Seeking Alpha
Long/short equity, value, REITs, macro
Profile| Send Message|
( followers)  

AvalonBay Communities Inc. (NYSE:AVB) is an apartment owner, developer, and investor. In the current US economic environment, it is virtually assured of success. Many of the people who either had to sell their homes or were foreclosed on, will live in apartments for many years. Many more have yet to sell out; or they will be foreclosed on. Many more homeowners are seriously delinquent on their mortgages. These are future foreclosures and/or sales. Some of these people will rent single family homes from investors; but many will rent apartments for many years. AVB is ideally positioned to take advantage of this. The following table shows the recent declines in home ownership.

The chart below shows recent US private sector payroll data and near-term projections.

Importantly 2013 is expected to see a decline in jobs before the uptrend resumes in 2014. Apartments will likely be a preferred mode of habitation for many of the recently displaced homeowners. With a likely downturn in private sector payrolls, many fewer will have the money to buy a home. Added to this, all of the new college graduates and other young adults will need a place to live. Many will choose apartments. AVB will benefit from this.

AVB owns apartment houses in many of the most populous areas in the US, especially along the coasts. These are often the areas in which home ownership is prohibitively expensive for the young or those with lower incomes. The following table shows statistics for some of these high income areas.

Market Location

Share of Renter Households Earning $75K+

Share of Population Ages 20-34

Median Existing House Price/Median Household Income

US Avg.

14.0%

20.5%

3.2

Southern CA

21.8%

22.8%

6.0

Northern CA

33.1%

21.6%

7.6

Washington DC

32.4%

22.3%

3.6

Seattle WA

20.1%

22.2%

4.3

Boston MA

22.6%

21.3%

4.9

New York NY

23.8%

21.2%

6.2

It is easy to see why AVB should be highly profitable for many years to come. The table below of expected rent growth from 2012-2014 in the top ten US markets substantiates this.

The December 2012 Foreclosure Rate Heat Map (see below) shows that some of the above areas continue to see a large number of displaced homeowners. This further substantiates the outlook for the apartment markets in these areas.

The company has been doing well. In Q3 2012, AVB reported EPS of $0.89 per share and FFO of $1.44 per share. This was a 23% increase year-over-year. It was the fifth consecutive quarter of 17%+ FFO per share growth. Same-store rental revenues increased 5.6% in Q3 and 6% for Q1-Q3 2012. Occupancy was 96.3%. Expenses were up only about 1.4% year-to-date. Northern California grew revenue by double digits for the 4th consecutive quarter. Seattle grew revenue by 10%. AVB had a low debt-to-EBITDA ratio of 5.1x versus the industry average of 7.5x. In sum, AVB has been doing well. Its industry should do well in the current economic environment. Plus AVB has a history of outperforming its industry (see chart below).

AVB has outperformed in virtually every category. Even in dividend growth percentage over the last ten years it has outperformed; and it intends to raise the dividend yet again in Q1 2013. The current dividend is $0.97 per quarter or 2.80% annually. AVB expects to increase this in Q1 2013 by 8% to 12%. Including the impact of Hurricane Sandy, which cost AVB $5-$7 million, it expects EPS of $1.34 to $1.39 in Q4 2012 and for the full year of $4.47 to $4.52. It expects FFO of $1.40 to $1.45 for Q4. It expects FFO of $5.45 to $5.50 for FY2012.

On top of this, AVB contracted a huge deal in which it bought a 40% interest in Archstone's portfolio. AVB's purchase price was $669 million in cash, 14,889,706 shares of AVB common stock (valued at $1.9B as of the close on November 23, 2012), the assumption of indebtedness with a face value of $3.9B, the obligations related to preferred equity units with a redemption value of $132 million as of September 30, 2012, and the assumption of 40% of all other liabilities. Equity Residential (NYSE:EQR) is buying the other 60% interest. Goldman Sachs (NYSE:GS) has agreed to provide a $2.2B bridge loan facility to AVB.

Under the above contract, AVB will purchase 66 apartment communities, containing 22,222 apartment homes. Of these, six communities are under construction. They are expected to contain 1,666 apartment homes upon completion. This is huge growth. For comparison, AVB had 183 current communities with 53,487 apartment homes at the end of Q3 2012. This seems a great deal; and it should give AVB great long-term potential growth. The deal is expected to close in Q1 2013.

AVB has been raising money successfully too. I won't mention every deal, but one stands out. In September 2012, AVB completed a $450 million unsecured debt offering at a coupon of 2.95%. The effective rate was 4.3% after all fees and hedges. However, the sub 3% coupon established a record for the lowest 10-year unsecured offering by a REIT. It was the sixth lowest BBB- tenured coupon executed by an issuer in any sector. This reinforces the idea that AVB is really getting a great deal with the 40% Archstone purchase. AVB looks like a great long-term buy. It has set itself up for success.

The two-year chart of AVB provides some technical direction for this trade.

(click to enlarge)

The slow stochastic sub chart shows that AVB is overbought in the short term. The main chart shows that AVB's price line is flirting with crossing its 200-day SMA. If it does cross its 200-day SMA, that will be a very bullish signal (a buy signal). The near-term behavior will probably be partly dependent on how the overall market does in the near future. However, an investor could always average into this stock. It looks like a winner for the next five years or more. It trades at a PE of 21.24, which might at first seem high. However, the average analyst's forecast for EPS growth in FY2013 is 15.20%. The next five years EPS growth estimate per annum is virtually the same at a hearty 14.80%. With this kind of growth expected, the 21.24 P/E is very reasonable.

The average analyst's recommendation is only 2.6 (a high hold). However, if you are willing to take some risk, AVB looks like it should be a great performer long term. There are always issues as companies combine, but an investor can lessen the effects of these by averaging in over the next year. Plus there is the possibility that this deal will grow EPS much more rapidly than expected.

It is likely that analysts will not update their revenue and EPS forecasts until the deal is officially consummated. At that time, revenue estimates should skyrocket. This could have a very positive impact on the stock price. Given AVB's recent success in selling its stock and its debt, the likelihood of success is widely believed. CPA types don't like to take huge risks. An investor also wants to keep in mind that the FPE will reflect FY2014 EPS after the Q4 2012 report. This will include estimates from the Archstone deal soon after the deal is finalized. That new FPE should lift the stock price appreciably.

Note: Some of the fundamental financial data above came from Yahoo Finance.

Good Luck Trading.

Source: Apartment Owner/Developer AvalonBay Communities Is A Secular Grower In Today's Economy