REIT Focus: AvalonBay Communities, Inc.

| About: AvalonBay Communities, (AVB)

This month’s REIT Focus is on AvalonBay Communities, Inc. (NYSE:AVB). AVB is a self-administered and self managed Maryland equity real estate investment trust that focuses on the development, acquisition, ownership and operation of apartment communities in high barrier to entry markets. AVB owns 199 apartment communities with 57,426 units in 10 states and the District of Columbia. Communities are located in eight metropolitan statistical areas of New England, Metro New York/New Jersey, Mid Atlantic, Midwest, Pacific Northwest and Northern and Southern California. AVB has 15 communities under construction, 8 communities under redevelopment and future development rights for 29 communities. AVB was founded in 1978 and is based in Arlington, VA.

For the nine months ended 9/30/11, the average occupancy and monthly rental rate were, 96% and $1,932 respectively. As of 12/14/11, AVB had 95 million shares outstanding, a stock price of around $125 and a market capitalization of approximately $11.97 billion.

Select financial data for AVB as of the 9/30/11 10Q for the period 1/1-9/30/11 are as follows:

Real Estate Assets, gross


Total Assets


Mortgages and Other Debt


Stockholders’ Equity




Net Income


Earnings Per Share


Cash Flow from Operations


Unsecured Credit Facility


Market Capitalization


Debt to:

Market Capitalization (equity value only)




Real Estate Assets Per Unit


Dividend Yield ($3.57/sh)


NOI and Value Calculation:

NOI Per AVB for 9 Months Ending



Projected NOI Annualized


Projected Cap Rate


Projected Value of Portfolio


Less: Total Debt


Value of Company Equity


Shares Outstanding


Projected Value Per Share


Market Price Per Share (12/14/11)


As shown above, our value for AVB is $57 per share versus a market price of $125 per share. A portion of the value difference can be attributed to the use of a 7% cap rate, which is the average cap rate for luxury and higher end apartments similar to those owned by AVB. In the June 15, 2011, REIT Focus on BRE Properties, Inc., a San Francisco-based apartment REIT and competitor to AVB, a cap rate of 7.5% was used to value that portfolio because the portfolio was considered lesser in quality and location than that of AVB. Some of the value difference may also be attributed to annualizing the September 30, income and expenses and no incremental value given for goodwill and management. The market however, is valuing the company at a cap rate of approximately 4%, which we believe is way too rich for apartment investments.

The cap rate for valuing CRE is derived by dividing the net operating income over the property’s price or value. It is the expected return on the property’s NOI and is composed of three factors. The risk free rate, usually the 10-Year Treasury Bond yield, plus a risk premium for investing in CRE, less a growth or inflation factor. The 10-Year Treasury Bond today is approximately 2% and the risk premium for investing in CRE is usually 3%-10% or an average of about 7% and the inflation rate is 3%, therefore, the projected cap rate is estimated at 7%. The risk premium should be adjusted up or down based on the type of real estate acquired, the lease terms, location, age and quality of the properties. Per NCREIF, the average cap rate for CRE since 1979 is 7.6%.

One of the primary reasons for the implied low cap rate and high share price is the growth outlook for AVB. Due to the downturn in the housing market and rash of foreclosures, many former homeowners are now looking to rent, which has increased the demand for rental units. The supply of rental housing has also been somewhat muted with an average of 100,000 units per year constructed from 2006 through 2010 and approximately 120,000 units projected for the period from 2011 through 2012. The normal development pipeline for a growing economy and healthy apartment market is approximately 150,000 units per year, so we are well below the typical construction cycle. In addition, increased unit demand is also pushing up rents with average annual rent increases of 3%-8% depending on the specific local market. The highest rent increases in the country in 2011 have been 7%-10% in the San Jose, CA market area.

AVB is considered one of the best managed apartment REITs with a first-class portfolio, however, we believe that the price at around $125 and dividend yield of only 2.9% is way too expensive to invest in this company.


I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.