AvalonBay Communities Earnings Call Nuggets: New Projects Outlook, Operations & Development

AvalonBay Communities  (NYSE:AVB) recently reported its first quarter earnings and discussed the following topics in its earnings conference call.

New Projects Outlook

Rob Stevenson – Macquarie: Can you guys just talk about with the Archstone assets you guys are up to $2.2 billion development pipeline. What’s the appetite from here to start new projects over the remainder of this year and the first part of next year until a lot of these bigger dollar volume ones burn off?

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Timothy J. Naughton – CEO: This is Tim. I think as you know Tom mentioned, we do see the pipeline continuing to grow to $3 billion to $3.5 billion early next year when we – at which point we expect that roughly a peak just based upon the projected timing of the deals in terms of when they’d be ready to start. Obviously, we have tried to position the balance sheet and our liquidity to give us plenty of flexibility in terms of how we fund that. But in terms of the economics of the business, as I mentioned in my prepared remarks, it continues to be very compelling with projected yields on the stuff that’s under construction of 6.7, but often times the deals, once they start leasing up particularly in this kind of market environment will be seeing an improvement. As Tom mentioned in his remarks, the three deals that just recently were completed more like a 7.5 stabilized yield. So, tremendous profit potential embedded in that pipeline. So we will continue to move forward development whether that’s funding that through new capital or through recycling the capital through a disposition program. But we expect it to peak around $3 billion to $3.5 billion early next year, which would represent around 13%, 14%, 15% of total enterprise value, which is a number we have talked about in the past that we would be comfortable seeing it get up to.

Rob Stevenson – Macquarie: I mean obviously you guys control land development rights for some period of time before you start construction in a lot of cases. But what do you – and so the land costs are somewhat less variable for you guys than they are for competitors, but what are you seeing right now in terms of construction costs, I mean in terms of both stake and steel builds in concrete, et cetera? I mean how much inflation are you seeing on that side and what is that doing to expected returns on stuff that you will start later this year or early next?

Timothy J. Naughton – CEO: Obviously something we’ve been talking about the last few quarters. We’ve been seeing movement back up in construction costs, back towards the prior peak from 2007. So, we are still talking about costs that we are six years ago, in terms of where they peaked previously, but, it’s very much market dependent. Right now, we’re seeing a lot more pressure on the West Coast, particularly California, where the sub-contractor market continues to be a little thinner. We have seen pressures there on a year-over-year basis, double-digit, 10%, 11%, 12%. On the East Coast in D.C., interestingly, where there’s been a lot of production or even in places like Seattle it’s been more modest, it’s been more in the 5% to 7%, 8% range in terms of construction pricing growth, so there hasn’t been a material impact in terms of yield as you’ve mentioned land is locked in. So, construction generally represents about 65% of the total capital, so to the extent that’s grown, 5% to 7% or 8%, but it’s only representing two-thirds in lands fixed, as long as NOI’s growing around 5% yields really haven’t moved that much and I think you’ll see that as you look back over the last several quarters in terms of what our average projected yield, it just hasn’t moved that much off that kind of high 6% range.

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Rob Stevenson – Macquarie: Are you guys expecting to start any material amount of redevelopment of the Archstone assets?

Sean J. Breslin – EVP, Investments and Asset Management: This is Sean Breslin. As it relates to redevelopment, we do believe that a majority of the Archstone assets have redevelopment opportunities. Our teams are going through all the assets and re-sequencing our redevelopment pipeline to integrate the new Archstone asset and with the AvalonBay assets, we probably have more clarity on that over the next couple of quarters in terms of what the dollar volume out of the Archstone asset specifically would look like, but my expectation is particularly later this year and as we get into ’14 that we’ll start to ramp up.

Rob Stevenson – Macquarie: Then just lastly on the expiration of lockup, I mean, has there been any consideration on accelerating the disposition program in order to raise capital to try to buy back shares from Lehman?

Timothy J. Naughton – CEO: No. Not really, Rob. It really speaks more to how we have been funding the base business, the ongoing business in terms of funding development. As you know our share price has drifted into the low 130s we think dispositions are a more compelling source of capital right now than equity. So that’s really what’s been driving it.

 

Operations & Development

Alexander Goldfarb – Sandler O’Neill: Two question; the first, you guys talked about integrating the two platforms and both on the operations and development front. Just sort of curious, how much – how different the two platforms as far as the people and systems are between the way, Archstone did things and the way Avalon does things both on the operations and then also with respect to development?

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Sean J. Breslin – EVP, Investments and Asset Management: This is Sean. I will touch on the operations side and then maybe Tim could comment on development. On the operations side first and foremost, critically important is the cultures of the two organizations are very similar. So in terms of the integration of people and operating within the framework of the organization that’s gone extremely well and as it relates to systems, there are a lot of systems that are similar in terms of (indiscernible) LRO, MRI, et cetera. There are different variations in terms of how they use those systems that we have now modified for the majority of our main operating systems. We are still investing in technology to upgrade some of our systems in terms of our resident portal and things like that to enhance the capabilities there. But in terms of the systems integration and itself to operate the sort of core business, significant overlap there in terms of use of the same systems, and that allowed us to basically transfer everything onto our technology platform within the first 30 days that we owned the assets. So, as it relates to development…

Timothy J. Naughton – CEO: And so, probably the biggest difference on the development side is they used construction managers, third-party construction managers to build out their deals, which we typically self-perform, so that’s been, and we inherited some of those contracts, so we stepped into some of those. So, that’s a little different, but in terms of the people, we hired a lot of the folks, several of the folks on the development and the construction side in terms of discipline, in terms of how they budget, report quite similar to how we look at running and managing the business and not a lot of disparity there.

Alexander Goldfarb – Sandler O’Neill: Then the second question is maybe this goes to the $0.10 of outperformance or maybe this is in addition to, in the supplement, where you guys breakout the NOI and rental revenue et cetera, it looks the Avalon portfolio runs about 40 basis points more efficient from an NOI margin perspective, despite the fact that Avalon and Archstone on the same-store basis have similar rental revenue rates. So, should we expect that there’s this 40 basis point gap will close and that’s opportunity for more upside or maybe that’s the $0.10 number that Tom you spoke about earlier?

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Sean J. Breslin – EVP, Investments and Asset Management: Why don’t I take the first part of that, in terms of the operational efficiencies one, I’d be a little bit careful about extrapolating based on what’s essentially one month of data. That being said, we don’t expect the operating margins to be materially different. We do expect some improvement based on how we plan to operate the properties, but it probably is a little bit too early for me to go into that level of detail at this point in time.

Thomas J. Sargeant – CFO: On the $0.10, that really is more of a true up of how we saw the portfolio performing in margin and into April as we’ve got some of our first of month billing data, so the budgets that they Archstone had prepared, we adjusted them for differences in accounting in a couple of other areas, but largely adopted those budgets and those budgets were done last fall. So, some of that $0.10 per share was really just truing up for better than expected performance out of those budgets.