March 14, 2012 / 3:07 PM / 5 years ago

TEXT-Fitch revises Essex Property Trust outlook to positive

March 14 - Fitch Ratings has revised the Rating Outlook for Essex
Property Trust, Inc. (NYSE: ESS) and its operating partnership, Essex
Portfolio L.P. (collectively, Essex or the company) to Positive from Stable. In
addition, Fitch has affirmed the following credit ratings:	
	
Essex Property Trust, Inc.	
--Issuer Default Rating (IDR) at 'BBB';	
--Preferred stock at 'BB+'.	
	
Essex Portfolio L.P.	
--IDR at 'BBB';	
--Unsecured revolving credit facility at 'BBB';	
--Senior unsecured notes at 'BBB'.	
	
Fitch has also assigned a rating of 'BBB' to the $200 million unsecured term
loan issued by Essex Portfolio L.P. on Nov. 15, 2011. The five-year loan bears
interest at a rate of LIBOR + 142.5 basis points and has an accordion feature to
increase the loan amount to $300 million.	
	
The Outlook revision to Positive is driven by Fitch's expectation that ESS'
near- to medium-term credit profile will improve to a level more consistent with
a rating of 'BBB+', due to healthy apartment fundamentals combined with
management's commitment to a conservative balance sheet, and growth in the
unencumbered asset pool.	
	
ESS' leverage levels have declined, fixed charged coverage has improved, and the
company maintains strong level of unencumbered assets that provides solid
coverage of unsecured debt. Further supporting the ratings are the company's
solid management team and long-term track record as astute operators and capital
allocators in the multifamily sector.	
	
ESS' ratings are also supported by its strategy of owning assets in supply
constrained, high barrier to entry, West Coast markets. Fitch views the strategy
of owning assets in supply-constrained coastal markets as a credit positive as
these markets also exhibit solid demand factors such as high cost of for-sale
single-family housing and proximity to solid job growth markets.	
	
For full-year 2011, fixed-charge coverage (defined as recurring operating EBITDA
less Fitch's estimate of recurring capital improvements divided by interest
incurred and preferred stock distributions) was 2.6 times (x), which is strong
for the 'BBB' rating, and is expected to rise to 2.8x in 2013 and 3.1x in 2014.
Fixed-charge coverage was 2.4x and 2.1x for the years ended Dec. 31, 2010 and
2009, respectively. In a stress case not anticipated by Fitch resulting in
negative same-store NOI, fixed-charge coverage could sustain below 2.3x, which
would be appropriate for a 'BBB' IDR.	
	
ESS' net debt to recurring LTM operating EBITDA for the year ended Dec. 31, 2011
was 7.6x, and was 6.9x based on annualized 4Q'11 EBITDA due to significant
acquisitions and development completions during the course of the year. Leverage
was 8.3x, 7.1x and 6.4x as of Dec. 31, 2010, 2009 and 2008, respectively. Fitch
projects that leverage will decline to 6.7x in 2013 and 6.2x in 2014, which is
more appropriate for a 'BBB+' rated multifamily REIT with ESS' geographic
concentration. In a stress case not anticipated by Fitch resulting in negative
same-store NOI, leverage could sustain above 8.0x, which would be appropriate
for a 'BBB-' IDR.	
	
Further supporting the ratings is a high ratio of unencumbered assets to
unsecured debt. Based on applying a 7.5% cap rate to annualized fourth-quarter
2011 unencumbered net operating income (NOI), ESS' unencumbered assets covered
unsecured debt 3.0x. The unencumbered pool is growing as the company replaces
maturing secured debt with unsecured debt and funds new acquisition and
development with equity and unsecured debt.	
	
ESS has a manageable debt maturity schedule with only 13.4% of total debt
(including pro rata share of JV debt) maturing from Jan. 1, 2012 through Dec.
31, 2013. Fitch calculates that ESS' sources of liquidity (unrestricted cash,
availability under its unsecured revolving credit facility, and expected
retained cash flows from operating activities after dividend distributions)
exceed uses of liquidity (pro rata share of debt maturities, remaining
non-discretionary development expenditures and expected recurring capital
expenditures) by $552 million from Jan. 1, 2012 through Dec. 31, 2013, resulting
in a liquidity coverage ratio of 1.2x, which is appropriate for the 'BBB'
rating.	
	
The ratings are supported by strong multifamily fundamentals in ESS' markets.
ESS' same-property NOI increased by 5.5% in 2011. Fitch anticipates that
fundamentals will remain strong due to moderate job growth, limited new supply,
and a high cost of for-sale single-family housing in ESS' markets. The ratings
also point to the strength of ESS' long-tenured management team, including
senior officers and property and leasing managers.	
	
Offsetting these credit strengths are the company's high levels of secured debt,
geographically concentrated portfolio, and growing active development pipeline.	
	
ESS historically has been primarily a secured borrower but began shifting in
2011 to an unsecured funding model. Including $150 million outstanding in its
line of credit, the company currently has $615 million (26% of total debt) of
unsecured debt on its balance sheet, compared to total debt of $2.4 billion. The
26% is low relative to multifamily REIT peers that generally maintain 50% or
more of total debt as unsecured.	
	
Essex's current unsecured debt consists of term loans, private placement notes,
and its unsecured credit facility. Fitch anticipates that the company will raise
additional term loans and private placement notes in 2012 before completing a
standard, public REIT unsecured bond offering in 2013.	
	
Although Fitch highlights the company's supply-constrained market focus strategy
as a credit positive, this is somewhat offset by the geographic concentration in
Southern California (47.3% of NOI including JV's at 100%), San Francisco Bay
Area (32.5%), and the Seattle metropolitan area (16.8%). 79.8% of same store NOI
in 2011 was derived from the state of California (Fitch rates California's
general obligation bonds 'A-'; Outlook Stable). While ESS' SSNOI performance has
exceeded a market-weighted PPR index, Fitch notes the seismic risks of the state
and the potential for government budget dynamics to pressure property taxes.	
	
The company maintains an active development pipeline, with total development
cost representing 10.5% of total consolidated assets, with $282.6 million
remaining to be spent, or 7% of total assets as of Dec. 31, 2011. However, all
of the current development pipeline is within JV's, and based on Essex's pro
rata share, remaining costs to Essex are $148 million, or 3.7% of total assets.
These ratios were as large as 20.5% total cost and 13.2% remaining cost in
first-quarter 2008. Should demand decrease in Essex's markets prior to
completion, these projects could serve as a drag on cash flows due to longer
than projected lease-up at less favorable rental rates.	
	
The two-notch differential between ESS' IDR and preferred stock rating is
consistent with Fitch's criteria for corporate entities with a 'BBB' IDR. Based
on 'Treatment and Notching of Hybrids in Nonfinancial Corporate and REIT Credit
Analysis', these preferred securities are deeply subordinated and have loss
absorption elements that would likely result in poor recoveries in the event of
a corporate default.	
	
The following factors may result in an upgrade to 'BBB+':	
	
--Net debt to recurring operating EBITDA sustaining below 7.0x (as of Dec. 31,
2011 leverage was 6.9x based on annualized 4Q'11 EBITDA);	
--Fixed charge coverage sustaining above 2.5x (coverage in 2011 was 2.6x);	
--Consistent access to multiple sources of capital, including unsecured notes,
term loans and common equity.	
	
The following factors may result in negative momentum on the ratings and/or
Outlook:	
	
--Leverage sustaining above 8.0x;	
--Coverage sustaining below 2.0x;	
--If operating fundamentals relapse similar to the environment of 2009 in the
near term, rather than remaining strong as currently expected;	
--A liquidity shortfall.	
	
	
Additional information is available at 'www.fitchratings.com'. The ratings above
were solicited by, or on behalf of, the issuer, and therefore, Fitch has been
compensated for the provision of the ratings.	
	
Applicable Criteria and Related Research:	
--Criteria for Rating U.S. Equity REITs and REOCs, Feb. 27, 2012;	
--Treatment and Notching of Hybrids in Nonfinancial Corporates and REIT Credit
Analysis, Dec. 15, 2011;	
--Corporate Rating Methodology, Aug. 12, 2011;	
--Parent and Subsidiary Rating Linkage, Aug. 12, 2011;	
--Recovery Rating and Notching Criteria for REITs, May 12, 2011.	
	
Applicable Criteria and Related Research:	
Corporate Rating Methodology	
Parent and Subsidiary Rating Linkage	
Recovery Rating and Notching Criteria for Equity REITs	
Criteria for Rating U.S. Equity REITs and REOCs	
Treatment and Notching of Hybrids in Nonfinancial Corporate and REIT Credit
Analysis

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