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Edited Transcript of EQR earnings conference call or presentation 26-Apr-17 3:00pm GMT

Thomson Reuters StreetEvents

Q1 2017 Equity Residential Earnings Call

CHICAGO May 4, 2017 (Thomson StreetEvents) -- Edited Transcript of Equity Residential earnings conference call or presentation Wednesday, April 26, 2017 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* David J. Neithercut

Equity Residential - CEO, President and Trustee

* David S. Santee

Equity Residential - COO and EVP

* Mark J. Parrell

Equity Residential - CFO and EVP

* Marty McKenna

Equity Residential - VP of Investor and Public Relations

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Conference Call Participants

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* Alexander David Goldfarb

Sandler O'Neill + Partners, L.P., Research Division - MD of Equity Research and Senior REIT Analyst

* Conor Wagner

* Dennis Patrick McGill

Zelman & Associates LLC - Director of Research and Principal

* John Kim

BMO Capital Markets Equity Research - Senior Real Estate Analyst

* Juan Carlos Sanabria

BofA Merrill Lynch, Research Division - VP

* Nicholas Gregory Joseph

Citigroup Inc, Research Division - VP and Senior Analyst

* Nicholas Yulico

UBS Investment Bank, Research Division - Executive Director and Equity Research Analyst- REIT's

* Omotayo Tejamude Okusanya

Jefferies LLC, Research Division - MD and Senior Equity Research Analyst

* Richard Allen Hightower

Evercore ISI, Research Division - MD and Fundamental Research Analyst

* Richard Charles Anderson

Mizuho Securities USA Inc., Research Division - MD

* Richard Hill

Morgan Stanley, Research Division - Head of U.S. REIT Equity and Commercial Real Estate Debt Research and Head of U.S. CMBS

* Thomas James Lesnick

Capital One Securities, Inc., Research Division - Analyst

* Wes Golladay

RBC Capital Markets, LLC, Research Division - Associate

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Presentation

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Operator [1]

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Good day, and welcome to the Equity Residential 1Q 2017 Earnings Call. Today's conference is being recorded.

At this time, I'd like to turn the conference over to Marty McKenna. Please go ahead.

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Marty McKenna, Equity Residential - VP of Investor and Public Relations [2]

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Thank you. Good morning, and thank you for joining us to discuss Equity Residential's First Quarter 2017 Results. Our featured speakers today are David Neithercut, our President and CEO; David Santee, our Chief Operating Officer; and Mark Parrell, our Chief Financial Officer.

Please be advised that certain matters discussed during this conference call may constitute forward-looking statements within the meaning of the federal securities law. These forward-looking statements are subject to certain economic risks and uncertainties. The company assumes no obligation to update or supplement these statements that become untrue because of subsequent events.

And now I'll turn it over to David Neithercut.

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David J. Neithercut, Equity Residential - CEO, President and Trustee [3]

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Thank you, Marty. Good morning, everybody, and thank you for joining us for today's call. As you'll hear in just a moment from David Santee and Mark Parrell, the first quarter came in pretty much in line with our expectations. Occupancy remained quite high, particularly on a seasonal basis, clearly demonstrating the continued strong demand for rental housing in our core markets. And we saw retention improve over the first quarter of last year, while achieving renewal rates of 4.3%, clearly demonstrating the benefits of remarkable customer service and the dedication of our teams across the country.

As expected, new apartment supply continues to pressure new lease rates, causing our portfolio to produce negative lease-over-lease growth from the first quarter. Fortunately, apartment demand is proving sufficiently strong to resolve this new supply while maintaining healthy occupancy levels in existing assets across all markets. In fact, our own lease-up activity in Southern California, San Francisco, Seattle and Washington, D.C. is going exceptionally well, while we are leasing units at a pace well above our original expectations at net effective rents that are generally at/or above what we had originally projected.

I'll let David Santee go into more detail about how our markets performed in the first quarter and where we sit today going in to the extremely important leasing season, and then Mark Parrell will give some color on operating expenses. David?

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David S. Santee, Equity Residential - COO and EVP [4]

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Okay. Thank you, David, and good morning, everyone. I want to spend a few minutes reviewing our performance across our markets and our positioning as we head into the primary leasing season.

Our goal in 2017 is to focus on retaining our existing residents to drive renewal rate growth, and thus far, our teams have delivered. Meeting with the local teams and making sure that we all understand the dynamics in every market is crucial to how we run our business. And I've spent a great deal of my time with the properties for that reason.

Over the past several months, my senior team and I have traveled to all of our markets for meetings that included every one of our employees in each market to ensure that our highly collaborative team members understand our strategy and tactics. As part of these meetings, our sales folks and managers attended an in-depth renewal negotiation workshop, focusing on sharing best practices in order to better be prepared in the coming months.

Our report in Q1 results leave us well positioned as we enter the early stages of our peak leasing season. We are pleased with how the quarter played out given the elevated deliveries across many of our markets.

Now revenue growth of 2.6% was driven by pure rate growth as renewal rates achieved for the quarter were 4.3%. More importantly, the percentage of our residents, who renewed with us, increased from 57% in Q1 of '16 to 60% for this quarter, and this was on a pool of units up for renewal that is about 3% larger than last year. Already, we are seeing good results as our renewal rates achieved in both April and May are up 4.7%. As David said in his remarks, this is a great indicator of the terrific work being done by our teams across the portfolio.

And while renewal rates achieved thus far are encouraging, the peak leasing season has many potential risks, either through elevated supply or uncertainty in parts of the economy. We know that summer is right around the corner, and following the expected normal seasonal pattern, inventories will begin to build and occupancies will start to moderate. Our team will continue to work hard lease by lease to deliver for our shareholders.

Now moving on to the market, I'll give some color on what we're experiencing today to describe where we are in the delivery cycle for new units. Additionally, I'll provide our renewal and lease-over-lease results for the quarter as well as provide color on our average net affected new lease pricing. And just to clarify, our lease-over-lease results are the net change when we compare old lease rents to new move-in rents for the same unit. These results are influenced by the old rent as well as the term of the previous lease and are not always indicative of current market conditions, especially early in the year. Our net effective new lease prices better represent the year-over-year trend in the market and are the prices the customer uses in making their leasing decisions.

So starting with Seattle. Renewals achieved for the quarter were up 7.1% and lease-over-lease results were up 4.1%, both well within expectations for the quarter. Net effective new lease pricing was strong and has averaged approximately up 7% versus the same quarter last year. Both rate growth and occupancy for the quarter was good, and demand remains healthy. And while a greater percentage of the new deliveries will occur in the back half of the year, we continue to expect Seattle to be our top-performing market for the full year.

At Amazon alone, the open positions number was 9,000 jobs, many of which are high-paying and the recent news of the Boeing layoffs and overall downsizing in their engineering function, specifically in Seattle, should have minimal impact to our portfolio, as we have minimal exposure north of TAM.

San Francisco has been stable thus far despite the level of new deliveries that are heavily weighted in the first half of the year. Renewal rates achieved in the quarter were up 3.9%. Lease-over-lease results were negative at 1.7%. Net effective new lease pricing growth was up 2% throughout the quarter and are -- and remained at that level.

Tech job growth remains muted in San Francisco, but there is growth. Leased fee investment appears to have bottomed in Q4 of 2016 and maybe improving. With new apartment deliveries that were dispersed across the MSA in 2016, we believe that San Francisco should be better positioned this year to absorb these deliveries in a rational manner.

Southern California, which makes up about 26% of our total NOI and is expected to deliver nearly [60%] of our total revenue growth in 2017, is on track. Orange County and San Diego are leading the way with plus 5% revenue growth for the quarter. L.A. is dealing the effects of peak deliveries in Q1 while Orange County will see peak deliveries in the back half of the year.

As expected, the far north and east L.A. submarkets are very strong as most of the new supply is concentrated in the urban core and (inaudible) in submarkets like Pasadena and Koreatown. Renewal rates achieved for L.A. were plus 5.7% for the quarter and lease-over-lease results were positive 60 basis points. Net effective new lease pricing growth averaged just under 4% versus same quarter last year.

Orange County and San Diego achieved 6.6% and 5.2% renewal rate growth, respectively. And lease-over-lease results were up 1.7% and 60 basis points, respectively. Net effective new lease pricing remains at expected levels as we entered the (inaudible) months of peak demand and average 5% for Orange County and San Diego combined.

April renewals results for the 3 markets are showing seasonal strength with L.A. achieving growth of 7.1%, and Orange County and San Diego achieving growth of 6.7% and 6.3%, respectively.

So moving over to East Coast and Boston. Most of the Q1 revenue growth was driven by a 110 basis point improvement in occupancy as quarter-over-quarter turnover declined by 260 basis points, with fewer deliveries pressuring the market than we experienced in the second half of 2016. Renewal rate increases achieved for the quarter were 3.7% and lease-over-lease results were negative 5.4% and in line with our original forecast. Net effective new lease pricing increased an average of 2.5% for the quarter.

With peak deliveries reoccurring in the urban core in Cambridge in Q2 of this year, we expect Boston to perform to expectations for the balance of the year. However, Boston has always been greatly influenced by the high percentage of students, especially in the urban core. With the uncertainty around current immigration policy and the strength of the dollar, we are paying close attention to demand from international students as we begin the student season churn. In Boston, our renewal rate growth achieved thus far for April and May are 3.4% and 4.6%, with roughly 16% of May renewal offers still open. Net effective new lease rents remained positive, but are moderating as inventory is growing as students give their notices to vacate and new deliveries open their doors.

New York has remained disciplined thus far, considering that more than 10,000 new units are currently in lease-up in the market. Half of these units were delivered in 2016 and the other half delivered in Q1 of this year. Deliveries will continue to grow throughout the year, peaking in Q3.

Upfront move-in concessions were basically the same in Q1 of 2017 versus 2016 and net effective new lease pricing, and that includes concessions, continued to hold, down only 1% versus same period last year, but on an expected lower occupancy. It's no surprise that Brooklyn and the West Side are under the most pricing pressure as largest demand of new deliveries are occurring in these submarkets. On the flip side, the Eastside and Jersey Waterfront are still delivering positive revenue growth, approaching 2%. Renewal rates achieved in New York for the quarter were positive 2.3% and lease-over-lease results were negative 6.2%, both of which are modestly below our expectations. Net effective new lease pricing is average negative 1% for the quarter. April renewal rates achieved came in at 1.7%, while May results are currently 2.7%, with only 9% of offers still outstanding.

Given that the growth and higher-paying job -- jobs is weaker than one would hope and the market continues to see elevated deliveries, we are pleased by the pricing discipline that we have seen in the market thus far. Across-the-board concessions appeared to be limited to lease-ups as standard operating procedure, while stabilized community concessions are very targeted based on unit type exposure. Total expense for the quarter -- our move-in concessions averaged $575 per move-in or about 4.5 days of free rent per move-in.

Washington, D.C. has performed to expectations despite modestly depressed demand due to the federal hiring freeze and uncertainty about the future of many government agencies. Renewal rates achieved were up 4.1%, lease-over-lease results were minus 4%, which was slightly below our expectations, but mitigated with an increase in occupancy. Net effectively new lease pricing averaged up 2% for the quarter. April renewals, which were essentially closed, delivered 4.5% rate growth. And in May with only a few renewals open, we are achieving 5% growth. Given the political uncertainties and new deliveries that are extremely weighted in the first half of the year, we would expect the softness in the net effective new lease pricing to remain under pressure for most of the peak season, but offset by improving renewal increases as the back half of the year, we'll see a sharp falloff in new deliveries.

So the thing for us in 2017 is renewals. It's about working hard to keep our current residents happy with their choice, and more importantly, keeping them living in an EQR community. And so we have taken the time to strengthen the skills that our employees need to meet the challenges of elevated supply.

As a person who began his career as an Assistant Manager of a 1,500-unit property in Washington, D.C., I never forget the challenges that our people face. In no other industry does your customer live with you 24/7, 365.

I would like to thank all of our employees for what you do each and every day. I am inspired by your spirit, always motivated by your energy and humbled by your commitment to excellence at Equity Residential.

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Mark J. Parrell, Equity Residential - CFO and EVP [5]

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Thank you, David. It's Mark Parrell. I want to take a few minutes of this morning to discuss same-store expenses. Our same-store expense growth of 3.9% in the first quarter was primarily driven by increases in real estate taxes, on-site payroll, and repairs and maintenance. This was slightly higher than we expected due to the impact of the California storm costs that I'm going to going over in a moment.

So here's some quick color on some of the bigger expense line items. We saw a 4.2% increase in real estate taxes, driven by assessment increases in Boston and Seattle. Also the burn-off of 421-a tax abatements in New York added 1.8 percentage points to this quarter's number. For the full year, we continue to expect real estate taxes, which make up about 42% of our total operating expenses, an increase between 4% and 5%.

Moving on to on-site payroll. These expenses increased 4.6% in the first quarter. For the full year, we continue to expect an increase of between 4% and 5%, as we face a higher property level wage climate with our employees in high demand in a very competitive market. And David Santee just mentioned our laser-focus on renewals, and as a result of that, we have also added staff in some markets to provide even better service to our residents and to support tenant retention.

Payroll expense this quarter was also impacted by the California storms, and our property staffs worked longer hours addressing storm damage.

Now I'm going to turn to repairs and maintenance, where we saw a 6.7% increase in that line item in this quarter. As you saw in the news, Mother Nature made up for several years of severe drought in California with heavy and consistent rains, which resulted in increased roof repair, tree trimming and similar costs. These costs totaled approximately $570,000 in the first quarter, which drove this number up to 6.7% from about 3.7%.

Now on to a less material expense line item, leasing and advertising expense, which in the quarter increased 12%. The increase in the quarter was driven by increased resident referral fees, including broker fees and more spending on resident activities to keep our customers engaged. These expenditures were generally all budgeted and expected. Last year, we reported an increase in this line item due to promotional spending, including the use of resident gift cards, primarily in New York. We have budgeted about $700,000 in gift card spending in 2017, but thus far, gift card use has been minimal. We still expect leasing and advertising expense for the full year 2017 to be flat compared to 2016.

I'll now turn the call over to David Neithercut.

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David J. Neithercut, Equity Residential - CEO, President and Trustee [6]

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All right. Thanks, Mark. On our last call, we indicated that following the year in which we sold nearly $7 billion of assets, that 2017 would look quite tame on the capital allocation front. Now we would transact if and when we found an opportunity to redeploy disposition proceeds into a higher total return asset.

That remains the case, although the one asset we did sell in the first quarter was a holdover from last year. This was a 304-unit asset built in 1970, located in Milford, Massachusetts. For a handful of you that don't know where Milford, Massachusetts is, that's about 40 miles west of Boston. This now leaves us with one remaining asset left to sell, also an older property of Massachusetts, in Franklin, Massachusetts, also well west of Boston. And those are the (inaudible) holdover from the large portfolio that we undertook to sell in 2016.

Although we did not acquire anything in the first quarter, guidance for the full year continues to resume $500 million of acquisition activity, funded by a light amount of disposition activity of negative spread of 75 basis points.

We're underwriting a handful of possible acquisitions at the present time that we think would make great investment opportunities for us, but only at the right price. It remains to be seen where these deals will actually trade, we'll continue to hang on the hoop, ready to play if they make sense to do so and track the potential opportunities as they occur throughout the balance of the year.

So with all that said, Chris, we'd be happy to open up the call to Q&A.

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Questions and Answers

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Operator [1]

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(Operator Instructions) And we'll take our first question from Nick Joseph of Citi.

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Nicholas Gregory Joseph, Citigroup Inc, Research Division - VP and Senior Analyst [2]

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In terms of savings for revenue guidance, which market should we keep an eye on that could have the most volatility that would either result in you ending up towards the high end of same-store revenue guidance or towards the bottom end?

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David S. Santee, Equity Residential - COO and EVP [3]

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All right. This is David Santee. Given that Southern California is going to deliver almost [50%] of our expected growth for 2017, we are, obviously, laser-focused on the results coming out of those markets.

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Nicholas Gregory Joseph, Citigroup Inc, Research Division - VP and Senior Analyst [4]

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So then you mentioned the lower turnover. What do you attribute that to? Is it something that you're doing from a strategy perspective? Or is it something you think is happening across the markets overall?

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David S. Santee, Equity Residential - COO and EVP [5]

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Well, I think if you just look at our industry, I think there is an overarching trend that residents are just more confident in the future. There was a Freddie Mac study that said people are staying longer. I think we've seen that over the past years. It's -- people are just like where they live. They don't want to move from their lifestyle. Most of these communities are not 2-story walk-ups. They're much less transient. And I think we're seeing the benefits of that.

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David J. Neithercut, Equity Residential - CEO, President and Trustee [6]

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Yes, I think these residents, Nick, they get comfortable and with the staff, we create a sense of family and neighborhood in the building. They grow accustomed to the amenities that are nearby and their inclination. The desire is to stay. We do whatever we can do to encourage them to do that. And we're very pleased with the results that the team's delivering out there.

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Operator [7]

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We'll take our next question from Rich Hightower of Evercore.

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Richard Allen Hightower, Evercore ISI, Research Division - MD and Fundamental Research Analyst [8]

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So I'm going to start with a question on expenses, just to make sure that I've got this correct. I'm having trouble squaring, I think, the couple of statements that real estate taxes and payroll, which are the 2 biggest expense categories. I think you said, they're going to grow 4% to 5% for the balance of the year. And I just want to square that against the 3% to 4% expense guidance, which was unchanged after the first quarter results?

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Mark J. Parrell, Equity Residential - CFO and EVP [9]

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Yes, it's Mark. It's 4% to 5% for the whole year for those 2 line items. Repeating, it's 4% to 5% for the annual expense number. And it's 4% to 5% for property taxes for the whole year.

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Richard Allen Hightower, Evercore ISI, Research Division - MD and Fundamental Research Analyst [10]

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Okay. I guess, it begs the same question, though. I mean, if the 2 largest expense categories are growing greater than the guidance range, where do you make up for it on the other side, I guess, is the question.

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Mark J. Parrell, Equity Residential - CFO and EVP [11]

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Well, certainly, utilities, which we see as a pretty low number in the 1% to 2% range and it's 14% of our expenses, is one of the line items where you're going to see a benefit.

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Richard Allen Hightower, Evercore ISI, Research Division - MD and Fundamental Research Analyst [12]

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Okay. That helps. The second question for me, this goes back to what David Santee referred to in the prepared comments. There was a comment about sharing best practices. It sounded like on the revenue management side of things, in the phase of new supply, maybe changing the game plan a little bit versus what happened in 2016. I'm just wondering if you can provide a little more color as to what some of those specifics might be going forward.

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David S. Santee, Equity Residential - COO and EVP [13]

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Well, I don't know that we're changing our game plan. This is more about: one, a lot of our leases folks, these are entry-level positions. It's probably the highest turnover position in our industry and it's just important as we enter the peak leasing season each year. This is -- the fact that we had a sales meeting before peak leasing season is not necessarily new. We do this every year. What is new is the fact that myself, our senior leaders here, we went out, we spent time with these folks, we heard their concerns, we discussed our opportunities, especially with our servicing employees. They are a critical piece of the renewal puzzle, and this was all about giving them the support they need to be as successful as they can over the next several months.

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Operator [14]

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From UBS, we go next to Nick Yulico.

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Nicholas Yulico, UBS Investment Bank, Research Division - Executive Director and Equity Research Analyst- REIT's [15]

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First, I guess on New York. Obviously, lot of concern with all the supply that's coming. Can you give us a sense for how much of your portfolio in New York you think is actually exposed to the high-luxury segment of the market where all the supply is being delivered?

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David S. Santee, Equity Residential - COO and EVP [16]

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Well, I guess I would say probably most of it. The question that we've always -- that will be answered soon is will Long Island City become a new value destination and will that draw folks from Manhattan or Brooklyn in search of a lower rent. Where we -- it's probably easier to talk about where we're least exposed, which is probably Jersey City and the Upper East Side. But the bulk of our revenue comes from -- well, over 30% of our revenue is just on the West Side. So that will -- and that's where most of the deliveries that directly compete with our portfolios are coming online.

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Nicholas Yulico, UBS Investment Bank, Research Division - Executive Director and Equity Research Analyst- REIT's [17]

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Okay. And then, David Neithercut, I had a question on you and the board's capital allocation views right now. So in March, I think you were doing your annual NAV analysis to the board. I'm wondering what the conclusion of that analysis was and specifically how you're weighing external growth versus buying back your stock?

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David J. Neithercut, Equity Residential - CEO, President and Trustee [18]

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Well, we've talked about this on a quarterly -- at the board level. And we have, for quite some time, I think, taken a more cautious approach with respect to capital allocation. As you know, we throttled back our development considerably and following the large disposition that we did last year and even last year, we did not acquired a great deal. For the past several years, our free cash flow has gone to fund development pipeline, which has been extremely profitable and successful pipeline. That has been communicated with our board in our most recent meeting. That spend will begin to reduce and beginning in '18, that commitment to that business will not be the magnitude that it'd been over the past few years. And that capital could be used for many different uses, including stock buyback, if we thought that was appropriate to do at that time.

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Nicholas Yulico, UBS Investment Bank, Research Division - Executive Director and Equity Research Analyst- REIT's [19]

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Okay. I guess, just a follow-up. Are you also thinking about other options, maybe to free up some more capital, whether it'll be selling some of the recent New York City developments or maybe even raising your leverage a bit, sacrificing your A-minus credit rating because you're, maybe, not getting that much of a benefit from it right now versus if you went down a notch? I mean, how are you thinking about some of those approaches which would create even more capital to reinvest somewhere else?

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David J. Neithercut, Equity Residential - CEO, President and Trustee [20]

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Well, I mean, we did sell an awful lot of assets last year and did return a significant amount of capital to our shareholders, so it's not as though we've not been thinking about that kind of thing. In terms of selling assets, we believe that many of the assets that have been on recent developments really will be the value creators for the company over an extended time period. Assets that may not be as important over the long-term strategy of the company as demonstrated by that, which we sold last year, and if meaningful gains and will produce -- because of the requirement of (inaudible) gains, will produce a lot of excess cash flow. We have, as you note, we've -- our balance sheet is probably in a best shape that it's ever been. Mark and his team have spent a lot of time with the agency, letting them know about what we've been doing there, and that number has come down. And we communicated to that side of the investment community that we're not unwilling to use that capacity if and when it makes sense to do so, if even the ranges in the boundaries in which we've operated since we went public back in 1993. So I guess I would say that we've had those -- these discussions, and we -- we'll not be afraid to use that capacity if and when it makes sense to do so.

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Operator [21]

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Our next question comes from Conor Wagner of Green Street Advisors.

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Conor Wagner, [22]

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David Santee, can you tell us where San Francisco renewals are for April and May?

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David S. Santee, Equity Residential - COO and EVP [23]

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Yes, I can. I think, I said those in the prepared remarks. San Francisco for April 4.8%. And May still has about 32% to be worked, so it's 4.2%. So that number should close May much higher.

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Conor Wagner, [24]

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Okay. And then what's your positioning on renewal offers for June? Are you guys looking to raise them or hold them to where -- broadly not just in San Francisco, to where you've been sending them out for May?

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David S. Santee, Equity Residential - COO and EVP [25]

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Well, so a lot of the West Coast markets are on our 30-day notice requirement markets. So we haven't issued many of those renewals yet, but I can tell you on the East Coast where we have to issue those about 75 days in advance. Those are, let's just call it, on par with May.

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Conor Wagner, [26]

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Okay. And then I don't know if you mentioned, David Santee, in your prepared remarks the portfolio-wide lease-over-lease growth for 1Q on the new renewal growth?

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David S. Santee, Equity Residential - COO and EVP [27]

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The lease-over-lease of that is minus 2%.

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Conor Wagner, [28]

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Minus 2%, okay. And then, David Neithercut, in the transaction market, we've observed a slowdown that's been total transactions in recent months. If you -- I don't know if you've seen the same thing, I assume so, and then what you would attribute this to or any difference you've seen either as a seller or as a buyer on your counterparties' behavior?

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David J. Neithercut, Equity Residential - CEO, President and Trustee [29]

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Well, I think what you've seen and everyone is sort of seeing, is just a widening of the bid-ask spread, which is not -- shouldn't come as a surprise when there's some question about where interest rates are going, where you're seeing some of the softness on the new leasing and there's new supply. So you continue to have owners and sellers who think the properties are worth certain price, and you've got buyers sort of saying, "I'm not so sure." So -- and there's been a slowdown of transaction activity for quite some time. And certainly, we have seen very little in the first quarter away from value-add product, which -- for which it remains fairly good bit.

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Operator [30]

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And we'll go next to Juan Sanabria of Bank of America.

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Juan Carlos Sanabria, BofA Merrill Lynch, Research Division - VP [31]

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Just a quick question on the job growth on the West Coast, in particular Southern California, given its importance to your growth. What are you guys seeing on the grounds in terms of job growth creation, both there? Maybe if you can comment on kind of what you're seeing in Northern California as well. And do you see signs of improvement or more kind of -- more softening that -- than you'd expected when you set guidance earlier in the year?

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David S. Santee, Equity Residential - COO and EVP [32]

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I guess I would categorize it either way. I mean it's kind of where we thought it would be. I think the better news for L.A., specifically, is that the number of high-paying jobs that are being created are in the places where we're developing new apartments, specifically, the urban core. But L.A. has always been very broad-based, many product types, many different municipalities. And so I think it's too soon to say anything either way as we're all on track and performing to expectations.

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Juan Carlos Sanabria, BofA Merrill Lynch, Research Division - VP [33]

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Okay. And then do you guys have a view on how the investment community should be, thinking about the permitting numbers, like the latest month's data in March, trailing 12 months, is that over 20%? Do you see that as a risk to the expectation that supply would come down at some point in '18 and '19?

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Mark J. Parrell, Equity Residential - CFO and EVP [34]

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Our expectations are not withstanding recent permits, based upon the intelligence that we gather from our teams that boots on the grounds in the markets in which we operate. So just generally the '17 will be a peak, and that we'll see a new supply reduce from there. We're certainly aware of the permitting activity. We know historically 85% or so of those turns into starts, et cetera. But our belief is with rent prices where they are, with construction phases becoming more difficult to get, with this -- the new supply that's coming into the marketplaces today, we just continue to believe that we should see new supply come down from this peak level that we're going to experience in 2017. By definition, if the 85% or so conversion of permits into starts, that means in some that must be less. I don't know what the range is, what the dispersion is around that number, but I, certainly, will believe that there would have to be years in which it would be below the 85%. I certainly expect, again, the number to get there. Our guys are out there looking at everything and they'll decide when all the players, Mark Parrell and I ask, can we just jump in, but he's been involved on the finance side. Well, he's sort of seeing -- hearing about the debt side. But if the land prices, construction costs continue to go up, the challenges that the markets are seeing as a result of a new (inaudible) supply and sort of a compressing land growth, just making it become even more challenging to sort of pencil, and we don't see any reason why we shouldn't come down from the 2017 peak. And just on the finance -- development financing side, I mean, we're constantly following banks, talking to loan brokers, talking to developers that are out there in the private market. And certainly was an inflection point back in December of '15 when the bank regulator issued its letter. It's a pretty significant view from the banks at that point that they weren't going to increase their apartment lending. So we think what's going on in the apartment lending, well, generally is that spreads are higher, 300 or so over LIBOR is pretty common. That advance rates have moderated into the 60%, 65% advance rate. So you need to come up with a good amount of equity. And that's all the things that David Neithercut mentioned about higher land costs, higher construction costs come into play and just make the deal harder to pencil what is now a pretty big size equity check that needs to be written. Now what the bank financing market is allowing though is as these deals roll out, so in other words, become stabilized and are often refinanced with Fannie Mae or Freddie Mac, that does create capacity of these banks to re-up and do loans, so we don't see a precipitous declines to be honest in bank volume as a whole. We don't see it going up either as it relates to apartment lending. And over time, we think that will cause the moderation that David referred to.

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Juan Carlos Sanabria, BofA Merrill Lynch, Research Division - VP [35]

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Okay, great. And then one last for me. How should we expect the occupancy to trend for the balance of the year?

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David S. Santee, Equity Residential - COO and EVP [36]

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This is David Santee. I think we expect -- I think I have mentioned that in my prepared remarks, we'd expect occupancy to kind of begin to moderate a little bit through the summer months, just due to the level of activity and then steady off in Q4 that will follow a normal seasonal pattern. These are still -- there's still good demand. We don't see any, really, material change in expected occupancies.

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Operator [37]

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And from Morgan Stanley, we'll go next to Rich Hill.

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Richard Hill, Morgan Stanley, Research Division - Head of U.S. REIT Equity and Commercial Real Estate Debt Research and Head of U.S. CMBS [38]

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I just wanted to get a little bit more questions on maybe New York City. So on new leases, I think you commented new leases were down negative 6%. Curious if you just maybe give us some look as to what you think the glide path might look like, sort of given what seems to be some new supply. So sort of in other words, when do you really start to see that to stabilize?

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David J. Neithercut, Equity Residential - CEO, President and Trustee [39]

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Well, I guess I would say that peak deliveries in New York are most likely to occur next year. So 15,000 units this year, of which only 5 have been delivered. And then another 17,000 units next year. So that's kind of -- we have kind of the deliveries mapped out on a graph and for this year, those deliveries peak in, in Q3. And -- but again, some of those deliveries in Q4 will obviously carryover into '18 as well. So I think David said in his prepared remarks, we're going to -- new lease prices will probably continue to be under pressure. But on the other hand, these lease-over-lease numbers that I quote, I mean, more often than not, they are always negative. It's just one of those new losses in our business and what's not captured in that number are the fees. Most of these people that move in November, December, or January, February, these are people that are forced to move. These people are the people that typically have to early term their lease. We are charging significant fees for the privilege of doing that, and those do not show up in these lease-over-lease numbers.

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Mark J. Parrell, Equity Residential - CFO and EVP [40]

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And just to expand that a little bit. So we know that lease rates moderate through the year. So if someone leaves a unit from us in July or August, as David said, needs to vacate in the first quarter, we leave that at a lower number, and we expect that rate level to be a lower number, which is why, as he says, oftentimes, first quarter lease-over-lease is going to be negative. Now because of this new supply, it's probably more negative today that it would otherwise be, but I don't want people to -- I just -- we want people to understand that it's -- even in an upward market, it's not uncommon for there to be negative lease-over-lease in the first quarter.

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Richard Hill, Morgan Stanley, Research Division - Head of U.S. REIT Equity and Commercial Real Estate Debt Research and Head of U.S. CMBS [41]

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Got it. So maybe a little bit of improvement as we go towards -- as we progress through the year?

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David J. Neithercut, Equity Residential - CEO, President and Trustee [42]

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Lease-over-lease, because the market rates will increase as we get into the primary leasing season, yes.

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Operator [43]

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Our next question comes from Tayo Okusanya of Jefferies.

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Omotayo Tejamude Okusanya, Jefferies LLC, Research Division - MD and Senior Equity Research Analyst [44]

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I know it's still a very tough backdrop, but by execution looks pretty good. Quick 2 questions from my end. The first one is 1Q is a seasonally slower quarter, you still put up same-store NOI growth above your guidance of 0 to 2%. From your comments today, it sounds like things are incrementally getting better. So I'm just curious why maintain the guidance of 0 to 2% for same-store NOI growth in 2017? Or kind of what you're expecting in the back half of the year that could be negatively impacting that number?

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David J. Neithercut, Equity Residential - CEO, President and Trustee [45]

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Well, let me just start by -- sort of you've answered your question, I think, as -- when asking it. And that is there will be transaction activities occurring up to now. We're just now beginning into primary leasing season and the rubber meets the road. So we're trying to give you a sense of what we've seen in the first quarter. But as David said -- David Santee said, in his prepared remarks, we recognize that the heavy lifting is ahead of us.

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Operator [46]

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John Kim from BMO Capital Markets is our next question.

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John Kim, BMO Capital Markets Equity Research - Senior Real Estate Analyst [47]

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Recognizing that this is the peak year supplies in your markets, except New York, can you provide some color on where you think supply will be in 2018 versus 2016?

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David J. Neithercut, Equity Residential - CEO, President and Trustee [48]

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Sure. These are -- basically, these are numbers, which, as of today, most likely will be -- because if you're vertical, you're already moving there. So we're looking at across all of our markets about 54,100 units.

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John Kim, BMO Capital Markets Equity Research - Senior Real Estate Analyst [49]

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Is that higher or lower than last year?

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Mark J. Parrell, Equity Residential - CFO and EVP [50]

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For '18, that would be lower than this year, '17.

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David J. Neithercut, Equity Residential - CEO, President and Trustee [51]

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Of course, it's higher compared to '16.

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Mark J. Parrell, Equity Residential - CFO and EVP [52]

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'16, I don't have -- I think (inaudible).

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John Kim, BMO Capital Markets Equity Research - Senior Real Estate Analyst [53]

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Okay.

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Mark J. Parrell, Equity Residential - CFO and EVP [54]

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It's probably (inaudible) 2017 (inaudible) what David is thinking about the supply, it -- when it gets delivered at a point in time, it takes a while to lease it up . So even '16 deliveries are competition for us today. And '17 deliveries will be competition in '18 and then there will be fewer deliveries in '18 and in '17. So we're watching this very closely. As I said earlier, we've got -- our guys, our investment offices, development folks, (inaudible) people on the ground, they're guarding track and all this stuff. And when David gives you that number, I just want to make it clear that this is the number of supply that we're looking at within sort of the markets that we draw that we believe will be competitive with our product. That does not intend to be a number from the entire marketplace. But only that, which we believe is a product that will be competitive with our portfolio set.

I have a question now on your utilization of 2-year lease terms. Are there certain markets where you're using this more and how much growth do you typically bake in to that second year lease term, if any?

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David J. Neithercut, Equity Residential - CEO, President and Trustee [55]

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So let's say really the only place we're using 2-year leases are primarily in New York. We're obligated to offer 2-year leases. And I think out of the leases that we've done thus far year-to-date, it's about 15% of total move-ins. Again, very low volume in the quarter. So 15% of the very low number is again a very low number. So it's not a material part of our leasing strategy.

It is that second year typically flat? Or is there growth in that second year?

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David J. Neithercut, Equity Residential - CEO, President and Trustee [56]

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I would tell you that in experimenting, obviously, we have had more takers vendors. No increase built-in, but depending upon what we expect as far as deliveries in 2018, we may offer 2-year leases with no increase built-in.

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Operator [57]

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We'll go next to Alexander Goldfarb of Sandler O'Neill.

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Alexander David Goldfarb, Sandler O'Neill + Partners, L.P., Research Division - MD of Equity Research and Senior REIT Analyst [58]

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2 questions for you. First, on the last call, you guys mentioned the CapEx and the need to be more competitive with the new supply. Have you guys sort of quantified how much you think your CapEx spending could change? And I'm not just talking sort of like apartment upgrade, but sort of to make the properties as competitive as they can be with new supply. Have you guys sort of quantified what you think it's going to be over the next few years versus the -- your historic run rate, especially as you commented, focused on turnover and keeping tenants in place versus having them jump for better deals elsewhere?

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Mark J. Parrell, Equity Residential - CFO and EVP [59]

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So Alex, we had talked on the last call about a number as a percentage of revenue for the same-store set of around 7% for all CapEx spending, whether the replacements whole shooting match. This year, we're in the low 8% range. Again, talking as a team, it seems like 7% to 7.5% somewhere in the right number for us. So that equates to about $2,300 per unit versus net the $2,600 we're spending this year. So again, from my point of view, we don't feel like our assets have a great deal of deferred maintenance, such that we require some sort of catch-up, but we are trying to make our assets just a little bit more appealing, accelerating some things we would have done in out years to this year, to make the leases even a little bit better for us right now. So I guess I don't feel like the run rate has changed past this year.

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Alexander David Goldfarb, Sandler O'Neill + Partners, L.P., Research Division - MD of Equity Research and Senior REIT Analyst [60]

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Okay, okay. And then maybe for David Santee. Can you just give us your thoughts now that the 421-a discussion is sort of coming out? It would seem from a quick read that it's from Manhattan and the trendy parts of Brooklyn, the new 421-a is probably not helpful and may actually be positive for existing landlords as far as restricting supply just given the terms, but I'm sure you guys are much closer to it. So can you just give your thoughts as far as it pertains to your Manhattan and Brooklyn portfolio, how you think the new 421-a, if you think it will encourage development or because of the terms, it won't actually add to development?

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David J. Neithercut, Equity Residential - CEO, President and Trustee [61]

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David Neithercut, Alex. We concur with your conclusion. Our team in New York has underwritten some transactions and applied the new affordable New York to those. And there are takeaway that while there are some nuances between the 2 that there's not really a dramatic change from the prior programs. We think that the -- to your point that the bid for condo, land in New York City and all, and the rise in construction costs would continue to make Manhattan and the Brooklyn markets that you mentioned very restrictive for new apartments going forward. And that the -- this affordable New York program will likely promote, encourage some rents to develop more in the outer boroughs, but maybe not see it as something that's going to have a meaningful impact on bringing new development into the Manhattan and, of course, in Brooklyn markets.

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Operator [62]

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And our next question comes from Tom Lesnick of Capital One.

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Thomas James Lesnick, Capital One Securities, Inc., Research Division - Analyst [63]

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I guess first following on those comments about supply New York, particularly increasing next year. Can you comment on the makeup of that supply? And by that I mean, should we see a shift from Manhattan to the boroughs in New Jersey? And that in turn, does that mean less direct supply for you and the bulk of your products in Manhattan proper?

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David S. Santee, Equity Residential - COO and EVP [64]

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This is David Santee. I have kind of misplaced my New York deliveries. But regardless, there's not a whole lot of supply in Jersey City or East Manhattan. I mean, a lot of the supply this year and next will be centered in kind of Northeast Brooklyn, Long Island City, continuing the Upper West Side, the West Side, and then a smattering all across Midtown down to Lower Manhattan. I mean, that's where all of the development is located, both this year and next.

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Thomas James Lesnick, Capital One Securities, Inc., Research Division - Analyst [65]

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Okay. So you're not seeing a concentration shift of any kind?

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David S. Santee, Equity Residential - COO and EVP [66]

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Well, I mean, concentration is -- you have to define that. I mean, there -- when Long Island City is only one train stop away, we'll have to wait and see if that's a draw out of Manhattan. So there is some jocking around. There's, obviously, less neighborhood loyalty, so to speak, and probably, what we were accustomed to 5 to 10 years ago. We hear stories of people moving from lower Manhattan over to Jersey City. We see people moving from New Jersey City to Upper West Side and really just comes down to what lifestyle are you trying to achieve.

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Thomas James Lesnick, Capital One Securities, Inc., Research Division - Analyst [67]

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Got it. That's helpful. And then I guess, secondly, thanks for mentioning the occupancy cadence expectations for the remainder of the year, but I was just wondering if you guys could comment on the cadence of same-store growth quarter-by-quarter for the year as well and perhaps the revenue and expense components as well.

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David J. Neithercut, Equity Residential - CEO, President and Trustee [68]

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Tom, we don't give quarter-by-quarter same-store revenue numbers. Generally speaking, the number will be lower through the quarters and will sort of flatten out towards the end of this year on the revenue side. On the expense side, a lot of the quarter-over-quarter numbers are functions of our comps periods. Our comp periods at the beginning of this year relative to the first half of 2016 are very easy, towards the end -- or very hard. Towards the end of the year, they're much easier. We have relatively high expenses same-store in the back half of 2016. So, again, what I tell you is when we sum this all up, we still feel good about our ranges, and that's why we do lease them. But each quarter is going to have a lot of volatility based on its comparable period.

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Operator [69]

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Our next question comes from Ivy Zelman of Zelman & Associates.

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Dennis Patrick McGill, Zelman & Associates LLC - Director of Research and Principal [70]

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It's actually Dennis McGill. First question, David, I was just hoping you could maybe clarify your comment on supply. I think earlier when you talked about the peak and supply in '17 on your analysis, you were speaking of it sounded like more from a start standpoint from the capital availability and construction costs and so forth. So I just want to clarify when you think about supply and talk about '17 and the peak, is it starts, completions or lease-up pressure?

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David J. Neithercut, Equity Residential - CEO, President and Trustee [71]

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That's deliveries. We talk about the year in which a product is delivered, and it's -- I'm glad you asked the question in that manner, Dennis, because we do track this not -- obviously, simply in the year or quarter in which your property is delivered. And delivered means essentially complete. But our teams out in the field track very closely when those units will first be available for occupancy, and you will become competition 30 or 60 days prior to that. So there is a difference between lend something as "complete" and when it actually is competition, and we track the latter more importantly.

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Dennis Patrick McGill, Zelman & Associates LLC - Director of Research and Principal [72]

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Okay, that's helpful. And so as we triangulate against the national numbers, which are showing both permits and starts being up strong double-digits so far this year, I think even over the last 6 months, implicitly I guess that's happening outside of your market concentration as you look at it.

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David J. Neithercut, Equity Residential - CEO, President and Trustee [73]

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Yes, I mean, we're certainly aware of what the national numbers are. And we're tracking those assets in our markets that we believe are competitive with us. And Dennis, just to add a little on the loan color side. Some of the feedback we've gotten from the banks and the brokers and the like, as it relates to our urban markets is that the banks are more interested in making loans in areas in the suburbs, where there is a little bit less construction over the last year or 2. Just, again, seeing the numbers decline a little in the urban core is discouraging. Also they would suggest the hardest loan to give right now is a syndicated urban loan. So a very large $100 million, $150 million loan. From our perspective, that's particularly good news because that's the kind of competition that David Santee and his team are facing most are these larger urban assets that do require pretty significant syndicated construction loans.

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David S. Santee, Equity Residential - COO and EVP [74]

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And just to double that on the deliveries of New York. Basically, the easiest way to describe this is where the concentrations are today, they are even more concentrated next year. So this year, Brooklyn in 3,700 units. Next year Brooklyn is 4,500 units. Queens this year or Long Island City is 3,000 units, next year that is 5,700 units. So next year, just between Brooklyn and Queens, that makes up 10,000 of your 17,000 units.

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Dennis Patrick McGill, Zelman & Associates LLC - Director of Research and Principal [75]

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Okay. And David Santee, on the new lease renewal rates, thanks for all the color by the markets as you progressed here into April and May, do you have a portfolio-wide number on 2Q today for both new and renewals?

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David S. Santee, Equity Residential - COO and EVP [76]

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Not Q2 to date. Just for the quarter.

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Dennis Patrick McGill, Zelman & Associates LLC - Director of Research and Principal [77]

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Just for first quarter. Okay. We can follow up there. And then also just to clarify the comments you made in Boston. With new leases under pressure, I think you said 5% in the first quarter, and I thought you said that was going to moderate through the year, but then I also thought you said that the supply was front half heavy. So maybe you could just clarify how you're seeing supply play out through the year and the trend in Boston.

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David S. Santee, Equity Residential - COO and EVP [78]

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Yes. So the supply is kind of coming on us right now and it's definitely concentrated back into the urban core and Cambridge. Kind of at the same time that the students, which make up a vast but -- well, not a vast, but a large majority of our residents in those 2 submarkets, begin to give notice through the end of the school year. So they're just -- the next several months would be a period of very high leasing activity where we kind of pre-lease for fall of 2017.

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Operator [79]

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And from RBC Capital Markets, we'll go next to Wes Golladay.

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Wes Golladay, RBC Capital Markets, LLC, Research Division - Associate [80]

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I was actually just going to ask a question on the international students, but I guess I'll go to my next one. Looking at New York, when you see that market reaching equilibrium when you factor in all the lease-up and maybe some just may -- take a little bit longer to lease some of these projects up?

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David J. Neithercut, Equity Residential - CEO, President and Trustee [81]

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Well, that's not just simply the discussion of supply that David shared with you, but the function of the demand as well. So as I mentioned, product being delivered in '18 will continue to be leasing up in '19. So it'll take probably the '19 before things can stabilize unless we see a nice pickup in the higher-paying job sector in New York, which we all hope will happen, but we haven't seen in a while.

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Wes Golladay, RBC Capital Markets, LLC, Research Division - Associate [82]

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Fair enough. I hope for that as well. And then looking at the increased retention ratio, is that something that's coming as a surprise and you expect that to continue?

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David J. Neithercut, Equity Residential - CEO, President and Trustee [83]

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Well, look, it was one quarter. It was -- while it was a year-over-year returns in the first quarter '17 than it was in the '16, it's still not a lot relative to the terms which brings throughout the whole year. As David mentioned, no, we are spending. We have spent and not just recently, but over the last years, spent a lot of time training our people, making sure they appreciate how important renewals are and expectations that we expect them to deliver just to do that. And so we have every expectation, every hope that retention will remain strong because we've got a real focus on this, as David mentioned in his prepared remarks.

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Operator [84]

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And we'll go next to Rich Anderson of Mizuho Securities.

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Richard Charles Anderson, Mizuho Securities USA Inc., Research Division - MD [85]

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So just if I could wrap up, just a couple of things that were said, but not explicitly committed to. UDR said slides moving out of suburbs into the -- out of the urban core and into the suburbs and Sunbelt, would you second that kind of directly? Can you answer that question?

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David S. Santee, Equity Residential - COO and EVP [86]

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In the Sunbelt?

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David J. Neithercut, Equity Residential - CEO, President and Trustee [87]

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No. On the...

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Richard Charles Anderson, Mizuho Securities USA Inc., Research Division - MD [88]

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From the core -- from the urban core into the suburbs in the Sunbelt.

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David J. Neithercut, Equity Residential - CEO, President and Trustee [89]

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I don't really have -- I have no knowledge about what's happening in the Sunbelt. Although Mark Parrell just mentioned that he -- the lending community had suggest to him, but they prefer the smaller sized loans out in the suburbs as opposed to the larger deals that will require syndication downtown. But I've got relatively no -- can't comment on what's happening in the Sunbelt.

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Richard Charles Anderson, Mizuho Securities USA Inc., Research Division - MD [90]

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Fair enough. And then answered -- one question was answered, you -- things are turning out the way you thought they would be turning out. And I'm wondering if that's actually a good result. And by that I mean, if you compare how you feel today versus how you felt in the fourth quarter when you were doing this call, would you say you feel incrementally better that things have actually stabilized and met your expectations and hence maybe you feel better about the future as well when you think about supply kind of starting to decelerate next year? Can you make that type of statement today or no, not yet?

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David J. Neithercut, Equity Residential - CEO, President and Trustee [91]

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I guess it's hard as we see here the lease or of the primary leasing season recognizing that we have the least amounts of actual transaction activity in the fourth quarter and in the first quarter. But I've -- we have talked about some markets, like San Francisco, maybe having found the bottom, having reset to a level. David in his remarks mentioned that in San Francisco, we hope that it was positioned a bit rational pricing as the new product comes online. But we just do want to emphasize that the work is yet to be done ahead of us. Most of the leasing, we'll do, will be done in the next 90 days, and we'll have a better overall perspective of how it's going and how we will shape up when we visit with you at the end of July.

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Richard Charles Anderson, Mizuho Securities USA Inc., Research Division - MD [92]

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Okay. And then just on New York, you mentioned, I think Santee called it disciplined. So do you feel like just specifically about that market despite all the commentary about supply? Do you feel a little bit better going into the heavy leasing season in New York because of that discipline that you're sensing in this past quarter?

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David J. Neithercut, Equity Residential - CEO, President and Trustee [93]

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Well, I certainly feel better, but that doesn't mean things can't change very quickly. When you look at our committed concessions, May looks very good, and we'll see how that plays out. But again, we still have to deliver -- we're in the midst of delivering another 10,000 units on top of 10,000 units that are currently baked in and in lease-up.

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Operator [94]

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And we'll take a follow-up question from Tayo Okusanya of Jefferies.

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Omotayo Tejamude Okusanya, Jefferies LLC, Research Division - MD and Senior Equity Research Analyst [95]

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I just wanted to understand the delta between the offers you sent out for renewals and the actual rates you end up booking. What's happening to that delta? Does that continue to kind of expand? Has it started to close up? Just kind of trying to get a sense how that tenants are reacting to the renewal offers that they're given?

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Mark J. Parrell, Equity Residential - CFO and EVP [96]

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Yes. So we'll use March as an example since that's closed out. Typically, that spread has been 180 basis points, we closed March out at basically 190 basis points. So I would say for the most part, all the market spreads are holding as we expected with a little wider spread in New York City.

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Operator [97]

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And that concludes today's question-and-answer session. Mr. McKenna, at this time, I'd like to turn the conference back to you for any additional or closing remarks.

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Marty McKenna, Equity Residential - VP of Investor and Public Relations [98]

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All right. Thank you all for joining us. We look forward to seeing many of you in New York City in June.

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Operator [99]

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And this does conclude today's presentation. Thank you all for your participation, and you may now disconnect.