1 FORM 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 (X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 1998 OR ( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _____ to _____ Commission File No. 1-13106 ESSEX PROPERTY TRUST, INC. (Exact name of Registrant as specified in its Charter) Maryland 77-0369576 (State or other jurisdiction (I.R.S. Employer of incorporation or organization) Identification No.) 925 E. Meadow Drive, Palo Alto, California 94303 (Address of principal executive offices) (Zip code) (650) 494-3700 (Registrant's telephone number, including area code) Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months for such shorter period that the Registrant was required to file such report, and (2) has been subject to such filing requirements for the past 90 days. Yes X No ---- ---- APPLICABLE ONLY TO CORPORATE ISSUERS: Indicate the number of shares outstanding of each of the issuer's classes of Common Stock, as of the latest practicable date: 16,635,966 shares of Common Stock as of August 12, 1998
2 INDEX <TABLE> <CAPTION> Exhibit Number Description Page Number - ------ ----------- ----------- <S> <C> <C> PART I: FINANCIAL INFORMATION Item 1: Financial Statements (Unaudited) 3 Consolidated Balance Sheets as of June 30, 1998 and December 31, 1997 4 Consolidated Statements of Operations for the three months ended June 30, 1998 and 1997 5 Consolidated Statements of Operations for the six months ended June 30, 1998 and 1997 6 Consolidated Statements of Stockholders' Equity for the six months ended June 30, 1998 and the year ended December 31, 1997 7 Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 1998 and 1997 8 Notes to Consolidated Financial Statements 9 Item 2: Management's Discussion and Analysis of Financial Condition and Results of Operations 12 PART II: OTHER INFORMATION Item 2: Changes in Securities and Use of Proceeds 19 Item 4: Submission of Matters to a Vote of Security Holders 19 Item 5: Other Information 20 Item 6: Exhibits and Reports on Form 8-K 21 Signatures 22 </TABLE> Page 2 of 22
3 PART I FINANCIAL INFORMATION ITEM 1: FINANCIAL STATEMENTS (UNAUDITED) "Essex" or "The Company" means Essex Property Trust, Inc., a real estate investment trust incorporated in the State of Maryland, or where the context otherwise requires, Essex Portfolio, L.P., a limited partnership in which Essex Property Trust, Inc. is the sole general partner. The information furnished in the accompanying consolidated unaudited balance sheets, statements of operations, stockholders' equity and cash flows of Essex reflects all adjustments which are, in the opinion of management, necessary for a fair presentation of the aforementioned financial statements for the interim periods. The accompanying unaudited financial statements should be read in conjunction with the notes to such financial statements and Management's Discussion and Analysis of Financial Condition and Results of Operations. Page 3 of 22
4 ESSEX PROPERTY TRUST, INC. Consolidated Balance Sheets (Unaudited) (Dollars in thousands) <TABLE> <CAPTION> June 30, December 31, 1998 1997 --------- --------- <S> <C> <C> Assets Real estate: Rental properties: Land and land improvements $ 219,004 $ 182,416 Buildings and improvements 652,593 548,571 --------- --------- 871,597 730,987 Less accumulated depreciation (66,866) (58,040) --------- --------- 804,731 672,947 Investments 9,746 2,347 Real estate under development 30,547 27,422 --------- --------- 845,024 702,716 Cash and cash equivalents-unrestricted 4,973 4,282 Restricted cash 14,979 6,093 Notes and other related party receivables 10,813 9,264 Notes and other receivables 9,927 8,602 Prepaid expenses and other assets 12,518 3,838 Deferred charges, net 5,581 4,040 --------- --------- $ 903,815 $ 738,835 ========= ========= Liabilities and Stockholders' Equity Mortgage notes payable $ 298,867 $ 248,997 Lines of credit 43,672 27,600 Accounts payable and accrued liabilities 36,038 21,337 Dividends payable 11,799 9,189 Deferred gain 5,002 -- Other liabilities 5,171 4,208 --------- --------- Total liabilities 400,549 311,331 Minority interests 106,253 28,589 Stockholders' equity: 8.75% Convertible Preferred Stock, Series 1996A: $.0001 par value, 1,600,000 authorized, issued, and outstanding 1 1 Common stock, $.0001 par value per share, 668,400,000 and 668,400,000 authorized, 16,634,066 and 16,614,687 issued and outstanding 2 2 Excess stock, $.0001 par value per share, 330,000,000 shares authorized, no shares issued or outstanding -- -- Additional paid-in capital 431,143 430,804 Accumulated deficit (34,133) (31,892) --------- --------- Total stockholders' equity 397,013 398,915 --------- --------- $ 903,815 $ 738,835 ========= ========= </TABLE> See accompanying notes to the consolidated unaudited financial statements. Page 4 of 22
5 ESSEX PROPERTY TRUST, INC. Consolidated Statements of Operations (Unaudited) (Dollars in thousands, except per share amounts) <TABLE> <CAPTION> Three months ended ----------------------------------- June 30, June 30, 1998 1997 ------------ ------------ <S> <C> <C> Revenues: Rental $ 30,273 $ 18,353 Interest and other income 1,411 1,227 ------------ ------------ 31,684 19,580 ------------ ------------ Expenses: Property operating expenses Maintenance and repairs 2,460 1,593 Real estate taxes 2,231 1,480 Utilities 1,891 1,142 Administrative 2,230 1,200 Advertising 470 282 Insurance 335 226 Depreciation and amortization 5,632 3,220 ------------ ------------ 15,249 9,143 ------------ ------------ Interest 5,217 2,867 Amortization of deferred financing costs 197 128 General and administrative 1,016 535 ------------ ------------ Total expenses 21,679 12,673 ------------ ------------ Income before gain on sales of real estate, minority interests and extraordinary item 10,005 6,907 Gain on sales of real estate -- 414 ------------ ------------ Income before minority interests and extraordinary item 10,005 7,321 Minority interests (2,457) (963) ------------ ------------ Income before extraordinary item 7,548 6,358 Extraordinary item: Loss on early extinguishment of debt -- (104) ============ ============ Net income $ 7,548 $ 6,254 ============ ============ Per share data: Basic: Income before extraordinary item $ 0.40 $ 0.44 Extraordinary item - debt extinguishment 0.00 (0.01) ------------ ------------ Net income $ 0.40 $ 0.43 ============ ============ Weighted average number of shares outstanding during the period 16,632,561 13,538,186 ============ ============ Diluted: Income before extraordinary item $ 0.40 $ 0.43 Extraordinary item - debt extinguishment 0.00 (0.01) ------------ ------------ Net income $ 0.40 $ 0.42 ============ ============ Weighted average number of shares outstanding during the period 16,847,830 13,728,794 ============ ============ Dividend per share $ 0.500 $ 0.435 ============ ============ </TABLE> See accompanying notes to the consolidated unaudited financial statements. Page 5 of 22
6 ESSEX PROPERTY TRUST, INC. Consolidated Statements of Operations (Unaudited) (Dollars in thousands, except per share amounts) <TABLE> <CAPTION> Six months ended ----------------------------------- June 30, June 30, 1998 1997 ------------ ------------ <S> <C> <C> Revenues: Rental $ 56,803 $ 35,709 Interest and other income 2,717 2,422 ------------ ------------ 59,520 38,131 ------------ ------------ Expenses: Property operating expenses Maintenance and repairs 4,728 3,087 Real estate taxes 4,418 2,902 Utilities 3,608 2,280 Administrative 4,133 2,352 Advertising 848 552 Insurance 635 464 Depreciation and amortization 10,301 6,308 ------------ ------------ 28,671 17,945 ------------ ------------ Interest 9,014 6,230 Amortization of deferred financing costs 341 255 General and administrative 1,834 1,051 ------------ ------------ Total expenses 39,860 25,481 ------------ ------------ Income before gain on sales of real estate, minority interests and extraordinary item 19,660 12,650 Gain on sales of real estate -- 414 ------------ ------------ Income before minority interests and extraordinary item 19,660 13,064 Minority interests (4,187) (1,838) ------------ ------------ Income before extraordinary item 15,473 11,226 Extraordinary item: Loss on early extinguishment of debt -- (104) ------------ ------------ Net income $ 15,473 $ 11,122 ============ ============ Per share data: Basic: Income before extraordinary item $ 0.83 $ 0.82 Extraordinary item - debt extinguishment 0.00 (0.01) ------------ ------------ Net income $ 0.83 $ 0.81 ============ ============ Weighted average number of shares outstanding during the period 16,625,413 12,571,765 ============ ============ Diluted: Income before extraordinary item $ 0.81 $ 0.81 Extraordinary item - debt extinguishment 0.00 (0.01) ------------ ------------ Net income $ 0.81 $ 0.80 ============ ============ Weighted average number of shares outstanding during the period 16,852,987 12,764,918 ============ ============ Dividend per share $ 0.950 $ 0.870 ============ ============ </TABLE> See accompanying notes to the consolidated unaudited financial statements. Page 6 of 22
7 ESSEX PROPERTY TRUST, INC. Consolidated Statements of Stockholders' Equity For the six months ended June 30, 1998 and the year ended December 31, 1997 (Unaudited) (Dollars and shares in thousands) <TABLE> <CAPTION> Preferred stock Common stock Additional -------------------- -------------------- paid - in Accumulated Shares Amount Shares Amount capital deficit Total --------- --------- --------- --------- ---------- ----------- --------- <S> <C> <C> <C> <C> <C> <C> <C> Balances at December 31, 1996 800 $ 1 11,592 $ 1 $ 256,106 $ (33,301) $ 222,807 Net proceeds from preferred stock offering 800 -- -- -- 20,000 -- 20,000 Net proceeds from common stock offerings -- -- 4,995 1 154,012 -- 154,013 Net proceeds from options exercised -- -- 28 -- 686 -- 686 Net income -- -- -- -- -- 29,316 29,316 Dividends declared -- -- -- -- -- (27,907) (27,907) --------- --------- --------- --------- --------- --------- --------- Balances at December 31, 1997 1,600 1 16,615 2 430,804 (31,892) 398,915 Shares issued from Dividend Reinvestment Plan -- -- 2 -- -- -- -- Net proceeds from options exercised -- -- 17 -- 339 -- 339 Net income -- -- -- -- -- 15,473 15,473 Dividends declared -- -- -- -- -- (17,714) (17,714) --------- --------- --------- --------- --------- --------- --------- Balances at June 30, 1998 1,600 $ 1 16,634 $ 2 $ 431,143 $ (34,133) $ 397,013 ========= ========= ========= ========= ========= ========= ========= </TABLE> See accompanying notes to the consolidated unaudited financial statements Page 7 of 22
8 ESSEX PROPERTY TRUST, INC. Condensed Consolidated Statements of Cash Flows (Unaudited) (Dollars in thousands) <TABLE> <CAPTION> Six months ended --------------------- June 30, June 30, 1998 1997 --------- --------- <S> <C> <C> Net cash provided by operating activities $ 28,223 $ 22,853 --------- --------- Cash flows from investing activities: Additions to rental properties (126,632) (93,267) Additions to restricted cash (8,886) -- Dispositions of rental properties 15,842 3,339 Additions to notes receivable (593) (785) Additions to real estate under development (10,987) -- Investments in corporations and limited partnerships 461 (30) --------- --------- Net cash used in investing activities (130,795) (90,743) --------- --------- Cash flows from financing activities: Proceeds from mortgage and other notes payable and lines of credit 150,347 34,420 Repayment of mortgage and other notes payable and lines of credit (102,848) (48,050) Additions to deferred charges (1,882) (368) Additions to related party notes and other receivables (2,696) (23,527) Repayment of related party notes and other receivables 1,147 14,360 Decrease in offering related accounts payable (110) (887) Net proceeds from convertible preferred stock sale -- 20,000 Net proceeds from follow-on offerings -- 58,039 Net proceeds from perpetual preferred units sale 77,775 -- Net proceeds from stock options exercised 339 338 Distributions to minority interest/partners (2,213) (1,614) Dividends paid (16,596) (11,893) --------- --------- Net cash provided by financing activities 103,263 40,818 --------- --------- Net increase (decrease) in cash and cash equivalents 691 (27,072) Cash and cash equivalents at beginning of period 4,282 46,899 --------- --------- Cash and cash equivalents at end of period $ 4,973 $ 19,827 ========= ========= Supplemental disclosure of cash flow information: Cash paid for interest net of amount capitalized $ 8,236 $ 6,148 ========= ========= Supplemental disclosure of non-cash investing and financing activities: Mortgage notes payable assumed in connection with purchase of real estate $ 18,443 $ 40,222 ========= ========= Dividends payable $ 11,799 $ 7,220 ========= ========= </TABLE> See accompanying notes to the consolidated unaudited financial statements. Page 8 of 22
9 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 1998 AND 1997 (UNAUDITED) (DOLLARS IN THOUSANDS, EXCEPT FOR PER SHARE AND PER UNIT AMOUNTS) (1) ORGANIZATION AND BASIS OF PRESENTATION The unaudited consolidated financial statements of Essex are prepared in accordance with generally accepted accounting principles for interim financial information and in accordance with the instructions to Form 10-Q. In the opinion of management, all adjustments necessary for a fair presentation of the financial position, results of operations and cash flows for the periods presented have been included and are normal and recurring in nature. These unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements included in the Company's annual report on Form 10-K for the year ended December 31, 1997. The consolidated financial statements for the six months ended June 30, 1998 and 1997 include the accounts of the Company and Essex Portfolio, L.P. (the "Operating Partnership", which holds the operating assets of the Company). The Company is the sole general partner in the Operating Partnership, owning an 89.9%, 89.9% and 87.9% general partnership interest as of June 30, 1998, December 31, 1997 and June 30, 1997, respectively. All significant intercompany balances and transactions have been eliminated in the consolidated financial statements. (2) SIGNIFICANT TRANSACTIONS (A) Equity Transactions On April 20, 1998 the Operating Partnership sold 400,000 units of its 7.875% Series B Cumulative Redeemable Preferred Units ("Perpetual Preferred Units") to an institutional investor in a private placement, at a price of $50.00 per unit. The net proceeds from this offering were $19,500. This preferred equity is included in minority interests in the Company's consolidated balance sheet at June 30, 1998. (B) Acquisitions (i) On April 1, 1998, the Company acquired Bunker Hill Towers, a 456-unit apartment high-rise community located in Los Angeles, California, for a contract price of approximately $36.5 million. In connection with this acquisition, the Company assumed an approximate $18.4 million, 7.39% fixed rate loan. The loan matures in November 2007. The community features a swimming pool, tennis courts, an exercise facility, and spa. (ii) On April 3, 1998, the Company acquired Cochran Apartments, a 58-unit apartment community located in Los Angeles, California, for a contract price of $5.4 million. The community features a swimming pool, an exercise facility, and spa. These second quarter 1998 acquisitions were funded with proceeds from the Operating Partnership's April 1998 Perpetual Preferred Units offering, the assumed loan as indicated above, and the Company's lines of credit. (C) Development Activities In May 1998, the Company broke ground on the Canyon Point development, located in San Ramon, California. The development involves the construction of a 114 unit multifamily community. This development is adjacent to The Shores, a 348 unit apartment community which the Company Page 9 of 22
10 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 1998 AND 1997 (UNAUDITED) (DOLLARS IN THOUSANDS, EXCEPT FOR PER SHARE AND PER UNIT AMOUNTS) currently owns. The total estimated capitalized cost for the community is $15,700. This community will feature outstanding views, individual access garages, nine-foot ceilings, and ground floor entry. In May 1998, the Company entered into a contract to purchase a 132 unit multifamily community currently under construction in San Jose, California. The estimated total capitalized cost for the community is $18,500. The Company's acquisition is scheduled to close upon completion of the project in March 1999. The community features a swimming pool, spa, exercise facility, clubhouse, and a business center. (D) Debt Related Transactions On May 11, 1998, the Company executed an agreement to replace multiple secured and unsecured credit facilities with an unsecured revolving line of credit for an aggregate amount of $100,000, which expires on May 11, 2000, and bears interest at LIBOR + 1.15% on outstanding balances. (E) Other - Earthquake Insurance On June 13, 1998, the Company increased the per location and aggregate limits, the deductible, and the self-insured retention amount of its earthquake insurance policy. The insurance coverage now provides for an aggregate limit of $40,000, payable upon a covered loss in excess of a $7,500 self-insured retention amount. The insurance also provides for a per building deductible of 5% in California, and 2% in Oregon and Washington. (3) RELATED PARTY TRANSACTIONS All general and administrative expenses of the Company and Essex Management Corporation ("EMC") are initially borne by the Company, with a portion subsequently allocated to EMC. Expenses allocated to EMC for the three and six months ended June 30, 1998 totaled $61 and $137, respectively, and are reflected as a reduction in general and administrative expenses in the accompanying consolidated statements of operations. Rental income in the accompanying consolidated statements of operations includes related party rents earned from space leased to The Marcus & Millichap Company ("M&M"), including operating expense reimbursement, of $229 and $430 for the three and six months ended June 30, 1998, respectively, and $172 and $343 for the three and six months ended June 30, 1997, respectively. Other income for the three and six months ended June 30, 1998 includes interest income of $330 and $535, respectively, earned principally under notes receivable from the partnerships which collectively own Highridge Apartments, a 255 unit multifamily property located in Rancho Palos Verde, California ("Highridge"), the partnerships which collectively own an approximate 30.7% minority interest in Pathways Apartments, a 296 unit multifamily property located in Long Beach, California ("Pathways") and from the note receivable from Essex Fidelity I Corporation. For the three and six months ended June 30, 1998, the Company earned $0 and $196, respectively, of dividend income from Essex Sacramento Corporation and Essex Fidelity I Corporation combined. In addition, Essex earned management fee income of $100 and $205 for the three and six months ended June 30, 1998, respectively, from Anchor Village, Highridge, Pathways, and the partnerships which collectively own the three retail shopping centers located in the Portland, Oregon metropolitan area. Page 10 of 22
11 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 1998 AND 1997 (UNAUDITED) (DOLLARS IN THOUSANDS, EXCEPT FOR PER SHARE AND PER UNIT AMOUNTS) Notes and other related party receivables as of June 30, 1998 and December 31, 1997 consist of the following: <TABLE> <CAPTION> June 30, December 31, 1998 1997 ------- ------- <S> <C> <C> Notes and other related party receivables: Note receivable from Highridge Apartments secured, bearing interest at 9%, due March, 2008 $ 2,750 $ 2,750 Notes receivable from Fidelity I, secured, bearing interest at 12%, due December 1998 1,580 1,580 Note receivable from Fidelity I and JSV, secured, bearing interest at 9.5%-10%, due 2015 1,026 726 Notes receivable from Highridge Apartments, non-interest bearing, due on demand 2,604 1,699 Loans to officers, bearing interest at 8%, due April 2006 375 375 Other related party receivables, substantially due on demand 2,478 2,134 ------- ------- $10,813 $ 9,264 ======= ======= </TABLE> Other related party receivables consist primarily of accrued interest income on related party notes receivables and loans to officers, advances and accrued management fees from joint venture partnerships, and unreimbursed expenses due from EMC. (4) NEW ACCOUNTING PRONOUNCEMENTS: In June 1997, the FASB issued Financial Accounting Standard No. 130 (SFAS130), Reporting Comprehensive Income. SFAS 130 is effective with the year-end 1998 financial statements; however, the total comprehensive income is required in the financial statements for interim periods beginning in 1998. In June 1997, the FASB issued Financial Accounting Standard No. 131, Disclosure About Segments of An Enterprise and Related Information. SFAS 131 is effective with the year-end 1998 financial statements. In February 1998, the FASB issued Financial Accounting Standards No. 132, Employees' Disclosures about Pensions and Other Postretirement Benefits. SFAS 132 is effective with the year-end 1998 Financial Statements. Management believes that the adoption of these statements will not have a material impact on the Company's financial statements. (5) NET INCOME PER SHARE: Net income per share in the accompanying consolidated statements of operations is calculated for the three months ended June 30, 1998 and 1997, respectively, by dividing net income applicable to the holders of the Company's Common Stock ("Common Stockholders") of $6,673 and $5,763 by the weighted average shares outstanding during the period. Net income applicable to Common Stockholders is calculated by deducting preferred dividends of $875 and $491 for the three months ended June 30, 1998 and 1997, respectively, from net income. Page 11 of 22
12 Net income per share in the accompanying consolidated statements of operations is calculated for the six months ended June 30, 1998 and 1997, respectively, by dividing net income applicable to Common Stockholders of $13,723 and $10,193 by the weighted average shares outstanding during the period. Net income applicable to Common Stockholders is calculated by deducting preferred dividends of $1,750 and $929 for the six months ended June 30, 1998 and 1997, respectively, from net income. ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION The following discussion is based primarily on the consolidated financial statements of Essex Property Trust, Inc. ("Essex" or the "Company") as of June 30, 1998 and 1997 and for the three and six months ended June 30, 1998 and 1997. This information should be read in conjunction with the accompanying consolidated financial statements and notes thereto. These financial statements include all adjustments which are, in the opinion of management, necessary to reflect a fair statement of the results and all such adjustments are of a normal recurring nature. Substantially all of the assets of Essex are held by, and substantially all of the operations of Essex are conducted through, Essex Portfolio, L.P. (the "Operating Partnership"). Essex is the sole general partner of the Operating Partnership and, as of June 30, 1998 and 1997, owned an 89.9% and 87.9% general partnership interest in the Operating Partnership, respectively. The Company has elected to be treated as a real estate investment trust (a "REIT") for federal income tax purposes. Certain statements in this "Management's Discussion and Analysis of Financial Condition and Results of Operations," and elsewhere in the quarterly report on Form 10-Q which are not historical facts may be considered forward looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities and Exchange Act of 1934, as amended, including statements regarding the Company's expectations, hopes, intentions, beliefs and strategies regarding the future. Forward looking statements include statements regarding potential acquisitions and developments, the anticipated performance of future acquisitions, recently completed acquisitions and developments and existing properties, and statements regarding the Company's financing activities. Such forward-looking statements involve known and unknown risks, uncertainties and other factors including, but not limited to, those risks, special considerations, and other factors discussed under the caption "Other Matters" in Item 1 of the Company's Annual Report on Form 10-K for the year ended December 31, 1997, and those other risk factors and special considerations set forth in Essex's other filings with the Securities and Exchange Commission (the "SEC") which may cause the actual results, performance or achievements of Essex to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. GENERAL BACKGROUND Essex's revenues are generated primarily from multifamily residential and commercial property operations, which accounted for 97% and 96% of its revenues for the six months ended June 30, 1998 and 1997, respectively. Essex's properties (the "Properties") are located in California, Washington and Oregon. Occupancy levels of the multifamily residential Properties in these markets have generally remained high (averaging over 95% for the last five years). Essex has elected to be treated as a real estate investment trust ("REIT") for federal income tax purposes, commencing with the year ended December 31, 1994. In order to maintain compliance with REIT tax rules, Essex provides some of its fee-based asset management and disposition services as well as third-party property management and leasing services through Essex Management Corporation ("EMC"). Essex owns 100% of EMC's 19,000 shares of non-voting preferred stock. Executives of Essex own 100% of EMC's 1,000 shares of common stock. Page 12 of 22
13 Since the Company's initial public offering (the "IPO") in June 1994, the Company has acquired ownership interests in forty-eight multifamily residential properties, of which thirty-one are located in California, sixteen are located in Washington and one is located in Oregon. In aggregate, these acquisitions consist of a total of 9,382 units and had a total capitalized cost of approximately $696.8 million. As part of its active portfolio management strategy, the Company has sold, since its IPO, five multifamily residential properties in Northern California consisting of a total of 579 units and six retail shopping centers in the Portland, Oregon metropolitan area at an aggregate gross sales price of approximately $59.0 million resulting in net aggregate gain recognition of approximately $13.6 million. Average financial occupancy rates ( the percentage resulting from dividing actual rents by total possible rents as determined by valuing occupied units at contractual rates and vacant units at market rents) of the Company's multifamily properties on a same-property basis decreased to 95.7% for the three months ended June 30, 1998 from 96.1% for the three months ended June 30, 1997. The regional breakdown of such financial occupancy for the three months ended June 30, 1998 and 1997 is as follows: <TABLE> <CAPTION> June 30, June 30, 1998 1997 ---- ---- <S> <C> <C> Northern California 97.2% 97.3% Pacific Northwest 94.1% 96.6% Southern California 94.3% 92.3% </TABLE> The Company's commercial properties were 100% occupied (based on square footage) as of June 30, 1998. RESULTS OF OPERATIONS Comparison of the Three Months Ended June 30, 1998 to the Three Months Ended June 30, 1997. Total Revenues increased by $12,104,000 or 61.8% to $31,684,000 in the second quarter of 1998 from $19,580,000 in the second quarter of 1997. The following table sets forth a breakdown of these revenue amounts, including the revenues attributable to properties that Essex owned for both of the quarters ended June 30, 1998 and 1997 ("Quarterly Same Store Properties"). <TABLE> <CAPTION> Three Months Ended June 30, ------------------- Dollar Percentage 1998 1997 Change Change ------- ------- ------- ----- Number of Properties ---------- <S> <C> <C> <C> <C> <C> Rental income Same Store Properties Northern California 13 $ 8,802 $ 8,019 $ 783 9.8% Pacific Northwest 12 5,450 5,231 219 4.2 Southern California 5 2,783 2,634 149 5.7 Commercial 1 554 430 124 28.8 ------- ------- ------- ------- ----- Total Same Store Properties 31 17,589 16,314 1,275 7.8% ======= Properties acquired/disposed of subsequent to January 1, 1997 12,684 2,039 10,645 522.1% ------- ------- ------- ----- Total rental income 30,273 18,353 11,920 64.9 Interest and other income 1,411 1,227 184 15.0 ------- ------- ------- ----- Total revenues $31,684 $19,580 $12,104 61.8% ======= ======= ======= ===== </TABLE> As set forth in the above table, $10,645,000 of the $12,104,000 increase in total revenues is attributable to properties acquired or disposed of subsequent to January 1, 1997. During this period, Essex acquired interests in thirty-four multifamily properties (the "Acquisition Properties"), and disposed of one multifamily property and six retail shopping centers (the "Disposition Properties"). Page 13 of 22
14 Of the increase in total revenues, $1,275,000 is attributable to increases in rental income from the Quarterly Same Store Properties. Rental income from the Quarterly Same Store Properties increased by $1,275,000 or 7.8% to $17,589,000 in the second quarter of 1998 from $16,314,000 in the second quarter of 1997. The majority of this increase was attributable to the thirteen multifamily Quarterly Same Store Properties located in Northern California, the rental income of which increased by $783,000 or 9.8% to $8,802,000 in the second quarter of 1998 from $8,019,000 in the second quarter of 1997. This $783,000 increase is primarily attributable to rental rate increases as offset by a decrease in financial occupancy to 97.2% in the second quarter of 1998 from 97.3% in the second quarter of 1997. The twelve multifamily Quarterly Same Store Properties located in the Pacific Northwest accounted for the next largest regional component of the Quarterly Same Store Properties rental income increase. The rental income of these properties increased by $219,000 or 4.2% to $5,450,000 in the second quarter of 1998 from $5,231,000 in the second quarter of 1997. This $219,000 increase is primarily attributable to rental rate increases as offset by a decrease in financial occupancy to 94.1% in the second quarter of 1998 from 96.6% in the second quarter of 1997. The five multifamily Quarterly Same Store Properties located in Southern California also contributed towards the Quarterly Same Store Properties rental income increase. The rental income of these properties increased by $149,000 or 5.7% to $2,783,000 in the second quarter of 1998 from $2,634,000 in the second quarter of 1997. The $149,000 increase is attributable to rental rate increases and an increase in financial occupancy to 94.3% in the second quarter of 1998 from 92.3% in the second quarter of 1997. The increase in total revenue also reflected an increase of $184,000 attributable to interest and other income, the most significant component of which relates to other property income from the Acquisition Properties. Total Expenses increased by $9,006,000 or approximately 71.1% to $21,679,000 in the second quarter of 1998 from $12,673,000 in the second quarter of 1997. Interest expense increased by $2,350,000 or 82.0% to $5,217,000 in the second quarter of 1998 from $2,867,000 in the second quarter of 1997. Such increase was primarily due to the net addition of outstanding mortgage debt in connection with property and investment acquisitions. Property operating expenses, exclusive of depreciation and amortization, increased by $3,694,000 or 62.4% to $9,617,000 in the second quarter of 1998 from $5,923,000 in the second quarter of 1997. Of such increase, $3,889,000 was attributable to the Acquisition Properties and the Disposition Properties. General and administrative expenses represents the costs of Essex's various acquisition and administrative departments as well as partnership administration and non-operating expenses. Such expenses increased by $481,000 in the second quarter of 1998 from the amount for the second quarter of 1997. This increase is largely due to additional staffing requirements resulting from the growth of Essex. Net income increased by $1,294,000 to $7,548,000 in the second quarter of 1998 from $6,254,000 in the second quarter of 1997. The increase in net income was primarily a result of the net contribution of the Acquisition Properties and the increase in net operating income from the Quarterly Same Store Properties, as offset by a decrease in operating income attributable to the Disposition Properties. RESULTS OF OPERATIONS Comparison Of The Six Months Ended June 30, 1998 To Six Months Ended June 30, 1997. Total Revenues increased by $21,389,000 or 56.1% to $59,520,000 in the first six months of 1998 from $38,131,000 in the first six months of 1997. The following table sets forth a breakdown of these revenue amounts, including the revenues attributable to properties that Essex owned for both of the six months ended June 30, 1998 and 1997 ("Same Store Properties"). Page 14 of 22
15 <TABLE> <CAPTION> Six Months Ended June 30, Dollar Percentage 1998 1997 Change Change ------- ------- ------- ----- Number of Properties ---------- <S> <C> <C> <C> <C> <C> Rental income Same Store Properties Northern California 11 $16,212 $14,649 $ 1,563 10.7% Pacific Northwest 12 10,778 10,373 405 3.9 Southern California 3 4,086 3,881 205 5.3 Commercial 1 1,040 852 188 22.1 ---- ------- ------- ------- ----- Total Same Store Properties 27 32,116 29,755 2,361 7.9% ==== Properties acquired/disposed of subsequent to January 1, 1997 24,687 5,954 18,733 314.6% ------- ------- ------- ----- Total rental income 56,803 35,709 21,094 59.1 Interest and other income 2,717 2,422 295 12.2 ------- ------- ------- ----- Total revenues $59,520 $38,131 $21,389 56.1% ======= ======= ======= ===== </TABLE> As set forth in the above table, $18,733,000 of the $21,389,000 increase in total revenues is attributable to the Acquisition Properties and the Disposition Properties. Of the increase in total revenues, $2,361,000 is attributable to increases in rental income from the Same Store Properties. Rental income from the Same Store Properties increased by $2,361,000 or 7.9% to $32,116,000 in the first six months of 1998 from $29,755,000 in the first six months of 1997. The majority of this increase was attributable to the eleven multifamily Same Store Properties located in Northern California, the rental income of which increased by $1,563,000 or 10.7% to $16,212,000 in the first six months of 1998 from $14,649,000 in the first six months of 1997. This $1,563,000 increase is primarily attributable to rental rate increases as offset by a decrease in financial occupancy to 97.2% in the first six months of 1998 from 97.3% in the first six months of 1997. The twelve multifamily Same Store Properties located in the Pacific Northwest accounted for the next largest regional component of the Same Store Properties rental income increase. The rental income of these properties increased by $405,000 or 3.9% to $10,778,000 in the first six months of 1998 from $10,373,000 in the first six months of 1997. This $405,000 increase is attributable to rental rate increases as offset by a decrease in financial occupancy to 94.1% in the first six months of 1998 from 96.6% in the first six months of 1997. The three multifamily Same Store Properties located in Southern California also contributed towards the Same Store Properties rental income increase. The rental income of these properties increased by $205,000 or 5.3% to $4,086,000 in the first six months of 1998 from $3,881,000 in the first six months of 1997. The $205,000 increase is attributable to rental rate increases and an increase in financial occupancy to 94.3% in the first six months of 1998 from 93.7% in the first six months of 1997. The increases in total revenue also reflected an increase of $295,000 attributable to interest and other income, the most significant component relates to other property income from the Acquisition Properties. Total Expenses increased by $14,379,000 or approximately 56.4% to $39,860,000 in the first six months of 1998 from $25,481,000 in the first six months of 1997. Interest expense increased by $2,784,000 or 44.7% to $9,014,000 in the first six months of 1998 from $6,230,000 in the first six months of 1997. Such interest expense increase was primarily due to the net addition of outstanding mortgage debt in connection with property and investment acquisitions. Property operating expenses, exclusive of depreciation and amortization, increased by $6,733,000 or 57.9% to $18,370,000 in the first six months of 1998 from $11,637,000 in the first six months of 1997. Of such increase, $6,791,000 was attributable to the Acquisition Properties and the Disposition Properties. General and administrative expenses represents the costs of Essex's various acquisition and administrative departments as well as partnership administration and non-operating expenses. Such expenses increased by $783,000 in the first six months of 1998 from the amount for the first six months of 1997. This increase is largely due to additional staffing requirements resulting from the growth of Essex. Page 15 of 22
16 Net income increased by $4,351,000 to $15,473,000 in the first six months of 1998 from $11,122,000 in the first six months of 1997. The increase in net income was primarily a result of the net contribution of the Acquisition Properties and an increase in net operating income from the Same Store Properties, as offset by a decrease in operating income attributable to the Disposition Properties. LIQUIDITY AND CAPITAL RESOURCES At June 30, 1998, Essex had $4,973,000 of unrestricted cash and cash equivalents. The Company expects to meet its short-term liquidity requirements by using its working capital, cash generated from operations, amounts available under lines of credit, and the proceeds from the disposition of properties that may be sold from time to time. The Company believes that its future net cash flows will be adequate to meet operating requirements and to provide for payment of dividends by the Company in accordance with REIT requirements. Essex has credit facilities in the committed amount of approximately $110,000,000. At June 30, 1998 Essex had $43,672,000 outstanding on its lines of credit, with interest rates during the second quarter of 1998 ranging from 6.9% to 7.3%. Essex expects to meet its long-term liquidity requirements relating to property acquisition and development (beyond the next 12 months) by using working capital, amounts available on lines of credit, net proceeds from public and private debt and equity issuances, and proceeds from the disposition of properties that may be sold from time to time. There can, however, be no assurance that Essex will have access to the debt and equity markets in a timely fashion to meet long-term liquidity requirements or that future working capital, and borrowings under the lines of credit will be available, or if available, will be sufficient to meet the Company's requirements or that the Company will be able to dispose of properties in a timely manner and under terms and conditions that the Company deems acceptable. Essex's unrestricted cash balance increased by $691,000 from $4,282,000 as of December 31, 1997 to $4,973,000 as of June 30, 1998. This increase was primarily a result of $103,263,000 of cash provided by financing activities and $28,223,000 of cash provided by operating activities, which were reduced by $130,795,000 of cash used in investing activities. Of the $130,795,000 net cash used in investing activities, $126,632,000 was used to purchase and upgrade rental properties, $3,125,000 was used to fund real estate under development, and $8,886,000 was used to fund an increase in the Company's restricted cash; these expenditures were offset by $15,842,000 of proceeds received from the disposition of three retail properties. The $103,263,000 net cash provided by financing activities was primarily a result of $150,347,000 of proceeds from mortgage and other notes payable and lines of credit and $77,775,000 net proceeds from the Perpetual Preferred Units sales (as discussed below) as offset by $102,848,000 of repayments of mortgages and other notes payable and lines of credit, and $18,809,000 of dividends/distributions paid. As of June 30, 1998, the total amount of Essex's outstanding debt was $342,539,000. Such indebtedness consisted of $215,136,000 in fixed rate debt, $68,583,000 of variable rate debt and $58,820,000 of debt represented by tax exempt variable rate demand bonds, of which $29,220,000 is capped at a maximum interest rate of 7.2%. As of June 30, 1998, 35 of the Company's Properties were encumbered by debt. The agreements underlying these encumbrances contain customary restrictive covenants which the Company believes do not have a material adverse effect on the Company's operations. As of June 30, 1998, the Company was in compliance with such covenants. Also, of the Company's 35 Properties encumbered by debt, 18 were secured by deeds of trust relating solely to those Properties. With respect to the remaining 17 Properties, three cross collaterized mortgages were secured by 8 Properties, 3 Properties and 3 Properties, respectively, and a separate line of credit was secured by 3 Properties. Essex expects to incur approximately $300 per weighted average occupancy unit in non-revenue generating capital expenditures for the year ended December 31, 1998. These expenditures do not include the improvements required in connection with the origination of mortgage loans, expenditures for Acquisition Properties renovations and improvements, which are expected to generate additional revenue, and renovation expenditures required pursuant to tax-exempt bond financings. Essex expects that cash from operations and/or its lines of credit will fund such expenditures. However, there can be no assurance that Page 16 of 22
17 the actual expenditures incurred or funded during 1998 will not be significantly different than the Company's current expectations. Essex is developing eight multifamily residential projects, which are anticipated to have an aggregate of approximately 1,578 multifamily units. Essex expects that such projects will be completed during the next two years (1998 and 1999). Such projects involve certain risks inherent in real estate development. See "Other Matters - Development Activities; Risks That Developments Will Be Delayed or Not Completed" in Item 1 of Essex's Annual Report on Form 10-K for the year ended December 31, 1997. The estimated projected aggregate cost for these projects is $186.0 million of which approximately $29.5 million has been incurred as of June 30, 1998. Essex expects to fund such commitments with some combination of its working capital, amounts available on its lines of credit, net proceeds from public and private equity and debt issuances, and proceeds from the disposition of properties, which may be sold from time to time. Essex pays quarterly dividends from cash available for distribution. Until it is distributed, cash available for distribution is invested by the Company primarily in short-term investment grade securities or is used by the Company to reduce balances outstanding under its lines of credit. On March 31, 1997, the Company completed the sale of 2,000,000 shares of its Common Stock to Cohen & Steers at a price of $29.125 per share. On June 20, 1997, the Company completed the sale of an additional $20,000,000 of its convertible preferred stock to Tiger/Westbrook. On September 10, 1997, the Company completed a public offering of 1,495,000 shares of its Common Stock at a net price of $31.00 per share. On December 8, 1997, the Company completed a public offering of 1,500,000 shares of its Common Stock at a net price of $35.50 per share. On February 6, 1998, the Operating Partnership sold 1,200,000 units of its 7.875% Series B Cumulative Redeemable Preferred Units ("Perpetual Preferred Units") to an institutional investor at a price of $50.00 per unit. On April 20, 1998, The Operating Partnership sold 400,000 units of its Perpetual Preferred Units at a $50.00 per unit price to the same institutional investor who purchased the 1,200,000 units in February 1998. The proceeds from these offerings and sales were used primarily to reduce balances under the Company's lines of credit and to fund acquisitions and development of multifamily properties. In the second quarter of 1998, Essex and the Operating Partnership filed a registration statement (the "1998 Shelf Registration Statement") with the Securities and Exchange Commission (the "SEC") to register $300,000,000 of equity securities of Essex and $250,000,000 of debt securities of the Operating Partnership. The 1998 Shelf Registration Statement was declared effective by the SEC in July 1998. Prior to the filing of the 1998 Shelf Registration Statement, Essex had approximately $42,000,000 of capacity remaining on a previously filed registration statement which registered equity securities of Essex. Thus, combined with the prior shelf registration statement and the 1998 Shelf Registration Statement, Essex has the capacity to issue up to $342,000,000 of equity securities and the Operating Partnership has the capacity to issue up to $250,000,000 of debt securities. YEAR 2000 COMPLIANCE The Company has evaluated appropriate courses of action regarding "Year 2000" compliance. The Company has contacted its primary software vendor and has determined that an upgraded package will be available for implementation. The total cost of bringing all software, hardware and operations to Year 2000 compliance has not been fully quantified. Management estimates that the total costs will not have a material impact on its business or results of operations. With respect to the preparation for the Year 2000 compliance by third-party service providers and vendors, no estimates have been made by the Company as to any potential adverse impact on the Company's operations due to any noncompliance. The Company is Page 17 of 22
18 attempting to identify those risks relating to third party service providers and vendors, however, no assurance can be given regarding the cost of any failure to comply. FUNDS FROM OPERATIONS Industry analysts generally consider funds from operations, ("Funds From Operations"), an appropriate measure of performance of an equity REIT. Generally, Funds From Operations adjusts the net income of equity REITs for non-cash charges such as depreciation and amortization of rental properties and non-recurring gains or losses. Management generally considers Funds from Operations to be a useful financial performance measurement of an equity REIT because, together with net income and cash flows, Funds from Operations provides investors with an additional basis to evaluate the ability of a REIT to incur and service debt and to fund acquisitions and other capital expenditures. Funds From Operations does not represent net income or cash flows from operations as defined by GAAP and is not intended to indicate whether cash flows will be sufficient to fund cash needs. It should not be considered as an alternative to net income as an indicator of the REIT's operating performance or to cash flows as a measure of liquidity. Funds From Operations does not measure whether cash flow is sufficient to fund all cash needs including principal amortization, capital improvements and distributions to shareholders. Funds From Operations also does not represent cash flows generated from operating, investing or financing activities as defined under GAAP. Further, Funds from Operations as disclosed by other REITs may not be comparable to the Company's calculation of Funds From Operations. The following table sets forth Essex's calculation of Funds from Operations for the quarters ended June 30, 1998 and 1997. <TABLE> <CAPTION> Three months ended -------------------------------- June 30, 1998 June 30, 1997 ------------ ------------ <S> <C> <C> Income before minority interests $ 10,005,000 $ 7,321,000 Adjustments: Depreciation & amortization 5,632,000 3,220,000 Adjustment for unconsolidated joint ventures 366,000 448,000 Non-recurring items, including gain on sale of real estate and loss from termination __ (414,000) Minority interests (1) (1,692,000) (142,000) ------------ ------------ Funds from Operations $ 14,311,000 $ 10,433,000 ============ ============ Weighted average number shares outstanding diluted (1) 20,549,875 16,598,551 ============ ============ </TABLE> (1) Assumes conversion of all outstanding operating partnership interests in the Operating Partnership into shares of Essex's Common Stock. Minority interests have been adjusted to reflect such conversion. The National Association of Real Estate Investment Trust ("NAREIT"), a leading industry trade group, has approved a revised interpretation of Funds from Operations, which provides, in part, that the amortization of deferred financing costs is no longer to be added back to net income in the calculation of Funds from Operations. Consistent with the NAREIT recommendation, Essex has adopted this new definition beginning in 1996. Page 18 of 22
19 PART II OTHER INFORMATION ITEM 2: CHANGES IN SECURITIES AND USE OF PROCEEDS (c) Recent Sales of Unregistered Securities On April 20, 1998, Essex Portfolio, L.P., the "Operating Partnership" as to which the Company is the sole general partner, completed the private placement of 400,000 7.875% Series B Preferred Limited Partnership Units (the "Perpetual Preferred Units"), representing a limited partnership interest in the Operating Partnership, to an institutional investor in return for a contribution to the Operating Partnership of $20,000,000. Previously, on February 6, 1998, the Operating Partnership had completed a prior private placement of 1,200,000 Perpetual Preferred Units to this same institutional investor. The Perpetual Preferred Units will become exchangeable, on a one for one basis, in whole or in part at any time on or after the tenth anniversary of the date of this private placement (or earlier under certain circumstances) for shares of the Company's 7.875% Series B Cumulative Redeemable Preferred Stock, par value $.0001 per share (the "Series B Preferred Stock"). The holders of the Perpetual Preferred Units have certain rights to cause the Company to register the Series B Preferred Stock pursuant to the terms of a registration rights agreement. The registration rights agreement was entered into in connection with this private placement. On February 10, 1998, the Company filed Articles Supplementary reclassifying 2,000,000 shares of its Common Stock par value $.0001 per share, as 2,000,000 shares of Series B Preferred Stock and setting forth the rights, preferences and privileges of the Series B Preferred Stock. The Perpetual Preferred Units have identical rights, preferences and privileges as the Series B Preferred Stock. Neither the Perpetual Preferred Units, nor the Series B Preferred Stock may at any time be convertible into the Company's Common Stock. The net proceeds from the above private placements were used primarily to fund acquisition and development activities and for general purposes. The April 20, 1998 private placement was completed pursuant to the exemption from registration contained in Section 4(2) the Securities Act of 1933, as amended. ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS At the Company's annual meeting, held on April 28, 1998 in Menlo Park, California, the following votes of security holders occurred: (a) The following persons were duly elected by the holders of the Company's Common Stock (the "Common Stockholders") as Class I, Common Stock directors of the Company, each for a three (3) year term (until 2001) and until their successors are elected and qualified: (1) Keith R. Guericke, 13,703,856 votes for and 21,742 votes abstaining; (2) Issie N. Rabinovitch, 13,703,856 for and 21,742 votes abstaining; and (3) Thomas E. Randlett, 13,703,856 for and 21,742 votes abstaining. (b) Gregory J. Hartman was duly elected as a preferred stock director of the Company by the holders of the Company's 8.75% Convertible Preferred Stock, Series 1996A for a one (1) year term as a Class I Director and until his successor is elected and qualified. Page 19 of 22
20 (c) The Common Stockholders ratified the appointment of KPMG Peat Marwick, LLP as the Company's independent public auditors for the fiscal year ending December 31, 1998 by a vote of 13,665,834 votes for 32,539 votes against and 27,225 votes abstaining. ITEM 5: OTHER INFORMATION Any shareholder proposal submitted with respect to Essex's 1999 Annual Meeting of Shareholders, which proposal is submitted outside the requirements of Rule 14a-8 under the Securities Exchange Act of 1934, will be considered untimely for purposes of Rule 14a-4 and 14a-5 if notice thereof is received by Essex after February 14, 1999. Page 20 of 22
21 ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K A. EXHIBITS 10.1 Revolving Loan Agreement between Essex Portfolio, L.P., a California limited partnership and Bank of America National Trust and Savings Association dated as of May 11, 1998 11.1 Statement regarding Computation of Earnings per Share 12.1 Schedule of Computation of Ratio of Earnings to Fixed Charges and Preferred Stock Dividends 27.1 Article 5 Financial Data Schedule (EDGAR Filing Only) B. REPORTS ON FORM 8-K On April 23, 1998, Essex filed a current report on Form 8-K, regarding its private placement of 400,000 units of its 7.875% Series B Cumulative Redeemable Preferred Units to the same institutional investor who previously purchased 1,200,000 of such units. On May 14, 1998, Essex filed a current report on Form 8-K, regarding its purchase of Wimbledon Woods and Bunker Hill Towers. On June 24, 1998, Essex filed a current report on Form 8-K/A to amend the current report on Form 8-K filed on March 30, 1998 in order to provide additional information relating to certain pro forma adjustments. On June 24, 1998, Essex filed a current report on Form 8-K/A to amend the current report on Form 8-K filed on May 14, 1998 in order to provide additional information relating to certain pro forma adjustments. Page 21 of 22
22 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ESSEX PROPERTY TRUST, INC. /s/ Mark J. Mikl --------------------------------- Mark J. Mikl, Controller (Authorized Officer and Principal Accounting Officer) August 14, 1998 --------------------------------- Date Page 22 of 22
23 INDEX TO EXHIBITS <TABLE> <CAPTION> Exhibit Number Description - ------ ----------- <S> <C> 10.1 Revolving Loan Agreement between Essex Portfolio, L.P., a California limited partnership and Bank of America National Trust and Savings Association dated as of May 11, 1998 11.1 Statement regarding Computation of Earnings per Share 12.1 Schedule of Computation of Ratio of Earnings to Fixed Charges and Preferred Stock Dividends 27.1 Article 5 Financial Data Schedule (EDGAR Filing Only) </TABLE>