Essex Property Trust, Inc. (ESS) Q1 2012 Earnings Report, Transcript and Summary

Greetings, and welcome to the Essex Property Trust, Inc. First Quarter 2012 Earnings Conference Call. [Operator Instructions] Statements made on this conference call regarding expected operating results and other future events are forward-looking statements that involve risks and uncertainties. Forward-looking statements are made based on current expectations, assumptions and beliefs, as well as information available to the company at this time. A number of factors could cause actual results to differ materially from those anticipated. Further information about these risks can be found in the company's filings with the SEC. 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 now begin.

Thank you, and welcome, everyone, to our first quarter earnings call. Erik Alexander and Mike Dance will follow me with brief comments on operations and finance, respectively. John Eudy, John Burkart and John Lopez are here for Q&A. I'll cover the following topics on the call: Q1 results and market commentary; second, investment markets; and third, disposition activity. First topic, Q1 results and market commentary. Last evening, we reported FFO and core FFO of $1.63 per share for the first quarter of '12, which is ahead of our internal expectation and above consensus. We continued to see strong growth in Northern California and Seattle and a continuation of a steady recovery in Southern California, demonstrated by exceptional same-store NOI and revenue growth of 11.2% and 7.1%, respectively. This result reinforces our expectation for a strong 2012, driven by very limited supplies of housing and job growth that exceeds national averages in Northern California and Seattle and is near the national average in Southern California. We don't see a significant departure from this basic theme until at least 2014. Erik will discuss portfolio trends in greater detail. Our projections for rental and for-sale housing supply for 2012 are included on Page S-15 of the supplement. As expected, we see continued growth in multi-family deliveries in many of our target markets. We closely track the supply of both rental and for-sale housing and project deliveries through 2014. From now through 2014, the largest percentage addition to the existing multi-family stock occurs in San Jose, where we expect multi-family deliveries for 2012 to be 0.5% of stock or 1,100 units growing to 1.2% of stock, 2,600 units in '13, and 1.4% of stock, approximately 3,000 units, in 2014. Seattle has the second-highest multi-family deliveries, estimated for 2012 to be 0.5% of stock, or 1,800 units, growing to 1% of stock, 3,800 units, in 2013 and 1.1% of stock, 4,400 units, in 2014. All other West Coast Metro areas are expected to average less than 1% annual rental supply growth through 2014. L.A. and Orange Counties are expected to have the least multi-family supply, averaging 0.3% and 0.6%, respectively, through 2014. The other housing supply risk relates to for-sale housing production. We continue to believe that affordable for-sale housing is a significant threat to apartment rent growth. Our for-sale supply expectations remain muted in our coastal markets, largely due to high median home prices and restrictive lending practices, which should be beneficial to Essex. Seattle single-family deliveries are estimated to approach 0.9%, or 6,300 units, in 2014. However, both Northern and Southern California have very little for-sale supply, averaging less than 0.2% of stock in 2012, growing to 0.4% in 2014. As a result, even with the growing apartment supply, we expect very tight housing conditions in each of our targeted markets through 2014. Subsequent to quarter end, we completed the buyout of our partner's interest in Skyline apartments, located near Irvine in Orange County. I have commented previously that institutional co-investments provide an important alternative source of capital as compared to financing on Essex's balance sheet. In this case, we estimate that we issued 320,000 fewer common shares by acquiring Skyline initially with a partner and then the subsequent partner buyout as compared to the pro forma acquisition of Skyline on our balance sheet back in March of 2010. Obviously, the stock price performance was a major factor in that result. In development, we started 5 development projects in 2011 and started the second phase of our Epic community in San Jose during the quarter, all of which are outlined on Page S-9 of the supplement. The average cap rate on these construction projects based on current market rents is approximately 6%. Aside from these transactions, our Shadow pipeline, which is not included on S-9, consists of 3 potential developments in Northern California that could start in 2012 and have an expected cost of approximately $360 million. Thus, by the end of the year, we expect our construction pipeline to aggregate up to $870 million, of which Essex will own from 50% to 55%. We also have 3 smaller land parcels that are held in our land inventory that could be started within the next year and an operating retail property on 12.6 acres in Santa Clara that we acquired in connection with the bankruptcy amid the great recession that we are entitling for apartments. As suggested on the last call, the ramping of our redevelopment efforts continues as we once again are seeing residents willing to pay more for improved apartment homes. I am pleased with both the strategic direction of the redevelopment team as well as their growing impact on our overall results. Second topic, the investment markets. Cap rates continue to be aggressive in the coastal markets. Cap rates range from 4% to 4.5% for A property in A locations and from 4.5% to near 5% for B property in A locations. As with 2011, transaction activity abated at year end and is now rebuilding. We closed on -- we closed 2 small transactions in the quarter and continue to believe that total acquisitions will equal or exceed our $400 million guidance for 2012. In fast-moving markets, we have an information advantage given our economic research and historical data in our existing portfolio. We continue to find value in acquisitions through redevelopment, anticipating market trends and complex deals. Development deals on the West Coast underwritten based on today's rents generate development cap rates ranging from 5.25% to 5.5% or 6.25% to 7% upon stabilization. Third topic, dispositions. We announced 2 dispositions in the greater San Diego area during the quarter, both of which were acquired in connection with the merger between Essex and John M. Sachs Inc. in 2002. Both generated unlevered IRRs of approximately 10%. As stated previously, we look for opportunities to cull parts of the portfolio that have lower growth characteristics. Fortunately, we don't have significant numbers of property that are in this category, giving us flexibility to optimize the timing of dispositions. We will also begin marketing selected properties from our Fund II portfolio, which is scheduled to terminate in September, 2013, subject to an extension option. I'd like to thank you for joining us. Now I'd like to turn the call over to Erik Alexander. Thank you again.

Thank you, Mike. It's always nice to be here, especially when there's good news to share about another strong quarter for Essex. We're coming off a high-occupancy condition at the end of the fourth quarter. Essex was poised to make gains in scheduled rent during the first quarter of this year, and that's exactly what we did. We had solid results everywhere, but it should be no surprise that Northern California and the Pacific Northwest led the way. Los Angeles has strengthened and begun to contribute more to our results. We look for this trend to continue and are also optimistic that Orange County and Ventura County will be following suit in the coming quarters. The first quarter was characterized by good demand in all of our markets with the exception of San Diego. The current demand is consistent with our expectations for this time of the year. We experienced healthy renewal activity throughout most of the portfolio during the quarter and have finally seen some increase in our rate of turnover. We view this turnover activity as healthy because it provides us with more opportunity to grow rents. Additionally, we only saw a nominal increase in move-outs due to home purchases and affordability. Portfolio-wide, we increased rates on new leases by 5% during the quarter and over 6% during April. We expect turnover to rise during the second and third quarters, thereby decreasing overall occupancy. We still anticipate the annual rate of turnover to be just over 50% for 2012. The modest decline in occupancy, coupled with these higher rent levels, will help us achieve solid revenue growth throughout the summer and give us a better chance of achieving the higher end of our guidance for the year. As Mike pointed out, new multi-family housing supply remains very low and largely concentrated in a few areas of our portfolio. However, we have seen a few developers accelerate projects that we have been tracking and view this as yet another sign of strengthening in our markets. These favorable supply conditions will allow Essex to grow rents at or beyond expectations in the coming quarters. Again, our 2012 and '13 delivery projections are detailed on S-15. During the quarter, we completed nearly 3,300 new lease transactions and signed almost 2,700 renewals. Renewal and new lease rates continued to grow during the quarter and were 5% higher than expiring rates for the period. Renewals recorded during April were 5.3% better than the expiring rental rates, with the expectations for May at 5.6% higher than expiring rates. Now looking ahead, renewal offers for June and July averaged 4% to 6% in Southern California, 6% to 8% in Seattle and 7% to 9% in the Bay Area. So at the end of April, our loss to lease for the portfolio was approximately 4%. Reveal is our only active lease-up at this time, and net leasing activity remains ahead of plan. Currently, Reveal is 93% occupied and 96% leased. Turning to operating expenses. These were down during the quarter compared to last year, as well as compared to our budgets. Repairs, maintenance, administration and utilities were all lower than the first quarter last year. We do anticipate some higher turnover costs during the second quarter. We do not see pressure on any other controllable expenses at this point, nor do we expect any significant variances with utilities to hinder our ability to manage costs. I'll turn my comments to each region, starting with Seattle. Market rents were up 6.5% compared to the first quarter of 2011. So depending on the submarket, we are now 4% below to even with our prior rent peaks. As of April 30, occupancy was 96.1% with a net availability of 5.1%. The job picture continued to be strong in Seattle. We saw more jobs than expected added during the quarter and have raised our forecast for 2012 to 2%. Property managers continue to report strong demand from employees of Microsoft and Amazon. Office absorption remains positive as another 650,000 square feet were leased during the quarter. We also saw a surge in industrial demand at the south end of the region. In Northern California, market rents were up 11% year-over-year. So based on submarket location, we now are above previous peaks by as much as 5.5%. As of April 30, occupancy for the region was 97.2%, with a 4.6% availability. Job growth continued to be solid in Northern California and is driving our rent growth. We saw the biggest gains for the quarter in the San Francisco and Oakland MSAs and have increased our forecast to 1.9% job growth for 2012. This is highlighted on S-15 of the supplement, along with all of our submarket job forecasts. Absorption of office and R&D space continues at a rapid pace and supports our belief that the region will continue to experience a healthy economy and continued job growth for the foreseeable future. During the quarter, another 1.5 million square feet of office was leased in the region, with the East Bay accounting for just over 1/2 of that absorption. SanDisk, the global leader in flash memory, took down nearly 600,000 square feet of R&D space in Milpitas during the quarter, and vacancy for such space has dropped to 14%. Now turning to Southern California. It's the jobs picture in SoCal that's probably the closest watched economic factor. We were disappointed by the 2011 revision, particularly in San Diego, where we have lowered our growth expectation to 1% for 2012. This also translates to a lower-than-expected rent growth for the year, which now stands at 2.5% in San Diego. Los Angeles and Orange County, however, have fared better. The March posting of year-over-year job gains was 1.2%. These employments gains match our annual expectations for 2012. The military obviously has some impact on the San Diego housing market. The troop rotations remain consistent with our expectations for 2012. We shared on our last call that the USS Ronald Reagan had moved to Bremerton, Washington, in January. But at least 6 other ships have returned to San Diego since then, including the USS Independence which ported yesterday. Changes in military base housing policy have some impact on lower-ranking personnel's ability to live off-base. We will continue to monitor this item. During the first quarter, we actually saw an increase in our military leasing activity and now maintain overall exposure in San Diego of about 15%, which is within our historical range. Market rents were up 3.2% versus the same period last year. Based on submarket location, rent levels remain equal to or 3% to 5% below prior peak. As of April 30, occupancy stood at 96% in Southern California, with a 6.3% net availability. Office-based absorption for the region was modestly positive during the quarter, with transactions in parts of the San Fernando Valley, Downtown Los Angeles, and creative office space on the Westside leading the way. Commercial development has picked up in the region. Marriott is breaking ground on 2 hotels adjacent to LA Live, while the Glendale Galleria is expanding the regional shopping centers as part of a major renovation. RiverPark in Oxnard has resumed construction after suspending this retail development back in 2009. Developers of Plivis [ph] are proceeding with the construction of Phase 2 of their project. All in all, we are very happy with the results of the first quarter and are optimistic about the summer leasing season. I think we are in an excellent position to take advantage of strong fundamentals, and we believe that we will enjoy solid growth well into 2014. With that, I'd like to turn the call over to Mike Dance.

Thanks, Erik. Today, I will provide a brief commentary on our first quarter results and an update to our '12 FFO guidance. Before I begin on the quarter's results, I want to highlight a new line item we added to the income statement, which breaks out the costs we provide in the management fee income from our general and administrative expenses. This is an allocation of the direct and incremental costs of the employees and departments that are involved in providing, on behalf of our partners, the property operations, the asset management, the capital markets activity and the development oversight for the properties that are not consolidated on our balance sheet. With a near doubling of our management fee income, we felt it was important to break out these costs separately to show the operating margin from this activity. Overall, the gross operating margin on the management fee income was 33%, and our corporate G&A as a percentage of property revenues was 4.3% in the quarter. Subsequent to quarter end, we increased the investment capacity of our Wesco co-investment partnership, with the partners committing an additional $100 million of equity to the venture. This gives Wesco $200 million of additional buying power and is expected to increase management fee income in the second half of the year. We continue to make progress on unencumbering our portfolio. We are on track to have 50% of our net operating income unencumbered by the end of the year as we are considering the prepayment of up to $200 million of secured debt on or near June 30. The cost of prepayment penalties and the write-off of unamortized loan fees from the early payment of secured debt is expected to result in a loss of up to $2.5 million, which will offset the $2.3 million income from the incentive partnership interest earned on the Skyline transaction. We are also in the process of negotiating an amendment to our current bank facility, and we expect to increase the line capacity to $500 million with an accordion to $600 million. This amendment should also extend the term to December, 2015 with 2 one-year renewal options at our option. As mentioned earlier, we are pleased with the favorable variances from our internal estimates for both property revenues and expenses, resulting in the increase of the midpoint of our diluted FFO per share by $0.03 for the year. Yesterday, we also provided the second quarter FFO guidance of $1.60 to $1.66 per diluted share. For the second and third quarters, we expect financial occupancies to drop to 96% as resident turnover returns back to historical levels of approximately 55%. The estimated 90 basis points loss in occupancy will be offset by higher scheduled rents, and our estimate of the second quarter sequential revenue growth for the same property portfolio is an increase of 75 basis points. During the quarter, the lower level of maintenance and repairs expense is mostly timing-related, and we expect same property expenses to be higher in the second and third quarters, associated with the increase in resident turnover. For the second quarter, we expect a sequential increase of 5.5% in the same-property operating expenses or a 2.3% increase for the second quarter '12 over the second quarter in '11. The projected increase in same-property rent growth is more than offset by the expected increase in operating expenses, and the midpoint of our second quarter guidance assumes a sequential decrease in the same-property net operating income of 1.3%, or a $1 million decrease. And the second quarter's year-over-year increase in the same-property net operating income is expected to be 8%. As discussed on previous conference calls, our first half of the year's property operating expenses are still benefiting from the reduction in property taxes from the temporary declines in the Prop 13 assessed values. As of July 1, the new assessed values are reinstated to the maximum allowed under Proposition 13. Our property tax expenses will increase by approximately $400,000 per quarter, beginning in the third quarter of this year. Accordingly, we still expect same-property expense growth of 2% to 3% for the year. Also, we're expecting in the fourth quarter of 2012 that Expo, formerly known as our Queen Anne development, will open 5 months ahead of our previously disclosed schedule. The earlier-than-expected lease-up of this development for its opening in November '12 will decrease our income from co-investments as we expense the operating costs and the rent concessions during the property's lease-up. This ends my comments, and I'll now turn the call back to the operator for questions.

[Operator Instructions] Our first question comes from David Toti from Cantor Fitzgerald. David Toti - Cantor Fitzgerald & Co., Research Division: I just quickly want to touch on a detail on rent growth. There was double-digit rent growth in San Mateo and Santa Clara with what looks like very little occupancy damage. How sustainable do you think those rates are? And where else might we see this type of pricing power in other parts of the portfolio?

This is Erik. I think you could expect to see pricing power really in all areas of the Bay Area. We've seen the strongest occupancies, as you pointed out, on the peninsula and in San Francisco, but it's also been strong on the East Bay and in San Jose. So when you look at the gains that we're making in both renewals and new lease rates, they're really happening across the board there. David Toti - Cantor Fitzgerald & Co., Research Division: Do you think these numbers are aberrational for the rest of the portfolio or are we just sort of in the first wave of double-digit rent growth?

Yes, I don't know about operational aberrational. I mean, I'm not going to be surprised to see them occur in parts of the Pacific Northwest. And again, as we have tight occupancies in all of the submarkets, again, it puts pressure on pricing and gives us that pricing power wherever those conditions occur. David Toti - Cantor Fitzgerald & Co., Research Division: Okay. And then my last question is just relative to the loss to lease being about 4% for the portfolio, so nearing the prior peak. Can you tell us where you are relative to the average portfolio rent as a percentage of resident income and how that compares to the loss to lease?

This is Mike, David, and John Lopez is here. The rent-to-income relationship we use on a market basis, we think it's a lot less appropriate or meaningful if you do it on a property-by-property basis or our portfolio, which is, I think, what you're asking. We would rather look at the overall market when it comes to rent-to-median income relationships, and we track that very, very closely. We're less concerned on a property-by-property basis primarily because the decision -- the local decision is, whether you move into Apartment A, B or C, not what your particular income is relative to the rent that you're paying. So even though people may be able to pay more rent, given their income level, it doesn't necessarily mean they will because everyone is concerned about what are the trade-offs? Where can I get the value represented and the best apartment relative to its price? So that's why the pricing dynamics within a local market are so important, and rent to median income is really the measurement of the broader market -- the affordability of the broader market, which I think is much more meaningful. And so I have John Lopez here. Why don't -- can you talk about the rent-to-median income in some of these Metro areas?

Yes, David. Probably the market where we're closest to our long-run norm is in San Francisco. But having said that, that's after 15% rent growth last year. In the East Bay, in the Silicon Valley in particular, in Northern California, we're still significantly below those numbers. I would say also that the same goes for Seattle as well and Los Angeles. Probably San Diego is where we're pretty close to the long-run averages, and I think why, even with job growth, we're seeing less rent growth in that marketplace. So if you look sort of from a strata, San Diego and San Francisco are pretty close to their averages. Orange County's somewhere in between and Los Angeles, Silicon Valley and Seattle and Oakland significantly below.

And David, actually, let me add one more concept which was we had talked about our expectation for 28% portfolio rent growth over 5 years, and one of the comments that came back was that our assumption in there, which was 3.5% median income growth, was too aggressive. And the reality is, I think we're seeing more like 4% to 5% or even higher in the tech markets, which is not unusual. Obviously, I've been here for a really long time. I've seen a lot of these cycles. And so when the tech markets do well, they tend to do very well. And obviously, the opposite is also true. But the point is, we're seeing, in the skilled labor, we're seeing a real dichotomy out there in terms of the tech worker with the skills that are demanded by the tech company. We're seeing great income growth rates, which are supporting higher rent levels. And then we're also seeing the other side, which is markets that don't have that tech component that are more price-sensitive and have less median income growth rates.

And David, I just wanted to follow up. That average, long-run average rent to income level, it's not a ceiling. And if you go back and look in the past, when we've expansion cycles, particularly in our tech sectors, that rent-to-income level typically runs well above the average. So although, as I mentioned at San Francisco, we're approaching that rent-to-income, long-run average, it doesn't give me any concern that we can't push the rents, given our expectations, because typically during expansions, it runs much higher than the long-run average.

Our next question comes from Swaroop Yalla from Morgan Stanley.

A question on Skyline. Do you still see a condo exit for this investment in the coming years? Or is the plan for this to be part of the core portfolio now?

Swaroop, it's Mike Schall. Our expectation and our belief is that the highest and best use for that asset is a condo. It is a 20-something story high rise. It has Viking appliances. It has super high finishes. A number of us would like to bid on the snakeskin couch that is down in the wine locker area. And thus, and our thought about what the CapEx associated with Viking appliances might be gives us chills. So we know that its highest and best use is a condo. We look for a condo exit. But in a market that rents have not moved very much, we thought it was still a decent apartment addition in the interim.

Great. And then just sort of a big-picture question, Mike. Recently, we've heard the Bay Area and Southern California local governments have indicated a preference for more multi-family housing, both condos and apartments, in the coming years. How do you see that long term for your business and for your portfolio? Are you concerned with your markets getting oversupplied by this competing product?

Swaroop, we've been here for a long time, and I don't think that, that sentiment by the local officials has changed much in the last 20 years. And I'm looking at John Eudy here, who I'm sure he has an opinion on this one as well. But yes, we know that, but at the same time, these are also markets that are very difficult to entitle properties. The entitlement process is long. It's cumbersome. It's full of potential pitfalls. I mean, we have gravitated toward a, "Let's find the deals that we can start construction soon." So we're not taking a huge amount of entitlement risk, unless we get paid a lot more for it in terms of cap rates. So if we can get -- there was actually one transaction that we did which was the -- I alluded to in my comments is the Santa Clara site that we bought out of the bankruptcy that we are going through an entitlement process. But that was underwritten at a -- what, a 6.75% cap rate. And in the midst of the great recession, and the cap rate is much, much higher now, potentially. So we try to make good value decisions. But to your point or to your question, we don't see anything that's going to fundamentally change the outlook for multi-family housing in the short term. It's just the process is too cumbersome and too difficult. And actually, I'll make another comment. Because I'm on -- I chair a nonprofit housing board, and California has essentially taken virtually all the funding away from the redevelopment agencies in many of the major cities in California, which has only gone to undermine the production of affordable housing in these marketplaces. And it's a -- that is an area that remains a dilemma and remains an issue for the nonprofit homebuilders, which are doing exactly what you're suggesting, because their primary funding mechanism has essentially been greatly reduced.

Our next question comes from Rob Stevenson from Macquarie Research.

Can you talk a little bit about where, given the strong rental rate growth in Northern California and Seattle were during the quarter, where new move-in rents were versus renewals in those 2 markets?

Yes, this is Erik. I mean, as you heard, they're very close to each other. The growth rates for both new and renewals were in that 5% range. And so now, like if you look at just April for the portfolio, the new lease rates and renewal rates are within $5 or $6 of each other on average.

And what is the gap that you feel comfortable with in terms of having somebody move out versus what are you sort of want it to be to make sure that you keep somebody? I mean, if new move-in rents are X, what is an acceptable renewal rate in order sort of keep it in place and not drive that turnover cost?

Yes, I think you've obviously touched on something I think that's important to all operators, which is, you kind of want the good turnover. And the good turnover is the folks that are furthest away from market. And we've taken the position, and I think Mike has shared with everybody on several occasions, that we're not overly aggressive in trying to send renewals out above current offered rates or their forecasting months in advance. We find that to be a difficult proposition. Some people will accept that. Many people are offended by it. So again, when we're within the renewals and that being on the high end probably at the offered rate and within a couple of percent of the offered rate.

What's your card [ph] costs on units turns today?

It varies greatly. I mean, you're talking about what goes as far as painting and cleaning and miscellaneous maintenance supplies, that kind of thing, it's...

We'll throw vacancy in there too, right? So...

Our card [ph] cost is about 400 and vacancy might be another 400.

Okay. And then just one last question on San Diego Main. If you assume that the troop rotations continue the way that they've been for the last decade or so, I mean, what's the attractiveness of that market at a similar IRR or cap, going-in cap rate in growth expectations versus Northern California or LA Orange County?

Well, yes -- this is Mike. I'll answer that. Yes, this is part of our process, which I think is fundamental to the company and its success, which is ranking these submarkets -- our 27-some-odd submarkets, up and down the West Coast from Seattle to San Diego by future expected rent growth. And the person that does that is John Lopez, who's here. And it changes pretty dramatically over time. And 2 years ago, we're buying everything that we could find in Northern California and Seattle. And right now, we have a more balanced program in terms of -- we're buying in selected places in Southern California and Northern California. I think our #1 market continues to be the east side of Seattle in terms of submarket. But again, it changes over time. We go through a semiannual process of reevaluating submarkets and reranking them and use that as acquisition and disposition decisions. In terms of San Diego specifically, its long-term value is, I think, still meaningfully attractive in terms of its -- it used to be a military and entertainment tourism town, and it's become much more than that. There is real dynamic job base there, including biotech and a variety of other things, and it's improving. But the other piece of San Diego that has historically been an issue is just housing production. Housing's a little more affordable, except in the coastal areas. And there tends to have a tendency to overbuild San Diego. And so affordability concerns have been there. The other thing that has happened more recently, as you'll recall, a couple of years ago, San Diego had less reduction in rent than most of the other markets. Our average portfolio reduction in rent was 14.5%. San Diego performed the best in the downturn. But if you flip that around and you say, "Okay. Well, now you've suffered that loss in rent, who has the greatest upside?" San Diego does not appear at the top of the list. So long term, I think San Diego is a decent market. We view this business as one of timing and making good decisions and getting the value creation pieces put together in the right order. And I think that there thus will be a time when we will re-enter San Diego. It's just not now.

Yes. And Rob, this is John. I just want to stress, one of Mike's points was that going into this recovery cycle, San Diego was at the bottom of our expectations list, primarily and solely because of the fact that the relative rents in the marketplace versus the incomes in the marketplace were relatively high compared to other markets. And so we didn't initially forecast lower job growth. What we do -- it would be at the bottom of our rankings, hence are typically [ph] down there on the buy and sell was concentrated in other areas.

Okay. I was just trying to figure out, like, whether or not the sales this quarter portended to additional sales there as you guys sort of cycle out, at least for the time being.

We cycled out of Portland several years ago. We've cycled out of a variety of other markets. That's not our intent here. Our intent here is to pair a piece of the portfolio that is lower growth rate. It's interesting because I cited 10% unlevered IRRs, which is pretty good. But as Mike Dance has pointed out to me, when you started somewhere around an 8%, growing in yield, it's not that difficult to get to a 10%, which is a concept I agree with. So the reality is, it's more of the growth rate that we were concerned about in those particular assets. And again, we're going to be careful and thoughtful about the timing on exiting from the things that we consider non-core.

And just one last thing to add, Rob. In our core markets if you look over time, some markets are highly ranked. Some markets move up and down that ranking list. San Diego has been a good market, probably middle of our portfolio for long-run growth. So from a long-run perspective, this is not a market we would exit because of long-run low growth expectations.

Your next question comes from Jana Galan from Bank of America Merrill Lynch.

I guess following up on that kind of non-core or -- and I realize this is a small part of the portfolio, but can you speak to the lower occupancies in Riverside County? And could these or maybe the Santa Barbara assets potentially be disposition candidates, or do you expect longer-term revenue growth to improve there?

I don't think -- this is Erik. I don't think we expect a longer-term revenue growth from the Riverside asset. The Santa Barbara assets, as you know, are heavily dependent on the student population. So we're in the middle of that first demand window right now, and what we're seeing is, I'd say average demand with good results. We've seen it in years past pick up a great deal later in the year, so again, given the challenges we had there last year, we're watching it carefully and making sure we're addressing what the students want. But ultimately, there's just not a lot in Santa Barbara, and so there very well could be -- not a lot of choices, what I mean, not a lot of supply. There very well could be upside in those assets.

And just to confirm. The 2012 guidance assumption, is that still $100 million in dispositions?

Yes. Mike mentioned earlier, when you include our pro rata share of the fund, it will likely be higher than that.

Your next question comes from Eric Wolfe from Citi.

I'm not sure if you tracked this, but I'm wondering if you've tracked the percentage of tenants moving into your Northern California portfolio that are in the tech field. The reason I'm asking is because if you look at the tech news sites, you find that there's just billions upon billions going to these tech startups, many of which are pre-revenue but are still using the funds to hire pretty aggressively. So I'm curious whether you're seeing this influx of capital into the tech space in your tenant space as well.

Eric, this is Erik. We don't have a specific measurement on those folks coming in as it relates to industry. Again, when there are big movements, whether it's in tech or anything else, as I commented on Seattle, with all the activity that Amazon has, we see an uptick certainly in that. We've seen an uptick in the Microsoft residents, particularly in the East Side, Bellevue and Redmond and in the Bay Area, certainly a component of the people that are moving in.

Okay. And then the second question is, there's a couple of announcements today in terms of funds and REITs being formed to buy and rent single-family homes, the biggest of which, I guess, would be Beazer Homes. So I'm curious what do you think is going to be biggest challenge for these REITs and what sort of yield you would need to have in order to compensate for these type of challenges?

Eric, it's Mike. And I recognized you and I have talked about this subject a few times. So I think the biggest challenge will be the discipline of buying the right property in the right location at the right time, and the concept of buying a vast portfolio where you don't have a choice as a buyer over exactly what you're buying. You're somehow going to manage this large, geographically decentralized portfolio. We think that's the peak of inefficiency. And we actually did buy a portfolio of single-family homes in the Sacramento Valley as part of the RTC in the early '90s, so we have some experience there. And it's a challenge. It's a challenge because of the decentralized [ph] nature of what you're doing. And I think that the ones that make the most sense, as far as we're concerned, it would be one that you can somehow control that process, which is a very local business. I think it's probably more suited toward private wealthy investors that are -- have the right combination of skill sets, from the real estate side to the management and operations side, to put together a comprehensive team that can deal with these things when you can control what you own and the price that you pay and have some synergy with respect to location and product that you own and control. So I think it's just a different business. It's one that we're interested in but have not taken steps to pursue given the difficulties I just mentioned.

It's Michael Bilerman. I had just a question as well. Mike, I appreciate the disclosure as you broke out the management fee expenses now on the income statement so that we can better align what sort of that profitability of -- out of at least doing the fund business is. Is there a sense -- I know you're going to be selling some assets in the Fund, and you're obviously taking Skyline on. How scalable, I guess, if you were to add additional joint ventures, could that margin get, right? Because you talked it being about 33% margin. It was 25% last year. If you were to substantially increase joint [ph] ventures, could that margin grow substantially?

Mike, it's Mike Schall. I don't know which Mike you were directing that at, but I'll take the question. The fund business is less about the margin on the fees, more about the promoted interest and the overall cost of capital. So our hope is that we will be marginally profitable, let's say, because we're not trying to skimp on the cost side of managing the -- our co-investment assets. In fact, to the contrary, we believe -- that's why we don't do fee management is because the dynamics of fee management is you're incented to keep the costs very low in order to keep your margin higher. We're not at all incentivized to do that when it comes to our co-investments because we're such a big part of them. And therefore, our focus is not on the margin on the fees. The focus is a how do we maximize the overall returns and the promoted interests, and we are -- we spend -- we need to spend on the fee side. In terms of how scalable could it be at? I think it can continue -- we can continue to grow that margin to some extent. I'm not sure that we will. For us, it's a -- we look at this as another source of capital, and we're constantly comparing, just like we compare our 27 submarkets up and down the Coast, we're doing the same thing on the capital side, trying to find the right mix of capital to buy the properties that we think are going to perform the best, having essentially no difference between what we would buy in our own portfolio versus what we would buy in these co-investment assets. So I don't want to -- and so there is some margin growth, but candidly, we're just not focused on that, more focused on how do we get the promote [ph] as high as it can be and how do we get the cost of capital as low as it can be.

And which -- how much of the assets are you selling out of the fund at the back half of the year?

We haven't decided exactly. Again, we don't have -- we don't pressure to sell. We think it's a good environment to sell some assets. It could be approximately 1/2 of the Fund II portfolio

Okay. And then are you in the process right now of trying to raise additional capital for opportunities?

Mike Dance commented that we have increased marginally the Wesco venture by $100 million in capital. So we have done that. So the answer is yes. The reason why we're doing a relatively small amount there is to just keep our options open with respect to what we do in the future. And that's -- part of the advantage of having Wesco is that we can decide to commit a little bit more capital to an entity, which then, of course, allows us to be open with respect to how we finance stuff 6 months from now.

Right. So in case something else came across in your markets, or even outside of your current core markets, you could then find another joint venture partner and raise capital on that specific opportunity if it were to come about?

Or just buy everything on balance sheet.

And issue equity.

Exactly.

Our next question comes from Alexander Goldfarb from Sandler O'Neill. Alexander David Goldfarb - Sandler O'Neill + Partners, L.P., Research Division: Mike Dance has been a little quiet, so I guess I'll start with him. Just -- I heard Erik Alexander's comments on the rents. It sounded like you guys are pretty bullish. But you beat strongly on the first quarter and yet you didn't raise the top end of the guidance. Sort of curious. Is it the real estate taxes or is it turn costs? What's keeping you from raising the top end of the guidance as well?

We haven't done an in-depth analysis to justify at this point. I think we're coming into our heavier leasing season, and we'll reconsider that at the end of our second quarter. Alexander David Goldfarb - Sandler O'Neill + Partners, L.P., Research Division: Okay. So it's nothing specific? It's just...

No. If it's -- me being lazy. I have some other things to do and made that my priority for this call. Sorry.

Alex, let me add something to that. I mean, it's our objective to not give up the 90 basis points of occupancy, obviously, in Q2 that Mike has assumed, right, in the guidance number. Our hope is that we can maintain -- we can do both. We can get good rent growth without sacrificing a tremendous amount of occupancy. We all know that this is a dynamic world and things change relatively quickly, and so it's just, we would rather wait and see, wait and have one more quarter under our belt before we commit to that. And just as a general statement, we just gave guidance in February. So I just think that it makes sense for us to take a look at it after the second quarter. I think that's just the appropriate way of doing things. Alexander David Goldfarb - Sandler O'Neill + Partners, L.P., Research Division: Okay. And switching to development. You guys mentioned the Queen Anne development is going to come online early. Last quarter, you had a few projects that came on early. Is there -- is this a matter of just having a conservative development time table where you're able to bring things online sooner or is it weather conditions or maybe just better contractors who are working quicker? What's the driver that's allowed you guys to bring projects on sooner than anticipated?

Alex, this is John Eudy. Most of that surrounds the fact that we committed to that in the fall of 2010. We started it last spring before any meaningful construction started in Seattle. So the best of the best contractor subs were available, able to push the limits, and we were able to take advantage of it. The typical timeframe for that would be around 22 months for that complicated of a building. And obviously, we're doing it in about 18 months. I don't expect that will be the norm going forward. Historically, 20 to 24 months for that type of building is the range to expect. So going into next year, I don't think we're going to have that advantage. We've been able to take care of -- take advantage of the labor pool. That's the reason. Alexander David Goldfarb - Sandler O'Neill + Partners, L.P., Research Division: Okay. And just as the final question is, as you guys stay in touch with institutional investors and you've seen cap rates compress a lot on the coast, are you seeing people who originally were interested in coast -- coastal apartments venturing to other sorts of maybe inland apartments or other asset classes? Or once the institutional investors and the consultants make the decision to go for coastal apartments, they stay in the queue until their number is called?

Yes, Alex, this is John Burkart. What we've seen is they are very interested in the West Coast apartments, and we're talking regularly with them, and we're not seeing people that have expressed an interest in investing with us looking to go elsewhere other than to the extent it's part of their normal business plan. But the focus is on the West Coast apartments. And in further, there really is a difference at this point in cap rates between the more desirable areas that we're in and the less desirable areas out there in the marketplace, whether it be Sacramento or whatnot, and the investors are pretty focused getting in the right spot, so they're willing to pay the price to get into the better locations.

Our next question comes from Rich Anderson from BMO Capital Markets.

What's the difference between the rent-to-median income and the rent-to-property-level-income ratio?

Well, I think this is the question essentially that we addressed before. As Mike said, I don't want to contradict that, but to answer your question specifically, when we do look at a broader range for our individual regions, NorCal, the Pacific Northwest and SoCal, they're a couple of percent higher maybe for some of the applicants that we see coming in. So incomes have been increasing among applicants over the last year, and obviously, so have rents. And so I think, as John said, if rent-to-median incomes are in the 18% to 22% range, ours are in the similar range, maybe plus 2%.

Actually, Erik showed me some demographic reports last night, which are measured upon move-in. I think beyond the move-in, we don't really know. But at move-in, I think the average income of our residents was slightly above the median income. So it was not materially different from the median, if that's where you're going.

That's where I was going. The next question is, what do you think the over-under is on this Prop. 13 issue in July?

I'm not sure what you're referring to because we reported last quarter, and I think this is not any different...

No, I know. I know.

Okay.

Yes, I know it's not new, but I'm just curious, like, from a profitability standpoint, what do you think the likelihood is you'd be paying higher property taxes next year?

Oh, I'm sorry; you're going back to Mike's comments.

I think it's unlikely that we pay increases above [ph] $400,000. We have a cadre of experts that help us negotiate and appeal the assessed values. So they will definitely go up. The $400,000 per quarter is the worst case. I'm hoping we do better than that, but who knows? That's subject to appeals and negotiations ultimately.

So chalk another one up to Dance conservativeness.

So last -- yesterday, the other day or whatever, BRE said they had a weather benefit in the first quarter. Did you have anything like that?

I don't think that the weather was a material factor. Erik, do you?

No.

Continuing on with my [indiscernible] of questions here. The rent peak number, I know people talked about this or that above or below peak. Is there any relevance to the peak rent? I mean, you have different people. The situation's completely different than it was back when you had that other peak rent. Isn't that just another number that doesn't really have any relevance to where things will go or not go in the future?

I totally agree with you. I think the relevance of that is pretty much in the history books now. I think it was highly relevant when you were in 2009, 2010 timeframe, to know that Seattle rents had gone down 20%. I think that was very important at that moment because it was a key part of our -- the way we look at our ranking process, we look at, "Hey, these rents are really low relative to what the income levels are and what people can pay." And so it becomes relevant at that point. Now that a lot of that has been erased, I think it's much less relevant and we get back into the more traditional measures of rent: rent to median income, the affordability trade-offs between the medium price home and rental rates and those type of things. I think they're much more relevant than prior peak.

Okay. And then...

This is John Lopez. I'll just add to one thing. When we were looking at these numbers, as Mike said, they were very relevant because we weren't sure what direction incomes were going and things like that. And what we've seen as we've popped out is we're a little bit behind to a little bit ahead. And in most of our markets, the median household incomes are above that level -- the previous peak level. So in and of itself it's not important, but when you put it in context of how our incomes have grown since that prior peak and you put those combinations, that's why it gives us confidence that the rent-to-income levels are still in our favor here.

A big picture for Mike Schall. Do you think now is a good time for multi-family M&A, or do you think we're not at that point yet?

Actually, we are -- as a historical statement, I've spent a fair amount of time just looking at the different combinations of companies, and I think it's starting to become a more interesting time. Not that there's anything that's happening that's specific, but I think its -- I think at the bottom of the cycle, every company is very reluctant to do anything because they perceive that they're at the bottom of the cycle, obviously. As you get closer to a top of the cycle or midcycle, I think it's just -- I think the opportunities present themselves. So that's a very generic statement, and again, there's nothing specific happening here.

I'm not suggesting there is, of course. And then the last question is kind of just that you guys are trading at almost $160 a share. Have you ever thought about a stock split, or you're going after Google?

Yes, it's probably my philosophical biases as taught by Mr. Guericke, who preceded me. And we look at the listing fees and the ongoing fees associated with that, and we wonder why we should do it with an overwhelmingly institutional investor base, Rich. Trading costs are typically on a per-share basis, and we're 90-something percent institutional, so why do it? I mean, the reality is we could do it, and if there was a compelling desire among our shareholders, we would do it. But I haven't seen that.

Our next question comes from Karin Ford from KeyBanc Capital Markets.

Just one question. If you end up having meaningful sales out of Fund II this year, is there a possibility that you could get some Promode [ph] income this year? Or is that a 2013 possibility?

Yes, the way you account for that is based on how you distribute out of the partnership. And we have to return to all our partners the 10% hurdle first. And so the likelihood of reaching that from the '12 sales is not likely. So most all of it would be done near the end of the sales process, the disposition process.

Our next question comes from Tayo Okusanya from Jefferies & Company. Omotayo T. Okusanya - Jefferies & Company, Inc., Research Division: Just a quick question. If you could draw an invisible line through your portfolio and kind of put your A assets on one side and all of the other assets on the other side, could you talk a little bit about just overall operating trends you're seeing in these 2 buckets? Is one meaningfully outperforming the other or is everything just kind of going gangbusters at this point?

Tayo, it's Mike Schall, and Erik may have some follow-up comments. But we believe that it is much more a locational issue than it is a product issue. And because of that or as an example of that, I would tell you that the lease-up of our brand-new Via project had rents that way surpassed our expectations. And from that, if you have a new property in Silicon Valley, we were able to get a very significant premium. If you go down into Orange County and look at other properties we've bought, a number of condo buildings that are rented as apartments, which are the nicest assets, the highest level A that you can buy within those marketplaces, and you were having trouble moving rents or generating any significant premium over the B quality assets in the marketplace. So it's very different by location, and I think that, that is why we focus so much time and effort on getting the locations right and the submarket ranking processes right, because that to us is much more important, trying to understand where supply and income levels are and what people's -- I guess it comes back to consumer psychology -- how comfortable do they feel about their job, their income level versus the cost of renting and how willing are they to step up and pay significantly more in rent, and what do they get for it. So I think that, that relationship is what's most important here. And clearly in the North, we're seeing people willing to pay a lot more and having the ability to pay a lot more, less so in the south land. Erik, do you think that's right?

It's absolutely right. And then with respect to product, I mean, even in the strong markets of the Bay Area, I mean, some of the top performers end being properties that we've invested a little bit of money in, in prior years, like The Commons in Campbell, a solid product in a good market. I don't think everybody would classify it as AA. And April is picking up 12% rent growth on expiring rates and similar on renewals. And again, that's just not the result of a renovation, because that's been done for some time now. I just think it speaks to the value proposition for that group of customers. They want to be close to jobs and have good housing. And to the extent that people start to feel like they're paying more than they want, we're seeing the increases of people move to the East Bay. We're seeing good growth in Dumont and San Ramon. And we're excited about the prospects for those properties as well. Omotayo T. Okusanya - Jefferies & Company, Inc., Research Division: That makes sense. One other question, and as a consequence [indiscernible] Fund II that would be of interest to you guys as a going out rate?

On Fund II -- this is John Burkart, on the Fund II assets, because of the nature of the ownership structure, we won't be making offers on those assets. Those will be sold. There are many assets that we love in that -- in the fund. They're great assets, but we won't be making offers on those assets.

Our last question comes from Mike Salinsky from RBC Capital Markets.

Just 2 follow-up bigger picture questions. Mike, you talked about development stabilized yields being 6.5% to 7%, and you talked about acquisition cap rates being in the low 4s today. At what point does it make much more sense to start developing as opposed to acquiring, just in light of the $400 million of acquisitions?

Mike, if we were buying those 4 cap acquisitions, and I think I would agree with the premise that you would favor development, but the reality is we found value opportunities within the acquisition area. There were a couple of assets, for example, that we bought in the Fremont area. I'll tell you why we bought them. We can do a exterior and some unit turns there and we can substantially improve the physical asset. We also believe that Fremont is a beneficiary of the Bay Area, or, I'm sorry, Silicon Valley, essentially having a lot more jobs and demand relative to its supply, so we think that the beneficiary will be Fremont and other high-quality cities that are surrounding Silicon Valley. So if we can put together a couple of those components, and I think that the cap rate going in there was around high 4, low 5 range, I don't remember exactly what it was. But if we get that combination of transaction characteristics, I think it supports a strong acquisition program as well. And so we're doing that. But the reality is we can do both. And so we've been active on both areas, and we built our development pipeline pretty significantly over time. And I think that we feel very good about where that sits, and we can simultaneously do acquisitions in the run. I'm blessed because I have John Eudy, who's been year for 20-something years, running development, and Craig Zimmerman, same amount of time, running the acquisitions. And so we have those -- we've got a machine on both those areas, and so we can pursue both.

That's helpful. Can you remind us what your risk premium is on a development versus acquisition?

Yes. We say around 20%, but I have to caveat that because that's 20% if we can start quickly. So without -- as we know, California entitlement processes can get -- could be a little bit cumbersome, and ultimately time is money, especially if you miss the window with respect to construction costs and some of these other things. So we're saying 20% if we can start the construction process almost right away. I also noted that in the case of that Santa Clara deal that we bought out of bankruptcy and have chosen to go through an entitlement process, and incidentally we own 100% of that transaction, that was bought at a 6.75% type cap rate. Again, you've got the entitlement process, which we expected at the time to take about 3 years. And so you'd need more risk premium to make that happen. So what John and I try to do is sit down and understand the risk profile of each of these development deals and make good decisions with respect to how much risk are we willing to take and how do we get compensated for that risk, how much a premium do we need for that risk.

Okay. And the second question for Mr. Lopez there, as you look -- I realize you guys are looking at some markets, but as you look at the gross prospects for Northern California, and you referenced that 28% growth. I think you quoted it on your last call for the full cycle. When does it -- when do you get more bullish on Southern California versus Northern California? Or is it really going to be -- is it market-by-market for the entire cycle?

Well, I mean, it's market-by-market for the entire cycle, but we definitely feel that probably sometime in the early mid next year is where we would expect potential acceleration in the targeted Southern California market to accelerate up to sort of the current run rates in Northern California and Seattle. So obviously going out over time, barring a 1999 5% job growth in Silicon Valley, naturally at some point, this rent growth in the Northern California and Seattle markets will slow below their current levels; that's probably a couple of years out. So we probably think that our target Southern California markets will approach next year and probably a year after that will be some of the leading markets.

I'll now turn the call back over to Michael Schall for any closing comments.

Well, I guess in closing, we appreciate your participation on the call, and we look forward to seeing many of you at NAREIT in June. We're obviously pleased with the progress made during the quarter and believe that our outlook remains bright. Thank you all for joining us on the call today.

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