MEMORANDUM

To: Lee Partners Contacts

From: Bruce Lee

Subject: NAIOP Presentation – Suburban Boston Office Market – Boston Hyatt Hotel

Date: April 29, 2015

Key Take-Away Points:

1.1 Million sq ft. of net absorption in 2014; 400K sq ft. in first quarter 2015 = strong market

15 First Class Office Parks represent 10% of inventory but 50% of the office absorption last year

Average age of office parks = 1994 – all are being repositioned in the marketplace “reshaped for the modern workforce”.

Key trends/items: Mobility, Amenities, Sustainability, Transportation.

Mobility – employees are not staying in cubicles all day.

Sustainability – More folks are interested in this.

Amenities – access to outdoors, fitness centers, food services, free parking, no traveling into city, won’t wait for elevator, more restrooms. High quality food; Conference centers, Fitness centers.

Transportation – Employees want to live close to their workplace

New nomenclature: Huddle rooms; collabotarium, mothering rooms, library

Force people to interact – collaboration areas – WiFi & speakers outside areas

High performance workplace – large floor plates – lots of light to employees

“Hack the building” = re-do and re-skin – 170 Tracer Lane – re skin the exterior – more light into building – bleacher seats (Reservoir Place + Bay Colony) Fire Pit – Bocce Ball court, mini stores.

“Workspace is not a commodity anymore”

Employeer objectives = recruit & retain employees – need modern space to do this

The Lobby can be a big part in creating an employee community – a core area.

Research – employees cost up to $1,900 per sq ft per year – much more than the office space.

You need to create Lobby “Buzz” = because it is the heart of the building

Densification – old was 3 or 4 parking spaces per thousand – now 4 to 6 per thousand,

High quality food was either number 2 or number 3 on employee surveys

“We like open areas” – trying to go to bench type desks or desks on wheels + lots of glass for employees

+ need for collaboration areas for employees – free food?

Suburban Boston office is thriving in the best sub-markets.

Needham to Burlington having the same percentage rent increases as in Boston

Need to build in “community” into projects – want increased energy + placemaking

Xchange – Bedford: 470,000 sq ft; built in 1960; large floor plates; adding 4,700 sf fitness center; purchased the sand and salt facility from Massachusetts; expanded parking to the front of the project vs. rear parking; now have 1/8 mile frontage on Rt. 3; 7,300 sq ft. café; 3,500 sq ft outdoor & fire pit area; added 5,200 sq ft. of green area; increased window line; added new entrances to building – adding community and campus environment to development. Want more of a campus feeling = results included a new façade to the building and a exciting mix of amenities; results = signing tenant multiplan for 75K new lease. “workplace is not a commodity”.

The Centers at Corporate Drive – Burlington: 400,000 sq ft. = 7,800 sq ft. conference center; fitness center; outdoor patio area (large); central open and green space; took oldest building and converted first floor space into an amenity center for the development – took out the rose colored granite lobby;

Future: The Sharing economy will be a factor – using space at off peak periods – singularity – mobile – everybody can work off site – need to make office space very attractive to recruit and retain + collaborate.

Other observations:

Where is the break point with re-do of buildings? Extra dollars being put into buildings/office parks – are the returns there long term? Does a rising lease rate environment allow for the rents to support the building upgrades – for now they do. What will happen in a down market? For now – upgrade the buildings, lease them out, and then in my opinion – sell them while the market is strong. You have to “buy right” to be able to afford the upgrade and re-tenanting expenses. Also, if you have a very low basis for the property – it makes the upgrade decision much easier. In addition, towns are coming around to the idea of allowing multiple uses for certain community zones – adding the ability to have retail and residential components within office parks. This brings in additional tax dollars and new residents that are interested in a more robust work-life environment.

NAIOP – Mid-Year Market Round Up June 2015

By Bruce Lee

The 2015 NAIOP Mid-year summary meeting was very well attended – over 400 in the audience including myself and Grey Lee representing Lee Partners. The esteemed panel of real estate professionals gave a current market “snapshot” of their market area of expertise.

Hans Nordby, Managing Director of CoStar Portfolio Strategy led off the panel review – providing a snapshot of the Boston economy and its impact on the local real estate market. The good news shared by Hans is that Leading Economic Indicators are strong and he expects them to continue to grow at a 3% rate for 2016. Tech job growth is projected to be at a 2.8% rate. In addition, Boston is experiencing very strong growth in it public transportation in-bound traffic from the suburbs – despite a mass transit system that is aging. Large and expensive buildings are going up and building sales are booming. Cap rates have compressed into the 3 to 4 range with one building trading at a 3.1 cap rate. Boston office vacancy is now at the same as it was in 2007 and it will get tighter as Tenant demand is strong. For buildings built between 2000 and 2007 the vacancy rate is now at 1.5%. Almost all new space under construction is pre-leased. Suburban office space built in the 90’s is doing well and space built pre 1980’s is doing OK. The lagging sector of the suburban office market is buildings built in the 1980’s. Eleven percent of this space is vacant – representing 18 million sq. ft. These buildings have large floor plates, many difficult to sub-divide, located away from amenities with narrow windows. 40 % of route 128 office leasing in the last 5 years has been concentrated in two towns – Waltham and Burlington.

Andrea DeSimone of CBRE Retail then spoke to the local retail market – characterizing retail as “re-invention” where retailers are rolling out new concepts for the new stores – including Macy’s , Koll, Whole Foods, Roche Brothers, Walgreens, Target and CVS. Many food retailers are expanding in this area – Wegmans, Whole foods, H market & Star Market are rolling out new store concepts. In addition, food emporiums / eateries are entering the area – including Todd English, Le District, and Chelsea Market. Babbo – most expanding from New York City.

Duncan Graton from DTZ discussed the suburban office market – Duncan recommended that owners of suburban office buildings take aggressive action to reposition their offerings to compete – to include (1) renovating the Atrium and having walk able amenities close by (2) teaming up with restaurants for Tenant food services instead of cafeterias (3) Make sure lots of “bar stools” are nearby (amenity rich areas) – Clarks recently before leasing 1275 Main Street in Waltham wanted to know as part of their leasing requirement – how many bar stools were within walking distance or nearby (1265 Main had 195!) (4) Bike friendly support areas (5) pet friendly spaces and car chargers and outside garden areas. For transportation – more bus services are coming – provided by private companies and developers due to minimal public infrastructure transportation support for office tenants in the suburbs. Tenants want a younger labor force. Some notable tenants have moved back into the Boston market -i.e. AutoDesk from Waltham and now all the VC’s that moved to Waltham a decade ago are back in Cambridge/Boston. Duncan shared a few new renovation examples – one being 170 Tracer Lane in Waltham – where a 1980’s red brick ribboned windowed building is being totally re-skinned in glass. This represents the future of suburban office product – mostly glass exteriors where Tenants can share natural light and walk to amenities – in this case Reservoir Place next door. Improved glass technology that also insulates and is energy efficient is allowing this transformation.

John Olsten of JLL discussed the Cambridge Market – Class A office space in now leasing the $60’s to $70’s per sq ft – when you can find it. Although this may seem to be a high lease rate – it is much lower than in the San Francisco Bay area and national west coast tenants continue to expand in the Cambridge area. Cambridge lab space has a vacancy rate of 3.5%. So, it is not a question of what space costs in the Cambridge Kendall Square area – expanding office and tenants have very few local alternatives to consider.

Ron Perry President of Boston’s Colliers office – Landlords are “riding the wave” and enjoying four straight years of positive absorption – 1.3 million square feet each year. This year absorption is positive by 675,000 sq ft. The Boston vacancy rate has declined from 16% to 10%. The market consists for 63 million sq ft of office space with the average asking lease rate now $49. This current rate is 50% higher than 10 years ago. Asking lease rates for new construction range from $35 to $85 per sq ft. The Seaport district average rent is $46 with a 15% vacancy rate. Class A space in low rise Boston buildings now leases in the $40 range. Going forward Ron expects rents to increase at 5 to 10 percent per year for at least the next few years.

Lauren O’Neil with HFF discussed Capital Markets – Boston is now the second most favored city in the USA for foreign investment in Real Estate Assets. The market is very strong with buildings trading at 3.7 to 3.9 cap rates. Bidding wars over trophy buildings are common. An additional comment Lauren made was that new construction costs in Boston are the same as in New York City – but rents in Boston are much lower.

Summary: Commercial property owners in the Boston area are well position to benefit from this rising market that is expected to continue for at least a few more years. Tenants that are renewing long term leases can expect much higher lease rates on a renewal basis or on a relocation into a similar type building. Offsetting this difficult tenant leasing environment is the benefits provided by mobile technologies that allow for more off-site working productivity and less need for individual in-house office space. Shared office space, smaller cubicles and even desks without the need for file space will allow for increased employee density and lower overall office/facility cost per employee – even in a rising office lease rate environment.

I’ve been exploring the changing nature of office space and commercial real estate for over a decade. You are well aware of the changing nature of demand for office space –clients needing more flexibility in lease lengths, space use, and users incorporating more telecommunications into their work routines. The industry is constantly responding, but the reality of workers not needing office space because of mobile technology is a game-changer.

Brokerage is along for the ride. The CRE industry, especially how brokers function, has been ripe for major change for many years. Firms performing tenant representation are finding their clients becoming more and more sophisticated as they search for a property. Showing buildings on behalf of landlords is no longer simply showing up for a meet & greet. The real estate data – at CoStar and MLS – is becoming more accessible to end users. Owners can put their asset onto the electronic marketplace, use technology to simplify the selection process, and find a good lawyer to handle a lease. How can brokers minimize “choices and unnecessary steps, [reduce] clutter, and add a touch of class to boot”? asks one observer (see below). What is the future role of the broker?

Real estate transactions are complex and uncommon – for any individual leasing commercial office space, it may only happen a couple of times in their career. They will be too senior to handle these things by the next time a major move is necessary, for instance. Thus brokers have always served a role of guide and advisor. This is going to continue to grow in importance. The information that brokers have traditionally held – as to what is on the market and how assets are perceived by the market – is more directly accessible to clients. How can brokers stay relevant and worth their fees?

Recently, Fast Company published a story on “The Simplicity Thesis” – positing a future of disruption for any industry that has intermediaries. They cite Amazon for the book sales business, Google for searching. These (and many others) helped simplify the user experience and grew because they aggregated what users wanted and enabled them to find the particular thing they needed. This is happening with Zillow for homes and 42Floors for commercial space (and LiquidSpace for subleases etc).

Aaron Levie of Box (a cloud-based storage service) says “any market where unnecessary middlemen stand between customers and their successful use of a solution is about to be disrupted” and I can hear this loud and clear in commercial real estate. Winners in the simplicity game, like Spotify, the iPhone, and Salesforce, offer “the lowest possible level of complexity for the maximum amount of value.” We all know that real estate transactions ought to be simpler. Regus and InstantOffice, among others, are providing turn-key business office space solutions to users. Co-working facilities and coffee shops with free wi-fi are catching one end of the office space market because they offer all the user really needs.

If you are in brokerage, this means focusing on the simple issue at hand: how to help clients find space, or fill their space, in the clearest way and shortest amount of time. How can you leverage your experience to deliver a simple solution to your clients?

-Grey Lee

I recently tweeted about Facebook’s super-cool office space in Menlo Park, California. They have made an effort for their space to encourage creativity, collaboration, and hard work by their engineers. I know many organizations are looking at Facebook and other similar leading businesses for ideas on how to run better. They are modeling how to build-out space to create high-productivity workplaces. There are a lot of meeting areas, a lot of space designed so that people will bump into each other. A lot of food. A lot of art. There’s even a video arcade and game area. In effect, they’ve created an entire little community of different types of space, in order to enable their employees to experience a wide variety of stimulating work environments. Facebook is in a league of their own, but their example will resonate for many firms. Luckily, many urban areas have a wide variety of workplace amenities like shops, restaurants and interactivity areas. Unfortunately, most people are stuck working at just one location for most of the time. It could be different. Mobile technology is enabling it to be different.

Early adopters of the nomadic professional “swarm” are already working from multiple locations. Workers spend time at client locations, meeting colleagues for lunch, attending a networking event at a function space in the evening. Of course people are working from their cars, from hotel lobbies, from home. Today’s Boston Globe ran an editorial about Sheryl Sandberg, Facebook’s COO, praising her for publicizing her flexible work pattern – she is actually leaving the office at a reasonable hour to be with her children at dinnertime. And she is working from home since she can. It’s good for this to be acknowledged as “the new normal” and get some editorial support.

More and more people will continue to build on this trend. As the Globe put it: “It’s the quality of your work that should define your success, not the precise amount of time you spend in the office.” Indeed, a traditional office may even be getting in the way of your work. I say it’s time to embrace the new flexible and temporary nature of work. The mobile professional swarm is growing.

I will be attending a Symposium on Climate, Buildings and Behavior at the Garrison Institute in New York, near Bear Mountain. My colleague at WinnDevelopment, Darien Crimmin, attended last year and highly recommended the program to me. I’m looking forward to an amazing array of presentations and networking with some real champions in the green building industry. The institute was started by Jonathan Rose, the developer in New York City, who will be at the Symposium.

The program descriptions starts like this:

The Climate, Buildings and Behavior (CBB) project (formerly the Real Estate Leadership and Climate Change Project) is a component of the Climate, Mind and Behavior (CMB) program. CMB integrates emerging knowledge from the behavioral and social sciences about what drives human behavior, with new thinking about climate change policies and solutions, in order to generate more achievable outcomes. Working with the Natural Resources Defense Council (NRDC) the CMB project developed the behavioral wedge to demonstrate that a gigaton of greenhouse gas emission (GHG) can be eliminated through behavior change.

As you know, I’m quite keen on helping the industry become more environmentally responsible. I know that greener buildings are also simply better for the occupants. I will be reporting next week on the program. Also, please follow @green2ROI for some live tweeting. Let me know if there’s anything in particular you’d like me to explore and ask questions about!

Jones Lang Lasalle’s Dan Probst spoke briefly the other day at CoreNet Global’s conference in San Diego today. The summit’s theme was “Re-Imagine, Re-Orient, Re-Ignite, Re-Invent!

His take: commercial real estate managers have been focused on saving energy, and are now shifting, to include improving the productivity of workers. They have a product called IntelliCommand which enables building operations managers to continuously monitor and adjust building performance for enhanced occupant comfort and productivity. Sounds good for everyone!

This past Friday I attended the MIT Center for Real Estate Global Forum for 2012, at the Federal Reserve Bank of Boston. The full-day event was dense with information and broad in perspectives. I caught up with an old friend from high school (Donna Dibona) who attended the CRE for her master’s in 2008. I met a lot of great people and learned a lot.

One of the first presentations was on the topic of High Performance Workspaces, one of my favorites. Kevin Sheehan from Boston Properties presented: there is a revolution in the workplace. Custom is in, cubicle is out. Traditional office space is like a frog in a slowly boiling pot – hopefully it will wake up and jump out before it’s too late. Kevin referenced Jim Lauman at Google, who has explored the intersection between people, space and technology. Workplaces are all about collaboration now. Rather than an assembly line for production, offices are for heuristic activity and creativity.

He described how people cost 10x the cost of space, so space has to be leveraged to support the brand and culture, to foster collaboration, to engage with sustainability and to attract and retain top talent. There’s a war for talent going on – and young people today care most about salary but #2 is their work environment. The office is not a commodity, and it’s not being replaced by telecommuting. He recommended we read a book called “Honest Signals” by Sandy Pentland, advocating for face to face collaboration, and also “Where Good Ideas Come From” by Steven Johnson. Innovation for businesses happens in team settings, in offices.

A lot of his presentation was going over the Google remodeling that has happened at their space in Kendall Sq – opening up and connecting floorplates to enable the firm to grow in-situ, and to foster communications and spark conversations which is at the heart of Google’s business strategy. Kevin was confident that the amenities of restaurants and other services in the building and others like it (i.e. Atlantic Wharf) will result in best tenants and highest values for their buildings. I really appreciated his presentation, even if it diminished teleworking, which I reckon is a major force. I agree that people still need to work together, and I’m enjoying finding the ways to enable owners to make their space the best for their future tenants (via BlastOffice).

There were a lot of other presentations – modular construction practices, where Boston fits in the global real estate market, and an academic comparison of monocentric to policentric cities by professor Bill Wharton. I caught up with Donna and other alumns during the lunch break. It was great to hear about their many projects and to talk with them about the future of office space. I will be following up with a couple of them on how to solve the logistics issues I’ve encountered. What a great group! (Donna, Daniel, Kristy and Rimi)

The afternoon held more great components of the Forum. MIT collected a group of luminaries from across the globe – including Turkey, Mexico and China – to present on what the new global investor is looking for. I am sure there is a better synopsis somewhere else [nothing seems to be posted yet, but let me know if you have seen anything, thanks]. Great perspectives on those countries. I enjoyed talking with Emre Camlibel afterwards, learning about the amazing growth going on in Turkey. There are 40 high-rise office buildings in the whole country, an $800M economy!  Qian Wang from China had great stories as well, about third-tier cities with almost 10M people…

After a “Lightning Round” of presentations about legal cases that are moving through the courts and will affect real estate development, the day closed with a series of finalists in a case competition. Both the legal cases and the development cases were very illuminating to me. The development scenarios were to develop Pier 38 and the adjacent area just south of the San Francisco Giants stadium in the “Mission Bay” area of that city. Student teams had put together a plan for the 20+ acre site since Monday, and had gone through and elimination round earlier in the day. Some of the judges were actual members of the Giants’ board. The final presentations were polished and the projects diverse. All were mixed-use, all had to handle game-day parking, all had to provide 5 acres of new parkland for the city, and each had gone in different directions. I caught up with the winners, from Toronto, at the end-of-day cocktail reception. They had really put together a great project with a good sense of the market demand for their offering. I was psyched for them, and hope to get involved in a similar case presentation sometime in the near future. The reception was at the top of the Federal Reserve with great views out across the city in both directions. The best surprise of the day was to realize that MIT’s mascot is a beaver (it was on the prize for the case competition), same as my alma mater, London School of Economics. Great minds think alike!

Bisnow put on a gathering for commercial real estate construction and development to explore the implications of emerging technology on the industry.

Peter Campot of Suffolk Construction described how behind the times construction is, and as manufacturing and BIM come into play, buildings will finally achieve construction efficiencies that the auto industry figured out a hundred years ago. He finds it mindboggling how people still look at first costs of energy efficiency projects and design choices that will have such good paybacks. People seem to not believe the math. He also sees the future as iPads, wireless, and did not know where offices will need to be in five-ten years.

Kishore Varanasi at CBT Architects talked about the need to get beyond individual buildings and to look at the ecology of buildings in a neighborhood – creating “interesting fabrics” in “superblocks.” He noted that millenials are driving 33% less than the prior generation and want live-work areas like Kendall Sq. Inside offices, younger workers are fine with a reduction of personal space. They want food, team space, and multiple environments for multiple types of activities – like at home. Incubator spaces demonstrate this, and he observed these are no longer “leftover” spaces, but central to the vibrancy of cities and enterprises. We need more.

John Hannum of IBA/Viridian talked about energy efficiency changing the way people work and the cost of space, and Dan Ryan of Pegasystems talked about facilities managers  who don’t get feedback from their employees about sustainability, that it is customer-driven. Peter Calkains (Forest City Boston COO) talked about buildings being flexible to handle changing technology and how teams are collaborating more to produce quality product. Jonathan Rosenthal at Meredith Management talked about his Fenway air-rights project and getting the neighborhood on board with some enticing solar panels (among other things). Dan Ryan closed the session wondering aloud about mobile technology and if people even need office space.

I found the morning very wide-ranging, packing a lot of diverse perspectives into a short conversation. But many good nuggets of observations about commercial real estate. I met a lot of good people, even a couple of leads. Always good to network at these things!

PlaceMakers blog – a collection of urban planning types – put out an article by Nathan Norris “Why Generation Y is Causing the Great Migration of the 21st Century”

Norris quotes Robert Schiller: “Just last week, Robert Shiller of the Standard & Poor’s/Case-Shiller Home Price Index made the dramatic statement that, with our growing shift to renting and city living, suburban home prices may never rebound in our lifetime.”

There is a population of young people, the peak of the cohort is 22 right now, we call Generation Y. Social observers and planners are noticing they are moving to cities at greater rates than previous generations. There are some major reasons suggested by Norris: they want more adventure than the static suburbs they grew up in. They need the connectivity and serendipitous interactions that occur in dense areas, rather than their managed, play-dated upbringing. Young people want the convenience of urban cores where stores, entertainment, etc are readily available without needing to drive. And this entire generation is averse to cars, to wit: General Motors has hired the marketing arm of MTV to try to get young people more excited about owning and auto.

The article is focused on the residential dimension: where will people live and is basically responding to the Schiller remark, which made waves in the suburban residential brokerage market. I believe the same forces are going to dramatically challenge suburban commercial real estate. If crime and schools can be taken care of in cities, young people will remain in these denser mixed-use areas, and the need for suburban office parks will transform. Of course many owners will re-position assets, and it’s not like the burbs are disappearing overnight. But the trends are significant and the long bet is on the return of the city as the locus of economic activity. The car-dependent suburb will have to adapt to meet people’s needs for saving time, stimulation, and a long-term sense of community.

Why Generation Y is Causing the Great Migration of the 21st Century”

As proud members of the US Green Building Council, Lee Partners participates in the local Massachusetts Chapter here in Boston. Yesterday they hosted their fifth annual Earth Day dinner, to gather and celebrate Innovations in Design and Green Building. I bumped into some good colleagues and made some new connections. The Chapter has a great group of enthusiastic real estate professionals.

The event was at the large conference room of Space with a Soul, a coworking center for non-profit organizations. They are on Summer Street in the “Innovation District” of Boston. This picture is looking west at the Back Bay – you can see the Hancock Tower and Pru on the left. The location is a great way for small organizations to efficiently use office space – a month-to-month commitment and dedicated space at a reasonable cost.

Winners included Harvard’s Blackstone South project and Devens (MassDevelopment) Sustainable Housing. More on the event can be found here. The submission posters will be on display in the Gallery at Atlantic Wharf until June.