OFFICE PROPERTIES INCOME TRUST The following information should be read in conjunction with our condensed consolidated financial statements and accompanying notes included in Part I, Item 1 of this Quarterly Report on Form 10-Q and with our 2019 Annual Report. OVERVIEW (dollars in thousands, except per share and per square foot data) We are a real estate investment trust, or REIT, organized underMaryland law. As ofMarch 31, 2020 , our wholly owned properties were comprised of 184 properties and we had noncontrolling ownership interests in three properties totaling 0.4 million rentable square feet through two unconsolidated joint ventures in which we own 51% and 50% interests. As ofMarch 31, 2020 , our properties are located in 34 states and theDistrict of Columbia and contain approximately 24.9 million rentable square feet. As ofMarch 31, 2020 , our properties were leased to 359 different tenants, with a weighted average remaining lease term (based on annualized rental income) of approximately 5.6 years. TheU.S. Government is our largest tenant, representing approximately 25.0% of our annualized rental income as ofMarch 31, 2020 . The term annualized rental income as used herein is defined as the annualized contractual base rents from our tenants pursuant to our lease agreements as ofMarch 31, 2020 , plus straight line rent adjustments and estimated recurring expense reimbursements to be paid to us, and excluding lease value amortization. COVID-19 Pandemic InMarch 2020 , theWorld Health Organization declared the outbreak of COVID-19 as a pandemic and, in response to the outbreak, theU.S. Health and Human Services Secretary declared a public health emergency inthe United States and many states and municipalities declared public health emergencies. The COVID-19 virus has continued to spread throughoutthe United States and the world. Various governmental responses in an attempt to contain and mitigate the spread of the COVID-19 virus have negatively impacted, and continue to negatively impact, the global economy, including theU.S. economy. As a result, most market observers believe the global economy will be in a recession. Our business is focused on leasing office space to primarily single tenants and those with high credit quality characteristics such as government entities. Although the COVID-19 pandemic did not have a significant impact on our business during the three months endedMarch 31, 2020 , we have received requests from some of our tenants for rent assistance. As ofApril 28, 2020 , we have granted temporary rent assistance totaling$1,403 to 18 tenants who represent 2.4% of our annualized rental income as ofMarch 31, 2020 . This assistance generally entails a deferral of, in most cases, one month of rent untilSeptember 2020 when the deferred rent amounts will begin to be payable over a 12-month period. We are closely monitoring the impact of the COVID-19 pandemic on all aspects of our business, including: • our tenants and their ability to withstand the current economic conditions
and continue to pay us rent;
• our operations, liquidity and capital needs and resources;
• conducting financial modeling and sensitivity analyses;
• actively communicating with our tenants and other key constituents and
stakeholders in order to help assess market conditions, opportunities,
best practices and mitigate risks and potential adverse impacts;
• monitoring applicable states and municipalities to which we lease property
and their responses to the COVID-19 pandemic and economic slowdown,
including budgetary impacts; and
• monitoring, with the assistance of counsel and other specialists, possible
government relief funding sources and other programs that may be available
to us or our tenants to enable us and them to operate through the current
economic conditions and enhance our tenants' ability to pay us rent.
We believe that our current financial resources, the characteristics of our portfolio, including the diversity of our tenant base, both geographically and by industry, and the financial strength and resources of our tenants, will enable us to withstand the COVID-19 pandemic and perhaps present opportunities for us to strategically deploy our capital. As ofApril 30, 2020 , we had: •$395,000 of availability under our revolving credit facility;
• only approximately
• 62.2% of our annualized rental income, as of
investment grade tenants (as described below).
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We do not have any employees and the personnel and various services we require to operate our business are provided to us byRMR LLC pursuant to our business and property management agreements withRMR LLC .RMR LLC has implemented enhanced cleaning protocols and social distancing guidelines at its corporate headquarters and its regional offices, as well as business continuity plans to ensureRMR LLC employees remain safe and able to support us and other companies managed byRMR LLC , including providing appropriate information technology such as notebook computers, smart phones, computer applications, information technology security applications and technology support. With respect to our properties,RMR LLC has implemented enhanced cleaning protocols and has taken measures to reduce the possibility of persons gathering in groups and in close proximity to each other, for the purpose of mitigating the potential for spreading of COVID-19 infections. Included among these protocols and measures are the following: • focusing on sanitizing high touch points in common areas and restrooms;
• shutting down certain building amenities; and
• prudently managing the execution or deferment of tenant work orders to
limit
AllRMR LLC property management and engineering personnel have been trained on COVID-19 precaution procedures. As states and local communities across the country have moved to shelter in place orders,RMR LLC has worked to reduce and optimize our operating costs at our properties by: • deferring non-emergency work;
• implementing energy reduction protocols for lighting and HVAC systems;
• reducing non-essential building services and staff; and
• reducing the frequency of trash removal.
RMR LLC's property management teams have also established business continuity plans to ensure operational stability at our properties.RMR LLC has suspended all non-essential work travel, its regional leadership personnel have not been allowed to work in the same locations at the same time, andRMR LLC requires its employees who work at our properties to use personal protective equipment and business continuity bonus pay is provided to those individuals. There are extensive uncertainties surrounding the COVID-19 pandemic. These uncertainties include among others: • the duration and severity of the economic impact;
• the strength and sustainability of any economic recovery;
• the timing and process for how the government and other market
participants may oversee and conduct the return of economic activity when
the COVID-19 pandemic abates, such as what continuing restrictions andprotective measures may remain in place or be added and what restrictions
and protective measures may be lifted or reduced in order to foster a
return of increased economic activity in the United States ; and
• whether, following a recommencing of more normal level of economic
activities,
of COVID-19 infection outbreaks and, if so, the responses of governments,
businesses and the general public to those events.
As a result of these uncertainties, we are unable to determine what the ultimate
impact will be on us and our tenants' and other stakeholders' businesses,
operations, financial results and financial position. For further information
and risks relating to the COVID-19 pandemic on us and our business, see Part II,
Item 1A "Risk Factors," in this Quarterly Report on Form 10-Q.
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Table of Contents Property Operations Unless otherwise noted, the data presented in this section excludes three properties owned by two unconsolidated joint ventures in which we own 51% and 50% interests. For more information regarding our two unconsolidated joint ventures, see Note 4 to the Notes to Condensed Consolidated Financial Statements included in Part I, Item 1 of this Quarterly Report on Form 10-Q. As ofMarch 31, 2020 , 91.5% of our rentable square feet was leased, compared to 89.6% of our rentable square feet as ofMarch 31, 2019 . Occupancy data for our properties as ofMarch 31, 2020 and 2019 was as follows (square feet in thousands): All Properties (1) Comparable Properties (2) March 31, March 31, 2020 2019 2020 2019 Total properties (3) 184 212 182 182
Total rentable square feet (4) 24,906 30,134 24,619
24,711 Percent leased (5) 91.5 % 89.6 % 92.6 % 93.2 %
(1) Based on properties we owned on
(2) Based on properties we owned continuously since
properties classified as held for sale and properties undergoing significant
redevelopment, if any, and three properties owned by two unconsolidated joint
ventures in which we own 51% and 50% interests.
(3) Includes one leasable land parcel as of
parcels as of
(4) Subject to changes when space is remeasured or reconfigured for tenants.
(5) Percent leased includes (i) space being fitted out for tenant occupancy
pursuant to our lease agreements, if any, and (ii) space which is leased, but
is not occupied or is being offered for sublease by tenants, if any, as of
the measurement date.
The average effective rental rate per square foot for our properties for the
three months ended
Three Months
Ended
2020 2019
Average effective rental rate per square foot (1):
All properties (2) $ 26.03 $ 25.96 Comparable properties (3) $ 26.09 $ 26.09
(1) Average effective rental rate per square foot represents annualized total
rental income during the period specified divided by the average rentable
square feet leased during the period specified.
(2) Based on properties we owned on
(3) Based on properties we owned continuously since
properties classified as held for sale and properties undergoing significant
redevelopment, if any, and three properties owned by two unconsolidated joint
ventures in which we own 51% and 50% interests.
During the three months endedMarch 31, 2020 , changes in rentable square feet leased and available for lease at our properties were as follows (square feet in thousands): Three Months Ended March 31, 2020 Leased Available for Lease Total Beginning of period 23,761 1,965 25,726 Changes resulting from: Acquisition of properties - 13 13 Disposition of properties (693 ) (42 ) (735 ) Lease expirations (868 ) 868 - Lease renewals (1) 508 (508 ) - New leases (1) 81 (81 ) - Remeasurements (2) - (98 ) (98 ) End of period 22,789 2,117 24,906
(1) Based on leases entered during the three months ended
(2) Rentable square feet are subject to changes when space is remeasured or
reconfigured for tenants.
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Leases at our properties totaling approximately 0.9 million rentable square feet expired during the three months endedMarch 31, 2020 . During the three months endedMarch 31, 2020 , we entered leases totaling approximately 0.6 million rentable square feet, including lease renewals of approximately 0.5 million rentable square feet and new leases of approximately 0.1 million rentable square feet. The weighted (by rentable square feet) average rents were 4.1% above prior rents for the same space and the weighted (by rentable square feet) average lease term for new and renewal leases entered during the three months endedMarch 31, 2020 was 4.8 years. During the three months endedMarch 31, 2020 , commitments made for expenditures, such as tenant improvements and leasing costs, in connection with leasing space at our properties were as follows (square feet in thousands): Three Months Ended March 31, 2020 New Leases Renewals Total Rentable square feet leased 81 508 589 Tenant leasing costs and concession commitments (1)$ 6,160 $ 6,770 $ 12,930 Tenant leasing costs and concession commitments per rentable square foot (1)$ 75.98 $ 13.32 $ 21.94 Weighted (by square feet) average lease term (years) 10.8 3.8 4.8 Total leasing costs and concession commitments per rentable square foot per year (1)$ 7.04 $
3.49
(1) Includes commitments made for leasing expenditures and concessions, such as
tenant improvements, leasing commissions, tenant reimbursements and free
rent.
During the three months endedMarch 31, 2020 , changes in effective rental rates per square foot achieved for new leases and lease renewals at our properties that commenced during the three months endedMarch 31, 2020 , when compared to prior effective rental rates per square foot in effect for the same space (and excluding space acquired vacant), were as follows (square feet in thousands): Three Months Ended March 31, 2020 Old Effective Rent New Effective Rent Per Rentable Per Square Foot (1) Square Foot (1) Square Feet New leases $ 28.13 $ 26.95 100 Lease renewals $ 39.71 $ 40.92 568 Total leasing activity $ 37.98 $ 38.83 668
(1) Effective rental rate includes contractual base rents from our tenants
pursuant to our lease agreements, plus straight line rent adjustments and
estimated expense reimbursements to be paid to us, and excluding lease value
amortization.
During the three months endedMarch 31, 2020 and 2019, amounts capitalized at our properties for tenant improvements, leasing costs, building improvements and development and redevelopment activities were as follows: Three Months Ended March 31, 2020 2019 Tenant improvements (1) $ 2,967 $ 4,912 Leasing costs (2) 4,146 7,325 Building improvements (3) 9,230 4,308 Recurring capital expenditures 16,343
16,545
Development, redevelopment and other activities (4) 3,161 226 Total capital expenditures $ 19,504 $ 16,771
(1) Tenant improvements include capital expenditures used to improve tenants'
space or amounts paid directly to tenants to improve their space.
(2) Leasing costs include leasing related costs, such as brokerage commissions
and other tenant inducements.
(3) Building improvements generally include expenditures to replace obsolete
building components and expenditures that extend the useful life of existing
assets.
(4) Development, redevelopment and other activities generally include capital
expenditure projects that reposition a property or result in new sources of
revenue.
As ofMarch 31, 2020 , we have estimated unspent leasing related obligations of$57,348 . As ofMarch 31, 2020 , we had leases at our properties totaling approximately 1.1 million rentable square feet that were scheduled to expire throughDecember 31, 2020 . As ofApril 30, 2020 , tenants with leases totaling approximately 0.2 million 18
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rentable square feet that are scheduled to expire throughDecember 31, 2020 , have notified us that they do not plan to renew their leases upon expiration and we cannot be sure as to whether other tenants may or may not renew their leases upon expiration. As a result of the COVID-19 pandemic and the current economic impact, leasing activity has slowed in the 2020 second quarter to date and we expect that slowing may continue until market conditions improve. However, we also believe that these conditions may result in our overall tenant retention levels increasing. Prevailing market conditions and government and other tenants' needs at the time we negotiate and enter leases or lease renewals will generally determine rental rates and demand for leased space at our properties, and market conditions and our tenants' needs are beyond our control. Whenever we extend, renew or enter into new leases for our properties, we intend to seek rents which are equal to or higher than our historical rents for the same properties; however, our ability to maintain or increase the rents for our current properties will depend in large part upon market conditions, which are beyond our control. We cannot be sure of the rental rates which will result from our ongoing negotiations regarding lease renewals or any new or renewed leases we may enter; also, we may experience material declines in our rental income due to vacancies upon lease expirations or early terminations. As ofMarch 31, 2020 , our lease expirations by year are as follows (square feet in thousands): Leased Square Number of Feet Cumulative Cumulative Leases Expiring Percent of Percent
of Annualized Rental Percent of Percent of
Year (1) Expiring (2) Total Total Income Expiring Total Total
2020 56 1,083 4.8 % 4.8 % $ 27,541 4.7 % 4.7 %
2021 58 2,050 9.0 % 13.8 % 58,503 10.1 % 14.8 %
2022 79 2,147 9.4 % 23.2 % 60,941 10.5 % 25.3 %
2023 63 2,528 11.1 % 34.3 % 68,662 11.8 % 37.1 %
2024 54 3,674 16.1 % 50.4 % 97,273 16.7 % 53.8 %
2025 49 2,018 8.9 % 59.3 % 43,531 7.5 % 61.3 %
2026 29 1,710 7.5 % 66.8 % 45,728 7.9 % 69.2 %
2027 28 1,855 8.1 % 74.9 % 46,984 8.1 % 77.3 %
2028 12 872 3.8 % 78.7 % 25,568 4.4 % 81.7 %
2029 and thereafter 46 4,851 21.3 % 100.0 % 106,992 18.3 % 100.0 %
Total 474 22,788 100.0 % $ 581,723 100.0 %
Weighted average remaining lease
term (in years) 5.9 5.6
(1) The year of lease expiration is pursuant to current contract terms. Some of
our leases allow the tenants to vacate the leased premises before the stated
expirations of their leases with little or no liability. As of
2020, tenants occupying approximately 11.0% of our rentable square feet and
responsible for approximately 7.9% of our annualized rental income as of
before the stated terms of their leases expire. Also, in 2020, 2021, 2022,
2023, 2024, 2025, 2026, 2027, 2028, 2030 and 2035, early termination rights
become exercisable by other tenants who currently occupy an additional
approximately 3.2%, 1.3%, 2.3%, 0.7%, 1.0%, 2.2%, 1.0%, 0.5%, 1.1%, 0.1% and
0.1% of our rentable square feet, respectively, and contribute an additional
approximately 4.0%, 1.4%, 2.4%, 0.9%, 1.6%, 3.8%, 1.3%, 0.7%, 1.2%, 0.2% and
0.1% of our annualized rental income, respectively, as of
addition, as of
these tenants have rights to terminate their leases if their respective
legislature or other funding authority does not appropriate rent amounts in
their respective annual budgets. These 13 tenants occupy approximately 5.2%
of our rentable square feet and contribute approximately 5.5% of our
annualized rental income as of
(2) Leased square feet is pursuant to leases existing as of
includes (i) space being fitted out for tenant occupancy pursuant to our
lease agreements, if any, and (ii) space which is leased, but is not occupied
or is being offered for sublease by tenants, if any. Square feet measurements
are subject to changes when space is remeasured or reconfigured for new
tenants.
We generally will seek to renew or extend the terms of leases in our single tenant properties when they expire. Because of the capital many of the tenants in these properties have invested in the properties and because many of these properties appear to be of strategic importance to the tenants' businesses, we believe that it is likely that these tenants will renew or extend their leases prior to when they expire. If we are unable to extend or renew our leases, it may be time consuming and expensive to relet some of these properties. We believe that current government budgetary methodology, spending priorities and the currentU.S. presidential administration's views on the size and scope of government employment have resulted in a decrease in government employment. Furthermore, for the past six years, government tenants have reduced their space utilization per employee and consolidated government tenants into existing government owned properties. This activity has reduced the demand for government leased space. Our historical experience with respect to properties of the type we own that are majority leased to government tenants has been that government tenants frequently renew leases to avoid the costs and disruptions that may result 19
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from relocating their operations. However, efforts to reduce space utilization rates may result in our tenants exercising early termination rights under our leases, vacating our properties upon expiration of our leases in order to relocate, or renewing their leases for less space than they currently occupy. Also, our government tenants' desires to reconfigure leased office space to reduce utilization per employee may require us to spend significant amounts for tenant improvements, and tenant relocations have become more prevalent than our past experiences in instances where efforts by government tenants to reduce their space utilization require a significant reconfiguration of currently leased space. Increasing uncertainty with respect to government agency budgets and funding to implement relocations, consolidations and reconfigurations has resulted in delayed decisions by some of our government tenants and their reliance on short term lease renewals; however, recent activity prior to the outbreak of the COVID-19 pandemic suggested that the government had begun to shift its leasing strategy to include longer term leases and was actively exploring 10 to 20 year lease terms at renewal, in some instances. We believe the reduction in government tenant space utilization and the consolidation of government tenants into government owned real estate is substantially complete; however, these activities may impact us for some time into the future. It is also possible that as a result of the COVID-19 pandemic, government tenants may seek to increase space utilization rates in order to provide greater physical distancing for employees. Given the significant uncertainties as to the COVID-19 pandemic, its economic impact and its aftermath, we are unable to reasonably project what the financial impact of market conditions or changing government circumstances, including as a result of the COVID-19 pandemic, will be on our financial results for future periods. As ofMarch 31, 2020 , we derive 24.3% of our annualized rental income from our properties located in the metropolitanWashington, D.C. market area, which includesWashington, D.C. ,Northern Virginia and suburbanMaryland . A downturn in economic conditions in this area, including as a result of the COVID-19 pandemic, could result in reduced demand from tenants for our properties or reduce the rents that our tenants in this area are willing to pay when our leases expire or terminate and when renewal or new terms are negotiated. Additionally, in recent years there has been a decrease in demand for new leased space by theU.S. Government in the metropolitanWashington, D.C. market area, and that could increase competition for government tenants and adversely affect our ability to retain government tenants when our leases expire. Our manager,RMR LLC , employs a tenant review process for us.RMR LLC assesses tenants on an individual basis based on various applicable credit criteria. In general, depending on facts and circumstances,RMR LLC evaluates the creditworthiness of a tenant based on information concerning the tenant that is provided by the tenant and, in some cases, information that is publicly available or obtained from third party sources.RMR LLC also often uses a third party service to monitor the credit ratings, both actual and implied, of our existing tenants. We consider investment grade tenants to include: (a) investment grade rated tenants; (b) tenants with investment grade rated parent entities that guarantee the tenant's lease obligations; and/or (c) tenants with investment grade rated parent entities that do not guarantee the tenant's lease obligations. As ofMarch 31, 2020 , tenants contributing 52.6% of annualized rental income were investment grade rated (or their payment obligations were guaranteed by an investment grade rated parent) and tenants contributing an additional 9.6% of annualized rental income were subsidiaries of an investment grade rated parent (although these parent entities were not liable for the payment of rents). 20
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As of
% of Total
Annualized Rental Annualized Rental
Tenant Credit Rating Income Income
1 U.S. Government Investment Grade $ 145,675 25.0 %
2 Shook, Hardy & Bacon L.L.P. Not Rated 19,199 3.3 %
3 State of California Investment Grade 19,125 3.3 %
4 Bank of America Corporation Investment Grade 16,467 2.8 %
5 WestRock Company Investment Grade 12,864 2.2 %
6 F5 Networks, Inc. Not Rated 12,777 2.2 %
7 CareFirst Inc. Non Investment Grade 11,684 2.0 %
8 Northrop Grumman Corporation Investment Grade 11,320 1.9 %
9 Tyson Foods, Inc. Investment Grade 11,011 1.9 %
10 Technicolor SA Non Investment Grade 10,034 1.7 %
11 Commonwealth of Massachusetts Investment Grade 9,769 1.7 %
12 Micro Focus International plc Non Investment Grade 8,710 1.5 %
13 CommScope Holding Company Inc Non Investment Grade 8,097 1.4 %
14 State of Georgia Investment Grade 7,173 1.2 %
15 PNC Bank Investment Grade 6,902 1.2 %
16 ServiceNow, Inc. Not Rated 6,481 1.1 %
17 Allstate Insurance Co. Investment Grade 6,472 1.1 %
18 Compass Group plc Investment Grade 6,398 1.1 %
19 Automatic Data Processing, Inc. Investment Grade 6,047 1.0 %
20 Church & Dwight Co., Inc. Investment Grade 6,019 1.0 %
21 Tailored Brands, Inc. Non Investment Grade 5,898 1.0 %
Total $ 348,122 59.6 %
Acquisition Activities
During the three months ended March 31, 2020 , we acquired a property adjacent to
a property we own in Boston, MA for $11,500 , excluding acquisition related
costs.
For more information about our acquisition activities, see Note 4 to the Notes
to Condensed Consolidated Financial Statements included in Part I, Item 1 of
this Quarterly Report on Form 10-Q.
Disposition Activities
During the three months ended March 31, 2020 , we sold six properties with a
combined 0.7 million rentable square feet for an aggregate sales price of
$85,363 , excluding closing costs and including the repayment of one mortgage
note with an outstanding principal balance of $13,095 , an annual interest rate
of 5.9% and a maturity date in August 2021 , as part of our capital recycling
program. Through our capital recycling program, we seek to selectively sell
certain properties from time to time to fund future acquisitions and to maintain
leverage consistent with our current investment grade ratings with a goal of (1)
improving the asset quality of our portfolio by reducing the average age of our
properties, lengthening the weighted average lease term of our leases and
increasing the likelihood of retaining our tenants and (2) increasing
distributions to shareholders. Given the current economic conditions surrounding
the COVID-19 pandemic, we are carefully considering our capital allocation
strategy and believe we are well positioned to opportunistically deploy capital
during 2020.
We are currently marketing for sale four properties with approximately 0.2
million rentable square feet. We cannot be sure we will sell these properties
for prices in excess of their carrying values, or at all.
For more information about our disposition activities, see Note 4 to the Notes
to Condensed Consolidated Financial Statements included in Part I, Item 1 of
this Quarterly Report on Form 10-Q.
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Table of Contents Financing Activities InJanuary 2020 , we redeemed, at par plus accrued interest, all$400,000 of our 3.60% senior unsecured notes due 2020 using cash on hand, proceeds from property sales and borrowings under our revolving credit facility. InMarch 2020 , in connection with the sale of one property, we prepaid, at a premium plus accrued interest, a mortgage note secured by that property with an outstanding principal balance of$13,095 , an annual interest rate of 5.9% and a maturity date inAugust 2021 , which was classified in liabilities of properties held for sale in our condensed consolidated balance sheet as ofDecember 31, 2019 . InMarch 2020 , we prepaid, at a premium plus accrued interest, a mortgage note secured by one property with an outstanding principal balance of$66,780 , an annual interest rate of 4.0% and a maturity date inSeptember 2030 using cash on hand and borrowings under our revolving credit facility. InApril 2020 , we prepaid, at par plus accrued interest, a mortgage note secured by one property with an outstanding principal balance of$32,677 , an annual interest rate of 5.7% and a maturity date inJuly 2020 using cash on hand and borrowings under our revolving credit facility. Segment Information We operate in one business segment: ownership of real estate properties. 22
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