Avalonbay Communities Inc (AVB) — Q3 2017 Earnings Call Transcript

Thank you. Aaron, and welcome to AvalonBay Communities' third quarter 2017 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 Form 10-K and Form 10-Q filed 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/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 Tim Naughton, Chairman and CEO of AvalonBay Communities, for his remarks. Tim?

All right. Thanks, Jason, and welcome to our Q3 call. With me today are Kevin O'Shea, Sean Breslin, and Matt Birenbaum each of us will provide some comments on the slides that we've posted last night and then we'll all be available for Q&A afterwards. I'll start with a brief overview of Q3 results and then Sean will provide an update on operations and how the portfolio is positioned headed into Q4. Matt will talk about development activity and how we are positioned to deliver growth through that platform over the next two to three years, and Kevin will discuss the close out of Fund II and provide some insight into the balance sheet at this point in the cycle. And lastly, I'll wrap up with some thoughts about our recent announcement to enter the Denver market and our intention to enter Southeast Florida in the future. Just starting now on slide 4. Results for the quarter included a core FFO per share growth of 5.8%. Same-store revenue growth was at 2.2% or 2.3%, including redevelopment; year-to-date same-store revenue growth stands at 2.6% or 2.8%, including redevelopment. And then lastly, same-store sequential growth came in at 1.3% for the quarter and 1.4% once you include redevelopment. We completed another $95 million in new development in Q3, bringing total completed year-to-date to $1.15 billion. We expect to complete another $650 million or so in Q4, which will result in about $1.8 billion completed for the full year. Year-to-date and full-year completions are expected to stabilize at an initial yield in the low 6% range, well above prevailing cap rates for this basket of assets. In his comments, Matt will describe in more detail how these completions along with development underway will drive earnings and NAV growth over the next couple of years. I'll now turn it over to Sean, who'll discuss portfolio operating results.

All right. Thanks, Tim. Turning to slide 5, our same-store portfolio continues to produce rent change that's generally consistent with supply and demand being essentially in equilibrium. We've been trending in the 2% to 2.5% range all year long, with renewals consistently in the low 4% and new move-ins following a more seasonal pattern. For Q3 renewals averaged 4.1%, while new move-ins were at 90 basis points. In terms of the regions, Seattle continued to lead the way with rent change north of 5% for the third quarter, followed by Southern California in the low 4% range. Boston produced rent change in the low 3%, while Northern California, the Mid-Atlantic, and the Greater New York, New Jersey regions all delivered change in the 1.5% to 2% range. Moving to slide 6, the same-store portfolio is very well positioned for the seasonally slower fourth quarter. Our same-store average physical occupancy rate for October is about 20 basis points above last year and availability is trending roughly 30 basis points lower. For the development portfolio, we met our revenue and NOI expectations for the third quarter. In addition, our deliveries during the third quarter were consistent with our mid-year update that we're comfortable with the expected pace of both deliveries and absorption for the fourth quarter. And with that, I'll turn it over to Matt to talk about development in more detail.

Great. Thanks, Sean. Turning to development, our development underway should provide good future growth to both earnings and NAV as those communities are completed and finish their lease-ups. Slide 7 shows the $225 million in NOI that we're expecting to realize from our current development, with nearly half of that NOI to come from communities that have not yet even started any leasing activity. Only $17 million worth of NOI was generated by these properties in the current quarter. So, there's clearly a lot of additional NOI to come. On slide 8, we translate this future NOI into core FFO. We have raised most, but not all of the capital required to fund this $3.8 billion book of business. Because the earnings accretion depends on what the ultimate cost of that capital turns out to be we've shown a range of earnings impacts here based on weighted average initial cost of capital between 3.5% and 4%, which in turn translates into $0.53 to $0.67 of incremental core FFO upon stabilization. Slide 9 shows the spot value creation from this development translated into NAV per share accretion. The current weighted average initial yield on this basket of properties is 5.9% and we believe if these assets were completed and available for sale in today's market they would sell for a weighted average cap rate of roughly 4.4%. This translates into $1.3 billion of value creation on completion or $9.42 per share. Turning to slide 10, we have a very long track record of delivering strong risk-adjusted returns from our development activity through all stages of multiple market cycles. As Tim mentioned, we expect to deliver a company record of $1.8 billion in development completions in 2017 at profit margins of close to 30%, consistent with the margins we've achieved throughout this cycle. The chart on the left shows our development yields by year of completion going all the way back to the late 1990s and compares those yields to cap rates in that same year. With the exception of the single year of 2009 at the height of the global financial crisis, we have delivered positive spot value creation on completion every year for 20 years running. And because we're long-term investors and not merchant builders, even those deals completed in the worst-case scenario year of 2009 are today yielding 7% on cost, allowing for plenty of long-term value creation from that book of business as well. The long-term returns can be seen in the chart on the right where we have sorted our unlevered development IRRs by the point in various cycles at which they were completed. While the deals which were completed earlier in the cycle have delivered stronger long-term returns, the returns across all time periods have been well in excess of our cost of capital and have delivered strong NAV creation for our shareholders. Now, I'll turn it over to Kevin to discuss Fund II performance and the balance sheet.

Thanks, Matt. Matt just touched on the primary way in which we allocate capital to new investments, which is through development; another way we do so is through acquisitions. In this cycle, one vehicle we've employed to create value through acquisition is our second value-added fund through which we commenced investment activity in 2009 and sold our last community this past quarter. In addition to receiving asset management and property management fees, AvalonBay as general partner received attractive investment returns, as well as, a promoted return of $35 million above our participant share of the fund's investment returns for performance achieved in excess of certain thresholds. As you can see on the bottom Slide 11, AvalonBay's investment returns on Fund II were strong. Excluding fee income, AvalonBay achieved a gross levered cash flow multiple on its invested equity of 2.4 times and a gross levered internal rate of return of 19.2%. Turning briefly to the balance sheet on Slide 12, we thought it might be helpful to highlight the evolution of a few balance sheet metrics across this cycle. Specifically, we show how four items: our net debt-to-EBITDA ratio, our unencumbered NOI percentage, composition of our debt and our credit rating have evolved over three periods: 4Q 2009 during the last downturn, 4Q 2013 not long after we completed the Archstone acquisition and then today. As you can see our credit profile and financial flexibility have significantly improved over the cycle and are arguably as strong as they have ever been in the company's history, which bodes well for capacity to provide continued strength, stability and growth throughout the cycle. And now, I'll turn it back to Tim to discuss our market expansion into Denver and Southeast Florida.

Thanks, Kevin, and we're now on slide 13. As you know, we previously announced our entry into the Denver market with a recent acquisition. In addition, today we're announcing our intention to expand into Southeast Florida as well. We've talked with a number of you over the years about our geographic footprint and some of the key factors that inform our thoughts with respect to market selection and portfolio allocation. We thought it'd be helpful to provide a little more color behind our decision to expand into these two markets. First, I'd like to preface my comments by saying that while we are generally viewed as having had a stable strategy over the years, it's not been a static one. In fact, over time, our strategy has evolved to expand into high rise and mixed-use product, which allowed us to enter many urban, TOD and infill suburban submarkets. And through our brands, we now target multiple customer segments, including a value-oriented customer through the Eaves brand and a younger social-seeking demographic through AVA. And we have entered and exited markets over the years, entering markets like Seattle and Baltimore, while exiting markets like Chicago and Minneapolis. So, our decision to enter Denver and Southeast Florida does not reflect a shift in strategy, but rather an evolution and implementation of our strategy. And when it comes to market selection, some of the key attributes that we look for include markets with, first and foremost, a higher percentage of knowledge-based employment, over-indexing in science, technology, engineering, and mathematics (STEM), finance, education, and healthcare-related jobs. Increasingly we believe that there will be winning and losing metropolitan statistical areas (MSAs) as the economy migrates to a more knowledge-based economy. A second and related factor is that we favor markets that appeal to our target customer profile, as we prefer markets that again over-index to the younger, college-educated and higher-income boomer segments. Third, we prefer markets characterized by lower housing affordability, which helps support demand for rental housing and higher rental propensities. Fourth, we prefer markets where the public sector is active and invests in infrastructure and cultural amenities, both important factors to support growth and quality of life within the market. Lastly, importantly, we like markets that we believe play to our competitive advantages as a value-added investor. Markets characterized by tougher and lengthy entitlement processes that help either constrain or regulate supply, where a talented developer can grow its portfolio and create significant value through a deep level of understanding of its markets and skillful navigation of local politics. Moving now to slide 14. Of course, these attributes hopefully are correlated with markets that demonstrate strong rent growth over the long term, which is a critical component of return for a long-term investor, and something we consider to validate these preferred attributes. As you can see from this slide, over the last 15 years, Denver and Southeast Florida have actually compared favorably to our overall portfolio. This chart reflects market-level rent growth over that time. Performance at the REIT level has been somewhat stronger. As you can see, Southeast Florida has performed stronger than our East Coast footprint, while Denver has performed in line with our Western markets. Now to slide 15. One last point, I'd like to make is that these expansion markets enhance overall portfolio diversification. Southeast Florida in particular is not well correlated with our existing markets and both markets provide some diversification from the areas of greatest concentration, that being California and the Northeast. At target allocation levels the portfolio is roughly split into three thirds; a third California, a third Northeast, and a third higher-growth markets. In terms of market penetration strategy, we expect that we'll invest both through acquisitions and development. Additionally, we may choose to capitalize local developers to initially leverage their market knowledge and pipeline to help accelerate our expansion objectives. Of course, our tactics will ultimately be a function of value and opportunity as we have no set timetable to reach any target allocation. Smart capital allocation will remain the priority, it's always been, and we look to deploy capital appropriately across the cycle. So, in summary, turning to slide 16, it was a solid quarter with core FFO above our outlook and the portfolio is well positioned headed into Q4. Development deliveries are tracking our mid-year reforecast and development should contribute meaningfully to FFO and NAV growth over the next two to three years. Our balance sheet is well-positioned to fund additional growth and protect the company from downside economic scenarios. Lastly, our strategy continues to evolve, as we are excited to add Denver and Southeast Florida to our market footprint, as we believe those markets contain many of the key attributes that allow us to create even more value for shareholders over time. So, with that, Aaron we'd be happy to open the call for Q&A.

Thanks. Tim, I appreciate your comments on the market expansion. But just wondering why now is the right time to expand into these new markets, and then how did you weigh market expansion against going deeper into your existing markets?

Nick, yeah, a fair question from a timing standpoint. Obviously, we're several years into the current cycle. Denver in particular just had a very nice run this cycle. I guess, I'd say a couple things; one, as it relates to acquisitions, we will be more cautious particularly with respect to sub-market focus, really trying to focus more on the sub-markets that we think are a bit more supply constrained given just sort of current recent trends. As it relates to development, as I mentioned, we do anticipate using really both acquisitions and development. I guess I'd say these markets as well as our existing footprint, the land frenzy is sort of behind us at this point. And we've also learned over time that to take advantage of any distress or downturn that might occur from any economic correction, you need to be in business. And so, it's our intention to establish sort of beachheads in both those regions so that we are positioned to take advantage when the markets do turn. And then I did mention a willingness to look at development JVs, which we do think is a good way to tap into deals that might deliver two to three years out. And so, when you think of sort of a mix of timeframes that you might get from acquisitions, development JVs or our own sponsored development, we think it sort of diversifies kind of our risk against any cycle risk that may be out there as they have timeframes from now to four years or five years from now. As I mentioned, our long-term objective is to have a full-service office in each region. And I think one of our key competencies has been able to build great teams in our regions and to support them appropriately, essentially. As it relates to our existing markets, we're always looking to penetrate those markets more deeply. So it's always something to consider, and we don't think we're missing out opportunities today in our current markets. But we do think there is an opportunity to expand our horizons a bit. As you know, as I mentioned earlier, we favor knowledge-based economies, and AvalonBay's markets, while we're heavily indexed there, we don't have a monopoly on knowledge-based jobs. I think it's kind of interesting, I think the Amazon HQ2 project is sort of evidence of that. Recently I've heard that Google, who as I understand allows employees to move to almost any market they want, has shut down Denver recently because it was such a popular destination. So, it's a recognition that we think both these regions in a way provide a bit of a release valve – the Northeast in the case of Florida, Southeast Florida, and Denver in the case of California particularly, and particularly Northern California. So I don't know if that's entirely responsive to your question, but just a few thoughts.

Thanks. Yeah, that was very helpful. And then just one follow-up, were there any other markets that you considered expanding into and then could further expansion be announced in the near or medium term?

Yeah. No. Thanks, Nick. Thanks for the follow-up. Well, first of all, I mean, every couple of years, we always take a sort of a comprehensive look at our markets, and so it's something we've been thinking about honestly for the last 10 to 15 years, whether we had the right footprint. In most cases, it resulted in us maybe exiting markets, as opposed to entering markets, and doubling down on our existing footprint, sort of along the lines of your earlier question. But one of the reasons we're announcing Southeast Florida is because we did get that question a lot after we announced the acquisition in Denver, and this represents the two markets that we made a decision on today. So I don't think you should expect that there's any near-term announcement of further expansion beyond this.

Hi. I was just hoping you guys could give your latest thoughts on supply, kind of what we should expect for 2018 versus deliveries. In 2017, there's been some slippage. And which markets across your main regions stand out as improving or getting weaker in 2018, as you see it presently?

Yeah, Juan, this is Sean. I'm happy to address that. What I can tell you is based on what people are communicating to us at present regarding the delivery of communities that may be under construction is, for deliveries in 2017, it's about 89,000 units. In our footprint, that's about 2.1% of inventory. And based on what's on the books today that we can see across our footprint, in 2018, it's about 98,000 units or about 2.3% of inventory. Based on recent history, particularly the difficult construction environment today in terms of labor availability and things of that sort and recent precedent in terms of delays that we're hearing from multiple developers out there, I'd expect a 2.1% for 2017 to actually come down a little bit as we get through the end of the year into January and look at what actually completed, probably in the high 1% range would be my guess as to where that comes out. And so across the footprint, we would expect an increase in supply next year. My guess is Q3 will look like 2.3% to 2.5%, maybe when you get to January. But what actually gets delivered next year probably will be less than that. But if you just look across the footprint, probably more supply in 2018 versus 2017. As it relates to the regional distribution, I can tell you that New England is expected to come down about 60 basis points next year, primarily a function of supply in the Boston market coming down. And then, all the other markets are flat to up a little bit. The markets that are probably going to be up more significantly in the Pacific Northwest are projected to be up about 40 basis points from 3.5% to 3.9%. And then Southern California across all three major markets there, L.A., Orange County, and San Diego, are expected to be up about 40 basis points. Most of that relates to an increase in supply in the Los Angeles market. So what I'd generally say is, a little more supply in 2018 with the exception of the markets that I mentioned, and Boston in particular. And when you see a slowdown, it'd really be second half of 2018 deliveries before you start to see that. You know, we're running about 60 basis points of inventory on a quarterly basis right now. That's not expected to fall off until you get to basically Q3 of next year. So Q3 and Q4 start to fall off. So that's sort of the broad way to think about it, if that's helpful.

That is. And just a follow-up to that, if you can comment on your expectations for Northern California, and then also have you seen any impact on the availability of labor post the hurricanes in trying to complete developments?

Yeah. So, why don't I take the first one, and we can talk about the second one as well, probably Matt or Tim. But the first one, when you say expectations are you talking about supply expectations or...?

Yes. Sorry.

Okay. Yeah. No problem. So, in terms of supply expectations, if you look into 2018, the only market that really of the three is expected to see a deceleration in deliveries is San Jose. It's running a little north of 3% of inventory right now. And for next year, we're expecting it to be in the low 2% range. So, we expect to see a pretty material drop off in deliveries in the San Jose market in 2018, but it's relatively flat when you look at the East Bay and you look at San Francisco.

I guess I'll speak. This is Matt. I can speak a little bit to the second question about labor availability and the impact of the hurricanes. It's probably too early to tell, it certainly seems reasonable to assume that it's going to impact the labor market particularly for construction, particularly for less skilled construction labor. We haven't really seen that yet; obviously we're not building in the markets that were most directly impacted by the hurricane, but certainly it's something to watch for as the rebuilding efforts get started, which usually there is a little bit of a lag effect on that.

Thank you.

Hey, good morning, guys. Sean, really quickly, if you could run through new and renewals by market in the third quarter? And then I've got a follow-up to that. Thanks.

Yeah. As opposed to going through each one of the markets, there's 16 markets out there across six regions, happy to share that with you maybe offline as opposed to consuming a lot of time on that. But broadly speaking across the portfolio rent change for the third quarter was 2.5%, which is 4.1% on renewals and 90 basis points on move-in, as I mentioned in my prepared remarks, but if that's okay, we can take the rest of the detail offline.

Yeah. No, that's fine. I appreciate that. Second question, in the presentation the $111 million of NOI from development not in lease-up. Can you guys give us a sense of when over the course of the future that's supposed to hit roughly?

I think that represents kind of all the deals that are on our development attachment that haven't yet started leasing. So, if you go to that attachment, it will lay out kind of which quarter they all start to expect leasing, but it's basically over the next, call it, two years, they'll go from starting leasing to stabilization.

Okay. All right. Thanks, Matt. That's it.

Oh, thanks. In the past, you've talked about having around $1 billion of development starts annually. I'm wondering if that's still a good number, and whether you're thinking about raising that level because of signs of the apartment cycle lasting longer than expected?

Nick, this is Tim. If you look at our development rights pipeline, it kind of telegraphs where development volumes are headed. I think we have about $3.2 billion in development pipeline that tends to be the three years, three-plus years, maybe three and a half years' worth of pipeline. So it's still kind of in that $1 billion range, maybe a little less. As we've said in the past, we think it's probably going to trail off a bit, just given – even though the cycle is going longer, the economics are less compelling and fewer deals are making it through the screen, if you will, and hitting targets than we saw maybe earlier in the cycle just given where really the construction costs have gone and are going right now relative to rents.

Okay. Thanks, Tim. One other question is you know for the future development projects you have on 96th Street in Second Avenue, there's been some press about this that the governor is kind of looking into whether it's parkland or not, and whether the project can go forward. Any sense on when and how this may get resolved? And if you could just remind us what the level of your investment is in that project? How much of that development right that you have on in the supplemental for New York accounts for that project? Thanks.

Sure, Nick. This is Matt. Yes, that's an interesting question about what's the difference between a park and a playground, which apparently there's a legal distinction there, which matters to the governor and the mayor. So, we fully expect that that will get worked out, but it will take some time. I don't think we have great visibility yet in terms of how much time that might add to the predevelopment schedule. That is not a project that we expected to start in the next year, so we really view that as a next cycle deal in some ways, you know, maybe it's two years to three years away from starting, depending on how everything shakes out. It does represent – I want to say, it's about $700 million, $650 million of the $3.2 billion in development rights. And just to be clear, that's a ground lease, so that actually doesn't reflect the value of the real estate.

Thank you.

Hi. Good morning. Thanks for taking the question. Just looking at the like-term rent growth that you outlined in your slide deck, it tracks in a little bit ahead of last year, it looks like are in line-ish. I was just curious what markets are really driving the inflection? And then with the supply backdrop that you talked about, do you think that that remains stable into next year or we could see a pullback a bit?

Yeah. Austin, this is Sean. Just to be clear as it relates to the rent change this year versus last year. Jason can probably walk through the numbers with you, but overall rent change is down this year relative to last year, as a function of really two things. One is the supply that we've talked about, and two is just a slower pace of job creation generally across the U.S. and in our markets, so rent change is down. In terms of the inflection point, I think, the point we're trying to make is that rent change appears to be leveling off. We're basically around 2% to 2.5% all year long, and that we certainly aren't really talking much about guidance as it relates to next year, but trying to provide some context on the supply side in terms of what we might expect, which is similar to essentially slightly greater supply in 2018 as it relates to 2017.

And just then maybe just to add to that, this is Tim. Just in terms of the macro, as Sean said, we're not giving guidance for next year certainly, but in terms of the macro environment, I guess, we probably see more crosswinds than anything else. It is our expectation, Sean mentioned earlier, supply to tick up a little bit. I think, all things being equal, we probably expect job growth to tick down a little bit, just given unemployment being at such a low rate right now, and the difficulty of finding skilled labor, but those – that is offset by some sort of positive trends as well. The Consumer and business confidence continues to increase, labor participation rates are on the rise a little bit, and wage growth is on the rise as well. We think all those things could help stimulate household formation. So, I think, there is – I think, there's probably going to be some offsets, but in general, we think it's probably shaping up to be a decent environment for 2018, without getting into much more detail in terms of how that might be translated into our portfolio.

I appreciate the detail, Tim. And then, just lastly for me, I was just curious what your thoughts were on what you attribute the above-average rent growth in both Southeast Florida and Denver over the last 15 years versus kind of the overall portfolio?

Well, it's really been on the demand side. I mean, the markets haven't suffered from supply and Denver is probably has more than it should have right now. But I'd say, the Sunbelt has actually performed quite well this cycle. Supply growth hasn't been – at least in the Sunbelt hasn't been that much greater than some of our coastal markets, and it's had some pretty strong growth even in the – even in some of the areas that we thought we – our markets captured a lot of the – for instance, a lot of the higher tech jobs. We're seeing a lot of that accumulate in some of the Sunbelt markets, and certainly it's true of Denver as well. So I think, they've become – Denver has become a somewhat like – we're seeing that somewhat like we saw Seattle 10 years ago, becoming another kind of tech anchor in the Western U.S. And you know Southeast Florida certainly has benefited from some of the anti-growth initiatives perhaps in the Northeast over the last cycle or so.

And just one quick follow-up to that. I'm just curious how you think about the volatility of these markets through the cycle versus the existing portfolio?

Yeah, you know, great question. So, Denver would tend to be more volatile, and Southeast Florida would tend to be more stable. So, which- as I mentioned in my earlier remarks, Southeast Florida like D.C. is the one market that's sort of negative or not well-correlated with the rest of our footprint. So, there's some appeal to us for that, and whereas Denver would be – would tend to track more what you see in the West Coast, which means you got to be careful in terms of how you allocate capital over the course of the cycle, and be a lot more sort of thoughtful from a timing perspective.

Thanks. Good morning. GGP discussed on its earnings call a JV agreement with you to build multi-family in one of their Seattle malls. How big of an opportunity is this for you as far as developing an existing retail?

Yeah. This is Tim here. Yeah, we are aware that GGP announced an agreement in principle on a single project in Northern Seattle. You know, every time there's been a structural change in the economy that's resulted in massive repurposing of real estate, it's tended to happen over a longer period of time when you move from agriculture to manufacturing, as you move from manufacturing to more information-based economy. I think, there are a number of trends right now that we're going to – that's just only going to accelerate, whether it's happening in the area of digital commerce, which is relevant to GGP. But in terms of things we're seeing in the sharing economy, the blurring of work with play, just the nature of work changing just based upon knowledge-based jobs. I think, that's – we think that's going to have a big impact in terms of the need to repurpose real estate over the next 10 to 15 years. And a lot of great real estate has been consolidated over the last 15 to 20 years. And so, we think there is an opportunity to partner with some of these owners that have consolidated great real estate during that period of time, when high-density housing is part of the solution, when it comes to repurposing. In terms of the form of that partnership, it's going to take different forms than it has already on deals that we've done. It might just mean helping them re-plan it and splitting the property, and just taking a piece of it for residential for ourselves and letting the existing owners sort of re-plan or take the rest of the property. It may be more of a condo structure, like we had at Assembly Row with Federal, where we may be building the retail and deeding it back to them, sort of in a condo structure. We own the retail – own the residential, they own the retail; or maybe a JV structure, which we're working through with GGP, where we own together the residential component, and generally, we'll be amenable to that structure where we think we have a partner on the other side, where there's a clear alignment of interest, or long-term owners. Both believe in the long-term viability of that location and the real estate. But we think it's going to be a big opportunity over the next 10 to 15 years to play a role in the repurposing of, like I said, just really great real estate that's going to need to shift its usage based upon some of these larger longer-term trends that we're seeing.

So as far as control rights or ownership of land, are the characteristics pretty similar to freestanding multi-family, or are there major differences, or does it depend on the benchmark?

I think it depends. I outlined three structures. In the first case, it would be similar to what we do today, where we own and control the residential component. In the second case, it might resemble a condo structure, where we own a segment of it while others own the ground level. In the last case, we need to determine whether it's sensible to pursue a partnership. There will be mutual consent rights concerning the asset, whether related to financing, sale, or other matters.

Okay. And then a question on CapEx on our numbers AvalonBay spent the least amount of CapEx both revenue-enhancing and maintenance CapEx in this sector. Can you just describe why that's the case? Do you just see better returns in developments or asset recycling, or is it just a reflection of the average age of your portfolio?

Yeah, John, I'm happy to address that. You know, if you look at our CapEx for last year and this year, call it roughly 5% of NOI. And – but if you look at – that's kind of the recurring CapEx. If you look at revenue-enhancing, yeah, fair point, we're spending about $50 a unit on that, which is dramatically lower than most of our peers. As you may know, we separate out our redevelopment bucket and we invest in our assets separate from the same-store pool, which is something that we think is important for investors to understand in terms of how we're allocating that capital and the returns that we generate on that capital. So that certainly has something to do with it. In terms of the nature of the portfolio, certainly you can go through our portfolio relative to others and look at age and things of that sort. But all those factors play into it and we want to make sure that we're being thoughtful about the timing of CapEx whether it's both defensive and offensive in nature to make sure that we're investing at the appropriate time in the asset and that we're also demonstrating to investors the returns that we're earning by investing in sort of offensive-oriented CapEx. So, hopefully that makes sense, and your other questions have been answered.

I'll follow offline. Thank you.

Hey. Good morning. I noticed in the development disclosure quite a bit of progress on the leasing front, if you look at projects delivering over the next – really the first units delivering over the next three quarters or four quarters, at the same time, the average yield on the pipeline ticked down a bit. I'm just wondering if there is anything strategic going on in terms of maybe conceding a little bit on price to increase the velocity of leasing or is that something that's just related to things moving in and out of the pipeline?

Yeah. Drew, this is Sean. I'll take part of that, and then if Tim or Matt want to jump in, they're welcome to. But in terms of leasing velocity, there is no question that in some markets in particular to the extent that we're either trying to close out the leasing of a community or we're starting – kind of jumpstarting it, particularly in the third quarter that we will yield a little more on price to get that velocity, either to get the initial lift as I mentioned or to finish up. And I said that was particularly the case as it relates to both North Station and Dogpatch this quarter. To give you a sense, on Dogpatch, as an example, we leased and occupied 32 and 36 units during the quarter, and rents certainly took a little bit of a hit on that one as it relates to trying to push the velocity before we get into the seasonal slower fourth quarter. In addition on Dogpatch, it's early in the delivery, it's going to have all the amenities, just still heavy construction. So, you tend to yield a little bit more on price during that period of time. So the real rents there we probably won't know until the spring. And now in North Station, we were just trying to accelerate the completion of that project in terms of the lease-up. We're in the 70% plus range there in terms of lease and occupy percentage. We delivered some larger penthouses late this summer that we're trying to get occupied instead of having them sit there for the winter. So, things like that come into play at asset level, execution plans and you certainly see that reflected in the rents on some of the assets on the development attachment.

Hey, Drew. This is Matt. Just to follow-up on that, as it relates to the overall yield, the yield on the development bucket last quarter I think it was a 6.0% and this quarter it's a 5.8%. And probably about half of that 20 basis point reduction is just changes to the bucket, deals that completed in the second quarter that are not in that bucket anymore that were higher yielding. And then the other half of it call it the other 10 basis points is the little bit of erosion from last quarter in developments that we're leasing both quarters, and a lot of that's just the deals that Sean mentioned.

Great. That's very helpful. And then I wanted to dig in a little bit on the Lakewood acquisition being that it's kind of the only case study so far in this growth market plan for Denver and Southeast Florida. Specifically in Lakewood, what's unique about that market in terms of barriers to entry, sort of the Mindy concept, and specific demand drivers that may be directly in that market?

Sure. This is Matt, I can take that one as well. It is definitely a submarket that's seeing a lot less supply than most of the submarkets in Denver. A lot of the product in Denver is being delivered downtown. This is Lakewood North, it's really on the border between Lakewood and Golden, it's off of I-70 in a master planned kind of controlled community called Denver West, which includes the National Laboratory for Renewable Energy, it includes a fair amount of office, there is Mills Mall across the freeway that was part of it. So the immediate environment is, it's highly controlled by one family that's kind of built it out over the course of decades. But then even beyond that when you get out into the broader submarket of which it's a part, Golden is on a permit allocation system, so there is a lot of supply constraints there. And then Lakewood has its own jurisdiction. It's not as restrictive as Golden, but it's certainly not as permissive as Denver. So it is an area that's seeing less supply, and I think generally what you see in Denver is the further west you go, the more supply constrained it gets, and some of that's regulatory and some of that is topographical, you start to get up into the mountains. And this asset is really in the foothills. It's a great place to live, it's for people that are looking to get out on the mountains on the weekend, which is part of that Denver lifestyle, which is so appealing to so many folks. So, we were pretty excited about it, and I think it is a reflection of kind of the locational strategy we're going to take there. At this particular point in the cycle, there's a lot of activity and a lot of excitement about downtown; a lot of people want to live there. There is a lot of new product being delivered. At some point, pricing may make sense to us there, but for right now we felt that this offered a much better risk-adjusted return.

Great. That's very helpful. Thank you.

Hey. Good morning, everyone. Looking at the retail densification opportunity, do you underwrite the developments on a standalone basis looking at supply and demographics or does the quality of the retail asset influence the decision?

Yeah. This is Tim here. Well, certainly, the quality of the retail asset is oftentimes reflective of the quality of the location. And so, to the extent it's a better location, we're going to demand probably a lower going in yield, with the expectation we're going to make more of a return on growth over time. But certainly the existing retail, if it's dying retail, and the whole site needs to be sort of redeveloped, that's a very different kind of risk profile. We'd consider it, but it's more of a master plan exercise, and it is sort of surgically where you're going in and maybe picking off part of the parking field or taking down one of the anchors and sort of re-planning some sort of a lifestyle project that integrates into the existing mall.

Okay. And at what point do you enter these decisions, are the projects largely entitled or do you take your skillset and work through the local entitlement process?

No, we're partnering in many cases with the owner of the real estate. We think one of the things we offer them is both capital and skill and talent, and so they're leveraging both as part of the relationship. So, typically, it's kind of the deals I just described; we'd be sharing in the pre-development work, we'd be taking most of the lead, as it relates to design and entitlement, but obviously we'd be working alongside with them during that process.

Okay. And then lastly, you guys talked a lot about volatility, returns and correlations, just wondering how you at the top down view your portfolio. Do you view like sort of a Sharpe ratio and is that the reason maybe the volatility in Northern California, New York was a little too volatile this quarter, and you just wanted to balance it out, is that why there's a reduction in those regions?

No, not really. I mean, when you look at New York and Northern California, probably just with respect to going to California, thinking long term, we just felt like we're probably a little more over-indexed there at 20% of our existing portfolio relative to the size of the market and our overall portfolio. I mean, Southern California is a much bigger geography, and so even if we were at a market index at Southern California, and over-indexed in Northern California, Southern California would still be a bigger part of our portfolio. So, it's probably we're not necessarily scared by volatility, because a lot of times you can diversify that way through other markets. But we are mindful of when the markets are more volatile is how we invest through the course of the cycle, because total returns do matter when you enter – when you invest the initial capital.

Hey, guys, thanks for taking my question. Just on the like-term rent change, you guys did 1.9% in October and then if you look at occupancy, it was up 20 basis points, so you could say like-term revenue was up 2.1% in October. What was that compared to last year?

I don't have October last year right in front of me, so I am happy to get back to you on that offline.

All right. And just one more quick follow-up. When you say your exposure, you're going to take it out in New York, I guess the target exposure is lower there, where in New York, because your portfolio is so diversified, and there's a lot of urban, there is a lot of suburban. Have you guys kind of outlined which assets you're going to look to sell and where are those assets typically?

Maybe a mix of urban and suburban over time. Right now, we're at 24%, we talked about our target being 20%. I don't have numbers right in front of me, but it's sort of roughly split between urban and suburban right now. More recently, we've been selling some of our suburban New York portfolio, in part because that's where we have a deep development pipeline. We've been able to create a lot of value in Northern New Jersey. And then to some extent, it's strategic. We've been selling out of parts of Connecticut, particularly the Northern Fairfield and areas north of that.

Good morning. I saw retail bad debt expense picked up in the quarter. Could you speak to a little bit of that, and then given that you're seeing opportunities to redevelop other retail, could you tell us a little bit about your strategy for your existing retail?

Yeah, Conor, it's Sean. I'm happy to address the first one, and then Matt or Tim may have comments on the second one as well. But on the first one, it was really one tenant that blew out in New York City, that we wrote off during the quarter, it was around $600,000, and this was reflected in the write-off in the office operation section of the expense attachment, so it's that one write-off.

As it relates to the existing retail – Conor, this is Matt – we have about 600,000 feet I believe across our stabilized portfolio and existing retail, and we've actually focused quite a bit in the last couple of years on increasing the occupancy, that I think we brought the occupancy on that retail up from maybe low 80% to high 80%, around 90%, over the last three years or four years. So, it's mostly small shop space. So, I'm not sure if there's any huge opportunities there, but there are select situations. We have a couple of high-profile retail locations where there might be opportunities over time as tenants turnover coming out of some longer term, older leases, but it really is a grab bag and it's 1,000 feet here, 2,500 feet there. So, I don't know if there's any huge opportunities there.

Okay. Well, great. Thanks, Aaron and I know it's been a long call, but I appreciate you all staying with us. We look forward to seeing you in just a couple of weeks' time in NAREIT in Dallas. Enjoy the rest of your day.