units and 368,415 2015 MYLTIP Units. Prior to the measurement date (February 4, 2016 for 2013 MYLTIP Units, February 3, 2017 for 2014 MYLTIP Units and February 4, 2018 for 2015 MYLTIP Units), holders of MYLTIP Units will be entitled to receive per unit distributions equal to one-tenth (10%) of the regular quarterly distributions payable on an OP Unit, but will not be entitled to receive any special distributions. After the measurement date, the number of MYLTIP Units, both vested and unvested, that MYLTIP award recipients have earned, if any, based on the establishment of a performance pool, will be entitled to receive distributions in an amount per unit equal to distributions, both regular and special, payable on an OP Unit.
On February 6, 2015, the measurement period for the Companys 2012 OPP Unit awards ended and the Companys TRS performance was sufficient for employees to earn and therefore become eligible to vest in a portion of the 2012 OPP Unit awards. The final outperformance pool was determined to be approximately $32.1 million, or approximately 80% of the total maximum outperformance pool of $40.0 million. As a result, 174,549 2012 OPP Units were automatically forfeited.
On January 28, 2015, the Operating Partnership paid a special cash distribution on the OP Units and LTIP Units in the amount of $4.50 per unit, a regular quarterly cash distribution on the OP Units and LTIP Units in the amount of $0.65 per unit, and a regular quarterly distribution on the 2012 OPP Units, 2013 MYLTIP Units and 2014 MYLTIP Units in the amount of $0.065 per unit, to holders of record as of the close of business on December 31, 2014. The special cash distribution was in addition to the regular quarterly distribution on the OP Units and LTIP Units. Holders of MYLTIP Units are not entitled to receive any special distributions. On March 18, 2015, Boston Properties, Inc., as general partner of the Operating Partnership, declared a distribution on the OP Units and LTIP Units in the amount of $0.65 per unit and a distribution on the 2013 MYLTIP Units, 2014 MYLTIP Units and 2015 MYLTIP Units in the amount of $0.065 per unit, in each case payable on April 30, 2015 to holders of record as of the close of business on March 31, 2015.
A holder of an OP Unit may present such OP Unit to the Operating Partnership for redemption at any time (subject to restrictions agreed upon at the time of issuance of OP Units to particular holders that may restrict such redemption right for a period of time, generally one year from issuance). Upon presentation of an OP Unit for
18
redemption, the Operating Partnership must redeem such OP Unit for cash equal to the then value of a share of common stock of the Company. The Company may, in its sole discretion, elect to assume and satisfy the redemption obligation by paying either cash or issuing one share of Common Stock. The value of the OP Units (not owned by the Company and including LTIP Units assuming that all conditions had been met for the conversion thereof) had all of such units been redeemed at March 31, 2015 was approximately $2.5 billion based on the closing price of the Companys common stock of $140.48 per share on March 31, 2015.
Noncontrolling InterestsProperty Partnerships
The noncontrolling interests in property partnerships consist of the outside equity interests in ventures that are consolidated with the financial results of the Company because the Company exercises control over the entities that own the properties. The equity interests in these ventures that are not owned by the Company, totaling approximately $1.6 billion at March 31, 2015 and December 31, 2014, are included in Noncontrolling InterestsProperty Partnerships on the accompanying Consolidated Balance Sheets.
The following table reflects the activity of the noncontrolling interests in property partnerships for the three months ended March 31, 2015 and 2014 (in thousands):
Balance at January 1, 2015 |
$ | 1,602,467 | ||
Capital contributions |
629 | |||
Net income |
12,980 | |||
Distributions |
(16,574 | ) | ||
|
|
|||
Balance at March 31, 2015 |
$ | 1,599,502 | ||
|
|
|||
Balance at January 1, 2014 |
$ | 726,132 | ||
Capital contributions |
468 | |||
Net income |
2,586 | |||
Distributions |
(4,093 | ) | ||
|
|
|||
Balance at March 31, 2014 |
$ | 725,093 | ||
|
|
8. Stockholders Equity
As of March 31, 2015, the Company had 153,402,107 shares of Common Stock outstanding.
On June 3, 2014, the Company established an at the market (ATM) stock offering program through which it may sell from time to time up to an aggregate of $600.0 million of its common stock through sales agents over a three-year period. The Company intends to use the net proceeds from any offering for general business purposes, which may include investment opportunities and debt reduction. No shares of common stock have been issued under this ATM stock offering program since its inception.
During the three months ended March 31, 2015, the Company issued 258,599 shares of Common Stock in connection with the redemption of an equal number of redeemable OP Units from third parties.
During the three months ended March 31, 2015, the Company issued 5,909 shares of Common Stock upon the exercise of options to purchase Common Stock by certain employees.
On January 28, 2015, the Company paid a special cash dividend and regular quarterly dividend aggregating $5.15 per share of Common Stock to shareholders of record as of the close of business on December 31, 2014. On March 18, 2015, the Companys Board of Directors declared a dividend of $0.65 per share of Common Stock payable on April 30, 2015 to shareholders of record as of the close of business on March 31, 2015.
As of March 31, 2015, the Company had 80,000 shares (8,000,000 depositary shares each representing 1/100th of a share) outstanding of its 5.25% Series B Cumulative Redeemable Preferred Stock with a liquidation
19
preference of $2,500.00 per share ($25.00 per depositary share). The Company pays cumulative cash dividends on the Series B Preferred Stock at a rate of 5.25% per annum of the $2,500.00 liquidation preference per share. The Company may not redeem the Series B Preferred Stock prior to March 27, 2018, except in certain circumstances relating to the preservation of the Companys REIT status. On or after March 27, 2018, the Company, at its option, may redeem the Series B Preferred Stock for a cash redemption price of $2,500.00 per share ($25.00 per depositary share), plus all accrued and unpaid dividends. The Series B Preferred Stock is not redeemable by the holders, has no maturity date and is not convertible into any other security of the Company or its affiliates.
On February 17, 2015, the Company paid a dividend on its outstanding Series B Preferred Stock of $32.8125 per share. On March 18, 2015, the Companys Board of Directors declared a dividend of $32.8125 per share of Series B Preferred Stock payable on May 15, 2015 to shareholders of record as of the close of business on May 5, 2015.
9. Earnings Per Share
The following table provides a reconciliation of both the net income attributable to Boston Properties, Inc. common shareholders and the number of common shares used in the computation of basic earnings per share (EPS), which is calculated by dividing net income attributable to Boston Properties, Inc. common shareholders by the weighted-average number of common shares outstanding during the period. Unvested share-based payment awards that contain non-forfeitable rights to dividends or dividend equivalents (whether paid or unpaid) are also participating securities. As such, unvested restricted common stock of the Company, LTIP Units and MYLTIP Units are considered participating securities. Participating securities are included in the computation of basic EPS of the Company using the two-class method. Participating securities are included in the computation of diluted EPS of the Company using the if-converted method if the impact is dilutive. Because the MYLTIP Units require the Company to outperform absolute and relative return thresholds, unless such thresholds have been met by the end of the applicable reporting period, the Company excludes such units from the diluted EPS calculation. Other potentially dilutive common shares, including stock options, restricted stock and other securities of the Operating Partnership that are exchangeable for the Companys Common Stock, and the related impact on earnings, are considered when calculating diluted EPS.
For the three months ended March 31, 2015 | ||||||||||||
Income (Numerator) |
Shares (Denominator) |
Per
Share Amount |
||||||||||
(in thousands, except for per share amounts) | ||||||||||||
Basic Earnings: |
||||||||||||
Net income attributable to Boston Properties, Inc. common shareholders |
$ | 171,182 | 153,230 | $ | 1.12 | |||||||
Allocation of undistributed earnings to participating securities |
(188 | ) | | | ||||||||
|
|
|
|
|
|
|||||||
Net income attributable to Boston Properties, Inc. common shareholders |
$ | 170,994 | 153,230 | $ | 1.12 | |||||||
Effect of Dilutive Securities: |
||||||||||||
Stock Based Compensation |
| 643 | (0.01 | ) | ||||||||
|
|
|
|
|
|
|||||||
Diluted Earnings: |
||||||||||||
Net income attributable to Boston Properties, Inc. common shareholders |
$ | 170,994 | 153,873 | $ | 1.11 | |||||||
|
|
|
|
|
|
20
For the three months ended March 31, 2014 | ||||||||||||
Income (Numerator) |
Shares (Denominator) |
Per Share Amount |
||||||||||
(in thousands, except for per share amounts) | ||||||||||||
Basic Earnings: |
||||||||||||
Net income attributable to Boston Properties, Inc. common shareholders |
$ | 54,034 | 153,030 | $ | 0.35 | |||||||
Effect of Dilutive Securities: |
||||||||||||
Stock Based Compensation |
| 139 | | |||||||||
|
|
|
|
|
|
|||||||
Diluted Earnings: |
||||||||||||
Net income attributable to Boston Properties, Inc. common shareholders |
$ | 54,034 | 153,169 | $ | 0.35 | |||||||
|
|
|
|
|
|
10. Stock Option and Incentive Plan
On January 21, 2015, the Companys Compensation Committee approved the 2015 Multi-Year, Long-Term Incentive Program awards under the Companys 2012 Plan to certain officers and employees of the Company. The 2015 MYLTIP awards utilize TRS over a three-year measurement period, on an annualized, compounded basis, as the performance metric. Earned awards will be based on the Companys TRS relative to (i) the Cohen & Steers Realty Majors Portfolio Index (50% weight) and (ii) the NAREIT Office Index adjusted to exclude the Company (50% weight). Earned awards will range from $0 to a maximum of approximately $40.8 million depending on the Companys TRS relative to the two indices, with three tiers (threshold: approximately $8.2 million; target: approximately $16.3 million; high: approximately $40.8 million) and linear interpolation between tiers. Earned awards measured on the basis of relative TRS performance are subject to an absolute TRS component in the form of relatively simple modifiers that (A) reduce the level of earned awards in the event the Companys annualized TRS is less than 0% and (B) cause some awards to be earned in the event the Companys annualized TRS is more than 12% even though on a relative basis alone the Companys TRS would not result in any earned awards.
Earned awards (if any) will vest 50% on February 4, 2018 and 50% on February 4, 2019, based on continued employment. Vesting will be accelerated in the event of a change in control, termination of employment by the Company without cause, or termination of employment by the award recipient for good reason, death, disability or retirement. If there is a change of control prior to February 4, 2018, earned awards will be calculated based on TRS performance up to the date of the change of control. The 2015 MYLTIP awards are in the form of LTIP Units issued on the grant date which (i) are subject to forfeiture to the extent awards are not earned and (ii) prior to the performance measurement date are only entitled to one-tenth (10%) of the regular quarterly distributions payable on common partnership units.
Under the FASBs Accounting Standards Codification (ASC) 718 Compensation-Stock Compensation, the 2015 MYLTIP awards have an aggregate value of approximately $15.7 million, which amount will generally be amortized into earnings over the four-year plan period under the graded vesting method.
On February 6, 2015, the measurement period for the Companys 2012 OPP Unit awards ended and the Companys TRS performance was sufficient for employees to earn and therefore become eligible to vest in a portion of the 2012 OPP Unit awards. The final outperformance pool was determined to be approximately $32.1 million, or approximately 80% of the total maximum outperformance pool of $40.0 million. As a result, 174,549 2012 OPP Units were automatically forfeited.
During the three months ended March 31, 2015, the Company issued 30,965 shares of restricted common stock, 183,789 LTIP Units (including 85,962 LTIP Units issued on January 1, 2015 to Mortimer B. Zuckerman, non-executive Chairman of the Board, pursuant to the Transition Benefits Agreement dated March 10, 2013) and 375,000 2015 MYLTIP Units to employees and non-employee directors under the 2012 Plan. Employees and
21
non-employee directors paid $0.01 per share of restricted common stock and $0.25 per LTIP Unit and 2015 MYLTIP Unit. An LTIP Unit is generally the economic equivalent of a share of restricted stock in the Company. The aggregate value of the LTIP Units is included in noncontrolling interests in the Consolidated Balance Sheets. Grants of restricted stock and LTIP Units to employees vest in four equal annual installments. Restricted stock is measured at fair value on the date of grant based on the number of shares granted, as adjusted for forfeitures, and the closing price of the Companys Common Stock on the date of grant as quoted on the New York Stock Exchange. Such value is recognized as an expense ratably over the corresponding employee service period. The shares of restricted stock granted during the three months ended March 31, 2015 were valued at approximately $4.4 million ($141.81 per share). The LTIP Units granted (excluding the number issued to Mr. Zuckerman, as discussed above) were valued at approximately $12.7 million ($129.75 per unit weighted-average fair value) using a Monte Carlo simulation method model. The per unit fair values of the LTIP Units granted were estimated on the dates of grant and for a substantial majority of such units were valued using the following assumptions: an expected life of 5.7 years, a risk-free interest rate of 1.47% and an expected price volatility of 26%. The value of the LTIP Units issued to Mr. Zuckerman was expensed between March 2013 and July 2014, in accordance with the vesting schedule set forth in the Transition Benefits Agreement. As the 2012 OPP Units, 2013 MYLTIP Units, 2014 MYLTIP Units and 2015 MYLTIP Units are subject to both a service condition and a market condition, the Company recognizes the compensation expense related to the 2012 OPP Units, 2013 MYLTIP Units, 2014 MYLTIP Units and 2015 MYLTIP Units under the graded vesting attribution method. Under the graded vesting attribution method, each portion of the award that vests at a different date is accounted for as a separate award and recognized over the period appropriate to that portion so that the compensation cost for each portion should be recognized in full by the time that portion vests. Dividends paid on both vested and unvested shares of restricted stock are charged directly to Dividends in Excess of Earnings in the Consolidated Balance Sheets. Aggregate stock-based compensation expense associated with restricted stock, non-qualified stock options, LTIP Units, 2012 OPP Units, 2013 MYLTIP Units, 2014 MYLTIP Units and 2015 MYLTIP Units was approximately $10.1 million and $9.9 million for the three months ended March 31, 2015 and 2014, respectively. At March 31, 2015, there was $26.2 million of unrecognized compensation expense related to unvested restricted stock and LTIP Units and $27.2 million of unrecognized compensation expense related to unvested 2012 OPP Units, 2013 MYLTIP Units, 2014 MYLTIP Units and 2015 MYLTIP Units that is expected to be recognized over a weighted-average period of approximately 3.1 years.
11. Segment Information
The Companys segments are based on the Companys method of internal reporting which classifies its operations by both geographic area and property type. The Companys segments by geographic area are Boston, New York, San Francisco and Washington, DC. Segments by property type include: Class A Office, Office/Technical, Residential and Hotel.
Asset information by segment is not reported because the Company does not use this measure to assess performance. Therefore, depreciation and amortization expense is not allocated among segments. Interest and other income, development and management services income, general and administrative expenses, transaction costs, interest expense, depreciation and amortization expense, gains from investments in securities, income from unconsolidated joint ventures, gains on sales of real estate, noncontrolling interests and preferred dividends are not included in Net Operating Income as internal reporting addresses these items on a corporate level.
Net Operating Income is not a measure of operating results or cash flows from operating activities as measured by accounting principles generally accepted in the United States of America, and it is not indicative of cash available to fund cash needs and should not be considered an alternative to cash flows as a measure of liquidity. All companies may not calculate Net Operating Income in the same manner. The Company considers Net Operating Income to be an appropriate supplemental measure to net income because it helps both investors and management to understand the core operations of the Companys properties. The Companys management also uses Net Operating Income to evaluate regional property level performance and to make decisions about resource allocations. Further, the Company believes Net Operating Income is useful to investors as a performance measure because, when compared across periods, Net
22
Operating Income reflects the impact on operations from trends in occupancy rates, rental rates, operating costs and acquisition and development activity on an unleveraged basis, providing perspectives not immediately apparent from net income attributable to Boston Properties, Inc. common shareholders.
Information by geographic area and property type (dollars in thousands):
For the three months ended March 31, 2015:
Boston | New York | San Francisco |
Washington, DC |
Total | ||||||||||||||||
Rental Revenue: |
||||||||||||||||||||
Class A Office |
$ | 169,907 | $ | 253,098 | $ | 66,252 | $ | 93,131 | $ | 582,388 | ||||||||||
Office/Technical |
6,120 | | 5,659 | 3,042 | 14,821 | |||||||||||||||
Residential |
1,178 | | | 5,676 | 6,854 | |||||||||||||||
Hotel |
9,085 | | | | 9,085 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Total |
186,290 | 253,098 | 71,911 | 101,849 | 613,148 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
% of Grand Totals |
30.38 | % | 41.28 | % | 11.73 | % | 16.61 | % | 100.00 | % | ||||||||||
Rental Expenses: |
||||||||||||||||||||
Class A Office |
74,465 | 85,061 | 21,909 | 32,280 | 213,715 | |||||||||||||||
Office/Technical |
1,986 | | 912 | 1,191 | 4,089 | |||||||||||||||
Residential |
509 | | | 3,037 | 3,546 | |||||||||||||||
Hotel |
7,576 | | | | 7,576 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Total |
84,536 | 85,061 | 22,821 | 36,508 | 228,926 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
% of Grand Totals |
36.92 | % | 37.16 | % | 9.97 | % | 15.95 | % | 100.00 | % | ||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Net operating income |
$ | 101,754 | $ | 168,037 | $ | 49,090 | $ | 65,341 | $ | 384,222 | ||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
% of Grand Totals |
26.48 | % | 43.73 | % | 12.78 | % | 17.01 | % | 100.00 | % |
For the three months ended March 31, 2014:
Boston | New York | San Francisco |
Washington, DC |
Total | ||||||||||||||||
Rental Revenue: |
||||||||||||||||||||
Class A Office |
$ | 170,942 | $ | 217,308 | $ | 54,608 | $ | 97,048 | $ | 539,906 | ||||||||||
Office/Technical |
5,820 | | 6,217 | 3,660 | 15,697 | |||||||||||||||
Residential |
1,163 | | | 4,519 | 5,682 | |||||||||||||||
Hotel |
8,193 | | | | 8,193 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Total |
186,118 | 217,308 | 60,825 | 105,227 | 569,478 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
% of Grand Totals |
32.68 | % | 38.16 | % | 10.68 | % | 18.48 | % | 100.00 | % | ||||||||||
Rental Expenses: |
||||||||||||||||||||
Class A Office |
71,398 | 74,371 | 19,313 | 33,439 | 198,521 | |||||||||||||||
Office/Technical |
1,689 | | 1,214 | 1,202 | 4,105 | |||||||||||||||
Residential |
448 | | | 3,314 | 3,762 | |||||||||||||||
Hotel |
6,797 | | | | 6,797 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Total |
80,332 | 74,371 | 20,527 | 37,955 | 213,185 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
% of Grand Totals |
37.68 | % | 34.89 | % | 9.63 | % | 17.80 | % | 100.00 | % | ||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Net operating income |
$ | 105,786 | $ | 142,937 | $ | 40,298 | $ | 67,272 | $ | 356,293 | ||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
% of Grand Totals |
29.69 | % | 40.12 | % | 11.31 | % | 18.88 | % | 100.00 | % |
23
The following is a reconciliation of Net Operating Income to net income attributable to Boston Properties, Inc. common shareholders:
Three months ended March 31, |
||||||||
2015 | 2014 | |||||||
(in thousands) | ||||||||
Net Operating Income |
$ | 384,222 | $ | 356,293 | ||||
Add: |
||||||||
Development and management services income |
5,328 | 5,216 | ||||||
Income from unconsolidated joint ventures |
14,834 | 2,816 | ||||||
Interest and other income |
1,407 | 1,311 | ||||||
Gains from investments in securities |
393 | 286 | ||||||
Gains on sales of real estate |
95,084 | | ||||||
Less: |
||||||||
General and administrative expense |
28,791 | 29,905 | ||||||
Transaction costs |
327 | 437 | ||||||
Depreciation and amortization expense |
154,223 | 154,270 | ||||||
Interest expense |
108,757 | 113,554 | ||||||
Noncontrolling interests in property partnerships |
15,208 | 4,354 | ||||||
Noncontrolling interestredeemable preferred units of the Operating Partnership |
3 | 619 | ||||||
Noncontrolling interestcommon units of the Operating Partnership |
20,188 | 6,160 | ||||||
Preferred dividends |
2,589 | 2,589 | ||||||
|
|
|
|
|||||
Net income attributable to Boston Properties, Inc. common shareholders |
$ | 171,182 | $ | 54,034 | ||||
|
|
|
|
12. Subsequent Events
From April 1, 2015 through May 8, 2015, the Company entered into three forward-starting interest rate swap contracts which fix the ten-year swap rate at a weighted-average rate of 2.344% per annum on notional amounts aggregating $75.0 million. The interest rate swap contracts were entered into in advance of a financing with a target commencement date in September 2016 and maturity in September 2026 (See Note 5).
On May 8, 2015, the Company entered into a joint venture with an unrelated third party to redevelop an existing building into a Class A office building totaling approximately 120,000 net rentable square feet at 1265 Main Street in Waltham, Massachusetts. The joint venture partner contributed real estate and improvements, with an aggregate fair value of approximately $9.4 million, for its initial 50% interest in the joint venture. For its initial 50% interest, the Company will contribute cash totaling approximately $9.4 million as the joint venture incurs costs. The joint venture has entered into a fifteen-year lease with a tenant to occupy 100% of the building.
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ITEM 2Managements Discussion and Analysis of Financial Condition and Results of Operations
As used herein, the terms we, us, our and the Company refer to Boston Properties, Inc., a Delaware corporation organized in 1997, individually or together with its subsidiaries, including Boston Properties Limited Partnership, a Delaware limited partnership, and our predecessors.
This Quarterly Report on Form 10-Q, including the documents incorporated by reference, contains forward-looking statements within the meaning of the federal securities laws, Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. We intend these forward-looking statements to be covered by the safe harbor provisions for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995 and are including this statement for purposes of complying with those safe harbor provisions. Such statements are contained principally, but not only, under the captions Risk Factors and Managements Discussion and Analysis of Financial Condition and Results of Operations. We caution investors that any such forward-looking statements are based on beliefs and on assumptions made by, and information currently available to, our management. When used, the words anticipate, believe, estimate, expect, intend, may, might, plan, project, result, should, will and similar expressions which do not relate solely to historical matters are intended to identify forward-looking statements. Such statements are subject to risks, uncertainties and assumptions and are not guarantees of future performance, which may be affected by known and unknown risks, trends, uncertainties and factors that are beyond our control. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those anticipated, estimated or projected by the forward-looking statements. We caution you that, while forward-looking statements reflect our good-faith beliefs when we make them, they are not guarantees of future performance and are impacted by actual events when they occur after we make such statements. Accordingly, investors should use caution in relying on forward-looking statements, which are based on results and trends at the time they are made, to anticipate future results or trends.
Some of the risks and uncertainties that may cause our actual results, performance or achievements to differ materially from those expressed or implied by forward-looking statements include, among others, the following:
| the continuing impacts of the relatively weak economic recovery and other macroeconomic trends, which are having and may continue to have a negative effect on the following, among other things: |
| the fundamentals of our business, including overall market occupancy, tenant space utilization, and rental rates; |
| the financial condition of our tenants, many of which are financial, legal, media/telecommunication, technology and other professional firms, our lenders, counterparties to our derivative financial instruments and institutions that hold our cash balances and short-term investments, which may expose us to increased risks of default by these parties; and |
| the value of our real estate assets, which may limit our ability to dispose of assets at attractive prices or obtain or maintain debt financing secured by our properties or on an unsecured basis; |
| general risks affecting the real estate industry (including, without limitation, the inability to enter into or renew leases, tenant space utilization, dependence on tenants financial condition, and competition from other developers, owners and operators of real estate); |
| failure to manage effectively our growth and expansion into new markets and sub-markets or to integrate acquisitions and developments successfully; |
| the ability of our joint venture partners to satisfy their obligations; |
| risks and uncertainties affecting property development and construction (including, without limitation, construction delays, cost overruns, inability to obtain necessary permits, tenant accounting considerations that may result in negotiated lease provisions that limit a tenants liability during construction, and public opposition to such activities); |
| risks associated with the availability and terms of financing and the use of debt to fund acquisitions and developments, including the impact of higher interest rates on the cost and/or availability of financing; |
25
| risks associated with forward interest rate contracts and the effectiveness of such arrangements; |
| risks associated with downturns in the national and local economies, increases in interest rates, and volatility in the securities markets; |
| risks associated with actual or threatened terrorist attacks; |
| costs of compliance with the Americans with Disabilities Act and other similar laws; |
| potential liability for uninsured losses and environmental contamination; |
| risks associated with security breaches through cyber attacks, cyber intrusions or otherwise, as well as other significant disruptions of our information technology (IT) networks and related systems; |
| risks associated with our potential failure to qualify as a REIT under the Internal Revenue Code of 1986, as amended; |
| possible adverse changes in tax and environmental laws; |
| the impact of newly adopted accounting principles on our accounting policies and on period-to-period comparisons of financial results; |
| risks associated with possible state and local tax audits; |
| risks associated with our dependence on key personnel whose continued service is not guaranteed; and |
| the other risk factors identified in our most recently filed Annual Report on Form 10-K, including those described under the caption Risk Factors. |
The risks set forth above are not exhaustive. Other sections of this report may include additional factors that could adversely affect our business and financial performance. Moreover, we operate in a very competitive and rapidly changing environment. New risk factors emerge from time to time and it is not possible for management to predict all risk factors, nor can it assess the impact of all risk factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements. Given these risks and uncertainties, investors should not place undue reliance on forward-looking statements as a prediction of actual results. Investors should also refer to our most recent Annual Report on Form 10-K and our Quarterly Reports on Form 10-Q for future periods and Current Reports on Form 8-K as we file them with the SEC, and to other materials we may furnish to the public from time to time through Forms 8-K or otherwise, for a discussion of risks and uncertainties that may cause actual results, performance or achievements to differ materially from those expressed or implied by forward-looking statements. We expressly disclaim any responsibility to update any forward-looking statements to reflect changes in underlying assumptions or factors, new information, future events, or otherwise, and you should not rely upon these forward-looking statements after the date of this report.
Overview
We are a fully integrated self-administered and self-managed REIT and one of the largest owners and developers of Class A office properties in the United States. Our properties are concentrated in four marketsBoston, New York, San Francisco and Washington, DC. We generate revenue and cash primarily by leasing Class A office space to our tenants. Factors we consider when we lease space include the creditworthiness of the tenant, the length of the lease, the rental rate to be paid at inception and throughout the lease term, the costs of tenant improvements and other landlord concessions, current and anticipated operating costs and real estate taxes, our current and anticipated vacancy, current and anticipated future demand for office space and general economic factors. From time to time, we also generate cash through the sale of assets.
Our core strategy has always been to own, operate and develop properties in supply-constrained markets with high barriers-to-entry and to focus on executing long-term leases with financially strong tenants. Historically, this combination has tended to reduce our exposure in down cycles and enhance revenues as market conditions improve. To be successful in any leasing environment, we believe all aspects of the tenant-landlord
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relationship must be considered. In this regard, we believe that our understanding of tenants short- and long-term space utilization and amenity needs in the local markets in which we operate, our relationships with local brokers, our reputation as a premier developer, owner and operator of Class A office properties, our financial strength and our ability to maintain high building standards provide us with a competitive advantage.
Our portfolio is concentrated in markets and submarkets which include traditional tenants, such as government, financial services and law firms, as well as businesses that are oriented on new ideas, such as technology, advertising, media and information distribution (often referred to as TAMI), mobility, life sciences and medical devices. We continue to benefit from this as many of these segments of the economy are expanding and leasing additional office space. This is particularly true in the San Francisco Central Business District (CBD), Silicon Valley, Cambridge, Massachusetts and suburban Boston submarkets where we are seeing increasing levels of leasing activity. However, we continue to see densification, which occurs as businesses seek to cater to more collaborative work environments and fit people more efficiently into less space. While demand from traditional office tenants in the legal and large financial services sectors is not expanding, we see signs that we may be nearing the end of those industries space reductions stemming from densification and downsizing, and small financial firms are expanding and absorbing high-quality space. For example, in midtown Manhattan, leasing activity accelerated during the first quarter, but given the amount of available space in existing buildings combined with uncommitted new construction, rental rate increases have been modest. Washington, DC, however, which is also reliant on traditional tenants, continues to experience relatively lower levels of activity and growth. We are also seeing new construction in our markets accommodating both growing tenant sectors and traditional tenants seeking more efficient space utilization. This may result in an increase in supply and create challenges for us to increase our occupancy and the rents we can realize. We continue to proactively manage our near- and medium-term lease expirations. As our tenants adjust their space needs, we have extended and expect to continue to extend the leases of quality tenants on a long-term basis, invest in tenant improvements to improve space utilization and take back portions of their space to re-lease to other tenants at current rates. In some cases, this may result in an increase in vacancy and foregone revenue in the short-term, but better position us for more stable long-term revenues. Despite these challenges, we remain optimistic about the long-term operating fundamentals in all of our markets.
Leasing activity in our portfolio remained very strong and exceeded our ten year quarterly average as we signed 91 leases totaling approximately 1.5 million square feet covering vacant space, pre-leasing on our existing development projects and extensions and expansions. However, we had lease expirations relating to approximately 2.0 million square feet of space, which resulted in a decline in occupancy in our portfolio during the quarter from 91.7% at December 31, 2014 to 90.3% at March 31, 2015. We expect our average occupancy in 2015 to be just under 91%. In addition to the leases executed during the quarter, we continue to have ongoing active discussions with various users for our vacant space, our space with near term lease expirations and the remaining square footage at our properties under development. Although many of these discussions may not impact our results in 2015, they could reduce our remaining vacancy exposure and provide income beginning in 2016 and beyond.
In the New York region, we completed approximately 460,000 square feet of leasing in 31 lease transactions during the first quarter of 2015. We have limited rollover exposure through the end of 2015 of less than 3.0%. In the first quarter of 2015, we orchestrated three partial lease terminations that included payment of termination fees. These terminations increased our current vacancy but secured long-term leases for the retained space and provided growth for other tenants. We continue to actively manage our near-term lease expirations and, if we have attractive replacement tenants, we may again allow an existing tenant to terminate its lease early, possibly paying a termination fee to us, so that we may elongate our leasing profile. This could result in temporary vacancy and a reduction in cash flows during the period the future tenants space is undergoing its build-out.
In our Washington, DC region, the overall leasing activity continues to be slow, though we were able to complete 19 leases totaling approximately 600,000 square feet including an approximately 260,000 square foot renewal with the U.S. government during the first quarter of 2015. Public sector and defense contractor demand continues to be adversely impacted by continued federal budgetary uncertainty and the reductions in discretionary spending programs. Although the leasing market is competitive and there continues to be additional
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supply coming into the market through speculative construction of partially leased new buildings with lead tenants, we are making good progress with activity on our future exposure. Our near-term exposure in the Washington, DC CBD is limited due to our strong office occupancy rate of 96.1% at March 31, 2015. We are actively engaged with one of our law firm tenants with a future lease expiration in 2017 and hope to provide new space configurations in exchange for extended lease terms at market rents. In addition, our suburban Washington, DC assets are 92.2% leased at March 31, 2015, with moderate rollover/exposure through the end of 2015 of approximately 6.3%.
In the Boston region, the expansion of the life sciences and technology industry continues and is positively impacting each of the submarkets in which we operate. Our assets in the Boston CBD are 84.8% leased, though we expect occupancy will increase during the second quarter of 2015 as we have a tenant taking occupancy of approximately 308,000 square feet at 101 Huntington Avenue. Our most significant availability is at the John Hancock Tower, where we have two large blocks including (1) approximately 168,000 square feet that we expect to be available for build-out in the second half of 2015 at the base of the building where we will be creating a new second lobby and rebranding this portion of the building 120 St. James Street and (2) approximately 150,000 square feet in the tower that is expiring at the end of July 2015. While we believe all of this space is highly marketable and anticipate generating close to a 40% increase over the prior expiring rents, we expect much of this space will be vacant and will not recognize income until at least the second half of 2016. In conjunction with the construction of our approximately 425,000 square foot development project at 888 Boylston Street, we executed an additional three leases totaling approximately 105,000 square feet and continue to have extensive interest related to the majority of the 65,000 square feet of retail space. We also expect to complete a major renovation of the Prudential Center Food Court and create an additional 15,000 square feet of retail space during 2015 which, upon completion, will enhance our revenues and our tenants experience at the Prudential Center. The East Cambridge submarket continues to outperform the rest of our Boston markets and our Cambridge portfolio is essentially 100% leased with no short term availability. In the suburbs of Boston along the Route 128 corridor, our Waltham market continues to get stronger, driven by expansion by technology and life sciences tenants.
The San Francisco CBD and Silicon Valley submarkets maintain the strongest demand growth in the United States and, given the regulations surrounding zoning in San Francisco, will likely continue to be facing available supply limitations. Other than new developments, there are extremely limited large blocks of space available in the city. Overall activity in the market, although down from a year ago, continues to be very strong. During the first quarter of 2015, we leased approximately 244,000 square feet including approximately 150,000 square feet of early renewals with three tenants with substantial increases in gross rents that will take effect beginning 2016 and 2017. We have approximately 396,000 square feet of space expiring in the San Francisco region through the end of 2015 at rents that in aggregate are below current market rates. Construction of 535 Mission Street is complete with initial occupancy that occurred in the fourth quarter of 2014 and the project is approximately 70% leased as of May 4, 2015 with the additional vacancies remaining at the top of the building where there is strong activity and rents are approximately 10% higher than our original projection.
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The table below details the leasing activity during the three months ended March 31, 2015:
Three Months Ended March 31, 2015 |
||||
Square Feet | ||||
Vacant space available at the beginning of the period |
3,442,468 | |||
Properties placed in-service |
32,275 | |||
Leases expiring or terminated during the period |
1,961,442 | |||
|
|
|||
Total space available for lease |
5,436,185 | |||
|
|
|||
1st generation leases |
135,154 | |||
2nd generation leases with new tenants |
436,405 | |||
2nd generation lease renewals |
852,987 | |||
|
|
|||
Total space leased |
1,424,546 | |||
|
|
|||
Vacant space available for lease at the end of the period |
4,011,639 | |||
|
|
|||
Second generation leasing information:(1) |
||||
Leases commencing during the period, in square feet |
1,289,392 | |||
Average Lease Term |
105 Months | |||
Average Free Rent Period |
41 Days | |||
Total Transaction Costs Per Square Foot(2) |
$ | 42.75 | ||
Decrease in Gross Rents(3) |
(2.23 | )% | ||
Decrease in Net Rents(4) |
(4.44 | )% |
(1) | Second generation leases are defined as leases for space that had previously been leased. Of the 1,289,392 square feet of second generation leases that commenced during the three months ended March 31, 2015, leases for 862,430 square feet were signed in prior periods. |
(2) | Total transaction costs include tenant improvements and leasing commissions and exclude free rent concessions and other inducements in accordance with GAAP. |
(3) | Represents the decrease in gross rent (base rent plus expense reimbursements) on the new vs. expired leases on the 1,119,171 square feet of second generation leases (1) that had been occupied within the prior 12 months and (2) for which the new lease term is greater than six months. |
(4) | Represents the decrease in net rent (gross rent less operating expenses) on the new vs. expired leases on the 1,119,171 square feet of second generation leases (1) that had been occupied within the prior 12 months and (2) for which the new lease term is greater than six months. |
In the aggregate from April 1, 2015 to December 31, 2015, leases representing approximately 4.9% of our current leased square footage will expire. As these leases expire, assuming no change in current market rental rates, we expect that the gross rental rates we are likely to achieve on new leases will on average be greater than the rates that are currently being paid.
Although we continue to evaluate opportunities to acquire assets, the abundance of capital and demand for assets has resulted in increasing prices. As a result, in the current environment we are able to develop properties at a cost per square foot that is generally less than the cost at which we can acquire older existing properties, thereby generating relatively better returns with lower annual maintenance expenses and capital costs. Accordingly, we believe the successful lease-up and completion of our development pipeline will enhance our long-term return on equity and earnings growth as these developments are placed in-service through 2019. We believe the development of well-positioned office buildings is justified in many of our submarkets where tenants have shown demand for high-quality construction, modern design, efficient floor plates and sustainable features. In addition, select first-class residential developments that are part of a mixed-use environment, which combine office, retail and residential uses, have proven successful in our markets. As of March 31, 2015, our current development pipeline, which excludes properties which are fully placed in-service, totals approximately 3.3 million square feet with a total projected investment of approximately $2.1 billion, of which approximately $1.2 billion remains to be funded. Additionally, we are working on several new developments in each of our
29
markets, including land parcels, options on sites or existing asset redevelopment opportunities, some of which could commence in 2015. The actual amount and timing of new development activities will depend on the completion of the entitlement and planning process and in most cases some level of pre-leasing.
Given investor demand for assets like ours we continue to review our portfolio to identify properties that may have limited opportunities for cash flow growth, no longer fit within our portfolio strategy or can attract premium pricing in the current market environment as potential sales candidates. During the first quarter 2015, we completed the sale of the Residences on The Avenue, our 335 unit residential leasehold at 2221 I Street, N.W., Washington, DC, for a gross sale price of $196 million and a land parcel in Gaithersburg, Maryland for a gross sales price of $8.7 million. We are also considering additional asset sales and, although we expect less disposition activity in 2015 than in 2014, we are currently targeting total sales volume for 2015 of approximately $750 million. Due to the uncertainties inherent in marketing assets for sale, there can be no assurance as to the amount or timing of future asset sales activity.
In general, we structure asset sales for possible inclusion in like-kind exchanges within the meaning of Section 1031 of the Internal Revenue Code. The ability to complete a like-kind exchange depends on many factors, including, among others, identifying and acquiring suitable replacement property within limited time periods and the ownership structure of the properties being sold and acquired, and therefore we are not always able to sell an asset as part of a like-kind exchange. When successful, a like-kind exchange enables us to defer the taxable gain on the asset sold and thus limit our REIT distribution requirement and preserve capital. If we are unable to identify and acquire suitable replacement property in a like-kind exchange, then we expect to distribute at least the amount of proceeds necessary to avoid paying a corporate level tax on the gain realized from the sale (See Liquidity and Capital ResourcesREIT Tax Distribution ConsiderationsApplication of Recent Regulations).
We continue to maintain substantial liquidity, including available cash, as of May 4, 2015 of approximately $1.3 billion, which includes approximately $200.7 million of restricted cash which is being held for possible investment in a like-kind exchange in accordance with Section 1031 of the Internal Revenue Code, and approximately $983.5 million available under our Operating Partnerships $1.0 billion Unsecured Line of Credit. Our more significant future funding requirements include approximately $1.2 billion of our development pipeline that remains to be funded through 2019. We have access to multiple sources of capital, including current cash balances, public debt and equity markets, secured and unsecured debt markets and potential asset sales to fund our future capital requirements.
Transactions during the three months ended March 31, 2015 included the following:
| On January 21, 2015, our Compensation Committee approved the 2015 Multi-Year, Long-Term Incentive Program (the 2015 MYLTIP) as a performance-based component of our overall compensation program. Under the Financial Accounting Standards Boards Accounting Standards Codification (ASC) 718 CompensationStock Compensation, the 2015 MYLTIP awards have an aggregate value of approximately $15.7 million, which will generally be amortized into earnings over the four-year plan period under the graded vesting method. |
| On February 19, 2015, we commenced a planned interest rate hedging program in contemplation of a financing with a target commencement date in September 2016 and maturity in September 2026. We have entered into five forward-starting interest rate swap contracts during the three months ended March 31, 2015, which fix the ten-year swap rate at a weighted-average rate of approximately 2.492% per annum on notional amounts aggregating $250.0 million (See Notes 5 and 12 to the Consolidated Financial Statements). |
| On February 19, 2015, we completed the sale of a parcel of land within our Washingtonian North property located in Gaithersburg, Maryland for a gross sale price of $8.7 million. Net cash proceeds totaled approximately $8.3 million, resulting in a gain on sale of real estate totaling approximately $3.7 million. The parcel contains approximately 8.5 acres of the approximately 27 acre property. |
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| On March 11, 2015, we received a second interim distribution from our unsecured creditor claim against Lehman Brothers, Inc. totaling approximately $4.5 million, leaving a remaining claim of approximately $33.0 million. Recently, claims of similar priority to our remaining claim were quoted privately reflecting a value for our remaining claim of approximately $5.5 million. There can be no assurance as to the timing or amount of additional proceeds, if any, that we may ultimately realize on the claim. |
| On March 17, 2015, we completed the sale of our Residences on The Avenue property located in Washington, DC for a gross sale price of $196.0 million. Net cash proceeds totaled approximately $192.5 million, resulting in a gain on sale of real estate totaling approximately $91.4 million. We have agreed to provide net operating income support of up to $6.0 million should the propertys net operating income fail to achieve certain thresholds, which has been recorded as a reduction to the gain on sale. The Residences on The Avenue is comprised of 335 apartment units and approximately 50,000 net rentable square feet of retail space, subject to a ground lease that expires on February 1, 2068. |
Transactions completed subsequent to March 31, 2015 included the following:
| From April 1, 2015 through May 8, 2015, we entered into three forward-starting interest rate swap contracts which fix the ten-year swap rate at a weighted-average rate of 2.344% per annum on notional amounts aggregating $75.0 million. The interest rate swap contracts were entered into in advance of a financing with a target commencement date in September 2016 and maturity in September 2026 (See Notes 5 and 12 to the Consolidated Financial Statements). |
| On May 8, 2015, we entered into a joint venture with an unrelated third party to redevelop an existing building into a Class A office building totaling approximately 120,000 net rentable square feet at 1265 Main Street in Waltham, Massachusetts. The joint venture partner contributed real estate and improvements, with an aggregate fair value of approximately $9.4 million, for its initial 50% interest in the joint venture. For our initial 50% interest, we will contribute cash totaling approximately $9.4 million as the joint venture incurs costs. The joint venture has entered into a fifteen-year lease with a tenant to occupy 100% of the building. |
Critical Accounting Policies
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America, or GAAP, requires management to use judgment in the application of accounting policies, including making estimates and assumptions. We base our estimates on historical experience and on various other assumptions believed to be reasonable under the circumstances. These judgments affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the dates of the financial statements and the reported amounts of revenue and expenses during the reporting periods. If our judgment or interpretation of the facts and circumstances relating to various transactions had been different, it is possible that different accounting policies would have been applied resulting in a different presentation of our financial statements. From time to time, we evaluate our estimates and assumptions. In the event estimates or assumptions prove to be different from actual results, adjustments are made in subsequent periods to reflect more current information. Below is a discussion of accounting policies that we consider critical in that they may require complex judgment in their application or require estimates about matters that are inherently uncertain.
Real Estate
Upon acquisitions of real estate that constitutes a business, which includes the consolidation of previously unconsolidated joint ventures, we assess the fair value of acquired tangible and intangible assets, (including land, buildings, tenant improvements, above- and below-market leases, leasing and assumed financing origination costs, acquired in-place leases, other identified intangible assets and assumed liabilities) and allocate the purchase price to the acquired assets and assumed liabilities, including land and buildings as if vacant. We assess and consider fair value based on estimated cash flow projections that utilize discount and/or capitalization rates that we deem appropriate, as well as available market information. Estimates of future cash flows are based on a number of factors including the historical operating results, known and anticipated trends, and market and economic conditions.
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The fair value of the tangible assets of an acquired property considers the value of the property as if it were vacant. We also consider an allocation of purchase price of other acquired intangibles, including acquired in-place leases that may have a customer relationship intangible value, including (but not limited to) the nature and extent of the existing relationship with the tenants, the tenants credit quality and expectations of lease renewals. Based on our acquisitions to date, our allocation to customer relationship intangible assets has been immaterial.
We record acquired above- and below-market leases at their fair values (using a discount rate which reflects the risks associated with the leases acquired) equal to the difference between (1) the contractual amounts to be paid pursuant to each in-place lease and (2) managements estimate of fair market lease rates for each corresponding in-place lease, measured over a period equal to the remaining term of the lease for above-market leases and the initial term plus the term of any below-market fixed rate renewal options for below-market leases. Acquired above- and below-market lease values have been reflected within Prepaid Expenses and Other Assets and Other Liabilities, respectively, in our Consolidated Balance Sheets. Other intangible assets acquired include amounts for in-place lease values that are based on our evaluation of the specific characteristics of each tenants lease. Factors to be considered include estimates of carrying costs during hypothetical expected lease-up periods considering current market conditions, and costs to execute similar leases. In estimating carrying costs, we include real estate taxes, insurance and other operating expenses and estimates of lost rentals at market rates during the expected lease-up periods, depending on local market conditions. In estimating costs to execute similar leases, we consider leasing commissions, legal and other related expenses.
Management reviews its long-lived assets for impairment every quarter and when there is an event or change in circumstances that indicates an impairment in value. An impairment loss is recognized if the carrying amount of its assets is not recoverable and exceeds its fair value. If such criteria are present, an impairment loss is recognized based on the excess of the carrying amount of the asset over its fair value. The evaluation of anticipated cash flows is highly subjective and is based in part on assumptions regarding anticipated hold periods, future occupancy, rental rates and capital requirements that could differ materially from actual results in future periods. Since cash flows on properties considered to be long-lived assets to be held and used are considered on an undiscounted basis to determine whether an asset has been impaired, our established strategy of holding properties over the long term directly decreases the likelihood of recording an impairment loss. If our hold strategy changes or market conditions otherwise dictate an earlier sale date, an impairment loss may be recognized and such loss could be material. If we determine that an impairment has occurred, the affected assets must be reduced to their fair value, less cost to sell.
Guidance in Accounting Standards Codification (ASC) 360 Property Plant and Equipment (ASC 360) requires that qualifying assets and liabilities and the results of operations that have been sold, or otherwise qualify as held for sale, be presented as discontinued operations in all periods presented if the property operations are expected to be eliminated and we will not have significant continuing involvement following the sale. The components of the propertys net income that is reflected as discontinued operations include the net gain (or loss) upon the disposition of the property held for sale, operating results, depreciation and interest expense (if the property is subject to a secured loan). We generally consider assets to be held for sale when the transaction has been approved by our Board of Directors, or a committee thereof, and there are no known significant contingencies relating to the sale, such that a sale of the property within one year is considered probable. Following the classification of a property as held for sale, no further depreciation is recorded on the assets, and the asset is written down to the lower of carrying value or fair market value, less cost to sell. On April 10, 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2014-08, Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity (ASU 2014-08). ASU 2014-08 clarifies that discontinued operations presentation applies only to disposals representing a strategic shift that has (or will have) a major effect on an entitys operations and financial results (e.g., a disposal of a major geographical area, a major line of business, a major equity method investment or other major parts of an entity). ASU 2014-08 is effective prospectively for reporting periods beginning after December 15, 2014. Early adoption is permitted, and we early adopted ASU 2014-08 during the first quarter of 2014. Our adoption of ASU 2014-08 resulted in the operating results and gain on sale of real estate from the operating property sold during the three months ended March 31, 2015 not being reflected as Discontinued Operations in our Consolidated Statements of Operations (See Note 3 to the Consolidated Financial Statements).
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Real estate is stated at depreciated cost. A variety of costs are incurred in the acquisition, development and leasing of properties. The cost of buildings and improvements includes the purchase price of property, legal fees and other acquisition costs. We expense costs that we incur to effect a business combination such as legal, due diligence and other closing related costs. Costs directly related to the development of properties are capitalized. Capitalized development costs include interest, internal wages, property taxes, insurance, and other project costs incurred during the period of development. After the determination is made to capitalize a cost, it is allocated to the specific component of a project that is benefited. Determination of when a development project commences and capitalization begins, and when a development project is substantially complete and held available for occupancy and capitalization must cease, involves a degree of judgment. Our capitalization policy on development properties is guided by guidance in ASC 835-20 Capitalization of Interest and ASC 970 Real Estate-General. The costs of land and buildings under development include specifically identifiable costs.
The capitalized costs include pre-construction costs necessary to the development of the property, development costs, construction costs, interest costs, real estate taxes, salaries and related costs and other costs incurred during the period of development. We begin the capitalization of costs during the pre-construction period which we define as activities that are necessary to the development of the property. We consider a construction project as substantially completed and held available for occupancy upon the completion of tenant improvements, but no later than one year from cessation of major construction activity. We cease capitalization on the portion (1) substantially completed, (2) occupied or held available for occupancy, and we capitalize only those costs associated with the portion under construction or (3) if activities necessary for the development of the property have been suspended.
Investments in Unconsolidated Joint Ventures
We consolidate variable interest entities (VIEs) in which we are considered to be the primary beneficiary. VIEs are entities in which the equity investors do not have sufficient equity at risk to finance their endeavors without additional financial support or that the holders of the equity investment at risk do not have a controlling financial interest. The primary beneficiary is defined by the entity having both of the following characteristics: (1) the power to direct the activities that, when taken together, most significantly impact the variable interest entitys performance, and (2) the obligation to absorb losses and right to receive the returns from the variable interest entity that would be significant to the variable interest entity. For ventures that are not VIEs we consolidate entities for which we have significant decision making control over the ventures operations. Our judgment with respect to our level of influence or control of an entity involves the consideration of various factors including the form of our ownership interest, our representation in the entitys governance, the size of our investment (including loans), estimates of future cash flows, our ability to participate in policy making decisions and the rights of the other investors to participate in the decision making process and to replace us as manager and/or liquidate the venture, if applicable. Our assessment of our influence or control over an entity affects the presentation of these investments in our consolidated financial statements. In addition to evaluating control rights, we consolidate entities in which the outside partner has no substantive kick-out rights to remove us as the managing member.
Accounts of the consolidated entity are included in our accounts and the non-controlling interest is reflected on the Consolidated Balance Sheets as a component of equity or in temporary equity between liabilities and equity. Investments in unconsolidated joint ventures are recorded initially at cost, and subsequently adjusted for equity in earnings and cash contributions and distributions. Any difference between the carrying amount of these investments on the balance sheet and the underlying equity in net assets is amortized as an adjustment to equity in earnings of unconsolidated joint ventures over the life of the related asset. Under the equity method of accounting, our net equity investment is reflected within the Consolidated Balance Sheets, and our share of net income or loss from the joint ventures is included within the Consolidated Statements of Operations. The joint venture agreements may designate different percentage allocations among investors for profits and losses; however, our recognition of joint venture income or loss generally follows the joint ventures distribution priorities, which may change upon the achievement of certain investment return thresholds. We may account for cash distributions in excess of our investment in an unconsolidated joint venture as income when we are not the general partner in a limited partnership and when we have neither the requirement nor the intent to provide
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financial support to the joint venture. Our investments in unconsolidated joint ventures are reviewed for impairment periodically and we record impairment charges when events or circumstances change indicating that a decline in the fair values below the carrying values has occurred and such decline is other-than-temporary. The ultimate realization of the investment in unconsolidated joint ventures is dependent on a number of factors, including the performance of each investment and market conditions. We will record an impairment charge if we determine that a decline in the value below the carrying value of an investment in an unconsolidated joint venture is other-than-temporary.
To the extent that we contribute assets to a joint venture, our investment in the joint venture is recorded at our cost basis in the assets that were contributed to the joint venture. To the extent that our cost basis is different than the basis reflected at the joint venture level, the basis difference is amortized over the life of the related asset and included in our share of equity in net income of the joint venture. In accordance with the provisions of ASC 970-323 Investments-Equity Method and Joint Ventures (ASC 970-323), we will recognize gains on the contribution of real estate to joint ventures, relating solely to the outside partners interest, to the extent the economic substance of the transaction is a sale.
The combined summarized financial information of the unconsolidated joint ventures is disclosed in Note 4 to the Consolidated Financial Statements.
Revenue Recognition
In general, we commence rental revenue recognition when the tenant takes possession of the leased space and the leased space is substantially ready for its intended use. Contractual rental revenue is reported on a straight-line basis over the terms of our respective leases. We recognize rental revenue of acquired in-place above- and below-market leases at their fair values over the original term of the respective leases. Accrued rental income as reported on the Consolidated Balance Sheets represents rental income recognized in excess of rent payments actually received pursuant to the terms of the individual lease agreements.
For the three months ended March 31, 2015, the impact of the net adjustments of rents from above- and below-market leases increased rental revenue by approximately $10.0 million. For the three months ended March 31, 2015, the impact of the straight-line rent adjustment increased rental revenue by approximately $25.9 million. Those amounts exclude the adjustment of rents from above- and below-market leases and straight-line income from unconsolidated joint ventures, which are disclosed in Note 4 to the Consolidated Financial Statements.
Our leasing strategy is generally to secure creditworthy tenants that meet our underwriting guidelines. Furthermore, following the initiation of a lease, we continue to actively monitor the tenants creditworthiness to ensure that all tenant related assets are recorded at their realizable value. When assessing tenant credit quality, we:
| review relevant financial information, including: |
| financial ratios; |
| net worth; |
| revenue; |
| cash flows; |
| leverage; and |
| liquidity; |
| evaluate the depth and experience of the tenants management team; and |
| assess the strength/growth of the tenants industry. |
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As a result of the underwriting process, tenants are then categorized into one of three categories:
(1) | acceptable-risk tenants; |
(2) | the tenants credit is such that we may require collateral, in which case we: |
| may require a security deposit; and/or |
| may reduce upfront tenant improvement investments; or |
(3) | the tenants credit is below our acceptable parameters. |
We consistently monitor the credit quality of our tenant base. We provide an allowance for doubtful accounts arising from estimated losses that could result from the tenants inability to make required current rent payments and an allowance against accrued rental income for future potential losses that we deem to be unrecoverable over the term of the lease.
Tenant receivables are assigned a credit rating of 1 through 4. A rating of 1 represents the highest possible rating and no allowance is recorded. A rating of 4 represents the lowest credit rating, in which case we record a full reserve against the receivable balance. Among the factors considered in determining the credit rating include:
| payment history; |
| credit status and change in status (credit ratings for public companies are used as a primary metric); |
| change in tenant space needs (i.e., expansion/downsize); |
| tenant financial performance; |
| economic conditions in a specific geographic region; and |
| industry specific credit considerations. |
If our estimates of collectability differ from the cash received, the timing and amount of our reported revenue could be impacted. The average remaining term of our in-place tenant leases, including unconsolidated joint ventures, was approximately 6.8 years as of March 31, 2015. The credit risk is mitigated by the high quality of our existing tenant base, reviews of prospective tenants risk profiles prior to lease execution and consistent monitoring of our portfolio to identify potential problem tenants.
Recoveries from tenants, consisting of amounts due from tenants for common area maintenance, real estate taxes and other recoverable costs, are recognized as revenue in the period during which the expenses are incurred. Tenant reimbursements are recognized and presented in accordance with guidance in ASC 605-45 Principal Agent Considerations (ASC 605-45). ASC 605-45 requires that these reimbursements be recorded on a gross basis, as we are generally the primary obligor with respect to purchasing goods and services from third-party suppliers, have discretion in selecting the supplier and have credit risk. We also receive reimbursement of payroll and payroll related costs from third parties which we reflect on a net basis.
Our parking revenues are derived from leases, monthly parking and transient parking. We recognize parking revenue as earned.
Our hotel revenues are derived from room rentals and other sources such as charges to guests for telephone service, movie and vending commissions, meeting and banquet room revenue and laundry services. Hotel revenues are recognized as earned.
We receive management and development fees from third parties. Property management fees are recorded and earned based on a percentage of collected rents at the properties under management, and not on a straight-line basis, because such fees are contingent upon the collection of rents. We review each development agreement and record development fees as earned depending on the risk associated with each project. Profit on development fees earned from joint venture projects are recognized as revenue to the extent of the third-party partners ownership interest.
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Gains on sales of real estate are recognized pursuant to the provisions included in ASC 360-20 Real Estate Sales (ASC 360-20). The specific timing of the sale is measured against various criteria in ASC 360-20 related to the terms of the transaction and any continuing involvement in the form of management or financial assistance associated with the properties. If the sales criteria for the full accrual method are not met, we defer some or all of the gain recognition and account for the continued operations of the property by applying the finance, leasing, profit sharing, deposit, installment or cost recovery methods, as appropriate, until the sales criteria are met.
Depreciation and Amortization
We compute depreciation and amortization on our properties using the straight-line method based on estimated useful asset lives. We allocate the acquisition cost of real estate to its components and depreciate or amortize these assets over their useful lives. The amortization of acquired above- and below-market leases and acquired in-place leases is recorded as an adjustment to revenue and depreciation and amortization, respectively, in the Consolidated Statements of Operations.
Fair Value of Financial Instruments
The carrying values of cash and cash equivalents, marketable securities, escrows, receivables, accounts payable, accrued expenses and other assets and liabilities are reasonable estimates of their fair values because of the short maturities of these instruments.
We follow the authoritative guidance for fair value measurements when valuing our financial instruments for disclosure purposes. We determine the fair value of our unsecured senior notes and unsecured exchangeable senior notes using market prices. The inputs used in determining the fair value of our unsecured senior notes and unsecured exchangeable senior notes is categorized at a level 1 basis (as defined in the accounting standards for Fair Value Measurements and Disclosures) due to the fact that we use quoted market rates to value these instruments. However, the inputs used in determining the fair value could be categorized at a level 2 basis if trading volumes are low. We determine the fair value of our mortgage notes payable using discounted cash flow analyses by discounting the spread between the future contractual interest payments and hypothetical future interest payments on mortgage debt based on current market rates for similar securities. In determining the current market rates, we add our estimates of market spreads to the quoted yields on federal government treasury securities with similar maturity dates to our debt. The inputs used in determining the fair value of our mortgage notes payable and mezzanine notes payable are categorized at a level 3 basis (as defined in the accounting standards for Fair Value Measurements and Disclosures) due to the fact that we consider the rates used in the valuation techniques to be unobservable inputs.
Derivative Instruments and Hedging Activities
Derivative instruments and hedging activities require management to make judgments on the nature of its derivatives and their effectiveness as hedges. These judgments determine if the changes in fair value of the derivative instruments are reported in the Consolidated Statements of Operations as a component of net income or as a component of comprehensive income and as a component of equity on the Consolidated Balance Sheets. While management believes its judgments are reasonable, a change in a derivatives effectiveness as a hedge could materially affect expenses, net income and equity. We account for the effective portion of changes in the fair value of a derivative in other comprehensive income (loss) and subsequently reclassify the effective portion to earnings over the term that the hedged transaction affects earnings. We account for the ineffective portion of changes in the fair value of a derivative directly in earnings.
Recent Accounting Pronouncements
On April 10, 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2014-08, Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity (ASU 2014-08). ASU No. 2014-08 clarifies that discontinued operations presentation applies only
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to disposals representing a strategic shift that has (or will have) a major effect on an entitys operations and financial results (e.g., a disposal of a major geographical area, a major line of business, a major equity method investment or other major parts of an entity). ASU 2014-08 is effective prospectively for reporting periods beginning after December 15, 2014. Early adoption is permitted, and we early adopted ASU 2014-08 during the first quarter of 2014. Our adoption of ASU 2014-08 resulted in the operating results and gain on sale of real estate from the operating property sold during the three months ended March 31, 2015 not being reflected as Discontinued Operations in our Consolidated Statements of Operations (See Note 3 to the Consolidated Financial Statements).
In February 2015, the FASB issued ASU 2015-02, Consolidation (Topic 810): Amendments to the Consolidation Analysis (ASU 2015-02). ASU 2015-02 affects reporting entities that are required to evaluate whether they should consolidate certain legal entities. ASU 2015-02 modifies the evaluation of whether limited partnerships and similar legal entities are VIEs or voting interest entities, eliminates the presumption that a general partner should consolidate a limited partnership and affects the consolidation analysis of reporting entities that are involved with VIEs, particularly those that have fee arrangements and related party relationships. ASU 2015-02 is effective for fiscal years, and for interim periods within those fiscal years, beginning after December 15, 2015. Early adoption is permitted. A reporting entity may apply the amendments in ASU 2015-02 using: (a) a modified retrospective approach by recording a cumulative-effect adjustment to equity as of the beginning of the fiscal year of adoption; or (b) by applying the amendments retrospectively. We are currently assessing the potential impact that the adoption of ASU 2015-02 will have on our consolidated financial statements.
In April 2015, the FASB issued ASU 2015-03, Simplifying the Presentation of Debt Issuance Costs (ASU 2015-03), which requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The recognition and measurement guidance for debt issuance costs is not affected. ASU 2015-03 is effective for financial statements issued fiscal years beginning after December 15, 2015, and interim periods within those fiscal years and shall be applied on a retrospective basis, wherein the balance sheet of each individual period presented should be adjusted to reflect the period-specific effects of applying the new guidance. Early adoption is permitted for financial statements that have not been previously issued. We do not expect the adoption of ASU 2015-03 to have a material impact on our consolidated financial statements.
Results of Operations
The following discussion is based on our Consolidated Statements of Operations for the three months ended March 31, 2015 and 2014.
At March 31, 2015 and March 31, 2014, we owned or had interests in a portfolio of 168 and 175 properties, respectively (in each case, the Total Property Portfolio). As a result of changes within our Total Property Portfolio, the financial data presented below shows significant changes in revenue and expenses from period-to-period. Accordingly, we do not believe that our period-to-period financial data with respect to the Total Property Portfolio is necessarily meaningful. Therefore, the comparison of operating results for the three months ended March 31, 2015 and 2014 show separately the changes attributable to the properties that were owned by us and in-service throughout each period compared (the Same Property Portfolio) and the changes attributable to the properties included in the Placed In-Service, Acquired, Development or Redevelopment or Sold Portfolios.
In our analysis of operating results, particularly to make comparisons of net operating income between periods meaningful, it is important to provide information for properties that were in-service and owned by us throughout each period presented. We refer to properties acquired or consolidated or placed in-service prior to the beginning of the earliest period presented and owned by us and in service through the end of the latest period presented as our Same Property Portfolio. The Same Property Portfolio therefore excludes properties placed in-service, acquired or in development or redevelopment after the beginning of the earliest period presented or disposed of prior to the end of the latest period presented.
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Net operating income, or NOI, is a non-GAAP financial measure equal to net income attributable to Boston Properties, Inc. common shareholders, the most directly comparable GAAP financial measure, plus income attributable to noncontrolling interests, depreciation and amortization, interest expense, transaction costs, general and administrative expense, less gains on sales of real estate, gains from investments in securities, income from unconsolidated joint ventures, interest and other income and development and management services revenue. We use NOI internally as a performance measure and believe NOI provides useful information to investors regarding our financial condition and results of operations because it reflects only those income and expense items that are incurred at the property level. Therefore, we believe NOI is a useful measure for evaluating the operating performance of our real estate assets.
Our management also uses NOI to evaluate regional property level performance and to make decisions about resource allocations. Further, we believe NOI is useful to investors as a performance measure because, when compared across periods, NOI reflects the impact on operations from trends in occupancy rates, rental rates, operating costs and acquisition and development activity on an unleveraged basis, providing perspectives not immediately apparent from net income attributable to Boston Properties, Inc. common shareholders. NOI excludes certain components from net income attributable to Boston Properties, Inc. common shareholders in order to provide results that are more closely related to a propertys results of operations. For example, interest expense is not necessarily linked to the operating performance of a real estate asset and is often incurred at the corporate level as opposed to the property level. In addition, depreciation and amortization, because of historical cost accounting and useful life estimates, may distort operating performance at the property level. NOI presented by us may not be comparable to NOI reported by other REITs that define NOI differently. We believe that in order to facilitate a clear understanding of our operating results, NOI should be examined in conjunction with net income attributable to Boston Properties, Inc. common shareholders as presented in our Consolidated Financial Statements. NOI should not be considered as an alternative to net income attributable to Boston Properties, Inc. common shareholders as an indication of our performance or to cash flows as a measure of liquidity or ability to make distributions. For a reconciliation of NOI to net income attributable to Boston Properties, Inc. commons shareholders, see Note 11 to the Consolidated Financial Statements.
Comparison of the three months ended March 31, 2015 to the three months ended March 31, 2014.
The table below shows selected operating information for the Same Property Portfolio and the Total Property Portfolio. The Same Property Portfolio consists of 147 properties totaling approximately 38.0 million net rentable square feet of space, excluding unconsolidated joint ventures. The Same Property Portfolio includes properties acquired or consolidated or placed in-service on or prior to January 1, 2014 and owned and in service through March 31, 2015. The Total Property Portfolio includes the effects of the other properties either placed in-service, acquired or in development or redevelopment after January 1, 2014 or disposed of on or prior to March 31, 2015. This table includes a reconciliation from the Same Property Portfolio to the Total Property Portfolio by also providing information for the three months ended March 31, 2015 and 2014 with respect to the properties that were placed in-service or sold. For the three months ended March 31, 2015 and 2014 we had no properties that were acquired or in development or redevelopment.
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Same Property Portfolio | Properties Placed In-Service Portfolio |
Properties Sold Portfolio |
Total Property Portfolio | |||||||||||||||||||||||||||||||||||||||||||||
(dollars in thousands) |
2015 | 2014 | Increase/ (Decrease) |
% Change |
2015 | 2014 | 2015 | 2014 | 2015 | 2014 | Increase/ (Decrease) |
% Change |
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Rental Revenue: |
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Rental Revenue |
$ | 560,500 | $ | 545,634 | $ | 14,866 | 2.72 | % | $ | 21,785 | $ | 609 | $ | | $ | 8,250 | $ | 582,285 | $ | 554,493 | $ | 27,792 | 5.01 | % | ||||||||||||||||||||||||
Termination Income |
14,924 | 1,110 | 13,814 | 1,244.50 | % | | | | | 14,924 | 1,110 | 13,814 | 1,244.50 | % | ||||||||||||||||||||||||||||||||||
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Total Rental Revenue |
575,424 | 546,744 | 28,680 | 5.25 | % | 21,785 | 609 | | 8,250 | 597,209 | 555,603 | 41,606 | 7.49 | % | ||||||||||||||||||||||||||||||||||
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Real Estate Operating Expenses |
209,451 | 198,690 | 10,761 | 5.42 | % | 8,353 | 1,408 | | 2,528 | 217,804 | 202,626 | 15,178 | 7.49 | % | ||||||||||||||||||||||||||||||||||
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Net Operating Income, excluding residential and hotel |
365,973 | 348,054 | 17,919 | 5.15 | % | 13,432 | (799 | ) | | 5,722 | 379,405 | 352,977 | 26,428 | 7.49 | % | |||||||||||||||||||||||||||||||||
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Residential Net Operating Income(1) |
669 | 716 | (47 | ) | (6.56 | )% | 1,429 | (551 | ) | 1,210 | 1,755 | 3,308 | 1,920 | 1,388 | 72.29 | % | ||||||||||||||||||||||||||||||||
Hotel Net Operating Income(1) |
1,509 | 1,396 | 113 | 8.09 | % | | | | | 1,509 | 1,396 | 113 | 8.09 | % | ||||||||||||||||||||||||||||||||||
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Consolidated Net Operating Income(1) |
368,151 | 350,166 | 17,985 | 5.14 | % | 14,861 | (1,350 | ) | 1,210 | 7,477 | 384,222 | 356,293 | 27,929 | 7.84 | % | |||||||||||||||||||||||||||||||||
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Other Revenue: |
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Development and management services |
| | | | | | | | 5,328 | 5,216 | 112 | 2.15 | % | |||||||||||||||||||||||||||||||||||
Other Expenses: |
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General and administrative expense |
| | | | | | | | 28,791 | 29,905 | (1,114 | ) | (3.73 | )% | ||||||||||||||||||||||||||||||||||
Transaction costs |
| | | | | | | | 327 | 437 | (110 | ) | (25.17 | )% | ||||||||||||||||||||||||||||||||||
Depreciation and amortization |
145,200 | 149,934 | (4,734 | ) | (3.16 | )% | 8,902 | 998 | 121 | 3,338 | 154,223 | 154,270 | (47 | ) | (0.03 | )% | ||||||||||||||||||||||||||||||||
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Total Other Expenses |
145,200 | 149,934 | (4,734 | ) | (3.16 | )% | 8,902 | 998 | 121 | 3,338 | 183,341 | 184,612 | (1,271 | ) | (0.69 | )% | ||||||||||||||||||||||||||||||||
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Operating Income |
222,951 | 200,232 | 22,719 | 11.35 | % | 5,959 | (2,348 | ) | 1,089 | 4,139 | 206,209 | 176,897 | 29,312 | 16.57 | % | |||||||||||||||||||||||||||||||||
Other Income: |
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Income from unconsolidated joint ventures |
14,834 | 2,816 | 12,018 | 426.78 | % | |||||||||||||||||||||||||||||||||||||||||||
Interest and other income |
1,407 | 1,311 | 96 | 7.32 | % | |||||||||||||||||||||||||||||||||||||||||||
Gains from investments in securities |
393 | 286 | 107 | 37.41 | % | |||||||||||||||||||||||||||||||||||||||||||
Other Expenses: |
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Interest expense |
108,757 | 113,554 | (4,797 | ) | (4.22 | )% | ||||||||||||||||||||||||||||||||||||||||||
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Income Before Gains on Sales of Real Estate |
114,086 | 67,756 | 46,330 | 68.38 | % | |||||||||||||||||||||||||||||||||||||||||||
Gains on sales of real estate |
95,084 | | 95.084 | 100.00 | % | |||||||||||||||||||||||||||||||||||||||||||
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Net Income |
209,170 | 67,756 | 141,414 | 208.71 | % | |||||||||||||||||||||||||||||||||||||||||||
Net Income Attributable to Noncontrolling Interests: |
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Noncontrolling interests in property partnerships |
(15,208 | ) | (4,354 | ) | (10,854 | ) | (249.29 | )% | ||||||||||||||||||||||||||||||||||||||||
Noncontrolling interest redeemable preferred units of the Operating Partnership |
(3 | ) | (619 | ) | 616 | 99.52 | % | |||||||||||||||||||||||||||||||||||||||||
Noncontrolling interest common units of the Operating Partnership |
(20,188 | ) | (6,160 | ) | (14,028 | ) | (227.73 | )% | ||||||||||||||||||||||||||||||||||||||||
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Net Income Attributable to Boston Properties, Inc. |
173,771 | 56,623 | 117,148 | 206.89 | % | |||||||||||||||||||||||||||||||||||||||||||
Preferred dividends |
(2,589 | ) | (2,589 | ) | | | % | |||||||||||||||||||||||||||||||||||||||||
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Net Income Attributable to Boston Properties, Inc. common shareholders |
$ | 171,182 | $ | 54,034 | $ | 117,148 | 216.80 | % | ||||||||||||||||||||||||||||||||||||||||
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(1) | For a detailed discussion of NOI, including the reasons management believes NOI is useful to investors, see page 38. Residential Net Operating Income for the three months ended March 31, 2015 and 2014 are comprised of Residential Revenue of $6,854 and $5,682 less Residential Expenses of $3,546 and $3,762, respectively. Hotel Net Operating Income for the three months ended March 31, 2015 and 2014 are comprised of Hotel Revenue of $9,085 and $8,193 less Hotel Expenses of $7,576 and $6,797, respectively, per the Consolidated Statements of Operations. |
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Same Property Portfolio
Rental Revenue
Rental revenue from the Same Property Portfolio increased approximately $14.9 million for the three months ended March 31, 2015 compared to 2014. The increase was primarily the result of an increase of approximately $12.6 million in revenue from our leases, an increase in other recoveries of approximately $1.7 million and an increase in parking income of approximately $0.6 million. Rental revenue from our leases increased approximately $12.6 million as a result of our average revenue per square foot increasing by approximately $2.09, contributing approximately $18.1 million, partially offset by a decrease of approximately $5.5 million due to a decrease in average occupancy from 93.0% to 91.9%.
For fiscal 2015, we project our occupancy will average just under 91% due to several large lease expirations in our Boston region. We expect our Same Property Portfolio NOI for 2015 to range from a decrease of 0.50% to an increase of 0.50% when compared to 2014.
Termination Income
Termination income increased by approximately $13.8 million for the three months ended March 31, 2015 compared to 2014.
Termination income for the three months ended March 31, 2015 related to fifteen tenants across the Same Property Portfolio and totaled approximately $14.9 million, of which approximately $8.6 million and $1.2 million related to early terminations in our New York and San Francisco regions, respectively, and approximately $4.5 million related to a second interim distribution we received from our unsecured creditor claim against Lehman Brothers, Inc. (See Note 6 of the Consolidated Financial Statements).
Termination income for the three months ended March 31, 2014 related to eleven tenants across the Same Property Portfolio and totaled approximately $1.1 million, of which approximately $0.5 million was related to a negotiated settlement with a former tenant at Kendall Center (formerly Cambridge Center).
Real Estate Operating Expenses
Operating expenses from the Same Property Portfolio increased approximately $10.8 million for the three months ended March 31, 2015 compared to 2014 due primarily to (1) an increase of approximately $5.0 million, or 5.6%, in real estate taxes, which we primarily experienced in our New York region, (2) an increase of approximately $2.2 million, or 6.5%, in utilities expense primarily due to an increase in electricity expense in the New York region, (3) an increase of approximately $2.0 million, or 17.7%, in roads and grounds expenses primarily related to snow removal in the Boston region, (4) an increase of approximately $1.5 million, or 5.0%, in repairs and maintenance expense and (5) an increase of approximately $0.1 million, or 0.1%, in other operating expenses.
Depreciation and Amortization Expense
Depreciation and amortization expense for the Same Property Portfolio decreased approximately $4.7 million, or 3.2%, for the three months ended March 31, 2015 compared to 2014 primarily due to several lease expirations at 767 Fifth Avenue (the General Motors Building) in New York City and the John Hancock Building in Boston, Massachusetts that occurred during 2014. Leasehold improvements and leasing commissions are depreciated and amortized over their respective lease terms, as such, when the lease term expires these assets are fully depreciated therefore causing the decrease in depreciation for the three months ended March 31, 2015 compared to 2014.
Properties Placed In-Service Portfolio
We placed in-service or partially placed in-service six properties between January 1, 2014 and March 31, 2015. Rental revenue, real estate operating expenses and depreciation and amortization expense from our
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Properties Placed In-Service Portfolio increased approximately $23.4 million, $7.2 million and $7.9 million, respectively, for the three months ended March 31, 2015 compared to 2014 as detailed below.
Name | Quarter Initially Placed In-Service |
Quarter Fully Placed In-Service |
Square Feet |
Rental Revenue | Real
Estate Operating Expenses |
Depreciation
and Amortization Expense |
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2015 | 2014 | Change | 2015 | 2014 | Change | 2015 | 2014 | Change | ||||||||||||||||||||||||||||||||||||
(dollars in thousands) | ||||||||||||||||||||||||||||||||||||||||||||
Office |
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250 West 55th Street |
Third Quarter, 2013 |
Third Quarter, 2014 |
988,309 | $ | 12,906 | $ | 601 | $ | 12,305 | $ | 5,771 | $ | 1,367 | $ | 4,404 | $ | 5,043 | $ | 387 | $ | 4,656 | |||||||||||||||||||||||
680 Folsom Street(1) |
Fourth Quarter, 2013 |
Third Quarter, 2014 |
524,793 | 7,251 | 8 | 7,243 | 1,873 | 41 | 1,832 | 2,529 | 16 | 2,513 | ||||||||||||||||||||||||||||||||
535 Mission Street |
Fourth Quarter, 2014 |
N/A | 307,000 | 1,453 | | 1,453 | 675 | | 675 | 533 | | 533 | ||||||||||||||||||||||||||||||||
690 Folsom Street |
Fourth Quarter, 2014 |
N/A | 26,000 | 175 | | 175 | 34 | | 34 | 86 | | 86 | ||||||||||||||||||||||||||||||||
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1,846,102 | $ | 21,785 | $ | 609 | $ | 21,176 | $ | 8,353 | $ | 1,408 | $ | 6,945 | $ | 8,191 | $ | 403 | $ | 7,788 | ||||||||||||||||||||||||||
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The Avant at Reston Town Center(2) |
Fourth Quarter, 2013 |
First Quarter, 2014 |
355,347 | $ | 2,446 | $ | 231 | $ | 2,215 | $ | 1,017 | $ | 782 | $ | 235 | $ | 711 | $ | 595 | $ | 116 | |||||||||||||||||||||||
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2,201,449 | $ | 24,231 | $ | 840 | $ | 23,391 | $ | 9,370 | $ | 2,190 | $ | 7,180 | $ | 8,902 | $ | 998 | $ | 7,904 | ||||||||||||||||||||||||||
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(1) | This property is a two-building complex. |
(2) | This property has 359 apartment units and 26,179 net rentable square feet of retail space. |
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Properties Sold Portfolio
We sold the following properties between January 1, 2014 and March 31, 2015. Rental revenue, real estate and operating expenses and depreciation and amortization expense from our Properties Sold Portfolio decreased approximately $9.3 million, $3.0 million and $3.2 million, respectively, for the three months ended March 31, 2015 compared to 2014 as detailed below.
Rental Revenue | Real Estate Operating Expenses |
Depreciation and Amortization Expense |
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Name |
Date sold | Property Type |
Square Feet (sf) / Acres |
2015 | 2014 | Change | 2015 | 2014 | Change | 2015 | 2014 | Change | ||||||||||||||||||||||||||||||
(dollars in thousands) | ||||||||||||||||||||||||||||||||||||||||||
Class A Office, Office/Technical and Land |
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Mountain View Technology Park(1) |
July 29, 2014 | Office / Technical |
135,000 sf | $ | | $ | 1,118 | $ | (1,118 | ) | $ | | $ | 176 | $ | (176 | ) | $ | | $ | 705 | $ | (705 | ) | ||||||||||||||||||
Mountain View Research Park Building Sixteen |
July 29, 2014 | Office /Technical |
63,000 sf | | 643 | (643 | ) | | 88 | (88 | ) | | 430 | (430 | ) | |||||||||||||||||||||||||||
Broad Run Business Park |
August 22, 2014 |
Land Parcel |
15.5 acres | | 367 | (367 | ) | | 94 | (94 | ) | | 4 | (4 | ) | |||||||||||||||||||||||||||
Patriots Park(2) |
October 2, 2014 |
Class A Office |
706,000 sf | | 5,921 | (5,921 | ) | | 2,061 | (2,061 | ) | | 1,394 | (1,394 | ) | |||||||||||||||||||||||||||
130 Third Avenue |
October 24, 2014 |
Land Parcel |
N/A(3) | | 86 | (86 | ) | | 109 | (109 | ) | | | | ||||||||||||||||||||||||||||
75 Ames Street |
December 30, 2014 |
Land Parcel |
N/A(4) | | 115 | (115 | ) | | | | | | | |||||||||||||||||||||||||||||
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$ | | $ | 8,250 | $ | (8,250 | ) | $ | | $ | 2,528 | $ | (2,528 | ) | $ | | $ | 2,533 | $ | (2,533 | ) | ||||||||||||||||||||||
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Residences on The Avenue |
March 17, 2015 |
Residential | 323,050 sf (5) |
$ | 3,230 | $ | 4,288 | $ | (1,058 | ) | $ | 2,020 | $ | 2,533 | $ | (513 | ) | $ | 121 | $ | 805 | $ | (684 | ) | ||||||||||||||||||
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$ | 3,230 | $ | 12,538 | $ | (9,308 | ) | $ | 2,020 | $ | 5,061 | $ | (3,041 | ) | $ | 121 | $ | 3,338 | $ | (3,217 | ) | ||||||||||||||||||||||
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(1) | This property is a seven-building complex. |
(2) | This property is a three-building complex. |
(3) | This site is permitted for 129,000 square feet. |
(4) | This sale was a conveyance to an unrelated third-party of a condominium interest. |
(5) | This property has 335 apartment units and approximately 50,000 net rentable square feet of retail space. |
Operating Income and Expense Items
Residential Net Operating Income
Net operating income for our residential properties increased by approximately $1.4 million for the three months ended March 31, 2015 compared to 2014.
The following reflects our occupancy and rate information for The Lofts at Atlantic Wharf and The Avant at Reston Town Center for the three months ended March 31, 2015 and 2014. On March 17, 2015, we sold the Residences on The Avenue and therefore there is no information shown for the three months ended March 31, 2015.
The Lofts at Atlantic Wharf | Residences on The Avenue(1) | The Avant at Reston Town Center(2) |
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2015 | 2014 | Percentage Change |
2015 | 2014 | Percentage Change |
2015 | 2014 | Percentage Change |
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Average Physical Occupancy(3) |
98.1 | % | 96.9 | % | 1.2 | % | N/A | 92.5 | % | N/A | 80.1 | % | 10.5 | % | 662.9 | % | ||||||||||||||||||||
Average Economic Occupancy(4) |
98.8 | % | 97.7 | % | 1.1 | % | N/A | 91.8 | % | N/A | 76.9 | % | 7.5 | % | 925.3 | % | ||||||||||||||||||||
Average Monthly Rental Rate(5) |
$ | 4,012 | $ | 3,927 | 2.2 | % | N/A | $ | 3,182 | N/A | $ | 2,244 | $ | 1,875 | 19.7 | % | ||||||||||||||||||||
Average Rental Rate Per Occupied Square Foot |
$ | 4.44 | $ | 4.37 | 1.6 | % | N/A | $ | 3.90 | N/A | $ | 2.45 | $ | 2.04 | 20.1 | % |
(1) | This property was sold during the first quarter of 2015. For the operating results refer to Results of OperationsProperties Sold Portfolio within Item 2Managements Discussion and Analysis of Financial Condition and Results of Operations and Note 3 to the Consolidated Financial Statements. |
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(2) | This property was initially placed in-service during the fourth quarter of 2013 and fully placed in-service during the first quarter of 2014. For the operating results refer to Results of OperationsProperties Placed in-Service Portfolio within Item 2Managements Discussion and Analysis of Financial Condition and Results of Operations. |
(3) | Average Physical Occupancy is defined as the average number of occupied units divided by the total number of units, expressed as a percentage. |
(4) | Average Economic Occupancy is defined as total possible revenue less vacancy loss as a percentage of total possible revenue. Total possible revenue is determined by valuing average occupied units at contract rates and average vacant units at Market Rents. Vacancy loss is determined by valuing vacant units at current Market Rents. By measuring vacant units at their Market Rents, Average Economic Occupancy takes into account the fact that units of different sizes and locations within a residential property have different economic impacts on a residential propertys total possible gross revenue. Market Rents used by us in calculating Economic Occupancy are based on the current market rates set by the managers of our residential properties based on their experience in renting their residential propertys units and publicly available market data. Trends in market rents for a region as reported by others could vary. Market Rents for a period are based on the average Market Rents during that period and do not reflect any impact for cash concessions. |
(5) | Average Monthly Rental Rates are calculated by us as rental revenue in accordance with GAAP, divided by the weighted monthly average number of occupied units. |
Hotel Net Operating Income
Net operating income for the Boston Marriott Cambridge hotel property increased by approximately $0.1 million for the three months ended March 31, 2015 compared to 2014. We expect our hotel net operating income for fiscal 2015 to be between $12 million and $14 million.
The following reflects our occupancy and rate information for the Boston Marriott Cambridge hotel for the three months ended March 31, 2015 and 2014.
2015 | 2014 | Percentage Change |
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Occupancy |
78.7 | % | 77.7 | % | 1.3 | % | ||||||
Average daily rate |
$ | 223.34 | $ | 199.88 | 11.7 | % | ||||||
Revenue per available room, REVPAR |
$ | 175.86 | $ | 155.78 | 12.9 | % |
Development and Management Services
Development and management services income increased approximately $0.1 million for the three months ended March 31, 2015 compared to 2014. Management service income increased by approximately $0.6 million, which was partially offset by development income decreasing by approximately $0.5 million. The increase in management service income was related to an increase in service income of approximately $0.4 million and an increase in management fees of approximately $0.2 million. The decrease in development income is primarily due to a decrease in development fees from our Boston third-party developments. We expect our fiscal 2015 development and management services income to be between $17 million and $22 million.
General and Administrative
General and administrative expenses decreased approximately $1.1 million for the three months ended March 31, 2015 compared to 2014 due primarily to a decrease in overall compensation expense. We expect our fiscal 2015 general and administrative expenses to be between $96 million and $100 million.
Wages directly related to the development and leasing of rental properties are capitalized and included in real estate assets or deferred charges on our Consolidated Balance Sheets and amortized over the useful lives of the real estate. Capitalized wages for the three months ended March 31, 2015 and 2014 were approximately $3.6 million and $3.5 million, respectively. These costs are not included in the general and administrative expenses discussed above.
Transaction Costs
Transaction costs decreased approximately $0.1 million for the three months ended March 31, 2015 compared to 2014. Transaction costs for both periods were primarily due to costs associated with the formation of several new and pending joint ventures, pending and completed asset sales and the pursuit of other transactions, including acquisitions.
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Other Income and Expense Items
Income from Unconsolidated Joint Ventures
For the three months ended March 31, 2015 compared to 2014, income from unconsolidated joint ventures increased by approximately $12.0 million due primarily to an approximately $11.9 million increase in our share of net income from 901 New York Avenue in Washington, DC. During the three months ended March 31, 2015, we received a distribution of approximately $24.5 million, which was generated from the excess loan proceeds from the joint ventures refinancing of its mortgage loan to a new 10-year mortgage loan totaling $225.0 million. Our allocation of income and distributions for the three months ended March 31, 2015 was not proportionate to our nominal ownership interest as a result of the achievement of specified investment return thresholds, as provided for in the joint venture agreement.
Gains from Investments in Securities
Gains from investments in securities for the three months ended March 31, 2015 and 2014 related to investments that we have made to reduce our market risk relating to a deferred compensation plan that we maintain for our officers. Under this deferred compensation plan, each officer who is eligible to participate is permitted to defer a portion of the officers current income on a pre-tax basis and receive a tax-deferred return on these deferrals based on the performance of specific investments selected by the officer. In order to reduce our market risk relating to this plan, we typically acquire, in a separate account that is not restricted as to its use, similar or identical investments as those selected by each officer. This enables us to generally match our liabilities to our officers under the deferred compensation plan with equivalent assets and thereby limit our market risk. The performance of these investments is recorded as gains from investments in securities. During the three months ended March 31, 2015 and 2014, we recognized gains of approximately $0.4 million and $0.3 million, respectively, on these investments. By comparison, our general and administrative expense increased by approximately $0.4 million and $0.3 million during the three months ended March 31, 2015 and 2014, respectively, as a result of increases in our liability under our deferred compensation plan that were associated with the performance of the specific investments selected by our officers participating in the plan.
Interest Expense
Interest expense decreased approximately $4.8 million for the three months ended March 31, 2015 compared to 2014 as detailed below:
Component |
Change in interest expense for the three months ended March 31, 2015 compared to March 31, 2014 |
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(in thousands) | ||||
Increases to interest expense due to: |
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Reduction in capitalized interest(1) |
$ | 9,743 | ||
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Total increases to interest expense |
$ | 9,743 | ||
Decreases to interest expense due to: |
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Redemption of $300.0 million in aggregate principal of our Operating Partnerships 5.625% senior notes due 2015 |
$ | (4,235 | ) | |
Repayment of $747.5 million in aggregate principal of our Operating Partnerships 3.625% exchangeable senior notes due 2014 |
(3,343 | ) | ||
Redemption of $250.0 million in aggregate principal of our Operating Partnerships 5.000% senior notes due 2015 |
(3,213 | ) | ||
Interest expense associated with the adjustment for the equity component allocation of our Operating Partnerships unsecured exchangeable debt(2) |
(2,438 | ) | ||
Repayment of mortgage financings(3) |
(879 | ) | ||
Other interest expense (excluding senior notes) |
(432 | ) | ||
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Total decreases to interest expense |
$ | (14,540 | ) | |
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Total change in interest expense |
$ | (4,797 | ) | |
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(1) | The decrease was primarily due to the completion of several development projects, including 250 West 55th Street, 680 Folsom Street and The Avant at Reston Town Center. |
(2) | All of our Operating Partnerships exchangeable senior notes were repaid as of February 18, 2014. |
(3) | Represents the repayment of New Dominion Technology Park Building Two mortgage loan. |
Interest expense directly related to the development of rental properties are capitalized and included in real estate assets on our Consolidated Balance Sheets and amortized over the useful lives of the real estate. As properties are placed in-service, we cease capitalizing interest and interest is then expensed. Interest capitalized for the three months ended March 31, 2015 and 2014 was approximately $8.0 million and $17.7 million, respectively. These costs are not included in the interest expense referenced above.
We anticipate net interest expense for 2015 will be approximately $423 million to $433 million. This estimate assumes approximately $30 million to $40 million of capitalized interest. These estimates also assume that we will not incur any additional indebtedness, make additional prepayments or repurchases of existing indebtedness and that there will not be any fluctuations in interest rates or any changes in the amount or schedule of our development activity.
At March 31, 2015, our variable rate debt consisted of our availability under our Operating Partnerships $1.0 billion Unsecured Line of Credit. For a summary of our consolidated debt as of March 31, 2015 and March 31, 2014 refer to the heading Liquidity and Capital ResourcesCapitalizationDebt Financing within Item 2Managements Discussion and Analysis of Financial Condition and Results of Operations.
Gains on Sales of Real Estate
On February 19, 2015, we completed the sale of a parcel of land within our Washingtonian North property located in Gaithersburg, Maryland for a gross sale price of $8.7 million. Net cash proceeds totaled approximately $8.3 million, resulting in a gain on sale of real estate totaling approximately $3.7 million. The parcel contains approximately 8.5 acres of the approximately 27 acre property.
On March 17, 2015, we completed the sale of our Residences on The Avenue property located in Washington, DC for a gross sale price of $196.0 million. Net cash proceeds totaled approximately $192.5 million, resulting in a gain on sale of real estate totaling approximately $91.4 million. We have agreed to provide net operating income support of up to $6.0 million should the propertys net operating income fail to achieve certain thresholds, which has been recorded as a reduction to the gain on sale. The Residences on The Avenue is comprised of 335 apartment units and approximately 50,000 net rentable square feet of retail space, subject to a ground lease that expires on February 1, 2068.
Noncontrolling interests in property partnerships
Noncontrolling interests in property partnerships increased by approximately $10.9 million for the three months ended March 31, 2015 compared to 2014 as detailed below.
Property |
Date of |
Partners noncontrolling interests for the three months ended March 31, |
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2015 | 2014 | Change | ||||||||||||
(in thousands) | ||||||||||||||
505 9th Street |
October 1, 2007 | $ | 668 | $ | 575 | $ | 93 | |||||||
Fountain Square |
October 4, 2012 | 2,228 | 1,768 | 460 | ||||||||||
767 Fifth Avenue (the General Motors Building)(1) |
May 31, 2013 | (2,786 | ) | (4,644 | ) | 1,858 | ||||||||
Times Square Tower |
October 9, 2013 | 6,755 | 6,655 | 100 | ||||||||||
601 Lexington Avenue |
October 30, 2014 | 5,106 | | 5,106 | ||||||||||
100 Federal Street |
October 30, 2014 | 888 | | 888 | ||||||||||
Atlantic Wharf Office |
October 30, 2014 | 2,349 | | 2,349 | ||||||||||
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(1) | The negative balance is primarily due to the partners share of the interest expense for the outside members notes payable which was $7.4 million and $6.9 million for the three months ended March 31, 2015 and 2014, respectively. |
Noncontrolling interestCommon Units of the Operating Partnership
Noncontrolling interest-common units of the Operating Partnership increased by approximately $14.0 million for the three months ended March 31, 2015 compared to 2014 due primarily to increases in allocable income, which included an approximately $9.9 million gain related to the sale of real estate and the noncontrolling interests ownership percentage.
Liquidity and Capital Resources
General
Our principal liquidity needs for the next twelve months and beyond are to:
| fund normal recurring expenses; |
| meet debt service and principal repayment obligations, including balloon payments on maturing debt; |
| fund capital expenditures, including major renovations, tenant improvements and leasing costs; |
| fund development costs; |
| fund dividend requirements on our Series B Preferred Stock; |
| redeem our Operating Partnerships Series Four Preferred Units; |
| fund possible property acquisitions; and |
| make the minimum distribution required to maintain our REIT qualification under the Internal Revenue Code of 1986, as amended. |
We expect to satisfy these needs using one or more of the following:
| cash flow from operations; |
| distribution of cash flows from joint ventures; |
| cash and cash equivalent balances; |
| issuances of our equity securities and/or additional preferred or common units of partnership interest in our Operating Partnership; |
| our Operating Partnerships Unsecured Line of Credit or other short-term bridge facilities; |
| construction loans; |
| long-term secured and unsecured indebtedness (including unsecured exchangeable indebtedness); and |
| sales of real estate or ownership interests in our assets. |
We draw on multiple financing sources to fund our long-term capital needs. Our current consolidated development properties are expected to be funded with our available cash balances. Our Operating Partnerships Unsecured Line of Credit is utilized primarily as a bridge facility to fund acquisition opportunities, refinance outstanding indebtedness and meet short-term development and working capital needs. Although we generally seek to fund our development projects with construction loans, which may be guaranteed by our Operating Partnership, the financing for each particular project ultimately depends on several factors, including, among others, the projects size and duration, the extent of pre-leasing and our available cash and access to cost effective capital at the given time.
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The following table presents information on properties under construction as of March 31, 2015 (dollars in thousands):
Construction Properties |
Estimated Stabilization Date |
Location | # of Buildings |
Estimated Square Feet |
Investment to Date(1) |
Estimated
Total Investment(1) |
Percentage Leased(2) |
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Office |
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Annapolis Junction Building Seven (50% ownership)(3) |
Third Quarter, 2015 | Annapolis, MD | 1 | 125,000 | $ | 16,831 | $ | 17,500 | 100 | % | ||||||||||||||
690 Folsom Street(4) |
Fourth Quarter, 2015 | San Francisco, CA | 1 | 26,000 | 14,193 | 17,900 | 55 | % | ||||||||||||||||
Prudential Center Retail Expansion |
Fourth Quarter, 2015 | Boston, MA | | 15,000 | 2,928 | 10,330 | | % | ||||||||||||||||
804 Carnegie Center |
First Quarter, 2016 | Princeton, NJ | 1 | 130,000 | 16,196 | 47,000 | 100 | % | ||||||||||||||||
99 Third Avenue Retail |
Second Quarter, 2016 | Waltham, MA | 1 | 16,500 | 11,802 | 16,900 | 84 | % | ||||||||||||||||
535 Mission Street(5) |
Third Quarter, 2016 | San Francisco, CA | 1 | 307,000 | 179,744 |