TEXT-Fitch rates Essex Portfolio L.P.

Fri Mar 16, 2012 2:38pm EDT

March 16 - Fitch Ratings has assigned a 'BBB' rating to the $200 	
million senior unsecured private placement notes issued by Essex Portfolio L.P.,	
the operating partnership of Essex Property Trust, Inc. (NYSE: ESS). 	
	
The private placement notes have a nine-year term and a delayed funding schedule	
as follows:	
--$100 million on April 30, 2012 at a rate of 4.27%;	
--$50 million on June 29, 2012 at a rate of 4.30%;	
--$50 million on August 30, 2012 at a rate of 4.37%.	
	
The company plans to use the proceeds for general corporate purposes including 	
the repayment of a portion of the outstanding balance on its unsecured line of 	
credit.	
	
Fitch currently rates the company as follows:	
	
Essex Property Trust, Inc.	
--Issuer Default Rating (IDR) 'BBB';	
--Preferred stock 'BB+'.	
	
Essex Portfolio L.P.	
--IDR 'BBB';	
--Unsecured revolving credit facility 'BBB';	
--Senior unsecured notes 'BBB';	
--Senior unsecured term loans 'BBB'.	
	
The Rating Outlook is Positive.	
	
The Positive Outlook 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.
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