The ratings acknowledge the very high quality of the company's property portfolio, a stable cash flow stream benefiting from longer than average lease terms and strong tenant credit quality, and its talented management team. These strengths are somewhat offset by an aggressive development pipeline, below-average financial measures, and high encumbrance levels.

This Boston-based umbrella-partnership REIT is one of the nation's largest owners and developers of class A office space with a total market capitalization of $10.1 billion (as of Sept. 30, 2002) and a portfolio of 145 properties comprising about 42.8 million square feet (sq. ft.). Since its predecessor was founded in 1970, the company's management team has successfully navigated through a number of real estate cycles.

Boston Properties' high-quality properties are primarily concentrated in the metropolitan areas of Boston, New York City, Washington D.C., and San Francisco, with income roughly evenly split among those markets. Standard & Poor's has toured most of the properties in each of these markets, aggregating 78.0% of the company's net operating income (NOI). Approximately 96.0% of income is derived from office properties, with the remainder contributed by industrial properties and three hotel assets. While Boston Properties' portfolio is more geographically concentrated than that of other rated office REITs, this concern is mitigated by the high quality of the portfolio as well as its stable cash flow characteristics. The portfolio has above-average occupancy (95.0%), a longer than average lease tenor (more than seven years), and a strong roster of credit tenants. With below-average exposure to near- term lease roll over (4.0% of rents in 2003), the company's rental stream is somewhat protected as the markets it operates in continue to contend with higher vacancies and slower rent growth and/or actual rent deterioration.

An aggressive $977 million development pipeline is equal to 35.0% of the company's book value equity. This pipeline is significantly larger, on both an absolute and relative basis, than any of Boston Properties' rated peers, and these projects are presently only 39.0% pre-leased. Until they are completed and occupied, they will be a drag on corporate level return measures and coverage ratios. These concerns are exacerbated by a weak leasing environment, which may push back the expected late-2004 stabilization date for Times Square Tower, Boston Properties' $650 million project in Manhattan. Construction began after Arthur Andersen signed a lease for approximately one-half of the 1.2 million sq. ft. office tower. However, that lease was subsequently terminated, and no new leases have been signed to date. It is interesting to note that, while clearly obtained for a full price, the $1.06 billion acquisition of 399 Park Avenue in September 2002 should provide very predictable returns to offset some of the uncertainties surrounding Times Square Tower. 399 Park Avenue is a 1.7 million sq. ft. office tower in midtown Manhattan that is 100% leased to high quality tenants with few near-term lease expirations. Approximately 77% of square footage expires after 2016. The tower serves as the headquarters for Citigroup Inc. ('AA-') and also houses Lehman Bros Inc. ('A') as well as leading law firms.

The company's evolving financial profile is characterized by above average debt levels and modest but adequate coverage measures. As of Sept. 30, 2002, total debt equaled 66% of capital on a book-value basis (or roughly 57% on an Standard & Poor's value adjusted basis, which assumes a blended cap rate on the core portfolio of about 8.7%). However, net proceeds from selected asset dispositions, such as the recently announced sale of One and Two Independence Square in Washington D.C. and pending sale of 875 Third Avenue in midtown Manhattan, are expected to reduce overall leverage closer to 60% (on a book value basis) as well as the presently large component of variable-rate debt to 23% of total debt. Because of higher debt levels, as well as comparably larger proportions of capitalized interest and principal amortization, debt service coverage (2.2 times (x)) and fixed-charge coverage (2.0x) are below the peer group average. Funds from operations cover fixed charges plus common dividends by 1.2x. These ratios are supported by the portfolio's stable and predictable cash flow characteristics.

LIQUIDITY

Boston Properties has ample capacity to fund $96 million in equity requirements for the development pipeline as well as to refinance $2.2 billion in maturities through 2003, having demonstrated good access to capital through mortgage financings, unsecured bank loans, and asset dispositions. Sizable recurring capital expenditures (roughly $40 million to $60 million per year) are comfortably covered by free operating cash flow.

Recently, the company has announced its intention to replace a portion of secured debt with long-term senior unsecured notes. Standard & Poor's views this as a positive development as this allows management to access another source of capital and will increase the pool of unencumbered properties supporting unsecured creditors. However, more that 60% of NOI is expected to remain encumbered, which effectively subordinates unsecured creditors and necessitates a one-notch differential between the corporate credit rating and rating for the proposed senior unsecured notes. The covenant package for this proposed offering is slightly less restrictive than the majority of existing unsecured REIT covenant packages in that permitted secured indebtedness is 50% of total assets. The EBITDA to interest coverage covenant (1.5x minimum), total indebtedness covenant(60.0% of total assets), and unsecured assets/unsecured debt covenant (150.0%) are in line with other offerings. Overall financial flexibility further benefits from a $605 million unsecured credit facility, which is expected to be renewed prior to its expiration in March 2003, and previously noted strong discretionary cash flow.

OUTLOOK: STABLE

Boston Properties' high-quality office portfolio and manageable lease expiration schedule of moderately below-market leases and the above-average credit profile of the portfolio's largest tenants should continue to support a stable core earnings profile. These strengths offset the likelihood of slower absorption of the speculative portion of the company's development pipeline.

Contact: James Fielding, New York (1) 212-438-2452

Instant Insights /

S&P Asgns Rtgs to Boston Properties Inc; Otlk Stable

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