AvalonBay Communities, Inc.

Good morning, ladies and gentlemen, and welcome to Avalon Bay Community's first quarter 2020 earnings conference call. At this time, all participants are in a listen-only mode. Following remarks by the company, we will conduct a question and answer session. You may enter the question and answer queue at any time during this call by pressing star 1. If your question has been answered or you wish to remove yourself from the queue, press star 2. If you are using a speaker phone, please lift the handset before asking your question. And we ask that you refrain from typing and having your cell phones turned off during the question and answer session. Your host for today's conference is Jason Riley, Vice President of Investor Relations. Mr. Riley, you may begin your conference.

Thank you, Cassie, and welcome to Avalon Bay Community's first quarter 2020 earnings conference call. Before we begin, please note that forward-looking statements may be made during this discussion. There are a variety of risk and uncertainties associated with forward-looking statements, and actual results may differ materially. There's a discussion of these risk and uncertainties in yesterday afternoon's press release, as well as the company's Form 10-K and Form 10-Q, followed with the SEC. As usual, this press release does include an attachment with definitions and reconciliations of non-GAAP financial measures and other terms, which may be used in today's discussion. The attachment is also available on our website at www.avalonbay.com or flash earnings. And we encourage you to refer to this information during the review of our operating results and financial performance.

And with that, I'll turn the call over to Kevin Sherwin, CEO of Avalon Bay Community, for his remarks.

Kevin? Yeah, thanks, Jason. And welcome to our Q1 call. With me today are Kevin O'Shea, Sean Breslin, and Matt Berenbaum. We'll provide brief commentary on the slides that we posted last night, then all of us will be available to CNA afterwards. Our comments today will focus on providing a summary of Q1 results, an update on operations so far this year, including through April, an overview of development activity and the status of construction sites, and lastly, highlighting our liquidity position and . Before getting started, I'd just like to acknowledge that the last seven or eight weeks have been far from normal for any of us on this call, or any of our more than 3,000 associates in Avalon Bay. Given our market footprint in large coastal metro areas in the U.S., we've certainly been impacted by this pandemic, professional and personal level. Many of us have had to learn to adjust to a different working environment at home, while managing new and shifting family dynamics at the same time. But even more of our associates have been asked to leave the comfort and safety of their homes most every day to provide housing and service for the more than 100,000 residents that call one of our communities home. What we do is fundamentally essential, and we are grateful and inspired by our team's amazing dedication and thank them for the commitment they demonstrate every day in service to our customers. Now let's take the results of the quarter, starting on slide four. It was a solid quarter. Highlights include core FFO growth of almost 4 percent, driven by healthy internal growth with same-store revenue and NOI growth coming in at 3.1 and 3.0 percent, respectively. All of our major regions, except Metro, New York, New Jersey, posted same-store revenue growth of 3 percent or more in Q1. In Q1, we completed three development communities totaling $215 million at an average initial yield of 6.4 percent, continuing a track record of creating significant value through this platform over this cycle. Given the current economic situation, we have not started any new development or acquired any new community so far this year. And lastly, we raised over $900 million in capital this past quarter at an average initial cost of 2.9%, with most of that coming from a $700 million 10-year bond deal at 2.3% completed in February, a record low re-offer rate for 10-year bond issuance in U.S. REIT history. And with that, I'll turn it over to Sean, who will discuss portfolio operations, including what we've seen so far in April and May. Sean. All right, thanks, Tim. Turning to slide five, the impact of COVID-19 and the various shelter-in-place orders had a material impact on leasing velocity in March, as noted in chart one, with year-over-year volume down roughly 40% from March 2019. In April, however, as a result of our teams becoming more proficient with virtual and no-contact tours, prospective residents becoming more comfortable venturing out to tour apartment homes, In the various incentives we offered to increase conversion rates, leasing velocity rebounded. It was only modestly below 2019 levels. It's similar to the volume of notices vacate for the month. Unfortunately, the reduction in leasing volume in March coincided with our normal seasonal increase in the volume of notices to move out from our communities. As noted in chart two, this resulted in fewer move-ins and move-outs during the month of April. taken collectively and as depicted on slide six, availability increased and occupancy suffered. As indicated in charts one and two on slide six, availability was trending well below 2019 levels throughout most of the first quarter, but spiked in the second half of March when leasing velocity fell materially. Thirty-day availability peaked at roughly 50 basis points greater than last year, during the third week of March, but has ticked back down a bit over the past six weeks or so. The impact of reduced leasing volume in March ultimately impacted physical occupancy as well, as noted in chart three, with April down roughly 75 basis points from March and 50 basis points from last year to 95.3 percent. In chart four, you can see the impact of the recent environment on April rent change which ended the month at essentially zero. This outcome reflects our efforts to help mitigate the impact of COVID-19 on residents by offering a no rent increase lease renewal option to undecided folks. And our response to the weakening environment, which included offering incentives to increase prospective resident conversion rates, which did in fact increase from about 23% in March to 34% in April. Turning to slide seven, we collected about 96% of what we would have typically collected in an average month from our customers, which is noted in chart one. And if you look at the collection rates by segment, the rate for our market rate customers was the highest, with our corporate housing or short-term rental customers, which only represent 3% of billed residential revenue, the lowest. In terms of May collections, Over the past few days, we're trending at about 94.5% of normal levels. We're about 150 basis points behind April. But it's early in the month. There are differences in how the calendar lays out, with the first being on a Friday in May versus a Wednesday in April, and other nuances that influence daily payment volume. Moving to slide eight, the collection rate for our highest income customers has been the best. which isn't too surprising given the impact of the pandemic on the various service-related businesses throughout our markets. In terms of regional collection rates, the tech-led Pacific Northwest and Northern California regions have been the strongest and Southern California the weakest. Unfortunately, the impact of the pandemic on entertainment and tourism businesses in Southern California has been pretty severe. Most of the studios and other businesses producing content have been shut down for several weeks now, and all the major tourism related sites, including Disneyland, Universal Studios, and many other venues are closed. So with that operational overview, I'll turn it over to Matt to address construction and development. Matt? All right, great. Thanks, Sean. To provide an update on how the pandemic is impacting our construction operations, slide nine shows our 19 active development communities across our eight regions. We started to experience slowdowns in the second half of March in Northern California and Seattle as regional shelter-in-place orders were announced and availability of both labor and inspections started to be impacted. By early April, the Northeast saw similar impacts such that in April, across all 19 projects, our average daily manpower was reduced by an average of roughly 50% with wide variations as reflected on the slide. Projects indicated in green have seen relatively little impact, while those in yellow have been proceeding at a significantly reduced pace. And those in red are temporarily shut down, except for life safety and asset preservation activity. Residential construction is considered an essential activity in many jurisdictions. And just in the last week or so, we've started to see a lifting of some of the more extreme restrictions. And the four projects in Seattle and the Bay Area just recently moved from red to yellow. We have been working diligently to adjust our onsite health and safety practices to ensure appropriate social distancing among our subcontractor trade partners, add daily health checks and onsite wash stations, and move our supervisory staff to staggered shifts as part of our ongoing response. These 19 development communities represent a projected total capital cost of $2.4 billion, which is our lowest volume of development underway since 2013. As shown on slide 10, we shifted to a more cautious stance as far back as 2017, and our development starts over the past three years have averaged just $800 million, a little more than half of our mid-cycle run rate of $1.4 billion per year. This puts us in a strong position as we navigate the shift from expansion to recession. Slide 11 shows a breakdown of our future development rights. We've been managing this pipeline of future growth opportunities to provide us with maximum flexibility at relatively modest cost. and control over $4 billion of next cycle development projects with a total investment of just $120 million. The development rights pipeline includes 28 different projects with more than 20% of the projected capital in flexible public-private partnership deals and another 20% in asset densification opportunities where we are pursuing entitlements to add additional apartment homes at existing stabilized communities. Both of these types of opportunities offer flexibility to align timing with favorable conditions in the construction and capital markets. Kevin will now provide some comments on our liquidity and balance sheet. Kevin O' Thanks, Matt. Moving to slide 12, as shown in the next two slides, we entered this recession very well prepared from a financial perspective, with a healthy liquidity position, modest near-term maturities, and a well-positioned balance sheet. Turning first to liquidity, as you can see on slide 12, our liquidity at quarter end totaled $1.8 billion, for our credit facility and cash on hand. This compares to the $900 million in remaining expenditures on development underway over the next several years, of which about $400 million is expected to be spent over the remainder of 2020. As a result, at quarter end, our $1.8 billion in liquidity exceeds remaining spend on development in 2020 by roughly $1.4 billion. And our liquidity exceeds total remaining spend on development over the next several years by nearly $1 billion. Turning next to our debt maturities, on slide 13, we show our debt maturities over the next 10 years and our key credit metrics. For debt maturities, we have only $70 million of debt maturing in late 2020 and only $330 million in debt maturing in 2021, for a total of $400 million in debt maturities over the next seven quarters. Thus, looking at over the balance of 2020, and incorporating both development spend and debt maturities, our quarter-end liquidity of $1.8 billion exceeds remaining debt maturities and spend on development over the rest of 2020 by $1.3 billion. In addition, our liquidity exceeds all of our remaining development spend over the next several years and all of our debt maturities through 2021 by $500 million. So you can see from this that we enjoy healthy liquidity relative to our open commitments through 2021. In addition, we also enjoy considerable incremental liquidity from cash flow from operations and excessive dividends, as well as from our ability to source attractively priced debt capital from the unsecured and secured debt markets, to the extent the assets and equity markets remain unattractively priced. In this regard, at quarter end, our net debt to core EBITDA of 4.6 times was below our target range of five times to six times, leaving us meaningful capacity to absorb leverage increases as we proceed through these challenging times. And our unencumbered NOI was at or near an all-time high of 93 percent, reflecting a large unencumbered pool of assets that we could tap, if necessary, for additional secured debt capital. And with that, I'll turn it back to Tim. Mr. Great. Thanks, Kevin. Just wrapping up and turning out of slide 14. So, overall, Q1 was a very good quarter, with results a bit better than we had expected. Despite the slowdown we began to experience in the second half of March. In April, we felt much of the impact of the shutdown, certainly, although we were able to still collect most of what was built for the month, with only 6% uncollected by month end, which is about 400 basis points lower than normal. Progress at many of our construction sites was impacted by the pandemic. We expect that orders by some state and local governments temporarily halt inspections and construction will result in the delay of delivery and option schedules in several communities, which in turn will push some of the lease-up and OI projected for 2020 into next year. Most sites that have been impacted are currently in the process of either reopening or slowly returning to full manpower, as most states are now permitting new construction as an essential service, as Matt had mentioned. Our shadow pipeline of $4 billion in development rights, which is controlled mostly through options, will represent this intensification opportunity at existing communities offers good flexibility in terms of timing future starts with support about market conditions. And lastly, as Kevin just mentioned, we're in great shape financially. We have ample liquidity to fund existing investment commitments, modest level of debt maturing over the next several quarters, and strong access at attractive pricing to the debt markets. So with that, Cassie, we're ready to open up the call for questions.

Thank you. And as a reminder, to ask a question, please press star 1. We will take our first question from Nicholas Joseph with Citi.

Thanks. I hope you guys are doing well. Just first maybe on construction, obviously the delays that you've seen are also being seen really across this space. So I was wondering how that impacts expected supply in 2020, and on average, how long do you think individual projects will be delayed in terms of deliveries?

Sure, Nick. This is Matt. You know, in terms of what happens to total deliveries in 2020, obviously I think it's too early to tell. You know, what we found the last couple of years, even before the pandemic, was that deliveries wound up being, you know, 10% to 15% below what we had thought at the beginning of the year just due to labor constraints, inspection constraints, and so on. So certainly I would expect more deliveries to be down by more than that relative to what may be Third-party reports were at the beginning of the year, but it really depends, obviously, on how things play out over the next couple of months. As it relates to our pipeline, so far what we've seen and what's reflected on our supplemental Five projects, we've delayed initial occupancy by a couple of months, call it. And projects, as of right now, we think are probably the final completion is going to be delayed by about a quarter. So, you know, that's maybe a third of our 19 that are actively underway right now. Some of the others are either in areas that have been less impacted or early enough in their process that they haven't been materially slowed down. Obviously, that could change, but... You know, kind of that's the way we see it as of right now.

Thanks. And then just as, you know, states and different cities start to reopen, how are you thinking about kind of repositioning your amenity space to allow for social distancing and then maybe medium and longer term? for the development on the progress or any kind of future development, how do you think about changes to different amenity space given maybe potential bigger picture trends such as work from home or anything else?

Yeah, Nick, this is Sean. I'll take that one to start and others can jump in if they like. But in terms of the existing amenity space, yeah, we do have a team that is taking a look at what the occupancy standards are for different types of spaces. not only at our communities, but at our offices as well. And what kind of limitations that we'll place on the occupancy limits that were in place, you know, before the pandemic. We're certainly going to see, you know, that reduced pretty materially. But it depends on the type of space, you know, depending on what you're talking about. Fitness center equipment that was spaced two feet apart, we may have to go back and redistribute the equipment to have more spacing as an example. you know, chill spaces where there were, you know, soft seating that was side by side with tables around that may have to be, you know, a space where we just reduced the number of items in there in terms of chairs, same thing in terms of our swimming pool. So there's a fair amount of work underway to sort of, you know, re-identify the various spaces that our communities to make sure they comply with the proper social distancing protocols. And it's just going to take some time to, which were each one. And then in terms of the longer-term trend, it's probably a little too early to tell now, but certainly there was a trend to see more people working from home, whether they were telecommuting or whether they were just sort of independent contractors working from home that are producing content or in sort of a contracting business and things of that sort for for different types of industries. Entertainment in particular comes to mind for a place like L.A. So that trend, you know, will likely continue. I think it's probably a reasonable conclusion from what we see, but to what degree, it's probably too early to tell at this point. Thank you. Yes.

And we'll take our next question from Rich Hightower with Evercore.

Hey, good afternoon, guys. Hope all is well. So I wanted to get your reaction to one of your competitors' comments yesterday regarding a little bit more underperformance in the garden-style communities versus high-rises.

These are the collections. Are you seeing the same in your portfolio, or do you have any comments along those lines?

Yeah, right to Sean. I can share a few thoughts on that. We've looked at collection rates maybe a few different ways. uh... you don't know what we talked about it by segment in terms of uh... you know what we've been on the plot in my prepared remarks but in terms of uh... mother better could we look at it but following for the trip right point a person b uh... it's a running about a hundred basis point higher than these at this point in time and then they look suburban urban uh... what we're generally seen across most of the market uh... suburbans are performing by about twenty five basis pointers though so A little bit, but not terribly material. You know, probably the one exception is New York, where the urban environment collection rate is better than the suburbs, given the impact we've seen in Westchester. It's been pretty material in terms of the pandemic. And then in terms of high-rise versus garden and mid-rise, high-rise is slightly better, but, you know, there's not a lot of high-rise product to benchmark it against, to be honest. And most of that, you know, for our portfolio is going to be in New York. a little bit in D.C. It's just not a big sample size, so I probably wouldn't draw too many conclusions about the product type differences. Okay, so maybe a little bit of differentiation there in terms of what you're seeing versus maybe, I guess, elsewhere in Wheatland. Okay, that's a helpful color. And then I guess just as you think about foot traffic and demand patterns picking up now that we're into May and things have kind of come off the bottom, are you seeing any differentiation between suburban and urban within the portfolio along those lines? You know, not material at this point. It's more market-driven, I'd say, where you've got, you know, certainly the hotspots are a little more sensitive to the rebound, and we're seeing people want to still continue with more of the virtual tours as opposed to self-guided, as opposed to maybe like the mid-Atlantic, where people seem to be more comfortable, given the state of the environment, either with self-guided tours, you know, for the most part at this point and not as many virtual tours. So I think it's really a market-based dynamic as opposed to maybe price point at this point or location, as you pointed out, urban versus suburban.

Okay, great. Thank you.

We'll take our next question from Jeff Spector with Bank of America.

Hi, everyone. This is actually a little Oscar for Jeff Spector. Thank you for taking the questions today. So I was just wondering if you guys could give some more color on the condo sales going on right now. So I think you mentioned one we're under contract in 4Q19 on the call. And so I was just wondering, I assume all of those were the ones that were closed so far. And are there any new projects underway? Is the market active? Are you expecting to take a lot of price cuts or are you just holding off on some time?

Sure. This is Matt. I think some people couldn't hear the question. It was about Columbus Circle condo sales and recent progress. So as of today, we have 41 units closed and have generated $129 million. That's an average price of $3.15 million per condo. We have 22 others under contract with binding deposits. That represents another $70 million of proceeds. It's actually slightly higher. Price, $3.17, $3.18 million per unit. The sales activity, the new contract activity was pretty strong in January and February. In fact, if you go back to our first quarter call, we had 54 contracts at that time, so we've actually added nine since then, or about $40 million in incremental sales. uh... in the first quarter call and really all that came in uh... uh... february the first half of march because uh... you know one third they don't work came into play we went to a hundred percent uh... virtual toward in mid-march without failed agent there uh... and traffic did slow dramatically in the back half of march in the early half of april i will pay in the last just two or three weeks traffic and pick back up uh... and it didn't get all of their virtual tour Traffic is back up to over 30 per week, which is a pretty strong number and comparable to where it was kind of before things stopped in mid-March. But until people can actually get in and physically see the product, which we hope they'll be able to do within the next month or so, we won't really know how that traffic might convert to additional contracts. Pricing has been consistent. We haven't really seen a difference in terms of the pricing levels either asking or what we're achieving for the last 10 or 15, 20 contracts in the early contracts. There's a lot of different price points in the building depending what line and what floor. So it's not exactly apples to apples, but so far we haven't seen any impact there yet. But again, until we really get people back into the building and start seeing some additional new contract activities, you know, which hopefully will happen soon, we'll have a better sense.

Okay, great. Thank you.

We'll take our next question from John Pulaski with Green Street Advisors.

Hey, thanks. Sean, as you guys roll out concessions in different markets, which markets are responding better in terms of traffic coming in when you roll out specials and which few markets just aren't responding no matter, you know, how how generous the concessions become.

Yeah, I mean, John, the response has been pretty healthy across most of the markets. I mean, I guess I'd have to tell you that, you know, based on what you probably have heard from others and are just pointing out some of the weakness in L.A., it's probably taken slightly more concessions on average in the L.A. market as compared to others to get those conversion rates to sort of reasonable levels. but in terms of the rebound, for the most part, I would say that it's been pretty steady with some limited exceptions, and the exceptions really more relate to the hot spots, and I'll just be specific in and around New York, where people are so pretty hesitant, given the environment, to be out shopping for apartments. People are doing virtual tours, and the concessions are reasonable, but... not as much as what was required in LA to get people to spread action to give them all what's happening in that market environment, which is already weak, as you may recall, to begin the year. And pandemic certainly only made it that much more difficult in terms of people who are qualified being able to come out and shop for a department and be able to afford to rent an apartment given what was happening with all the studios being closed and a lot of people that produce content in Southern California, those shops being closed. So that's probably the one market where it's been a little more challenging. Okay. And then last one for me, just a question about D.C.

and the defensiveness of that market. Obviously a winner on a relative basis during the GFC.

In your mind, the price point of your portfolio in the D.C. metro and the employer base and how it shifted, is D.C.

different this time or would you still... put it up there against any other market in the next 12, 24 months just in terms of rent growth and occupancy trends?

Yeah, I mean, based on what we know as of now and just think about the composition of the workforce, I think D.C. should hold up relatively well. I mean, if you think about the nature of the pandemic and how things have started and the impact on joblessness to date, for the most part, as opposed to kind of a trickle-down, it's really a trickle-up type thing where a lot of the job losses are heavily concentrated at those lower-level service jobs. You know, you're talking about, you know, food service, sort of bars, restaurants, hotel workers, things of that sort. It may trickle up some. And in certain geographies where people are paid well, again, like LA to produce content, there'd be disproportionate impact. But D.C., you know, highly educated population, a lot of professional services, defense, et cetera, would expect it to hold up relatively well, and we've seen that thus far, even though it's only been sort of six weeks at this point in terms of what's happening. But others may have a different thought to add. No, I agree. I mean, between the knowledge base, knowledge nature of the economy, the federal government, I would say local governments are going to be pinched. I think you're going to see cutbacks there, but not as much in the area of the federal government. I think it should stand up pretty well. I think D.C. was hurt a little bit initially just because of our exposure to hospitality. Obviously, both Hilton and Marriott here, which had massive furloughs kind of early on in the pandemic. But I think over time, Sean is right. I would expect it to stand up pretty well relative to the U.S. overall, John.

Okay. Thanks for the time.

We'll take our next question from Austin Werschmitt with KeyBank.

Hi, good afternoon, everyone. I was curious if you were to negotiate a new contract today on a construction project, what do you think hard costs would be versus pre-COVID-19?

Yeah, good question, Austin. It's Matt. We certainly think the direction is headed down. I think, as you see here in this very moment, I'm not sure that... you would see that yet, and several of our projects we have decided to defer. One of the reasons we've deferred some of our potential 2020 starts is because we think that there will be a better buying opportunity in, you know, I don't know, three, four quarters maybe. So I think it takes a while to work its way through the system and probably will continue see it first in some of the early trades, you know, where like concrete or site work, paving, where, you know, deals aren't starting, those folks will start to see they have excess capacity and probably start to cut their pricing first. It'll probably take longer before it gets to some of the finished trades where there's plenty of stuff underway that's going to need to be finished. If anything, it may take longer to get finished over the next, you know, four to six quarters. So, uh... one of the day did we have it because you you know ninety-plus percent of our construction we are a general contractor we can kind of time that and play that strategically a little more than if we were using a third party general contractor which is the way a lot of private side of the business works out uh... still too early to tell if you happen to know in the last downturn it was down eighty you know fifteen percent uh... that was that was an extreme correction uh... But time will tell. I think Tim wanted to add something. Yeah, I'll just say, I mean, going into this, obviously we've been seeing a lot of pressure on construction costs. We've probably been seeing, you know, 6% to 8% increases for the last three years. So it was probably already well above trend, and that provides us a little bit more conviction that we're likely to see a correction. And certainly in terms of, you know, wages, commodities, materials, profits of subcontractors, those should all come down, putting downward pressure on pricing. Offsetting that somewhat, we would expect a little bit higher general conditions just given changing protocols, social distancing, things like that, and perhaps productivity being a little bit strained. Offset again by as subcontractors start to reduce their workforce, they're left often with their most productive crews, and you oftentimes get cost benefits from that and you come as you come out of a downturn in the early parts of an expansion. So overall, we do expect costs to come down. They're going to need to just to make sense, make sense of the economics given NLIs are flat on their way down and capital costs, if anything, are up since being in the pandemic, looking at both sort of the bond and the equity markets, obviously. That's really helpful. I mean, you guys had previously started, you know, expected to start $900 million. Matt, I think you alluded to, you know, some of those projects you delayed, you know, purposefully with the, you know, potential for costs to come in.

What percent of that $900 million are costs, you know, fully baked at this point?

I would say none of it. I mean, you're talking about the cost or the start commitment. We haven't committed to starting anything this year. The cost on... some of those projects. The only cost that would be baked would be where we bought the land already. I think two of those nine, and we did buy two parcels of land in the first quarter that could have been or could be 2020 starts. So we spent $38 million on those two deals so far. A little bit of the soft cost is baked, but we haven't bought any of the construction on any of those jobs. Understood. Thank you. And then last one for me, Kevin, maybe to pull you in here a bit. The balance sheet's certainly in great shape, but if you don't start any or only a small subset of that $900 million, where do you expect leverage to finish the year? Yeah, I mean, often, you know, we're probably going to have to provide a more fulsome update on what we expect our capital plan to be for 2020 when we have our mid-year call and provide, you know... have clear visibility on a whole range of things, including not only NOI, but also, you know, investment activity and capital markets activity. You know, we're standing right now at a remarkably low leverage level of net debt to even at 4.6 times versus the target range of 5 to 6 times, and that's intentional. We very much drove that leverage number down over the last few years to give us more scope, more capacity, as we might have to pivot through a downturn. And so we find ourselves kind of in the spot we had hoped we would be, which provides us an awful lot of flexibility to respond to opportunities that may present themselves here in the coming months, as well as capacity to take on debt if we need to pull through incremental development spend. But as I pointed out in my opening remarks, We've already got abundant liquidity here relative to our open commitments here in the near term. And from a capital plan standpoint, although we were through guidance, when we provided our guidance, our initial expectation was to raise external capital of $1.4 billion. And we've already raised $900 million of that, so we'll third it through the year and raise two-thirds of what we initially had hoped to raise. We may not need to raise as much of all that, but I think the bottom line answer to your question is while we haven't, you know, updated our guidance, I think, you know, our capital needs going forward are pretty modest. So you can probably look at the balance sheet in terms of absolute debt levels where it is. It's probably not going to change a whole lot from here based on what we know today.

That's helpful.

I guess I was just getting at it. It seems like it could be lower to the extent you get some lease up and you're not, you know, you don't have the incremental spend. But we'll wait and see what you have to say.

Thank you.

We'll take our next question from Nick with Scotiabank.

Hi, this is from Scotiabank for Nick. Thank you for taking the question. Just following up on the development discussion, you mentioned as a footnote that you've lowered the yields on your developments. Just wondering if you could give a little more color as to what kind of yield reduction you're looking at for near-term, um, or, uh, developments or developments in reset courses, which is stuff that's going out in 2021, 22.

Sorry, can you repeat the question? This is Matt. The question was about the yield shown on the development. Yeah.

Yeah. So you footnoted, uh, the yield as, uh, slightly reduced saying that, uh, you know, you brought down the yield for, or you brought down assumptions for development near incompletion on DCEP. So just trying to get a sense of what's the split in the yield reduction for, particularly for development and more near term in 2020, let's say.

Yeah. So as a general rule, our practice has been that when a deal is, gets more than 20% leased, then we kind of remark the rent to market to reflect the experience that we're actually having. And until that time, we tend to carry the rent at what we initially underwrote. So we've talked for years about the fact that we don't trend rent, and that's what we mean by that. So in this particular release, we only have the three deals that are completed, and in that case, those rents reflect the actual rent roll in place. Those are all more than 90% leased, but on the schedule. And then there's three other communities where we have enough leasing done that we've reflected the most current rents there on the chart there on attachment eight. The other 16 assets, we haven't done enough leasing yet, so those are still the original pro forma rents. So that's consistent with what our practice has always been, I guess. We did add a note just to make clear that we have not endeavored to update those because of any changes in the environment related to the pandemic, we're still carrying the rents that were in the initial pro forma. And, you know, when we get leasing activity, we will adjust them accordingly. So it's really not any change from our current practice. I think it's just an additional disclosure that, you know, to make sure folks understood that it's a more volatile environment than it's been. charm you want to talk to kind of how to currently get to get one thing on that uh... it may indicate it is just for the first quarter there were six that that that we thought uh... if you look across the ramp uh... for that that that uh... for them were pretty rampant that time average for the quarter that were above the original performa one with equivalent original performa and one deal kind of a northern seattle was not below original performa but he planned all that together Rent at that point in time were, you know, roughly 3% above the form of around $80 or so. But there were some cost changes on those deals. So the net reduction in yield really was only about 10 basis points to a weighted average of 5.9. So really immaterial in the context of the whole basket.

Thank you so much.

We'll take our next question from John Guney with Stifel.

Oh, great. John Gainey here. Two quick questions. One is, has this situation given you any thoughts on speeding up or slowing down into other markets such as South Florida and Denver? And then second, if there is a slowdown in development starts in 2020, how would that affect G&A and and interest costs in 2021 as you need to, you can no longer capitalize people and development interest expense.

Yeah, John, this is Tim. I'll maybe take the first and Kevin, if you want to take the second piece of it or not. But with respect to our market footprint, as we've talked about in the past, we happen to potentially the first five bit of our exposure to the larger close markets into other knowledge economy-type markets, part of which were, you know, entering into Denver and to Southeast Florida for sure. And there have been other markets that have been on our screen as well. We've been, you know, pretty active in terms of our investment in both those markets, both in terms of acquisitions and redevelopment and also funding markets funding third-party developers. So we try to really kind of sort of activate all the levers, if you will, with respect to those markets. So we really haven't been held back by desire to get in those markets. It's a function as much of the opportunity as anything. But I would expect that to continue, that we'll continue to sort of trim from some markets and recycle some capital or They said it makes sense to grow the balance sheet and invest capital in those markets. We can do that as well. But right now it's more through debt and asset recycling. So I don't think anything's changed there. We'll continue to evaluate other markets that we think it could make sense for us to be in long term that we think are over-indexed to the innovation economy and therefore we think will you know, outperform over, you know, over a long period of time from a demand standpoint. And I think your second question had to do with G&A around development. I can maybe start that. Sure. Kevin, if you want to come in. We're always going to try to, you know, right-size the development organization to sort of the, you know, the opportunity set over the next two or three years. To the extent we delay deals this year, it means we're probably going to have more stacking up in 2021 or 2022. So part of it is to make sure that you're properly positioned, not just for what you have to do for the next six months, but really for the platform over the next three or four years. To the extent this becomes a very protracted recession, that changes the calculus. Obviously, that's not how we're viewing the environment today. We are viewing this as kind of a slow buildup from a sharp downturn. And if we do see meaningful contraction in construction costs to the balance of 2020, and you start to see some recovery in 2021, you start to see 2022, 2023 could be a really good time to be delivering a new product, which would our view for heightened starts in 2021. So we want to make sure we've got the right type of development and construction organization really over the next three or four years, not just over the next six months. And not much has changed in terms of our view that it needs to change material, in part because we'd already brought it down from, as Matt had mentioned, from about $1.4 billion to roughly $800 million sort of late cycle. So it's already kind of has already kind of sized for late cycle downturn type dynamics. Kevin? Yeah, I mean, just a couple things. I mean, as a result of some of those, the decline in start volume, we did have some recent staff reductions in our capitalized groups last year or so. And so when we put our budget together for this year, we did expect capitalized overhead for 2020 to be a bit below what it was in 2019. If you look at what happened in the first quarter, capitalized overhead did sequentially increase a little bit in the first quarter due to a few one-time items and such as increased benefits and payroll costs. But for four-year 2020, you know, we would expect that that capitalized overhead run rate would decline in the back half of the year somewhat based on what we know today.

Great. Thank you.

We'll take our next question from Alexander Golsart with Piper Sandler.

Hey, good afternoon. Just two questions from me. One, there was a statement in the release about the impact of lost fees, $1.4 million per month. Can you just talk about your expectations? I'm assuming for the eviction moratorium market, obviously there are no late fees. And then, you know, best in wherever you don't have amenities open, you aren't charging amenities. So how should we think about, you know, this $1.4 million a month? Is that something we should be thinking about, you know, for the next few months? Or is your view that, you know, within whatever, maybe by midsummer, a bunch of communities will fully be open where this number won't be as big as it is right now?

Yeah, Alex, this is Sean. Just to give you some perspective, about 80% of that $1.4 million We didn't waive common area amenity fees because our amenities are closed. So our expectation is you're going to see a kind of slow rebuild of that line item over the next few months as, you know, states begin to reopen. We resize our occupancy limits, as I was describing earlier, in response to a question, and that it will slowly rebuild. We don't expect it to snap back, I guess I would say. just because the pace of opening is going to be different by jurisdiction based on the local market environment. But that's the majority of it that should fully rebuild. The rest of it was, you know, small stuff related to some late fees and, you know, credit card convenience fees and things of that sort.

Okay, okay. And then on your line of credit, you guys had drawn the $750,000 and then you quickly paid, you just paid back the 535. Sounds like you have about 150 million or so rough numbers on condo sales. What drove, it's pretty quick that you guys pulled it down and then paid it back. So what shifted in your thinking? Was it more that, hey, we weren't sure if banks were going to fund, or we weren't sure if the Fed was going to be there, or was it just once you guys delayed a bunch of projects, suddenly you realized, that you didn't need all that money at once.

Hey, Alex, this is Kevin. So we drew a portion of our line of credit, basically three, so the $750,000 out of the $1.75 billion in mid-March. And we really did it on a precautionary basis, not because of anything in our business, not because of our development activities, not because we had any particular use. We didn't have commercial paper. There was really nothing related to Avalon Bay that caused us to draw that $750,000. Instead, it was really just a reaction to the initial stage of the pandemic and its impact on the capital markets and before the Fed had fully stepped in to stabilize the markets. So it was really done on a precautionary basis to ensure that we had greater control over the capital that would give us incremental, abundant time and room to maneuver through what we thought would be a choppy set of months ahead of us. Maybe just to add to that, Alex, I mean, once the Fed came in, obviously the bond markets became very constructive, and we had access to bond markets if we needed to. So that was the reason that ultimately we just paid it back.

Okay, okay. Thank you.

I'll take our next question from Rick Anderson with SMBC.

Thanks. Good afternoon, everyone. First question, this whole thing started to take effect at the beginning of what would be considered the heavy leasing season for multifamily. My first guess was perhaps that was a good thing, but then I thought about it, maybe it was a bad thing because there was more activity and tenants maybe had an arrow in their quiver to negotiate. So what do you think? Not that we could have changed it, but do you think you were... the industry or yourself was negatively impacted by the timing or how did you think that played out from a, you know, from a cadence standpoint?

Rich, you know, it's hard to know. I mean, you know what I would say when you are in the peak season, it is when we get most of our rent growth for the year. You have both the benefit of a better market pricing and more leasing velocity. So, So your rent roll is increasing. You kind of earn it all kind of in that March to July time frame. And obviously that's a challenge right now. So, you know, to the extent you can take in time pandemics, many may argue for a late fall start. But we have a lot of things under control. We haven't gotten there yet.

Yeah. I mean, come on. Can you guys do anything right? The second question is perhaps more realistic and longer term. So you guys are thought of as sort of visionaries, and I don't know if your different product types and price points came out of the Great Recession, but let's pretend for the sake of this question they did. Do you feel like that there is an evolution to multifamily as a consequence of all this? maybe more comparable with a work-from-home environment, maybe more of a build-out of internal office space or technology enhancements or laser printers or whatever might people be needing right now that they don't have because they're working from home? Is that something that you think, or maybe there's another alternative about how multifamily will evolve out of this? Do you have any idea or have you thought about it at all about what the change and the basic fundamentals of the of the industry might look like, you know, five years from now.

In terms of demand for multifamily, I think that's going to continue to be driven by the nature of the households. I mean, there's been such great growth in single-person households. That's what really drives the demand for our business. Most of our households are singles and professional couples, very few children. But in terms of kind of the product and the service, You know, I do think you probably see some of this, you know, the work from home take trouble. There's already a trend that I think that Sean alluded to in some of his remarks. You know, I think there's a good basis for expecting that that might accelerate a bit. We had already started putting co-working, you know, lounges and spaces and with meeting rooms in all of our communities. They may need to be a little bit bigger now just to provide a little bit more space, but they're a pretty good size to begin with. And if you think about it from a resident standpoint, they might prefer that environment to Starbucks, which is a much more controlled environment. They're going to work from someplace other than the office. I think similarly, there's been a movement towards much bigger, grander fitness centers. I think you're going to continue to see that. I think people are going to have more faith and comfort and you know, working out in a community with their peers and, you know, maybe a large, you know, a large club with a bunch of, you know, high schoolers cleaning up equipment and things like that. So, you know, and then within the unit, you know, another trend that had already started, I think it might accelerate, is just more flexible open unit spaces that can, you know, the nature of the space can change during the course of the day based on kind of where you are in your in your day where, you know, kind of kitchen, dining spaces convert to office spaces. My office space is an apartment community right across the street, and I noticed a number of people have sort of set up their desk right up against the window. I don't think that's where it was to begin with because they're just spending a good part of their day there now. So I think people start to think about that in terms of unit design But, you know, folks may be using the space more during the day than they have historically. And there's certainly just a need for, you know, broadband and high speed and reliability there and anything that we can do to kind of support that. And then I guess lastly I just mentioned kind of the smart home initiative, which, you know, a lot of folks are pursuing now. But I think one of the most intriguing aspects of that is the the remote entry, being able to allow goods and services to sort of flow freely throughout a community rather than having to be handled by somebody at a front desk or in a central office that people can get access right up to the unit and potentially right into the unit to the extent that the resident has to step away. So I think you'll see all those things that were trends anyway you know, perhaps just accelerate as a result of this.

Yeah, really good call. Thanks, Tim. Appreciate it.

Sure.

As a reminder, if you would like to ask a question, please press star 1. This will be your last chance to enter the queue. We will take our next question from Hardick Oil with Zellman.

Hey, sorry, guys. Can you hear me? Yes, thank you. Thank you for the question. I was just wondering, if I look at your development pipeline, I know Matt talked about how you guys don't trend rents and you only really update them when there's 20% leasing. But if you look at the development pipeline that's going to deliver, you know, 2021, late 2021 or mid-2021 and beyond, How do you feel about the underwritten yield on those? And I know there's a lot of uncertainty, but what kind of buffer is there where you would still underwrite it today?

Hey, Artic, it's Matt. You know, the deals that are delivering in 21, first deliveries in 21, are deals that generally were started in the last, you know, year, call it. You know, because... otherwise they'd be delivering sooner than that. So on those deals, you know, I guess we'll just, we'll see what happens, right? I mean, it's fundamentally, it's going to depend what happens to market rents, what happens to NOIs. Um, you know, they, some of those deals were higher yielding deals in the first place, just because of the geography of where they were. Um, so, you know, that in theory, I guess gives you a little more room, but, um, uh... you know i i don't think and there's a few that are early enough that we might actually be applied a little bit of construction cost savings uh... and as i mentioned we are in some cases shifting from trying to buy things out as quickly as possible before putting out a little bit to take advantage of hopefully what could be a better market to buy construction services in a few quarters uh... but uh... yeah i mean you know the risk there is the same as the risk in the stabilized portfolio you know it's just the risk of what happens to you know, market rents between now and then. Yeah, I guess I'll just add that it's important to first recognize the deals are capitalized in a different capital environment. So you've got to figure, you've got to look at both the cost of capital as well as the underlying fundamentals. But as you saw in Sean's remarks, rents in April were roughly flat on a year-over-year basis. I think there's a basis for believing that they should continue to come down. We've lost 20% of our workforce and um, even if three quarters of it comes back as states start to open up the economies, we're still looking at 8% unemployment and, uh, you know, likely to see, you know, flat, maybe slightly negative household growth while we're still delivering some new supplies. So that's going to, that's going to take its toll, uh, in the near term, uh, on, uh, you know, on analyze, but as I, as I mentioned before, I think, you know, it, uh, you know, ultimately it's, you know, we could see a pretty strong, you know, late 21 and 22 as deliveries. People can start to do what we're doing, which is delaying starts, and you start to have, you know, a dose of deliveries at a time when maybe the economy is really starting to really regain its footing. You know, just kind of one other thing, Hardik, as you think about sort of development, how it flows through, you know, you know, our earnings from a business model standpoint and compare it perhaps to the last downturn. As you know, we've emphasized over the cycle how match-funded we are with respect to long-term capital being sourced to fund the development underway. And really at Q1, we were over 80% match-funded with long-term capital against the development book that's underway. So that's an important point. Tim touched on it in his event a few months ago, but I really do think that's As you think about Avalon Bay and how we might perform here in the coming years, it's an important distinction to draw in terms of how we are positioned from a balance sheet and funding point of view and a built-in accretion point of view with respect to development relative to, say, the last downturn. We had much more in the way of open and unfunded development at a time when, 12 years ago, developments were coming in around 5% or 6% yields, and we were funding it with debt costs around 6%. Today it's very different. We'll see where the yields ultimately shake out to be. But we know debt costs for us on a 10-year basis today are probably somewhere in the 2% range. And we don't really need much of that at all. And we're already over 80% match funder and we're developing underway. So we really are in terrific shape from that standpoint to sort of benefit from banking profit growth on the 80% or so that we've already paid for that's underway. and to the extent we have to source incremental capital and we have to do so, that's likely to be an additional source of accretion.

Just from my standpoint, guys, I have no problem with the balance sheet. I never have. I find it confusing when people are, you know, kind of dinging you for that, and it's resulted in you guys holding $750 million on your balance sheet. It's kind of crazy to me. No issues with the balance sheet at all. You guys have been doing this for two decades, and people still get nervous about this. But I was thinking more about the IRRs. And Matt and Tim, all of you guys have talked about, you know, the 9% to 12% range through a cycle. You get 9% on assets started during the last downturn, maybe 12 in your best assets. What I'm trying to understand is on an IRR basis, obviously these things will leap up more slowly if they're coming on in a stressed environment. What is the IRR on the developments that are, you know, kind of 2021 and beyond? Is that a 9% number, 10% number? What does that number look like?

Yeah, we have shared with you in the past, at least with, you know, the last couple cycles where we had, you know, when we started deals kind of late in the cycle and delivered into a downturn, those were when you kind of run out 10, 15-yard hours. They are well up in deals that you start at the beginning of the cycle or in the downturn and lease up at the early stage of the cycle. But I think we saw ranges from – and it narrows over time as you turn out the time horizon from 10 years – But over 10 years, I think we were still clear on our cost of capital, long-term cost of capital. I think on the low end, it was around 8.5%, 8.5%. On the high end, it was 1 to 13.5% range. So, you know, I would say, you know, it's going to be, you know, some of these deals that were sort of time the worst that started when construction costs were peaking and delivering into depressed environments. You know, I think they could still be, you know, high single-digit kind of IRs. And, you know, deals that we start in 2021 and 2022 could be, you know, much better than that.

Got it. Thank you. That's a great call.

Thank you. We will take our next question from Kendall St. Joe's with Mizzou Health.

Hey, guys. Thanks for taking my questions. A couple to move here. So, Just going back to April rent collections for a quick second. I guess I'm not surprised to see the affordable rent collections trail the market rate collections. I've seen some of this is income and savings related, but I guess I'm more surprised to see the more meaningful lag in the corporate apartments business. So curious to be able to identify or help us understand what the key reasons, the key headwinds you're facing there in terms of rent collection. And that's the first one. Thanks.

Okay, I did. You were a little muffled on some of it, but I heard the collection right in the corner. And, yeah, it is lower. I mean, the way I think about it is these are the kind of corporate apartment home providers. It's not the corporations per se that are the end users here, but the sort of intermediaries that are, you know, essentially have a sales team that have reach agreements with various corporations or have a booking site essentially that's a marketplace. And then they are leasing units from us and many other of our peers and others. And those, they're, you know, think of it, I guess I'll call it sort of like an extended stay hotel almost, where their bookings basically dried up pretty darn quickly. And some have some longer-term stays from people who were there on consulting assignments for three or four months, and they'll bleed out a little bit longer. And there are others who really were running more short-term 30-day stays And they're demand evaporated more quickly. So we're working through the process with them just as we would with other residents in terms of potential deferral and plans and things like that. But, you know, that's why the collection rate is quite lower than what we'd see from our market rate apartments, which is generally higher quality residents, good household incomes as indicated in my prepared remarks about the flood that we addressed.

But that's helpful. Thank you. So just want to be clear that ultimately who is on the hook for the red? Is it that individual or the corporate sponsor?

The intermediary is technically our credit. That's who we're dealing with. But their ability to pay certainly is based on what occupancy rate they have across their portfolio. And to the extent that they're pick a number 75% occupied with good corporate clients, that's what they can pretty much pay. Not many of these companies have, probably almost none of them really, have a, you know, really strong balance sheet to be able to handle, you know, three or four months without rent payments or 25, 50% occupancy. So the nature of the pandemic and how long it lasts and the impact on the people's travel have a really sort of difficult ability to pay over the next few months.

Yeah, thanks. So can you also... What percentage of the tours you've been conducting here in April and early May have been virtual? And how the conversion rates on those virtual tours compares to more traditional tours historically? And are you finding that you need to offer a bit more incentives to get these virtual tours to sign official leases?

Yeah, good question. You know, I don't have that right in front of me in terms of the composition of it. But, I mean, I would say that virtual tours, you know, for our business... you know, are not nearly as effective as the self-guided tours or an escorted tour. But given the nature of the pandemic, it was actually nice to see a rebound in activity in April with people getting more comfortable with a virtual tour, whether that was, you know, online through our website or in some cases we had community consultants that could do FaceTime type tours through individual units. And some of that was really at the discretion of the customer where, They didn't want to come do a tour with someone. They were fine doing it virtually. So I think it's evolving, but it certainly reflects the nature of the business and where it's going in the future, in our view, and the technology investments that we're making and we're already making and we make accelerate as it relates to technology to support a lot of the sort of no-contact type activity between our staff and our customers and our prospective customers. And that includes various things on the tour side, on move-ins, receipt of packages, and even on the maintenance side where we're doing diagnostic calls via FaceTime and other tools to try to diagnose issues for customers to be able to sort of self-serve and self-help, in many cases before dispatching someone to go to a unit. So I think this will just accelerate some of the things that we were already contemplating as part of our operating platform that will lead to more efficiencies in the future.

Ron, thank you for that. Yep.

Is there no further questions at this time? I would like to turn the conference back to Mr. Tim Norton for any additional or closing remarks.

Thank you, Cassie, and thank all of you for being with us today. I know that you've got a lot of calls to cover, and normally I'd say I look forward to seeing you at Mayreap, but I don't think that's going to happen, but hopefully we'll talk to some of you during that week, and maybe even see you on a Zoom call somewhere. So take care and stay safe. Thank you.

That concludes today's presentation. Thank you for your participation. You may now disconnect.