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Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Good day, and welcome to the Essex Property Trust Third Quarter 2018 Earnings Call. As a reminder, today’s conference call is being recorded.
Statements made on this conference call regarding expected operating results and other future events are forward-looking statements that involve risks and uncertainties. Forward-looking statements are made based on current expectations, assumptions and beliefs as well as information available to the Company at this time. A number of factors could cause actual results to differ materially from those anticipated. Further information about these risks can be found in the Company’s filings with the SEC. [Operator Instructions]
It is now my pleasure to introduce your host, Mr. Michael Schall, President and Chief Executive Officer for Essex Property Trust. Thank you, Mr. Schall. You may begin.
Thank you, Dana. I would like to welcome everyone to our third quarter earnings conference call. John Burkart and Angela Kleiman will follow me with comments, and John Eudy is here for Q&A.
I will discuss three topics on the call today: Our third quarter results and preliminary 2019 market outlook; investment market conditions; and an update on the apartment industry’s campaign to oppose California Prop 10.
First topic. Our third quarter results were mostly as expected, reflecting a solid economy and severe shortages of housing on the West Coast. We continue to experience strong demand for multifamily housing across the West Coast metros with periodic disruptions to pricing when multiple apartment lease-ups occur within a submarket, often leading to large leasing concessions and often impacting pricing at nearby stabilized communities.
Job growth has continued to outperform our initial 2018 expectations across the Essex portfolio. Job growth is slightly lagging in Southern California and strong in the tech market as demonstrated by greater than 3% job growth in both Seattle and San Jose. With tight labor market conditions income growth continues to outpace rent growth, which is improving rental affordability. Per capita personal income growth in Essex metros is expected to average 5.7% in 2018, up almost 1% from year-ago and compared to 4% for the nation.
As John Burkart will discuss in a moment, we have experience normal seasonal patterns in 2018, which is significantly different from 2017. Same-store revenue growth for 2018 troughed in the third quarter, mostly due to revenue strategy and year-over-year seasonal variation. Overall, market conditions are much better now as compared to year-ago and our portfolio remains well-positioned.
Consistent with the strong job growth reported in the tech markets, job openings for the top 10 public tech companies, all of which are headquartered in California and Washington, increased 26% year-over-year to nearly 22,000 open positions as of September. With the dearth of skilled workers, employers continue to face shortages of qualified personnel, pushing wages upward to track employees from other areas.
Turning to our market outlook for 2019. Today, we have a much better visibility into the year ahead, compared to last year. And thus, we have included our preliminary outlook for 2019 on page S-16 of the supplemental. We also provide the primary supply and demand drivers that shape our rent growth expectation. S-16 is intended to be a scenario based on the strength of the U.S. economy. We begin with the U.S. GDP and job growth estimate from third-party sources. And based on these key assumptions, we estimate job growth and housing demand in the Essex metros. As to housing supply, we drive each market to gain insight on apartment delivery timing to create quarterly estimates. Using historical relationships between housing supply, demand, and rent growth, we established our 2019 market rent growth expectations.
For 2019, the U.S. economy is expected to continue growing at a healthy pace with U.S. GDP and job growth of 2.5% and 1.3%, respectively. Unemployment rate for the Essex markets declined 50 basis points than the past year, to 3.5%. Over the past several years, falling unemployment has contributed to job growth, although this positive impact will likely diminish going forward. We expect the West Coast economies to outperform the nation as to job growth, which we estimate at 1.8% for the Essex metros in 2019. This was about 30 basis points below the September actual job growth of 2.1%, again reflecting the impact of tight labor market conditions.
For 2019, we expect 3.1% market rent growth in the Essex markets with California slightly outperforming Washington and the best results in San Jose and San Diego. Oakland is expected to lag due to increasing apartment deliveries. Reflecting the importance of economic growth in our 2019 assumptions, we produced a new graphic on page S-16.1 of the supplemental to demonstrate the outperformance of the Essex metros in terms of cumulative nominal GDP growth. Bottom-line, the Essex metros has outperformed the U.S. average and other major metros in the past five years and are well-positioned for continued leadership going forward.
Turning to Supply in 2019. Our preliminary forecast assumes that multifamily supply will be relatively flat in 2019 versus 2018 in the Essex markets with significant variances in some markets. Most notably, we expect a substantial increase in apartment supply in Los Angeles and Oakland, and significant reductions in Orange County, San Diego and San Francisco.
Construction labor shortages continued to be a major factor affecting apartment delivery timing, and this issue continues unabated. Thus in 2019, we made a notable change to our supply methodology on page S-16 of the supplemental by factoring delays into the estimated delivery timing of newly constructed apartments. Thus, our multifamily supply, shown on S-16 of the supplemental, has pushed roughly 8% of apartment units or around 3,000 units from 2018 into 2019 and from 2019 into 2020. For the next couple of years, we see little change in the number of apartments being built and the overall construction labor force. And therefore, there's no reason to believe that the delays will abate. With housing demand continuing to exceed supply, we believe the housing shortages on the West Coast will continue.
Now, turning to my second topic, investment market conditions. 2019 is likely to be another year where escalating construction costs, driven by labor shortages and entitlement cost increased at a faster pace compared to rental revenue and net operating income. Therefore, developer yields are being compressed, creating a significant headwind to apartment construction starts. This is a challenging scenario for our direct development activities and therefore, we have not materially added to our development pipeline. Instead, we are focused primarily on providing preferred equity to third-party apartment developers in the Essex markets. At the start of 2018, we had a strong preferred equity pipeline and hope to significantly exceed our $100 million target. As it stands now, we will struggle to hit our target in 2018. Angela will comment on guidance in a moment.
As it relates to acquisitions, we continue to see plenty of capital looking to buy apartment, leading cap rates relatively flat. Recent increases in interest rates have erased most of the positive leverage tailwind that we have enjoyed since 2007 as long-term apartment financing rates are now comparable to cap rate. A-property and locations continue to trade around 4% to 4.25% cap rate and sometimes sub-4 for exceptional property with B-quality property and locations generally trading 25 to 50 basis points higher. We will continue to monitor the transaction market closely.
And now onto my third topic, an update on California Prop 10. As we have highlighted on prior calls, we are part of a broad coalition to close California Prop 10, would seek to repeal the Costa-Hawkins Rental Housing Act On November 6. We are joined by other apartment companies, trade organizations, unions, veterans and a variety of pro-business groups. I think it's appropriate to recognize the extraordinary effort of those involved in the No-On-10 campaign, especially its the executive committee and co-chairs, John Eudy, and Barry Altshuler. They have successfully united the industry around a worthy cause. We believe that passing Prop 10 will intensify housing shortages, making a bad problem worse. It will likely lead to the expansion of price controls for all types of housing, which will result in less housing being built. Price controls produce longer tenancies, which in turn reduce the number of available rental units for those seeking housing and those with limited means will be at an increasing disadvantage competing from paying for housing amid greater scarcity. Finally, apartment, condo and single-family owners will have a strong economic incentive to convert rentals subject to price controls to owner-occupied housing, thereby shrinking the rental stock.
Important to note that Prop 10 contains no funding for affordable housing and no requirements of additional housing be built. The state of California directs a process called the Regional Housing Needs Assessment to plan for sufficient housing supply. However, many cities don't want to create housing because of the related costs of services, including schools, police, et cetera. Gavin Newsom, a leading gubernatorial candidate, captured this issue on his website with the following comment, quote “cities have a perverse incentive not to build housing because retail generates more lucrative sales tax revenue. The bigger the box, the better, because cities can use the sales tax for core public services".
As a better approach, the state has recently passed many laws that support the Regional Housing Needs Assessment which we believe are critical to increase housing production, the only viable solution to the crisis today. We also believe that more funding is needed, targeted to affordable housing. And, thus, we support California Prop 1.
That concludes my comments. And I'll now turn the call over to John Burkart.
Thank you, Mike.
Q3 was a good quarter. It played out as we expected, following historical seasonal pattern with the rental market peaking in July and our operating team shifting our strategy from the focus of maximizing occupancy to locking in the seasonally higher rental rates. The result was that we allowed the occupancy in our portfolio to move down 30 basis points while we achieved rents on new rentals about 3.5% above the prior year's quarter.
For 2018, from a same-store revenue growth perspective, Q3 is the low point for the year due to the lower occupancy and the one-time payment in the third quarter of 2017, related to the delinquency collection from a corporate housing operator, which created an irregular comp. Adjusted for both occupancy and the one-time item, same-store revenue growth would have been 2.6% for the third quarter of 2018 or 40 basis points higher than our reported results.
Overall, our concessions in Q3 2018 were down approximately 20% from the prior year for the same-store portfolio. Our renewals in the third quarter grew approximately 4.2% and they’re being sent out at approximately 4.5% for the fourth quarter. In September, our loss to lease was 1.7% versus 20 basis points in September of 2017 due to the stronger rental market we experienced this year, which positions us well for 2019.
We expect the same store portfolio revenue growth in the fourth quarter will be approximately 2.9%. Although, we're not providing guidance at this time, we look to 2019 -- as we look to 2019, we see the market slightly stronger than in 2018 and our portfolio is well-positioned with the 1.7% loss to lease in September. From a revenue perspective, we’ll have headwinds related to higher occupancy costs in 2018, and we continue to face wage pressure in our markets, which is consistent with the past several years.
Now moving on to an update on our markets. The Seattle market continues to be supported by strong job growth, posting year-over-year job gains of 3.7% for the third quarter of 2018, the highest job growth in the Seattle MD in any quarter for over 17 years.
Looking at Amazon, job openings for the company in the market have more than doubled as of the third quarter of 2018 to a little over 7,000 open positions since the end of last year. Tech continues to be a major driver for the market during the period. Amazon, Google and T-Mobile leased over 0.5 million square feet of office space in Bellevue while Facebook has approximately 150 open jobs listed in Redmond for their virtual reality headset division and is rumored to be in the process of signing several expansion leases in the east side. With the light rail expansion into the east side scheduled to begin service in 2023, we will expect to see an increase in office leasing activity in the submarket.
Same store concessions increased in the Seattle region from 80,000 in the third quarter of 2017 to 197,000 this quarter. Concessions were spread across many assets in each submarkets and were largely used as closing tools. Revenue growth in our east side and Seattle CBD submarket was relatively flat at 1.6% and 40 basis points, respectively, while the North and South submarkets grew at 2% and 3.5%, respectively, for the third quarter of 2018. Our loss to lease at the end of the quarter was 1.2% for the entire market.
Moving down to northern California. Job growth in the San Francisco Bay Area in Q3 averaged 2.4% year-over-year with over 76,000 jobs added. San Jose job growth was robust for the period with 3.2% year-over-year job growth while Oakland and San Francisco were both up 1.8% for the period. Notable office leases this quarter include Amazon and PwC’s combined 350,000 square-foot expansion in downtown San Francisco; on the Peninsula Facebook leased 800,000 square feet of under construction project in Burlington; and in the South Bay, Roku added an additional 250,000 square feet for Bay Area footprint while Splunk singed a 300,000 square-foot lease at Santana Row, with plans to hire 2,000 additional employees in the Bay Area.
Total office leasing activity is over 11 million square feet for 2018. This is greater than a combined total leasing activity in this market for the past two years. VC funding for San Francisco and Silicon Valley combined for the trailing four quarters through Q3 is at a new peak of $41.6 billion.
Same-store concessions decreased over 50% in the third quarter 2018 from the prior year’s period. Concessions were spread across many assets in each submarket and were largely used as closing tool. Our year-over-year same-store revenue growth for the third quarter of 2018 was led by the San Mateo submarket at 3.4%, followed by our Oakland and San Jose submarkets which each grew at 2.4%m and our Fremont submarket at 1.8%, while San Francisco continued to remain flat for the period. Rents in our Bay Area markets were up approximately 3.3% and loss to lease was 1.1% in September.
Continuing to Southern California. Job growth in Los Angeles in the third quarter of 2018 averaged 1.3% year-over-year. Netflix continues to solidify the presence in the market, preleasing at an additional 330,000 square feet in Hollywood, likewise co-working companies, SpaceX and WeWork expanded their combined footprint by almost 200,000 square feet during the period. Year-over-year, revenue growth for the third quarter of 2018 was led by our Long Beach and Woodland Hills submarkets with 5.4% and 4% growth respectively, trailed by the West LA submarket with 2.8% growth and the Tri-Cities submarket with 2.4% growth. September loss to lease in LA County was 2.4%.
In Orange County, jobs in the third quarter grew 60 basis points for the year-over-year. This situation is similar to 2017 when the BLS showed 30 basis points of job growth in the third quarter which was increased to 2.2% when the revisions were completed. We will continue to monitor job growth in this market. Orange County loss to lease was 1.7% in September. Finally, in San Diego, year-over-year job growth remained at 1.7% in the third quarter of 2018. Amazon expanded their San Diego tech hub by 85,000 square feet, with plans to add 300 tech workers. Worthy to note that high-paying industries have accounted for more than 50% of the job growth in San Diego market. Year-over-year revenue growth in the third quarter of 2018 was 3.4% for northern San Diego submarkets while Chula Vista grew at 4.1%. Loss to lease in the market was 2.2% in September.
Overall, same-store concessions are down with Southern California region about 30% from the prior year's period. 65% of the concessions in the third quarter related to downtown LA and assets impacted by the supply in south Orange County. Currently, our portfolio is at 96.5% occupancy and our availability 30 days out is 5.1%.
Thank you. And I will now turn the call over to our CFO, Angela Kleiman.
Thank you, John.
I’ll start with a brief review of our third quarter results, then discuss the full year guidance, and conclude with an update on capital markets and the balance sheet.
In the third quarter, core FFO grew 5.7%, exceeding the midpoint of guidance by $0.03 per share. Details of the reconciliation to our original guidance are included on page four of the earnings release. Our favorable third quarter results enabled us to raise our core FFO per share guidance by $0.03 at the point to $12.56 for the full-year. This represents a 5.4% year-over-year growth, which is 90 basis points higher than our original guidance of 4.5%.
Turning to our third quarter investments and funding plan. We closed $104 million acquisitions in the Wesco V joint venture and originated an $18.6 million preferred equity investment, which brings our total structure finance commitments to approximately $385 million. We plan to fund the new investments with two dispositions that are on track to close at the end of the fourth quarter.
As for guidance on investment activities for the full year. On acquisitions, we expect to achieve the low end of our range. On our $100 million preferred equity target, we currently have $45 million closed through October and believe that the majority of the remaining balance could close by early 2019 with funding up to six months thereafter. This is consistent with Mike's earlier comments and the headwinds regarding apartment construction starts.
On dispositions, we have several properties in various stages of the sale process in anticipation of funding needs for 2019. Depending on the timing of the sale, some properties will transact by yearend. Therefore, we are increasing the high end of our dispositions range from $300 million to $400 million.
Use of proceeds may include potential buyout, joint venture partner interest, development funding, stock buyback and debt repayment, depending on market conditions. As we have done in the past, we will seek to redeploy the proceeds into the most attractive investments in order to maximize the total insurance. Consistent with our original guidance this year, we do not start any new development. As it relates to our existing $940 million development pipeline, our share of unfunded obligation is $384 million, most of which will be funded in 2019, which means over 85% of our development pipeline will be completed and in lease-up by next year. Keep in mind that lease-ups are FFO dilutive until we approach stabilization. Consequently, our preliminary forecast anticipates a potential FFO per share impact of up to $0.10 for the next year.
Lastly on capital markets and the balance sheet. Our capital needs for 2018 remain de minimis. We look to 2019 as we’re trying to repay approximately $590 million of secured debt, which was assumed from the BRE transaction and has an effective rate of 3.4%, but the cash rate is 5.6% rate. Therefore, this refinancing will be an economic benefit to the Company, but will create an FFO headwind of between $0.05 to $0.10 per share, depending on timing and market conditions, the current rate on our 10-year unsecured bond offering will be in the mid 4% range. However, we have a good amount of flexibility with access to multiple refinancing alternatives. And our balance sheet remains strong at 25% leverage with 5.5 times debt to EBITDA, and virtually full availability on our $1.2 billion loan of credit.
That concludes my comments. And I'll turn the call back to the operator for Q&A.
[Operator Instructions] Our first question comes from the line of Juan Sanabria from Bank of America. Please proceed with your question.
Hi. Good afternoon. Just wanted to follow up on the supply data where you mentioned you changed up your methodology. Could you just give us a little bit more details around that? What would the numbers have been, had you not assumed delivery delays, which have been pretty consistent, like you said, ‘18 into ‘19, and ‘19 into ‘20, just to get a sense of comparing that to third party providers?
Hey, Juan. It’s Mike. Thanks for joining the call. I appreciate it. It’s going to be difficult for me to reconcile these exactly because the supply estimates from the vendors have changed a lot. And I think there are some procedural issues. What we’re trying to do is take a longer look at supply. So, we have gone back to 2017 and projected forward to 2020. And what we found in that analysis is that the total number of units produced in the Essex metros have ranged from 34,000 to 36,000 per year in all of our -- again, all of our metros. And essentially what we conclude from that is that construction labor is the main constraint. And even though construction labor can vary by submarket to submarket, in other words, can be transient. Some construction workers can go from LA to some other metro. What we think is happening is basically there’s a cap on the amount of construction that can get done. And so, we’re seeing pretty consistent total apartment units being delivered in each of those years. And that costs us to essentially take our best estimate at trying to guess or estimate how much was going to leap from one year to the next. And as I said in the prepared remarks, we think it is around 3,000 units from 2018 into 2019, and 2019 into 2020. And again within the context of -- that leads to about 36,000 units, plus or minus, in each of the last four years or four years preceding 2020.
And then, I was just hoping you could talk a little bit about the expense side. I know this question -- who is best to answer. But, Angela gave some data points on kind of how to think about FFO impacts from occupancy -- sorry, from developments in some of the stuff you’re trying to do. But any color you can give on the expense side, particularly around some of the bigger ticket items, like real estate taxes, as we think about ‘19?
Sure. On the real estate taxes, I think with California, that piece is pretty straight forward. CRO continues to be more of a wildcard. So, for example, we had expected 2018 CRO capital to come in around, say, between 10 to 13%; it came in at 16%. And so, next year, we’re going through that process right now, still working through it. But, it’s probably going to be consistent and that it’ll be high and it’ll be more than 10%, but probably below, say, 16%, if you will. So, that’s our current thing. We expect utility costs to continue to, one, add around that 4% or 5% range. And I think those were some of the largest non-controllable items.
Our next question comes from the line of Austin Wurschmidt from KeyBanc. Please proceed with your question.
Mike, you talked about cap rates haven’t moved, but you mentioned that positive leverage has started to be eliminated. Historically, you’ve mentioned that it’s being kind of one of the supportive metrics of sustaining low cap rates. So, just curious, when you look back historically, what does your research tell you about the lag between perhaps when cap rates could begin to move higher as a result of the eliminating the positive leverage?
Sure, Austin. I think in our experience, cap rates are pretty sticky; they don’t change quickly overnight. Buyers and sellers need time to adjust to a new environment. I think that there is enormous amount of money out there looking for investments and looking for yield specifically. And I think that that is a one of the forces that is keeping cap rates at relatively low levels. So, I wouldn't expect any significant change in cap rates in the near term. I think what happens is, you will see buyers and sellers not agreeing and that will essentially cause a freeze in the transaction markets for some period of time, before cap rates would change. So, again, we haven't seen that now because there's so much money in the market, chasing deals. And we will see what happens going forward. I guess, it’s going to take several quarters for this to play out.
I appreciate the thoughts there. And then, can you just give us a sense how 2019 supply delivery stack up, is it more heavily weighted in the first half of the year or back half of the year?
Sure. Overall, we think 2019 is, again, as I said in the prepared remarks, roughly the same as 2018. There are some regional variances. Supply for example, pretty significantly let’s say, in LA and Oakland and then down in some other places that are essentially offsetting those numbers. In terms of quarter to quarter, I think it’s been so challenging to get the timing right going into the outlook of the details probably too far into weeds. What we have right now for 2019 is the third and fourth quarters are a little bit higher -- actually, you know what, they are pretty consistent throughout. The third and fourth quarters are heavier in northern California but lighter in Seattle and Southern California. So, we have pretty even supply quarter to quarter throughout 2019.
Our next question comes from the line of Nick Joseph from Citigroup. Please proceed with your question.
How do you think about capital allocation nonorganic growth, given the current stock price? You’ve been active in the past, either issuing equity through the ATM to fund growth or repurchasing shares when you’re trading large discount. But right now, you’re somewhat in between those two scenarios. So, how do you think about adding value to this environment?
This is Mike, and that’s a very good question, and we think it's pretty darn difficult to do that, to add value in this market. So, obviously, we have tried to focus on preferred equity investment, and I think that will continue to be something that we focus on going forward. We also, at this point in time, in prior cycles, have leaned more toward joint venture or co-investment type transactions. However, with interest rates up, they’re becoming more challenging to make work as well. And then, finally, on the development side, Mr. Eudy is here, he can comment on this, or follow-up on my comments. We’re just seeing a lot of low to mid-4 cap rate measure today untrended, so measured on rents in place today, throughout our portfolio. And we just don't think that’s enough cap rate to get us excited about development. John, do you have anything to add to that?
Only that we’re keeping our power drive for when the time comes and that will change.
Yes, it will be interesting. And so, I will conclude by saying, I’ve learned in this business that don't try to make some work that just fundamentally doesn't work. And so, essentially focusing on the balance sheet, making sure it’s in pristine shape and being ready for opportunities when they arise, we don't know when or where they are going to be, but when that happens, we want to be ready. So, I think that's our focus now.
And then, you mentioned the headwind too, and compression in market development yields. Do you think that will have an impact on rent concessions during lease-ups due the product that is underway now?
I think that we're expecting pretty consistent concessionary activity going forward. John, do you want to handle that one, concessions going forward, given development?
Yes, absolutely. In Q4, we see a little bit more supply coming at us for the year. And so, there would be the normal Q4 softer market. I'm sure, we're going to have some more concessions. But overall, our expectations are concessions are in check across each of the market. Again, as Mike has mentioned, LA, downtown LA is going to have more products. And so, there will be isolated cases with more concessions. But overall, as a company, our concessions are down in same-store portfolio, and we see things generally in pretty good order, 4 to 6 weeks, limited situations with 8 weeks, and often times concessions are going back, even back down to three weeks.
Our next question comes from the line of John Kim from BMO Capital Markets. Please proceed with your question.
On Proposition 10, some of the polls are going to be working in your favor as far as it not passing. I'm just wondering, how confident do you feel about this vote going in your favor versus a few months ago? And is there a particular poll that you pay attention to more than the others?
I’ll try -- this is John Eudy. We are cautiously optimistic that we are in a pretty good start and where we thought we were going to be at this point in time. But you never know. Polls have been wrong in the past. The messaging, I think you are referring to the PPIC public poll that came out a week ago that has it at 60% no, 25% yes, and the balance undecided. We see that in our internal polling as well. But the last eight days can change. But right now, we believe that we're in a pretty good spot to win or to push back under the deal.
I'm going to add one thing to that, and that is Mr. Eudy does not give up and he is very focused on really pushing hard right through election day to make sure that the campaign is very focused on the ultimate result. And again, we have watched John do this for the last couple of months. And he's been incredibly focused and incredibly effective.
Best of luck. On your repairs and maintenance, the costs were down 1% year-over-year. And I'm wondering how much of this is due to low turnover versus capitalizing more or maybe some other factors.
It's not really capitalizing more, it is -- the turnover is a factor for sure. There is also some timing issues there as well. I think it will kick up in Q4 but all according to the original plan for the year. So, we are finding opportunities to create efficiencies and lower our cost to offset some of the wage pressures that we face and are coming in again with another good year as it relates to controllables.
Our next question comes from the line of John Guinee from Stifel. Please proceed with your question.
Angela, I was noticing in your guidance, and this maybe old news but just clarify it for me. Insurance reimbursement, legal settlements et cetera, you've recognized the negative $2 million year-to-date but you've got a budget or you have 6.2 for the year negative. Is there a one-time charge you are expecting to get in the fourth quarter?
Yes. That’s all related to our Pop 10 campaign efforts. And so, that is a onetime charge. And it will occur in the fourth quarter.
Okay. So, $4.2 million get to FFO in the fourth quarter, and that’s in your guidance or not?
It is in our guidance.
Our next question comes from the line of Drew Babin from Robert W. Baird. Please proceed with your question.
Quick question on occupancy. I was hoping you could clarify how -- I think it was mentioned before just where occupancy was at the end of the third quarter, where it is today, and should we necessarily expect that things to get back on PAR year-over-year during the fourth quarter as you move into a less favorable season with maybe some more supply coming in at some unfavorable times? Just curious how to model that.
Sure. Our occupancy at this point is 96.5, and last year we were a little bit higher, we were about 30 basis points higher at this point in time exactly. I think this year, we will again be -- we continue to be a little bit under last year. If you’re going back to the year, we started well above than occupancy; and then, as the market shifted, we shifted our strategy to favor achieving market rent over occupancy. So, we do have that headwind that we are facing Q3, as I mentioned Q4 will continue, will actually continue into the first half of ‘19. So, my expectation is our occupancy is a little tough to tell. We are obviously finding that in the marketplace, and as I mentioned, with more supply, that’s going to hit Q4 during the low demand period. But, I expect we will probably stay close to where we are right now, maybe up 10 basis points or something like that.
And then, quickly, on Seattle, kind of the characteristics for supply for next year. It looks like you are expecting less multifamily supply growth in Seattle next year versus this year. Is that construction delay impact noticeable there? And I guess, as you go on the next year, is the supply just this kind of downtown concentrated or this year, is it a little more spread out?
Hey Drew, it’s Mike. We think it will decline a little bit, maybe around 10%, Seattle will still have a plenty of supply in 2019 relative to 2018. But yes, to your second question, which is it will be more spread out; and the more spread out it is, the less we see that phenomena of multiple lease-ups competing against one another and offering very large concessions. So, the fact that it’s spreading out should help us in 2019 relative to 2018.
And then, one more for Angela, you mentioned the nickel to about a dime dilution potentially from paying down debt maturities next year. Does that include just 2019 secured maturities or is there some component of 2020 maturities that might be prepaid as well on the contributes to that number you provided?
That’s a very good question. And so, yes, it does include a component. So that $590 million of the debt assumed from the BRE acquisition, 300 is to this year -- I mean I'm sorry in 2019, and 290 is due in 2020, because we can't prepay it without any penalty; that’s the right economic thing to do and that’s why. So, in total, we actually can and are planning to pay about $900 million of debt of which 290 is optional.
Our next question comes from the line of Trent Trujillo from Scotiabank. Please proceed with your question.
I appreciate the commentary in your prepared remarks about this, but what are your latest thoughts on voter support for Prop 10 and how it is or how has been impacting the transaction market? You mentioned cap rates are broadly unchanged. There’s still healthy liquidity and capital chasing multi-family product, but what kind of depths in buyer pools have you seen? We’ve heard that there’s been less in institutional interest in California multi-family recently.
It’s another good question. I'm not sure I have the perfect answer for it. I think that the greatest sensitivities are the transactions are hitting the market in some of the cities with the most extreme forms of rent control. I know that there was transaction for example, in Berkeley that had very extreme forms rent control. And I think that the market is reacting to those by pushing the bids for them past November 6th. And so, you’ll know the answer before people commit to it. So, I think there’s been somewhat of a showing the fact in the marketplace as people wait for Prop 10’s ultimate outcome. But I don’t get the sense that it’s had overall impact; in other words, some parts of the market areas that have less severe forms of rent control. I think it has a smaller impact on the market.
And you alluded to having a handful of assets on the market as a source of fund. Can you perhaps speak to the type of product you’re looking to recycle, and if these are perhaps in those submarkets that are being subject to the most extreme versions of rent control potentially?
No, not necessarily. Again, this is Mike. We follow the same basic methodology with respect to both sides of our portfolio. We try to rank our submarkets by longer-term job growth -- I am sorry longer-term rent growth and as a function of job growth and supply growth, and then we try to identify the areas that will -- are the weakest level of that, and try to call the portfolio as a result of that. The domain disposition earlier this year is a good example of that. Also, it seems like we’re getting more unsolicited offers. And when we get unsolicited offers, we will take them on a case-by-case basis and sometimes we will act on them if we get the right value. So, I’d say, those are the two driving forces of our dispo program.
Our next question comes from the line of Rich Hightower from Evercore ISI. Please proceed with your question.
So, most of my questions have been answered already. But, quickly, with respect to fourth quarter expenses, I think the guidance implies maybe high 3s, upwards 4% of same store growth in the fourth quarter. Is that driven by the uptick in repairs and maintenance? I think John to this. Is there something else going on there that we should be aware of?
No. I think it’s what you’re anticipating. And so, on the expense side, we’re expecting to land for full year at 2.6% and it’s not atypical for us to run high in expenses in the fourth quarter. And so, there’s definitely timing element with that in conjunction with what John Burkart said earlier as it relates to repair and maintenance.
And then, just backing up to the occupancy headwind, third quarter, fourth quarter and the next year. Can you help us understand, I guess the word for it would be cadence of the headwind, as we kind of progress through 2019. Is the impact is more impactful than the first half of the year and then kind of getting to a normal seasonal occupancy in the third quarter and fourth quarter next year, just so we kind of understand the quarterly sequential element there, as we model it?
Yes. You hit it exactly. The greatest impact is in Q1 and Q2 where we were running at significantly higher occupancy. Our Q1, we were looking at the numbers, January 97.1, 97.2, 97.2, very high occupancy Q1. And I don’t expect to match that. As we move forward into through Q3, it’s less, and then we get into -- I’m sorry, Q2, it’s less. As we get into Q3, we’re probably right on point, and our Q4 will probably be right on point. So, the headwind is really, largely related to Q1 and Q2 occupancy. And that’s it at this point. We’re still in our budget planning process, but giving you a big picture. To the extent we see greater opportunities or reason to be more aggressive, we certainly will be. But at this point, those are most obvious headwinds.
Our next question comes from the line of Rob Stevenson from Janney Montgomery Scott. Please proceed with your question.
How significant is your current redevelopment opportunity across the portfolio, and how comfortable are you that you can achieve targeted returns for new projects at this point in cycle, given market and supply condition?
Sure. So, big picture, we are renovating somewhere in the neighborhood of 2,500 units a year, and that implies a lifecycle of over 20 years, considering the size of our portfolio. So, we are pretty comfortable that process can continue. It moves around a little bit, depending upon of course the rental market strength. And we constantly are looking and making sure we are achieving our expectations. But, there is no reason to believe that our unit turn program would slow down in the coming years. As it relates to larger projects, we have several going that are listed that are doing well. And again, there is probably -- what, four properties that are specifically outlined, and that pipeline should continue as well. The asset’s age, we look for opportunities to do more robust upgrades to the asset systems, et cetera., and increase value. So, I don't see our renovation program changing materially over the next couple years.
And then, what’s the current expected stabilized yield on the six properties in your development pipeline?
In the mid-five range.
Our next question comes from the line of Alexander Goldfarb from Sandler O'Neill. Please proceed with your question.
Two questions here. First, Angela, if we think about the comments you guys spoke about on the outlook for next year, there is $0.10 of lease-up drag potentially from the deliveries; there is other $0.05 to $0.10 of drag from refinancing. But, you guys are always pretty good on growing earnings. But, in total, it sounds like there is upwards of $0.20 of drag for next year. Is that the correct way to think about it or am I not looking at that -- did I not hear correctly?
I think you are thinking of it correctly. What you are thinking of it is the same way I’m thinking of it. And so, although, to the team’s common, operating fundamentals are coming in as we expect, there are other sectors impacting FFO. And financing and dilution as it relates to timing of development and lease-up are two important factors.
Okay. And then, Mike, on the supplemental page where you provide 2019 outlook, I don’t if that's markets in general or you are specifically providing Essex revenue or rent projections. But, suffice it to say, you are looking at 3 -- call it 3% rent growth for next year on that age. And this year, rents are up 2.3%, revenues up 2.8%. It sounds like the environment for next year isn’t going to be too dissimilar revenue-wide for this year, given that occupancy sounds like on the whole will be flat. Is that a fair way to think about it that revenue next year is really that 3% level or could we see occupancy improved that you might exceed that 3% level?
Alex, this is Mike, and we're not going to morph into a guidance conversation here. But let me just clarify what we mean and our market forecast. So, S-16, our economic rent growth represents in these submarkets, not for Essex but for the broader submarket what we think market rents will do in each of these areas. So, our portfolio can vary from that by some amount. And depending upon where it is, depending upon its competitive within the marketplace et cetera, and so our actual revenue results can be different. And again, this is for the entire year. So, how it breaks down the rent growth curve, it's not a flat line straight up during the year. It tends to be strong in the earlier part of the year, and weaker in the end of the year. And so, there could be variations in these numbers. And I'll leave it at that. And I will be giving guidance at some point in time in late January, early February, and we’ll talk about it in much more detail at that time.
And I would just add, Alex, I think you said that occupancy would be flat. That's not what I'm saying. I'm saying occupancy will be a headwind. So, the greatest headwind will be Q1 and Q2 with Q3 and Q4 basically flat. But for the year, it will be a headwind overall. Does that make sense?
Yes. Thank you, John and Mike. Thank you for clarifying S-16. That’s helpful on your comments.
Our next question comes from the line of Rich Hill from Morgan Stanley. Please proceed with your question.
Just a quick for me. Recognizing that you want to stay away from giving guidance. But if you could think about -- if you could consider the impacts of higher anticipated supply or slower than anticipated job growth as maybe the biggest risks your market forecast for economic rent growth, which one is that, both maybe to the upside and the downside?
I think we have the supply pretty well locked down. We could be wrong from quarter-to-quarter, like everyone. And I know everyone has been frustrated with the supply forecast over those past couple of years. But, I think that now we're looking at over broader period of time and it seems to make a reasonable sense to us. So, I would say the greater risk is on the job side. And I would say again, this is -- our forecast on S-16 is a scenario. It begins with what's going in the U.S. and then we have a lot of history with respect to the U.S., the 2.5% GDP and 1.3% job growth. This is what will typically happen in the Essex markets. So, we try to make the jump from what the U.S. does and to what our markets do. But, as you know, given all the geopolitical issues and interest rates rising and other things, the U.S. assumptions can change pretty significantly over time, and they can change at any time really. So, it tended to be a scenario that begins with the strength of U.S. economy and it rolls down into what that means for the Essex metros. Does that make sense?
IT does. That's helpful. And are there any markets where you think you might have greater variability than other, either to the upside or the downside?
Well, I think that Seattle has always been challenging. I think that we have beat up Seattle historically over the last several years much greater, outperformed with what our expectations have been. But, it is more challenging just because if you look at the amount of supply that it produces, 1.8% versus about 1% in northern California and 0.7% in Southern California, there is a greater degree of variability there. So, we could be wrong. The higher of the supply number typically, the more wrong you could be. So, I would point to Seattle.
Our next question comes from the line of Hardik Goel from Zelman & Associates. Please proceed with your question.
In your supply outlook, you guys noted that you are adjusting for delays this time. Could you give us some insight into your process, just bottoms up, what it was before and how it's changed, and how you are actually accounting for those delays in supply?
Sure. This is John. So, on a process from process perspective, we drive every single site and we have been short where it's at, what we think is going to happen, and we do this on a regular basis. And we are obviously looking at all the other information that's out there. So, we feel we have a great database of the various sites and where they are at. What’s been a challenge is really trying to understand where they are at, when they are going to actually finish, when they are going to come to completion. And part of that issue relates to the fact that if you look in the building from the outside, you can't tell exactly where things are, how far along the building is. And so, we are relying to some extent on conversations we have with developers or other people to try to gather information to really focusing on that side. What we’ve done in the sense of our adjustments is we looked at how often we were right and where the -- how long the delays actually have been on an asset by asset basis and came up with the track record. And if that track record that we then applied to all these deals and so we look and said, if on average we are missing it by several months, which is really the case, we made those adjustments. So, that’s what's going -- based on our track record, as we drive all the sites and are looking back and seeing how accurate have we been on the timing, what's the normal delay been, and we applied it equally across the board. Does that make sense?
That makes a lot of sense.
Let me add one more thing to that. I think that what has typically happened, we’ve seen out there and some of the data providers is when some doesn’t get delivered in Q1, it gets pushed to Q2 and Q2 to Q3 and you end up with lump of supply that is going to ultimately get done in Q4. And then, of course, if that doesn’t happen, it gets pushed to the next year. So, that's been sort of the process that started what John just talked about. You end up -- it ends up being very confusing because you have a very large number in Q4 which doesn’t get delivered, which then makes to next year, start out with a very large number, and it confuses the entire picture. So, we are trying to cut through all that and create something that is hopefully more sustainable and more accurate.
That’s really helpful. We can certainly appreciate the challenges. Just one follow-up to that. What is your radius like? I hope, John, you’re not having to drive around all of Southern California and Northern California. How do you decide this asset is within our comparability set?
So, although I do a lot of driving, there’s a whole team of people in the research department that do the specifics, and they have actually a mobile database that they log into, check things out. So, what they’re doing is they’re actually driving the entire MD. So, they’re looking at everything out in that area to understand exactly what’s going on. Again, we don’t look at it and say, here’s an asset that we’re going to go within 3 miles, and different people have different ways of doing it. We look at the whole supply-demand picture, and we make an assessment according to that. So, we’re looking at all assets that are 50 units and up, driving those assets in the MD, seeing where they’re at and factoring that in. Obviously from an operational perspective, we have individual operational asset reports that research department creates and enables us to better understand what supply is going to impact what assets and therefore adjust pricing strategies. But from a big picture from the economic perspective, we’re looking at the whole MD, each of the MDs, seeing there’s a lot of work in this area.
Got it. That sounds really good. That actually tells about data. That’s all from me.
We talked about it. You’re looking at it right now for free on S-16.
Our next question comes from the line of Rich Anderson from Mizuho Securities. Please proceed with your question.
Hey, Mike, have you given any thoughts or plan B, say, Costa-Hawkins gets repealed, or are you not even going there right now? In another words, what do you do?
We always have a plan B. But keep in mind that we operate in 70 different cities in California. So, we’re more diversified than you might think. And as you know, probably the greatest risks are in the more urban type location. And we are a mix of urban and suburban, I think somewhere around 10% of our properties actually are in the urban core. So, we think that there’s just an inherent sort of safety in the portfolio. And I commented previously about concentrations. There’s only 4 cities where we have more than 2,000 units. And so, again, we’re pretty diverse. And so, we’re not hugely impacted under any scenario, although we do look at -- we do have a contingency plan that might target a few cities that we’re most concerned about. So, I wouldn't say we wouldn’t do anything, but I would say that our feeling is we’re pretty well positioned overall.
No home properties in your future, I am gathering, use that as an example?
Probably not. I mean, we did track other metros because we want to make sure that the West Coast is competitive with some of the eastern metros for sure. And like job growth in certain of the eastern metros or pretty appealing of late, but it's really trying to confirm whether our existing property profile is appropriate given the broader U.S. landscape. So, it’s sort of confirmatory. And based on that, looking at supply and demand dynamics, we feel good about the West Coast.
And then, just related, what percentage of your portfolio is condo maps, just as a reminder? And is it concentrated in some of those urban areas where perhaps should Costa-Hawkins gets repealed that certain municipalities would be inclined to follow the rent control sort of mentality. Can you comment on how and where they are at?
I can. Roughly 8,600 units in California are condo and then condo mapping in Seattle is easier than it is in California. In California, if you don't have condo map coming out of the gate, you’re unlikely to get one unless -- may take you many years in order to get one. So, 8,600 of our California portfolio would be the condo map, 15% to 16%. And they tend to be in more of the urban core.
Our next question comes from the line of Wes Golladay from RBC Capital Markets. Please proceed with your question.
I was looking for an update in San Jose, more in particular that large lease at Santa Clara Square. Has that impacted the market and how do you model that delivery and job the next few years?
This is John Eudy. We open that right after the first of the year, as you’re probably aware. And it’s a pretty deep market, a lot of Sunnyvale product burned off on the inventory this year. And we think it's well-positioned to have a pretty good start, come late Q1.
And then, going back to the condo mapping question, would you look to convert the condos as more of a defense for a potential repeal of Prop 10?
We have maps on, like Mike said, roughly 8,600 units, most of which are urban core units we have been developing last 15 years. And we’re always looking at the metrics between NAV value, condo conversion versus as an apartment. So, that optionality is there. We’ll make the right decision at the right time.
Our next question comes from the line of John Pawlowski from Green Street Advisors. Please proceed with your question.
Mike, I understand your comments about the transaction market, only seeing a slowdown in volume, no impact on pricing and high-risk cities of rent control. There is a very real chance, this comes on Costa-Hawkins on a 2020 ballot as well. So, any conversations you and John are having that suggest that the transaction market slowdown cloud be more multiyear in nature and not exactly everything continues on after November 6?
John, it’s Mike. It’s a good question. And honestly, we don't know the answer. As you guys actually pointed out, there is a lot of money in private hands looking for yield. And it’s there, it’s not going away probably anytime soon. So, how much we will transact given the amount of money, searching for quality apartment deals, obviously remains to be seen. I guess, I’m -- I wouldn't be as maybe dire as you’re suggesting as it relates to the transaction market. I mean, conditions can go on a lot longer than we might think before pricing or you see that for you. It would be a guess and I would be speculating. So, I think I will probably just leave it at that. I think that there is no reason to believe that things will change overnight. They generally take significant amount of time to change. And I would guess that it would be at the very earliest, sometime a year from now or something like that.
Okay. On Seattle, and I know this market rent forecast. The acceleration you're calling for in terms of economic rent growth from 2% to 2.9%, are you seeing any leading indicators within your portfolio in Seattle that suggest market rent growth is stabilizing because the pace of deceleration we’re seeing in Seattle you and your peers reports have been pretty persistent deceleration. So, wondering what really causes the conviction and the 100 bps acceleration in market rent growth next year?
What we're seeing to start with on the supply side is, we see the fourth quarter is being pretty heavy with, so that'll be a tough fourth quarter for us now. And then Q1 and Q2, also significant, little bit less and then lightening up quite a bit in Q3 and Q4 in Seattle. We also, when we're looking at where we were for, we're talking to acceleration we have in rent growth this year in S-16, just projecting into ‘19. We're seeing right now on job growth that as I mentioned earlier is that 3.7%, very high job growth this year for the third quarter compared that to last year, last year was a low point. Last year we were down by about 50 basis points -- sorry ‘17, we were down about 50 basis points in job growth and that impacted our ‘18 number. This point being up in job growth in ‘18 and doing -- being very strong, that will actually benefit the ‘19 rental market. There is a little bit of delay between job growth and the rental market. So, it's really that combination of better employment this year with declining supply that will get us to our rent growth numbers. It will be a little tough in the middle though. The fourth quarter is going to be challenge. I’m sure it’ll be noteworthy.
Our next question comes from the line of Tayo Okusanya from Jefferies. Please proceed with your question.
We may have lost Tayo.
Our last question comes from the line of Karin Ford from MUFG Securities.
I know we focused a lot on the occupancy comps for next year but I just want to make sure I understand the rent growth that's earned in from the past leasing season. You said new leases were up 3.5 and renewals were up 4.2 I think in the third quarter. Is that correct? And so, we’re looking at high 3 I guess kind of level of earned in rent growth from the peak leasing season, heading into ‘19, is that correct?
Well, Q3 was strong and that’s what I was trying to articulate that, and part of that relates to the curve changing a bit. 2018 was a normal seasonal pattern and comparing that to 2017 gave us kind of a big pop in Q3. As we go to Q4, we will face more pressure. And loss to lease will largely dry up. And so when you look at ‘18 -- ‘19, we're not giving guidance but we're not in those -- in the high numbers that you talked about. We’ll have the headwinds from the occupancy with the solid rental market, and we'll give guidance later on.
And could you just remind us what percentage of your lease you signed in 3Q?
Yes. I think we had roughly 14% turnover if my memory is right, 6,500 leases and something like that overall. It’s the bigger percentage, it’s meaningful but it’s not -- we still signed quite a few in Q1 and Q4.
Ladies and gentlemen, we have reached the end of the question-and-answer session. And I would like to turn the call back to Michael Schall for closing remarks.
Thank you, Dana. Thank you for your participation on the call today. We look forward to seeing many of you next week in San Francisco at the NAREIT Convention. Have a good day. Thanks for joining the call.
This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.