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Equity Residential’s (EQR - Analyst Report) core funds from operations (FFO) per share in the first quarter of 2013 reached 64 cents, a penny short of the Zacks Consensus Estimate. This however, went up 3 cents from the year-ago FFO per share.

Quarterly results at this real estate investment trust (REIT) were primarily driven by higher same store net operating income (NOI) and the benefit from stabilized Archstone properties. However, the positives were offset partially by the negative impact from other transaction activity and common share issuance for the Archstone deal.

Equity Residential’s reported FFO per share, for the quarter under review was 22 cents per share, well below 60 cents in the prior-year quarter. The downfall was due to merger-related expenses and prepayment penalties related to the Archstone acquisition.

Total revenue during the reported quarter increased 20.8% year over year to $539.2 million, but missed the Zacks Consensus Estimate of $575 million.

Quarter in Detail

Same-store revenues (that includes 90,350 apartment units) increased 5.1% year over year to $465.7 million from $443.2 million, while expenses increased 2.9% to $166.5 million. In addition, occupancy surged 30 bps (basis points) to 95.0% from 94.7% for the same-store portfolio.

Same-store net operating income (NOI), during the quarter, increased 6.3% year over year to $299.2 million, primarily reflecting a 4.7% increase in average rental rates to $1,809 per apartment unit.

Archstone Acquisition

In November, Equity Residential, along with AvalonBay Communities Inc. (AVB - Analyst Report), inked a deal with Lehman Brothers Holdings Inc. to acquire the entire ownership stake of Archstone Enterprise LP. The deal envisaged Equity Residential acquiring 60% of Archstone’s assets and liabilities, while the remainder by Avalonbay. The transaction was accomplished by late February this year.

Equity Residential closed the $9 billion acquisition of about 60% of the assets and liabilities of Archstone. This included approximately 22,000 apartment units mainly in Boston, New York, Washington, D.C., Seattle, San Francisco and Southern Calif. Also, the deal included 14 land sites for future development. Of these, 6 sites are in the company’s key markets, which it plans to retain for development in the future while it intends to sell the remaining 8 sites.

Equity Residential paid $2.016 billion in cash and issued 34,468,085 common shares to the seller of the Archstone assets. Also, $2.0 billion of Archstone secured mortgage principal was paid off in concurrence with the closure.

The deal was financed through around $575.0 million of cash in hand, $1.6 billion of available borrowings under its revolving credit facility, $1.1 billion of proceeds from the disposition of non-core assets and $750.0 million of bank term debt. Furthermore, the company assumed about $2.9 billion of consolidated secured debt, including $2.2 billion of Fannie Mae secured debt.

Other Notable Transactions

Except the Archstone assets, Equity Residential did not acquire any operating properties in the reported quarter. Subsequent to the end of the first quarter, the company purchased a property in Redmond, Wash. for $91.5 million and a capitalization (cap) rate of 4.7%. The property comprised 322 apartment units.

Also, Equity Residential divested 63 properties (comprising 18,452 apartment units) for a total value of $2.98 billion. The sales transaction (excluding one Archstone asset that was sold shortly after its acquisition) generated an unlevered internal rate of return, inclusive of management costs, of 9.4%.

Subsequent to the quarter end, the company sold 8 properties (comprising of 2,786 apartment units) for a total of around $374.4 million and one land parcel for $29.0 million.

Liquidity

At the end of first-quarter 2013, Equity Residential had cash and cash equivalents of $56.1 million, compared with $612.6 million at the end of 2012.

In March, Equity Residential prepaid in full $543.0 million of secured debt with an interest rate of 5.7% that would have matured in Jan 1, 2017. As a result, the company incurred a penalty of $70.3 million, which it had previously apprehended to incur in the second quarter of 2013.

Subsequent to the quarter end, Equity Residential completed a $500 million unsecured note offering due Apr 15, 2023 with a coupon of 3.0%. Proceeds are being used for repaying debts and other corporate purposes.

Outlook

For second-quarter 2013, Equity Residential expects core FFO per share in the range of 67–71 cents.

Our Viewpoint

We believe Equity Residential’s focus on expansion in the high barrier-to-entry regions of the U.S will drive its top-line growth. The Archstone deal can be regarded as a big move toward strengthening its presence in the upscale regions.

Also, the company has a strong balance sheet with adequate liquidity and limited debt maturities. Consequently, it has funds to capitalize on potential acquisition opportunities, which augur well for its top-line expansion.

Yet, the continuous acquisition spree of the company involves significant upfront expenses, which drag down the near-term profitability till the properties get established.

Equity Residential currently holds a Zacks Rank #3 (Hold). Other REITs that are performing better and are worth a look include Plum Creek Timber Co. Inc. (PCL - Analyst Report) and Simon Property Group Inc. (SPG - Analyst Report), both carrying a Zacks Rank #2 (Buy).

Note: FFO, a widely used metric to gauge the performance of REITs, is obtained after adding depreciation and amortization and other non-cash expenses to net income.
 

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