Essex Property Trust - 10-Q quarterly report FY

Indicate the number of shares outstanding of each of the issuer’s classes of Common Stock, as of the latest practicable date:

“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 (the “Operating 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 the Company 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 consolidated 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.

The unaudited consolidated financial statements of the Company are prepared in accordance with accounting principles generally accepted in the United States of America 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, 2001.

The unaudited consolidated financial statements for the three and six months ended June 30, 2002 and 2001 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 88.9%, 89.0% and 89.0% general partnership interest as of June 30, 2002, December 31, 2001 and June 30, 2001, respectively.

As of June 30, 2002, the Company operates and has ownership interests in 88 multifamily properties (containing 19,769 units) and two office buildings (with approximately 56,300 square feet) (collectively, the “Properties”). The Properties are located in Northern California (the San Francisco Bay Area), Southern California (Los Angeles, Ventura, Orange and San Diego counties), and the Pacific Northwest (the Seattle, Washington and Portland, Oregon metropolitan areas).

The Company invests in joint ventures and accounts for these investments under the equity or consolidation methods of accounting based on the voting control it exercises through its ownership interests in these affiliates. Under the equity method of accounting, the investment is carried at cost of acquisition and includes costs incurred by the Company and not reimbursed by the joint venture, plus the Company’s share in undistributed earnings or losses since acquisition. The individual assets, liabilities, revenues and expenses of the joint ventures accounted for under the equity method are not recorded in the Company’s consolidated financial statements.

Included in the Company’s investments accounted for under the equity method investments are limited partnership interests in 17 partnerships (Down REIT entities), which collectively own ten multifamily properties, comprised of 1,831 units. These investments were made under arrangements whereby Essex Management Corporation (EMC) became the general partner, the Operating Partnership became a special minority interest limited partner, and the other limited partners were granted rights of redemption for their interests. Such partners can request to be redeemed and the Company can elect to redeem their rights for cash or by issuing shares of its common stock on a one share per unit basis. Conversion values will be based on the market value of the Company’s common stock at the time of redemption multiplied by the number of units stipulated under the above arrangements. The other limited partners receive distributions based on the Company’s current dividend rate times the number of redemption shares. At June 30, 2002, the maximum number of shares that could be required to meet redemption of these Down REIT entities is 1,510,034. The net income reported by the Company under the equity method of accounting by these down REIT entities is the net income of these down REIT entities as reduced by the income allocated to the other limited partners which is equal to the distributions they received.

All significant intercompany balances and transactions have been eliminated in the consolidated financial statements.

On April 17, 2002, the AEW co-investment in which the Company is a 20 percent partner, sold two of its four assets. Riverfront Apartments, a 229-unit apartment community in San Diego, California and Casa Mango Apartments, a 96-unit apartment community in Del Mar, California were sold to an unrelated third party. The combined sales price was approximately $52,000. The buyer of these two properties assumed two non-recourse mortgages in the cumulative amount of approximately $26,500, with a 6.5% fixed interest rate, which matures in February 2009. The Company’s equity in income from the gain on the sale of real estate is $2,000 and is presented as interest and other income in the accompanying consolidated statement of operations. The Company contributed the assets to the joint venture in December 1999 at a value of approximately $41,000. In addition, the Company earned a fee in conjunction with the sale of these assets in the amount of $1,110 and this fee is presented as interest and other income in the accompanying consolidated statement of operations. The Company may receive an additional incentive fee related specifically to these two asset sales, which is subject to certain limitations and conditions.

On June 18, 2002, the Company sold Tara Village, a 168-unit apartment community located in Tarzana, California to an unrelated third party for a contract price of $20,000. The Company acquired the property in January 1997 for $10,300. The Company realized a gain on the sale of real estate of $8,061, net of minority interest of $990. This property was not encumbered by any mortgage. The Company expects to utilize Internal Revenue Code Section 1031 to defer the taxable gain on the sale of this property. As of June 30, 2002, the net proceeds of this sale of $19,477 are held as a deposit by an exchange facilitator in connection with the 1031 exchange and is presented as prepaid expenses and other assets in the Company’s accompanying balance sheet.

On July 2, 2002, the Company through its taxable REIT subsidiary Essex Fidelity I Corporation (EFC), sold Moanalua Hillside Apartments, a 700-unit apartment community in Honolulu, Hawaii to an unrelated third party for a contract price of $44,100. In conjunction with this sale, the Company originated a $40,000 non-recourse mortgage on the property with a fixed interest rate of 8.75%, maturing on July 2004. The Company received a $600 loan fee, a $450 consulting fee and $1,600 in prepaid interest in connection with the transaction. Upon early prepayment prior to its scheduled maturity, the Company will retain any unamortized prepaid interest. EFC purchased the asset on June 29, 2001 for a contract price of $42,200.

On May 15, 2002, the Company renewed and expanded its existing $120,000 unsecured revolving credit facility. The renewed facility was increased to $165,000 and carries an interest rate, based on a tiered rate structure, which currently is equal to LIBOR plus 1.10%, representing a 0.05% reduction from the previous facility. The credit line has a two-year term with a one-year extension option.

On June 5, 2002, the Company refinanced the construction loan that was in place on Tierra Vista, a 404-unit apartment community, located in Oxnard, California. The construction loan amount at the time of payoff was approximately $35,800 and had a variable interest rate at LIBOR plus 1.795%. The new loan is a non-recourse mortgage in the amount of $38,000, with a 5.93% fixed interest rate, which matures in June 2007. This asset and mortgage are owned by the AEW co-investment in which the Company is a 20 percent partner.

The Company defines development communities as new apartment properties that are being constructed or are newly constructed and in a phase of lease-up and have not yet reached stabilized operations. At June 30, 2002, the Company (including the Fund’s development communities) has ownership interests in six development communities, with an aggregate of 1,521 multifamily units and an estimated total cost of $284,000 of which approximately $129,800 remains to be expended of which approximately $58,000 is the Company’s commitment.

During the second quarter, the Company began lease-up at two development communities, The Essex on Lake Merritt, a 270-unit high-rise luxury apartment community located in Oakland, California and The San Marcos, a 312-unit apartment community located in Richmond, California. The Company projects The Essex on Lake Merritt will reach stabilized operations during the fourth quarter of 2002 and The San Marcos will reach stabilized operations during the third quarter of 2003.

The Company defines redevelopment communities as existing properties owned or recently acquired which have been targeted for investment by the Company with the expectation of increased financial returns through property improvement. Redevelopment communities typically have apartment units that are not available for rent and, as a result, may have less than stabilized operations. At June 30, 2002, the Company has ownership interests in two redevelopment communities, which contain an aggregate of 258 units with total originally projected redevelopment investment of $6,532 of which approximately $2,434 remains to be expended.

In May 2001, the Company’s Board of Directors authorized the Operating Partnership to purchase from time to time shares of the Company’s Common Stock, in an amount up to $50,000, at a price not to exceed $48.00 per share in the open market or through negotiated or block transactions. The timing of any repurchase will depend on the market price and other market conditions and factors. Essex expects to use working capital or proceeds from the sale of properties to provide funds for this program. The purpose of the program is to acquire stock related to real estate transactions involving the issuance of partnership units in the Operating Partnership and similar interests. This program supersedes its common stock repurchase plan as announced on March 25, 1999. In October 2001, the Operating Partnership acquired 100,700 shares of the Company’s outstanding Common Stock. The weighted average exercise price paid for the shares was $47.88. In March 2002, the Operating Partnership acquired 10,500 shares of the Company’s outstanding Common Stock. The weighted average exercise price paid for the shares was $47.50.

In order to facilitate the purchase of Common Stock, on May 31, 2002, the Company entered into a Stock Repurchase Plan and Agreement with Bear, Stearns and Co., Inc. that complies with the requirements of Rule 10b5-1(c)(1) under the Securities Exchange Act of 1934, as amended. Under this plan, shares can be repurchased in the open market during those periods each quarter when trading in the Company’s stock by insiders is restricted under the Company’s insider trading policy. The Plan provides for the repurchase of up to 400,000 shares at a price not to exceed $48.00.

Subsequent to the quarter ended June 30, 2002, under the terms of the Stock Repurchase Plan and Agreement, the Company purchased 400,000 shares at $48.00 per share.

The amount paid for the shares are reflected as a reduction of the common stock and additional paid-in-capital in the Company’s consolidated balance sheet.

In April 2000, the Company invested $1,500 in a real estate focused technology fund sponsored by Cohen and Steers. The Company is on the fund’s advisory board and viewed this investment as an opportunity to keep abreast of current trends in the area of technology as applied to the real estate industry. The fund has various investments in real estate technology companies. Through June 30, 2002, the Company reduced the book value of its investment by $700 in light of current valuations provided by the fund’s general partner. The Company recorded the valuation reduction as a reduction to its equity in income from its investment in the technology fund.

The Company carries comprehensive liability, fire, extended coverage and rental loss insurance for each of the Properties. Conditions in the insurance industry have resulted in greater costs, increasing more than 50% from the prior year, along with increased deductibles and reduced coverages. In some cases, the Company is not in technical compliance with the insurance requirements of loan agreements, and is discussing this issue with applicable lenders. The Company does not believe that this non-compliance will have a material impact on its operations or future financing efforts.

Essex Apartment Value Fund, L.P. (the “Fund”), is an investment fund managed by the Company and will be, subject to specific exceptions, the Company’s exclusive investment vehicle for new investments until the Fund’s committed capital has been invested or committed for investments, or if earlier, December 31, 2003. The Fund has total capital commitments of $250 million and is expected to utilize leverage of approximately 65% of the value of the underlying real estate portfolio. The Company is committed to invest 21.4% of the aggregate capital committed to the Fund. In addition, Essex will be compensated by the Fund for its asset management, property management, development and redevelopment services and may receive incentive payments if the Fund exceeds certain financial return benchmarks.

On May 9, 2002, the Fund sold Marbrisas Apartments, a 500-unit apartment community located in Chula Vista, California, to an unrelated third party for an approximate contract price of $69,000. In connection with this transaction, the buyer assumed a non-recourse secured mortgage of approximately $40,000 with a 7.988% fixed interest rate, which matures in July 2005. The Fund purchased the property in August 2001 for $62,000 and the net proceeds from the sale will be distributed to the Fund investors. The Company’s equity in income from the gain on the sale of the real estate is $1,100 and is presented as interest and other income in the accompanying consolidated statement of operations. In addition, at the inception of the Fund the Company incurred approximately $7,200 in placement fees and professional fees related to the syndication of the Fund. The Company will write off a portion of these costs upon the sale of Fund assets as a reduction to its equity in income from the Fund’s gain on the sale of real estate. On this asset sale the Company wrote off approximately $900 of these costs. The Company is eligible to receive incentive payments to the extent the Fund exceeds certain financial return benchmarks, including a 10% compounded annual return on the limited partners’ total capital contributions. The Company has not received any incentive payments to date.

In June 2002, the Fund amended and restated its existing $75,000 secured revolving subscription facility. The renewed facility was increased to $125,000 and bears interest at LIBOR plus 0.875%. As of June 30, 2002, the line had an outstanding balance of $23,370, with an interest rate of approximately 2.715%. The credit line matures in December 2003.

At June 30, 2002 the Fund has three development communities with an aggregate of 615 multifamily units and an estimated total cost of $122,300 of which $91,400 remains to be expended and approximately $19,600 is the Company’s commitment.

All general and administrative expenses of the Company and Essex Management Corporation, an unconsolidated preferred stock subsidiary of the Company (“EMC”), are initially borne by the Company, with a portion subsequently allocated to EMC. Expenses allocated to EMC for the three months ended June 30, 2002 and 2001 totaled $708 and $488, respectively, and $1,478 and $918 for the six months ended June 30, 2002 and 2001, respectively. The allocation is reflected as a reduction in general and administrative expenses in the accompanying consolidated statements of operations.

Interest and other income includes interest income of $1,097 and $1,319 for the three months ended June 30, 2002 and 2001, respectively, and $2,158 and $2,219 for the six months ended June 30, 2002 and 2001, respectively. The majority of interest income was earned on the notes receivable from investees. Other income also includes management fee income and investment income from the Company’s investees of $3,010 and $423 for the three months ended June 30, 2002 and 2001, respectively, and $5,589 and $770 for the six months ended June 30, 2002 and 2001, respectively. A component of other income is a $1,110 fee earned by the Company in connection with the sale of two co-investments assets for the quarter ended June 30, 2002.

Notes receivable from investees and other related parties as of June 30, 2002 and December 31, 2001 consist of the following:

Other related party receivables consist primarily of accrued interest income on notes receivable from joint venture investees and loans to officers, advances and accrued management fees from joint venture investees and unreimbursed expenses due from EMC.

The Company adopted Financial Accounting Standards Board’s (FASB) Statement of Financial Accounting Standard (“FAS”) 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” on January 1, 2002. FAS 144 supersedes FAS 121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of.” The primary objectives of FAS 144 are to develop one accounting model based on the framework established in FAS 121 for long-lived assets to be disposed of by sale, and to address significant implementation issues regarding impairment of long-lived assets held for use. FAS 144 requires discontinued operations presentation for an operating property considered held for sale beginning on January 1, 2002. In accordance with FAS 144, the Company classifies real estate assets as held for sale in the period in which all of the following criteria are met: (a) management, having the authority to approve the action, commits to a plan to sell the asset; (b) the asset is available for immediate sale in its present condition subject only to terms that are usual and customary for sales of such assets; (c) an active program to locate a buyer and other actions required to complete the plan to sell the asset have been initiated; (d) the sale of the asset is probable and the transfer of the asset is expected to qualify for recognition as a completed sale within one year; (e) the asset is being actively marketed for sale at a price that is reasonable in relation to its current fair value; and (f) actions required to complete the plan indicate that it is unlikely that significant changes to the plan will be made or that the plan will be withdrawn.

The Company’s adoption of FAS 144 resulted in: (i) the presentation of the net operating results of properties sold during the three and six months ended June 30, 2002, less allocated interest expense, as income from discontinued operations for all periods presented and (ii) the presentation of the gain on sale of operating properties sold, net of sale costs, as income from discontinued operations for the three and six months ended June 30, 2002. The Company allocated interest expense based on the percentage of the cost basis of properties sold to the total cost basis of real estate assets as of June 30, 2002, and pro-rated the allocated interest for the number of days prior to sale. Implementation of FAS 144 only impacted the income statement classification but had no effect on results of operations.

The Company presents income and gains/losses on properties sold as discontinued operations net of minority interests. Real estate investments accounted for under the equity method of accounting remain classified in continuing operations upon disposition.

In June 2001, the FASB issued FAS 143, “Accounting for Asset Retirement Obligations.” Under FAS 143, the fair value of a liability for an asset retirement obligation must be recognized in the period in which it is incurred if a reasonable estimate of fair value can be made. The associated asset retirement costs are capitalized as part of the carrying amount of the long-lived asset. FAS 143 is effective for fiscal years beginning after June 15, 2002. The Company does not believe that FAS 143 will have a material impact on the Company’s financial position or results of operations.

In April 2002, the FASB issued FAS 145, “Rescission of FASB Statements No. 4, 44, and 64, Amendment of FAS Statement No. 13, and Technical Correction.” FAS 145 eliminates extraordinary accounting treatment for reporting or loss on debt extinguishments, and amends other existing authoritative pronouncements to make various technical corrections, clarifies meanings, or describes their applicability under changed conditions. The provisions of FAS 145 are effective for the Company with the beginning of fiscal year 2003; however, early application of FAS 145 is encouraged. Debt extinguishments reported as extraordinary items prior to scheduled or early adoption of FAS 145 would be reclassified in most cases following adoption. The Company does not anticipate a significant impact on their results of operations from adopting FAS 145.

In July 2002, the FASB issued FAS 146, “Accounting For Costs Associated With Exit Or Disposal Activities.” FAS 146 addresses financial accounting and reporting for costs associated with exit or disposal activities. Under FAS 146, a commitment to an exit or disposal plan no longer will be a sufficient basis for recording a liability for those activities. The Company does not anticipate a significant impact on their results of operations from adopting FAS 146.

The Company defines its reportable operating segments as the three geographical regions in which its properties are located: Northern California, Southern California and the Pacific Northwest. Excluded from segment revenues are interest and other corporate income. Other non-segment assets include investments, real estate under development, cash, receivables and other assets. The revenues, net operating income, and assets for each of the reportable operating segments are summarized as follows for the periods presented.

The following discussion is based primarily on the consolidated unaudited financial statements of Essex Property Trust, Inc. (“Essex” or the “Company”) for the three and six months ended June 30, 2002 and 2001. This information should be read in conjunction with the accompanying consolidated unaudited financial statements and notes thereto. These consolidated 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 the Company are held by, and substantially all operations are conducted through, Essex Portfolio, L.P. (the “Operating Partnership”). The Company is the sole general partner of the Operating Partnership and, as of June 30, 2002, December 31, 2001 and June 30, 2001, owned an 88.9%, 89.0% and 89.0% 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.

The Company’s property revenues are generated primarily from multifamily property operations, which accounted for greater than 99% of its property revenues for the three and six months ended June 30, 2002 and 2001. The Company’s multifamily properties (the “Properties”) are located in Northern California (the San Francisco Bay Area), Southern California (Los Angeles, Ventura, Orange and San Diego counties) and the Pacific Northwest (the Seattle, Washington and Portland, Oregon metropolitan areas).

Essex Apartment Value Fund, L.P. (the “Fund”), is an investment fund managed by the Company and will be, subject to specific exceptions, the Company’s exclusive investment vehicle for new investments until the Fund’s committed capital has been invested or committed for investments, or if earlier, December 31, 2003. The Fund has total capital commitments of $250 million and is expected to utilize leverage of approximately 65% of the value of the underlying real estate portfolio. The Company is committed to invest 21.4% of the aggregate capital committed to the Fund. In addition, the Company will be compensated by the Fund for its asset management, property management, development and redevelopment services and may receive incentive payments if the Fund exceeds certain financial return benchmarks. Since its formation, the Fund has acquired seven multifamily residential properties, representing 1,877 apartment units with an aggregate purchase price of approximately $190 million, excluding redevelopment expenses, and disposed of one multifamily residential property, consisting of 500 apartment units at a gross sales price of approximately $69.0 million resulting in a net realized gain of approximately $5.7 million. In addition, three development land parcels, where approximately 615 apartment units are planned for construction, have been purchased by the Fund with a total estimated cost for the projects of approximately $122.3 million. As of June 30, 2002, the remaining commitments to fund these projects is approximately $91.4 million of which approximately $19.6 million is the Company’s commitment.

The Company 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. The Company provides a majority of its fee based asset management and disposition services as well as third-party property management and leasing services through Essex Management Corporation (“EMC”), in order to maintain compliance with REIT tax rules. The Company owns 100% of EMC’s 19,000 shares of nonvoting preferred stock.

Since the Company’s initial public offering (the “IPO”) in June 1994, the Company has acquired ownership interests in 76 multifamily residential properties, its headquarters building and its Southern California office building, of which 14 are located in Northern California, 42 are located in Southern California, 15 are located in the Seattle Metropolitan Area and 5 are located in the Portland Metropolitan Area. In total, these acquisitions consist of 16,451 units with total capitalized acquisition costs of approximately $1,385.5 million. Additionally, since its IPO, the Company has developed and has

The Company (including the Fund’s development communities) has an ownership interest in and is developing six multifamily residential communities, with an aggregate of 1,521 multifamily units. In connection with these development projects, the Company has directly, or in some cases through its joint venture partners, entered into contractual construction related commitments with unrelated third parties and the total projected estimated cost for these projects is approximately $284.0 million. As of June 30, 2002, the remaining commitment to fund these projects is approximately $129.8 million of which approximately $58.0 million is the Company’s commitment.

Average financial occupancy rates of the Company’s multifamily Quarterly Same Store Properties (properties consolidated by the Company for each of the three months ended June 30, 2002 and 2001) was 94.0% and 95.4%, for the three months ended June 30, 2002 and 2001, respectively. “Financial occupancy” is defined as the percentage resulting from dividing actual rental income by total possible rental income. Total possible rental income is determined by valuing occupied units at contractual rents and vacant units at market rents. The regional breakdown of average financial occupancy for the multifamily Quarterly Same Store Properties for the three months ended June 30, 2002 and 2001 are as follows:

Total Revenues increased by $464,000 or 0.9% to $50,983,000 in the second quarter of 2002 from $50,519,000 in the second quarter of 2001. The following table sets forth a breakdown of these revenue amounts, including the revenues attributable to the Quarterly Same Store Properties.