Welcome to the Essex Company presentations. Good to see you all here. I'm Angela Kleiman, the President and CEO. To my left is Barb Pak, our Chief Financial Officer, and to her left is Rylan Burns, the Chief Investment Officer. I'll just start with a brief company overview and a high-level operations update, then I'll turn it over to Q&A. Essex is an S&P 500 company that is the only dedicated multifamily REIT that focuses on the West Coast markets, and we have generated the highest total return since our IPO and have raised our dividends for 31 consecutive years. We are very pleased with that track record. The key driver of our long-term outperformance is favorable supply-demand fundamentals combined with our capital allocation discipline and unique operating strategy. Let me give you an example as far as the fundamentals side.
Supply, for example, we historically produce well below U.S. levels of housing supply, especially in California. Currently, our supply level is only at 0.5% of total stock compared to the rest of the U.S. New stock is coming in at 1%, 2%, or even higher percentages of total stock. Having said that, the cost of homeownership is two and a half times more expensive. That transition from being a renter to an owner is very difficult for our markets. In this environment, we do not need much job growth to achieve healthy rent growth, but our markets have historically generated some of the strongest job growth numbers, particularly in high-paying sectors. Over the long term, this fundamental backdrop is anticipated to continue, especially with the Center of Innovation and Technology in our Northern California region.
As far as our operating model is concerned, we have produced sector-leading operating margins. If you look online, we have our presentation that shows on page nine. Our operating margin is, on average, 300 basis points above our peers. It is really how we run the business and how we orient certain functionalities. Our disciplined capital allocation means there are times that we would issue equity to grow, and there are times that we actually would sell assets to buy back stock to benefit the company. We are very disciplined about that and generating accretion in all that we do. That discipline to drive cash flow to the bottom line has enhanced that total return for our shareholders. As far as the operating update, just high level, first quarter, we slightly outperformed our expectations, but this is incremental.
Second quarter, currently, we're trending on plan as expected. Certain markets are doing better. Certain markets are remaining soft as we have expected, but overall, we are in good shape. Heading into the peak leasing season, we have strong occupancy level and low levels of concessions, so we are well positioned. With that, I'll turn that over to Q&A.
Yeah, thank you. 2025 has seen sort of a return to form for the West Coast tech markets that had been so negatively impacted by COVID. Can you just give an update on the recovery there?
Sure. No, that's a good question. It's interesting to see how the cycles have performed throughout the different major events. COVID really hit Northern California hard because everything was shut down. People had to leave because they couldn't even find jobs. Where we are today, we are just starting recovery. It is an exciting time for us. You'll see how we made investment decisions and capital allocations. Net-net, rents are only at about 5% above pre-COVID in 2019. That is very muted. Supply is only half a percent of stock, and it's decreasing. Job growth has been steadily improving. Most importantly, even though rents have only grown by 5%, income growth has grown by over 20%.
This is a very unusual dynamic, and I've never seen this in my 30-year career in the business where you have all three major pillars in your favor: supply, affordability, and demand with 85% of technology AI companies based in the Bay Area.
Maybe moving to tariffs. In what ways would you expect tariffs to affect the company?
Yeah, no, that's a great question. I think when we look at it, it's difficult to know because the rules keep changing and what the tariff is moving around. Where we're watching more closely is on the operating expense side and really on the repairs and maintenance side. Are appliances going to cost more, and is it going to cost more just to maintain our buildings? We think if we look at this year, if we do start to see any impact, which we haven't so far, it could start to hit in the fourth quarter, and then really it'll be a 2026 event. Just too difficult to know at this point on the cost side of the equation.
Obviously, we just talked about the tech markets. Can you talk about your expectations for hiring in the tech markets, just given how uncertain the macro is?
The AI side, which is really the sector that's driving job growth, has been steadily increasing. We're seeing now at a level, when you look at open job positions, at a level close to near pre-COVID averages, and that's a great sign. It's continuing. What I mean by that is if I post a job opening, it takes about two to three months for me to actually hire that job. If I post 100 job openings and I fill 50, the next month you will see job openings decline. We've not seen that. We've seen it either stay flat or increasing. That tells us that they're hiring and they're still growing because they're continuing to have either adding to the job openings or they're elevating their needs.
Okay. In contrast to the tech markets, LA's continue to be a struggle. There was a lot of delinquency during COVID that was an issue. We're also starting to see more sort of existential questions given the fires and struggles in the movie business. What's your outlook on LA?
Barb, why don't you talk about delinquency first, and I'll cover the market?
Yeah, so as it relates to delinquency, you're right, Brad. It's been a struggle for five years, but we do see light at the end of the tunnel. Today, our delinquency is at 1.3% in LA. That's a percent of our scheduled rent. A year ago, just to put it in perspective, we were at 3.9% in the first quarter of 2024. So we've made great progress. We've seen the courts go from 12 months to evict down to four months to evict. We're not quite back to pre-COVID levels, but we're getting there. We do see that ultimately being a benefit to the market as it continues to improve towards that long-term average.
Yeah, and as far as our view on the market as a whole, there are a couple of challenges. The film industry has not been doing well. It had been steadily declining since COVID. A lot of the business went to different states or overseas. There is a concerted effort by the legislatures to bring that back. There is hope because at least the conversation is happening. The governor doubled the film industry tax credit from $350 million to $700 million. It's not enough, but it's a good start. Ultimately, what we anticipate is that there has been a $20 billion infrastructure spending announced that's going to start next year for the World Cup and the Olympics to come. That will help stabilize LA as a market.
As we get through delinquency and concurrently build occupancy, you layer on that infrastructure money coming in, which will bring in jobs and construction workers. It will stabilize LA. What happens after that, two to three years, the film industry and that viability will have an impact. If that industry does not return to LA, then what we see is LA will behave similar to the U.S. average. It will grow at that long-term CAGR, somewhere in that 2%-2.25%. That is not bad. It is not a doomsday scenario. The disappointment is that there will not be a robust acceleration, which is what we otherwise would have enjoyed in the past.
Okay. We've seen a lot of sort of unusual leasing season trajectories over the past couple of years because of COVID and just recovery. How does this one look versus a normal pre-COVID leasing season?
Brad, fortunately, we are back to, dare I say it, a normal environment. Last year, we had a normal seasonal curve, which is great. What that means is first quarter and the fourth quarter, that's our seasonal low. Typically, our market peaks around the end of second quarter, middle and the end of second quarter. That is replicating this year. What we are seeing is Seattle, we are expecting that Seattle will peak sometime around between now and the next 10 days, followed by Northern California, which typically peaks between June and around mid to end of June, then Southern California. Things are so far playing out as expected.
How has market-level rent trended versus your expectations?
Market-level rents have trended generally in line with expectations. Just to give you a little more granularity, LA and expectations is in the eye of the beholder, right? Some people expected much better numbers for LA, for example. We did not. We expected LA to be soft, and LA has met our expectations, unfortunately. That is okay. Southern California is generally pretty soft, but Southern California has also had 25% plus growth during COVID years. That is fine. Northern California has been our shiny star with LA, I mean, with San Mateo and Santa Clara leading the pack at slightly above our expectations and Seattle in the middle of the pack.
Okay. You touched on the low supply levels in your markets. Can you just sort of granularly go through the medium-term outlook that you have?
Yeah, supply is a benefit to the West Coast. It's very difficult to entitle and build. We deliver very little supply annually. This year, we're expected to deliver 50 basis points of supply as a percent of stock. When we look at supply, we look at total supply. It's single-family and multifamily. We think it's important that you look at both because single-family is a substitute for the multifamily supply. When we look out next year, we do see supply continue to go down. We're only at 50 basis points this year. We're going down to 40 basis points next year. We expect about a 20% reduction in total supply deliveries, mostly driven by LA and Seattle, two of the bigger markets where supply is going to further abate into 2026.
Okay. Oakland has been a really supply-challenged market for a while now. What's the outlook there?
Yeah, so we're getting through the final throws of the supply deliveries in Oakland this year. I think most of the units have delivered, and they're working through the lease-ups, and most of them are in the final leg of that. I would say with Oakland, the bigger challenge is just the crime and the homelessness and the political factors that are still a challenge in the city. We're hopeful that they'll make progress on that front. I think the supply picture looks much better for the next few years than what we've had for the last few years.
Your suburban asset base and the price point are both differentiated versus a lot of your peers in the same markets. How does that set you up in the current environment?
Our portfolio mix of about 85% suburban and 15% in the downtown is intentional because California is very different compared to New York in that all the major employers are in the suburbs. For example, Google is in Mountain View, Meta is in Menlo Park, Apple is in Cupertino. Having a suburban asset, which most housing decisions is driven by your jobs, is important, and that has benefited us. We do expect that those major employers are the key catalyst to job growth, therefore demand for housing, which we do believe that how we position our portfolio is going to benefit from being close to the job nodes.
Okay. Maybe moving on to capital. What's the best use of incremental capital right now?
The company has been targeting fee simple acquisitions as well as developments. Given the fundamental backdrop that Angela detailed, we have been very active as it relates to deploying capital into our Northern California region. We just started a new development project in the city of South San Francisco, and we have purchased over $1 billion of new acquisitions, relatively new vintage, high-quality locations in the Bay Area where we see a very attractive fundamental backdrop at attractive initial valuations. The other thing we are doing is really targeting asset acquisitions in close proximity to our existing asset base. We have a very unique operating model called the asset collection model where we are generating significant accretion just from operating more efficiently by putting them onto our operating model.
High-level looking at the Bay Area and the Pacific Northwest to deploy incremental capital in close proximity to our existing assets.
On the acquisition front, what cap rates are you seeing in your markets right now? Are the transaction volumes normal, below normal, or above normal?
Yeah, I'll start with the transaction volumes. Last year, we saw about $10 billion of volumes excluding the portfolio transactions. For comparison purposes in 2021 and 2022, that was around $20 billion of volume. Relative to the peak post-COVID when interest rates were quite low, we have seen a decline in volumes, but this is relatively healthy if you look over a longer time period. It feels like a relatively healthy transaction market. Cap rates broadly up and down our market for a well-located, high-quality product is consistently in the mid to high 4% range. There is very little dispersion as it relates to cap rates across our markets. Again, we can do better than that if we're buying close proximity to our existing assets because we can operate them more efficiently.
Okay. You mentioned rotating or putting new capital into Northern California and Seattle. That's come at the expense of Southern California in terms of the dispositions. Is that something that we should continue to expect that you'll sort of reweight the portfolio?
Correct. Yeah, we've done $550 million of acquisitions in the Bay Area year to date, funded primarily through free cash flow as well as two dispositions in our Southern California markets. Each asset disposition typically has a unique story. Where we can do that in an FFO-neutral manner, improve the average age of the portfolio, which we've been able to do, and set us up for better rent growth over the next several years, we're going to continue to target that strategy for the foreseeable future.
Okay. You started your first development in a number of years in the first quarter. What changed about the environment that made you comfortable with pursuing that?
Yeah, that's a good question. Just some backdrop. Our investment team has underwritten approximately 100 land sites a year for the past five years. These are the first development projects that have made sense in several years. The asset in South San Francisco we purchased in 2019, so we have a very attractive land basis. We bid out the project in 2022. Did not make sense. We're looking for at least a 100 basis point premium to where we can buy for shovel-ready, fully entitled sites. That did not make sense in 2022. Hard costs came down approximately 8% between 2022 and 2024, as well as we started to see some positive rent momentum in that specific submarket. It was a combination of factors of really low basis, hard costs coming down.
What we really like about this project, as well as one other land site that we purchased in Mountain View last year, is that we feel very confident that when we deliver these projects, it is going to be in an environment with very limited competitive supply because broadly we are seeing permits come down, other developers back out, and we are trying to be that contrarian investor and developer. We are feeling very excited about the environment in which we will deliver these units.
Okay. Historically, Essex has had a preferred mezzanine sort of book. You guys have been winding that down of late. Can you just talk through the rationale for that and where we would expect that book to level off at?
Yeah, so we have, over the last two years, taken the preferred equity redemption proceeds when we've gotten them back and put them into fee simple acquisitions. We do think it's a better long-term growth and cash flow support for our investor base. The reason we got into this business and grew the platform as much as we did is it didn't pencil to do development. Ground-up development was very expensive. We earned a better risk-adjusted return investing in the preferred equity capital stack position. Today, though, we see different risk-adjusted returns. There's been a lot of capital that's flowed into this segment of the book. It's much more competitive, and rates have come down. We're not earning that same risk-adjusted return that we once were.
For us, taking those proceeds when we get them back and buying wholly owned acquisitions makes a lot more sense. You will see us continue to wind down this book if we can't find the appropriate opportunities. Right now, we're at about a little over $500 million in total book, preferred equity and mezzanine book outstanding. It's about 4% of our core FFO. We have a target of 3%-5%, but that will depend on the opportunities out there. If we see opportunities, we'll move forward, but it's got to be the right position for us.
Okay. Then moving on to valuation. Angela, in your prepared comments, you said sometimes Essex sells equity, sometimes you buy it back. How do you view the current valuation, and which of those would you be more inclined to do today?
Right now, where our stock price is, what we view is we're in a no-man's land. We're not trading at a meaningful premium to NAV. To issue stock to buy assets, it's not going to generate the accretion that we would want. Once again, it's not trading at a significant discount to NAV. Selling assets to buy back stock because there's a frictional cost embedded in there, not compelling. What we have been doing is we have been selling assets at a very attractive price and using those proceeds and, of course, free cash flow from free cash flow and preferred equity redemptions to grow, to buy newer assets in the Bay Area. That's how we've been thinking about capital allocation.
Often on the West Coast, we end up talking about the regulatory environment. Is there anything that you're tracking, either local level, state level, even federal level, that investors should be paying attention to?
We actually have been consistently tracking key legislations, and it has been a positive surprise to us. I think this is the first time I have said this in my 15 years with Essex in that November was almost a moderate sweep in elections. I think that the voters have recognized, and the policymakers as well, that we need to do better as a society, be a little bit more balanced in how we think about legislation and enact programs that are good for businesses and good for the citizens there. An example is recently there was a proposal to essentially replace the rent control that we have in place, which is the AB 1482. That is CPI plus 5%, max of 10%. That is very reasonable. We were supportive of that. Essex has had a self-imposed 10% rent cap forever. There was a proposal to reduce that level.
The proposal, which was started by the committee chair of a housing committee, it did not even make it out of committee. I think that is a dramatic shift to what has happened in the past. It gives us some hope that California is, I will not say that it is becoming moderate, but it is becoming more reasonable. While there are always legislative proposals out there and we track them, we have not seen anything that gives us a concern that it is going to have a major impact.
Okay. That's all the questions I have prepared. Do we have anything from the audience? Sure.
You mentioned you were buying assets that are close to existing assets. How do you address and compensate for those?
That's a great question. California, first of all, is the fourth or fifth largest economy in the world. It's well diversified. It's one state, but it's very diversified. What we do is we operate 9-12 assets as one business unit. The reason we can do that is concentration. While we have this concentration risk of being in only two states, we've converted that concentration into a benefit. Within that 9-12 properties, we'll have all different range of properties because 80% of our properties are within 5 mi of each other. That group will have brand new A all the way to older, more affordable B minus pricing range. That gives us the diversity with which we can operate from.
Running this as a business unit allows us to be very efficient in terms of acquiring the cost of acquiring a new lead, cross-selling, customer service, and then, of course, allows our personnel to be very efficient that way.
Sure.
I. The long-term LA growth scenario you laid out in the instance that the film industry does not come back is interesting. My question, I realize this is a hypothetical, but if that plays out, and the growth profile for LA is very different than your typical West Coast, the reason why you are where you are, how do you think you would look at that? Would you look to maybe exit that market, or is there still value being followed down the coast, even with a lower growth profile?
That's a great question. It's something that we do debate. We have not decided to redline LA because at the end of the day, if you look at our portfolio mix, we're about 40% Northern California, 40% Southern California, and 20% Seattle. We are 60% weighted to high growth environment. Southern California to us mirrors the U.S. with a higher level of professional services and lower supply. In that environment, if you're growing at pretty darn close to long-term CAGR of the national average and you still have a lower supply, people still want to live there, and it has a diversified economy. Unless there's a secular crack in the fundamentals, we don't see a compelling reason to just shift completely out of LA.
Okay. Sure.
What's the state of the German office mandates in your markets, and how is that impacting demand?
Yeah, so it's definitely showing up. We saw it last year in our numbers with Northern California being fairly strong, and we're seeing it again this year. We thought we were through most of it earlier or through last year, but then you see the Googles of the world ungrandfathering remote work, and you're like, well, maybe there's further legs to this demand cycle. What they said is if you were permanently grandfathered to remote, you now have to come back to the office. I do think the tech industry is innovate or die, and they know that, and they're behind on getting their people back to the office. They want to recreate that ecosystem they had pre-COVID. I think there's a concerted effort to get people back to the office. They're laying off remote workers, rehiring back in the Bay Area.
It is definitely happening on multiple fronts. We are seeing it in the demand. If you look at the BLS jobs numbers, Northern California has negative job growth year to date, but it has the best rent growth. Those two dynamics would not be occurring if there is not some other dynamic happening, which we believe is partly due to return to office.
The new acquisitions you're looking at in Northern California, how accretive is it day one? How is it about that rent growth that you think is on the come in year three? Just to clarify my thought, I think it's not an out-of-consensus view about the data you're talking about, right? How much do you look at Southern California and say, look, the realities are if you're able to buy something at a better value, how hard do you compare to other people?
Yeah, it's a great question. We have funded our acquisitions year to date through a combination of free cash flow as well as two dispositions in Southern California. The net effect on the FFO is going to be neutral year one, and we anticipate that to grow, the disparity to grow over the next several years given our fundamental outlook over those two, given what we've said about the fundamentals in Northern California versus Southern California. We underwrite everything that comes into our market. We are looking in Southern California as well. As I mentioned, there's very limited cap rate disparity between the regions at this point in time. If that were to change and we were to see some cap rate expansion, I think that would be a more we would obviously have to underwrite that in a different way. We are not agnostic.
We continue to evaluate every opportunity, and every opportunity has a price at which we would invest. Right now, we think the highest risk-adjusted returns are in the Northern California and the Pacific Northwest regions. Time for one more. Sure.
How do you feel about the climate-related risks and insurance companies kind of moving out of the California market, particularly for wildfires?
Insurance. Yeah, as it relates to insurance in California, I think it's a tale of two markets. You've got the home insurance market, which definitely makes a lot of the news, and that's where a lot of the carriers have left the state. On the commercial side, which is where multifamily sits, it's a different story. We're impacted by national natural disasters, not just wildfires in California. It's one component, but if a hurricane hits in Florida or when the Texas freeze occurred in Texas a few years ago, our premiums could go up, and they did go up. What we're seeing is we saw two big years of big premium increases on the commercial side. This last year, though, we renewed our insurance in December, and we saw a slight premium reduction. That's because the reinsurers carriers came back into the market.
They had left the market for a while. They're now back because premiums are much higher. We are monitoring it closely. We will not be back in the market until the fourth quarter. So far, what we are hearing is that the wildfires in LA are not necessarily affecting the commercial premium. The home residential market is a different story, and I think there are some challenges there.
Okay. The red light's going to turn on right now.
Thank you all very much.