How much of Essex's 2016 earnings growth came from operations versus one-time gains?

Operating performance drove the core improvement: Same-Property NOI rose to $780.9 million from $722.7 million, a gain of about 8%. Reported net income more than doubled to $438.4 million, but a large share of the increase came from non-recurring items. Gains on sale of real estate and land were $154.6 million in 2016 versus $47.3 million in 2015, and the $126.6 million BEX II gain was the largest single item. Investors focused on recurring earnings should rely on Core FFO ($11.04 per diluted share) rather than GAAP net income per share ($6.27).

What is the company's exposure to California and to rent control?

The company is highly concentrated geographically: 83% of 2016 rental revenue came from California, with Southern California at 49% of consolidated apartment homes, the Bay Area at 30%, and Seattle at 21%. The 10-K flags rent control initiatives recently passed by voters in Richmond and Mountain View, California, along with Proposition 13 property tax reassessment risk and SB375 planning rules that could restrict development. These are structural risks that could reduce rental growth or raise costs in its core markets.

How is Essex financing its development pipeline and acquisitions, and does this create dilution risk?

Essex relies heavily on external capital. In 2016 it issued no common equity under its at-the-market distribution program, which avoided dilution, but it still had 5 million shares available for future sales as of February 2017. Its development pipeline totals 2,223 apartment homes with an estimated cost of $1.3 billion, of which about $0.7 billion remains to be spent. Funding sources include lines of credit, construction loans, unsecured bond issuance, and asset sales, including the BEX II joint venture stake sale and dispositions. Investors should watch future equity issuance, since the company has stated it may need to raise capital in equity markets to fund working capital, acquisitions, and developments.

What is the company's debt profile and how exposed is it to interest rate increases?

Total indebtedness was $5.6 billion at year-end 2016, with about $5.0 billion of fixed-rate debt at a weighted average rate of roughly 3.6%, and $506.7 million of variable rate debt. Major fixed-rate instruments include $2.85 billion of public senior notes with maturities from 2017 to 2026 and $315 million of private placement notes. Interest rate swaps and caps cover $175 million of term loan and $20.7 million of tax-exempt debt, and total return swaps convert $257.3 million of mortgage debt to floating rates. A 50-basis-point move in the 10-year Treasury would change the value of the derivatives modestly, and the company is exposed to refinancing risk on the roughly $340 million of unsecured debt due in 2017 and $82.8 million of mortgage maturities.

What guidance did management give for 2017, and what does it imply for growth?

Management projects consolidated Same-Property revenue growth of 2.75% to 3.75% for 2017, with Same-Property operating expenses rising 2.50% to 3.50%. Growth is expected to be strongest in Seattle (3.75% to 4.75%) and Southern California (3.50% to 4.50%), and weakest in Northern California (1.25% to 2.25%). The company attributes this to new supply of about 36,000 homes in Southern California, 19,000 in Northern California, and 19,600 in Seattle. This implies a meaningful deceleration from the 6.7% Same-Property revenue growth delivered in 2016, so investors should expect slower top-line expansion as the rental cycle matures.

ESS 10-K FY2016 Annual Report — Revenue, Net Income, EPS

01—Abstract

Summary

Summary of the 10-K filed February 24, 2017. Cited figures are marked; the original filing is the authoritative source.

Essex Property Trust (NYSE: ESS) closed 2016 with strong operating momentum, led by a 6.7% increase in Same-Property revenues to $1.1 billion^a, driven by a 6.4% rise in average rental rates to $2,066 per apartment home, and Same-Property NOI growth of roughly 8% to $780.9 million.

Reported net income rose to $438.4 million^b from $248.2 million, though this figure was inflated by one-time gains, most notably the $126.6 million gain on the December 2016 sale of a 49.9% stake in BEX II. Core FFO per diluted share was $11.04, up from $9.82 in 2015, and the dividend was raised to $6.40 annually ($1.60 per quarter) from $5.76. The balance sheet remains conservative.

Investment-grade ratings (BBB+/Baa1/BBB+) were maintained, and the company issued $450 million^c of 3.375% senior notes due 2026, which fund a laddered maturity profile. Total indebtedness was $5.6 billion, with roughly 83% of rental revenue from California. Liquidity was supported by $1.03 billion of unsecured credit capacity, with the flagship $1.0 billion facility extended to December 2020.

Management guided to 2017 Same-Property revenue growth of 2.75%^d to 3.75%, with the strongest expected growth in Seattle and Southern California and a slowdown in Northern California as new supply rises. Key risks for investors include geographic concentration in high-cost coastal markets, rising new housing supply, the emergence of rent control measures in the Bay Area (Richmond and Mountain View), and the company's continued reliance on external capital markets to fund development. Essex also had no equity issuance under its distribution program in 2016, reducing dilution, while a 2014 cyber-intrusion remains a disclosed reputational and information-security risk.

02—Key points

Key Highlights

Same-Property revenue rose 6.7% to $1.1 billion in 2016, with average rental rates up 6.4% to $2,066 per apartment home; Seattle Metro led at +7.9%.
Core FFO per diluted share was $11.04 in 2016, up 12.4% from $9.82 in 2015; FFO per diluted share was $11.12.
Net income of $438.4 million was boosted by one-time gains, including $126.6 million from the BEX II joint venture sale and $154.6 million total gains on real estate sales.
The annual dividend increased to $6.40 per share from $5.76, a 11.1% increase, and the company paid a $1.60 quarterly dividend in Q4 2016.
Investment-grade credit ratings were maintained at BBB+ (Fitch and S&P) and Baa1 (Moody's), with $1.03 billion of unsecured credit capacity; the flagship facility was extended to December 2020.
Total indebtedness was $5.6 billion, including $506.7 million variable rate debt, with $150 million of forward-starting swaps fixing the rate on the term loan at approximately 2.2%.
2017 guidance projects Same-Property revenue growth of 2.75% to 3.75% and Same-Property operating expense growth of 2.50% to 3.50%, with a 1.25% to 2.25% revenue range for Northern California and 3.75% to 4.75% for Seattle.

03—One dollar

04—Financials

Financial Highlights

10-KFY2016filed February 24, 2017

Revenue$1.29B Net Income$411.12M31.8% Net Margin EPS (Diluted)$6.27 Total Assets$12.22B Cash & Equivalents$64.92M Free Cash Flow$716.79M

Financial Statements

FY2016 against FY2015

Line item	FY2016FY2015	FY2015	Change
Revenue	$1.29B$1.19B	$1.19B	+8.3%
Operating Expenses	$873.20M$863.23M	$863.23M	+1.2%
Operating Income	$420.80M$331.17M	$331.17M	+27.1%
Interest Expense	$219.65M$204.83M	$204.83M	+7.2%
Net Income	$411.12M$232.12M	$232.12M	+77.1%
EPS (Basic)	$6.28$3.50	$3.50	+79.4%
EPS (Diluted)	$6.27$3.49	$3.49	+79.7%
Shares Outstanding (Basic)	65.47M64.87M	64.87M	+0.9%
Shares Outstanding (Diluted)	65.59M65.06M	65.06M	+0.8%

05—Questions

Frequently Asked Questions

How much of Essex's 2016 earnings growth came from operations versus one-time gains?
Operating performance drove the core improvement: Same-Property NOI rose to $780.9 million from $722.7 million, a gain of about 8%. Reported net income more than doubled to $438.4 million, but a large share of the increase came from non-recurring items. Gains on sale of real estate and land were $154.6 million in 2016 versus $47.3 million in 2015, and the $126.6 million BEX II gain was the largest single item. Investors focused on recurring earnings should rely on Core FFO ($11.04 per diluted share) rather than GAAP net income per share ($6.27).
What is the company's exposure to California and to rent control?
The company is highly concentrated geographically: 83% of 2016 rental revenue came from California, with Southern California at 49% of consolidated apartment homes, the Bay Area at 30%, and Seattle at 21%. The 10-K flags rent control initiatives recently passed by voters in Richmond and Mountain View, California, along with Proposition 13 property tax reassessment risk and SB375 planning rules that could restrict development. These are structural risks that could reduce rental growth or raise costs in its core markets.
How is Essex financing its development pipeline and acquisitions, and does this create dilution risk?
Essex relies heavily on external capital. In 2016 it issued no common equity under its at-the-market distribution program, which avoided dilution, but it still had 5 million shares available for future sales as of February 2017. Its development pipeline totals 2,223 apartment homes with an estimated cost of $1.3 billion, of which about $0.7 billion remains to be spent. Funding sources include lines of credit, construction loans, unsecured bond issuance, and asset sales, including the BEX II joint venture stake sale and dispositions. Investors should watch future equity issuance, since the company has stated it may need to raise capital in equity markets to fund working capital, acquisitions, and developments.
What is the company's debt profile and how exposed is it to interest rate increases?
Total indebtedness was $5.6 billion at year-end 2016, with about $5.0 billion of fixed-rate debt at a weighted average rate of roughly 3.6%, and $506.7 million of variable rate debt. Major fixed-rate instruments include $2.85 billion of public senior notes with maturities from 2017 to 2026 and $315 million of private placement notes. Interest rate swaps and caps cover $175 million of term loan and $20.7 million of tax-exempt debt, and total return swaps convert $257.3 million of mortgage debt to floating rates. A 50-basis-point move in the 10-year Treasury would change the value of the derivatives modestly, and the company is exposed to refinancing risk on the roughly $340 million of unsecured debt due in 2017 and $82.8 million of mortgage maturities.
What guidance did management give for 2017, and what does it imply for growth?
Management projects consolidated Same-Property revenue growth of 2.75% to 3.75% for 2017, with Same-Property operating expenses rising 2.50% to 3.50%. Growth is expected to be strongest in Seattle (3.75% to 4.75%) and Southern California (3.50% to 4.50%), and weakest in Northern California (1.25% to 2.25%). The company attributes this to new supply of about 36,000 homes in Southern California, 19,000 in Northern California, and 19,600 in Seattle. This implies a meaningful deceleration from the 6.7% Same-Property revenue growth delivered in 2016, so investors should expect slower top-line expansion as the rental cycle matures.

06—Continue

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