AvalonBay Communities, Inc.

Ladies and gentlemen, good morning and welcome to Avalon Bay Community's third 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 speakerphone, please lift the handset before making your or sorry, before asking your question, and we ask that you refrain from typing and have your cell phones turned off during the question and answer session. Your host for today's conference call is Mr. Jason Riley, Vice President of Investor Relations. Mr. Riley, you may begin your conference.

Thank you, Abby, and welcome to Avalon Bay Community's third 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 risks and uncertainties associated with forward-looking statements, and actual results may differ materially. There is a discussion of these risks and uncertainties in yesterday afternoon's press release, as well as in the company's 410 and 410 problems with the administration. As usual, this press release does include an attachment with definitions and reconciliations of non-GAAP financial measures, which may be used in today's discussion. The attachment is also available on our website at www.avalonbay.com forward slash earnings. And we encourage you to refer to this information during the review of our operating results and financial performance. With that, I'll turn the call over to Tim Naughton, Chairman and CEO of Avalon Bay Communities, for his remarks. Tim?

Yeah, thanks, Jason. With me today are Kevin O'Shea, Sean Breslin, and Matt Bierenbaum. Sean, Matt, and I will provide comments on the slides that we posted last night. and all of this will be available for Q&A afterward. Our comments will focus on providing a summary Q3 results, an update on operations, and some perspective on the transaction market and our financial position. Maybe just a few comments before turning to the deck. Several of the trends unique to this downturn and pandemic that we discussed last quarter played out in our performance in Q3. The appeal of urban living is, for the time being, diminished due to health concerns of living in dense environments, the shutdown's effect on retail, entertainment, and cultural venues that have long been the draw for urban centers, and a civil unrest that occurred in many of our cities over the summer and early fall. Work-from-home flexibility has been extended through year-end by many, if not most, employers, particularly those heavily weighted to knowledge-based jobs like many businesses in our coastal markets. We've experienced a significant reduction in student and corporate demand as remote learning modalities are being deployed at many urban universities and business travel has dropped off substantially. And finally, historically low interest rates are stimulating demand for existing and new home purchases, particularly for young age cohorts where homeownership rates have begun to climb. All these factors have resulted in an unprecedented reduction in apartment demand, particularly in urban centers, beyond what we typically experience in an economic downturn. And while we believe the reduction in demand is mostly temporary in nature, we also believe that it won't be restored until we substantially resolve the public health crisis from the pandemic. A meaningful recovery in our business will not occur until employers believe that they could safely bring their workers back to the workplace. Until then, business leaders are likely to err on the side of caution before reopening their workplaces, which is ultimately what will need to happen before many of their employees return to apartment living. I suppose if there's any silver lining in any of this, it's that our nation's struggle to respond effectively to the pandemic could ultimately lead to improvements in our response to future public health crises. Much like we saw in the aftermath of 9-11 and the great financial crisis, when our national response led to building a more resilient system to address the threat of terrorism and financial market dislocation respectively. We hope then that in the future, our nation and our cities will be better prepared to deal with the public health crisis in a more resilient and less disruptive way. But for now, we need to play the hand we've been dealt, and we'll endeavor to provide as much transparency and disclosure as to the actions that we're taking in response and their ultimate impact on the business. So with that, let's turn to the results for the quarter, starting on slide four. Q3 certainly proved to be a challenging quarter. Core FFO growth was down by 12%, driven by same-store revenue decline of just over 6%. On a sequential basis from Q2, same-store revenue was down 2.2%, or about half the sequential decline we saw in Q2 as bad debt in Q3 leveled off relative to Q2 after the big increase we saw in Q2 during the early months of the pandemic. In terms of capital allocation for the year, through the end of Q3, we've raised $1.7 billion through new debt issuance and dispositions and repurchased about 140 million of shares. We started only one development so far this year, and that was through a joint venture in Opportunity Zone in the Arts District of L.A., where we earned just 25% of the venture. Importantly, our liquidity, balance sheet, and credit metrics remain in great shape as we manage through the current downturn. Turning to slide five, like we saw in Q2, the decline in year-over-year same-store revenue and Q3 was primarily attributable to a loss of occupancy and uncollectible lease revenue or bad debt. These two factors drove about 80% of the drop in same-store revenue in Q3. Over the next two to three quarters, we expect to see continued declines in same-store revenue, but increasingly, the decline will be driven by pressure on rental rates, as we saw effective rental rates fall by almost 6% this past quarter. These declines will have a more pronounced impact on revenue over the next few quarters as those leases begin to roll through the portfolio. And as Sean will share in his remarks, the decline in effective rental rates have been greatest in high-cost and urban markets like San Francisco, New York, and San Jose. And with that, I'll turn it over to Sean. He'll discuss operations and portfolio performance in more detail. Sean. Sean Esterly All right. Thanks, Tim. Turning to slide six, We experienced a year-over-year increase in prospect visits to our community each month of the quarter. In total, visit volume was up about 20% year-over-year during Q3, which led to a roughly 10% increase in net volume. As you can see from chart two on slide six, the most significant increase in net lease volume occurred in September, which was up about 35% year-over-year. And as of yesterday, traffic and leasing volume for October was up roughly 25% and 20%, respectively. Moving to slide seven, for the first time in more than four years, resident notices to vacate our communities increased by a meaningful amount on a year-over-year basis. During Q3, notices increased by roughly 17%, primarily as a result of a spike in lease terminations in urban submarkets, which is depicted by the hash bars on chart one of slide seven and a topic I'll touch on in a minute. Our leasing volume exceeded the pace of notices, however, starting in August and has continued through October. As a result, if you turn to slide eight, you can see that beginning in September, move-ins exceeded move-outs and physical occupancy has increased from the low point at 93.1% in September to 93.5% for October and stands at 93.9% today. Moving to slide nine, Our suburban portfolio continues to perform substantially better than our urban assets. Charts one and two at the top of slide nine reflect notices to vacate our communities and lease terminations by sub-market type. Notices to vacate our urban communities increased by roughly 40% during the quarter, driven by an approximately 70% increase in lease terminations, and led to a 340 basis point decline in physical occupancy from Q2 to 90.2%, and double-digit decline in rent change. For our suburban portfolio, the increase in notices to vacate was more modest, supporting better physical occupancy and rent change. The performance of our urban portfolio has been impacted by a variety of factors, including those mentioned by Tim in his prepared remarks. I'd highlight the combination of extended work-from-home policies and the civil unrest that occurred during the summer months, which impacted the quality of urban environments as key factors driving residents to break leases during Q3 and leave urban centers for housing options in other geographies. Shifting to slide 10 to address regional performance, increased turnover in Northern California, the Mid-Atlantic, and New York, New Jersey impacted physical occupancy more than in other regions. In the New York, New Jersey region, the increase in turnover was primarily a function of elevated turnover in New York City, which was 87% on an annualized basis during the quarter. For the Mid-Atlantic, we experienced increased turnover in the District of Columbia and other urban or quasi-urban sub-markets, like the Roslyn, Ballston, and Tysons Corner sub-markets in Northern Virginia. In Northern California, annualized turnover during Q3 was 85%, driven by elevated turnover across all three markets, San Francisco, San Jose, and the East Bay, but was most pronounced in San Francisco, and in Mountain View, where Google is headquartered. On a positive note, turnover was relatively flat in New England, which is a testament to our primarily suburban Boston portfolio, and was down in both Pacific Northwest and Southern California. Physical occupancy in all three regions exceeded the portfolio average. And moving lastly to slide 11, same-store light-term lease rent change was down 3.3%, and effective rent change was down 5.8%. Metro New York, New Jersey, and Northern California, two of the regions I identified on the last slide with elevated turnover and therefore available inventory to lease, produced the weakest rent change during the quarter. Rent change in New England held up the best, again supported by our suburban Boston portfolio, which in many cases offers differentiated products, including larger unit sizes, to those departing urban environments. So with that, I'll turn it over to Matt to address our development portfolio. All right, great. Thanks, John. Turning to slide 12, we are starting to see a remarkable recovery in the transaction market. Ultra-low interest rates have started to bring buyers back into the investment sales market for properties that can support reasonable levels of debt service, primarily suburban assets where operating results have been less impacted by the pandemic. To take advantage of this shift in buyer sentiment, we increased our disposition plan over the summer and brought several communities to market in the past two months. As of today, six of these communities are currently under contract or letter of intent at very attractive pricing with cap rates averaging 4.4%. This compares to four communities that we sold earlier in the year at an average cap rate of 4.7%, putting us on track to complete nearly $700 million in dispositions for the year. Turning to our development portfolio, slide 13 shows the rents we are achieving at the nine communities currently in lease-up. For the past several years, we have shifted our development focus to more suburban locations, and we're starting to see some of the benefits of this strategy now, as our lease-up rents are only about $45 per month below our initial underwriting, allowing for continued value creation on these assets as they are completed and stabilized. We have highlighted three of our lower-density northeastern communities on the slide, which feature rental townhomes, and which are showing a nice increase in rents compared to pro forma. This product, which features larger floor plans, private garages, and direct entry with no common corridors, is particularly appealing in the current environment and serves as a good substitute for single-family rentals, which are enjoying very strong fundamentals. On slide 14, we show the future earnings potential of our development portfolio. At current projected rents and yields, we expect to generate nearly $140 million in annual stabilized NOI, with only 14 million of that reflected in our Q3 results. And with more than 90% of the capital needed to complete those assets already funded, these developments should contribute significant incremental cash flow over the next several years. And for that, I'll turn it back to Tim for some closing remarks. Well, thanks, Matt. I'm going to turn it to the last slide, slide 50. It was another challenging quarter, driven by the suddenness and continued strength of the pandemic. Weak same-store performance is being driven mostly by our urban core, which Sean mentioned, particularly in the high-end areas of San Francisco and New York. Suburban communities with larger units have performed much better. While pricing pressure continues to impact rental rates, occupancy has begun to modestly improve and stabilize in the 93% to 94% range. The transaction market, as Matt mentioned, has picked up dramatically after having been frozen earlier in the year. For those assets being taken to market, values are generally holding up at levels close to pre-COVID valuations. We continue to be cautious in deploying new capital, particularly for new development, where economics are challenging and construction costs have not abated in any material way. And lastly, the balance sheet is very well positioned and is much stronger than prior downturns, which would give us plenty of financial flexibility to address the challenges posed by the current downturn. And so with that, Abby, we'd like to open the call for questions.

Thank you. As a reminder, it is star one to ask a question. If your question has been answered or you wish to remove yourself from the queue, press star two. We will take our first question from Nick Joseph with Citi.

Thanks. Maybe just on the transaction market, you know, you mentioned kind of the difference of urban versus suburban, but that kind of blended transaction, just values are pretty similar to pre-COVID.

Can you bifurcate that between the two, both in terms of buyer interest as well as values for urban versus suburban of what you're seeing today?

Hey, Nick, this is Matt. I wish that I could, but the reality of it is that there's very, very little urban, high-rise assets that are in the market right now. That makes sense when you think about where the occupancies are, where the rent changes on those assets, as Sean laid out in his remarks. The assets that are trading, both that we're trading and that we're seeing others trade in the market, tend to be more assets that can support strong debt service coverage, where the buyers can take advantage of the rates, the incredibly low rates, and those tend to be more the suburban assets, more maybe 100 million or less in general asset size, although not universally. As you mentioned, on those assets, what we're seeing is the values are pretty consistent with where they were pre-COVID. You know, in some cases, the cap rates are down, the NOIs are down a little, but the value is pretty much some are a little higher, some are a little lower. and the bid on those has been incredibly strong. You know, there's a lot of capital that was raised. If you went to NMHC in January this year, there were a lot more people saying they were going to be buyers than sellers, so there was a lot of money on the sidelines, and that money was frustrated in the first half of the year with very little transactions to shoot at. So, you know, you're seeing a little bit of a pent-up demand there. But, again, that's all focused really on the assets that are being brought to market. And I'm not aware of hardly any kind of downtown urban core assets being brought to market in this environment. So the value on those assets is really anybody's guess. Thanks. And then just in terms of your own appetite for sales, beyond the $440 million that you cite here, what's behind that?

And then if you can tie that to the share repurchase program and expectations going forward.

Well, yeah, Nick, this is Kevin. Maybe I'll begin with the share repurchase. You know, there's obviously a lot of number of uses that we fund with asset sale proceeds as we always do, including development spend underway. But in terms of the share buyback, as you saw, we were active in that program in the second quarter. You know, really the fundamental thesis behind the share repurchase program hasn't changed. We expect to be, you know, active on it in the third quarter. You know, we believe there's an attractive opportunity to take advantage of the disconnect between private and public market values for investors like ourselves who can see things through to the other side of the pandemic. We have a balance sheet string from liquidity to pursue a modest share buyback that's executed in a measured way, which we believe we did in the second quarter, and we intend to do so going forward, and one that's funded primarily with asset sales and size and managed in a manner that preserves our strong credit profile. So, All those things were true last quarter. They remain true this quarter. And so looking ahead, we would continue to plan on a measured buyback funded primarily with asset sales with an eye on preserving our financial strength and flexibility.

So we have plenty of capacity to sell assets over time, and we don't believe that's going to be a constraint for us. Cindy, do you want to add anything? No.

We will take our next question from Rich Hightower with Evercore.

Hey, good afternoon, everybody.

In terms of the move-outs that took place during the third quarter and predominantly within the urban portfolio, can you give us a sense, if you track this sort of thing, where they're moving to in terms of forwarding addresses?

Because we've heard commentary on intra-city moves, let's say, where it's more bargain hunting than anything, but

Are you seeing a structural shift outside the city from your previously urban inhabitants going elsewhere?

Yeah, Rich, this is Sean. Very good question. We do track that just based on forwarding addresses. I'd say there's probably two or three things I'd highlight as it relates to when you look at the data, what sort of stands out. Really, I'd say three points. First is we classify a big move for a resident is that they're moving more than 150 miles somewhere. And in that category, New York City, this percentage of move outs, Q3 of 19, that was about 17% of the population. That increased to about 30% of the population in Q3. In San Francisco, Q3 last year was about 23%. It moved up to about 27% this year. And then two other categories that highlight a regional move, which we define as between 50 and 150 miles away from your departing location. New York City, that move from 6% of move outs up to about 20%. And in San Francisco, from 7% to 10%. And then probably the last one I'd highlight is what we consider a market move, which is between greater than 10 but less than 50 miles. And the one that really stood out is meaningful increase was Boston, primarily urban Boston, where it increased from basically 10% to 20%, so about double. One thing you have to keep in mind in some of these things where a local move is obviously less than 10 miles. I didn't go through it, but 10 miles can be, you know, when you think about some of these urban environments, 10 miles feels like a long way. So someone leaving San Francisco, 10 miles could be going down into the peninsula or places like that. But in terms of sort of the larger moves, That's the data that stood out Q3.

Okay, those are helpful stats.

And then just maybe a quick housekeeping question, but on the asset sale side, the properties that are in the market or under contract, do you expect those to close by year-end, or what's the timing there?

Thanks. Hi, this is Matt.

I think most of them will close by year-end. It's possible one or two might slip into January. But we would expect most of those proceeds to come in by the end of the year. Okay, perfect. Thank you.

We will take our next question from Aloua Askerbeck with Bank of America.

Hi, everyone. Thanks for taking the question. Just going back to move outs and focusing specifically on the Bay Area, which are the highest in Northern California. But kind of where do things stand today? And are you starting to see the move that's moderating as we head into the winter months? And do you work with residents offered like suburban market options to keep them within that work?

Yes. Your question broke up a little bit in terms of residents departing San Francisco. I think you said and whether we're seeing that accelerate or decelerate. Was that the first part of your question?

Yeah, I was just wondering if like move outs are starting to moderate as we head into the winter months.

Yeah, I mean, as you can see on the chart regarding the move in move out that we posted up there, we're starting to see volume ease as we move into the fourth quarter in October. Specifically, that is, you know, relatively typical in terms of seasonal patterns. But you know, in terms of whether that's sustainable or not, you know, will depend on a lot of different factors and many of which Tim mentioned in his prepared remarks. So it's probably too early to conclude that it's a definitive downtrend other than seasonally that would normally be the case. And then I think the second part of your question was around transfers and whether we help facilitate that for residents, and we do. And as it relates to transfer activity, transfers were up about roughly a third year over year So we are seeing increased activity both within the same community and to another community that might be within a reasonable distance of the community they're departing. So definitely an increase in activity there, but it's not a meaningful percentage of total move outs if you want to think about it that way.

Got it. And then just one other question. So some peers have started to get creative in the urban markets. by transforming empty apartments into work from home spaces or building in desks into various nooks in the apartments themselves to attract renters. Have you guys done anything different to attract renters in your urban markets? Have renters been asking for different amenities like this?

Yeah, and a good question. You know, we're exploring a lot of different things that we've done for a bit as it relates to some people who are looking for in this environment a short-term stay in a different geography. It may not just be an urban environment. It could be a suburban environment where they have left the urban environment, but they're not sure when they may have to return to work in that urban environment. And therefore, they'd like to rent a furnished apartment in a suburban location that's not their sort of normal home location. So we're doing a little bit of that. And then, you know, certainly as it relates to amenities, we're trying to facilitate you know, food delivery and things of that sort as best we can, given the, obviously, the constraints of the, you know, the building from a physical standpoint, trying to facilitate that as best we can so that our customers that are home in urban environments, trying to make sure that they have access to the amenities that they would normally enjoy, just in a different way.

Great. Thank you. We will take our next question from Rich Hill with Morgan Stanley.

Hey, good afternoon, guys.

I want to come back to some of the October updates that you had put in your presentation and you discussed in your prepared remarks. It looked like there was some pretty healthy improvement in occupancy. So the question I'm trying to maybe understand a little bit better is, do you think rents have come down enough in your markets whereby demand is starting to come back up and you're going to start to see less bad leasing spreads going forward. So it's really a question of velocity here going forward.

And do you think that you're starting to see some stabilization in that demand?

Yeah, Rich, good question. Yeah, a few thoughts and then others can join in. I mean, I'd say obviously recent trends, particularly September and October, were favorable in terms of demand. absorbing some of the inventory we had. Obviously, we had more available inventory given the turnover and the lease breaks that I mentioned, particularly in the urban environment, which did put some additional pressure on pricing. But, you know, it really is sort of a macro question as it relates to, particularly in the urban environment, people coming back into those environments because they feel comfortable about it. They need to go to school. They have to be back in the office. You know, all those macro factors really drive that ultimate decision as to whether to return to that environment. And price is more of just, you know, what am I going to choose within that environment? And as long as you're competitive, you should get your fair share of the market overall. But I think the macro factors are really the things that will tilt it to either, you know, kind of stabilize and be more positive going forward. or deteriorate. Those are really the key drivers here, and I think that's yet to be told, that full story, until we move into it a little bit further here towards year end. Yeah, Sean, maybe I'll just add to that a little bit. I think what we're seeing a little bit is what we would normally see in a downturn, which is sort of the housing market is dynamic and kind of resetting its level, if you will. So we've lost about 300 basis points stock, you would see. We've had to reach down a little bit, if you will, into the rental pool. And, you know, as part of that, you've got to adjust pricing in order to sort of attract your sort of fair share, if you will, of the pool renters. I think ultimately in terms of whether it stabilizes, it's just going to be a question, I think, of the macro environment, as Sean mentioned, but also just what's happening on the public health front. I mean, as we've said, it's really impacting urban centers in particular in a very, Unique way to extent you know we get a vaccine or a therapeutic. It starts to give employers confidence enough to bring employees back into the workplace. They're going to start coming back into the into these urban centers in terms of in terms of their living, their living arrangement, and that's going to. That's going to create some some net new demand for us and help stabilize it to the extent just thinking needs to get protracted. The vaccines just don't don't get approved or don't appear to be as effective as as we hoped or don't have the penetration. then this will obviously continue to be a bit more protracted. But I think that could really help, you know, sort of stabilize, if not improve the outlook, particularly for the urban centers. Yeah, and so just so I understand, are you suggesting that the improvement in October that was noted is more seasonal, or are there other factors that are driving that? I think a lot of it is price-driven, honestly. Rents have continued to come down sequentially, and we've gotten to the point at which we've been able to attract sort of our fair share of the market in the 93% to 94% range in terms of occupancy. So I think that's what's driving it initially as to whether it stabilizes. I think it's a function of some of the things that Sean mentioned and I mentioned.

Got it. Helpful. I think that's it from me, guys. Thank you very much.

We will take our next question from Rick Skidmore with Goldman Sachs.

Thank you. Good afternoon. Just thinking about the development pipeline, the future development pipeline, both of new starts, how are you thinking about that? I know you talked about not doing any new starts yet other than the 1JV, but how are you thinking about it as you look forward and then also as you think about mix, both from a geographic mix and I guess urban, suburban?

Yeah, hi, this is Matt. I guess I can take that. I know, Tim, you may want to add some as well. Yeah, you know, it's really a combination of, I'd say, both bottom-up in terms of do the deals still pencil in terms of the value creation, and are we seeing an attractive cost basis, as well as top-down, you know, just what are our other options for our capital availability, as Kevin was talking about. So we might start a deal or two this quarter. The deals that are more likely to start sooner are going to be some of these suburban northeastern deals where, even from my prepared remarks, you saw some of those lease-ups are actually beating their pro formas pretty significantly. So some of those locations are benefiting from some of the out-migration from some of the urban sub-markets. And those are markets that just tend to be much lower beta in the first place. They tend to be less volatile in terms of rent. They haven't seen the same run-up in hard costs over the last 10 years or five years certainly, so maybe there's a little bit less give back on hard costs in some of those markets. So that's probably where we're more likely in the short term to start. We are still looking to grow in our expansion market, so that's another place that we don't have anything we're going to start there in the next quarter, but at some point next year we may have some deals to start there. And then the other piece of it is just what's going to happen with hard costs. And we have not seen hard costs come down. They've maybe flattened out in some of our markets. Lumber is still sky high, although it's starting to come down some. Whether the reaction to this downturn, if you go back two cycles ago, the recession there after the great financial crisis, hard costs did come down quite a bit. Prior cycles, it was more that they flatlined for a while. And inflation surpassed them, so they kind of fell on a real basis but not a nominal basis. And, you know, I don't know that we're still waiting to see how that plays out in each of our regional markets. Yeah, Matt, I agree with all that. Maybe just to kind of step back a little bit in terms of volume, you know, we were probably running at about $1.4 billion kind of mid-cycle last year. We'd already sort of downsized it to the $800, $900 billion over the last three years or so, called $17 to $19 billion. We could start anywhere between zero and probably a billion and a half next year, depending upon the factors that Matt mentioned, just the visibility around the world market and construction markets, and then certainly as it relates to the capital markets as well and other options that we might have with our capital, including repurchase of shares. So it's a mix of all those factors, Ultimately, our views on those are going to inform ultimately how much capital we decide to employ, somewhere between zero and a billion and a half. It starts probably over the next 12 to 15 months.

Thank you.

We will take our next question from John Polosky with Green Street.

Thanks a lot.

Sean, just one question for me.

Could you share economic occupancy in October for Northern California and Washington Metro? Just curious, those two markets, how pricing power is trending and how it could trend into the winter.

John, you brought up a little bit. You said occupancy in Northern California in October? Economic, economic. Yeah, physical occupancy. Yeah, physical occupancy, I can tell you. Sorry, say it again.

Yeah, physical occupancy is fine if that's all you have in Northern California and Washington, D.C.

Yeah, so in Northern California overall, I believe we're running today, I believe today, we're running around 92, which is pulled down by the really the lower occupancy that we're experiencing in the 90-91 range in San Francisco and in pockets of San Jose, how we define San Jose, which is primarily Mountain View, and central San Jose, pulling down those numbers. So those are the two areas where physical occupancy is weakest, I would say. And then as it relates to Washington, D.C., the district itself, occupancy, I believe, is around 91 today, physical again.

Okay. Based on current trends today, do you expect stabilization or improvement in those markets or a continued slide?

I'd say based on recent trends, I would say they've stabilized a little bit in terms of occupancy and have started to trend up consistent with the same store portfolio pattern that I described earlier in my prepared remarks. How quickly they come back is just a function of the velocity that we've seen in terms of notices, which is primarily a functional lease price recently, and then on the demand side in terms of the velocity of leasing that comes through. But as I look forward over the next six weeks or so based on availability and such, I would expect both of those to drift up some.

All right. Thank you. Yeah.

We will take our next question from Nick Ulico with Scotiabank.

Hi, guys. This is . Maybe if you could give us a quick update.

We can't hear you. If you could try to speak up a little bit. Juan, is that you? We can't hear you.

Nick? So sorry. This is for Nick, speakerphone problem. Maybe if you could give us a quick update on the sales pipeline at Parklogia. I think you guys sold about 59 out of the 172 condos. So I'm interested in understanding if you're seeing any uptick in the NYC sales market or, you know, the rental market weakness is sort of filtering in there as well.

Sure. This is Matt. I can give you an update. So as of today, we have 65 units that have closed. Again, there's 172 units total in the building. We closed 65. That's $207 million in sales price, or about $3.2 million per unit. We also have nine units under contract today, and we have another seven contracts out for signatures. So we have another 16, 15, 16 deals that are pending, many of which would close in the fourth quarter. I guess I would say the last couple months, traffic's been pretty good. Interest has been pretty steady. We're running about three new deals a month, which would put us at probably the top or among the top two or three performing condo buildings in all of Manhattan. There is a lot more supply than there was when we opened the building for sales, but we're still continuing to get well more than our fair share. So I'd say the sales activity has been pretty steady since kind of the initial lockdowns were listed in mid-summer, and we're continuing to get, you know, pretty good traction.

Great. Thank you so much. And just a more longer-term question, I guess. You know, with the pandemic and everything, how has it sort of changed your development plans in terms of, you know, outside of the pipeline today? what should we be thinking of when we think about your development plans when you shift towards suburban to urban or even the unit mix? You know, does that shift towards two or three bedrooms or, you know, more in line with your classical kind of unit mix?

Yeah, I'll try to speak to that. Again, you're breaking up a little bit, but in terms of... long-term in terms of development, it's an important capability and it's a distinguishing competitive advantage that we've had in the public markets. As markets stabilize and start to strengthen, we think development will be economic again, and I think we've said many times in the past that we're relatively agnostic between urban and suburban. We're trying to go where we think fundamentals are the best at any point in time and where there's greater there's greater value. Having said that, for all the reasons we've been discussing, you know, we pivoted, we had already started pivoting maybe three or four years ago to suburban in part because there was just better value and we started to see the suburbs start to grow as the leading edge of the millennials, you know, were approaching sort of the time in their lives where maybe buying homes or starting to move, you know, double back to the suburbs. So we're just seeing more economic activity. That's only been obviously exacerbated by the pandemic, so I suspect suburban demand will continue to outpace urban for a little bit. We did talk about sort of product mix on the last call. I do think there's, particularly with the work from home flexibility, that it is going to translate into some unit mix and program changes, an extra bedroom that can double as an office. providing dedicated workspaces within the unit. Our survey data suggests that the majority of the residents still would prefer to work within their unit, but they're also, about 20-25% are very interested in a co-working space as well. Pretty much everything we've touched, either redevelopment or new development, over the last two or three years, has a significant co-working space, but the types of spaces are likely to continue to change. More sort of dedicated versus just kind of open table, you know, format, but giving people an opportunity to either meet or have, you know, more sort of safer spaces or confined spaces. I think we expect we'll see that. So those are, you know, those are some of the changes we think are likely to come as a result of either the work-from-home flexibility that we think is a real, it was already a trend. It's only going to be, you know, greater kind of Going forward, our portfolio really needs to respond to that.

Thank you very much.

We will take our next question from Juan Sanabria with BMO Capital Markets.

Hi, thanks. I'm here with John Kim. Just had a couple questions. First, just on the pricing that you noted in October, Was there a change strategically, either dropping the rent or increasing concessions in October versus the previous months in the third quarter, just to stimulate that improvement in the occupancy?

Yeah, Juan, this is Sean. Yes, fair point. As I noted in my prepared remarks, obviously we had additional inventory become available as a result of the increase in turnover that occurred during this quarter, particularly in July and August, in those urban environments, as I mentioned. And you can see that, I think it was on the second slide, where it showed notice of vacates and lease breaks. And obviously that put additional pressure on pricing so that, for example, kind of on all leases signed in the third quarter, if you look at July and August as an example, in urban environments across all leases, the average concession was between half a month and three-quarters of a month. As we moved into September and then in October, getting beyond Q3, that increased to about a month on all leases signed. So certainly, you know, price response as it relates to the additional availability that came through. Could we have leased some of that faster? Probably yes, if we had been even substantially more aggressive as it relates to price. But we have that kind of inventory delivered to you quickly because there are lease breaks as opposed to having 30 to 60 days advance notice. you know, you would have had that discount price pretty heavily to try and absorb the incremental inventory that we receive much more quickly. So our strategy was to absorb the inventory at a reasonable pace, but, you know, not put out a fire sale, so to speak, to absorb it very, very fast, if that makes sense.

Yeah, Joe, thank you. And then I was just curious on the relative pricing between some of your urban core and sort of transit products. close to suburban assets? And are we getting closer to parity to maybe where you could see a foot flop between some of the people in the suburban markets switching back to the urban given the relative pricing and the proximity to work and saving time commuting for whatever we do return to the offices?

Yeah, I mean, good question. I'm happy to comment on that. I know this is going to jump in. But if you think about the markets we're talking about, use New York City as an example. think about the rent levels in New York City as opposed to kind of moving into Westchester or Long Island or northern and central Jersey. It's a pretty big trade. Even though rents have come down quite a bit in New York City, it's still a big trade. So I think it's really more a function of the macro factors that we were talking about earlier in terms of people's either desire or need to be in those urban environments as it relates to either being in the office because they're required to be in the office or need to be in the office, returning to school at some of these urban universities, or just feeling comfortable in the built environment that we've moved into a place where they feel better about, you know, retail establishments, restaurants, et cetera. And part of that will be driven by the health care situation of whether that crisis is resolved in a meaningful way. So I think those are the bigger issues as opposed to just purely prices. And today, they're not having to commute. So obviously, they've tried to take advantage of lowering their rent. I guess I would say we do expect them to come back when they're forced to come back to Marco. You sort of have to just ask yourself the question, was your life sort of better before COVID or after COVID? And all the things that make urban living great sort of pre-COVID Once we get on the other side of this, they're still going to be there. These are great mixed-use environments, particularly the markets that we're in. They're dynamic environments. It's certainly more proximate to jobs. There's been a lot invested in infrastructure in these cities. It's environmentally more sustainable to people that care about that, I guess. You know, I think the I think I'd say the one one caveat is this work from home flexibility. I think at the margin will cost some people to to maybe stay in the suburbs. If they only have to commute, call it two or three days a week versus versus five days a week. They may be able to tolerate that where they they wouldn't, you know, four or five. So I'd say, you know, kind of at the margin, you may not expect to see urban demand as robust as it was pre COVID, but I think when you layer on the pricing changes that we've seen, there's going to be plenty of people coming back to the urban centers.

You noted in the New York MSA?

I'm sorry, did you say including the New York MSA?

No, I'm just thinking is Northern California different from New York in terms of the relative rent differential in downtown San Francisco versus Oakland or the South Bay.

Pretty big deltas. Yeah, those rent spreads are pretty big between, you know, the pockets of the East Bay or even moving down into the peninsula or lower peninsula as compared to being in the city of San Francisco. It's a pretty big spread. I mean, I think it really is more around the quality of the lifestyle and all the reasons you want to be in the urban environment as I mentioned, just not necessarily being able to pay and you don't have to be in the office.

Thank you.

We will take our next question from Rich Anderson with SMBC.

Hey, thanks. Good afternoon, everybody. So when I was thinking initially about the environment, I thought Avalon Bay would be in a better spot than it's turned out to be because of the lion's share of your portfolios in the suburbs. I didn't think people would move from New York to Nebraska maybe as much as they had and more New York to you know, Edgewater, New Jersey or something. But I understand transfers are up a little bit, but I also understand that's a relatively small piece of the turnover puzzle. How would you respond to the idea that when people, when we do get some sort of resolution here, that people want to step back into these urban worlds and not maybe go all the way into a Manhattan, but someplace around it and thereby putting Avalon Bay in a interesting spot to sort of tease people back into these urban centers without having to go full in. Do you have a sense about how permanent these moves away from you have happened and how much flexibility people have to come back as soon as they feel comfortable to do so?

Yeah, Rich, I think it's a really interesting question. You know, I would say even going back before sort of pre-COVID, there was already, I mean, we were already believers sort of in the infill kind of urban light, you know, sort of mixed-use lifestyle environments. You know, we think, you know, sort of post-COVID, that's still a great opportunity. Maybe it's even a stronger opportunity when you sort of add affordability in the mix when you can maybe, you know, be in an infill suburb for a couple bucks less a foot than being downtown, and then you couple that with maybe, you know, decent transit and I only have to, you know, hop on the train two or three days a week versus five days a week. So I think kind of that infill suburb is really extremely well positioned. I think it had to anyway, but, you know, like many things, as we've talked about COVID, it just seems to be accelerating, you know, kind of these trends that were already occurring before. But, you know, as I mentioned on the last question, it doesn't make... Urban living is still very attractive, but when you layer into demographics, affordability, and work-from-home flexibility, that does change the calculus a little bit for that marginal renter.

Okay. And second, unrelated to the first, but you talked a little bit about how your future development activity might be informed by this environment and how it may change How does that apply to your fledgling businesses in Denver and South Florida? Do you think those markets are performing perhaps better or feeling more resilient and maybe they become a bigger piece of the pie chart now in the aftermath because of all this or does that not change relatively speaking?

Hey, Rich. It's Matt. So those markets right now are doing better than most of our legacy markets. You know, I think some of that's a function of their lower cost markets. Their markets were initially, anyway, there was less of a shutdown. So that's probably part of it. And the assets we have in those markets seem to be more suburban as well. At least that's definitely true of our Denver portfolio. So, you know, when we went into those markets, we said our goal was to get them to be about 5%. each of our portfolio, which would be about $1.5 billion to $2 billion each. We're only not even quite halfway there yet. So we are looking to be aggressive there. We'll continue to look to be aggressive there. Over time, could that migrate up to more than 5%? I mean, it could. But I think, again, like Kim was saying, to the extent what we're seeing is that the kind of COVID response is accelerating a lot of the trends that we saw last pre-COVID, and those were the same trends that have led us to those markets in the first place. Yeah, Rich, maybe just to add to that, I agree with what Matt was saying. I think we've said on prior calls, too, it might lead us to go into newer markets as well that are likely to have some of the spillover benefit from whether it's New York or the California markets, but also are kind of heavily indexed to knowledge-based jobs as big tech and knowledge-based industries to diversify their workforces across the map. We want to be where their workers are, and if there are going to be places like Denver and Southeast Florida, we think strategically those are the places we need to be and our allocations need to respond to that.

Great. Thanks very much, everyone.

We will take our next question from Austin Werschmitt with KeyBank.

Hi, good afternoon, everybody. I was wondering if you guys could walk through your effective rent growth, you know, month to month in the third quarter, as well as provide October. And do you think now that you're through the peak leasing season, you can see rates improve due to, you know, fewer expirations?

Are you more apt to keep rents, you know, closer to maybe September and October levels and continue to try and grow occupancy?

Yeah, this is Sean. Good question. In terms of walking you through the rent change in the quarter, basically we move from sort of mid threes up to mid eights in terms of the reduction in rent change as you move through each month of the quarter. And in October, right now on a blended basis, it's down about 10%. And in terms of the broader question as it relates to stabilization, I mean, the only thing I'd say is that, particularly in a suburban environment, you know, concessions have kind of leveled off the past couple of months here. We've had good volume, so we haven't necessarily had to, you know, kind of dig deeper into the concession bag to generate that velocity. And I'd say we're reasonably comfortable with the velocity we're seeing today, which is what I expressed in my prepared remarks and you saw on the slide. So, to the extent that we continue to see good velocity, In pricing, we wouldn't have to dig deeper into that concession bag to the extent things fell off that we'd have to reevaluate. But based on what we think for price today, we feel like we're in pretty good shape. And, again, I'd say on the suburban side, it feels a little bit better than urban. It'll take a little while longer here to see how it plays out in these urban environments, whether that's going to be the right kind of pricing level to continue to attract demand at the pace that we need it.

Got it. No, that's very helpful. And then, you know, earlier to your comments going on, you know, where fundamentals are best, you know, as it relates to new investment activity, does any of the trends you've seen since you decided to enter into the expansion markets change your target allocation of those markets, either, you know, higher or lower as you kind of look forward over the next several years?

Yeah, this is Matt.

No, I mean, I think, you know, as we were talking on one of the prior questions, we like those markets. We're looking to grow on those markets. You know, like I said, our objective is to get to about 5% in each. Some of that is driven by just the size of those markets, you know, relative to the size of ours. And as Tim mentioned, you know, there may be additional markets that we add into the mix here at some point that would get that kind of total allocation to other markets like that above that 10% over time. Okay, thanks, guys.

We will take our next question from Alexander Goldfarb with Piper Sandler.

Hey, good afternoon and thank you. So, two questions. Tim, just going back to development, you know, we had talked about this on the last call, and you had said that you guys were adamant with your current development program and the team that you have in place, no changes. In some of your answers earlier on the call, you talked about starts, obviously, this year being much down. Next year could have a wide range zero to a billion, I think you said. So as you think about where you would be on that front with development, what do you think the impact would be on the P&L? Would we start to see some of these capitalized costs end up as expenses on the P&L as you try to keep your team in place? Or do you think that there would be further changes afoot, especially if, you know, you can't do the level of development in the suburban markets that would necessitate, that would keep, you know, sort of the level constant where it is today?

Yeah, Alex, I think the simple answer is too early to know, to be honest. I think I mentioned on a prior call, you know, we have actually cut back our development capacity over the last two or three years. as we've gone from about $1.4 billion to about $800 million. I'd say the group is scaled to do around $1 billion, $800 million to $1 billion a year. It could probably flex up or down a little bit from that, depending upon the needs. When you talk about expensing versus capitalizing, it starts to get into a lot of other things that are probably worth maybe another call. You know, if you look at the past downturns, we've suspended development for four or five quarters, typically. So again, if this is a downturn in length that looks somewhat like those, I don't think we're talking about what, I don't think there's a concern about the things you're talking about. To the extent we're looking at a downturn where it just doesn't make sense to start a new development for three years, we're going to have to right-size the group or expend some of those costs. But I think it's premature to kind of know kind of where that's likely to fall out.

Okay, the four to five quarter pause actually is a helpful reference, so thank you on that, Tim. The next would be, so maybe for Kevin, just thinking about the operational, whether it's at the property level, G&A, or on the balance sheet, where do you think are some cost saves or efficiencies that you guys could eke out that would help mitigate the revenue drops for as we look forward, you know, into next year?

Well, I mean, maybe just to put some context out, Kevin, you know, I think we experienced year over year and a lot of clients, 30, $39 million this past quarter. If you add the quarterly property management costs, upper cost and GNA, they're about that number. So proportionally, you know, our overhead costs represent a small part of the puzzle. And in terms of how we, you know, relative to the overall business and the revenue structure and so forth, so it's not a particularly acute issue, I would submit. In terms of how we can manage it, we've managed it, you know, throughout the cycles. There are potentially some opportunities. One of the biggest opportunities simply is just, you know, a fair bit of overhead costs or incentive costs, and those are going to naturally correct here this year. So there's a little bit of a self-correcting piece. And then in terms of kind of property management overhead, Sean, did you want to add something? Yeah, Alex, Sean, one thing I think that's fair to address is we were already on a path to create more operating efficiencies throughout the portfolio based on some of the things we talked about. I think it was one of the calls last year as it relates to automation, digitalization, various things like that, the great use of data, centralizing different things, whether it's leasing renewals and such. And we're still on that path. And if anything, I would say it's accelerated certainly as a result of what's happened through the pandemic as it relates to the operating model. And we were talking about, you know, some on the order of magnitude of, you know, approaching $20 to $30 million of operational savings through those various initiatives. And we're still plowing forward on that. and probably we'll be investing more in some of those technology initiatives over the next couple of years to help offset what we're seeing, at least at the property level P&O. Tim, Alex, may I just add, finally, in terms of G&A, as Kevin was mentioning, it's a pretty efficient business model. I mean, you're talking about, you know, G&A costs are maybe 15 to 20 basis points of, you know, total asset value. If you compare that, I mean, So as a business, it's pretty G&A efficient. And then compared to other business models, particularly on the private side, it's efficient again. So there aren't a lot of opportunities on the G&A side. Some of it's self-correcting through the incentive system, as Kevin mentioned, against performance weekends. Incentive pay is less. But there's not a lot of extra bodies to look to. And G&A is 85%, 90%. bodies when you get down to it.

Yeah, Tim, that's exactly the point I was after. And I was thinking at the property level, the bulk of the expenses are, you know, insurance, real estate taxes, and payroll. And those categories would seem like they'd only go up. So it seems like, you know, the expense savings are sort of on the margin. It doesn't sound like there's anything big picture. It sounds like it's on the margin, but a lot of the expenses seems like are sort of set. Is that a fair takeaway?

Yeah, I would say on the payroll side, on the property level, that's where the opportunity is. Those are some of the activities that we think we can automate or centralize, get the benefit of some scale and the benefit of some automation as well where there could be real savings in terms of number of bodies. Not as clear on the overhead side, G&A side, when you're you may have a group of two people within a particular function that's working across a 300 community portfolio. Okay, thank you.

Sure.

Ladies and gentlemen, this will be your final opportunity to ask a question. So if you do have a question, please press star 1 to join the queue at this time. And we will take our next question from Zach Silverberg with Mizuho.

Hi, thanks, guys. Just a couple quick ones. Can you talk about the profile of the residents entering the portfolio today in some of your more challenged submarkets like New York and Boston where concessions appear more prevalent? I'm wondering if the income and credit profiles are any different and if there's any concern over future rent payments maybe a year from now.

Yeah, Zach, good question. You know, we haven't really changed our credit standards other than to be probably even more diligent as it relates to detecting fraud, particularly in certain markets, I would say, like L.A. tends to be one that comes to mind. But we've not relaxed our credit standards as it relates to it, and we are still qualifying people in a diligent manner so that as we look to the other side of this, the lease rents aren't changing materially, that we can really have customers that can afford renewal rent increases as you move into, you know, pick a timeframe that you're comfortable with, you know, late 2021 or whatever it may be. So, there's always risk, but we definitely don't relax the standards. If anything, they are a little more stringent as it relates to the fraud detection.

Gotcha. And I guess piggybacking on an earlier question about co-working in the communities and with, you know, flu season around the corner, Are you guys taking any preventative, sanitary measures, you know, to combat the spread within the communities, given the potential uptick with flu season around the corner?

Yeah, we've done a lot as it relates to, you know, kind of promoting a healthy environment. If you look at our operating expense table, you know, we've noted that we've spent, you know, a couple million bucks already this year as it relates to PPE, and then beyond that for cleaning and disinfectant and various other things. We have a reservation system where people have to reserve amenity time within a gym or a chill space, whatever it may be. And so we're doing a fair bit to promote a healthy environment. And for the most part, I think we're getting very good feedback through our net promoter score comments from people appreciating our efforts. There's certainly some frustration that they can't just walk into the gym whenever they want. but very understanding as it relates to the need for a professional protocol to limit any impact at the community. And so far, you know, knock on wood, we've been relatively lucky in terms of what we've seen at the community. So we feel good about what we're doing and continue to look for ways to promote that healthy environment.

Thank you, guys.

We will take our next question from Dennis McGill with Zellman.

Hi, everyone, guys. Thanks for taking the time. Question is on slide nine. As we look at that split between suburban and urban, I think it's easy to understand the pressure on the urban environment and the change in living conditions and so forth. When you analyze your suburban portfolio, though, it looks like rent's there or down maybe 3%, 4% based on the chart, and URC move-outs up and vacate notices up as well. Where are those tenants going? If you were to sort of quantify or speculate the weakness in the suburban market, what do you think the leading factors are there, and what are the causes of turnover that you're seeing in the weakness in pricing?

Yeah, good question. I mean, on the suburban side, you did take it right. You know, rents are down, you know, call it roughly 3% or so. I would say it's a variety of factors, really, depending on the market. I'll give you a couple of examples. So we would consider various pockets of San Jose as an example, including Mountain View, central San Jose to some degree, where we have asked northeast San Jose as suburban. But I can tell you just based on the current protocol for companies like Apple and Google and others, there is not a need for those residents to be in that location. As a result, we've seen pressure from turnover in some of those pockets where You know, the demand has just fallen off, obviously not as much as what we've experienced in San Francisco. But because of those policies, there's pressure on demand there. And some of those pockets, particularly central San Jose, Mountain View, and a little bit in northeast San Jose, there is supply. So we're seeing a compression there in terms of what's set for at the higher end of the price pyramid coming down to compete with other assets. in the existing inventory of sort of A minus to B type assets, which are representative of what we have in those markets. So that's the kind of pressure you see in that type of environment. That's similar to what you might see in certain pockets in Seattle, like in Redmond. And then there's other pockets in the Northeast, say Boston's holding up relatively well. Long Island's holding up relatively well. But you still do have, you know, we are in the midst of a recession. and people are making different choices to some degree as it relates to the living environment. You know, some people are moving into those environments from densely populated urban environments, but others are making different decisions as it relates to staying there or moving elsewhere. So, you know, demand overall, you know, we're seeing, you know, just household contraction, so that will impact suburban environments just not nearly as much as what we've seen in urban environments. So that's kind of the macro view. And part of that is you're seeing particularly younger age cohorts moving back home. So the percentage of under 35 moving back home, particularly under 25, continues historical highs. So you get sort of the normal consolidation you get with any downturn. Probably what we haven't seen yet is a doubling up. If anything, people are trying to get away from their roommates. if they're both trying to work from home in the same space. But we're definitely seeing people move back home and camping out in the basement or just where they have more room to fill out. We were mentioning earlier sort of the parents' homes are more fully occupied, self-storage is more fully occupied, and our apartments are a little less occupied. So that seems to be part of some of the trends that we're seeing.

That's a helpful perspective. Actually, I was going to ask you a second question, Tim, maybe continuing on that. If you think about the demographics of those early terminations or vacancies, is that skewing more to the younger cohort that can be more mobile versus the families, or are you seeing it fairly distributed across your tenant base?

Yeah, no, that's a fair point. I mean, if you look at sort of occupancy and, you know, there's related lease breaks, there's definitely more pressure in the studio floor plans. you know, urban environment studios during Q3, I think the average occupancy was 87, 88% as an example. So people, you know, less stuff, more flexible, you know, moving home to mom and dad for sure.

Okay. Well, thank you. Good luck, guys.

Thank you.

And with no additional questions, I would like to turn the call back to Tim Naughton for any additional or closing remarks.

Thank you, Abby. I know everyone's busy, a lot of calls today, but thanks again for joining, and we'll see you in the virtual world, I suppose, maybe at the NARID in November. Take care.

Ladies and gentlemen, this concludes today's call, and we thank you for your participation. You may now disconnect.