Business Context and Reporting Period
Company: Essex Property Trust, Inc. (REIT)
Filing Type: Form 10-Q (Unaudited)
Reporting Period: Quarter and six months ended June 30, 2006
Business Overview: Essex is a fully integrated REIT owning and operating multifamily properties primarily in Southern California, Northern California, and the Pacific Northwest. As of June 30, 2006, the portfolio included 126 multifamily properties (27,110 units), three office buildings, two recreational vehicle parks, and one manufactured housing community.
Key Financial Metrics
| Metric (in thousands) | Three Months Ended June 30, 2006 |
Six Months Ended June 30, 2006 |
|---|---|---|
| Total Revenues | $87,486 | $173,573 |
| Net Income | $22,512 | $32,834 |
| Net Income Available to Common Stockholders | $22,023 | $31,857 |
| Diluted EPS (Common) | $0.95 | $1.38 |
| Funds from Operations (FFO) | $37,152 | $66,067 |
| FFO per Share (Diluted) | $1.45 | $2.58 |
| Net Cash Provided by Operating Activities | N/A | $69,253 |
| Total Assets | $2,328,244 | $2,328,244 |
| Total Liabilities | $1,497,768 | $1,497,768 |
| Stockholders' Equity | $600,782 | $600,782 |
| Debt (Mortgage Notes + Exchangeable Bonds + Lines of Credit) | $1,420,995 | $1,420,995 |
Material Changes vs. Prior Comparable Period
- Revenue Growth: Total property revenues increased 8.8% ($6.99 million) for the quarter and 8.9% ($13.98 million) for the six months compared to the prior year. This was driven by a 6.3% increase in same-property revenues (due to higher rental rates and reduced concessions) and a 38.6% increase in non-same property revenues (due to acquisitions).
- Net Income Decline: Net income available to common stockholders decreased significantly from $38.39 million to $22.02 million for the quarter, and from $64.78 million to $31.86 million for the six months. This decline is primarily attributable to a reduction in discontinued operations gains (sale of Eastridge Apartments in 2005 vs. Vista Pointe in 2006) and a decrease in equity income from co-investments (Fund I liquidation in 2005 vs. Fund II losses in 2006).
- Expense Increases: Total expenses rose 5% for the quarter and 7% for the six months, driven by higher real estate taxes, increased salaries (including equity-based compensation), and higher interest expense due to increased debt levels and short-term borrowing rates.
- Impairment Charge: The company recorded an $0.8 million impairment loss in Q2 2006 related to a property in Houston, Texas.
Guidance, Outlook, Risks, and Unusual Items
- Capital Markets Activity: In July 2006 (post-period), the company sold 5.98 million shares of Series G Cumulative Convertible Preferred Stock for estimated gross proceeds of $149.5 million. Proceeds are intended to pay down lines of credit and fund development. Additionally, $14.8 million was raised via the Controlled Equity Offering program in Q2.
- Development Pipeline: As of June 30, 2006, the company had a predevelopment pipeline of six communities (1,972 units) with an estimated total cost of $522.5 million. One active development project (275 units) had $51.2 million remaining to be expended.
- Discontinued Operations: Q2 2006 included a gain of $8.8 million plus $8.2 million in fees/promote from the sale of the Vista Pointe joint venture. Q2 2005 included a significantly larger gain of $28.5 million from the sale of Eastridge Apartments.
- Legal and Risk Factors:
- Employee Lawsuit: A class action lawsuit regarding unpaid wages for on-call maintenance employees remains pending. A $1.5 million settlement was recorded in 2005; no change to the estimate as of June 2006.
- Mold Litigation: The company faces increasing lawsuits regarding mold in residential properties. While pollution liability insurance is held, costs and insurance premiums may be substantial.
- Interest Rate Risk: The company has $281.6 million in variable rate debt. It has entered into seven forward-starting interest rate swaps totaling $350 million to hedge refinancing risks between 2007 and 2011.
Investor Verification Checklist
- Discontinued Operations Impact: Verify the sustainability of earnings by excluding the one-time gains from property sales (Vista Pointe in 2006 vs. Eastridge in 2005) which heavily skewed Net Income comparisons.
- Debt Maturity Profile: Review the contractual obligations table; significant mortgage maturities are scheduled for 2007 ($217.7 million) and 2008 ($182.8 million).
- Development Capital Needs: Assess the $504.8 million remaining to be expended on the predevelopment pipeline against current liquidity and the recent $149.5 million preferred stock offering.
- FFO vs. GAAP Earnings: Note the divergence between GAAP Net Income (impacted by depreciation and asset sales) and Funds from Operations (FFO), which is the industry standard for REIT performance.
- Legal Contingencies: Monitor the status of the employee wage class action and potential mold-related liabilities, as these could result in future cash outflows.