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Neutral on AvalonBay

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On May 17, 2013, we reiterated our long-term recommendation on AvalonBay Communities Inc. (AVB - Free Report) at Neutral. This reflects AvalonBay’s first-quarter earnings, which were marginally ahead of the Zacks Consensus Estimate.

Why Neutral?

AvalonBay’s first-quarter 2013 core funds from operations (FFO) reached $1.36 per share, a cent above the Zacks Consensus Estimate. Results included the positive impact from community sales and related gains in 2013, a rise in net operating income (NOI) from the Archstone Acquisition, as well as existing and developed communities. However, acquisition costs and increased depreciation associated with the Archstone acquisition acted as the dampeners.

Following the first-quarter results, the Zacks Consensus Estimate for 2013 moved up 2.6% to $6.32 per share over the last 30 days. Also, the Zacks Consensus Estimate for 2014 inched up 1.0% to $6.83 per share in the same time frame. However, we note that this Zacks Rank #3 (Hold) stock has missed the Zacks Consensus Estimate in 2 of the last 4 quarters.

AvalonBay mostly focuses on acquiring and developing premium properties in the high barrier-to-entry regions of the U.S., which gives it a competitive edge.  Consistent with this strategy, the company inked a deal with Equity Residential (EQR - Free Report) to acquire several developed properties and land parcels of Archstone. This acquisition closed in the first quarter of 2013. Particularly, AvalonBay acquired 40% of Archstone’s assets and liabilities and the rest was acquired by Equity Residential.

The assets acquired are located primarily in S.C. and the mid-Atlantic region. The deal can be regarded as a major step toward strengthening its presence in the upscale regions. Moreover, its decent operating platform and prospects for growth in the multifamily sector keep us optimistic.

Nevertheless, the headwind from the Lehman stock holding and the unsettled economic environment are matters of concern. Also, a significant development pipeline increases its operational risks and we believe that the integration of the Archstone deal will take time to materialize. Hence, we have reaffirmed our Neutral recommendation on the stock.

Other REITs to Consider

While we prefer AvalonBay, other REITS that are worth a look include Host Hotels & Resorts Inc. (HST - Free Report) and Ventas Inc. (VTR - Free Report) , both carrying a Zacks Rank #2 (Buy).

Note: Funds from operations, a widely accepted and reported measure of REITs performance, are derived by adding depreciation, amortization and other non-cash expenses to net income.

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