住宅地產 (EQR) 2005 Q3 法說會逐字稿

Good morning. My name is Tonisha and I will be your conference facilitator today. At this time I would like to welcome everyone to the Third Quarter Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers remarks there will be a question and answer period. [OPERATOR INSTRUCTIONS] Thank you, Mr. McKenna, you may begin your conference.

Thank you. Good morning and thank you for joining us to discuss Equity Residential's third quarter 2005 results and outlook for the remainder of the year. Our featured speaks are Bruce Duncan, our CEO; Donna Brandin, our Chief Financial Officer; David Neithercut, our President and Jerry Spector, our Chief Operating Officer. Our release is available in PDF format in the Investor section of our corporate website, equityresidential.com.

Certain matters discussed during this conference call may constitute forward-looking statements within the meaning of the Federal Securities Law. These forward-looking statements are subject to certain economic risks and uncertainties. The company assumes no obligation to update or supplement these statements that become untrue because of subsequent events. Now I will turn it over to Bruce.

Thank you, Marty, and good morning. We welcome all of you from the home of the world champions, the Chicago White Sox. We had a good quarter, and business continues to improve in almost all of our markets. It would really be good if we could ever escape the continuing hurricane hit. All operating metrics continue to trend positively. Occupancy is up, rental rates are up and concessions are down. And we are very well positioned for 2006.

I am going to let Donna talk to you about the specifics of the quarter and our guidance for the balance of the year. David will discuss our robust investment activities, including acquisitions, dispositions, development and condominium conversions. He will also talk about how he sees 2006 shaping up.

This is my last opportunity to address this [INAUDIBLE] and esteemed audience as I am retiring at the end of the year to eat bon-bons on the beach with my bride. As such, I would like to spend a minute to review what our fantastic team at Equity Residential, all 5937 smart, talented, energetic and engaged people working together have accomplished over the last three years and why I am very optimistic about our future.

When I took over as CEO of Equity almost three years ago, we put together a strategic plan which said that our focus was not on getting bigger but on getting better. That is at the time we owned nearly 230,000 apartments in many markets across the United States. We wanted to rationalize what we owned and focus our efforts on fewer markets and better markets. We also said that we would become much more proactive in recycling our capital and focus on increasing the quality of our portfolio both physically and locationally. Our team has done a wonderful job executing on this.

Today our portfolio count is down about 35,000 units to 195,000 apartments. Over the last two and three quarters years we have sold over 50,000 apartments which were mostly physically or locationally challenged, totaling almost $4 billion. We have significantly reduced or eliminated our exposure to markets such as Lexington, Louisville, Cleveland, Greenville, Greensborough, Memphis, Richmond, St. Louis, Kansas City, Tulsa, Birmingham, Salt Lake City, Albuquerque, and Detroit. This compares to dispositions of less than 20,000 units in the preceding three years from 2000 to 2003.

During the last two and three quarters years we acquired over 20,000 apartments with an aggregate purchase price of 3.8 base. This compares to 1.7 billion of acquisitions in the preceding three years. These acquisitions have been focused primarily in the higher barrier retention markets such as New York, Boston, Washington, D.C., Florida, Southern California and Seattle. Additionally through our development efforts over the past three years we brought online over a $1 billion of newly constructed apartments. As a result the most important thing for you to remember is that our portfolio is much, much, much better than the portfolio we had only three years ago.

Five years ago our top 20 markets represented 65% of our NOI and today our top 20 markets represent over 83%. And today approximately 60% of our NOI is coming from high barrier retention markets compared to a little over 30% five years ago. It positions us very well for the future.

We have brought more discipline and consistency to our property management operations by consolidating four operating divisions into one and focused or efforts to harness the size and scale of our tremendous operating platform. This will drive value by reducing costs and increasing revenues by taking advantage of our increasing dominance in the markets we serve. We've enhanced our ability to create value by forming an in house development group to compliment our third party joint ventures development program. Our condo division is doing extremely well, extracting additional value from our portfolio as we continue to focus on converting mostly our older apartment stock that have barely modest price points, which should help protect us when the condominium market slows down. This is a long-term business for us, although sales represent only about 1% of our existing inventory this year.

Finally, we've been a leader in implementing the highest standards of good corporate governance. Three years ago we were in the bottom 40% of real estate companies and the bottom 10% of the companies in the S&P 500 in terms of corporate governance scores. Today we're in the top 1% of real estate companies and the top 7% of S&P 500 companies.

All of these accomplishments are the result of the hard work and dedication of the outstanding team we have here at Equity Residential. That is why I am very confident under David's great leadership we have a very bright future.

With that, let me turn it over to Donna to talk to you about the specifics of the quarter and our guidance for the balance of the year. Donna?

Thanks, Bruce and good morning everyone.

For the third quarter 2005 Equity Residential earned $0.86 a share versus $0.26 for the second quarter of 2004. Funds from operations for the quarter were $0.56 per share compared to $0.50 per share for the same quarter of 2004. This was in the middle of our guidance range of $0.55 to $0.57 per share. Had it not been for the special charges described below, we would have exceeded guidance.

In comparing these results with third quarter last year, you may remember that last year's third quarter results included 14.1 million or $0.05 a share charge related to the impact of the hurricane. This year third quarter results include 6.2 million or $0.02 per share charges related to the Hurricane Katrina and three property fires. To adjust for these events, 2004 and 2005 Q3 FFO's are $0.55 and $0.58 respectively.

The $0.03 increase is a function of the following items: higher condo sales was a bigger driver in the third quarter 2005. Sales of condominiums resulted in contribution to FFO of $28 million or $0.09 per share versus a contribution of FFO of 7 million or $0.02 a share in third quarter 2004. Same store results also improved, contributing to an incremental $0.02 per share versus Q3 2004. This $0.09 positive variance in FFO was offset by $0.05 per share in higher interest expense including $0.01 per share for preferred share redemption expense and $0.01 dilution due to additional shares outstanding and $0.01 related to various other smaller items.

For the third quarter 2005 same store results reflect conditioning improvement in the economic environment. Same store revenues increased 4.3% which was primarily the result of a 1.9% increase in rental rates, a 42% reduction in concessions, as well as an improvement in occupancy of 1.1% to 94.7%. Same store operating expenses increased 6.2% and same store NOI for the quarter was up 3%. Q3 same store expenses included 3.7 million, attributed to Hurricane Katrina and fire related charges in the quarter. Excluding these charges, same store operating expenses were at 4.1%. This reduction in expenses is due to the acceleration and the timing expenses into Q1 and Q2. This acceleration was in response to our desire to get units ready in anticipation of improving market.

On a sequential basis from the second quarter 2005 to the third quarter of 2005, same store revenues increased 1.5%. This was driven by 1% improvement in rental rates an 11% decline in concessions and a modest improvement in occupancy to 94.7%. Operating expenses increased 5% and NOI decreased a tenth of a percent. Without those extraordinary $3.7 million in charges, expenses would have increased 2.9% and NOI would have increased 6/10ths of a percent.

Results from our condominium business in the third quarter were again excellent. During the third quarter we sold 817 units resulting in a contribution to FFO after taxes and overhead of $28 million versus the sale of 208 units and a contribution to FFO of 7 million in Q3 2004. The $0.09 per share contribution to FFO is after the allocation of condo overhead and taxes of $6 million. This business continues to be very profitable and David will provide more detail regarding this business.

Let me now talk about systems implementation. As discussed on previous calls, property systems implementations continue on track. As you recall, we are implementing the following system: MRI, which is a property management system, LRO, a pricing management system, [OPS] technology, a vendor payment system. These systems will allow us to improve operating efficiencies, maximize revenues and reduce costs through our various initiatives. We expect a 2% one-time lift in revenues relating to the pricing initiatives to be realized as the program is rolled out. The 10 to 12 million in savings from our centralized purchasing initiative, of which approximately 70% is capital, should be realized in 2006. Capital costs related to this integrated system implementation continues to be estimated at 17 million. We will incur $0.01 per share of expenses to support the project in 2005, which is in our guidance. In 2006 and 2007 the expenses to support the initiatives will be 2 to 3% per share.

Let me turn my attention to the balance sheet. Equity's debt to market capitalization continues to be very strong at 36% at the end of the Q3. Our percentage of floating rate debt declined from 22% of total debt at the end of Q2 to 16% at the end of Q3. This reduction in floating rate debt was driven by a 10.5 year 500 million 5 1/8% bond issuance executed in is September 2005 and the pay down from $428 million on a line of credit to zero at the end of Q3. We currently have 130 million on our line today.

We expect debt to market capitalization to temporarily increase next quarter due to the anticipated closing of the Riverside transaction scheduled for early November. This nearly $800 million investment will be financed from existing $200 million of 1031 proceeds and 200 million of unrestricted cash. The remainder will be refinanced through our lines of credit. Disposition proceeds are expected to quickly return debt to market capitalization and percentage of floating rate debt back to a more historical level.

Finally as discussed during the last call, and consistent with our policy, we announced the redemption of 125 million of a 9 1/8% Series B preferred share. These shares were redeemed for cash in mid-October. The irrevocable notice was provided in Q3, resulting in a $0.01 redemption charge during the quarter. The actual payment, however, was made in Q4. We also announced a new $500 million share repurchase authorization. This is a total of 585 million available under our existing authorization.

Let me turn my attention to guidance. In terms of same store, I would like to wrap up my remarks by addressing guidance for the fourth quarter and the year. We believe that the rental market will continue to improve as we are expecting same store analog guidance to be 2.5% for the year. Without the fires, and the hurricanes, it would be 2.9%, which is at the higher end of our original guidance gain.

Let me now talk about FFO current guidance versus prior guidance. If it were not for the unusual events, we would have met or exceeded the high-end of our guidance range. Condos were $0.07 higher and an [Tyson's] Gain, sales of Tyson's Gain land sale, was also $0.05 higher which would have resulted in an FFO impact of $2.50 per share versus our mid-points of $2.48 per share. Unfortunately some of the positive variances were more than offset by Hurricanes Katrina and Wilma, three fires, and higher interest expense related to higher rates and prepayment penalties associated with the early termination of debt. However, Please note the estimates of the Wilma damages are still preliminary. These reductions are what takes our guidance down to the $2.43 to $2.46 range.

I would like to now turn it over to David.

Thanks, Donna. Good morning everyone. I know it is a pretty crazy couple of days for everybody in preparation to coming to Chicago and we will look forward to seeing everyone over the next few days. During the third quarter the Company continued to execute on our strategy of repositioning the portfolio, recycling capital from older assets in slower growth markets into newer assets in our target markets which include the high barrier markets. This portfolio repositioning and really an upgrade in the overall quality of the Company's portfolio received a big jump start when Bruce started pushing us in this area three years ago. Bruce will have left his mark in many places when he leaves us at the end of the year, but none bigger than on the composition of our portfolio and we are all very grateful for that as well as the many other contributions he's made to our future success.

Starting with acquisitions, in the third quarter we acquired six assets totaling 2294 units for $416 million. That was done at a weighted average cap rate of 5.7% and average age of six years and average price per unit at $181,000 per unit. 50% of the activity in the quarter was the Harbor Steps property in Seattle Washington which we talked about in length in the last call. That's located in downtown Seattle, represents 758 apartment units and was acquired for approximately $219,000 per unit and a cap rate of 5.69%. In addition to Harbor Steps in the quarter we acquired a property in Denver built in 2003 for $119,000 per unit at a 5.3% cap rate, a property in Orlando built in 1999 we acquired that for $101,000 per unit and a 6.4% cap rate, in Jacksonville, we acquired a property built in 2000 for $118,000 per unit at a 5.5% cap rate, in New Jersey a property built in 2000 for $188,000 per unit, acquired at a 5.33% cap rate, and then in Maryland outside of the District, a property built in 1985 for we acquired for $124,000 per unit and acquired at a 6% cap rate. There have been no changes to our goals of $2 billion of acquisitions for the full year '05 and of course included in these goals is the purchase of the 1325 unit Trump Place property on the upper west side of Manhattan which is expected to close in the next few weeks.

Turning to dispositions in the third quarter we sold 15 properties totaling 4218 rental units for $433 million and at a weighted average cap rate of 5.2%. The properties we sold during the quarter averaged 28 years old and sold at an average of $103,000 per unit. These sales were in the following markets: we sold two 20 year old assets in Dallas in the quarter. We sold a 25 year old asset in Atlanta, a 40 year old asset in Portland, Oregon, a 34 year old asset in Cleveland, Ohio, and two properties in Alabama.

It is interesting to note that again as in the first quarter when we sold our Water Terrace property in Marina Del Ray we had a positive spread between dispositions and acquisitions and continue to have a positive spread for the first nine months of the year although this spread will narrow significantly by the end of the year with the purchase of the Trump Place properties. Driving this 5.2% average disposition yield for the quarter were one of our last stick built properties in south Florida, a 10 year old asset which we sold at a 3.85% cap rate. A 2 year old deal built in our Lincoln Property company joint venture located in Quincy, Mass., which we sold at a 4.65% cap rate and a 40 year old asset in Portland, Oregon I mentioned previously sold at a 4.4% cap rate. For the quarter all of these assets were sold in a 12% unleveraged IRR and the gains on these dispositions and again this is on the third party apartment sales only does not include any land sales and any condominium conversions. The total gain on these sales was $202 million of which 120 million or 59% represented economic gain.

In addition, during the second quarter we closed 817 units as condominiums for a total of $230 million. Of these we closed 538 for our own account and 279 were closed by our joint venture partners. Included in the 538 units closed by our own conversion subsidiary were 248 units in a single property that we flipped to another converter for a $4.6 million profit. This was an asset in south Florida that was in our taxable REIT subsidiary with a goal of converse to condominiums. However, while we were in the middle of legal process we received an unsolicited offer to sell the property at a profit that represented in our minds anyway about 50% to the conversion upside with none of the risk, so we hit the bid. This property is Riviera Palms and it is listed under Closed Out in Footnote 2 on page 22 of the supplemental information included with today's press release.

For the nine months ending September 30, excluding condominiums, we've sold 39 assets totaling 10,212 units at an average cap rate of 5%. To the best of our knowledge 7 of these assets comprising 2069 units, about 20%, were sold to buyers intending to convert these properties to condominiums. So I would like to make a point here, because I believe that what we're doing with respect to our approach to condominium conversions has been a bit misunderstood by some.

We are certainly converting some assets for our own account by our own conversion team, but we are also selling assets at very strong pricing to third party converters including the Florida asset that we were in the regulatory process of converting ourselves. We are trying to be opportunistic and evaluate the risks and rewards with every asset. The decision to convert ourselves is based on the expected profit compared to the highest price we might receive from a third party buyer. If it makes more sense to sell, we sell. If not, we'll undertake the conversion ourselves. We have certainly taken advantage of the opportunity to sell assets directly to converters.

Turning more specifically to the condominium business, as Donna said it continues to produce excellent results for the company and represents a terrific opportunity for us to sell our assets at premium prices to capture additional value for our shareholders and we're pleased that we will significantly exceed our original expectations for the full year. In the third quarter we closed 817 units, including the 248 units we flipped to another converter that I mentioned earlier, or 569 units to retail buyers. The condo business produced $27.8 million of FFO for the quarter, about 3.6 million ahead of budget primarily due to more unit closings than budgeted in the quarter by our joint venture partners in Washington, D.C. and Irvine, California.

Please understand this benefit to the third quarter was simply stealing closings from future quarters. As a result, fourth quarter FFO contributions from these ventures will be reduced from the third quarter levels.

After taxes and overhead, the condo business has delivered $56 million of FFO through the first nine months of this year and we currently expect the condominium business to contribute 72 million of FFO for the entire year after taxes and overhead. This is up from a budget of $50 million going into the year. This implies a $16 million fourth quarter FFO contribution, a reduction of 12 million from the 27.8 delivered in the third quarter and this is primarily from a couple of things, first, the Riviera Palms will not be replicated, and as I mentioned the JV timing will be reduced by about $7.8 million from quarter to quarter.

On the development front, one new development was started this quarter in Ontario, California noted on Page 21 of the supplemental schedules. This is a 300 unit deal and budgeted to cost $52.4 million, about $175,000 per unit and the projected stabilized yield on this development is 7.7%. We are currently working on a development pipeline of 4,000 units with an estimated capital cost of $1.2 billion. Of these projects, we currently own directly or in partnership, sites for 2110 units with a capital cost of $715 million, about 58% of the total pipeline. The balance of the pipeline is optioned or otherwise controlled but not yet acquired. We continue to have a goal of starting $300 million of development deals this year, those that don't like -- will likely start in 2006, but I will tell you that in caution you the development costs are up considerably, up 15 to 20% since the start of the year and seem to be going higher and we're going to take a very critical look at these pending deals in Boston in New Jersey and Washington, D.C. The range of the development deals for our development pipeline are the mid-6's to the mid-8's.

Before we open the call up to questions, I would like to make a few comments on the current condition of the apartment business. First of all, with respect to our own same store revenue, we've just experienced the sixth consecutive quarter of positive same store revenue growth. We certainly expect the seventh in the fourth quarter of this year. To put this a little bit in perspective, we've owned nearly 129,000 apartment units for the entire period starting January 1st, 2000 through the first nine months of 2005. This essentially represents a same store portfolio for the last five years and nine months. The high watermark for monthly revenue collected from this portfolio and that is the cash in the bank, was $108 million in September 2001. As you all know, it was downhill following the tragic events of September 11 of that year. Since January of 2004, there has been a steady increase in monthly collections each and every month. Revenue from this same portfolio of 129,000 units was $107 million in September 2005, essentially on top of the previous high watermark.

So where are we today?

In the third quarter of 2005, we were 94.7% occupied. We've seen incredible appreciation of single family homes, pricing in most of our markets and those in which we operate which is widened the affordability gap in most of our markets. There has been very little new supply of for rent apartments added to these markets since most new construction has been for sale product. In addition, there has been a lot of rental units taken off the market in many of these markets, as more and more units are converted to condominiums. And at the same time we continue to see good job growth in economic activity in our markets which is increasing demand for rental apartments. You put it all together and we expect to end the year extremely strong with fourth quarter same store revenue growth of nearly 5% and we would expect to get off to an exceptional start in 2006.

With that, operator, let's open the call to questions.

[Operator Instructions] Your first question is from John Litt of Citigroup.

Hey guys, it's John Stewart here with John Litt. Donna, thank you for your comments reconciling the prior guidance to the current range. You mentioned prepayment penalties as one element of the change. Do you expect additional penalties in the fourth quarter and can you quantify the amount?

Yes, I can. In the current year we decided to do pay down some mortgage related debt and that was not in our original guidance and it was around $8 to $10 million.

In the fourth quarter.

In the fourth quarter, no additional charges.

Thank you. And David, can you comment on your expectation for the sustainability of the $72 million of condo contribution?

Sustainability into future years?

Yes.

As I mentioned on many of our calls, John, we believe this business for us will have legs. We think that the condominium conversions – the condominiums in many of our markets represent great starter homes for many people. We'll give guidance for 2006 in February when we close out the 2005, but I will tell you we'll lose in 2006 the benefit of the joint venture deals which have contributed a great deal of FFO and we will have to work hard to get back to that level with our own conversions for our own account. We are looking at properties, we approved another one yesterday in the investment committee and we're going to do our best. But the guidance will have to wait until February.

Okay. Can you refresh our memory in terms of how much you expect to spend on information technology and how that breaks out between the various platforms?

Don't really have a break down by specific platforms, because there is a lot of overlap, but we have a capital spend of approximately $17 million and then we have increase in operating expenses due to monthly maintenance fees and education and training that will take the overall investment up probably close to 25 million.

Thank you.

A portion of that being expense and most of it being capital.

Thank you.

Your next question is from Jay Leupp of RBC Capital Markets.

Good morning. Here with Dave Ronco. David, you talked some about your development yields, and can you talk about what your expectations are for the broader U.S. market in terms of development deliveries in '06, and how aggressive will you be in growing your development pipeline if we continue to see the up trend in multi-family fundamentals?

Well, I guess we continued to see, Jay, deliveries in the 300 or so thousand unit range but a significant and increasing market share of that has been for condominiums. It is tough to build apartments out there. The properties we're building as apartments are either properties that -- land that we had tied up sometime ago, land that had been on the balance sheet representing some incremental opportunities to create value and assets that we acquired some time ago. But I am telling you it is hard to find new deals to build. And construction costs going up, I think is going to take some of the momentum out of development delivery in 2006 as well.

On the other hand, though, while construction costs are up, I think everybody has to be underwriting better revenue expectations and perhaps more optimistic growth in the revenue expectations. So that may take some of the sting off of the development, but I would be surprised if you saw there be significant increases in development next year just because of what's happening to construction costs.

Okay. Thank you.

Next question, Ross Nussbaum of Banc of America.

Hi. I am we're with Karen Ford. I thought I heard earlier in the call you were expecting a 2% revenue up lift in 2006 due to the new revenue management system? Is that correct?

That's not correct. That's over a period of years after full implementation. We anticipate getting it. We're just in the entry phase of implementation in 2005, so probably majority of it will be fully implemented in 2007. We're going to have a partial bump in 2006, again, this is really forecasting because it is really hard to determine how much of it will be market change and due to this, but our expectation is we should realize about $6 million next year with most of it coming in 2007 because we'll still be in implementation throughout 2006 and won't get a full effect until 2007.

Okay. With respect to your regional performance, looking at it, it looks like New England, Boston was one of the weaker regions. Can you shed light on why that was? One of the other public competitors who’s had a pretty high quality portfolio had pretty strong results up there. I am curious as to what's causing your New England performance to be weaker.

We have quite a few different types of assets floating around Boston, and actually we had a very strong performance from our higher end downtown assets, but that's being offset by a lot of the different suburbs that are not performing quite as well. We have a very broad portfolio throughout there, including some lower price points and some controlled rent deals as well as some of the high rises and luxury end properties, and the high rises in the downtown Boston area which you're comparing against actually performed very well relatively speaking.

Final question is can you give us color on what the condo profit margins were in the third quarter versus where they've been tracking?

Well, the condo profit margins continue to be in the 18 to 20 or so percent range. That's on a pre-tax basis, but we are now in a position where we're starting to pay tax.

Okay. Are you using brokers at all or selling these on your own.

We engage third party sales people to handle the actual sales in all of our markets.

Where in your disclosure do those sort of costs show up on the condo?

That's just a cost of sales. We've got the disclosure has the gross and then the net and but the actual cost of sale would be in what line item. The cost of sale that's netted out.

Okay. And then what percentage of your residents are actually purchasing units and have you seen any change in that.

A fairly small percentage, less than 10%. Really haven't seen much change there.

Any animosity towards EQR, sort of branding in the market for kicking people out?

No. In many of these markets we're happy to accommodate them in other properties that we have. No, I don't believe so at all. Look, I am sure you have people in apartments for awhile that don't want to leave. I wouldn't say there has been animosity in the marketplace.

Thank you.

Your next question is from Rob Stevenson of Morgan Stanley.

Good morning, guys. David, in terms of the Florida asset that you sold to the condo guy as a whole thing, what was the gain specifically on that one? How meaningful was that?

That's the whole 4.6 million -- $4.6 million is listed in the supplemental.

Okay.

We bought it and we incurred transaction costs, we sold it and incurred transaction costs. That was the net gain on the wholesale disposition.

Okay. And then as you go through and continue to evaluate the 4,000 units in the pipeline, as costs go up, et cetera, you were talking a mid-6 to mid-8's in terms of current yield. Higher development costs might wind up shifting that a little bit. What's the sort of spread that you think that you need to get today over an acquisition in order to green light a development?

Well, we're looking for 100 to 200 basis point premium to compensate for the development risk.

Okay. So basically even if mid-6 development yield drops down to a 6, it is still if you can't buy anything 5 or better in that market, it is still something attractive.

You also have to compare to yields you're selling assets for as well.

Okay.

We look at that as an investment option, looking at that yield compared to acquisition opportunities and that's being funded by the yields you're getting on your disposition. There are deals trading in the markets we sold some of them ourselves with 4 handles. Anything in the 6 is a pretty decent spread.

Okay. And then last question, what was the move outs or turnover during the quarter and what was the percentage of move out to home purchases?

There has been really no change on the purchasing. It is still in the low 20% range. Turnover was about 19% for the quarter and it is trending towards the low 60's for the year.

Okay. Thanks, guys.

Your next question is from Chris Pike of UBS.

Good morning, everybody. I guess first question for Jerry in terms of LRO, you’ve obviously been looking at this for awhile. Understanding that it is an effective rental model, what has your experience been with respect to the local site folks and in moving from a concessionary pricing environment into an effective one?

Well, we've tested LRO for a period of a year-and-a-half, and we also had an internal model that we had running alongside as well. And in both cases what we found is we got better than a 2% lift in our model as well as LRO, and that was pretty consistent in different markets. So our sense is even after you convert to net effective, it seems to, net-net, still drive revenue up a couple of points, and I think the world is going to get a lot easier when you get to net effective rents because the old loss to lease issue really is a problem when you have deteriorating rents and you have to go back up. Net effective rents is becoming more common place.

And I guess for the $2 million increase that you're going to recognize or you hope to book over a certain amount of time, I guess that bakes into the amount of time that's going to take to convert what you guys have done great job in terms of burning concessions now, but that will continue to take into consideration the additional concessions in the rent roll?

Yes, it is and 2% not 2 million.

I am sorry.

2% over a period of about three years.

Just one more question on the topic and I have one other item to talk about. In terms of LRO, one of your competitors who uses it and instilled certain type of compensation arrangements for the site level folk to try to improve revenue, given the pricing mechanism of LRO itself. Are you guys going to think about some type of additional compensation at the property level similar to, let's say, similar to Archstone does it?

They've got a couple of different ways from my understanding of what they're doing and I think they are trial testing a different way of compensating people. We have a few different methods of doing it ourselves and we're going to play with that and we're going see if there is a better way to align compensation. But we do that pretty much with every aspect of our business. We're trying to lineup compensation to drive the results we're looking for in each role, so certainly we probably would expect some level of change there where they have control effectively. But the pricing system really jigs up the price and they don't have a lot of flexibility on the price. There will be more focus on renewals, for example, where we have some negotiating capability within that and that will be refocused there and we'll be looking at compensation to align all of our employees interests with ours.

And I guess just last question kind of related, but in terms of Bane and the procurement and savings on procurement expense I hopped on a little late and I heard a lot of good things about RO and driving top line and maybe you could refresh me where we stand with that. Are you start to also really see Bane initiatives really start to go sink in on expenses and procurement and all of this other stuff?

Yes, the Bane investment was about $15 million, thereabouts, I think, and at the end of the day, we have procurement savings in that range already that we're realizing between capital and expenses as well as, they also focused in on -- they brought us along on the revenue management side as well. So the spend that we had with them we were realized great returns when you add up the procurement piece of the puzzle and all of the revenue gains that we have. We went through a renewal strategy session with them as well as revenue management, so the procurement alone has more than given us the returns we needed for that expenditure.

Okay, great. Thanks a lot, folks.

Your next question is William Atkinson of Merrill Lynch.

Thank you very much. On the taxes you're paying on the condo sales now, it looks like the rate was an 18% tax rate in the third quarter. Did you have some NOL's in there?

Partial NOL's that came through in third quarter as well, yes.

So I guess, adjusted, where is it going to be going forward? Are you going to go up to the full 35, 40% rate fourth quarter and going forward?

That's what our expectation would be 35% to 40% depending on state tax rates.

Okay. And then just on condos sentiment, is there any indication that the lower price point condos are doing somewhat better in some of the more over supplied markets or did you have any anecdotal evidence that should be the case?

I just will tell you that within our own business and as you noted, Bill, that's selling assets at the lower price point, we continue to experience very strong velocity on our sales. We have not seen any let up in the demand for our product at that price point.

Okay. On Trump Place, everything is still all good to go there?

Everything is good to go on Trump. We're expecting to close in the next few weeks. The property is operating extremely well. Rents have moved considerably since we underwrote the property in June, as high as 7 or 8% higher rents today than what we underwrote or what we saw in the marketplace in June. We continue to be excited about that asset and look forward to having it under management.

In your disposition guidance, does that include the 380 million year-to-date of condo sales?

The disposition guidance of a 1.4 billion is just the wholesale property disposition to third parties does not include the condominiums sales.

Okay. And on San Francisco, it looked like it is turning. We've been waiting a long time to see some movement there. 4.1% revenue gains in the third quarter up from 1.8 in the second and 2.2% sequentially. Does it feel like it is really happening?

Well, if you look at the last five years of history, it is actually showed some level of gain, but it is down still pretty close to 20% for the Peaks.

Sure.

Yes, there is a -- it has been flat for us over the last three years, and this is the first year we've started to see some momentum, and the lease numbers are looking good right now so no let up we see right now. Looks like it could get back on track and may take ten years to get back there. I don't know. At this stage, at least, it is positive direction.

And then just a couple of clarifications on I think I heard you say that because of the direction the costs are going in, you're probably not going to be expanding development activity?

I would say we will continue to be very critical and look cautiously as expanding development activity, but we continue to have a goal of trying to start 4 or $500 million of development a year, but with costs up as much as they've been this year, and with an expectation of those costs continuing to go up, we're going to be -- give a very critical view of those, and we'll start when it makes sense and postpone if it makes sense, but we continue to want to build the assets and think we'll get decent returns because the expectations of top line performance is higher today than it was. We've got to be -- have to be very cautious.

Costs are up 10 to 15%.

They're up more than that year-to-date and seems like they're still climbing.

What's the better number?

I would say 15 to 20.

15 to 20. And then I think I heard you say you expect same store revenue growth of 5% in the fourth quarter.

As much as 5% in the fourth quarter.

Okay. Thank you very much.

Yes.

Your next question is from Mark Berry of Geenstreet Advisors.

Hi, David.

Hi, Mark.

Just a follow up on question on the development costs is that 15 to 20% including land or just the --

That would just be the sticks and bricks.

And a question about your high barrier versus low barrier markets. Are you seeing any trends in cap rates moving up potentially in the lower barrier or lower trends in the gap between the two types?

I guess not yet, but I think that there -- we're looking at that very closely with the concern or the expectation that we'll start to see some weakening of cap rates in the tertiary markets while continuing to go see strength in the markets in which we're looking to acquire, which is why we continue to have a very aggressive disposition program in place.

And my last question is also about the high and low barrier. You had some very strong growth in Florida and L.A. and in the high barrier markets out East as well. I just wanted to ask if you think we'll see the same markets potentially out performing or whether we might see a new set of markets later cycle start to really hit stride as well?

Well, it is tough to say and I will kind of give you a non-answer by saying I think you will see both. You will see some markets that have maybe just found the bottom or just started to recover show some very good strength, such as Phoenix. I mean, Phoenix is sort of a great example we've seen high single digit growth there. You have other markets where because you hadn't ever seen any downturn, you may see what might appear to be reasonably low growth, maybe only 3 or 4, but that would have been three or four on top of the past four or five years of compounded decent single digit growth. I think you will see strong performance in the markets you'd expect, but I think there could also be surprises out there because markets will have turned the corner and start to recover a lot of the gains they gave away over the past four years.

Thanks.

You next question is from Rich Anderson of Harris Nesbitt.

The 1.1 billion in acquisitions year-to-date, does that include Trump.

No. Trump will be a fourth quarter acquisition.

And with regard to Trump, what do you think the intangible is if people live there because of the big T. R. U. M. P. on the outside? How much do you think that is a factor of people sticking around and could you have some occupancy loss because people lose that cachet of where they live?

It all depends on who you ask.

Maybe you put a [ZEL] out front.

No. We intend to keep the Trump name and have the right to do so.

Oh, okay.

Upon our acquisition, it will remain Trump and our expectation is that it will remain for the foreseeable future.

David, what do you think you're going to do differently if anything at the margin, what is, as CEO, what is the few things, one or two things that you want to take direction of the Company differently than maybe it has been in the past?

That's a good question and one that I get a lot and I will give you the answers that I have been telling everyone. I think, to Bruce's credit when he walked in the door three years ago he got Jerry and me involved and the three of us worked extremely closely over the Bruce's tenure here, and as a result everything we've done over the three years has been lockstepped with Jerry and me. And so Bruce's retirement at the end of January doesn't really change much. We're going to continue on the same track we have been going down and because the three of us have really been involved in helping set that strategy. Bruce has been pushing it but Jerry and I have been with him lockstep. I don't think there would be any major changes.

Thanks.

Your next question is from Richard [Peoli] of ABP Investments.

I just have two. On the operating expense side for the quarter versus fourth quarter last year, if you strip out the fire and the hurricane, the number was I think 4.1%. What was the key component to the year-over-year increase, I guess not key but what were the moves in the larger items.

Primarily, our utilities, of course which everyone is incurring, generate about 6.8% in the quarter, same store growth and the other major factor for us in that number was the maintenance category where we had about a 14% growth and that was primarily driven by a move towards increasing our available unit inventory so we spent a lot of money to get a lot of units ready because we saw the market in the recovery state.

Was that done in -- I thought I heard that that was done in the second quarter and influenced the sequentials?

It was really started in June and it flowed through July and August and into September. The major part of it is actually in the third quarter of that initiative.

Okay. And a couple of your other peers have been talking about real estate taxes and I guess payroll compensation expenses for on site staff, could you give us a flavor of first, when do you guys true up your property tax accruals versus the actual, I guess, assessments and whether you won or lost the challenges and what are you expecting on the payroll side and taxes going forward? Without giving an official '06 view, general comments.

The real estate taxes really get adjusted quarterly on an actual incurred basis and we offset as we receive rebates back from the different investors, that gets netted against it on a current basis. We have a lot of pending appeals out there that are not reflected in our current expense -- yet to come through. But we absolutely do see a major move in the real estate tax side and have been lucky up to the last three years and now we're moving towards a more realistic level. This year 3.5% which is a bit higher than it's been for us and next year we would expect that to continue if not move a little bit higher with all the new assessed values and with all the sales taking place at the levels they are. We don't expect that to let up. And the other factor of payroll, our payroll numbers have been running high for the last couple of years. We have been working towards moving people up to a better position in the market. We've incurred the same kind of uptick in the overhead, so I think everybody is going to see pressure on payroll, I think overall increases will have to move upwards this year starting this year and next year due to just the inflation that's going on and the increase in fuel costs. I would say not just in our industry, but all industries, you're going to see payroll push.

And one last question and I think this is probably directed towards David because he was commenting on it. With respect to the cap rate differential between the assets that you sold that went to condo converters versus the stuff that you I guess sold to income buyers if we could term them that, what was the average cap rate on that 80% that didn't go to the condo guys? And then is it fair to say that you -- I seem to be getting the sense here you are not thinking that cap rates are going to be moving up in the near future I guess given what I would term the bullishness of your comments?

Well, two questions here. First question, Rich, the properties we're selling to non-condo converters are in lots of different markets. I told you, Alabama, older properties in Denver, Dallas and Atlanta and they will have high 5's, maybe low 6 handles on them.

As it relates to cap rate, I want to twist that around a little bit and answer more just -- we spent a lot of time focusing on prices per unit, prices per square foot. I think we need to start -- think about movements in cap rates versus changes in expectations of future bottom line results and what does that have to do or how are those things going to move to change values per unit. And we don't see values per unit and values per square foot going down in the markets in which we're trying to get capital committed.

You don't see them going down?

Not values, no.

Right. Right. I guess it is like the flip side of 2001 when the cap rates were dropping in value per unit wasn't changing and because the income was shrinking.

We've seen significant appreciation, single family home prices in many of our markets. It is a whole other conversation talk about center a bubble in the housing market or not. We believe, even if there is adjustment in many of these markets with respect to single family housing, there is still an incredible gap between the value of the housing and the value of our apartments. If we can buy brand new or build new product in some of these markets for, let's call it $300,000 and single family homes cost 3/4 of a million, we think we will do okay there and make a great return on investment and not terribly concerned about the value of that $300,000 unit going down.

All right. How long do you think that the, I guess the knee jerk reaction is that interest rates are going up ergo values have to back up and how long do you think that could go on or is it just specifics to the comments that you just enumerated.

I think you talk to a lot of people and particularly in the home building side who think they're bullet proof. They think they have several hundred basis points of increase still left before they start to even feel it.

Okay. Thank you.

Final question from Bill Crow of Raymond James.

Good morning, guys. Following up on that question in the discussion, could you give us an idea of your thoughts on the blended value of your portfolio on a per unit basis if you looked across Lexford and the very high-end and just the middle road properties?

We've not ever provided that information, Bill, and I am not sure we're going to start now. But I can tell you based upon what you saw in the Gables trade and what you saw in the Amily trade, I think that we can certainly tell you we believe that the price is significantly less than what most of the people on the street believe is the average value per unit of our Company. Particularly when you think about what Bruce had mentioned in his remarks the billions of dollars of assets that we’ve sold and have acquired in these higher barrier markets and the appreciation we realized on the capital invested over the past four or five years, as well as the appreciation we have seen in the development deals started in 1998, 1999 that we delivered over the past three or four or five years. I think that the NAV, if you will, of our portfolios is considerably higher than what most of the time people on the street would think today.

Fair enough. Thank you.

At this time there are no further questions.

Thanks. Thank you, operator, I want to close our call today by thanking all of you for your interest and support. What I would like you to take away from the call today is that Equity Residential is extremely well positioned to take advantage of the up swing in the apartment business. Our portfolio is vastly improved, over the one we had three years ago. We have a wonderful team of very talented people and we have a great new leader in David. We appreciate your support and thank you very much.

This concludes today's conference call. You may now disconnect.