Essex Property Trust Inc (ESS) 2010 Q4 法說會逐字稿

Greetings and welcome to the Essex Property Trust Incorporated fourth quarter 2010 earnings conference call. At this time all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation.

(Operator Instructions)

As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Mr. Michael Schall, President and Chief Executive Officer for Essex Property Trust. Thank you, Mr Schall, you may begin.

Thank you, Latanya. Welcome to our fourth quarter earnings call. As a reminder, we will be making comments on the call which are not historical facts, such as our expectations regarding markets, financial results and real estate projects. These statements are forward-looking statements which involve risks and uncertainty, which could cause actual results to differ materially. Many of these risks are detailed in the Company's filings with the SEC and we encourage you to review them.

Mike Dance and Erik Alexander will follow me with brief comments. Please join me in welcoming Erik to the call. He will cover operations. John Eudy and John Lopez will be available for Q&A. I'm going to cover the following topics on the call. First, the CEO transition, second, Q4 results, third, cap rates, four, the state of California, and fifth, our 2011 guidance.

So on to the first topic. As you know, my long-time colleague and mentor, Keith Guericke, announced his retirement as CEO last November. Keith continues to work on a part-time basis for the Company, focusing on relationships with major owners and capital sources. The senior management team has worked together for many years and shares a common view of Essex's strategy and direction. As a result, you should expect us to remain on a similar path as under Keith's leadership.

Having said that, I see many opportunities to improve the Company including attractive investments in a very active acquisitions market; expanding development and redevelopment at the onset of an improving economy; culling the weakest locations and properties from our portfolio; and last, and of absolutely critical importance, upgrading our technology and operations platforms.

My second topic is to talk about our Q4 results. Operations during the quarter continued along the path of a steady recovery. Although the fourth quarter reflects greater seasonality, market rents continued to increase, finishing the year well ahead of original expectations. FFO for the quarter was as expected with the exception of nonrecurring costs for personnel related items, mostly associated with Keith's retirement. We continue to believe that we are in the early stages of a long-term recovery in housing. One in which, at least in the short-term, rental housing will take the leading role as home ownership rates continue to decline. Underlying this belief is 30 year lows in housing construction, a recovering economy, and rent levels in coastal locations that are affordable relative to income levels and housing alternatives, and are still below prior peak rents.

As you know, we remained an active investor in the fourth quarter, closing six acquisitions in the quarter and 12 for the year, totaling $584 million. We believe that buying at the bottom of the real estate cycle at substantial discounts to replacement cost will add per share value. Several of our acquisitions in 2010 were failed condo projects that were partially or fully vacant upon closing. I suppose that this is a good news/bad news situation. The good news is that we were able to buy fully or partially vacant condo buildings in great locations at apartment cap rates. The bad news is the existence of several fully or partially vacant buildings, telling us all something important about the marketplace. Until this overhang clears, which we expect in 2011, the results will be muted. In addition, the impact of vacancy at these properties was diluted to Q4 results and will continue to be dilutive to FFO until we obtain stabilization.

Mike Dance will outline the lease-up impact of these properties on Q4 operations and 2011 guidance. I should also note that the impact of multiple lease-ups in Southern California places significant pressure on our operations staff. We appreciate the extraordinary commitment of our team members as we undertake this task. Once completed, we will benefit from higher returns on these transactions.

My third topic is cap rates. Cap rates range from 4.5% to 4.75% for A property in A locations and in the high 4% to low 5% cap rate range for B properties in A location. Cap rates increase from there for lesser locations and property quality. With the 10 year Treasury yield increasing about 100 basis points since November, cap rates have adjusted upward about 25 basis points.

The West Coast markets are most of the way through the pipeline of vacant and distressed condo/apartment property. In 2011, we expect to return to the more traditional Essex type acquisitions of B quality property in upscale West Coast locations, following about three years of very limited activity in this space. Development deals are being enabled by the recovery in market rents in several markets, along with the expectation of strong rental growth and a return of institutional joint venture investors. Underwritten based on today's rents, development cap rates range from 5.5% to 6% or 6.5% to 7.5% upon stabilization.

My fourth topic is on the State of California.We obviously share concerns about California's fiscal problems and its consequent impact on job growth expectations. It is little consolation that other states are in the same situation. A big part of California's fiscal problem has been the process of kicking the can down the road with budget gimmicks for the last 10 plus years. Jerry Brown, California's recently elected governor, has proposed the first comprehensive plan to address California's fiscal issues and has already moved forward in implementing that plan.

The proposed plan has a three-fold solution that is well summarized in a document that is available at www.Ebudget.CA.gov. and you would follow the summary link under the Governor's proposed budget. Part of the plan, which reduces state expenditures by $12.5 billion, is already under way. The other significant part of the plan involves tax increases, most of which have already occurred, but require extension for a proposed five-year period. The Governor expects to submit this extension of tax increases to the voters in June of this year. Altering prop 13 is not part of the plan. We believe that this plan will be instrumental in shifting the dialogue from the state's fiscal woes and back to its strengths. We are invested in coastal California because it has a unique set of characteristics that are advantageous to apartment investors.

They include, number one, housing supplies are limited at all times, but will be at 30 year lows for at least the next several years. Second, there are many successful growing well-financed and capable tech and other companies that are headquartered here. Third, venture capital is the most active here, forming new businesses with global aspirations. Fourth, many of the jobs associated with the tech companies in coastal California and Washington are not easily replicated in other parts of the country or world, as they are part of an integral network of local universities, financial sources and other employers. Fifth, coastal California attracts highly skilled and educated workers from around the world in pursuit of top compensation and attractive quality of life. And finally, sixth, the West Coast is a critical link to increasing trade with the Pacific Rim.

Then, finally, my fifth topic is 2011 guidance. For 2011, we expect job growth of 1.3% or 138,000 jobs in our coastal target markets, matching the nation as to the rate of job growth. As a whole, we expect California to report 1% job growth and, therefore, we expect the coastal markets to significantly outperform the inland markets of California. This expectation is based on a 2.6% growth rate in the services sector of the economy and lower than average exposure to lagging economic components, including construction and government jobs. We have tracked losses of state and local government jobs for the last 12 months. California lost approximately 22,000 government jobs in 2010, and is expected to lose 32,000 in 2011, 25,000 of which are local education jobs. These expected losses amount to a reduction in the overall job growth rate of 0.2% in California and are included in our forecast.

Our job growth estimates are based on US GDP growth of 2.5% to 3%. We rely on our vendors to provide the baseline US GDP assumption for our budgets. We use five vendors who US GDP estimates range from 2.6% to 3.2% Obviously, we hope that we are too conservative. Externally, we expect to have another busy year with acquisitions in the range of approximately $400 million. We expect to fund some of this through joint ventures. With market rents increasing we expect to start the 761 unit Cadence project in San Jose, which represents almost half of the book value of our pre-development and land inventory.

Erik will discuss 2011 internal operations and so I will turn the call over to him. Thank you for joining us. Erik?

Thank you, Mike. It's my pleasure to be with all of you for the first time to present fourth quarter operating results and provide insight regarding Essex's outlook for 2011. As with the third quarter, our expectations for the fourth quarter were largely met. Recovery in our markets continued through the end of the year and I believe we are positioned well for 2011. Fundamentals continue to improve in virtually all of our sub-markets, but clearly there are a few areas that have benefited more from healthy economic activity and I will point these out when we review each region.

The Essex portfolio saw market rent increase 1.1% over the third quarter results and 7.8% over fourth quarter 2009. As expected, this improvement in market rents and low turnover resulted in growing loss to lease as defined, the amount of market rents exceed in place rent. That number stood at $11.8 million at the end of the quarter or 2.6% of scheduled rent. Renewals continued to grow and were at 3.8% on some 3400 transactions during the fourth quarter and greater than 4% in December. This represents the ninth consecutive month that we have seen gains in renewal rent rates. We expect this component of our leasing activity to remain strong and be above 5% for the first quarter of 2011.

Evidence of this was seen in January, as renewals posted a 4.7% gain, including more than 6% in Northern California. Last call Mike commented on our careful lease renewal practices, correctly pointing out that we aim to maximize NOI and strike a balance between market rents, renewal rates, turnover costs, occupancy rates and customer satisfaction. However, it's fundamental that our portfolio continue to improve, we will look to seize opportunities during the first quarter and throughout the year to grow our revenues through a thoughtful but more aggressive renewal strategy.

We anticipate approximately 5,000 expiring leases during the first quarter and another 7,000 during the second quarter. So we should have ample opportunity to make a positive impact on our revenues for 2011. New lease rates were also up compared to the rates that our former residents were paying, but lagged the renewal variance by about 2.5%. We do expect this gap between the two elements of rent growth to lessen in the coming quarters.

Now turning our attention to occupancy within the portfolio, our fourth quarter results show a 30 basis point decline to 96.4% as compared to the third quarter and a full point below 2009's fourth quarter level. The result is consistent with our desire to trade some occupancy for rent growth. As you recall, we maintained a very high occupancy during the fourth quarter of 2009, while rents were declining, but as improvements in the market became evident we shifted our attention to increasing rents.

Therefore, we don't have a large pickup in revenue due to occupancy. Additionally, if you adjust our results for changes in occupancy, the sequential revenue growth for the quarter was actually 0.6%. Occupancies have bumped up in January and stood at 96.7% at the end of the month, with less than 5% availability portfolio-wide. Turnover, delinquency and concessions remained low during the fourth quarter. Turnover was only 40% on an annualized basis for the quarter and 48% for the year. This is down from 44% annualized fourth quarter in '09, and 55% in 2009 for the year.

With growing market rents and larger renewal increases we plan for turnover to increase to about 55% for 2011. Delinquency rates for the portfolio remain in check at about 30 basis points. Concessions did tick up $50 per turned unit during the fourth quarter to the an average of $168, but are 35% lower than the fourth quarter of 2009. These concessions were tactical moves to maintain target availability at some properties. Operating expenses were also down sequentially, 1.1% for the quarter and 2.0% for year-over-year. This was largely driven by reductions in property taxes for several California assets located in the East Bay and Ventura County.

Administration costs remained flat for the quarter. While there was a spike in repairs and maintenance category of our property operations, these increased expenses were associated with repairs that related to heavy rains experienced during the period and other onetime items. As to our new lease-up activities, all are performing at or above our initial expectations. Skyline is currently 75% leased and 69% occupied, and we expect stabilization in the second quarter.

We continue to achieve gross rents in the low $2 per square foot range. Access 2300 stabilized during the fourth quarter and is currently 98% leased. Asking rents are pushing higher and currently stand at $1.82 per square foot with no concessions offered. Allegro, formerly known as Magnolia Nest, is in the Valley Village district of Los Angeles and opened in December. The property is currently 32% (sic - see Press Release) leased, 21% (sic - see Press Release) occupied, and we expect stabilization in the second quarter. Gross rents at this property are $1.85 per square foot for units ranging -- sorry, averaging 1210 square feet. Muse, located in the Arts district of North Hollywood, began pre-leasing last month. We are 8% leased with first move-ins occurring this week. Gross rents are $2.15 and average units at that property are 890 square feet.

Now going from north to south, I will comment on each of our three major areas of operation. In Seattle, there are approximately 600 new multi-family deliveries for the fourth quarter. Of note, though, Bellevue Towers 539 units, ceased their rental activity and has recently initiated condo sales at lower pricing. Seattle office market continues to absorb vacant space reporting nearly 470,000 square feet of leased space during the fourth quarter, which is about 0.5% of total stock.

Boeing added 1600 employees during the second half of 2010, while Russell Investments completed their relocation during the quarter by occupying five floors of the former WaMu Tower in downtown Seattle. Essex's market rents were up a Company leading 9.9% during 2010, with Seattle CBD and the east side leading the charge. So as of January 25, the Seattle Metro area had a 96.1% occupancy among stabilized assets, with a 4.8% net availability.

With solid rent growth we expect Seattle to contribute 4% to 5% same store revenue growth in 2011. Northern California there were approximately 400 new multi-family development deliveries in the quarter. The office market continued to heat up, but the only meaningful activity during the fourth quarter occurred in San Jose, where approximately 610,000 square feet were absorbed or roughly 1% of stock.

The rest of the Bay Area markets were flat to slightly negative during the period. Job growth continued to be modest but steady, with several reports of increased hiring at Google and other tech related companies on the horizon. In fact, Google announced 6,000 open positions last week and has had 75,000 applications since then. Essex market rents were up over 9% in the region during 2010, with Slicon Valley posting the largest of that gain at 12%.

Oakland properties, our Oakland properties on the other hand, despite job losses in the MSA, showed a 7.6% market rent growth. As of January 25, Northern California had a 97% occupancy among stabilized assets with a 4.2% net availability. Due to even tighter occupancy conditions in the Bay Area versus Seattle, we also expect Northern California to deliver 4% to 5% same store revenue growth for 2011.

Finally, in Southern California the new family development deliveries were approximately 800 units for the quarter. But lease-up activity in a couple areas has slowed rent growth. The office market remains weak in Southern California, with net absorption essentially zero for the quarter and the overall occupancy -- the overall vacancy is still hovering around 20%. Essex's market rents were up 6.3% in Southern California during 2010.

However, during the fourth quarter Los Angeles CBD showed some signs of softness, with a couple large private owners in downtown reporting occupancies below 90%. We expect some continued softness in downtown through the first quarter, but ultimately see this desirable location strengthening. As of January 25, Southern California had a 96.3% occupancy among stabilized assets with a 5.5% net availability. Since Southern California is not expected to enjoy occupancy rates as high as Northern California and this region has a lower loss to lease than its neighbor to the north, we only expect Southern California to contribute same store revenue growth of 2% to 3% in 2011.

Thank you and I'll now turn the call over to Mike Dance.

Thanks, Erik. Today I'll provide an overview on the fourth quarter financial results and provide some additional commentary on our '11 guidance. On the November 4 conference call, we provided Q4 guidance of $1.35 midpoint for FFO per share. The $1.35 midpoint included $0.12 of known gains from the sale of marketable securities and additional interest income from the. Santee Court loan, so the midpoint estimate for the fourth quarter's core FFO was $1.23 per diluted share, a $0.01 per share decline from the third quarter FFO, given the expectation of reduced interest income from the fourth quarter sale of marketable securities. Subsequent to providing this guidance, we acquired three failed condo assets that will be operated as apartments and on the date acquired by Essex, Anavia was 23% occupied, 416 Broadway had 89% availability and Allegro was 100% vacant.

In addition, both 416 Broadway and Anavia had scheduled rents approximately $45,000 a month below their market rents. The underwriting for these investments included significant marketing expenditures and lease-up activities, which has been and will be dilutive to FFO per share until such time as the assets reach 95% occupancy and we bring the existing leases to market rents.

The December '10 acquisitions had a $0.01 per share dilution in the reported core FFO for the quarter. Adjusting for this dilution, the reported fourth quarter pro forma core FFO result would have been $1.29 per share compared to the guidance of $1.23 a share, a $0.06 per share improvement over our previous guidance. This $0.06 per share improvement reflects the improving sequential growth of the same property portfolio and better than expected leasing activity at Skyline and Access 2300.

In '11 we also have the ongoing leasing activity at Skyline and, as mentioned earlier by Erik, the lease of that Muse is expected to be ongoing through the third quarter. The cumulative impact from all the 2010 acquisitions that have significant lease-up activity and a significant loss to lease, reduced the midpoint of our 2011 FFO guidance by $0.05 per share in the first quarter, $0.03 per share in the second quarter, and $0.02 per share in the third quarter.

In retrospect we could have done a better job in our press release and subsequent communication to investors and analysts, explaining the extent of the FFO dilution from these investment opportunities. Had we not done any acquisitions of assets requiring lease-ups, the 2011 core FFO guidance would have been approximately $0.10 per share higher than the FirstCall consensus.

In the past, we have verbally communicated our intent to sell the investments in REIT unsecured bonds when their yields to maturity become less than the acquisition yields for external growth opportunities. In the fourth quarter, we sold bonds with a yield to maturity of approximately 1% for a reported gain of approximately $3.5 million. And in January '11 we sold $26.7 million of unsecured bonds that had a yield to maturity of approximately 4%, or Q1 2011 gain of $4.5 million.

Many analysts have commented on our conservative economic outlook. Given that our expectations for job growth is a significant driver for our '11 guidance of rent growth, if actual new jobs in our markets exceed the estimate of 1.3%, or if the majority of our expected job increases occur in the first half of '11, we will be able to achieve the higher end of the '11 FFO guidance range of $5.65 per diluted share.

If the higher than expected job growth occurs late in the third quarter, it is too late to meaningfully increase the 2011 NOI guidance, as the majority of our leasing activity occurs in the spring and summer. Our preliminary January '11 results are reporting sequential monthly growth in gross income in all our markets and improvements in both the renewals and new lease rates while also achieving higher occupancy.

January is normally a very slow demand period for apartment rentals, so operationally we are starting the new year off strong. Although pleased with these early results, it is hard to imagine that we can continue to drive meaningful future rent increases without the expected increase in new jobs. The low end of the '11 guidance is in the event that short-term interest rates change faster than the 25 basis points per quarter increase in LIBOR rates that we have assumed for the midpoint of the guidance, or if the refinancing of the current line balance increases our average borrowing cost above 5%.

The '11 plan is to reduce our current variable exposure by $150 million to $200 million, with a combination of 10 year secured financings and five year unsecured term loan. If inflation re-emerges in the economy it could also cause our operating cost to exceed the 2% budget. These are all reasons for the low end of the guidance. We are currently in negotiations with one of our institutional partners to form a co-investment acquisition joint venture. If successful with the negotiations, it is assumed that the majority of the 2011 acquisitions will be in the joint venture, which will utilize up to 70% leverage and will reduce the expected issuance of common shares.

Please note the projected sources and uses of cash presented on S16 in our supplement, which assumes an annual increase in the common dividend of approximately $0.05 a share. The Company's dividend policy will be reviewed and approved later this month by the Board of Directors, so any change in the current dividend is subject to the Board's final approval.

That ends my comments and I now return the call back to the operator for questions.

(Operator Instructions). Michael Salinsky with RBC Capital Markets.

First question for Mr. Lopez, actually. In terms of your guidance for 2011, what is the sensitivity to job growth? If job growth moves X, what kind of -- what rent growth would you expect on that?

To the upside, if you -- our forecast is 5%. I would think that a meaningful difference would be in the upper 6% to 7%. We would probably need job growth more in the 1.6% range to get that. And on the down side, if we were to go from 5% to more like 2%, 3%, we would probably be looking at about 0.5%, 0.6% job growth would get us there. Hopefully that --

Hi, Mike, and as a note, those are market rent numbers, so obviously our portfolio is subject to expiring leases and turning those leases over, so. But John's speaking from a market rent growth standpoint.

That was what I was asking more so, just the sensitivity of the analysis there.

To drive those rent growths this year there's a sort of a small lag between job formation and demand and so that really would have to be a significant change in the first half of the year to drive that.

Okay. Fair enough. Second of all, you talked about co-investment joint venture. Is this similar to the existing fund structure you guys have used or is this going to be one-off joint ventures at this point.

Mike, we expect it to possibly and probably lead to a fund three, but at this point in time it's envisioned to be a 50/50 joint venture with an institutional partner.

Okay. And do you feel comfortable talking about hurdle rates for those, for the joint ventures yet or no.

Sure. No, I think it's mid-teen type levered returns, not dissimilar from what we've looked at before. So I think on an unlevered basis we believe IRRs in the high 9, 9% to 10% range and that should lever to a mid-teen type of return.

Okay. And then final question, looks like you expect to be a little bit more active on the disposition front there. Is that mainly just non-core asset recycling or is there any kind of shift in strategy on that front.

No, it's just trying to -- as we look at our portfolio, we essentially rank the portfolio from what we think is the highest growth to the lowest growth and culling the low growers and assets that for whatever reason have unique situations or issues, we will move forward to try to sell into this market, especially as the market heats up and differentials between higher quality properties and locations, as that spread over lower quality properties and locations and higher quality properties and locations, as that tightens, we will seek to cull the bottom end of the portfolio.

But you're still comfortable with the footprint of your portfolio as is, correct?

Yes, absolutely.

Thank you.

Eric Wolfe with Citigroup.

As far as your same store revenue guidance, obviously it's going to lag peers a little bit this year just because your rates bottomed after them, but could you tell us how much you expect your same store revenue to increase from the first quarter to the fourth quarter, so we can get a better sense of where same store revenue will be entering in 2012?

Sure. Let me go to same store here.

You're making Mike pull out his book of information.

Sorry about that.

It's weighted towards the last -- these go with gross income for the same store and then you can back into NOI. Gross income starting at about a 1.5%. Okay, total dollars or -- ?

Just the percentage growth would be great.

Starting off in the low 1%, growing to the low 2% in the second quarter, high 3% in the -- close to 4% in the third quarter and close to 6% in the fourth quarter.

Great. Thank you. And Mike, I think you commented in your remarks that interest rates have risen about 100 basis points while cap rates have risen about 25. Do you think it's just a matter of time before we see cap rates catch up with interest rates or do you think that expectations will just assume higher NOI growth.

I think it is a couple things. I think if you look back at November of 2010, you'll recall interest rates rocketed downward from what the summer till November. So I don't think cap rates adjusted all the way down during that period of time, even though the 10 year had a huge rally. And so I think that this is a more normal recovery. I think that 25 basis points is probably about where it's going to stay for some period of time. We see a lot of money out there. I mean, ultimately interest rates are a factor, but it's really flow of funds, number of properties that are on the market versus investor dollars that really set the cap rates and we see a lot of money out there. So I wouldn't expect cap rates to change much from this point on. But I don't think that they adjusted fully downward in recognition of the rally in the 10 year late last year.

That's helpful. Thanks. And one last quick one. You referenced in your remarks the improvement you're seeing in renewal and expiring lease rates. Could you just quantify that for us?

This is Erik. We've seen, as I said, improvements for nine months in a row now and we've had most recently in January for the entire portfolio those rates going up 4.5%, or sorry, 4.8% over the existing rates, higher in Northern California and a little bit lower in Southern California.

All right. And that's the average of the expiring and the renewals, the 4.8% you mentioned?

Correct.

Okay. Great. Thank you.

David Toti with FBR Capital Markets.

Just a question relative to your recent GSE financing. Are there any signs of tightening or any changes to the underwriting process that surprised you relative to previous experiences?

I think the only change is there's more volatility in the spreads that the investors expect to see, but the underwriting is comparable, still tied to the 10 year, it's just they take it out a bit and we've seen some volatility that surprises us, not understanding where all the volatility is coming from.

David, I think I know where you're going with that question because we're very sensitive to it and tracking any indication that the GSE's appetite for multi-family financing has changed and I think underlying that sensitivity is our conclusion that we see pretty much business as usual coming out of the GSEs, at least at this point.

That's helpful.

Most GSEs are selling the mortgages to investors, so they don't keep it on their balance sheet. So they're really acting as a conduit for buyers on the other side.

Great. I was just wondering if there's any reflection of changing conditions and sort of the recently renewed CMBS market sort of flowing back into the normal pipeline of secured debt.

I think with that, those that don't qualify for the GSE financings now have a source of financing that wasn't available to them before.

Okay. And then just moving on to some of the deals that you've done recently, the broken condo deals, the developments you purchased from banks and from the developers, do you believe there's any inherent pricing power on rents in those projects that's above average given the quality of the asset itself? I know the going in yield from your perspective is comparable to a traditional apartment building, but do you underwrite a stronger rent growth profile for those assets.

This is Mike, and actually Erik may have a comment on this that you may want to follow up on it. And, actually, let me go back to Mike's comments because I think I would change one word. The Anavia property is 83% occupied, not 83% vacant, just to get that fact right. But we have not underwritten greater rent growth there than other locations. We see really essentially A and B product with similar dynamics in terms of rent growth. By far, the more important issue is the location and just to give you an example, we saw great rent growth in Bellevue, Bellevue, Washington, for example but four miles away there's the city of Kirkland, another very high end city where rents haven't grown. So it's very submarket driven, or haven't grown as aggressively. It's very submarket driven, As and Bs having, I think, similar percent increases. Erik, do you have any additional comments on that.

No, that's been our experience in the portfolio and perhaps if growth really takes off there may be an expansion in some of those higher end rents. But we don't see it when we underwrote those and we don't see it happening this year.

Great. And then just one last question. Forgive me if I missed this earlier in the call. But did you talk at all about the dynamics, the supply assumptions and the shift this quarter from last quarter relative to multi-family supply and single family home supply? In your markets it seems to have sort of inverted on a go forward basis and I'm wondering if there's any dynamic around that that changes your outlook?

No, in fact, that was sort of our expectations at the start of last year when we developed a five year pipeline is that the lag in the single family recovery is going to be much longer than the multi-family and it's a very unique situation that's never occurred before.

But I will add that a 0.2% supply on both the single family and the multi-family side, I've been here since 1986. I haven't seen numbers that low. So I think -- I mean, there may be small changes here and there but the overall picture doesn't change, which is housing supplies are going to be extremely low for at least the next couple years.

We're basically splitting hairs. Thanks for the detail today.

Thank you.

Alex Goldfarb with Sandler O'Neill.

Mike, just going to the guidance, just want to make sure I have everything straight for 2011. Two questions on the guidance are one, the contribution. If you think about total NOI, how much of the NOI either in aggregate amount or as a percentage will be same store and how much will be from the activities last year? And then including lease-ups of developments. And then two, on the guidance is additional bond gains or promotes or other sort of the other that you guys tend to report, how much of that is assumed within your numbers for '11?

I'm glad you asked that question.

Mike has been waiting for someone to ask this question because he did something a little different that I think is going to help you all.

On F16 we've added those properties that were in the 2010 same store that will be going into the 2011. So I'm actually providing on F16 the same property apartment communities that we'll be using for '11, and also shows the expected increase in NOI from development communities, redevelopment communities and the newly acquired communities. So that's all in F16. And as far as other nonrecurring income, pretty much we've sold most -- almost all of the bonds that we had invested in during the dislocation in the markets that were causing unsecured bond yields to be double-digit and so those are pretty much all sold off. So the $4.5 million that we reported in January should be it for the year. Does that answer your two questions.

Yes. So there's no -- there's no other, other in your numbers. Everything else in your guidance for 2011 is just straight NOI, except for the bond gains?

Interest income. We are still expecting interest income from our structured finance investments. So it's NOI and investment income from -- that's recurring.

Right, but you are not expecting - there's not like a gain from harvesting one of the structured finance, is there?

Exactly. Hey, Alex, this communication of financial information and making sure that we have the consistency with respect to reported results and guidance and all those other things is why Mike created the page on F16. It really walks through from top to bottom the guidance to prevent what I think may have happened this quarter is some misunderstanding about what's in consensus and what isn't and sort of the noise inherent in the quarter, which obviously we're concerned about, but at the same time we want to make sure that we get it right and so I told Mike I thought he was a rock star with respect to the creation of F16 to try and keep everyone sort of on the same page.

Right and obviously appreciate the F16 and that's why I just want to make sure clarify so that we're all on the same page. Just a final thing is as you're seeing -- I think last call you said you weren't as optimistic about the Freddie B note program, but with property values coming back are you seeing more opportunity where like underwater guys who are trying to hang onto deals are more likely to contact you to be a mez provider or is that something more new capital, new equity coming in would be seeking you guys to be a mez provider.

We actually are working on a couple of mez transactions as we speak. I don't want to provide a lot of detail because I don't know whether they're going to come to fruition or not. And in fact they are at least one of them is a Freddie, I think maybe all of them are Freddie deals. We are seeing some of that in terms of opportunity out there. I'm not sure what exactly we're going to get done. We like the acquisition market as well. And from our perspective, there was a time when we were very excited about the mezzanine market but there wasn't a lot of acquisitions. I think we're going to go back into a more active acquisition market and therefore we're going to pretty much devote our resources there as opposed to the mez market.

Okay. Thank you.

David Harris with Gleacher & Company.

You issued $250 million or raised $250 million of equity last year through the ATM. Fair proportion relative to the base of the base of the Company. Is there an upper limit where you start to say, hey, we should be holding back or doing this by more general conventional equity offering?

If needed to match fund acquisitions, yes, we would consider a more traditional offering. But pretty much the way the acquisitions have come in, they've either come in with debt like Bella Villagio, where the equity portion that we were funding wasn't that great. So if we can stagger it over time, ratably kind of through the quarters, we like the ATM, but if we needed to close a large acquisition and required $50 million or more in a short period of time, we would look to more of a traditional offering.

Forgive me if I missed this. It's been a long week on the earnings front. Did you go through how you're thinking about ATM and additional share issuance in '11, implicit in the guidance?

No, we have not, other than stating that if we're successful in completing the negotiations with a joint venture partner, it would be a 50/50 joint venture that would use significantly more debt to finance the acquisitions, so we would not need as much equity. Pretty much all of the acquisitions in '10, we match funded with about 50% equity and 50% debt.

Okay. So if I go back to your magic page, Mike, S16, answered all my questions. Is it the 33.7 million shares that you're assuming the average for the year, does that assume further ATM issuance or does that not?

A modest amount. Not material.

Okay. Okay. And then I have a small question, just glancing through the acquisitions last year I noticed there were at least a couple of properties where there was a retail component on Santee Court actually fairly substantial retail component. How should we think about that in terms of risk and a challenge for you to handle that? Does it encourage you to buy these properties with retail or are you kind of -- how do you think about this, Mike?

Yes. Santee Court does have a substantial retail component. We view that as being part of an urban type of property, which we think is advantageous and we believe that controlling the retail portion of that is important to us, because our residents are looking for certain services that will enhance their experience in these various locations. So, as the Company looks for more downtown and urban locations, which is definitely one of the things we're focused on, we expect to have more retail as part of that. I think it's part of what the younger demographic wants and it's part of what we're looking for in terms of our investment activity.

Two questions flow from that, then. Is there any particular management challenges with that? And do you think it in any way impacts the resaleability of those assets to an institutional market?

I think it could. On the first point, we have organized essentially a commercial retail group within Essex to manage our exposure. I don't remember what the total square footage is. Mike may know it. But anyway, it's going to become a larger portion of it. The Via property, which is nearing completion in Sunnyvale, has a significant, about a 40,000 to 50,000 square foot retail component that we are actively working on. The Jewel Broadway project in Seattle has a significant retail component. Again, we view that as advantageous. We need to be organized appropriately to do a good job of managing that. And in fact, one of the upside potentials to the guidance would be we have significant vacancies in the retail part of these new acquisitions and new buildings that we can -- we hope to lease up and to improve over time. So in terms of their saleability, I think that -- I don't think it's going to affect their sales value in the institutional world. Again, I think that the world is going in that direction. We're having quality retail associated with your apartment community. I think they go hand in hand and it's a net benefit for the ownership.

Another comment on that. We've been approached with unsolicited bids by buyers that want to carve out the retail portion and buy that from us. And those are attractive offers, but to Mike's point, we're not sure we want to accept those, given that we want to make sure that the retail tenants complement our residential residences.

Okay. I'll get back to back to shivering my way through a New York winter.

Thanks, David.

John from Bank of America-Merrill Lynch.

Just a quick question on the comment on concessions. You mentioned they picked up sequentially and I was just curious if that was seasonal or do you anticipate concessions to trend up as you continue your leasing efforts in Southern California.

Yes, this is Erik. I don't expect them to trend up. The activity during the fourth quarter was largely related to a few properties where, again, we were tactically targeting a higher occupancy. So, yes, there's no concern on our part there.

Great. Thank you.

[Swah Yalla] with Morgan Stanley.

I had a question on the development pipeline. You mentioned $150 million of development starts or development this year. I'm just looking at the remaining cost for Via, which is about $50 million. So the rest of the $100 million is that like spread across two or three other projects you intend to start this year?

Yes. This is John Eudy. It's primarily Cadence, the Cadence campus that Mike mentioned in his opening comments in San Jose.

Okay. So it's just one project from that predevelopment project, right?

There's one other small one that -- there's a small starting number in there, but it's primarily Cadence, yes.

Great. And the two mortgages which you purchased in October and December, was just wondering if you can give some color on that. Are these intended to be sort of yield plays or is there like an option to acquire like you did for the Santee Court.

One was acquired by the special servicer of a CMBS mortgage pool. And well located downtown LA. We're currently in negotiations with the borrower and the outcome is unknown at this time. But it does have the opportunity, maybe, to have a borrower refinance it, pay it off early and be another Santee Court or it could turn into a longer term loan, more like a mez program. That's still in negotiations. The other investment is a piece of a Freddie Mac Remic that we own a piece of.

Great. Okay. Thank you so much.

Andrew McCulloch with Green Street Advisors.

Could you give us -- just to follow-up on a previous question, what's the total budgeted cost of the Cadence site?

To complete build-out?

Yes.

It's about 250.

Okay.

And actually it will be done in two phases.

In two phases, right. That's not all initially. It's entitled for up to 769 units. Our plan is to build roughly 760. We will start the first phase this year.

When do you expect that to be totally complete?

Three years.

Approximately three years.

And then question on your capital structure. Have you made any moves or do you plan to make any moves to better position your capital structure to access the unsecured market?

Yes. We're planning on doing that either through traditional commercial banks that have been either in our bank group or we've actually been approached by banks that aren't in our bank group that would like to lend us money on a term basis that we could make on an unsecured basis and term it out to a fixed rate loan. Those are typically four to five years. And we are pursuing a private placement of unsecured bonds.

Okay. Great. And then just one last question. Essex has been getting more opportunistic than some of its peers in the last couple years, buying unsecured bonds, buying condos, originating mez. Do you expect to do anything in 2011 that we haven't seen you do yet?

That's a good question. You almost never say never, is the old adage. I think that we're happy with the markets. We think that we're in the right place and the ways of accessing the market, I can't think of any new ones that we haven't pursued thus far and so I think you're going to get more of the same, Andy.

Great. Thanks a lot.

Steve Sakwa with ISI Group.

Mike, I just wanted to know if you could go back and talk to the unlevered IRR comment that you made about the new fund or JV partner that you're looking to invest with. I think you said you were targeting unlevered IRRs in the 9% to 10% range. Can you just walk us through what roughly going in yields would be, how you think about exit cap rates, what that implies for kind of annualized NOI growth over the whole period and then to dovetail that in, we've obviously seen the long end of the curve back up. 10 year Treasury now sitting at about 3.6% and obviously concern that that goes to 4%, 4.5%.Just as you think about that, one is do you share that view or do you think about rates moving up that much quickly and then how do you think about the underwriting and exit cap rates in these deals.

Great question. We go through a process here of ranking our submarkets by expected growth rate. We're active in 30 some odd submarkets in all the coastal markets from Seattle to San Diego. The top performing markets have what we believe to be a five year rental growth rate of somewhere in the mid-30s and the lower end of our portfolio has a rental growth rate somewhere in the mid-20% over that five year period. If you assume cap rates were what I said at the beginning, 5% to 5.5%, let's just use as a reasonable mix of As and Bs, if you start with that and you get -- you don't even need all that rental growth in order to generate the unlevered 9s, exiting at somewhere in the 5% to 5.5% range. Again, the exit cap rate being similar to the entry cap rate with that rent growth and maybe 3% expense growth gets you to those numbers.

And I guess what's the risk that rates are higher whether -- I'm not sure if you're using a five year, seven year or 10 year hold, but to the extent that rates are 100, 150 basis points higher, kind of puts pressure on that exit cap rate. Do you sort of worry about that or think about that when you're kind of running those calculations.

Not so much in a joint venture mode, Steve, because essentially decisions to acquire are going to be mutually made. We're not dedicating our pipeline to the venture. And, therefore, if the partner says no, we don't want to do it, interest rates have moved up too far, then we'll look at other sources of capital to pursue it on balance sheet. So, I don't think it ties us into the joint venture to the extent that the fund did and so if you're in that very dramatically increasing interest rate environment, and I might add without increasing cap rates, right, because you're picking one side of the equation without looking at the other side of the equation. So if there is lack of symmetry with respect to cap rates and interest rates, I think that the venture concludes that it cannot achieve its return thresholds and will look for other opportunities. Does that make sense?

Yes, I guess I'm just -- I guess I'm most focused on when you look at projected NOI growth for buying an asset, I guess what is the average sort of NOI growth that your effectively underwriting and I guess what I have found at times is those projections tend to be a little bit more optimistic than what, I'll call it, the public peer group has been able to achieve over extended periods of time, so --

I think that's a fair point. I don't think that -- I don't think Essex shares that over -- the super sugar coated view of the world that I hear out there. I see some discussion of development cap rates in the 6.5% to 7% range, using today's market rents, candidly, I'd question those and so I think that we try to be pretty realistic. I think if anything, I mean, we have an internal audit function here that goes back and compares what we actually achieve on our acquisitions and development deals.

Over a long period of time we have a pretty good track record of hitting what we project and I think that, again, with rents growing 5% to 6% a year over five years and expenses in the mid-2% to 3% range, I think we're going to hit those numbers. So, obviously we can be surprised. None of us has a real clear crystal ball. But I don't think that we are in the position of dramatically over-promising. I don't think it's part of what -- of our culture. And that holds true to the guidance as well. And in fact, several comments that I read last night made that comment about our guidance tends to be pretty conservative. I think that the way that we underwrite things and the way that we look at the world, we tend to be pretty conservative, so I would agree with that.

Okay. Thanks.

Haendel St. Juste from KBW.

Mike, I guess with lower cap -- with cap rates lower and debt costs higher than last year at this time, how has your value creation playbook changed? Development make more sense here and what kind of spread would you expect to have between acquisitions, dispositions and development yields?

I think development does play a part and it is attractive to us. We -- John Eudy and I talk about this very often and he may want to add to my comments, but we would like to stay more on the things that we can start in the relatively near future. I mean, just because the world is difficult to see. There's forces both good and not good in the world that cause us to be concerned about maybe the longer term starts and so we have tended to increase our cap rate requirements for the longer term starts. If we can find well located deals, then I think we're very interested in development. We're looking at maybe -- basically underwritten as we underwrite an acquisition, we would like to see a 20% higher return on a development deal that we can start within, let's say, the next year relative to an acquisition. So a 5% cap on an acquisition would mean we would want a 6% cap in the same location on a development deal. John, do you have any -- ?

I agree. The next year, the relative risk coming out of the cycle in the direction we're going right now is probably more attractive than in the middle or the latter part of the cycle. So you're going to see more starts this year than you have in the last two years for sure.

Yes, and John and I also were involved in a conversation about our existing land inventory. So there is a chance, I think, that we will start some of the other sites within the land inventory and the one that immediately comes to mind is the Dublin site, which you'll recall we bought for $5 million. It's a site, a transit site in Dublin on the -- literally on the Bart line. Take a bridge to the Bart train. 309 units in a distressed sale we bought for $5 million. I think it was an unbelievable acquisition. So we may start that and there may be a couple other starts that we look at this year.

Okay. Thanks for that. And then one more here. Can you give us -- remind me again what the status is on fund two today and when you would expect to, I guess, start the wind down of fund two and what will the returns look like today based on current asset pricing?

The current plan pursuant to the fund documents is 2012 we start the disposition. We have the opportunity to get two one-year extensions from an advisory committee of the fund, which we will be likely recommending. I believe the investors would be pretty close to getting a small return. We wouldn't be close to -- in addition to the cash flows they've already received on all their capital invested, but it wouldn't be able for us to achieve our promote hurdle, which is a 10% IRR. We do believe that if we can hold on to them through 2014 and harvest some of the expected increases in rent, that we would be earning a pretty fair amount of promoted income in 2014.

Okay. Fair enough, Mike. Thank you.

There are no further questions in queue at this time. I would like to turn the call back over to Mr. Schall for closing comments.

Okay, thank you . In closing I would like to just reiterate that our long-term outlook remains very positive for all the reasons discussed on the call. We are very aware that the West Coast housing recovery is a step behind other parts of the country. However, I'm very confident that this is a timing difference reflecting remaining housing vacancies that are soon to be absorbed. I'm also very confident that the long-term rental growth rates for the West Coast will be among the best in the country. Thank you for joining us today on the call. We appreciate your interest in the Company and we look forward to seeing you at next quarter's call.

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.