Camden Property Trust (CPT) 2017 Q2 法說會逐字稿

Good morning, everyone and welcome to The Camden Property Trust Second Quarter 2017 Earnings Conference call. (Operator Instructions) Please also note that today's event is being recorded. At this time, I'd like to turn the conference over to Ms. Kim Callahan. Ma'am, please go ahead.

Good morning, and thank you for joining Camden's second quarter 2017 earnings conference call. Before we begin our prepared remarks, I would like to advise everyone that we will be making forward-looking statements based on our current expectations and beliefs. These statements are not guarantees of future performance and involve risks and uncertainties that could cause actual results to differ materially from expectations. Further information about these risks can be found in our filings with the SEC, and we encourage you to review them. Any forward-looking statements made on today's call represent management's current opinions, and the company assumes no obligation to update or supplement these statements because of subsequent events.

As a reminder, Camden's complete second quarter 2017 earnings release is available in the Investors section of our website at camdenliving.com, and it includes reconciliations to non-GAAP financial measures, which will be discussed on this call.

Joining me today are Ric Campo, Camden's Chairman and Chief Executive Officer; Keith Oden, President; and Alex Jessett, Chief Financial Officer. We will try to be brief in our prepared remarks and try to complete the call within 1 hour, as we are the first of 3 back-to-back multifamily calls today. (Operator Instructions) At this time, I'll turn the call over to Ric Campo.

Thank you, Kim and good morning. Our music today was provided by recording star, Ed Sheeran. As recently as 2013, Sheeran was best known in the U.S. as an opening act for Taylor Swift's North American tour. This year, Sheeran became the first recording artist to have 2 songs debut in the Top 10 in the U.S. charts in the same week and had notable guest appearance on Game of Thrones. Sheeran's story is a reminder of both how quickly things can accelerate if you are talented and are working in the right environment, and that the pace of change in all areas of our residents' lives is faster than ever and will likely to continue to accelerate. Our residents are increasingly choosing to live in communities and understand and adapt to their -- the evolving lifestyle choices. As Malcolm Stewart, Camden's Chief Operating Officer, often reminds us, you don't have to be young, you just have to think young.

Our operations teams continue to produce solid results for Camden during the second quarter and for the year. I appreciate their dedication to improving the lives of our customers one experience at a time.

Apartment demand continues to be strong driven by positive demographics and a secular shift to rental housing as part of the sharing economy. Millennials are driving the sharing economy and are more interested in experiential activities as opposed to acquiring things, including single-family homes.

On the other end of the spectrum from a demographic perspective, empty nesters are leaving their suburban homes for rentals in urban locations to take advantage of less commute time and more robust entertainment options. New supply competition is currently a factor in many of our markets. However, delivery should peak this year.

We continued our capital recycling program this quarter with the acquisition of Camden Buckhead Square in Atlanta. This is our first acquisition in nearly 3 years. Last year, we sold $1.2 billion of noncore older properties. The proceeds are reused to fund our development pipeline, pay down debt, pay a special dividend and now, to fund Camden Buckhead Square. Camden Buckhead Square was acquired at below replacement cost, with a 5% FFO yield. Given the inventory of merchant builder product in the market combined with rising land costs and construction costs, we believe that other acquisition opportunities will be available going forward. Subsequent to quarter end, we entered into an agreement to sell Camden Miramar, our only student housing property.

The Houston Apartment market is still challenging, with new deliveries exceeding demand. We expect the market to stabilize next year. New construction starts peaked in 2014 at 24,000 and have steadily declined with 8,000 in 2016 and 6,000 starts expected each year in 2017 and 2018. While new deliveries have been delayed in some cases due to labor shortages, excess inventory should clear during 2018 and set Houston up for rent growth again. Houston has had a long history of strong recoveries following market weakness.

Based on our view that there will be limited completions and competition from new development in 2019 and 2020, we have decided to go forward with the construction of our downtown Houston project, The Camden Downtown. Construction will begin in the fourth quarter of this year, with lease-up beginning in the fourth quarter of 2019 and stabilization expected in 2020. Camden Downtown represents a countercyclical opportunity to lock in construction costs at a time when it's difficult for developers to get equity or construction financing.

We're looking forward to finishing the year strong, and our management team and operations teams are focused on that. And at this point, I'll turn the call over to Keith Oden.

Thanks, Ric. We're very pleased with our results, which were in line with our expectations for both the quarter and year-to-date. Overall conditions remain healthy across our platform. Sequential revenue growth was 1.8%, with every market posting a positive sequential increase, yes, even Houston.

Other than the transactions, which Ric's covered, from our perspective this was a very routine quarter so I'll be brief with my remarks to allow more time for what's on your mind.

Turning to same-store results revenue growth, which was 3.1% for the quarter, is up 3% year-to-date. Most of our markets had revenue growth between 3% and 6% for the quarter led by San Diego Inland Empire at 6.1%, Denver at 5.8%, LA and Orange County 5.6%, Dallas at 4.9%; Atlanta at 4.8%. Expenses fell sequentially by 0.5% in the second quarter with a number of puts and takes, which Alex will address, leaving us with a same-store NOI of up 3.2% sequentially and up 4.1% for the second quarter.

Houston revenues fell 3.7% compared to the second quarter of 2016. Year-to-date revenues are down 3.5%, which keeps us on track to meet our full year forecast of roughly a 4% revenue decline for the year. We expect to continue to see weak conditions in Houston as new supply continues to pressure merchant-built communities who are -- continue to offer 2 to 3 months free rent as a lease-up concession.

In D.C. Metro, our revenue growth outperformed our overall portfolio, with results up 4.2% for the second quarter and 4.0% growth year-to-date. We continue to be encouraged by the trends in our D.C. Metro portfolio.

As we look at our markets and how we expect them to perform in the second half of the year versus our original plan, we see relatively minor variances. The top 4 outperforming markets relative to plan are projected to be Denver, Southern California, Dallas and Orlando. This outperformance relative to plan is being offset by lower-than-planned revenues in Austin, Charlotte and Southeast Florida due to direct competition from pockets of new supply.

Rents on new leases and renewals continue to look good for achieving our outlook for the full year's results. Second quarter new leases were up 1.6% and renewals were up 4.9% for a blended rate of 3%. July new leases and renewals are in line with the second quarter numbers. We're sending out August and September renewal offers at an average increase of 5.5%.

Additional operating steps in the quarter continued to support our full year outlook. Same-store occupancy in the second quarter averaged 95.4% versus 94.8% in the first quarter and 95.4% in the second quarter of last year. July occupancy was 95.6%, 95.7% for the same period last year. Net turnover rate for the quarter was basically flat at 52% versus 51% for the prior year, and 46% versus 47% year-to-date. Move-outs to home purchases were 15.6% for the quarter with an as-expected seasonal increase from the 14.9% we saw in the first quarter. 2017 move-outs to purchased homes are in line with 2016 levels, but still well below the long-term trend.

At this point, I'll turn the call over to Alex Jessett, Camden's Chief Financial Officer.

Thanks, Keith. Before I move on to our financial results and guidance, a brief update on our recent real estate activities. During the second quarter, we reached stabilization at Camden Gallery, a $59 million development in Charlotte, which is currently 97% occupied and is expected to achieve a 7.75% stabilized yield. Also during the quarter, we completed construction at Camden NoMa Phase II in Washington D.C. and began construction at Camden Grandview Phase 2 in Charlotte. Additionally, during the quarter, we acquired for $20 million an 8.2-acre land site in San Diego for future development; and acquired on June 1 for $58 million, Camden Buckhead Square, a 250-unit stabilized operating community in the Buckhead submarket of Atlanta. We purchased this 2015 built community at an approximate 12% discount to replacement cost and expect it to generate an approximate 5% yield.

And finally, subsequent to quarter end, we entered into a contract to sell Camden Miramar, our only student housing community, which is located in Corpus Christi, Texas for approximately $78 million. Closing of this sale is not guaranteed and is subject to, among other items, the satisfactory due diligence and financing by the purchaser. However, as I will discuss later, we have included the impact to this sale in the midpoint of our revised earnings guidance. We have $670 million of developments currently under construction or in lease-up with $170 million left to fund over the next 2 years. We anticipate up to $300 million of additional on-balance-sheet development starts later in 2017.

Our balance sheet remains one of the best in REIT world, with net debt-to-EBITDA at 4.5x, a fixed charge expense coverage ratio at 5.7x, secured debt to gross real estate assets at 11%, 80% of our assets unencumbered and 88% of our debt at fixed rates.

Turning to financial results. Last night, we reported funds from operations for the second quarter 2017 of $106 million or $1.15 per share, exceeding the midpoint of our guidance range by $0.02 per share. Our $0.02 per share outperformance for the second quarter was primarily due to: $0.01 per share in higher same-store NOI resulting from a combination of higher-than-anticipated occupancy and both lower-than-anticipated repair and maintenance costs due to general cost control measures and lower employee benefit costs as we continue to experience better-than-anticipated levels of health insurance and worker's compensation claims; 0.5 cent in higher net operating income from our development and nonsame-store communities, resulting primarily from each of our development communities leasing ahead of schedule; 0.25 cent from the previously mentioned Atlanta acquisition; and 0.25 cent from a combination of higher interest income and lower overhead cost.

We have updated and revised our 2017 full year same-store and FFO guidance based upon our year-to-date operating performance and our expectations for the remainder of the year. Our same-store revenue performance has been slightly better-than-expected for the first 6 months of the year, driven primarily by higher levels of occupancy. We are encouraged by this trend. However, it is still too early to tell how pockets of supply will affect a few of our markets for the remainder of 2017. And therefore, we are maintaining the midpoint of our same-store revenue growth guidance at 2.8%, but are tightening the range to 2.55% to 3.05%.

We have reduced the midpoint of our same-store expense guidance from 4.5% to 4.1% and tightened the range to 3.85% to 4.35% as a result of actual and anticipated lower expenses related to health insurance and worker's compensation and successful property tax appeals, primarily in Houston.

We now expect our full year 2017 property tax increase to be 4.75% as compared to our original budget of 5.5%.

As a result of reducing our full year expense guidance, we have increased our 2017 same-store NOI guidance by 20 basis points at the midpoint to 2% and tightened the range to 1.5% to 2.5%.

Last night, we also reaffirmed and tightened the range for our full year 2017 FFO per share. Our new range is $4.51 to $4.63, with a midpoint of $4.57. Although the midpoint is unchanged, there have been some changes to the underlying assumptions. As compared to our prior guidance, our new guidance assumes an additional $0.01 per share from our 20 basis point increase in same-store NOI; 1.5 cents per share from the acquisition of the Camden Buckhead Square late in the second quarter; and 0.5 cent per share in additional contributions from the accelerated leasing of our development communities, partially offset by lower levels of interest capitalization. This $0.03 of aggregate improvement is entirely offset by the anticipated disposition of our Camden Miramar student housing community in the beginning of the fourth quarter. we built and have owned Camden Miramar since 1994. Over the past 23 years, this has been a very successful investment for Camden and our shareholders. Upon disposition, we anticipate this investment will have generated a 16.5% unleveraged internal rate of return over its 23-year hold period. We believe this is an appropriate time to make this strategic disposition, given this asset is located on a ground lease with just over 20 years remaining. At the contract price, this disposition represents an AFFO yield of 8.75%. This disposition will have a meaningful impact to our fourth quarter NOI as the community will be fully occupied for the fall semester. As a reminder, occupancy and NOI at this community are strong during the school term and decline significantly during summer months.

Last night, we also provided earnings guidance for the third quarter of 2017. We expect FFO per share for the third quarter to be within the range of $1.14 to $1.18. The midpoint of $1.16 represents a $0.01 per share increase from $1.15 reported in the second quarter 2017. This increase is primarily the result of: an approximate 0.75 cent per-share increase in NOI from our development and nonsame-store communities; an approximate 0.5 cent per-share increase in FFO related to our completed Atlanta acquisition; and an approximate 0.5 cent per-share increase in FFO due to lower interest expense as the interest savings from repaying our 5.83% $247 million unsecured bond at maturity on May 15 is partially offset by borrowings on our line of credit, higher rates on our secured floating rate debt and lower levels of capitalized interest. As a reminder, we still anticipate issuing a $300 million unsecured bond later this year. This 1.75 cent per share aggregate improvement in FFO is partially offset by: an approximate 0.5 cent per share increase in income tax expense due to a nonrecurring Texas margin tax refund resulting from a prior year reduction rate, which we recognized in the second quarter. Our sequential NOI is anticipated to be relatively flat as revenue growth from higher rental and fee income in our peak leasing periods is offset by our expected increase in property expenses due to normal seasonal summer increases in utilities and repair and maintenance costs and the timing of certain property tax refunds recognized in the second quarter.

At this time, we will open the call up to questions.

(Operator Instructions) Our first question today comes from Nick Joseph from Citigroup.

I just want to start on Houston. You mentioned a potential stabilization next year. Just curious if that's more of a flattening of rental rate growth at least year-over-year? Or if you think there could be actually a slight acceleration? Or if it's just less of a fall than what you've seen this year?

Yes. With that -- so without getting into forward-looking NOI growth projections for Houston, when we think about stabilization, we're thinking in terms of absorbing the excess, the hangover of supply that's got to get through the system and find a resident. Once that happens, then I think you can start to think in terms of getting back to more of a normalized full occupancy rate. And then beyond that, you start thinking about rental increases. So if you think -- if you roll forward to our numbers that we have for Houston for 2018, we know we've got excess inventory now. It's in the process of being aggressively -- I mean, very aggressively marketed by the merchant builders to put it in place. Lease concessions of 2 to 3 months are common in the lease-up communities. So they're trying to find the market, and they will. And they're making good progress. And I think we're going to continue to see good absorption. But if you roll forward to 2018, we think we'll -- if things stay as they're currently projected, we think we're only going to see another 6,000-or-so apartments brought to the market. And if you take a sort of the midpoint between Wheaton and AXIOMetrics job growth for Houston for next year, it's somewhere in the 45,000 range, which is -- that's more than sufficient to not only put stabilization in place, but to repair occupancy rates, and then beyond that, to look for rental rate increases. But we've said previously, Nick, that we thought that 2017 at our minus 4 down top line revenues would be the bottom in this cycle, and we still believe that.

And then just in terms of development, you mentioned starting a new project in Charlotte and buying the land in San Diego and starting in Houston later this year. So what are the expected yields on those developments? And how do those compare to the developments currently in progress?

The current development yield's around 7%, depending on when you average in the really high ones versus the lower ones in California. So in California, the San Diego-type transactions, those are going to be in the 5.5% to 6% kind of stabilized range. But the Houston transactions need to be higher than that yet because they're Houston. So generally, it's -- generally, in the sort of center of the country, we're looking at stabilized yields of 6.5% plus or minus today. And yields are definitely down from some of the ones that we're able to get. For example, our Camden NoMa is an 8% yield, and that's hard to do today. We just happened to hit. A, we bought the land at a good price a while back; and then b, we were able to hit the market properly really well with a dip in the construction environment there; and then the lease-up is going really well. But today, with land cost where it is and with construction costs rising in every market with labor shortages, it's just tougher to make those -- to get to those numbers. So we're probably 50 basis points down on our development yields than we were a year ago if we would have started probably.

And just to clarify, are those on in-place rents or on trended rents?

Those are generally -- in Houston, it would be trended rents because you really can't take 3 months free in a new development and then apply that to a development model and make it work. But generally, they tend to be on trended rents.

Our next question comes from Austin Wurschmidt from KeyBanc Capital.

Just curious. You guys saw some good acceleration in Houston's occupancy this quarter. I'm wondering if you think that that's no longer going to be a drag on same-store revenue growth going forward, and if that first quarter number, 92.3%, could end up being a bottom in occupancy in that market.

Yes. We were -- so with -- we were pleased that we were able to make some progress in the second quarter but we ended the average for the quarter at about 93.1%. And relative to our overall portfolio, that's almost 2.5% below where we are on average throughout the rest of our platform. So clearly, it's a laggard. In terms of the -- is 92.3% the low-water mark? Based on pre-leased right now, if you're looking out 60, 90 days on where we are with our pre-leased occupancy, I think we're in pretty good shape to make some additional progress on occupancy in the third quarter. And consistent with our view that 2017 is probably the low-water mark in terms of the 4% rental decline or top line revenue decline, I would say that, that's -- it's a decent proposition that the 92.3% is the low-water mark. But we're not -- we're in no way satisfied with that 93.1%, and we're working our tails off to get that back to a more normalized-looking rate. Because until you get that number back to the 95% range, you're not going to make any headway on new leases.

And then there's been some strength in the Houston housing market here more recently. I'm just curious about your thoughts on what the impact that can have to the rental market and whether or not you think that, that will take share from rentals?

So the interesting thing about Houston is of course in the last 24 months or 36 months, we spent a lot of time talking about energy and what was going to happen to the Houston market overall. If you look at certain segments of the market, if you're in the office building business, it's kind of a tough market, obviously. Multifamily is tough, but not as -- not like office. When you look at industrial, retail and single-family, the market hasn't missed a beat. Houston has a shortage of quality single-family homes, and the markets have been very, very good and robust. I think we -- last month or last quarter, we -- Houston had a record number of sales at high prices of homes. So on the one hand, Houston's done really well with single-family homes, and it hasn't been a real issue for the economy overall. But when you get down to the whole issue of rental versus own or people losing market share to homes, we really don't see a massive change in that scenario. Because when you think about it, people make a decision to either rent or buy not based on money, generally. It's based on the their lifestyle and their sort of what age group they're in, and so we haven't seen a tremendous amount.

Yes. Just to put some stats around that. Ric's right. Even in the second quarter, which I believe I saw a report that June was possibly the highest level of single-family home sales in the history of Houston, which is pretty remarkable in itself. But move-outs to purchased homes in our portfolio was about 16% in Houston, and that compares to 15% for the whole platform. So yes, there's a lot of people buying homes, but they're not in large numbers coming out of our apartments.

And then just as a quick follow-up, how does that 16% compare versus either this time last year or last quarter?

So 16.5% in the first quarter of '17. But if you go back to fourth quarter, it was 15.9%, so in that range.

Our next question comes from Juan Sanabria from Bank of America Merrill Lynch.

I was hoping you could just give a little bit more commentary on Washington, D.C. You guys seem to be a little bit more upbeat than some of the other REITs that have commented. I was hoping you could just talk about supply generally and kind of where you're seeing pressures or not relative to the broader MSA?

Yes. We -- it's interesting because there have been -- there's been a fair amount of, I think, people trying to reconcile where we are and where some of our competitors have announced in the commentary. And we said last quarter that we felt pretty constructive about where we were in Washington, D.C. in our portfolio. But we also mentioned that we really have a fairly different footprint in the D.C. metro area than some of our competitors. So I -- we guess that somebody might want to put some numbers around that. And we looked at it and have kind of dug into our footprint and where the performance is coming from. And other people can reconcile this and try to figure out whether it's in the footprint or something else. But in our Virginia -- Northern Virgina portfolio for the second quarter, we actually had right at 5% revenue growth, which that's better than -- way better than the average of all of our other markets combined. And if -- but if you go into -- and if you go into our Maryland portfolio, it was about a 3.5% revenue growth. The area where I think the differential occurs is in our what we think of as the D.C. proper submarket. Our growth for the quarter was 2.2%. And that's a divergence because up until probably middle of last year, the D.C. proper portfolio had consistently outperformed our Northern Virginia and Maryland portfolios. But obviously, that's flipped and we have a much higher NOI contribution from North (inaudible) D.C. proper. So I think a fair amount of it is just the distribution of our assets versus some of our competitors'. In terms of overall supply versus job growth, if you look at the (inaudible) of the equilibrium for 2017, and then they actually get better in 2018. So we continue to be pretty constructive on D.C., and my guess is, is that it's more footprint than anything else.

Okay. And then you kind of hit on it in some of your prepared remarks, but just at this point, could you give us a sense of, particularly at the top line same-store revenues, where you feel the most comfortable within the range and kind of the points of variability as you kind of hit the top or the bottom at this point?

Yes, I think the range that we -- I mean, we tightened the range quite a bit. And as to getting to the top or the bottom, I think it really comes down to how much of an impact the new supply actually shows up in the second half and how much of an impact do we see from that. I mean, there's a fair amount of anecdotal evidence, and not only in our own portfolio, but just folks that we talk to in conversations and some of our other competitors who have reported that there's a lot of slippage in the delivery of multifamily units. And so to the extent that, that phenomenon has happened to any meaningful degree in Camden's markets, you get apartments that we thought were going to be delivered in the first half that end up rolling over to the second half. So I think the range, from our perspective, is more about how much of that supply has slipped, how much of it didn't show up in the first half and how much of it is going to sort of come back in the second half of the year. But I mean, I think our range is very appropriate for where we are halfway through the year.

And just if I could, what's your expected slip between supply the deliveries in '17 first half versus second half? And any thoughts on the expense decline in '18?

Yes. So if you -- I'm speaking just to Camden's markets, not -- I can give you national stats, but I -- it's not something that we spend a lot of time on. But within Camden's markets for the -- if you look at the full -- take the full year first, completions in '17 versus completions in '18, if you take the average of Wheaton and AXIOMetrics' numbers, and there's a fair amount of difference between the 2 of those -- their 2 forecasts, if you take the average of their 2 forecasts, we show in Camden's markets completions of about 150,000 apartments in 2017 dropping to about 125,000 in 2018, so a 25,000, 30,000 drop across Camden's portfolio. So if you're looking just at second half of '17 versus the first half of -- over into the first half of '18, we see a drop of roughly 14,000 apartments in Camden's portfolio. So there's a fair amount of consistency in the data that we look at that would indicate that what we've said all along is 2017 is going to be the high-water mark for completions in Camden's portfolio. Now obviously, we'll have to roll it forward and see. There's certainly the possibility that some of that currently projected for the second half of '17 deliveries bleeds over to 2018, but I'd be surprised if it bled over enough to flip total completions in '18 to be higher than '17.

Our next question comes from Rob Stevenson from Janney.

Keith, you talked about the D.C. market a little bit, and you also talked about Dallas being a outperformer. Is there any material differentials between the various submarkets in Dallas that you guys are operating in?

Yes. Dallas is having the same experience that Houston is having with -- in the supply-driven submarkets. The uptown area of Dallas is kind of awash right now in inventory. And we're certainly feeling that. We're feeling it in our -- the completion of our lease-up at Victory Park. We're -- there's a fair amount of new product that we're directly competitive with. Our suburban assets in Dallas, if they had more of a Houston-like experience. They're outperforming the urban core assets anywhere from 100 to 200 basis points. So there is a differential. It's primarily supply-driven. But the reality is the supply has been -- the preponderance of the supply on a percentage basis has been in the more in the urban core area. That's true in Dallas. That's also true in Houston. Now obviously Dallas has not had anything like the experience in Houston. We continue to grow top line rents in our Dallas portfolio. And our urban assets are contributing to the growth. They're just not at the top of the market anymore in terms of -- relative to our suburban assets. But yes, it's a similar experience, and the big difference has been that Houston delivered 10,000 or 11,000 jobs in 2016, and Dallas delivered 80,000. So it's still a real dynamic economy that, so far, has been able to absorb the new inventory that's been brought on. But it -- clearly, in these submarkets where you got a lot of new supply, you're going to get impacted.

Okay. And then one for Alex. I mean, given your comments about some of the benefit savings, et cetera, when you're looking forward at the same-store portfolio and the expense growth with what you're continuing to see from property taxes, and I imagine you're like everybody else, seeing some inflation in payroll, some of the other line items. Is there any reason to believe that same-store expenses aren't going to grow at the 4% rate for the foreseeable future? Any signs of hope out there?

So the signs of hope that I would point out, especially for our portfolio, are 2 things: Number one that although we've been successful in 2017 on the property tax side, we still do have property taxes increasing 4 3/4%. That should revert back to the norm of about 3% very soon; the second sign of hope is that the insurance market still continues to be very favorable for us. And hopefully, when we go through our renewal next year, we'll start to see some benefits from that.

Okay. And is that offset by wage pressure? Or what are you guys seeing there?

Yes. So what's interesting for Camden, specifically, is that when you look at our full year salaries, we actually think it's going to be relatively flat, '17 as compared to '16, and that's driven by lower-than-expected benefits and lower-than-expected worker's comp claims. So once you strip that out, we're still working right around the 3% range.

Our next question comes from John Kim from BMO Capital Markets.

You talked about your first acquisition in nearly 3 years and some opportunities going forward. I'm wondering how much cap rates have moved up for a new products, and also how much you expect to acquire over the next 12 months.

I don't think that cap rates have moved up much at all for new product. There's still a big demand for product. It was sort of interesting in the first quarter, you got a 17% decline in multifamily sales sort of nationwide. And it was still down in the second quarter, maybe down 1%, but that also included the acquisition of Monogram by Greystar. So fundamentally, yes, even though the bid is down a bit, cap rates are still very sticky, especially for high-quality properties. And I think part of the issue you get into with this merchant builder product that needs to clear the market over the next couple of years is that historically, the merchant builder margins have been incredibly wide. I mean, meaning that instead of a 10% to 15%, maybe 20% margin on their cost, which is a good day's work for a merchant builder generally, the margins have been more like 50%, 60%. And so what's happening now is even though the rents are -- so when you think about NOIs, they're depressed because of the free rent that's going on in the marketplace. So when you think about a cap rate, the cap rates really haven't gone up. What's happened is the NOI has gone down. And then you take the juxtaposition of what the asset value is relative to replacement costs. And in the case of the Buckhead Square, for example, we bought that property at $230,000 -- or $230,000 a door, plus or minus, and we think it'll -- to replace this is $260,000-something a door, right? So on the one hand, the cap rate was low, but there's free rent embedded in the market. And yet, for us to replace that product in the same place today is 12% above what we bought it for. So I think that's going to continue to have a dampening effect on cap rates. Then if you move to Houston, for example, the deals trading in Houston, I know that's going to hurt some people on this call's head, at sub-4% cap rates. And there's a deal in downtown, for example, that is going to trade it at a 3.6% current cash on cash return. Now it's brand-new. It's in downtown. It has embedded 2.5 months free rent in it. And so people are able to buy that at below replacement cost at a low cap rate because they're buying by the pound. And fundamentally, people believe and know based on history that the rental rates will go up. If you look at Houston, for example, I think it's a great example, you take 2002, the downturn, in -- if you look at 2001, revenue growth was 8.2%. 2002 was 0.9% and 2003 was down 4.3%. When it stabilized, it took a couple of years to stabilize during that period, they had -- we had 3 years or 4 years of over 5% growth. Same thing happened in the last downturn. So people are not going to say, "Well, I have to have a higher cap rate, and I'm not going to take into account the idea that free rent burns off." So they're basically buying by the pound now. And therefore, cap rates really haven't gone up.

But given this unique dynamic of buying below replacement costs, how big can this acquisition program be?

Well, we -- in our guidance today, we have -- we generally have a net-net acquisitions versus dispositions. And it's an evolving market. I think that this could be a big acquisition opportunity over the next 18 months. We're nibbling at the edges right now. And I think we need to sort of wait -- there's going to be a whole lot more product coming out in the next 2 to 3 years than there is today. And so we could easily increase our acquisition appetite to $300 million plus or minus. But at this point, we're just sort of wait and see. I mean, we obviously have an incredibly strong balance sheet. So we have lots capacity to acquire. And these are the kinds of properties we're going to acquire in the future. When you haven't acquired a lot in the last 3 years, we clearly have an appetite to grow. We're -- ultimately, we positioned our portfolio and our balance sheet to be able to grow through development and acquisition and we plan on it.

Okay. And I thought I'd ask the question, since you're going to be exiting the business, but given your success in student housing, why have you not invested more historically? Is it just too different a business from multifamily?

Absolutely. If you think about the food chain in multifamily. I mean, you have student housing as a great business. You're in student housing, but the challenge is you have a volatility of cash flow. Camden Miramar would -- it was -- it's 100% leased today. And in the summer, it was 40% leased. So the volatility of the cash flow is one thing. The other issue is a lot of the -- for us anyway, the management of that business is just very different than managing market rate housing. You can make the same argument for senior housing. We have a couple of 55 and older properties, and it is just a whole different world. You have to have a different mindset, a different strategy, and this is just -- I think student housing companies do a great job. I think senior housing companies do a great job. But when you mix them together, it becomes a more complicated effort. And I'd rather keep our management teams focused on what they do best, which is market rate housing that they understand really well.

Our next question comes from Alexander Goldfarb from Sandler O'Neill.

Yes. So 2 questions. First, just going back to the merchant build and the pricing opportunity that you're seeing. As you guys look, I mean, you bought a development site in San Diego, but at the same time, you're talking about an increasing opportunity potentially to acquire some of these merchant-built developments over the next few years. So do you see that you may sort of dial back on the development front as more merchant build activity opportunity comes up? Or your view is that there is a balance between the 2 and that the IRRs that you're seeing either on development or on the merchant -- or acquiring merchant assets is pretty similar?

So Alex, the opportunity on the merchant-built product is very submarket-specific. So if you think about our Buckhead acquisition, it -- there was about 2,500 apartments that were delivered, merchant-built product literally within about an 18-month window in that submarket. And overall in Atlanta, that's not a huge deal, but 2,500 new apartments in Buckhead is a huge deal. And so you just had this supply bubble where merchant builders have to respond to that by meeting the market from a pricing standpoint. They compete. They embed free rent in their rent roll. They get to the end of their natural ownership period where their investors are looking for a repatriation of capital, but they haven't burned off all the embedded rent concessions. So you just sort of have an impaired rent roll because of the competition that was -- that all came online at roughly the same time. So it's a very submarket-specific thing. Now having said that, there are a number of submarkets that we play in that have this condition, either currently or coming. And we know. There's Charlotte. It's going to have some opportunities. We know about the Houston story. So that side of it is more dependent on the current supply challenge that we have in a number of our markets. Separately from that, the San Diego transaction, we announced the land purchase. The reality is, is that we probably don't start construction on that product for another 18 months. And then from there, you've got 2 years to deliver the final product, so you're 3 years out. And it's in a market or in a submarket in San Diego where there's been virtually no new construction. So it's just a different animal. And the answer to your question is, we would love to do both. I mean, if I go back to the question Ric was answering, and if we could and had delivered to us, or had the opportunity to acquire $400 million, $500 million worth of Camden Buckheads that had exactly those economics and submarkets that we want to -- that we're either in or want to be in within our existing footprint, we'd buy them.

It really does come down to the balance issue. Because when you get down to it, if we can make a rate of return, a risk-adjusted rate of return on development, we'll do it. If we can make a risk-adjusted rate of return on the merchant builder product, we'll do it as well.

Okay. And then Alex, going back to your real estate tax comments to prior question, you mentioned the 4.75% now and hoping that goes back down to 3%. Would you say that all of your properties have been marked to market? Or your view is that there's still some of your markets where the property taxes haven't been fully marked to where the tax assessors think they should be?

So the way we really operate on the property tax side is we focus a lot on equal and uniform, which is the concept that regardless of what we believe the value to be of that particular asset, it has to be valued in a similar fashion to other comparable assets. And so when we're really looking at our portfolio, what we're really doing is looking at the value that the assessors have assigned to our assets as compared to similar assets, and we're making -- we analyze it that way rather than trying to go through and figure out exactly what the sort of "market value" of the real estate is.

Okay. So do you feel that as you guys did that exercise that everything is valued where it should be on a peer-related basis? Or there's still some areas where you think there are gaps, and therefore. that's why you still think it's still elevated now, and you're not sure when it could be down to the normal 3%?

No. We think as compared to the peers, we think we're appropriately valued.

Our next question comes from Jeffrey Pehl from Goldman Sachs.

I just have a couple of questions, just on Houston and the revenue growth for the quarter. Thanks for all the color so far on the supply, and then your expectations there. Just wondering if you can break down the revenue growth for the quarter for Midtown assets versus maybe the energy corridor and the suburbs.

Sure. The -- well, we -- I don't have the detail for those specific assets, but I can give you generally. So the closer you're into urban core, which is where a lot of development is being delivered, that's the most sort of challenged -- some of the most challenged market. If you take the juxtaposition then to the energy corridor, there is a lot of supply in the energy corridor, a lot of the supply in the urban core. And so both of those markets are getting the same kind of situation with more supply than demand. You then go into the suburbs. So said another way, sort of the high-quality urban core assets are getting hit harder than the sort of suburban sort of B+ assets, primarily because there's just not as much competition between the Bs and the As, if you will. Now I will say also that now Bs -- some Bs are starting to get under pressure because of the A rents coming down to make it more affordable for somebody at the top end of the B market to move into an A at a lower price than they would otherwise have.

So Jeffrey, on -- in terms of specific, the numbers around Ric's commentary on the downtown and Midtown assets, roughly down 10%, 11% on the Uptown product. Suburban assets are flat to up 2%. So you -- the blend of that gets you to roughly the 3.5% that we're down year-to-date in Houston. So it's a -- there's a substantial difference of where the supply impact is happening. And if you've got merchant-built product around you that's giving 2 months free rent, you're going to get -- you're going to have to respond to that from a pricing standpoint. But those are roughly the range of numbers that we're dealing with.

Our next question comes from Drew Babin from Robert W. Baird.

A quick question on Southern California that maybe sounds like the D.C. question from earlier. Speaking about Los Angeles and Orange County, it looks like Camden had a pretty big sequential acceleration in revenue growth there. And I was just wondering what submarkets are strongest, which are the weakest, and maybe why Camden's performance seems to look a little different than some of the other companies reporting?

Yes. So I -- if you look at asset by asset across our Southern California portfolio, it's -- there's not a great variation between the Long Beach market, LA Orange County that we see. They're all -- the strength is across the board. We've got 1 or 2 assets that catch more competition from new product that's coming online in Irvine. And that's always a little bit of a headwind for us and our 2 assets that catch a little bit of the collateral damage from the supply that they bring online. But outside of that, it's strength across the board. And in fact, 2 of our top 5 markets, San Diego and LA Orange County. So I -- just good strength, very, very limited supply relative to any other market that we operate in and, clearly, a robust economy that's on the rebound.

That's helpful. And then going back to completions for next year again. Obviously, completions in Houston are going to be down quite a bit. But in your other markets, are there any other markets in your portfolio where you're seeing a drop-off, not as extreme as Houston, but something in that neighborhood?

So just I'll give you a couple of the highlights and the one that you mentioned on Houston is going to be the largest. We've got a real significant drop-off there. But some other ones where we think we see supply coming down pretty meaningfully, Dallas comes down by 4,000 apartments in total supply; Atlanta down by 2,200; Austin, down by 2,300; D.C. Metro, down by 3,000; and San Diego, down by 2,000. So those would be the top 5 or 6 in terms of declines. That's a year-over-year decline completions in '17 versus '18.

I guess, following up on that, are there any markets where you do see a pickup next year?

Not a single one. We've got red -- 14 red numbers. So I just -- I didn't want to -- I really wanted to mention that earlier when we were talking about Houston on the supply side, but we did get a very interesting stat this morning from the U.S. Census Bureau that reported that the total permits issued in Houston, Texas for multifamily apartments in the -- for the entire month of June was 90. And that's -- we've been doing business in Houston for a long, long time, and I don't ever remember seeing a stat like that. Even in some of the other really severe contractions and -- where it was more job-related contractions, we didn't see numbers like that. So it's -- when we talk about -- it's kind of a theoretical concept of when you talk about permitting activity and the development pipeline just completely shutting down, it's not just a concept. That's an amazing stat that we got this morning. So like just a little bit of color on that.

Our next question comes from Rich Hightower from Evercore.

A lot of questions answered already, but I wanted to hit on a topic that I think has been addressed on calls past. And it relates to this sort of jobs -- required jobs to creating another unit of apartment demand, that ratio that you've seen historically in your markets. And I'm wondering if some of those ratios are changing, just given the composition of the workforce and other things going on. I'm thinking a market such as Austin, such as Dallas, maybe some others, if you have any sort of general comments on that, if you'd noticed any changes.

Sure. The -- historically, over the last 20 years, people would sort of take total jobs. And the rule of thumb was 5 jobs creates 1 multifamily housing demand. And so there are a lot of ratios, a lot of groups still look at that ratio. And I think, though, that you're on to something that, that ratio is sort of broken now. And it's broken because -- and I'll give you a great example of it. In 2016, Houston basically went from 120,000 jobs in '14, flat -- some jobs in '15, but in '16, there were basically 0 jobs. Some people say, 10,000. So very limited jobs. Yet in 2016, they -- we absorbed 15,500 apartment units in Houston. People are like,, "well, how is that possible? You had no jobs." Well, what's happening is 2 things: One is there's this pent-up demand because people have -- we've had this housing shortage going on for quite a while. So there's a pent-up demand. You still have over a million millennials that are living at home or roommate situations because they haven't been able to save enough money to either get out of home or to break the roommate scenario. So there's still a pent-up demand for multifamily. And because of this demographic sort of shift, this millennial that's more experiential, and they don't want to buy things. They don't want to be tied down buying a house. So you delay marriages. You delay childbirth and people having kids. And so all -- that has really fundamentally changed the demand picture for multifamily vis-à-vis how many jobs you need. And then the other part of that equation is -- and I'll use Houston as an example for this as well. So the new product that's being built today is more hotel-like. It's more amenities. There's conference centers. There's art studios and golf simulation rooms. And it's just bars and all kinds of different things. And so that product did not exist 5 years ago at all. And so what's happened now is these empty nester groups are now saying, "Well, I can move into the urban core. I can lease an apartment at what I was paying for my big house in the suburbs. I don't have to drive. And I'm closer to amenities and closer to kind of the things I want to do." And so that's driving demand as well. So I think that the confluence of millennials, the pent-up demand and then the empty nesters moving from suburbs to more urban -- and urban doesn't mean downtown. Urban in a city like Houston means Sugarland Downtown or Galleria or Woodlands or Downtown. So there's multiple urban cores. It's not just a specific downtown. So I do think that is having a -- those 3 factors are having -- changing this whole idea that you need 5 jobs to create 1 multifamily demand.

Our next question comes from John Pawlowski from Green Street Advisors.

Alex, you alluded to the upside to occupancy you're seeing year-to-date. I think through July, you're 50 bps ahead of original guidance of 94.9%. What's the current expectations for full year average occupancy?

Yes. So when we look at the second quarter -- second half of the year, we think that occupancy is going to be fairly consistent to what we saw in the second half of last year. So you're looking at right around a sort of 95.3% type range for the second half. So you can blend that with what we have in the first half, and you've got our full year number.

Okay, great. The key -- the technology package has been a pretty good success the past couple of years. I'm curious what additional revenue growth initiatives you have in the hopper, and how it's going to impact full year '17 and '18 revenue growth.

So what we have running through our numbers today is everything that you know about, which is our technology package. And we still think that, that equates to 65 basis points of additional revenue in the full year 2017. Obviously, we have lots of talented folks, and we're always looking for new initiatives. And when we have something that we're ready to announce, we'll certainly let everybody know about it.

Our next question comes from Wes Golladay from RBC.

Looking at the Buckhead acquisition, how are you looking at supply impact and results of the property next year? It looks like Buckhead will have a decline in supply, but Midtown and downtown, a bit of an uptick. Do think that will impact the results there?

Yes, we -- there's -- obviously, we continue to get new supply in Atlanta. The Buckhead submarket is reasonably well-contained in the sense that if you're -- if that's your first choice, you probably you might migrate over to Uptown. But more than likely if you're a Buckhead person, that's where you're going to want to lease. So most of the 2,000, 2,500 apartments that got started, this was the very tail-end of it. We think that if the supply in Buckhead is the next thing to come online in Buckhead is likely to be an extension of our (inaudible) community. But that's -- it's very, very difficult to manufacture sites in the Buckhead area. And the land costs are only going to continue to increase. So I think we're pretty well-insulated in Buckhead. I don't see a -- we feel pretty comfortable that when we get over into next year and there's really no new supply coming online, we should see a pretty decent bounce-back, not just of the 3% or 4% variety in Buckhead because you've got depressed rents. And we know from history that when you have a supply issue in an otherwise healthy economy, the rents tend to go back to prior peak pretty quickly once the supply problem goes away. And you're -- so you're not resetting rents from -- we're going to grow rents at 3% from the bottom, which is a supply-impaired number. You're going to get back to what people will -- what the average person is willing to pay to live in that submarket once the supply clears.

And when you look at your supply number, you said it's going to be down next year for your market. So you're looking at that a submarket level or just the broader market?

We look at it -- when we're doing our revenue projections, we do a complete bottom-up, which includes all new supply that would impact any of our communities in that submarket. So we look at it in both ways. It's instructive, though, to be able to kind of think directionally about, is the market produce -- is it going to produce more or fewer units. But ultimately, the game and the story is, how many of those completion of those units that are -- of the completion drop is going to happen that's adjacent to or impactful to the community that you have to be operating in.

And our next question comes from Karin Ford from MUFG Securities.

I wanted to ask about the downtown Houston development start. It's a fairly large deal at $125 million. Can you give us your latest thoughts on where you'd like to have your capital allocation to Houston in light of that? Would you consider a JV on that deal or selling some assets in Houston? Where do you want Houston to be as part of the portfolio?

Well, first of all, we would not consider a joint venture. We are very anti-joint venture. We have one of the cleanest balance sheets in the multifamily sector. And we have one big joint venture with Texas Teachers, but it's a blind pool unilateral decision-making process with Camden only. So that's number one. In terms of where -- we like Houston long term. I mean, Houston is a dynamic market. It's going through its weak period right now because of supply. It weathered the energy storm very, very well relative to historic energy downturns that we've had in the past. We're at -- this -- we're at about 10.5%, I think, of our net operating income in Houston right now. And if we did nothing else, this would take it up about, by 2020, to about 11.25% or something like that. It is a large project. It will be one of our premier assets. It's a high-rise, 21 stories, and we're moving more towards this kind of concrete construction just because it holds up better long-term versus stick. I think when we -- when you think about where we want to be portfolio-wise, I like where we are in Houston because I did like the market long term. Will we continue to recycle capital the way we have in the past? Absolutely. We will continue to look at our portfolio on an ongoing basis and decide which assets are going to be slow grow and then reinvest that capital to these higher-growth, higher-quality assets. So we'll have -- when we think about this $125 million investment in context of Camden, it's not that huge relative to our portfolio. But will we sell other assets to fund it? Perhaps. And we will -- the capital recycling is not something that you just do and stop. It's something that you have to do all the time. I mean, if you go back to our history, I think we only own 2 or 3 of our original IPO assets, if you can imagine that. And we've recycled billions and billions of dollars, and we'll continue to do that.

And our final question today comes from Dennis McGill with Zelman & Associates.

I know we're running over, so I'll try to be quick here. First question has to do with the balance sheet. If you were to kind of underwrite a scenario similar today for the next 18 months or so, and see some opportunities to take advantage of the acquisitions, as you said, where would you be comfortable taking leverage in that scenario to accomplish that?

Yes. So if you think about where we are today, we have the absolute strongest balance sheet in the multifamily space, debt to EBITDA at 4.5x. Would be comfortable increasing that a little bit? The answer is yes, but probably not much more than sort of a 5x type ratio.

Okay. Perfect. And then on the ancillary income side, I think in the front half of the year, all the ancillary income was about 100 basis points. How much of that was the technology side?

Yes, it was almost entirely. So if you look at the first half of the year, technology impact was basically 90 bps.

Okay. And so that's gone to roughly 30 bps in the back half?

That's correct.

Okay. And then last one, I think you had talked about the supply in '17, I think you said 150,000 across your markets. How much of that is still yet to come for, let's say, second half of the year?

So we have -- of the total 150,000, it's pretty evenly split in '17. It looks like about 76,000 in the first half and roughly 74,000 in the second half.

And we have a follow-up question from John Pawlowski with Green Street Advisors

Just one follow-up to the Houston development question. Correct me if I'm wrong, but didn't the scope of that project increase $100 million this quarter? I'm just curious what increased it.

I'm sorry. You said $100 million?

Yes. If I'm looking at the development pipeline, Camden -- what was Camden County last quarter, $170 million. And now Camden Downtown is the new name split into 2 phases. The aggregate cost is $270 million.

Right. So that's a good question. I'm not sure that -- the Camden County was sort of a holding pattern. And we were deciding whether we were going to do midrise, stick, or high rise. And so the variation is we decided to do this 21-story high-rise, which is roughly $125 million. And it's still the jury is still out to what we will do with the second phase. So I think we just put a holding pattern in and assumed it will be a twin tower, and that's why the cost went up. But I will tell you that from what we originally price these projects, cost continues to go up from Houston. We were sort of expecting costs to come down with the energy situation and all the construction starts that have been -- when you think about multifamily market is -- has started to decline dramatically. But we have not seen costs come down at all. The challenge in Houston is that there's a lot of petrochemical construction, a lot of schools, medical center, and we just haven't seen any costs coming down. So it's really been a combination of costs going up, but also just the product type changing.

And we also added an escalation factor to the second phase for Camden Downtown. So that's why you're seeing a higher number for the second phase because it will be started several years later.

Okay. But the best guess on aggregate outlay for these 2 sites is $270 million right now?

That's correct.

Assuming we build the second phase as a comparable tower 21-story high-rise product that Phase I is, yes. But that decision is way down the road.

Yes.

We appreciate the call and we will visit with you in the upcoming conference season after Labor Day. Thanks.

Ladies and gentlemen, that does conclude today's conference call. We do thank you for attending today's presentation. You may now disconnect your lines.