住宅地產 (EQR) 2006 Q2 法說會逐字稿

Good morning. My name is Emily and I will be your conference operator today. At this time, I would like to welcome everyone to the Equity Residential second 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 session. [OPERATOR INSTRUCTIONS]

Mr. McKenna, you may begin your conference.

Thanks, Emily. Good morning and thank you for joining us to discuss Equity Residential's second quarter results and outlook for 2006. Our featured speakers today are David Neithercut, our President and CEO, Donna Brandin, our Chief Financial Officer, and Gerry 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.

And now I'll turn the call over to David.

Thanks, Marty. Good morning, everyone. We continued to be very pleased with the performance of our properties across all of our markets. We're seeing solid occupancy and broad-based revenue increases. In the quarter just ended, it was our ninth consecutive quarter of same-store revenue growth and the third consecutive quarter in the 6% range. And I can't say that any of this comes as a surprise, because we've been pretty bullish on the outlook for the apartments business for sometime, and I see no reason, at least at the present time, to change that view as long as we continue to see an expanding economy and continued job growth, limits on the number of new market rent properties delivered in our core markets, continued reductions in new home construction, and high single family home prices that, while they may soften, they won't collapse. And the progress we've made in reconfiguring our portfolio over the last several years gives us good reason to feel very positive about the outlook for 2006 and beyond.

And with that, I'll let Donna take you through the results for the quarter.

Thanks, David. We're very pleased with our Q2 results and the continued strong performance from our core business. So I'll start out by reviewing our second quarter financial results, then provide a brief update on the progress of our very important system initiative, followed by a review of our balance sheet. I'll close with guidance for the rest of the year.

Let me start by discussing Q2 FFO results followed by our same-store performance. In Q2, 2006, the Company achieved FFO results of $0.61 per share, versus $0.56 per share in Q2 2005. The majority of this increase is due to the overall improvement in our same-store performance.

In the past, we've talked about the performance of the Company's core operations, so I would like to take a moment to briefly update you for the current quarter. Core operations is basically total FFO per share, less items such as Condo gains and one-time special charges. As a result, core performance captures acquisition activity that is not yet in same-store performance, like the Trump and Harbor Steps acquisition. I'm pleased to say that we are once again experiencing solid performance in our core operations, which grew at 7.5%.

In regards to same-store performance results on a year-over-year basis Q2 revenues were up 5.9%, expenses were only up 3.5%, and NOI was up 7.6%. This represents the ninth consecutive quarter of positive revenue growth. The same-store performance has been positively impacted by our acquisitions in 2003, 2004 and 2005 that are now in same-store, representing 17,651 units. In Q2, our 2003 acquisitions had quarter over quarter NOI growth of 7.6%. Our 2004 acquisitions had 12.5% NOI growth, and our 2005 acquisitions had 16.8% NOI growth. This is evidence of the positive impact of our portfolio reconfiguration. Let me remind you that because we reached a definitive agreement to sell our Lexford operations, we are now required to reclassify their operating results into discontinued operations, both for the current year, as well as for 2005. We have also removed their financial results from our same-store performance.

The key drivers of the 5.9% revenue growth for the quarter was a 5% growth in rental rates. The ability to drive rent growth is due to the continued strong occupancy levels of 94.6%. Occupancy is expected to remain at these levels for the rest of the year. Concessions declined 63%, or $2.5 million, and now only represent a negligible amount of total Q2 revenue.

Expenses in Q2 were up 3.5% on a year-over-year basis. Our expense growth was favorably impacted. This is attributed to a substantial reduction in leasing and advertising costs, as a result of aggressive management of our revenue initiatives, lower natural gas and electricity prices, and lower real estate taxes, mainly related to favorable appeals. These expenses relate to our pricing and procurement initiatives, which are also starting to moderate as well. As with all our competitors, we are being hit with significant increases in property insurance, but remember, insurance expense is only 4% of total operating expenses.

Equity Residential system initiative is on schedule. Our procurement software system is in place at all of our properties. It's greatly improved the execution of our consolidated vendor programs, and insures compliance in utilizing these programs across our entire portfolio. The programs are expected to deliver capital and expense savings of 12 to $15 million annually. Our property management system, MRI, and our pricing system, LRO, are also on track to be fully implemented by year end. The MRI system has greatly improved the property management team's productivity and provides enhanced reporting. The LRO pricing system gives us a disciplined pricing process, optimized portfolio management, and facilitates customer retention management. The Equity Residential management team is very excited about these new systems, and the benefits they provide, both to the Company and our residents.

Before I move into guidance, let me just discuss the strength of our balance sheet and the Company's liquidity position. The Company's covenants remain strong, with debt to total capitalization of 35% and a fixed charge coverage ratio of 2.7 times. The Company also has sufficient liquidity to fund our future cash flow requirements. We recently put in place a $500 million bridge facility to support the acquisitions made in advance of receiving the proceeds from the Lexford sale. The bridge expires in July 2007 and may be terminated early, depending on our funding requirements.

The final topic I'd like to cover is guidance. We're revising same-store guidance for the full year to reflect the favorable year to date performance. We are increasing the NOI range to 6.5% to 8%, up from our prior guidance range of 4.5% to 6.5%. This change is based on the expectation that costs will moderate in the second half of the year, while revenues will remain strong. Expenses have been lowered for a range of 4.25% to 5.25% to a range of 2.5 to 3.5%. Remember, in the second half of 2005, Equity Residential incurred incremental expenses to implement a program to insure that vacant units were available for immediate occupancy. This program was very successful in enabling us to capture the early stages of a strong rental momentum. As a result, we are expecting lower building, maintenance and payroll costs in the second half of 2006, relative to those expense categories for the same period of 2005. In addition, we are expecting continual favorable variances related to real estate taxes.

We are also raising the low end of our guidance range from 4.25% to 5.25%. The high end of our range, revenue range will remain at 5.75% due to higher revenue increases we produced in Q3 and Q4 of 2005, driven by the program I just referred to. We're keeping the FFO guidance range of $2.30 to $2.50 per share. We continue to expect FFO to fall toward the middle of the range. The improvement in same-store performance will be somewhat offset by approximately $0.05 of dilution in Q4 related to the Lexford portfolio sale. This includes $0.02 of one-time prepayment penalties related to this extinguishment of the Lexford debt that will be recorded in interest expense and $0.03 of lower NOI. However, this NOI dilution will be partially offset by reductions in capital expenditures.

Guidance for Q3 is $0.58 to $0.63 FFO per share. We also increased EPS guidance to reflect the $430 million gain related to the Lexford sale. In conclusion, I'd like to point out that we have provided additional disclosure on our development page related to land held for development, as well as a more detailed disclosure related to our debt portfolio.

Thank you, and let me turn it back to David.

Thanks, Donna. In addition to the excellent property level performance that Donna described across our markets, the June 28th announcement of the sale of the Lexford portfolio was certainly a news in the quarter for us. As we noted in our press release at that time, it's a $1.086 billion purchase price of 7.4% effective cap rate, and that is net of a replacement reserve of $400 per unit. That translates into a $40,052 price per unit, and we will have realized a 15% IRR on our investment in that portfolio. The transaction's expected to close in October, and as Donna noted, will be $0.03 per share dilutive from operations in the fourth quarter and is projected to be $0.10 dilutive in 2007. However, because the historical run rate of replacements and CapEx has averaged about $800 per unit per year in that portfolio, by reinvesting the proceeds from the sale of what would essentially be five Lexford units into one conventional unit, the actual cash flow dilution will be much less and will be accretive over time because operations and cash flow from the acquisitions in our core markets that we will have with these proceeds should really outperform the operations of the Lexford portfolio.

Now, selling this portfolio is another big step in our efforts to reconfigure our overall portfolio by continuing to narrow our focus and following the Lexford sale, our largest 20 markets will comprise 92% of our net operating income, and that's up from 65% in the year 2000. And these markets that we're investing in, we believe, will provide higher total returns and as Donna noted, I think it's worth repeating, we're seeing significant benefit from the capital reinvest and capital recycling that we've been doing over the last few years. As she noted in the 2003 acquisitions, and this is 5,838 units delivered 7.6% NOI growth in the second quarter and 8.5% NOI growth in the first half of the year. The 2004 acquisitions representing 9685 units delivered 12.5% NOI growth in the second quarter and 11.7% growth in the first half of the year, and our '05 acquisition, so this would essentially be the deals that we acquired in the first quarter of '05, which we then owned for the entire second quarters of '05 and '06, representing 2128 units delivered 16.8% NOI growth. So we're extremely pleased with the performance of the new additions to our portfolio.

And so we're also very pleased with the outcome of the offering of the Lexford portfolio, and as I mentioned, believe that it is an extremely important move for the Company and its shareholders. But I want everyone to know that the sale would not have been possible and a 15% IRR would not have been achieved were it not for the incredible team that runs this investment for us. The last several months have been very difficult for this team, which have been part of the equity family for the past seven years. Nevertheless, I'll tell you, they manage this process, as they always have, as professionally as one could ever have hoped, while continuing to deliver terrific operating performance. And so on behalf of all of our shareholders, I want to thank Cheryl O'Brien and her incredible team for a job extremely well done.

On the disposition side in the second quarter, we sold 13 assets, 2418 units for a total of $230 million. In addition, we sold $72 million in condos and I'll address that in just a minute. The IRR on these dispositions excluding the condominiums, was 12%, and a gain on sale of these assets, again, excluding the condos was a total of $107 million, an economic gain of $56 million. The markets that we've been selling our assets at, we sold three one-off Lexford deals that were not part of the larger offering. In addition to that on the conventional side we sold one property in Tulsa, one here in Chicago and eight in Minneapolis. The Minneapolis portfolio totaled 1588 units, so we're now down to 817 units in Minneapolis, down from a high in 2002 of 4000 units. And the Minneapolis trades went at an average cap rate of 5.2%, whereas the overall weighted cap rate for all the dispositions was 5.3.

As I said on our last call, our disposition plans for our conventional assets would have to slow as we move towards the sale of the Lexford portfolio and in fact, in the second half of the year, we will likely sell no more than $50 million of conventional product because of the Lexford sale. And this will bring total dispositions for the year to $2.2 billion.

On the acquisition side, we acquired seven properties in the quarter, 2143 units for $431 million at a weighted average cap rate of 4.8%. These acquisitions were one deal in Southern California, one in Virginia, one in Seattle, one in Phoenix, and three in southeast Florida, where we acquired 1137 units at an average price of $179,000 per unit and a 5% cap rate.

The Condo business for the quarter, profitability was pretty much in line with our expectation at $10.2 million net of both taxes and overhead. We closed 354 units in the quarter compared to 171 units in the first quarter. So the closings in the quarter were slightly ahead of budget and profitability per unit was pretty much in line with our expectations. We continue to project delivering $37 million of net profits after tax for the year from our Condo business. But we are scaling back our projected closings for the year from 1500 units to 1300 units, and this is because while we expect to sell more units in the second half of the year than in the first half, we do not expect to see the same sales velocity in the second half of the year than we had originally projected. So notwithstanding the reduction in projected closing, the expected mix of the closings and the profitability per unit can still keep us on track for 37 million for the year.

Now, while we have declared Condo mania to be over, we continue to see pretty good traffic in each of our markets and we certainly continue to sell units. We closed 525 units in the first half of the year. Our June 30 sold, but not closed inventory, equals 265 units and this is compared to 246 at the end of the first quarter, and that's a pretty good level to begin the third quarter closing process. But we are expecting the third quarter sales to be a little slower than our original expectation. Traffic is down a bit, which is not really unexpected during the summer and our conversion rates are down some. But I want to assure you, we are selling product. Last week we sold 28 properties -- units across the portfolio and that's an 8.1% sort of capture rate or closing ratio on traffic and that's in the middle of the summer. So, again, we continue to feel reasonably good about the business and we certainly like the starter home price point at which we operate and are confident there will continue to be demand for product at that price point.

On the development side, as noted on page 22 of the supplemental package, we now have 10 properties totaling $925 million under development and that's up from 6 properties at the end of March 30, at the end of the first quarter. So we started four new deals in the second quarter and they include Redmond Ridge, which is in Richmond, Washington -- Redmond, Washington, rather. That's a development we are doing for our own account, 321 units, $53.5 million construction cost, a 2008 estimated completion and a stabilized yield in the mid 7's. Here in Chicago, with the joint venture partner we've started the City Loft project. That's 278 units and a $71 million total construction cost. Also a 2008 completion and a stabilized yield in the high 6's.

In Cambridge, Massachusetts, with a joint venture partner, we've started our project at 303 Third Street, it's 531 units, $243 million total construction cost, a 2008 completion and a stabilized yield in the low 6's. And lastly, in Irvine, California with a joint venture partner, we've started the Alta Pacific project, 132 units, $39.4 million total construction cost, a 2007 completion, stabilized yields in the low 6's. Of the total development pipeline, and this is projects in addition to those reflected on the schedule in the press release, is about $1 billion. This is three deals in California, four deals in the New York City area, and one deal in Florida. And we currently own or control the land for each of these development projects. And as we've mentioned in the past, our targeted stabilized yields remain in the low to mid 6's to mid to high 7's and continue to represent, we think, pretty good total rates of return.

So, in closing, I'd just like to comment again that we're very pleased with the operating performance of the portfolio, and particularly the assets we've acquired in the last several years as we continue to reconfigure the portfolio and these result of these efforts certainly speak for themselves. We're pleased at the execution of the sale of the Lexford portfolio. Strategically this is an important move for us and although initially dilutive we're positioning the Company for better earnings and cash flow growth, and we'll continue the process of exiting non-core markets and reinvesting capital and markets that will deliver higher total returns by experiencing better population growth, better job growth, more expensive single-family homes and barriers to new supply, all higher than the national average.

With that, operator, we'll be happy to open the call up to questions.

(OPERATOR INSTRUCTIONS) Your first question comes from Jonathan Litt.

Hi, it's Craig Melcher here with John.

Good morning.

Good morning. Could you talk about the rent increases you're seeing on your new leases versus the renewals the last couple months?

Yes. This is Jerry Spector here. We are seeing very little difference, almost all of our leasing we're doing now we're taking the majority of those leases to street level rents that we're charging anybody coming in from the outside. We are seeing some slight discounts on renewals, but very slight, frankly, 1 to 2%, as a mater of fact, if the markets are strong enough we'll be able to actually get pretty close to street level rents on renewals as well.

And specifically on South Florida. Can you talk a little bit about that market? Occupancy dipped sequentially in the second quarter, but you’re buying some assets there. Can you talk about what you're seeing in that market and what attracts you to that market?

Well, primarily, historically we've seen seasonal issues in the summer, Florida typically softens in the summer. One of the major changes that's occurred down there is a lot of the Condo product coming back into the rental market. Just in south Florida alone, Miami area, there have been 50 projects that we've identified coming back into the rental market that were ear marked, in some cases in the process of being sold. So, what you've had is, all of a sudden a significant increase in supply, all of a sudden, along with some seasonal factors. There's still strong job growth and we think demand will recover, but I think the new product going in there is creating a little more softness than we would have expected. We're not seeing the same impact in Orlando at that degree. We're seeing some impact there. It's off about a point and a half in occupancy. We think that's primarily seasonal, some of it with new product coming back into that market and we're seeing the same kind of issues in Tampa, I would say. So overall decline due to seasonal factors, but a lot of supply coming into the, due to the Condo bust.

Donna, question for you, you had said there was $0.05 in dilution, sorry, $0.10 in dilution in '07 from the Lexford sale. What are your assumptions in calculating the dilution?

Basically, the assumptions is the difference between really the, the exit Cap rate and the reinvestment rate, which is around 2.5 to 3%, and what we said was that would equate to about 10% of FFO dilution. However, we also wanted to point out that we would experience probably a $0.06 pickup in cash flow related to reduced capital expenditures associated with the reinvestment process. So the net-net on cash flow, on a cash flow basis is about $0.04.

Do you think you'll reinvest at a 4.5, 5% going in Cap rate?

I'd say average about 5, John.

5 going in. And do you think, is this 10-31, so you got to identify it pretty quickly?

Yes, we've been very aggressive in that process in identifying reverse 10-31 transactions to minimize the amount of cash that we would have available upon the receipt of the proceeds from the divestiture.

Do you expect that you'll be fully reinvested by the end of the third or fourth quarter?

I would say there's going to be some trailing into Q4, but we are, again, aggressively trying to identify those properties because it is more advantageous to do that in advance of the closing of the transaction rather than waiting till afterwards from a tax perspective.

David, on the Condo side, do you think that the pace of 1200 is probably a better pace to use for '07? And is that coming down because of what's going on in the housing market generally and the Condo market generally?

I'm not saying anything about '07 just yet, John. We'll give you more color on that later, but what we're suggesting is we probably won't have the same velocity in the back half of the year as what we had projected. We'll continue to do more sales in the second half of the year than in the first, but, again, we think 1300 is a better number today than the 1500 units that we had, had originally projected.

Final question is on the concessions, I think you went through with the concessions were on the second quarter. Can you just repeat that?

Yes, concessions were down 63% and is about $2.5 million in value, but we're basically seeing concessions, remaining concessions as a percentage of total Q2 revenues being a very negligible amount. So effectively they are becoming a non-event.

Great. Thank you.

You bet.

Your next question come comes from Ross Nussbaum.

Hi, good morning, everyone. Couple questions here. First, I'm just curious about the same-store revenue guidance because you did 6% in the first half of the year and I guess your guidance for the full year is 5.25 to 5.75. It would just seem to me that that seems awfully conservative given the trends you've been seeing.

Well, you have to understand that comes off a much higher comp level in the back half of the year. We had, call it 6% or so in the fourth quarter. So we had very strong same-store revenue growth in particularly the fourth quarter, but certainly in the back half of '05, which is making the second half of '06 work off of a higher comp.

So it wouldn't be unreasonable-- so I guess you're saying that the same-store new growth could be in the 5% range in the back half of the year?

Yes.

Okay. Next question is just following up on the south Florida question, your occupancy sequentially, and I guess year-over-year was also down in a couple markets in California, LA, San Diego, the inland empire, is that just an issue of pushing rents too hard, or what's going on in those markets?

Florida, we just explained what it was and I would say that in-- we're actually seeing a positive trend in the inland empire, I'm sorry, in Orange County in California, but a little bit of a decline in LA and the inland empire, but we don't really see any real material change there. There's a few units being delivered. We are pretty aggressive with pricing, but we're really on top of our expectations there. We're not really surprised by any of it. There's no real trends being developed.

And is the issue there-- what is the issue that you think caused the occupancy rates to be down?

I think there's not a lot of-- there's no robust job growth. There's some delivery of new units. It's really performing at the same level it has actually over the last three or four years,

Okay. Then final question, David, are you looking at Stuyvesant Town and Peter Cooper Village, is that something you're going to seriously consider?

No, we're not going to comment on any of that. We look at, hopefully look and see nearly everything that's out there, but I'm not going to comment on anything that we might or might not do in the future.

Your next question comes from David Harris.

Yes, good morning. Donna, a couple questions on details on the guidance. Is there anything in the guidance for land sales in the second half?

No.

Okay. And then, with regard to the same-store guidance on expenses, I think you gave us a fairly good description as to why those numbers are going to be on the light side. It seemed to me, though, listening to your description of those factors that a number of those issues could unwind as we look into '07. Would that be a fair assessment?

Yes. The answer is that most of it is due to comps, prior comps being high, so now we expect to see that soften, but it's going to level off pretty well. We should have in 2007 reasonably normal expense growth levels.

Okay, and Gerry, while I've got you, you gave us disclosure on turnover for the quarter as well as some of the quarters and periods. Are we running below your, the long-term average for turnover, which is also giving you a little break on the expense line?

Absolutely. We're incurring a little bit over 1% reduction now and we think that will continue to move downward.

Okay. David, if I could just go back to you on the redeployment of capital and with-- I know you deferred answering the question specifically on the MetLife buildings in New York. But is it possible for you to give any color as to whether you might be contemplating a portfolio acquisition or two on the redeployment, or would you prefer not to comment?

Again, I'm not sure how that's a different question, David. We have been pretty big acquirers over the last several years, as we've sold a lot of our assets and redeployed that in our core markets and we'll have a lot of acquisitions we'll have to do this year, as Donna noted, going into the first part of '07 help redeploy proceeds from the Lexford transaction, but exactly where and what we'll be doing, I'm not going to comment on.

Okay, and in the medium to longer term, do you have any ambitions to go outside the United States as some of your peers have done?

Not at the present time. I guess we never say never, but we continue to think that expanding the platform in our current core markets is the best execution for us.

Okay. Terrific. Thanks so much.

[inaudible] Taylor.

Thanks. Good morning. David, can you-- was there much of an impact on the Lexford sale in the same-store results in their removal?

No, not really, Lou. The same-store performance on an NOI basis, though a little less than the core portfolio, and it was close enough and it was not on a weighted average basis, not a significant upfront provided it really moved the number all that much.

Could you just talk about the, what's called a shadow development pipeline, what's your expectations per starts on the development side maybe over the 6 -- next 6 or 12 months? Do you expect much of a ramp there?

Well, we've got $1 billion that I mentioned in addition to what is on that development page, and I would expect us to get started on that in the next 12 or so months and we continue to look for other opportunities, both with our own team that we've now got deployed around the country, as well as with joint venture partners. But I tell you it's expensive and they are complicated and we're going to go about it very judiciously, but we do believe that developments are going to be an important part of the strategy of redeploying our capital and we would hope to start 5 or $600 million each year going forward in the development set.

And lastly, is there-- what are the contingencies with regard to the Lexford sale? Is there-- in terms of the probability or potential for it to maybe not close?

There really are no contingencies. There's no financial contingency. There's no additional due diligence contingencies. We understand that the financing has been committed and everything's moving along very well. And the portfolio's performing extremely well, and there's $40 million up and we have every expectation the deal will close sometime in October.

Thank you.

You bet, Lou.

Next question comes from Jay Habermann.

Hi, good morning. Just a quick question, David, on Condo pricing. I know you mentioned the volume would come down a bit in the back half of the year, but have you seen any impact versus your sort of expectations on pricing?

The profitability per unit is still remaining generally in our expectations, but we are doing things to help get velocity going by maybe paying HOA dues for a year or doing other things, but generally the profitability, at least up to the present time has been within our expectations.

In terms of getting to that 37 million, which is really a doubling of the first half, are you assuming that pricing remains constant?

Yes. Yes, I think it's-- my expectation is that it's going to be more a function of how many we sell, not the profitability per sold unit.

Okay. Question on land parcels. Looks like you made three land parcel acquisitions, about 63 million. Can you just discuss, was there anything there in New York?

Yes, there was a transaction on the, in Jersey City that had been announced that we were doing kind of codeveloping with the Hovnanian company in Jersey City and the others were, are listed on the development page in Redmond Ridge, and I forget which one of the other ones, but the only ones of the three acquisitions not listed was the Jersey City project and we'll start construction on that third quarter or fourth quarter of this year.

Okay, and just a quick comment on Houston, I notice that was down sequentially as well.

Yes, it is.

Any thoughts there?

Well, we're-- vacancy-- vacancy's increasing and we're not seeing the same demand levels there. Start to see a little more supply, but you're not seeing the influence of the hurricane. That's kind of softened up a bit, so we anticipate that's going to go back to more normal levels.

I know Mark has a question as well.

Yes, could you speak to the disposition level to get out of-- how much you have left to get out of your non-core markets? We're estimating about 2.1 billion, I think is in your other outside the top 20 markets, and how long do you think it will take to exit those markets?

I think that 2007 will get us a long way there. There may still need to be some work in 2008, but I think that we'll be very much pretty close to the finish line through '07 and perhaps a little bit into '08.

Great. Thank you.

Let me just mention that the, that other land acquisition that we did in the second quarter, which is now under construction, is the Third Street property in Cambridge, Massachusetts.

Thanks. Yes.

Your next question is from Rob Stevenson.

Good morning, guys. Gerry, what was the average rental rate on the same-store portfolio on the quarter?

The-- it's 1034 is the same-store, but the total portfolio including all the new acquisitions that aren't in same stores, 1078.

Okay, and you had mentioned before about the, the condos coming back as apartments in south Florida. David, does that prevent, or present a buying opportunity for you down there, or is pricing not really come down?

Well, it may and perhaps not just in Florida. We've looked at some things in other markets, other properties that had been removed from the rental market and converters are wondering whether or not they want to continue with the conversion and we've had some conversations with people. So, yes, I would expect that to present some opportunities for us.

Okay, and then you had touched before on the development pipeline. What is your thoughts these days about redevelopment and the redevelopment pipeline for you guys?

Meaning rehabs?

Yes.

We'll do about 3000 units in rehabs this year in our core markets and we're spending 20-ish or so thousand dollars per unit on those rehabs, and I think we're getting very strong rates of return on that, and we'll continue to look at that and have that be a, I think, an important part of what our portfolio management people will do in 2007 as well.

But with rental rates going up right now and development or redevelopment costs going up as well, I mean is it a situation where you're less inclined to do that in a really relatively strong market and more inclined to do it in a weaker market, to be able to drive the higher rental rates and the returns?

We think that we're getting an appropriate incremental return on the capital cost as part of the rehab, but we are very careful to look at what the market rates are for the property in its sort of as-is condition, as well as understand what the market is in that sort of level at which we want to compete with the rehab property. But even in a strong market, if we believe we can get the necessary returns to make the rehab make sense.

Okay. What are those returns averaging these days?

Oh, they have been 9 and 10% on the rehab underwriting.

All right. Thanks, guys.

Your next question comes from Bill Crow.

Good morning, guys. David, on a big picture basis, we continue to see pretty high levels of supply growth from the U.S. census bureau data. How do you see that playing out over the next year or two?

Well, you look at, in our core markets and the submarkets in which we operate, we're not identifying a lot of new product. There is product being built in those markets, but we don't think enough that it is going to significantly impact the -- what we're seeing going on in the rental revenue side.

All right, and then I know you're not giving guidance for '07, but is it fair to assume that you will have enough supply of condos available to be sold to hit a 1300-unit number for next year, or are you going to reduce the number that you're making ready for sale?

Well, we've got properties in inventory. You look at the conversion, at the condominium schedule and you'll see assets that we haven't sold any product yet. And so we continue to look in some of the markets for more product. But we'd like to get more product in Seattle, we'd like to find more product in Chicago as well. We've been limited, frankly, in transferring some assets from our own balance sheet for the remainder of 2006 because that is considered a sale, and we've got limitations now as a result of the Lexford sale, but I don't think that we'll have trouble finding product if we continue to believe that the market is, is acceptable for future conversions, be either assets on our own balance sheet that we think it makes sense or acquiring third party assets.

All right. Then finally, what does a 1% change in same-store NOI do to your FFO LOC sequel, what is your guidance on those lines?

A 1% change in revenue?

Same-store NOI.

1% NOI. I'm going to suggest that it's $0.03 or $0.04, but we'll do some quick arithmetic here. But off the top of my head, I'm thinking that it's -- I'm thinking $0.03 or $0.04.

All right. Thanks, guys.

Your next question comes from Rich Anderson.

Hi, thanks. Good morning. If I'm reading you right, did you sort of indicate that your target number, market number, number of markets is 20, the top 20 that you show in your top 20 list? Is that the way we should be thinking about it?

I don't think we have-- I think that you could see where we've been investing our capital, seeing where those increases have been as a percentage of our NOI and get a sense as to where we're, where we're moving our dollars and thinking about our core markets. I mean there's not a magic number.

Okay. Just, I might have missed this, but you talked about limitations on dispositions as a result of Lexford. Is that because you can't or because you won't sell more conventional stuff in the context of Lexford?

We're basically right now restricted from certain REIT to tax tests to dispose of additional assets, when you include Lexford into the calculation. So, we're seeking some relief from the IRS to give us a little more ability to dispose of assets, but we have not received that yet. So, if we don't receive that pending the closing, we'll have to defer those into after, into 2007 effectively.

Okay. Thank you. I think you mentioned during your commentary that you have lower natural gas costs, is that correct?

Correct.

Can you explain how that's happened?

Yes. Yes. Basically, when we did the budget, natural gas prices were substantially higher and so we considered-- we basically built the forecast off that base of an incremental increase. As a result, they have subsided and so we've gained some benefit associated with that in the quarter.

Okay. And then on the topic of development, how do you sort of justify delivering, or not justify, but get comfortable with delivering product in out years when there are some signs of supply, '08 and '09 are not nearly as visible fundamentally speaking as '06 and '07 are. How do you sort of justify accelerating development with some level of uncertainty out in the timeframe?

Well, I guess the question is how do you justify buying assets when you might only have visibility 12 or so months out.

But there's risks, more risks associated--

That's right. We focus on those markets that we think where jobs are going to be, where population and household growth is going to be and where people are going to want to live, work and play. We're comfortable that over extended time periods we'll do fine on these, on these transactions. That doesn't mean that they won't be delivered at a time, perhaps, where maybe rents won't be quite what we had projected. But we're pretty comfortable over an extended time period that the markets that we're looking at for development will sort of outperform the nation, outperform what we'd consider to be sort of non-core markets. But who the heck knows at the time you actually deliver? We'll also look at what our costs per unit are, what we're building to and where things are trading in the marketplace today and are pretty comfortable that we're happy to own product in '08, '09, at the prices per unit that our construction budgets call for.

Okay. On the topic of condominiums, sort of make sure I have this right. You've closed 525 units thus far, year to date as of the second quarter. So on a sequential basis, you're going to have more activity than you had in the first half, correct?

Yes, that's right.

You're just scaling back from the 1500, so hence, that's what you mean by scale back. But in terms of activity, there's going to be more activity in the second half of the year?

Yes, as I said, we will still sell-- close, rather, more units in the second half than the first, but it will not be as many in the second half as what we had originally thought.

And based on what you've seen now, and sort of the scaling back and we're hearing that from other folks, too, I mean a lot of people talk about the condominium business as being sort of repeatable, particularly at the price points that you guys are working off of. Are you starting to maybe feel like that recurring nature or so-called recurring nature of this condominium business is maybe not what it's all been cracked up to be?

Well, I-- in the last week of July, we sold 25 units and 8.1% of our traffic, closed on 8% of our traffic. So we continue to see a great deal of demand and a great deal of interest at our price point. If you think about the markets in which we're selling, our condos, and you compare the price point of our condos to single family home prices in those markets, this is terrific value, and I think is the sort of entry home pricing of the future in these markets. So we continue to believe that there will be demand for this product and, again, while we may guess that Condo mania is over, I think closing 8% of your traffic in the last week of July still suggests that there continues to be demand.

Okay, and then the last question I have is on the topic of Florida. It's a little quirky question, but were you sort of worried about Castro passing away and the Exodus that might happen in that market?

I'm sorry?

Were you worried about Fidel Castro potentially passing away and the Exodus that might happen out of Florida?

Am I worried about it? [LAUGHTER]

Were you worried about it?

I think we got plenty of, plenty of product we'll be happy to have them.

No, no, they will leave Florida.

Oh, leave Florida. I'm sorry, leave Florida, go back. No, no, I, I think that there continues to be strong demand for housing in Florida and I think over an extended time period we are very bullish on Florida and are quite comfortable with our inventory there and what we think our upside and our total returns will be there.

Okay. Thank you.

Your next question comes from John Stewart.

Hi. Donna, do-- is your property insurance policy, portfolio, do you have a blanket policy, or are there some properties and markets that might, that you might not renew this year and might represent an expense growth risk next year?

No. We are covering all of our markets. In some cases we are constrained in terms of the amount of earthquake insurance that we can obtain, particularly in California, but we continue to cover all of our markets. We have, as a cost reduction methodology, had to take on additional deductibles for both hurricanes and both earthquakes up from 2% to 5%, but we do have coverage in those markets.

Okay, and you'd also cited, I believe real estate taxes as one of the components that's helping to keep your expense growth down. Can you give us any color there? Is it-- are you having success disputing assessments, or what specifically is driving that?

I thin it's twofold. One is a favorable appeals that we had in process in prior years, and also we're seeing some rate reductions in certain states as they go to other tax sources such as strong economic growth, where they are getting taxes from single-family homes, sin taxes and things of that nature, so we have seen some relief in taxes in Virginia as well that was related to particular taxes related to some recent legislation that passed.

Okay. Then David, I understand what you're saying that you think the portfolio repositioning is setting you up well for growth in 2007 and beyond. But I'm just struggling to see how you can get much bottom line growth next year, given your comments about the tougher comps, slowing Condo velocity and you won't have some of the benefit from these one-time expense, make ready savings as well as the dilution from Lexford. How do you think about next year?

Well, again, I think next year I see no reason why it won't shape up to be another very strong year. Again, you will be working off of tougher comps. Gerry said on the expense side we'll get back to maybe a more normal run rate on expense growth and the revenue side will be against a tougher comp, but we're 90, call it 95% leased. Concessions have gone away. We're driving rates. We're seeing traffic. There's job growth in these markets and very little new supply. So we don't see any reason why the fundamentals we're enjoying today won't carry over into 2007.

I guess I was focused less on the fundamentals and more on the bottom line earnings growth.

Well, who knows-- it's early to suggest -- to say where condos will be. There will be some dilution from the, from the $2 billion of dispositions, but I don't see any reason why the bottom line won't continue to go up, just based upon the strength of the 130 or so thousand same-store units that will carry over into 2007.

Okay. Thank you.

Your next question comes from Alex Goldfarb.

Hi, good morning. I appreciate it.

Alex, you got to get into the phone. Hello?

Hello? Yes. Oh, hey, sorry, bad connection there.

That's okay.

I realize it's been a long call this morning. Just quickly, going back to some of the line items, the G&A seemed a little lighter this quarter. Is 50 million still a good run rate for the year?

Actually, we had in Q2, we had a favorable impact associated with insurance recovery related to legal expenses, which reduced G&A by approximately $2.8 million. So as a result, when we said last quarter we're going to be at 50, I think now with that, that reduction, we'll be closer to $48 million on the full-year run rate.

Okay. 48 million for full year.

Mm-hmm.

Okay, and then, Donna, from your comments earlier on the call, it sounded like you guys were comfortable with the midpoint of the range, sort of the 240. What would have to happen to get you to the top end of the range?

I think right now what we're saying is we're at the middle end of the range and we're not really changing from that at this point.

Okay. Perfect. And my final question is in the DC market, and I realize you have a few properties there, I've been reading about possible rent control initiatives that they may put in place. Do you think that this will have a material effect on the market, or not really?

Well, certainly if they pass, it will always have an effect on it and there is a certain amount of that, those issues in Prince George County and there's a lot of that that goes on there, but I think that there's a pretty strong lobby there and we're not anticipating material impact to us.

Okay. So you're not seeing it going to limit your ability to raise rents?

No.

As aggressively as you have been?

That's correct.

Okay. Thank you very much for your time.

You bet.

Your next question comes from Craig Leupold. Craig, your line is now open. Your next question comes from Richard [inaudible]. At this time, there are no further questions.

All right. Well, terrific. Thank you, all, for your time today. Again, we're excited about how the first half of the year turned out and see no reason why the balance of the year should be anything less than terrific. Any questions, please let us know. We'll all be around. Thanks, and I hope everyone has an enjoyable end of their summer.

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