My Problem With Essex Property In Two Charts

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I was reading John Rhodes’ concerns with The Walt Disney Company (whose share price dropped following the release of the second quarter results on Wednesday), and I share the same problem with Essex Property Trust (NYSE:ESS), a $15 billion market capitalization REIT in the Apartment sector.

Essex Property Trust did unsurprisingly well during the second quarter of 2015. Their investment strategy focuses on regions with robust job growth and household-forming millennials, where demand continues to exceed supply. Essex being positioned in hot markets like the Bay Area, North California remains a highlight in its property portfolio. Management has said the West Coast housing demand is outpacing supply more than 2 to 1.

Q2 2015 internal growth metrics have been stronger than those of Q2 2014. Average monthly rental rates increased 7.3 percent, and financial occupancy advanced to 96.1 percent (30 basis points). Furthermore, Essex grew on a sequential quarterly basis where REITs in general have grown on a year-over-year basis. Increase in same-property revenue growth, for instance, was 2.3 percent. In the end, the business decided to rev up 2015 same-property net operating income growth, from 9.4 percent (midpoint) to 10.5 percent.

Of the three main regions where Essex operates — Northern California, Southern California and the Seattle Area — the first has shown the highest growth rates. Comparing Q2 2015 with Q2 2014, average monthly rental rate in Northern and Southern California grew 10 and 5.3 percent respectively. Additionally, financial occupancy advanced 60 basis points in Northern California while remaining flat in Southern California.

Management sees some challenges associated with development that can put in check supply expansion. Besides some potential tax on development, they see a less tolerable threshold when comparing development cap rates (5.5-6 percent) with acquisitions cap rates (4-4.5 percent). This is a disincentive for new development.

Stocks are currently trading at a 2.6 percent dividend yield — the lowest among dividend-paying residential REITs. Price-to-FFO remains above its last five-year historic average, at 24.6×. Following Q2 results, stocks were up 0.5 percent, increasing almost 6 percent in July. Low dividend yield and high price-to-FFO is not a good combination.

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Source: Essex Property Trust, Fast Graphs

Written by Heli Brecailo

Disclaimer: This newsletter is not engaged in rendering tax, accounting, or other professional advice through this publication. No statement in this issue is to be construed as a recommendation to buy or sell any security or other investment. Please do your own due diligence before making any investment decision. Some information presented in this publication has been obtained from third-party sources considered to be reliable. Sources are not required to make representations as to the accuracy of the information, however, and consequently the publisher cannot guarantee accuracy.

Disclosure: The author has no positions in any shares mentioned, and no plans to initiate any positions within the next 72 hours.​

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