UNITED STATES
SECURITIES AND
EXCHANGE
COMMISSION
Washington
, D.C. 20549
FORM 10-Q
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2012
OR
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________to _________
Commission file number 001-13106
ESSEX
PROPERTY
TRUST, INC.
(Exact name of Registrant as Specified in its Charter)
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Maryland
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77-0369576
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(State or Other Jurisdiction of Incorporation or Organization)
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(I.R.S. Employer Identification Number)
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925 East Meadow Drive
Palo Alto, California 94303
(Address of Principal Executive Offices including Zip Code)
(650) 494-3700
(Registrant's Telephone Number, Including Area Code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file reports), and (2) has been subject to such filing requirements for the past 90 days. YES
x
NO
o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). YES
x
NO
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” ”accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
| Large accelerated filer x | Accelerated filer o | Non-accelerated filer o | Smaller reporting company o |
|
(Do not check if a smaller
reporting company)
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Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes
o
No
x
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date:
36,528,212 shares of Common Stock as of November 1, 2012.
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ESSEX PROPERTY TRUST, INC.
FORM 10-Q
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Page No.
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PART I. FINANCIAL INFORMATION
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Item 1.
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3
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4
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5
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6
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7
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9
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Item 2.
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22
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Item 3.
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32
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Item 4.
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33
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PART II. OTHER INFORMATION
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Item 1.
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33
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Item 1A.
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34
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Item 6
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34
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35
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Part I -- Financial Information
"Essex" or the "Company" means Essex Property Trust, Inc., a real estate investment trust incorporated in the State of Maryland, or where the context otherwise requires, Essex Portfolio, L.P., a limited partnership (the "Operating Partnership") in which Essex Property Trust, Inc. is the sole general partner.
The information furnished in the accompanying unaudited condensed consolidated balance sheets, statements of operations and comprehensive income, equity, and cash flows of the Company reflects all adjustments which are, in the opinion of management, necessary for a fair presentation of the aforementioned condensed consolidated financial statements for the interim periods and are normal and recurring in nature, except as otherwise noted.
The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the notes to such unaudited condensed consolidated financial statements and Management's Discussion and Analysis of Financial Condition and Results of Operations herein. Additionally, these unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements included in the Company's annual report on Form 10-K for the year ended December 31, 2011.
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
(Unaudited)
(Dollars in thousands, except per share amounts)
|
September 30,
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December 31,
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|||||||
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Assets
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2012
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2011
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||||||
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Real estate:
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||||||||
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Rental properties:
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||||||||
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Land and land improvements
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$ | 934,282 | $ | 860,661 | ||||
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Buildings and improvements
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3,823,382 | 3,452,403 | ||||||
| 4,757,664 | 4,313,064 | |||||||
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Less accumulated depreciation
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(1,037,663 | ) | (920,026 | ) | ||||
| 3,720,001 | 3,393,038 | |||||||
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Real estate under development
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60,020 | 44,280 | ||||||
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Co-investments
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477,967 | 383,412 | ||||||
| 4,257,988 | 3,820,730 | |||||||
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Cash and cash equivalents-unrestricted
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1,943 | 12,889 | ||||||
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Cash and cash equivalents-restricted
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24,934 | 22,574 | ||||||
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Marketable securities
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141,573 | 74,275 | ||||||
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Notes and other receivables
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50,316 | 66,369 | ||||||
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Prepaid expenses and other assets
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36,517 | 22,682 | ||||||
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Deferred charges, net
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21,401 | 17,445 | ||||||
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Total assets
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$ | 4,534,672 | $ | 4,036,964 | ||||
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Liabilities and Equity
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||||||||
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Mortgage notes payable
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$ | 1,571,821 | $ | 1,745,858 | ||||
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Unsecured debt
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962,008 | 465,000 | ||||||
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Lines of credit
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61,872 | 150,000 | ||||||
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Accounts payable and accrued liabilities
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76,828 | 48,324 | ||||||
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Construction payable
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4,266 | 6,505 | ||||||
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Dividends payable
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44,377 | 39,611 | ||||||
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Derivative liabilities
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7,174 | 3,061 | ||||||
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Other liabilities
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20,886 | 20,528 | ||||||
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Total liabilities
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2,749,232 | 2,478,887 | ||||||
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Commitments and contingencies
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||||||||
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Cumulative convertible Series G preferred stock
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4,349 | 4,349 | ||||||
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Equity:
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||||||||
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Cumulative redeemable Series H preferred stock at liquidation value
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73,750 | 73,750 | ||||||
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Common stock, $.0001 par value, 656,020,000 shares
authorized 35,714,182 and 33,888,082 shares issued and outstanding
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3 | 3 | ||||||
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Additional paid-in capital
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2,116,531 | 1,844,611 | ||||||
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Distributions in excess of accumulated earnings
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(448,142 | ) | (408,066 | ) | ||||
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Accumulated other comprehensive loss, net
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(76,449 | ) | (72,771 | ) | ||||
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Total stockholders' equity
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1,665,693 | 1,437,527 | ||||||
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Noncontrolling interest
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115,398 | 116,201 | ||||||
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Total equity
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1,781,091 | 1,553,728 | ||||||
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Total liabilities and equity
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$ | 4,534,672 | $ | 4,036,964 | ||||
See accompanying notes to the unaudited condensed consolidated financial statements.
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARES
(Unaudited)
(Dollars in thousands, except per share amounts)
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Three Months Ended
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Nine Months Ended
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|||||||||||||||
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September 30,
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September 30,
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|||||||||||||||
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2012
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2011
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2012
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2011
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|||||||||||||
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Revenues:
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||||||||||||||||
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Rental and other property
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$ | 135,070 | $ | 117,226 | $ | 390,308 | $ | 343,340 | ||||||||
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Management and other fees
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3,072 | 1,940 | 8,312 | 4,585 | ||||||||||||
| 138,142 | 119,166 | 398,620 | 347,925 | |||||||||||||
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Expenses:
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||||||||||||||||
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Property operating, excluding real estate taxes
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32,951 | 29,642 | 92,421 | 86,426 | ||||||||||||
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Real estate taxes
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12,358 | 11,208 | 35,470 | 32,619 | ||||||||||||
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Depreciation
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43,041 | 37,881 | 125,575 | 111,786 | ||||||||||||
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General and administrative
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5,276 | 4,966 | 16,440 | 15,626 | ||||||||||||
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Cost of management and other fees
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1,642 | 1,164 | 4,893 | 3,161 | ||||||||||||
| 95,268 | 84,861 | 274,799 | 249,618 | |||||||||||||
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Earnings from operations
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42,874 | 34,305 | 123,821 | 98,307 | ||||||||||||
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Interest expense before amortization
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(25,064 | ) | (22,096 | ) | (74,380 | ) | (66,612 | ) | ||||||||
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Amortization expense
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(2,927 | ) | (2,936 | ) | (8,681 | ) | (8,527 | ) | ||||||||
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Interest and other income
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3,003 | 2,741 | 10,869 | 12,357 | ||||||||||||
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Equity income (loss) in co-investments
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3,547 | 317 | 8,998 | (330 | ) | |||||||||||
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Gain on remeasurement of co-investment
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- | - | 21,947 | - | ||||||||||||
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Loss on early retirement of debt
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(1,211 | ) | (567 | ) | (2,661 | ) | (820 | ) | ||||||||
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Income from continuing operations
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20,222 | 11,764 | 79,913 | 34,375 | ||||||||||||
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Income (loss) from discontinued operations
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- | (679 | ) | 10,037 | 5,273 | |||||||||||
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Net income
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20,222 | 11,085 | 89,950 | 39,648 | ||||||||||||
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Net income attributable to noncontrolling interest
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(2,635 | ) | (2,031 | ) | (9,827 | ) | (7,882 | ) | ||||||||
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Net income attributable to controlling interest
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17,587 | 9,054 | 80,123 | 31,766 | ||||||||||||
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Dividends to preferred stockholders
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(1,368 | ) | (1,367 | ) | (4,104 | ) | (3,385 | ) | ||||||||
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Excess of cash paid to redeem preferred stock and
units over the carrying value
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- | - | - | (1,949 | ) | |||||||||||
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Net income available to common stockholders
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$ | 16,219 | $ | 7,687 | $ | 76,019 | $ | 26,432 | ||||||||
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Comprehensive income
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$ | 16,462 | $ | 10,742 | $ | 86,034 | $ | 41,765 | ||||||||
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Comprehensive income attributable to noncontrolling interest
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(2,407 | ) | (2,007 | ) | (9,589 | ) | (8,019 | ) | ||||||||
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Comprehensive income attributable to controlling interest
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$ | 14,055 | $ | 8,735 | $ | 76,445 | $ | 33,746 | ||||||||
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Per common share data:
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||||||||||||||||
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Basic:
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||||||||||||||||
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Income from continuing operations
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$ | 0.46 | $ | 0.25 | $ | 1.92 | $ | 0.67 | ||||||||
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Income (loss) from discontinued operations
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- | (0.02 | ) | 0.27 | 0.15 | |||||||||||
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Net income available to common stockholders
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$ | 0.46 | $ | 0.23 | $ | 2.19 | $ | 0.82 | ||||||||
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Weighted average number of common shares
outstanding during the period
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35,600,772 | 33,121,728 | 34,736,311 | 32,215,549 | ||||||||||||
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Diluted:
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||||||||||||||||
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Income from continuing operations
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$ | 0.45 | $ | 0.25 | $ | 1.91 | $ | 0.67 | ||||||||
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Income (loss) from discontinued operations
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- | (0.02 | ) | 0.27 | 0.15 | |||||||||||
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Net income available to common stockholders
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$ | 0.45 | $ | 0.23 | $ | 2.18 | $ | 0.82 | ||||||||
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Weighted average number of common shares
outstanding during the period
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35,699,666 | 33,209,289 | 34,834,076 | 32,304,686 | ||||||||||||
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Dividend per common share
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$ | 1.10 | $ | 1.04 | $ | 3.30 | $ | 3.12 | ||||||||
See accompanying notes to the unaudited condensed consolidated financial statements.
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
(Unaudited)
(Dollars and shares in thousands)
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Distributions
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Accumulated
|
|||||||||||||||||||||||||||||||||||
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Series H
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Additional
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in excess of
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other
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|||||||||||||||||||||||||||||||||
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Preferred stock
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Common stock
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paid-in
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accumulated
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comprehensive
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Noncontrolling
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|||||||||||||||||||||||||||||||
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Shares
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Amount
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Shares
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Amount
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capital
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earnings
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loss, net
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Interest
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Total
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||||||||||||||||||||||||||||
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Balances at December 31, 2011
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2,950 | $ | 73,750 | 33,888 | $ | 3 | $ | 1,844,611 | $ | (408,066 | ) | $ | (72,771 | ) | $ | 116,201 | $ | 1,553,728 | ||||||||||||||||||
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Net income
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- | - | - | - | - | 80,123 | - | 9,827 | 89,950 | |||||||||||||||||||||||||||
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Change in fair value of cash flow hedges and
amortization of swap settlements
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- | - | - | - | - | - | 589 | 37 | 626 | |||||||||||||||||||||||||||
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Change in fair value of marketable securities
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- | - | - | - | - | - | (4,267 | ) | (275 | ) | (4,542 | ) | ||||||||||||||||||||||||
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Issuance of common stock under:
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||||||||||||||||||||||||||||||||||||
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Stock option and restricted stock plans
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- | - | 51 | - | 3,062 | - | - | - | 3,062 | |||||||||||||||||||||||||||
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Sale of common stock
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- | - | 1,775 | - | 268,858 | - | - | - | 268,858 | |||||||||||||||||||||||||||
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Equity based compensation costs
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- | - | - | - | - | - | - | 1,678 | 1,678 | |||||||||||||||||||||||||||
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Contributions from noncontrolling interest
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- | - | - | - | - | 2,400 | 2,400 | |||||||||||||||||||||||||||||
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Distributions to noncontrolling interest
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- | - | - | - | - | - | - | (12,875 | ) | (12,875 | ) | |||||||||||||||||||||||||
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Redemptions of noncontrolling interest
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- | - | - | - | - | - | - | (1,595 | ) | (1,595 | ) | |||||||||||||||||||||||||
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Common and preferred stock dividends
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- | - | - | - | - | (120,199 | ) | - | - | (120,199 | ) | |||||||||||||||||||||||||
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Balances at September 30, 2012
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2,950 | $ | 73,750 | 35,714 | $ | 3 | $ | 2,116,531 | $ | (448,142 | ) | $ | (76,449 | ) | $ | 115,398 | $ | 1,781,091 | ||||||||||||||||||
See accompanying notes to the unaudited condensed consolidated financial statements.
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
(Unaudited)
(Dollars in thousands)
|
Nine Months Ended
|
||||||||
|
September 30,
|
||||||||
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2012
|
2011
|
|||||||
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Cash flows from operating activities:
|
||||||||
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Net income
|
$ | 89,950 | $ | 39,648 | ||||
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Adjustments to reconcile net income to net cash provided by
operating activities:
|
||||||||
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Gain on sale of marketable securities
|
(521 | ) | (4,543 | ) | ||||
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Gain on remeasurement of co-investment
|
(21,947 | ) | - | |||||
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Loss on early retirement of debt
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2,661 | 820 | ||||||
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Co-investments
|
5,141 | 3,963 | ||||||
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Amortization expense
|
8,681 | 8,718 | ||||||
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Amortization of discount on notes receivables
|
(1,373 | ) | (1,316 | ) | ||||
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Amortization of discount on marketable securities
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(3,808 | ) | (3,492 | ) | ||||
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Gain on the sales of real estate
|
(10,870 | ) | (5,051 | ) | ||||
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Depreciation
|
125,669 | 112,678 | ||||||
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Equity-based compensation
|
2,880 | 1,618 | ||||||
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Changes in operating assets and liabilities:
|
||||||||
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Prepaid expenses and other assets
|
(3,653 | ) | (1,720 | ) | ||||
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Accounts payable and accrued liabilities
|
26,167 | 18,205 | ||||||
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Other liabilities
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358 | 1,166 | ||||||
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Net cash provided by operating activities
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219,335 | 170,694 | ||||||
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Cash flows from investing activities:
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||||||||
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Additions to real estate:
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||||||||
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Acquisitions of real estate
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(157,011 | ) | (43,328 | ) | ||||
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Improvements to recent acquisitions
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(6,662 | ) | (14,768 | ) | ||||
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Redevelopment
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(31,277 | ) | (26,929 | ) | ||||
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Revenue generating capital expenditures
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(4,405 | ) | (4,706 | ) | ||||
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Non-revenue generating capital expenditures
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(15,776 | ) | (13,946 | ) | ||||
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Acquisitions of and additions to real estate under development
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(22,505 | ) | (72,816 | ) | ||||
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Acquisition of membership interest in co-investment
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(85,000 | ) | - | |||||
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Dispositions of real estate
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27,800 | 15,972 | ||||||
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Changes in restricted cash and refundable deposits
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(13,370 | ) | (1,165 | ) | ||||
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Purchases of marketable securities
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(73,735 | ) | (8,048 | ) | ||||
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Sales and maturities of marketable securities
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6,322 | 27,997 | ||||||
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Collections of notes and other receivables
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7,977 | 643 | ||||||
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Contributions to co-investments
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(158,769 | ) | (121,450 | ) | ||||
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Distributions from co-investments
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8,345 | 4,032 | ||||||
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Net cash used in investing activities
|
(518,066 | ) | (258,512 | ) | ||||
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Cash flows from financing activities:
|
||||||||
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Borrowings under debt agreements
|
1,347,973 | 872,041 | ||||||
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Repayment of debt
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(1,196,977 | ) | (891,734 | ) | ||||
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Additions to deferred charges
|
(6,415 | ) | (4,464 | ) | ||||
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Payment to settle derivative instruments
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- | (2,395 | ) | |||||
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Net proceeds from issuance of Preferred stock, Series H
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- | 71,209 | ||||||
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Retirement of Series B preferred units
|
- | (78,800 | ) | |||||
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Redemption of Series F preferred stock
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- | (25,000 | ) | |||||
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Equity related issuance cost
|
(309 | ) | (765 | ) | ||||
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Net proceeds from stock options exercised
|
2,169 | 6,714 | ||||||
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Net proceeds from issuance of common stock
|
268,858 | 257,008 | ||||||
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Contributions from noncontrolling interest
|
2,400 | - | ||||||
|
Distributions to noncontrolling interest
|
(12,875 | ) | (13,295 | ) | ||||
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Redemption of noncontrolling interest
|
(1,595 | ) | (4,644 | ) | ||||
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Common and preferred stock dividends paid
|
(115,444 | ) | (102,790 | ) | ||||
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Net cash provided by financing activities
|
287,785 | 83,085 | ||||||
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Net (decrease) in cash and cash equivalents
|
(10,946 | ) | (4,733 | ) | ||||
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Cash and cash equivalents at beginning of year
|
12,889 | 13,753 | ||||||
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Cash and cash equivalents at end of period
|
$ | 1,943 | $ | 9,020 | ||||
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
(Unaudited)
(Dollars in thousands)
|
2012
|
2011
|
|||||||
|
Supplemental disclosure of cash flow information:
|
||||||||
|
Cash paid for interest, net of $6.8 million, and $6.9 million
capitalized in 2012 and 2011, respectively
|
$ | 68,555 | $ | 66,629 | ||||
|
Supplemental disclosure of noncash investing and financing activities:
|
||||||||
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Transfer from real estate under development to rental properties
|
$ | 5,648 | $ | 86,995 | ||||
|
Transfer from real estate under development to co-investment
|
$ | 148,053 | $ | 54,472 | ||||
|
Mortgage notes assumed in connection with purchases
of real estate including the loan premiums recorded
|
$ | 71,340 | $ | 20,927 | ||||
|
Contribution of note receivable to co-investment
|
$ | 12,325 | $ | - | ||||
|
Change in accrual of dividends
|
$ | 4,766 | $ | 2,610 | ||||
|
Change in fair value of derivative liabilities
|
$ | 5,100 | $ | 1,760 | ||||
|
Change in fair value of marketable securities
|
$ | 4,542 | $ | 398 | ||||
|
Change in construction payable
|
$ | 2,239 | $ | 1,566 | ||||
|
Non-cash contribution from noncontrolling interest
|
$ | - | $ | 800 | ||||
See accompanying notes to the unaudited condensed consolidated financial statements
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
September 30, 2012 and 2011
(Unaudited)
|
(1)
|
Organization and Basis of Presentation
|
The accompanying unaudited condensed consolidated financial statements present the accounts of Essex Property Trust, Inc. (the “Company”), which include the accounts of the Company and Essex Portfolio, L.P. (the “Operating Partnership,” which holds the operating assets of the Company) and are prepared in accordance with U.S. generally accepted accounting principles for interim financial information and in accordance with the instructions to Form 10-Q. In the opinion of management, all adjustments necessary for a fair presentation of the financial position, results of operations and cash flows for the periods presented have been included and are normal and recurring in nature. These unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements included in the Company's annual report on Form 10-K for the year ended December 31, 2011.
All significant intercompany balances and transactions have been eliminated in the condensed consolidated financial statements.
The unaudited condensed consolidated financial statements for the three and nine months ended September 30, 2012 and 2011 include the accounts of the Company and the Operating Partnership. The Company is the sole general partner in the Operating Partnership, with a 94.1% general partnership interest as of September 30, 2012. Total Operating Partnership units outstanding were 2,234,393 and 2,229,230 as of September 30, 2012 and December 31, 2011, respectively, and the redemption value of the units, based on the closing price of the Company’s common stock totaled $331.2 million and $313.2 million, as of September 30, 2012 and December 31, 2011, respectively.
As of September 30, 2012, the Company owned or had ownership interests in 164 apartment communities, aggregating 33,637 units, excluding the Company’s ownership in preferred interest co-investments, (collectively, the “Communities”, and individually, a “Community”), five commercial buildings and nine active development projects (collectively, the “Portfolio”). The Communities are located in Southern California (Los Angeles, Orange, Riverside, San Diego, Santa Barbara, and Ventura counties), Northern California (the San Francisco Bay Area) and the Seattle metropolitan area.
Marketable Securities
The Company reports its available for sale securities at fair value, based on quoted market prices (Level 2 for the unsecured bonds and Level 1 for the common stock and investment funds, as defined by the Financial Accounting Standards Board (“FASB”) standard for fair value measurements as discussed later in Note 1), and any unrealized gain or loss is recorded as other comprehensive income (loss). Realized gains and losses, interest and dividend income, and amortization of purchase discounts are included in interest and other income on the condensed consolidated statement of operations and comprehensive income.
As of September 30, 2012 and December 31, 2011, marketable securities consisted primarily of investment-grade unsecured bonds, common stock, investments in mortgage backed securities and investment funds that invest in U.S. treasury or agency securities. As of September 30, 2012 and December 31, 2011, the Company classified its investments in mortgage backed securities, which mature in November 2019 and September 2020, as held to maturity, and accordingly, these securities are stated at their amortized cost. The estimated fair values of the mortgage backed securities (Level 2 securities) are approximately equal to the carrying values.
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 2012 and 2011
(Unaudited)
As of September 30, 2012 and December 31, 2011 marketable securities consist of the following ($ in thousands):
|
September 30, 2012
|
||||||||||||
|
Cost/
|
Gross
|
|||||||||||
|
Amortized
|
Unrealized
|
|||||||||||
|
Cost
|
Gain(Loss)
|
Carrying Value
|
||||||||||
|
Available for sale:
|
||||||||||||
|
Investment-grade unsecured bonds
|
$ | 5,191 | $ | 79 | $ | 5,270 | ||||||
|
Investment funds - US treasuries
|
15,379 | 755 | 16,134 | |||||||||
|
Common stock
|
72,752 | (3,207 | ) | 69,545 | ||||||||
|
Held to maturity:
|
||||||||||||
|
Mortgage backed securities
|
50,624 | - | 50,624 | |||||||||
|
Total
|
$ | 143,946 | $ | (2,373 | ) | $ | 141,573 | |||||
|
December 31, 2011
|
||||||||||||
|
Cost/
|
Gross
|
|||||||||||
|
Amortized
|
Unrealized
|
|||||||||||
|
Cost
|
Gain
|
Carrying Value
|
||||||||||
|
Available for sale:
|
||||||||||||
|
Investment-grade unsecured bonds
|
$ | 3,615 | $ | 399 | $ | 4,014 | ||||||
|
Investment funds - US treasuries
|
11,783 | 121 | 11,904 | |||||||||
|
Common stock
|
10,067 | 1,552 | 11,619 | |||||||||
|
Held to maturity:
|
||||||||||||
|
Mortgage backed securities
|
46,738 | - | 46,738 | |||||||||
|
Total
|
$ | 72,203 | $ | 2,072 | $ | 74,275 | ||||||
The Company uses the specific identification method to determine the cost basis of a security sold and to reclassify amounts from accumulated other comprehensive income for securities sold. For the three months ended September 30, 2012 and 2011, the Company did not sell any securities in the periods. For the nine months ended September 30, 2012 and 2011, the proceeds from sales of available for sale securities totaled $6.3 million and $28.0 million, respectively, which resulted in gains of $0.5 million and $4.5 million, respectively.
Variable Interest Entities
The Company evaluates its investments in entities to determine whether such entities may be a variable interest entity ("VIE"), and, if a VIE, whether it is the primary beneficiary and therefore should consolidate the VIE. Generally, an entity is determined to be a VIE when either: (1) the equity investment at risk is insufficient to finance that entity's activities without additional subordinated financial support, (2) the equity holders, as a group, lack any of the following three characteristics: (i) the power, through voting rights or similar rights, to direct the activities of the entity that most significantly impact the entity’s economic performance
, (ii) the obligation to absorb the expected losses of the entity, (iii) the right to receive the expected residual returns of the entity, or (3) the equity investors have voting rights that are not proportionate to their economic interests and the activities of the entity involve or are conducted on behalf of an investor with a disproportionately small voting interest.
The Company consolidates 19 DownREIT limited partnerships (comprising twelve communities) since the Company is the primary beneficiary of these variable interest entities (“VIEs”). Total DownREIT units outstanding were 1,057,848 and 1,063,848 as of September 30, 2012 and December 31, 2011, respectively, and the redemption value of the units, based on the closing price of the Company’s common stock totaled $156.8 million and $149.5 million, as of September 30, 2012 and December 31, 2011, respectively. The consolidated total assets and liabilities related to these VIEs, net of intercompany eliminations, were approximately $202.7 million and $176.7 million, respectively, as of September 30, 2012 and $199.8 million and $171.5 million, respectively, as of December 31, 2011. Interest holders in VIEs consolidated by the Company are allocated income equal to the cash payments made to those interest holders. The remaining results of operations are generally allocated to the Company. As of September 30, 2012 and December 31, 2011, the Company did not have any other VIEs of which it was deemed to be the primary beneficiary.
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 2012 and 2011
(Unaudited)
Equity Based Compensation
The Company accounts for equity based compensation using the fair value method of accounting. The estimated fair value of stock options granted by the Company is being amortized over the vesting period of the stock options. The estimated grant date fair values of the long term incentive plan units (discussed in Note 13, “Equity Based Compensation Plans,” in the Company’s Form 10-K for the year ended December 31, 2011) are being amortized over the expected service periods.
Stock-based compensation expense for options and restricted stock totaled $0.4 million and $0.3 million for the three months ended September 30, 2012 and 2011, respectively and $1.2 million and $1.0 million for the nine months ended September 30, 2012 and 2011, respectively. The intrinsic value of the stock options exercised during the three months ended September 30, 2012 and 2011 totaled $0.5 million and $0.6 million, respectively and $2.4 million and $3.6 million for the nine months ended September 30, 2012 and 2011, respectively. As of September 30, 2012, the intrinsic value of the stock options outstanding totaled $13.6 million. As of September 30, 2012, total unrecognized compensation cost related to unvested share-based compensation granted under the stock option and restricted stock plans totaled $4.3 million. The cost is expected to be recognized over a weighted-average period of 1 to 6 years for the stock option plans and is expected to be recognized straight-line over 7 years for the restricted stock awards.
The Company has adopted an incentive program involving the issuance of Series Z-1 Incentive Units of limited partnership interest in the Operating Partnership. Stock-based compensation expense for Z-1 Units totaled $0.5 million and $0.2 million for the three months ended September 30, 2012 and 2011, respectively and $1.6 million and $0.7 million for the nine months ended September 30, 2012 and 2011, respectively. Stock-based compensation for Z-1 units capitalized totaled $0.1 million for the three months ended September 30, 2012, and 2011, and $0.4 million and $0.3 million for the nine months ended September 30, 2012 and 2011, respectively. As of September 30, 2012, the intrinsic value of the Z-1 Units subject to future vesting totaled $22.0 million. As of September 30, 2012, total unrecognized compensation cost related to Z-1 Units subject to future vesting totaled $7.9 million. The unamortized cost is expected to be recognized over the next six to fourteen years subject to the achievement of the stated performance criteria.
Fair Value of Financial Instruments
The Company values its financial instruments based on the fair value hierarchy of valuation techniques described in the FASB's accounting standard for fair value measurements. Level 1 inputs are unadjusted, quoted prices in active
markets for identical assets or liabilities at the measurement date. Level 2 inputs include quoted prices for similar assets and liabilities in active markets and inputs other than quoted prices observable for the asset or liability. Level 3 inputs are unobservable inputs for the asset or liability. The Company uses Level 1 inputs for the fair values of its cash equivalents and its marketable securities except for unsecured bonds and mortgage backed securities. The Company uses Level 2 inputs for its investments in unsecured bonds, mortgage backed securities, notes receivable, notes payable, and derivative liabilities. These inputs include interest rates for similar financial instruments. The Company does not use Level 3 inputs to estimate fair values of any of its financial instruments. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability.
Management believes that the carrying amounts of its amounts outstanding under lines of credit, notes receivable and notes and other receivables approximate fair value as of September 30, 2012 and December 31, 2011, because interest rates, yields and other terms for these instruments are consistent with yields and other terms currently available for similar instruments. Management has estimated that the fair value of the Company’s $2.13 billion of fixed rate debt, including unsecured bonds, at September 30, 2012 is approximately $2.26 billion and the fair value of the Company’s $402.1 million of variable rate debt, excluding borrowings under the lines of credit, at September 30, 2012 is $380.9 million based on the terms of existing mortgage notes payable, unsecured bonds and variable rate demand notes compared to those available in the marketplace. Management believes that the carrying amounts of cash and cash equivalents, restricted cash, accounts payable and accrued liabilities, construction payables, other liabilities and dividends payable approximate fair value as of September 30, 2012 due to the short-term maturity of these instruments. The fair values of the Company’s investments in mortgage backed securities are approximately equal to the amortized cost carrying value of these securities. Marketable securities are carried at fair value as of September 30, 2012.
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 2012 and 2011
(Unaudited)
Capitalization Policy
The Company capitalizes all direct and certain indirect costs, including interest and real estate taxes, incurred during development and redevelopment activities. Interest is capitalized on real estate assets that require a period of time to get them ready for their intended use. The amount of interest capitalized is based upon the average amount of accumulated development expenditures during the reporting period. Included in capitalized costs are management’s accounting estimates of the direct and incremental personnel costs and indirect project costs associated with the Company's development and redevelopment activities. Indirect project costs consist primarily of personnel costs associated with construction administration and development, including accounting, legal fees, and various office costs that clearly relate to projects under development. The Company’s capitalized internal costs related to development and redevelopment projects totaled $1.5 million and $1.3 million during the three months ended September 30, 2012 and 2011, respectively, and $4.5 million for each of the nine months ended September 30, 2012 and 2011, respectively, most of which relates to development projects. These totals include capitalized salaries of $0.5 million and $0.6 million the three months ended September 30, 2012 and 2011, respectively, and $1.9 million and $1.7 million for nine months ended September 30, 2012 and 2011, respectively.
Co-investments
The Company owns investments in joint ventures (“co-investments”) in which it has significant influence, but its ownership interest does not meet the criteria for consolidation in accordance with the accounting standards. Therefore, the Company accounts for these investments using the equity method of accounting. Under the equity method of accounting, the investment is carried at the cost of assets contributed, plus the Company’s equity in earnings less distributions received and the Company’s share of losses. The significant accounting policies of the Company’s co-investments entities are consistent with those of the Company in all material respects. For preferred equity investments the Company recognizes its preferred interest as equity in earnings.
Upon the acquisition of a controlling interest of a co-investment, the co-investment entity is consolidated and a gain or loss is recognized upon the remeasurement of co-investments in the consolidated statement of operations equal to the amount by which the fair-value of the co-investment interest the Company previously owned exceeds its carrying value.
A majority of the co-investments, excluding the preferred equity investments, compensate the Company for its asset management services and may provide promote distributions if certain financial return benchmarks are achieved. Asset management fees are recognized when earned, and promote fees are recognized when the earnings events have occurred and the amount is determinable and collectible.
Accounting Estimates and Reclassifications
The preparation of condensed consolidated financial statements, in accordance with U.S. generally accepted accounting principles, requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosures of contingent assets and liabilities. On an on-going basis, the Company evaluates its estimates, including those related to acquiring, developing and assessing the carrying values of its real estate portfolio, its investments in and advances to joint ventures and affiliates, its notes receivables and its qualification as a Real Estate Investment Trust (“REIT”). The Company bases its estimates on historical experience, current market conditions, and on various other assumptions that are believed to be reasonable under the circumstances. Actual results may vary from those estimates and those estimates could be different under different assumptions or conditions.
Reclassifications for discontinued operations and cost of management and other fees have been made to prior year statements of operations balances in order to conform to current year presentation. Such reclassifications have no impact on reported earnings, cash flows, total assets or total liabilities.
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 2012 and 2011
(Unaudited)
|
(2)
|
Significant Transactions During the Third Quarter of 2012 and Subsequent Events
|
Acquisitions
In August, the Company acquired Riley Square (formerly Waterstone Santa Clara) for $38.3 million. Built in 1972, the property contains 156 units and is located in Santa Clara, California. The community was purchased by the Wesco I, LLC (“Wesco I”) joint venture of which the Company has a 50% interest. Wesco I assumed a $17.5 million mortgage loan secured by the property at a fixed rate of 5.2% for a term of 8 years. The interest rate on the loan was unfavorable compared to currently available market rates for mortgage loans, and thus in conjunction with the purchase price allocation, Wesco I recorded a $2.3 million loan premium to reflect the debt at fair value. This results in an effective interest rate for this loan of 3.1%.
In September, the Company acquired Park West, a 126 unit apartment community located in San Francisco, California, for $31.6 million. The property was built in 1958 and contains six different buildings. The Company intends to renovate the exterior of the community for $8 million. Also in September, the Company acquired Domaine, a 92 unit property built in 2009 located in Seattle, Washington. The property was purchased for $34.0 million. In connection with the purchase, the Company assumed a $14.6 million loan at a fixed rate of 5.7% for an 8 year term. The interest rate on the loan was unfavorable compared to currently available market rates for mortgage loans, and thus in conjunction with the purchase price allocation, the Company recorded a $2.4 million loan premium to reflect the debt at fair value. This results in an effective interest rate for this loan of 3.0%.
In October, Ascent, a 90 unit community located in Kirkland, Washington, was acquired by the Company for $15.9 million. Built in 1998, the property is located adjacent to the Montebello community acquired by the Company in July 2012. Also in October, the Company acquired Willow Lake Apartments, a 508 unit property located in San Jose, California. The property was purchased for $148 million. The Company intends to renovate the exterior of the community for $4.5 million.
Common Stock
During the third quarter, the Company sold 633,636 shares of common stock for $97.9 million, net of commissions, at an average per share price of $155.97. Year to date through October, the Company has sold 1,775,748 shares of common stock for $269.0 million, net of commissions, at an average price of $152.97.
Mortgage Notes Payable
During the quarter, the Company repaid $86.9 million in secured debt related to six communities. The Company incurred $1.2 million in losses from early retirement of debt and these communities are now unencumbered assets.
Unsecured Debt
In August, the Company issued $300 million of senior unsecured bonds due August 2022. The bonds bear a fixed interest at rate of 3.625% per annum and are payable on February 15
th
and August 15
th
of each year, beginning February 15, 2013.
Unsecured Term Loan
During October, the Company drew an additional $150 million on the Company’s $350 unsecured term loan which is now fully drawn at LIBOR + 130 basis points. The proceeds were used to fund fourth quarter acquisitions, development pipeline, and pay down the Company’s lines of credit.
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 2012 and 2011
(Unaudited)
|
(3)
|
Co-investments
|
The Company has co-investments, which are accounted for under the equity method. The co-investments own, operate and develop apartment communities.
The following table details the Company's co-investments (dollars in thousands):
|
September 30,
|
December 31,
|
|||||||
|
2012
|
2011
|
|||||||
|
Investments in joint ventures accounted for under the equity
method of accounting:
|
||||||||
|
Membership interest in Wesco I
|
$ | 83,006 | $ | 75,588 | ||||
|
Partnership interest in Fund II
|
60,225 | 64,294 | ||||||
|
Membership interest in a limited liability company that
owns Essex Skyline at MacArthur Place
|
- | 24,063 | ||||||
|
Total operating co-investments
|
143,231 | 163,945 | ||||||
|
Membership interests in limited liability companies that own
and are developing Epic, Lync, Elkhorn, and Folsom and Fifth
|
158,786 | 62,897 | ||||||
|
Membership interest in a limited liability company that owns
and is developing Expo
|
18,759 | 17,981 | ||||||
|
Membership interests in limited liability companies that own
a
nd are developing Fountain at La Brea and Santa Monica at La Brea
|
16,189 | 15,194 | ||||||
|
Total development co-investments
|
193,734 | 96,072 | ||||||
|
Membership interest in Wesco II that owns a preferred equity interest in Parkmerced
with a perferred return of 10.1%
|
90,910 | 88,075 | ||||||
|
Preferred interests in limited liability companies that own
apartment communities in downtown Los Angeles with preferred returns of 9% and 10%
|
22,807 | 22,792 | ||||||
|
Preferred interests in related party limited liability companies that owns
Sage at Cupertino with a preferred return of 9.5%
|
14,320 | - | ||||||
|
Preferred interest in a related party limited liability company that owns
Madison Park at Anaheim with a preferred return of 13%
|
12,965 | 12,528 | ||||||
|
Total preferred interest investments
|
141,002 | 123,395 | ||||||
|
Total co-investments
|
$ | 477,967 | $ | 383,412 | ||||
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 2012 and 2011
(Unaudited)
The combined summarized balance sheet and statements of operations for co-investments, which are accounted for under the equity method, are as follows (dollars in thousands).
|
September 30,
|
December 31,
|
|||||||
|
2012
|
2011
|
|||||||
|
Balance sheets:
|
||||||||
|
Rental properties and real estate under development
|
$ | 1,788,959 | $ | 1,659,078 | ||||
|
Other assets
|
61,215 | 63,847 | ||||||
|
Total assets
|
$ | 1,850,174 | $ | 1,722,925 | ||||
|
Debt
|
$ | 928,204 | $ | 900,095 | ||||
|
Other liabilities
|
67,540 | 48,518 | ||||||
|
Equity
|
854,430 | 774,312 | ||||||
|
Total liabilities and equity
|
$ | 1,850,174 | $ | 1,722,925 | ||||
|
Company's share of equity
|
$ | 477,967 | $ | 383,412 | ||||
|
|
Three Months Ended
|
Nine Months Ended
|
||||||||||||||
|
September 30,
|
September 30,
|
|||||||||||||||
|
2012
|
2011
|
2012
|
2011
|
|||||||||||||
|
Statements of operations:
|
||||||||||||||||
|
Property revenues
|
$ | 34,425 | $ | 28,286 | $ | 96,981 | $ | 70,882 | ||||||||
|
Property operating expenses
|
(12,686 | ) | (11,699 | ) | (35,852 | ) | (29,394 | ) | ||||||||
|
Net property operating income
|
21,739 | 16,587 | 61,129 | 41,488 | ||||||||||||
|
Interest expense
|
(9,453 | ) | (7,354 | ) | (25,790 | ) | (22,764 | ) | ||||||||
|
General and administrative
|
(916 | ) | (82 | ) | (2,632 | ) | (1,104 | ) | ||||||||
|
Depreciation and amortization
|
(12,821 | ) | (11,957 | ) | (35,593 | ) | (29,963 | ) | ||||||||
|
Net loss
|
$ | (1,451 | ) | $ | (2,806 | ) | $ | (2,886 | ) | $ | (12,343 | ) | ||||
|
Company's share of net income (loss)
|
$ | 3,547 | $ | 317 | $ | 8,998 | $ | (330 | ) | |||||||
|
(4)
|
Notes and Other Receivables
|
Notes receivable secured by real estate, and other receivables consist of the following as of September 30, 2012 and December 31, 2011 (dollars in thousands):
|
September 30,
|
December 31,
|
|||||||
|
2012
|
2011
|
|||||||
|
Note receivable, secured, bearing interest at 9.8%, paid in full January 2012
|
$ | - | $ | 7,331 | ||||
|
Note receivable, secured, bearing interest at 5.0%, due November 2012
(1)
|
- | 12,428 | ||||||
|
Note receivable, secured, bearing interest at 8.8%, due December 2012
|
10,925 | 10,928 | ||||||
|
Note receivable, secured, bearing interest at LIBOR + 8.0%, due December 2012
|
6,342 | 6,422 | ||||||
|
Note receivable, secured, bearing interest at 8.0%, due November 2013
|
971 | 971 | ||||||
|
Note receivable, secured, effective interest at 9.6%, due February 2014
|
18,285 | 17,646 | ||||||
|
Note receivable, secured, bearing interest at 4.0%, due December 2014
(2)
|
3,212 | 3,221 | ||||||
|
Note and other receivables from affiliates
|
5,025 | 2,734 | ||||||
|
Other receivables
|
5,556 | 4,688 | ||||||
| $ | 50,316 | $ | 66,369 | |||||
|
(1)
|
$12.4 million note receivable was contributed to the Elkhorn co-investment during the first quarter of 2012.
|
|
(2)
|
During the first quarter 2012, the Company amended the loan secured by Vacationer RV Park to extend the maturity date to December 2014. Beginning January 1, 2012 the note which has a carrying value of $3.2 million, bears interest at a rate of 4%, and the borrower funds an impound account for capital replacement.
|
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 2012 and 2011
(Unaudited)
|
(5)
|
Related Party Transactions
|
Management and other fees from affiliates include management, development and redevelopment fees from co-investments of $2.9 million and $1.8 million during the three months ended September 30, 2012 and 2011, respectively, and $7.9 million and $4.2 million for the nine months ended September 30, 2012 and 2011, respectively. All of these fees are net of intercompany amounts eliminated by the Company.
The Company’s Chairman and founder, Mr. George Marcus, is the Chairman of The Marcus & Millichap Company, which is a holding company for certain real estate brokerage services and other subsidiary companies including Pacific Urban Residential (“PUR”). During July 2012, the Company invested $14.0 million as a preferred equity interest investment in an entity affiliated with PUR that owns an apartment community in Cupertino, California. The investment has a preferred return of 9.5% and matures in May 2016. The Company will invest an additional $4.0 million in preferred equity to fund renovation costs. Independent directors on the Company’s Board of Directors approved the investment in this entity.
Also during July 2012, the Company acquired Montebello, a 248 unit apartment community in Kirkland, Washington for $52.0 million from an entity affiliated with PUR. The Company assumed a $26.5 million mortgage loan secured by the property at a fixed rate of 5.6% for eight years. The interest rate on the loan was unfavorable compared to currently available market rates for mortgage loans, and thus in conjunction with the purchase price allocation, the Company recorded a $4.1 million loan premium to reflect the debt at fair value. This results in an effective interest rate for this loan of 3.1%. Independent directors on the Company’s Board of Directors approved the acquisition of this apartment community.
In August, Wesco I, LLC (“Wesco I”) joint venture of which the Company has a 50% interest acquired Riley Square (formerly Waterstone Santa Clara), a 156 unit apartment community in Santa Clara, California for $38.3 million from an entity affiliated with PUR. Wesco I assumed a $17.5 million mortgage loan secured by the property at a fixed rate of 5.2% for a term of 8 years. The interest rate on the loan was unfavorable compared to currently available market rates for mortgage loans, and thus in conjunction with the purchase price allocation, Wesco I recorded a $2.3 million loan premium to reflect the debt at fair value. This results in an effective interest rate for this loan of 3.1%. Independent directors on the Company’s Board of Directors approved the acquisition of this apartment community.
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 2012 and 2011
(Unaudited)
|
(6)
|
Segment Information
|
The Company defines its reportable operating segments as the three geographical regions in which its apartment communities are located: Southern California, Northern California and Seattle Metro. Excluded from segment revenues are properties classified in discontinued operations, management and other fees from affiliates, and interest and other income. Non-segment revenues and net operating income included in the following schedule also consist of revenue generated from commercial properties. Other non-segment assets include co-investments, real estate under development, cash and cash equivalents, marketable securities, notes receivable, other assets and deferred charges.
The revenues, net operating income, and assets for each of the reportable operating segments are summarized as follows for the three and nine months ended September 30, 2012 and 2011 (dollars in thousands):
|
Three Months Ended
|
Nine Months Ended
|
|||||||||||||||
|
September 30,
|
September 30,
|
|||||||||||||||
|
2012
|
2011
|
2012
|
2011
|
|||||||||||||
|
Revenues:
|
||||||||||||||||
|
Southern California
|
$ | 64,339 | $ | 56,169 | $ | 184,255 | $ | 165,362 | ||||||||
|
Northern California
|
43,605 | 37,757 | 127,797 | 109,624 | ||||||||||||
|
Seattle Metro
|
24,103 | 20,530 | 69,080 | 60,496 | ||||||||||||
|
Other real estate assets
|
3,023 | 2,770 | 9,176 | 7,858 | ||||||||||||
|
Total property revenues
|
$ | 135,070 | $ | 117,226 | $ | 390,308 | $ | 343,340 | ||||||||
|
Net operating income:
|
||||||||||||||||
|
Southern California
|
$ | 41,932 | $ | 36,239 | $ | 122,869 | $ | 107,797 | ||||||||
|
Northern California
|
29,572 | 24,689 | 87,740 | 72,128 | ||||||||||||
|
Seattle Metro
|
15,718 | 12,964 | 45,391 | 38,295 | ||||||||||||
|
Other real estate assets
|
2,539 | 2,484 | 6,417 | 6,075 | ||||||||||||
|
Total net operating income
|
89,761 | 76,376 | 262,417 | 224,295 | ||||||||||||
|
Management and other fees from affiliates
|
3,072 | 1,940 | 8,312 | 4,585 | ||||||||||||
|
Depreciation
|
(43,041 | ) | (37,881 | ) | (125,575 | ) | (111,786 | ) | ||||||||
|
General and administrative
|
(5,276 | ) | (4,966 | ) | (16,440 | ) | (15,626 | ) | ||||||||
|
Cost of management and other fees
|
(1,642 | ) | (1,164 | ) | (4,893 | ) | (3,161 | ) | ||||||||
|
Interest expense before amortization
|
(25,064 | ) | (22,096 | ) | (74,380 | ) | (66,612 | ) | ||||||||
|
Amortization expense
|
(2,927 | ) | (2,936 | ) | (8,681 | ) | (8,527 | ) | ||||||||
|
Interest and other income
|
3,003 | 2,741 | 10,869 | 12,357 | ||||||||||||
|
Equity income (loss) from co-investments
|
3,547 | 317 | 8,998 | (330 | ) | |||||||||||
|
Gain on remeasurement of co-investment
|
- | - | 21,947 | - | ||||||||||||
|
Loss on early retirement of debt
|
(1,211 | ) | (567 | ) | (2,661 | ) | (820 | ) | ||||||||
|
Income from continuing operations
|
$ | 20,222 | $ | 11,764 | $ | 79,913 | $ | 34,375 | ||||||||
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 2012 and 2011
(Unaudited)
Total assets for each of the reportable operating segments are summarized as follows as of September 30, 2012 and December 31, 2011:
|
September 30,
|
December 31,
|
|||||||
|
2012
|
2011
|
|||||||
|
Assets:
|
||||||||
|
Southern California
|
$ | 1,675,708 | $ | 1,478,018 | ||||
|
Northern California
|
1,274,901 | 1,241,320 | ||||||
|
Seattle Metro
|
680,562 | 579,612 | ||||||
|
Other real estate assets
|
88,830 | 94,088 | ||||||
|
Net reportable operating segment
- real estate assets
|
3,720,001 | 3,393,038 | ||||||
|
Real estate under development
|
60,020 | 44,280 | ||||||
|
Cash and cash equivalents
|
26,877 | 35,463 | ||||||
|
Marketable securities
|
141,573 | 74,275 | ||||||
|
Co-investments
|
477,967 | 383,412 | ||||||
|
Notes and other receivables
|
50,316 | 66,369 | ||||||
|
Other non-segment assets
|
57,918 | 40,127 | ||||||
|
Total assets
|
$ | 4,534,672 | $ | 4,036,964 | ||||
|
(7)
|
Net Income Per Common Share
|
(Amounts in thousands, except per share and unit data)
|
Three Months Ended
|
Three Months Ended
|
|||||||||||||||||||||||
|
September 30, 2012
|
September 30, 2011
|
|||||||||||||||||||||||
|
Weighted-
|
Per
|
Weighted-
|
Per
|
|||||||||||||||||||||
|
average
|
Common
|
average
|
Common
|
|||||||||||||||||||||
|
Common
|
Share
|
Common
|
Share
|
|||||||||||||||||||||
|
Income
|
Shares
|
Amount
|
Income
|
Shares
|
Amount
|
|||||||||||||||||||
|
Basic:
|
||||||||||||||||||||||||
|
Income from continuing operations
available to common stockholders
|
$ | 16,219 | 35,601 | $ | 0.46 | $ | 8,323 | 33,122 | $ | 0.25 | ||||||||||||||
|
Income (loss) from discontinued operations
available to common stockholders
|
- | 35,601 | - | (636 | ) | 33,122 | (0.02 | ) | ||||||||||||||||
| 16,219 | $ | 0.46 | 7,687 | $ | 0.23 | |||||||||||||||||||
|
Effect of Dilutive Securities (1)
|
- | 99 | - | 87 | ||||||||||||||||||||
|
Diluted:
|
||||||||||||||||||||||||
|
Income from continuing operations
available to common stockholders
|
16,219 | 35,700 | $ | 0.45 | 8,323 | 33,209 | $ | 0.25 | ||||||||||||||||
|
Income (loss) from discontinued operations
available to common stockholders
|
- | 35,700 | - | (636 | ) | 33,209 | (0.02 | ) | ||||||||||||||||
| $ | 16,219 | $ | 0.45 | $ | 7,687 | $ | 0.23 | |||||||||||||||||
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 2012 and 2011
(Unaudited)
|
Nine Months Ended
|
Nine Months Ended
|
|||||||||||||||||||||||
|
September 30, 2012
|
September 30, 2011
|
|||||||||||||||||||||||
|
Weighted
|
Per
|
Weighted
|
Per
|
|||||||||||||||||||||
|
Average
|
Common
|
Average
|
Common
|
|||||||||||||||||||||
|
Common
|
Share
|
Common
|
Share
|
|||||||||||||||||||||
|
Income
|
Shares
|
Amount
|
Income
|
Shares
|
Amount
|
|||||||||||||||||||
|
Basic:
|
||||||||||||||||||||||||
|
Income before discontinued operations
available to common stockholders
|
$ | 66,590 | 34,736 | $ | 1.92 | $ | 21,501 | 32,216 | $ | 0.67 | ||||||||||||||
|
Income from discontinued operations
available to common stockholders
|
9,429 | 34,736 | 0.27 | 4,931 | 32,216 | 0.15 | ||||||||||||||||||
| 76,019 | $ | 2.19 | 26,432 | $ | 0.82 | |||||||||||||||||||
|
Effect of Dilutive Securities (1)
|
- | 98 | - | 89 | ||||||||||||||||||||
|
Diluted:
|
||||||||||||||||||||||||
|
Income from continuing operations
available to common stockholders (1)
|
66,590 | 34,834 | 1.91 | $ | 21,501 | 32,305 | 0.67 | |||||||||||||||||
|
Income from discontinued operations
available to common stockholders
|
9,429 | 34,834 | 0.27 | 4,931 | 32,305 | 0.15 | ||||||||||||||||||
| $ | 76,019 | $ | 2.18 | $ | 26,432 | $ | 0.82 | |||||||||||||||||
|
(1)
|
Weighted average convertible limited partnership units of 2,235,783 and 2,228,404, which includes vested Series Z incentive units, for the three months ended September 30, 2012, and 2011, respectively, and 2,239,987 and 2,233,088 for the nine months ended September 30, 2012 and 2011, respectively, were not included in the determination of diluted EPS because they were anti-dilutive. Income allocated to convertible limited partnership units, which includes vested Series Z units, aggregating $1.1 million and $0.6 million for the three months ended September 30, 2012 and 2011, respectively, and $5.2 million and $2.2 million for the nine months ended September 30, 2012 and 2011, respectively, have been excluded from income available to common stock holders for the calculation of diluted income per common share since these units are excluded from the diluted weighted average common shares for the period as the effect was anti-dilutive. The Company has the ability to redeem DownREIT limited partnership units for cash and does not consider them to be potentially dilutive securities.
Stock options of 18,000 and 22,000 for the three months ended September 30, 2012 and 2011, respectively, and stock options of 23,000 and 29,500 for the nine months ended September 30, 2012 and 2011, respectively, were not included in the diluted earnings per share calculation because the effects on earnings per share were anti-dilutive.
All shares of Series G cumulative convertible preferred stock have been excluded in diluted earnings per share for the three and nine months ended September 30, 2012 and 2011, respectively, as the effect was anti-dilutive.
|
|
(8)
|
Derivative Instruments and Hedging Activities
|
The Company uses interest rate swaps and interest rate cap contracts to manage certain interest rate risks. The valuation of these instruments is determined using widely accepted valuation techniques including discounted cash flow analysis on the expected cash flows of each derivative. This analysis reflects the contractual terms of the derivatives, including the period to maturity, and uses observable market-based inputs, including interest rate curves. The fair values of interest rate swaps are determined using the market standard methodology of netting the discounted future fixed cash receipts (or payments) and the discounted expected variable cash payments (or receipts). The variable cash payments (or receipts) are based on an expectation of future interest rates (forward curves) derived from observable market interest rate curves. The Company incorporates credit valuation adjustments to appropriately reflect both its own nonperformance risk and the respective counterparty’s nonperformance risk in the fair value measurements.
The Company has entered into interest rate swap contracts with an aggregate notional amount of $300 million that effectively fixed the interest rate on $300 million of the $350 million unsecured term loan at 2.4%. These derivatives qualify for hedge accounting.
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 2012 and 2011
(Unaudited)
As of September 30, 2012 the Company also had twelve interest rate cap contracts totaling a notional amount of $187.8 million that qualify for hedge accounting as they effectively limit the Company’s exposure to interest rate risk by providing a ceiling on the underlying variable interest rate for $202.1 million of the Company’s tax exempt variable rate debt.
As of September 30, 2012 and December 31, 2011 the aggregate carrying value of the interest rate swap contracts was a liability of $7.2 million and $1.4 million, respectively. The aggregate carrying value of the interest rate cap contracts was zero on the balance sheet as of September 30, 2012, and was an asset of $0.2 million as of December 31, 2011.
During the third quarter 2012, the Company terminated a swap transaction with respect to the $38.0 million of tax-exempt bonds for the 101 San Fernando apartment community with Citibank because the bonds were repurchased by the Company at par.
|
(9)
|
Discontinued Operations
|
The Company classifies real estate as "held for sale" when the sale is considered to be probable.
During the first quarter of 2012, the Company sold Tierra Del Sol/Norte, a 156 unit community located in the San Diego, California for $17.2 million for a gain of $7.0 million. Also in the first quarter, the Company sold Alpine Country, a 108 unit community located in San Diego metropolitan area, for $11.1 million for a gain of $3.9 million.
The components of discontinued operations are outlined below and include the results of operations for the respective periods that the Company owned such assets, as described above (dollars in thousands).
|
Three Months Ended
|
Nine Months Ended
|
|||||||||||||||
|
September 30,
|
September 30,
|
|||||||||||||||
|
2012
|
2011
|
2012
|
2011
|
|||||||||||||
|
Rental revenues
|
$ | - | $ | 892 | $ | 608 | $ | 3,240 | ||||||||
|
Property operating expenses
|
- | (435 | ) | (260 | ) | (1,459 | ) | |||||||||
|
Depreciation and amortization
|
- | (256 | ) | (94 | ) | (892 | ) | |||||||||
|
Income from real estate sold
|
- | 201 | 254 | 889 | ||||||||||||
|
Gain on sale
|
- | - | 10,870 | 5,854 | ||||||||||||
|
Internal dispositon costs and taxes
|
- | (880 | ) | (1,087 | ) | (1,470 | ) | |||||||||
|
Income (loss) from discontinued operations
|
$ | - | $ | (679 | ) | $ | 10,037 | $ | 5,273 | |||||||
|
(10)
|
Commitments and Contingencies
|
As of September 30, 2012, the Company had six non-cancelable ground leases for certain apartment communities and buildings that expire between 2027 and 2080. Land lease payments are typically the greater of a stated minimum or a percentage of gross rents generated by these apartment communities. Total minimum lease commitments, under land leases and operating leases, are approximately $1.6 million per year for the next five years.
To the extent that an environmental matter arises or is identified in the future that has other than a remote risk of having a material impact on the financial statements, the Company will disclose the estimated range of possible outcomes, and, if an outcome is probable, accrue an appropriate liability for remediation and other potential liability. The Company will consider whether such occurrence results in an impairment of value on the affected property and, if so, impairment will be recognized.
Except with respect to three communities, the Company has no indemnification agreements from third parties for potential environmental clean-up costs at its communities. The Company has no way of determining at this time the magnitude of any potential liability to which it may be the subject, arising out of unknown environmental conditions or violations with respect to the communities formerly owned by the Company. No assurance can be given that existing environmental studies with respect to any of the communities reveal all environmental liabilities, that any prior owner or operator of a Property did not create any material environmental condition not known to the Company, or that a material environmental condition does not otherwise exist as to any one or more of the communities. The Company has limited insurance coverage for the types of environmental liabilities described above.
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 2012 and 2011
(Unaudited)
The Company may enter into transactions that may require the Company to pay the tax liabilities of the partners in the Operating Partnership or in the DownREIT entities. These transactions are within the Company’s control. Although the Company plans to hold the contributed assets or defer recognition of gain on their sale pursuant to like-kind exchange rules under Section 1031 of the Internal Revenue Code, the Company can provide no assurance that it will be able to do so and if such tax liabilities are incurred they may have a material impact on the Company’s financial position.
There have been a number of lawsuits in recent years against owners and managers of apartment communities alleging personal injury and property damage caused by the presence of mold in residential real estate. Some of these lawsuits have resulted in substantial monetary judgments or settlements. The Company has been sued for mold related matters and has settled some, but not all, of such matters. Insurance carriers have reacted to mold related liability awards by excluding mold related claims from standard policies and pricing mold endorsements at prohibitively high rates. The Company has, however, purchased pollution liability insurance, which includes some coverage for mold. The Company has adopted policies for promptly addressing and resolving reports of mold when it is detected, and to minimize any impact mold might have on residents of the property. The Company believes its mold policies and proactive response to address any known existence, reduces its risk of loss from these cases. There can be no assurances that the Company has identified and responded to all mold occurrences, but the company promptly addresses all known reports of mold. Liabilities resulting from such mold related matters are not expected to have a material adverse effect on the Company’s financial condition, results of operations or cash flows. As of September 30, 2012, potential liabilities for mold and other environmental liabilities are not considered probable or the loss cannot be quantified or estimated.
The Company carries comprehensive liability, fire, extended coverage and rental loss insurance for each of the communities. Insured risks for comprehensive liabilities covers claims in excess of $100,000 per incident, and property casualty insurance covers losses in excess of a $1.0 million deductible per incident. There are, however, certain types of extraordinary losses, such as, for example, losses from terrorism and earthquake, for which the Company does not have insurance. Substantially all of the communities are located in areas that are subject to earthquakes.
The Company provides loan and construction completion guarantees in order to fulfill the lenders’ standard financing requirements related to the construction of the Company’s co-investment developments. The Company provided a payment guarantee to the counterparties in relation to the total return swaps entered into by the joint venture responsible for the development of the Fountain at La Brea and Santa Monica at La Brea communities. Further the Company has guaranteed completion of development and made certain debt service guarantees for Fountain at La Brea and Santa Monica at La Brea. The outstanding balance for the loans is included in the debt line item in the balance sheet of the co-investments included in Note 3. The payment guarantee is for the payment of the amounts due to the counterparty related total return swaps which are scheduled to mature in September and December 2016. The maximum exposure of the guarantee as of September 30, 2012 was $46.6 million based on the aggregate outstanding debt amount.
The outstanding balance for the construction loan is included in the debt line item in the balance sheet of the co-investments included in Note 3. The construction completion guarantee is for the life of the loan, which is scheduled to mature on July 1, 2014, with two, one-year extension options at the Expo joint venture’s option. As of September 30, 2012, the Company was in compliance with all terms of the construction loan and the construction of the community is expected to be completed on time and within budget. The maximum exposure of the guarantee as of September 30, 2012 was $76.0 million based on the construction costs that were budgeted to be incurred to complete the construction.
The Company is subject to various other lawsuits in the normal course of its business operations. Such lawsuits are not expected to have a material adverse effect on the Company’s financial condition, results of operations or cash flows.
ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 2012 and 2011
(Unaudited)
The following discussion should be read in conjunction with the Company’s Condensed Consolidated Financial Statements and accompanying Notes thereto included elsewhere herein and with the Company’s 2011 Annual Report on Form 10-K for the year ended December 31, 2011.
The Company is a fully integrated Real Estate Investment Trust (“REIT”), and its property revenues are generated primarily from apartment community operations. The Company’s investment strategy has two components: constant monitoring of existing markets, and evaluation of new markets in the Company’s current three geographical regions to identify areas with the characteristics that underlie rental growth. The Company’s strong financial condition supports its investment strategy by enhancing its ability to quickly shift the Company’s acquisition, development, and disposition activities to markets that will optimize the performance of the portfolio.
As of September 30, 2012, the Company had ownership interests in 164 apartment communities, comprising 33,637 apartment units, excluding the Company’s ownership in preferred equity interest co-investments. The Company’s apartment communities are located in the following major West Coast regions:
Southern California
(Los Angeles, Orange, Riverside, San Diego, Santa Barbara, and Ventura counties)
Northern California
(the San Francisco Bay Area)
Seattle
Metro
(Seattle metropolitan area)
As of September 30, 2012, the Company also had ownership interests in five commercial buildings with approximately 315,900 square feet.
As of September 30, 2012, the Company’s development pipeline was comprised of two consolidated projects under development, seven unconsolidated joint venture projects under development, one unconsolidated joint venture predevelopment project and three consolidated land parcels held for future development or sale, all aggregating 2,985 units, with total incurred costs of $475.5 million, and estimated remaining project costs of approximately $523.9 million for total estimated project costs of $999.4 million.
The Company’s consolidated apartment communities are as follows:
|
As of September 30, 2012
|
As of September 30, 2011
|
|||||||||||||||
|
Apartment Units
|
%
|
Apartment Units
|
%
|
|||||||||||||
|
Southern California
|
13,656 | 48 | % | 13,204 | 49 | % | ||||||||||
|
Northern California
|
8,332 | 29 | % | 7,817 | 29 | % | ||||||||||
|
Seattle Metro
|
6,508 | 23 | % | 6,042 | 22 | % | ||||||||||
|
Total
|
28,496 | 100 | % | 27,063 | 100 | % | ||||||||||
Co-investments, including Fund II and Wesco I communities, and preferred equity interest co-investment communities are not included in the table presented above for both periods.
Comparison of the Three Months Ended September 30, 2012 to the Three Months Ended September 30, 2011
The Company’s average financial occupancies for the Company’s stabilized apartment communities or “Quarterly Same-Property” (stabilized properties consolidated by the Company for the quarters ended September 30, 2012 and 2011) increased 80 basis points to 96.1% as of September 30, 2012 from 95.3% as of September 30, 2011. Financial occupancy is defined as the percentage resulting from dividing actual rental revenue by total possible rental revenue. Actual rental revenue represents contractual rental revenue pursuant to leases without considering delinquency and concessions. Total possible rental revenue represents the value of all apartment units, with occupied units valued at contractual rental rates pursuant to leases and vacant units valued at estimated market rents. We believe that financial occupancy is a meaningful measure of occupancy because it considers the value of each vacant unit at its estimated market rate.
Market rates are determined using a variety of factors such as effective rental rates at the property based on recently signed leases and asking rates for comparable properties in the market. The recently signed effective rates at the property are used as the starting point in the determination of the market rates of vacant units. The Company then increases or decreases these rates based on the supply and demand in the apartment community’s market. The Company will check the reasonableness of these rents based on its position within the market and compare the rents against the asking rents by comparable properties in the market. Financial occupancy may not completely reflect short-term trends in physical occupancy and financial occupancy rates as disclosed by other REIT, which may not be comparable to the Company’s calculation of financial occupancy.
The Company does not take into account delinquency and concessions to calculate actual rent for occupied units and market rents for vacant units. The calculation of financial occupancy compares contractual rates for occupied units to estimated market rents for unoccupied units, thus the calculation compares the gross value of all apartment units excluding delinquency and concessions. For apartment communities that are development properties in lease-up without stabilized occupancy figures, the Company believes the physical occupancy rate is the appropriate performance metric. While an apartment community is in the lease-up phase, the Company’s primary motivation is to stabilize the property which may entail the use of rent concessions and other incentives, and thus financial occupancy which is based on contractual revenue is not considered the best metric to quantify occupancy.
The regional breakdown of the Company’s Quarterly Same-Property portfolio for financial occupancy for the three months ended September 30, 2012 and 2011 is as follows:
|
Three months ended
|
||||||||
|
September 30,
|
||||||||
|
2012
|
2011
|
|||||||
|
Southern California
|
95.9% | 95.2% | ||||||
|
Northern California
|
96.5% | 95.8% | ||||||
|
Seattle Metro
|
95.6% | 94.6% | ||||||
The following table provides a breakdown of revenue amounts, including revenues attributable to the Quarterly Same-Property portfolio:
|
(1)
|
Includes seven communities acquired after January 1, 2011, one redevelopment community, five development communities, and three commercial buildings.
|
Quarterly Same-Property Revenues
increased by $8.0 million or 7.2% to $119.2 million in the third quarter of 2012 from $111.2 million in the third quarter of 2011. The increase was primarily attributable to an increase in scheduled rents of $7.0 million as reflected in an increase of 6.4% in average rental rates from $1,406 per unit in the third quarter of 2011 to $1,495 per unit in the third quarter of 2012. Scheduled rents increased by 3.8%, 9.5%, and 7.9% in Southern California, Northern California, and Seattle Metro, respectively. Income from utility billings and other income also increased $0.3 million and $0.2 million, respectively, compared to the third quarter of 2011. Quarterly Same-Property financial occupancy increased 80 basis points which also contributed to an increase of $0.2 million in revenues. On a sequential basis the Company experienced Quarterly Same-Property revenue growth from the second quarter of 2012 to the third quarter of 2012 of 2.0%, resulting from sequential revenue growth in all three regions mainly driven by a 2.1% increase in scheduled rent offset by a 10 basis point decrease in occupancy compared to the second quarter of 2012.
Quarterly Non-Same Property Revenues
increased by $9.8 million or 162% to $15.9 million in the third quarter of 2012 from $6.1 million in the third quarter of 2011. The increase was primarily due to revenue generated from five development communities (Via, Allegro, Bellerive, Muse, and Santee Village) and ten communities acquired or consolidated since January 1, 2011 (Bernard, 1000 Kiely, Delano/Bon Terra, Reed Square, Park Catalina, The Huntington, Montebello, Park West, Domaine and Essex Skyline at MacArthur Place).
Management and Other Fees
increased by $1.1 million in the third quarter of 2012 as compared to the third quarter of 2011. The increase is primarily due to the asset and property management fees earned from Wesco I and II co-investments formed during 2011, and development fees earned from the joint ventures formed in 2011 and 2012 to develop Epic, Expo, Lync, Elkhorn, Folsom and Fifth, Fountain at La Brea, and Santa Monica at La Brea development projects.
Property operating expenses, excluding real estate taxes
increased $3.3 million or 11.2% to $33.0 million in the third quarter of 2012 from $29.6 million in the third quarter of 2011, primarily due to the acquisition of ten communities and the lease-up of five development properties. Quarterly Same-Property operating expenses excluding real estate taxes, increased by $1.0 million or 3.6% for the third quarter of 2012 compared to the third quarter of 2011, due mainly to a $0.5 million increase in salaries and administration costs and a $0.3 million increase in utilities due increase in rates for water and sewer.
Real Estate taxes
increased by $1.2 million or 10.3% for the third quarter of 2012 compared to the third quarter of 2011, due primarily to the acquisition of ten communities and expensing property taxes instead of capitalizing the cost for communities that were previously under development. Quarterly Same-Property real estate taxes increased by $0.2 million or 1.5% for third quarter of 2012 compared to the third quarter of 2011 due to an increase of 2% in property taxes for the majority of the properties located in California regulated by Prop. 13 as offset by a reduction in assessed property valuations for select communities located in California.
Depreciation
expense
increased by $5.2 million or 13.6% for the third quarter of 2012 compared to the third quarter of 2011, due to the acquisition of ten communities and the lease-up of five development properties. Also, the increase is due to the capitalization of approximately $58.2 million in additions to rental properties through the third quarter of 2012, including $31.3 million spent on redevelopment, $4.4 million spent on revenue generating capital and $6.7 million spent on recent acquisitions, and the capitalization of approximately $95.3 million in additions to rental properties for 2011, including $45.1 million spent on redevelopment, $16.4 million spent on improvements to recent acquisitions, and $7.6 million spent on revenue generating capital.
Cost of management and other fees
increased $0.5 million for the third quarter of 2012 compared to 2011 primarily due to an increase in administrative costs due to hiring of additional staff to assist with the management of the Company’s co-investments including Wesco I and II and the development joint ventures formed in 2011 and 2012.
Interest expense before amortization
increased by $3.0 million or 13.4% for the third quarter of 2012 compared to the third quarter of 2011, primarily due to the payoff of the $250 million secured line of credit in the fourth quarter of 2011 which had an average interest rate of 1.3%. The Company replaced the secured line with debt at an average interest rate of 2.6%. Also, on March 31, 2011, the Company issued $150 million of private placement notes with an interest rate of 4.4%, and on August 15, 2012 the Company issued $300 million of unsecured bonds with an interest rate of 3.625%; thus the increase in interest expense is due to an increase in average outstanding debt and a higher average interest rate for the third quarter of 2012 as compared to the third quarter of 2011. Finally, the increase in interest expense for 2012 was offset by an increase of $0.4 million in capitalized interest in the third quarter of 2012 compared to the third quarter of 2011.
Equity income (loss) in co-investments
increased $3.2 million in the third quarter of 2012 to income of $3.5 million compared to $0.3 million in the third quarter of 2011 primarily due to the income of $3.5 million related to the Company’s preferred equity investments made in 2011 including the Wesco II preferred equity investment made in the fourth quarter of 2011 which earned $2.3 million in the third quarter of 2012.
Income from discontinued operations
for the third quarter of 2012 was $0 as compared to a loss of $0.7 million for the third quarter of 2011 due to state taxes recorded in the third quarter of 2011 related to the gain from the sale of Woodlawn Colonial in the second quarter of 2011.
Comparison of the Nine Months Ended September 30, 2012 to the Nine Months Ended September 30, 2011
Our average financial occupancies for the Company’s stabilized apartment communities or “2012/2011 Same-Property” (stabilized properties consolidated by the Company for the nine months ended September 30, 2012 and 2011) increased 20 basis points to 96.4% for the nine months ended September 30, 2012 from 96.2% for the nine months ended September 30, 2011.
The regional breakdown of the Company’s 2012/2011 Same-Property portfolio for financial occupancy for the nine months ended September 30, 2012 and 2011 is as follows:
|
Nine Months Ended
|
||||||||
|
September 30,
|
||||||||
|
2012
|
2011
|
|||||||
|
Southern California
|
96.2% | 96.0% | ||||||
|
Northern California
|
96.8% | 96.7% | ||||||
|
Seattle Metro
|
96.2% | 96.0% | ||||||
The following table provides a breakdown of revenue amounts, including revenues attributable to the 2012/2011 Same-Property portfolio:
|
(1)
|
Includes seven communities acquired after January 1, 2011, one redevelopment community, five development communities, and three commercial buildings.
|
2012/2011 Same-Property Revenues
increased by $22.6 million or 6.9% to $351.9 million for the nine months ended September 30, 2012 from $329.3 million for the nine months ended September 30, 2011. The increase was primarily attributable to an increase in scheduled rents of $20.9 million as reflected in an increase of 6.5% in average rental rates from $1,377 per unit for the nine months ended September 30, 2011 to $1,466 per unit for the nine months ended September 30, 2012. Scheduled rents increased by 3.7%, 9.7%, and 8.3% in Southern California, Northern California, and Seattle Metro, respectively. Income from utility billings and other income also increased $0.9 million and $0.9 million, respectively, compared to the nine months ended September 30, 2011. 2012/2011 Same-Property financial occupancy increased 20 basis points which also contributed $0.9 million in revenues.
2012/2011 Non-Same Property Revenues
increased by $24.3 million or 173% to $38.4 million for the nine months ended September 30, 2012 from $14.1 million for the nine months ended September 30, 2011. The increase was primarily due to revenue generated from five development communities (Via, Allegro, Bellerive, Muse, and Santee Village), ten communities acquired or consolidated since January 1, 2011 (Bernard, 1000 Kiely, Delano/Bon Terra, Reed Square, Park Catalina, The Huntington, Montebello, Park West, and Domaine, and Essex Skyline at MacArthur Place) and the acquisition of the Santa Clara retail center.
Management and Other Fees
increased by $3.7 million for the nine months ended September 30, 2012 as compared to the nine months ended September 30, 2011. The increase is primarily due to the asset and property management fees earned from Wesco I and II co-investments formed during 2011, and development fees earned from the joint ventures formed in 2011 and 2012 to develop Epic, Expo, Lync, Elkhorn, Folsom and Fifth, Fountain at La Brea, and Santa Monica at La Brea development projects.
Property operating expenses, excluding real estate taxes
increased $6.0 million or 6.9% to $92.4 million for the nine months ended September 30, 2012 from $86.4 million for the nine months ended September 30, 2011, primarily due to the acquisition of ten communities and one retail center in Santa Clara as a future development site, and the lease-up of five development properties. 2012/2011 Same-Property operating expenses excluding real estate taxes, increased by $0.8 million or 1.0% for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011, due mainly to a $0.4 million increase in salaries and administration costs and a $0.2 million increase in maintenance and repairs.
Real Estate taxes
increased by $2.9 million or 8.7% for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011, due primarily to the acquisition of ten communities and one retail center and expensing property taxes instead of capitalizing the cost for communities that were previously under development. 2012/2011 Same-Property real estate taxes increased by $0.4 million or 1.4% for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011 due to an increase of 2.0% in property taxes for the majority of the properties located in California regulated by Prop. 13 as offset by a reduction in assessed property valuations for select communities located in California.
Depreciation expense
increased by $13.8 million or 12.3% for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011, due to the acquisition of ten communities and one retail center and the lease-up of five development properties. Also, the increase is due to the capitalization of approximately $58.2 million in additions to rental properties through the third quarter of 2012, including $31.3 million spent on redevelopment, $4.4 million spent on revenue generating capital and $6.7 million spent on recent acquisitions, and the capitalization of approximately $95.3 million in additions to rental properties for 2011, including $45.1 million spent on redevelopment, $16.4 million spent on improvements to recent acquisitions, and $7.6 million spent on revenue generating capital.
Cost of management and other fees
increased $1.7 million for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011 primarily due to an increase in administrative costs due to hiring of additional staff to assist with the management of the Company’s co-investments including Wesco I and II and the development joint ventures formed in 2011 and 2012.
Interest expense before amortization
increased by $7.8 million or 11.7% for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011, primarily due to the payoff of the $250 million secured line of credit in the fourth quarter of 2011 which had an average interest rate of 1.3%. The Company replaced the secured line with debt at an average interest rate of 2.6%. Also, on March 31, 2011, the Company issued $150 million of private placement notes with an interest rate of 4.4%, and on August 15, 2012 the Company issued $300 million of unsecured bonds with an interest rate of 3.625%, thus due to an increase in average outstanding debt and a higher average interest rate for the first nine months of 2012 compared to the same period in 2011.
Interest and other income
decreased by $1.5 million for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011, due to $2.3 million of promote income earned from achieving certain performance hurdles related to the Essex Skyline co-investment and the sale of marketable securities for a gain of $0.5 million for the nine months ended September 30, 2012, compared to a gain of $4.5 million from the sale of marketable securities for the nine months ended September 30, 2011.
Equity income (loss) in co-investments
increased $9.3 million for the nine months ended September 30, 2012 to income of $9.0 million compared to a loss of $0.3 million for the nine months ended September 30, 2011 primarily due to the income of $9.9 million related to the Company’s preferred equity investments made in 2011 including the Wesco II preferred equity investment made in the fourth quarter of 2011 which earned $6.7 million for the nine months ended September 30, 2012.
Income from discontinued operations
for the nine months ended September 30, 2012 was $10.0 million and included a gain of $9.8 million from the sale of Tierra del Sol/Norte and Alpine Country along with the operating results for these properties net of internal disposition costs. For the nine months ended September 30, 2011,
income from
discontinued operations was $5.3 million and included a gain of $4.4 million from the sale of Woodlawn Colonial net of internal disposition costs, and the operating results of these two properties sold in 2012.
Excess of the carrying amount of preferred stock redeemed over the cash paid to redeem preferred stock
for the nine months ended September 30, 2011 was $1.9 million due to the redemption of all of the Series B preferred units, which resulted in excess of cash paid of $1.0 million over the carrying value of Series B preferred units and the redemption of Series F preferred stock which resulted in excess of cash paid of $0.9 million over the carrying value of Series F preferred stock due to deferred offering costs and original issuance discounts.
Liquidity and Capital
Standard and Poor's (“S&P”) and Moody’s Investors Service credit agencies rate Essex Property Trust, Inc. and Essex Portfolio, L.P. BBB/Stable and Baa2/Stable, respectively. Also, Fitch Ratings ("Fitch") assign a BBB issuer rating to Essex Portfolio, L.P., with a positive rating outlook.
As of September 30, 2012, the Company had $1.9 million of unrestricted cash and cash equivalents and $141.6 million in marketable securities, of which $90.9 million were held available for sale. We believe that cash flows generated by our operations, existing cash, cash equivalents, and marketable securities balances, availability under existing lines of credit, access to capital markets and the ability to generate cash from the disposition of real estate are sufficient to meet all of our reasonably anticipated cash needs during the next twelve months. The timing, source and amounts of cash flows provided by financing activities and used in investing activities are sensitive to changes in interest rates and other fluctuations in the capital markets environment, which can affect our plans for acquisitions, dispositions, development and redevelopment activities.
The Company has two lines of credit aggregating $525 million as of September 30, 2012. The Company has a $500 million unsecured line of credit with an accordion option to $600 million. As of September 30, 2012 there was a $58 million balance on this unsecured line. The underlying interest rate on the $500 million line is based on a tiered rate structure tied to the Company's credit ratings on the credit facility and the rate was LIBOR + 1.20% as of September 30, 2012. This facility matures in December 2015 with two one-year extensions, exercisable by the Company. The Company has a working capital unsecured line of credit agreement for $25 million. As of September 30, 2012 there was a $3.9 million balance outstanding on this unsecured line. The underlying interest rate on the $25 million line is based on a tiered rate structure tied to the Company's credit ratings on the credit facility of LIBOR + 1.20%.
During the nine months ended September 30, 2012, the Company entered into an agreement to issue $200 million of private placement unsecured notes for a term of 9-years at an all-in fixed rate of 4.3%.
In July, the Company increased the capacity of its $200 million unsecured term loan originated in the fourth quarter of 2011 to $350 million, and the tiered pricing structure was reduced from LIBOR + 142.5 basis points to LIBOR + 130 basis points. The $150 million of additional funds were issued by the Company during October 2012.
The Company has entered into interest rate swap contracts with an aggregate notional amount of $300 million that effectively fixed the interest rate on $300 million of the $350 million unsecured term loan at 2.4%. These derivatives qualify for hedge accounting.
The Company has entered into equity distribution agreements with Barclays Capital Inc., BMO Capital Markets Corp., Liquidnet, Inc., Mitsubishi UFJ Securities (USA), Inc., and Citigroup Global Markets Inc. During the third quarter of 2012, the Company sold 633,636 shares of common stock for $97.9 million, net of commissions, at an average per share price of $155.97. From December 31, 2011 through November 1, 2012, the Company has sold 1,775,748 shares of common stock for $269.0 million, net of commissions, at an average price of $152.97.
Under this program, the Company may from time to time sell shares of common stock into the existing trading market at current market prices, and the Company anticipates using the net proceeds to pay down debt, acquire apartment communities and fund the development pipeline. As of November 1, 2012, the Company may sell an additional 2,700,231 shares under the current equity distribution program.
As of September 30, 2012, the Company’s mortgage notes payable totaled $1.6 billion which consisted of $1.4 billion in fixed rate debt with interest rates varying from 4.3% to 6.4% and maturity dates ranging from 2013 to 2021 and $202.1 million of variable rate debt with a weighted average interest rate of 1.9% ($202.1 million of the variable debt is tax-exempt variable rate demand notes). The tax-exempt variable rate demand notes have maturity dates ranging from 2013 to 2039, and $187.8 million are subject to interest rate caps.
The Company pays quarterly dividends from cash available for distribution. Until it is distributed, cash available for distribution is invested by the Company primarily in investment grade securities held available for sale or is used by the Company to reduce balances outstanding under its line of credit.
The Company has benefited from borrowing from Fannie Mae and Freddie Mac, and there are no assurances that these entities will lend to the Company in the future. To the extent that the Company’s access to capital and credit is at a higher cost than the Company has experienced in recent years (reflected in higher interest rates for debt financing or a lower stock price for equity financing) the Company’s ability to make acquisitions, develop communities, obtain new financing, and refinance existing borrowing at competitive rates could be adversely impacted. For the past two years the Company has primarily issued unsecured debt and repaid secured debt when it has matured to place less reliance on mortgage debt financing, and to unencumber more of the Company's communities.
Derivative Activity
The Company uses interest rate swaps and interest rate cap contracts to manage certain interest rate risks. The valuation of these instruments is determined using widely accepted valuation techniques including discounted cash flow analysis on the expected cash flows of each derivative. This analysis reflects the contractual terms of the derivatives, including the period to maturity, and uses observable market-based inputs, including interest rate curves. The fair values of interest rate swaps are determined using the market standard methodology of netting the discounted future fixed cash receipts (or payments) and the discounted expected variable cash payments (or receipts). The variable cash payments (or receipts) are based on an expectation of future interest rates (forward curves) derived from observable market interest rate curves. The Company
incorporates credit valuation adjustments to appropriately reflect both its own nonperformance risk and the respective counterparty’s nonperformance risk in the fair value measurements.
The Company has entered into interest rate swap contracts with an aggregate notional amount of $300 million that effectively fixed the interest rate on $300 million of the $350 million unsecured term loan at 2.4%. These derivatives qualify for hedge accounting.
As of September 30, 2012 the Company also had twelve interest rate cap contracts totaling a notional amount of $187.8 million that qualify for hedge accounting as they effectively limit the Company’s exposure to interest rate risk by providing a ceiling on the underlying variable interest rate for $202.1 million of the Company’s tax exempt variable rate debt. As of September 30, 2012 and December 31, 2011 the aggregate carrying value of the interest rate swap contracts was a liability of $7.2 million and $1.4 million, respectively. The aggregate carrying value of the interest rate cap contracts was zero on the balance sheet as of September 30, 2012, and was an asset of $0.2 million as of December 31, 2011.
During the third quarter 2012, the Company terminated a swap transaction with respect to the $38.0 million of tax-exempt bonds for the 101 San Fernando apartment community with Citibank because the bonds were repurchased by the Company at par.
Development and Predevelopment Pipeline
The Company defines development activities as new properties that are being constructed, or are newly constructed and, in the case of development communities, are in a phase of lease-up and have not yet reached stabilized operations. As of September 30, 2012, the Company had two consolidated development projects, and seven unconsolidated joint venture development projects aggregating 2,495 units for an estimated cost of $934.4 million, of which $523.9 million remains to be expended.
The Company owned one predevelopment project consisting of 192 units with an aggregate carrying value of $19.8 million as of September 30, 2012. In addition, the Company owned three land parcels held for future development or sale aggregating an estimated 298 units as of September 30, 2012. The aggregate carrying value for these three land parcels was $45.2 million as of September 30, 2012. The Company expects to fund the development and predevelopment pipeline by using a combination of some or all of the following sources: its working capital, amounts available on its lines of credit, net proceeds from public and private equity and debt issuances, and proceeds from the disposition of properties, if any.
Alternative Capital Sources
Fund II has eight institutional investors, and the Company, with combined partner equity contributions of $265.9 million were fully contributed as of 2008. The Company contributed $75.0 million to Fund II, which represents a 28.2% interest as general partner and limited partner. Fund II utilized leverage equal to approximately 55% upon the initial acquisition of the underlying real estate. Fund II invested in apartment communities in the Company’s targeted West Coast markets and, as of September 30, 2012, owned fourteen apartment communities. The Company records revenue for its asset management, property management, development and redevelopment services when earned, and promote income when realized if Fund II exceeds certain financial return benchmarks.
Dispositions
In the fourth quarter, the Company expects to close on the sale of seven communities owned by Fund II for estimated gross proceeds of approximately $413 million. The Company has a 28.2% ownership stake in Fund II. In conjunction with the sale of the assets, Fund II will incur prepayment penalties on debt obligations which will result in the Company recording a loss of approximately $2.2 million in the fourth quarter for its pro-rata share of Fund II’s debt.
In 2011, the Company entered into a 50/50 programmatic joint venture, Wesco I, with an institutional partner for a total equity commitment of $200 million. Each partner’s equity commitment was $100 million, and Wesco I will utilize leverage equal to approximately 50% to 60%. In 2012, the equity commitment was increased to $300 million and each partner’s equity commitment is $150 million with the leverage target being reduced to 50%. The Company has contributed $88.2 million to Wesco I, and as of September 30, 2012, Wesco I owned seven apartment communities with 2,169 units. Investments must meet certain criteria to qualify for inclusion in the joint venture and both partners must approve any new acquisitions and material dispositions. The joint venture has an investment period of up to two years. The Company will receive asset and property management fees, and may earn a promoted interest. The Company accounts for this joint venture on the equity method.
Critical Accounting Policies and Estimates
The preparation of consolidated financial statements, in accordance with U.S. generally accepted accounting principles requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosures of contingent assets and liabilities. The Company defines critical accounting policies as those accounting policies that require the Company’s management to exercise their most difficult, subjective and complex judgments. The Company’s critical accounting policies and estimates relate principally to the following key areas: (i) consolidation under applicable accounting standards for entities that are not wholly owned; (ii) assessing the carrying values of our real estate properties and investments in and advances to joint ventures and affiliates; (iii) internal cost capitalization; and (iv) qualification as a REIT. The Company bases its estimates on historical experience, current market conditions, and on various other assumptions that are believed to be reasonable under the circumstances. Actual results may differ from those estimates made by management.
The Company’s critical accounting policies and estimates have not changed materially from information reported in Note 2, “Summary of Critical and Significant Accounting Policies,” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2011.
Forward Looking Statements
Certain statements in this "Management's Discussion and Analysis of Financial Condition and Results of Operations," and elsewhere in this quarterly report on Form 10-Q which are not historical facts may be considered forward looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities and Exchange Act of 1934, as amended, including statements regarding the Company's expectations, hopes, intentions, beliefs and strategies regarding the future. Forward looking statements include statements regarding the Company’s expectations as to the total projected costs of predevelopment, development and redevelopment projects, the Company’s reduced risk of loss from mold cases, beliefs as to our ability to meet our cash needs during the next twelve months, expectations as to the sources for funding the Company’s development and redevelopment pipeline, the timing and proceeds of the sale of the Fund II properties and statements regarding the Company's financing activities.
Such forward-looking statements involve known and unknown risks, uncertainties and other factors including, but not limited to, that the Company will fail to achieve its business objectives, that the total projected costs of current predevelopment, development and redevelopment projects exceed expectations, that such development and redevelopment projects will not be completed, that development and redevelopment projects and acquisitions will fail to meet expectations, that estimates of future income from an acquired property may prove to be inaccurate, that future cash flows will be inadequate to meet operating requirements, that there may be a downturn in the markets in which the Company's properties are located, that the terms of any refinancing may not be as favorable as the terms of existing indebtedness, and that mold lawsuits will be more costly than anticipated, as well as those risks, special considerations, and other factors referred to in Item 1A, “Risk Factors,” of the Company's Annual Report on Form 10-K for the year ended December 31, 2011, and those risk factors and special considerations set forth in the Company's other filings with the Securities and Exchange Commission (the “SEC”) which may cause the actual results, performance or achievements of the Company to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. All forward-looking statements are made as of the date hereof, and the Company assumes no obligation to update this information.
Funds from Operations (“FFO”)
FFO is a financial measure that is commonly used in the REIT industry. The Company presents funds from operations as a supplemental operating performance measure. FFO is not used by the Company as, nor should it be considered to be, an alternative to net earnings computed under GAAP as an indicator of the Company’s operating performance or as an alternative to cash from operating activities computed under GAAP as an indicator of the Company’s ability to fund its cash needs.
FFO is not meant to represent a comprehensive system of financial reporting and does not present, nor does it intend to present, a complete picture of the Company's financial condition and operating performance. The Company believes that net earnings computed under GAAP remain the primary measure of performance and that FFO is only meaningful when it is used in conjunction with net earnings. The Company considers FFO and FFO excluding non-recurring items (referred to as “Core FFO”) to be useful financial performance measurements of an equity REIT because, together with net income and cash flows, FFO provides investors with an additional basis to evaluate operating performance and ability of a REIT to incur and service debt and to fund acquisitions and other capital expenditures and ability to pay dividends. Further, the Company believes that its consolidated financial statements, prepared in accordance with GAAP, provide the most meaningful picture of its financial condition and its operating performance.
In calculating FFO, the Company follows the definition for this measure published by the National Association of REITs (“NAREIT”), which is a REIT trade association. The Company believes that, under the NAREIT FFO definition, the two most significant adjustments made to net income are (i) the exclusion of historical cost depreciation and (ii) the exclusion of gains and losses (including impairment charges on depreciable real estate) from the sale of previously depreciated properties. The Company agrees that these two NAREIT adjustments are useful to investors for the following reason:
|
|
(a)
|
historical cost accounting for real estate assets in accordance with GAAP assumes, through depreciation charges, that the value of real estate assets diminishes predictably over time. NAREIT stated in its White Paper on Funds from Operations “since real estate asset values have historically risen or fallen with market conditions, many industry investors have considered presentations of operating results for real estate companies that use historical cost accounting to be insufficient by themselves.” Consequently, NAREIT’s definition of FFO reflects the fact that real estate, as an asset class, generally appreciates over time and depreciation charges required by GAAP do not reflect the underlying economic realities.
|
|
|
(b)
|
REITs were created as a legal form of organization in order to encourage public ownership of real estate as an asset class through investment in firms that were in the business of long-term ownership and management of real estate. The exclusion, in NAREIT’s definition of FFO, of gains and losses (including impairment charges on depreciable real estate) from the sales of previously depreciated operating real estate assets allows investors and analysts to readily identify the operating results of the long-term assets that form the core of a REIT’s activity and assists in comparing those operating results between periods.
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Management believes that it has consistently applied the NAREIT definition of FFO to all periods presented. However, there is judgment involved and other REITs’ calculation of FFO may vary from the NAREIT definition for this measure, and thus their disclosure of FFO may not be comparable to the Company’s calculation.
The following table sets forth the Company’s calculation of FFO and Core FFO for the three and nine months ended September 30, 2012 and 2011 (in thousands except for per share data):
|
Three Months Ended
|
Nine Months Ended
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|||||||||||||||
|
September 30,
|
September 30,
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|||||||||||||||
|
2012
|
2011
|
2012
|
2011
|
|||||||||||||
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Net income available to common stockholders
|
$ | 16,219 | $ | 7,687 | $ | 76,019 | $ | 26,432 | ||||||||
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Adjustments:
|
||||||||||||||||
|
Depreciation and amortization
|
43,041 | 38,137 | 125,669 | 112,678 | ||||||||||||
|
Gains not included in FFO, net of internal
disposition costs
|
- | 880 | (31,730 | ) | (4,384 | ) | ||||||||||
|
Depreciation add back from unconsolidated
co-investments, and add back
convertible
preferred dividend - Series G
|
3,352 | 3,502 | 11,104 | 8,498 | ||||||||||||
|
Noncontrolling interests related to
Operating Partnership units
|
1,077 | 583 | 5,169 | 2,201 | ||||||||||||
|
Depreciation attributable to third party of
co-investments
|
(312 | ) | (266 | ) | (904 | ) | (790 | ) | ||||||||
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Funds from operations
|
$ | 63,377 | $ | 50,523 | $ | 185,327 | $ | 144,635 | ||||||||
|
Funds from operations per share - diluted
|
$ | 1.67 | $ | 1.43 | $ | 4.99 | $ | 4.19 | ||||||||
|
Non-core items:
|
||||||||||||||||
|
Loss on early retirement of debt
|
1,211 | 567 | 2,661 | 820 | ||||||||||||
|
Acquisition costs
|
277 | 210 | 775 | 1,050 | ||||||||||||
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Co-investment promote income
|
- | - | (2,299 | ) | - | |||||||||||
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Gain on sales of marketable securities
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- | - | (521 | ) | (4,543 | ) | ||||||||||
|
Gain on sale of co-investment
|
- | (919 | ) | - | (919 | ) | ||||||||||
|
Gain on sale of land
|
- | (180 | ) | - | (180 | ) | ||||||||||
|
Excess of cash paid to redeem preferred stock
and units over the carrying value
|
- | - | - | 1,949 | ||||||||||||
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Core funds from operations
|
$ | 64,865 | $ | 50,201 | $ | 185,943 | $ | 142,812 | ||||||||
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Core funds from operations per share-diluted
|
$ | 1.71 | $ | 1.42 | $ | 5.01 | $ | 4.13 | ||||||||
|
Weighted average number
shares outstanding diluted
(1)
|
37,969,407 | 35,437,693 | 37,108,021 | 34,537,774 | ||||||||||||
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(1)
|
Assumes conversion of all dilutive outstanding operating partnership interests in the Operating Partnership.
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Net Operating Income (“NOI”)
Same-property net operating income (“NOI”)
is considered by management to be an important supplemental performance measure to earnings from operations included in the Company’s consolidated statements of operations. The presentation of same-property NOI assists with the presentation of the Company’s operations prior to the allocation of depreciation and any corporate-level or financing-related costs. NOI reflects the operating performance of a community and allows for an easy comparison of the operating performance of individual communities or groups of communities. In addition, because prospective buyers of real estate have different financing and overhead structures, with varying marginal impacts to overhead by acquiring real estate, NOI is considered by many in the real estate industry to be a useful measure for determining the value of a real estate asset or group of assets. The Company defines same-property NOI as same-property revenue less same-property operating expenses, including property taxes. Please see the reconciliation of earnings from operations to same-property NOI, which in the table below is the NOI for stabilized properties consolidated by the Company for the periods presented:
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Three months ended September 30,
|
Six months ended September 30,
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|||||||||||||||
|
2012
|
2011
|
2012
|
2011
|
|||||||||||||
|
Earnings from operations
|
$ | 42,874 | $ | 34,305 | $ | 123,821 | $ | 98,307 | ||||||||
|
Adjustments:
|
||||||||||||||||
|
General and administrative
|
5,276 | 4,966 | 16,440 | 15,626 | ||||||||||||
|
Cost of management and other fees
|
1,642 | 1,164 | 4,893 | 3,161 | ||||||||||||
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Depreciation
|
43,041 | 37,881 | 125,575 | 111,786 | ||||||||||||
|
Management and other fees from affiliates
|
(3,072 | ) | (1,940 | ) | (8,312 | ) | (4,585 | ) | ||||||||
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Net operating income
|
89,761 | 76,376 | 262,417 | 224,295 | ||||||||||||
|
Less: Non same-property net operating income
|
(10,893 | ) | (4,332 | ) | (25,902 | ) | (9,185 | ) | ||||||||
|
Same-property net operating income
|
$ | 78,868 | $ | 72,044 | $ | 236,515 | $ | 215,110 | ||||||||
Interest Rate Hedging Activities
The Company’s objective in using derivatives is to add stability to interest expense and to manage its exposure to interest rate movements or other identified risks. To accomplish this objective, the Company uses interest rate swaps as part of its cash flow hedging strategy. As of September 30, 2012, the Company has entered into ten interest rate swap contracts to mitigate the risk of changes in the interest-related cash outflows on $300.0 million of the variable rate five-year unsecured term debt. As of September 30, 2012, the Company also had $202.1 million of variable rate indebtedness, of which $187.8 million is subject to interest rate cap protection. All of the Company’s derivative instruments are designated as cash flow hedges, and the Company does not have any fair value hedges as of September 30, 2012. The following table summarizes the notional amount, carrying value, and estimated fair value of the Company’s derivative instruments used to hedge interest rates as of September 30, 2012. The notional amount represents the aggregate amount of a particular security that is currently hedged at one time, but does not represent exposure to credit, interest rates or market risks. The table also includes a sensitivity analysis to demonstrate the impact on the Company’s derivative instruments from an increase or decrease in 10-year Treasury bill interest rates by 50 basis points, as of September 30, 2012.
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Carrying and
|
Estimated Carrying Value
|
|||||||||||||||||||
|
Notional
|
Maturity
|
Estimate Fair
|
+ 50 | - 50 | ||||||||||||||||
|
(Dollars in thousands)
|
Amount
|
Date Range
|
Value
|
Basis Points
|
Basis Points
|
|||||||||||||||
|
Cash flow hedges:
|
||||||||||||||||||||
|
Interest rate swaps
|
$ | 300,000 | 2016-2017 | $ | (7,174 | ) | $ | (678 | ) | $ | (12,659 | ) | ||||||||
|
Interest rate caps
|
187,787 | 2013-2016 | - | 107 | - | |||||||||||||||
|
Total cash flow hedges
|
$ | 487,787 | 2013-2017 | $ | (7,174 | ) | $ | (571 | ) | $ | (12,659 | ) | ||||||||
Interest Rate Sensitive Liabilities
The Company is exposed to interest rate changes primarily as a result of its lines of credit and long-term tax exempt variable rate debt and unsecured term debt. The Company’s interest rate risk management objective is to limit the impact of interest rate changes on earnings and cash flows and to lower its overall borrowing costs. To achieve its objectives the Company borrows primarily at fixed rates and may enter into derivative financial instruments such as interest rate swaps, caps and treasury locks in order to mitigate its interest rate risk on a related financial instrument. The Company does not enter into derivative or interest rate transactions for speculative purposes.
The Company’s interest rate risk is monitored using a variety of techniques. The table below presents the principal amounts and weighted average interest rates by year of expected maturity to evaluate the expected cash flows.
|
For the Years Ended
|
2012
|
2013
|
2014
|
2015
|
2016
|
Thereafter
|
Total
|
Fair value
|
|||||||||||||||||||||||
|
(In thousands)
|
|||||||||||||||||||||||||||||||
|
Fixed rate debt
|
$ | - | 21,127 | 65,715 | 69,283 | 162,721 | 1,812,846 | $ | 2,131,692 | $ | 2,256,969 | ||||||||||||||||||||
|
Average interest rate
|
- | 5.5 | % | 5.4 | % | 5.2 | % | 4.4 | % | 4.9 | % | 4.9 | % | ||||||||||||||||||
|
Variable rate debt
|
$ | - | 19,420 | (1) | 3,872 | 58,000 | (2) | 200,000 | (2) | 182,717 | (2) | $ | 464,009 | $ | 442,762 | ||||||||||||||||
|
Average interest rate
|
- | 1.5 | % | 2.3 | % | 2.3 | % | 2.7 | % | 1.9 | % | 2.3 | % | ||||||||||||||||||
(1) $187.8 million subject to interest rate caps.
(2) $300.0 million subject to interest rate swap agreements.
The table incorporates only those exposures that exist as of September 30, 2012; it does not consider those exposures or positions that could arise after that date. As a result, our ultimate realized gain or loss, with respect to interest rate fluctuations and hedging strategies would depend on the exposures that arise prior to settlement.
As of September 30, 2012, we carried out an evaluation, under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)). Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that as of September 30, 2012, our disclosure controls and procedures were effective to ensure that the information required to be disclosed by us in the reports that we file or submit under the Exchange Act was recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms and that such disclosure controls and procedures were also effective to ensure that information required to be disclosed in the reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding required disclosure.
There were no changes in the Company's internal control over financial reporting, that occurred during the quarter ended September 30, 2012, that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.
Part II -- Other Information
Recently there has been an increasing number of lawsuits against owners and managers of apartment communities alleging personal injury and property damage caused by the presence of mold in residential real estate. Some of these lawsuits have resulted in substantial monetary judgments or settlements. The Company has been sued for mold related matters and has settled some, but not all, of such matters. Insurance carriers have reacted to mold related liability awards by excluding mold related claims from standard policies and pricing mold endorsements at prohibitively high rates. The Company has, however, purchased pollution liability insurance, which includes some coverage for mold. The Company has adopted policies for promptly addressing and resolving reports of mold when it is detected, and to minimize any impact mold might have on residents of the property. The Company believes its mold policies and proactive response to address any known existence, reduces its risk of loss from these cases. There can be no assurances that the Company has identified and responded to all mold occurrences, but the Company promptly addresses all known reports of mold. Liabilities resulting from such mold related matters are not expected to have a material adverse effect on the Company’s financial condition, results of operations or cash flows. As of September 30, 2012, no potential liabilities for mold and other environmental liabilities are quantifiable and an estimate of possible loss cannot be made.
The Company carries comprehensive liability, fire, extended coverage and rental loss insurance for each of the Company’s communities. Insured risks for comprehensive liability covers claims in excess of $100,000 per incident, and property insurance covers losses in excess of a $1.0 million deductible per incident. There are, however, certain types of extraordinary losses, such as, for example, losses for terrorism and earthquake, for which the Company does not have insurance. Substantially all of the Company’s properties are located in areas that are subject to earthquakes.
The Company is subject to various other lawsuits in the normal course of its business operations. Such lawsuits could, but are not expected to, have a material adverse effect on the Company’s financial condition, results of operations or cash flows.
There were no material changes to the Risk Factors disclosed in Item IA of the Company’s Annual Report on Form 10-K for the year ended December 31, 2011 as filed with the SEC and available at
www.sec.gov
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A.
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Exhibits
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4.1
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Indenture, dated August 15, 2012, among Essex Portfolio, L.P., Essex Property Trust, Inc., and U.S. Bank National Association, as trustee, including the form of 3.625% Senior Notes due 2022 and the guarantee thereof, attached as Exhibit 4.1 to the Company’s Current Report on Form 8-K, filed August 15, 2012, and incorporated herein by reference.
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10.1
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Registration Rights Agreement, dated August 15, 2012, among Essex Portfolio, L.P., Essex Property Trust, Inc., and Citigroup Global Markets Inc., J.P. Morgan Securities LLC and Wells Fargo Securities, LLC as representatives of the several initial purchasers, attached as Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed August 15, 2012, and incorporated herein by reference.
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Amendment to Agreement, dated as of September 11, 2012, between the Company and George Marcus.
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Ratio of Earnings to Fixed Charges.
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Certification of Michael J. Schall, Chief Executive Officer, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
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Certification of Michael T. Dance, Chief Financial Officer, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
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Certification of Michael J. Schall, Chief Executive Officer, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
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Certification of Michael T. Dance, Chief Financial Officer, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
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101.INS*
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XBRL Instance Document
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101.SCH*
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XBRL Taxonomy Extension Schema Document
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101.CAL*
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XBRL Taxonomy Extension Calculation Linkbase Document
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101.DEF*
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XBRL Taxonomy Extension Definition Linkbase Document
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101.LAB*
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XBRL Taxonomy Extension Label Linkbase Document
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101.PRE*
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XBRL Taxonomy Extension Presentation Linkbase Document
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*XBRL
(Extensible Business Reporting Language) information is furnished and not filed herewith, is not part of a registration statement or Prospectus for purposes of Section 11 or 12 of the Securities Act of 1933, is deemed not filed for purposes of section 18 of the Securities Exchange Act of 1934, and otherwise is not subject to liability under these sections.
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Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
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ESSEX PROPERTY TRUST, INC.
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(Registrant)
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Date: November 2, 2012
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By: /S/ BRYAN G. HUNT
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Bryan G. Hunt
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First Vice President, Chief Accounting Officer
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By: /S/ MICHAEL T. DANCE
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Michael T. Dance
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Executive Vice President, Chief Financial Officer
(Authorized Officer, Principal Financial Officer)
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35