Office real estate investment trusts (REITs) were under significant pressure in 2020 because of the COVID-19 outbreak. The average one produced a -18.4% total return, weighed down by worries that companies wouldn't return to their offices to the same extent in a post-pandemic world after adapting to remote work.
However, while investors remained concerned about the future of offices, REITs focused on owning these buildings have reported surprisingly strong demand. Because of that, office REITs could bounce back this year as companies return to the office thanks to the rollout of vaccines.
Leasing comes roaring back
Boston Properties (NYSE: BXP), the leading owner of Class A office properties, reported a strong end to 2020. The company collected 99.6% of the rent it billed its office tenants during the fourth quarter and 99% of all commercial rents -- including base rent from retail tenants -- during the period. Further, the REIT completed 1.2 million square feet of new and renewal leases, marking its strongest leasing quarter since the beginning of the pandemic.
There are two things worth noting about this leasing activity. First, the average term is eight years, suggesting these companies plan to be in this space for the long haul. Further, the company leased this pace at nearly 10.9% higher net rental rates than prior leases.
Some of this leasing strength is due to the company's life science-focused campus concentrations in places like Boston and San Francisco. It was able to complete several new leases with life science companies during the quarter. These companies are benefiting from the pandemic by developing the tests, therapies, and vaccines to combat the current outbreak and prepare for those that could come in the future.
However, the REIT is also benefiting from strong demand for modern class A office space. For example, it signed a lease for a new phase of its Reston Town Center development in Virginia with Volkswagen (OTC: VWAGY). Meanwhile, Boston Properties previously disclosed signing a 13-year lease expansion and long-term extension with Microsoft (NASDAQ: MSFT) in Reston. That lease with the tech giant came even though Microsoft made headlines in 2020 after saying it would allow its employees to permanently work from home if they wanted.
A solid finish to a challenging year
Leading Manhattan office landlord SL Green Realty (NYSE: SLG) also reported some positive leasing trends during the fourth quarter. The REIT signed more than 463,000 square feet of leases in the fourth quarter, enabling it to slightly exceed its pandemic-adjusted stretch goal of leasing 1.2 million square feet in 2020. While the rates for these new leases were 3.6% lower than the prior rents on the same space, the REIT's overall leasing success implies that companies still highly value having an office presence in New York City.
That solid leasing activity has continued in early 2021. Last month, SL Green announced that it signed a 15-year lease with Beam Suntory, a world leader in premium spirits, for space at 11 Madison Avenue, bringing that property's occupancy to 100%. The company also signed two leases in late January for its recently opened One Vanderbilt Avenue, a skyline-defining office tower in East Midtown. The company has now leased 73% of the 1.7 million square foot office building, which serves as the headquarters for many of the world's leading finance, banking, law, and real estate companies.
The REIT's executive vice president and director of leasing and real property Steven Durels noted that "leasing velocity remains strong, with seven leases signed and multiple leases in negotiation since the onset of the pandemic." As a result, the company is signing leases for space in this building in line with its initial underwriting assumptions despite the pandemic's impact.
Office usage isn't going away
While companies have proved they can work remotely if needed, they're more productive in a collaborative office setting. Because of that, most companies plan to return to in-person work as soon as it's safe to do so, which is why they continue to sign leases. While many plan on offering their employees the option of working remotely, that likely won't impact their overall spacing needs, since they'll have to allow for increased physical distancing instead of densely packing their offices. Because of that, office REITs appear poised to bounce back as their tenants return to the office in the coming months.