AvalonBay Communities Q1 2023 Earnings Call Transcript

Quartr
Provided by Quartr
April 27, 2023

Key Takeaways

  • Q1 results delivered 13.7% core FFO growth year-over-year and 4.1% like-term rent growth, beating guidance by $0.05 per share and prompting a full-year core FFO raise of $0.10 to a $10.41 midpoint.
  • Drawn $500 million of equity forward at a low-4% cost to fund developments targeting >6% yields and invested proceeds at 5%+, generating ~ $0.03 per share of incremental 2023 core FFO.
  • Suburban coastal markets show stable fundamentals—limited new supply (1.2–1.6% of stock), rent-to-income ratios in line with long-term trends, and favorable economics versus homebuying.
  • Four pandemic-era developments under lease-up have already achieved a 17% rent mark-up versus underwriting, lifting yields to 6.7%, and over $130 million of incremental NOI remains as the 18-project pipeline stabilizes.
  • Balance sheet strength remains a priority with 4.6x net debt/EBITDA, $2.8 billion of liquidity, and expansion of the centralized service center via a 25,000-unit agreement with Gables to drive future revenue and efficiency gains.
AI Generated. May Contain Errors.
Earnings Conference Call
AvalonBay Communities Q1 2023
00:00 / 00:00

There are 14 speakers on the call.

Operator

Ladies and gentlemen, and welcome to the AvalonBay Communities First Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen only mode. Following remarks by the company, we will be conducting a question and answer session. Call. Your host for today's conference call is Mr.

Operator

Jason Riley, Vice President of Investor Relations. Mr. Reilly, you may begin your conference.

Speaker 1

Thank you, Doug, and welcome to AvalonBay Communities' Q1 2023 earnings conference call. As a reminder, this call may contain forward looking statements and actual results may differ materially.

Speaker 2

There is a discussion of

Speaker 1

these risks and uncertainties in yesterday's afternoon's Press release as well as in the company's Form 10 ks and Form 10 Q filed with the SEC. I'll now turn the call over to Ben Schall, Chairman and CEO and President of AvalonBay for his remarks.

Speaker 2

Ben?

Speaker 3

Thanks, Jason. In terms of key themes for this quarter, I will start by reviewing our strong start to the year and describe why we believe our suburban coastal Portfolio is particularly well positioned. Sean will discuss our operating performance and relative strength as we enter the peak leasing season. Matt will comment on the evolving development market and detail the differentiated earnings stream that our developments currently underway are set to provide. And Kevin will review our strong financial position and highlight the advancements at our industry leading centralized service center, we utilize to drive revenue and operating efficiencies.

Speaker 3

Turning to our presentation, starting on Page 4. We continue to meaningfully grow earnings in Q1 With core FFO increasing 13.7 percent. A significant part of this uplift is related to the roll through of leases signed last year. We also continue to grow rents during Q1 with like term effective rent change of 4.1%. For the quarter, we exceeded core FFO guidance by $0.05 With the $0.01 of revenue primarily attributable to better than expected collection rates from residents, dollars 0.03 due to lower operating expenses And $0.01 related to interest income and other items.

Speaker 3

In early April, we drew down the proceeds of our equity forward, which we entered into about a year ago At the spot price of $2.55 per share. A couple of items to highlight here. First, the initial cost of this $500,000,000 of capital Is in the low 4% range. As was originally intended, we've allocated this capital to development projects underway, Which are projected to generate development yields of 6%

Speaker 2

or more. So when we

Speaker 3

talk about funding our underway development at yesterday's capital cost, This almost 200 basis point spread is what we're referring to and leads to significant value creation for shareholders as these projects stabilize. The second aspect of the drawdown of the Equity Forward is unique to the current environment in which we can earn outsized returns on cash. We weren't originally planning to draw down the equity forward until Q4 of this year, but we executed it now and have invested the cash at 5% plus interest rates With extremely strong banking partners. On a net basis, the incremental income on this cash is projected to increase 2023 core FFO Approximately $0.03 per share after factoring in the incremental shares outstanding. We in turn increased our full year core FFO guidance by $0.10 The $10.41 per share at the midpoint.

Speaker 3

The breakdown is as follows. $0.02 in revenue with the $0.01 from Q1 And then an additional $0.01 in Q2 based on slightly better rental rates. There's an assumed $0.02 improvement for operating expenses for the full year, Which includes the $0.03 from Q1, partially offset by 0 point 0 $1 higher OpEx in the second half of the year and then of additional core FFO, primarily from the interest income on the equity forward proceeds as well as other cash management and slightly updated assumptions related to the transaction Timing. We did not adjust our same store guidance ranges at this point and we'll reevaluate those as part of our more fulsome mid year reforecast. Turning to Page 5 regarding market fundamentals.

Speaker 3

Occupancy and rent trends in our established regions are experiencing less volatility than in the Sunbelt regions. Part of this is a reversion to long term trend lines. There are also underlying demand factors providing greater stability in our established regions and 2 are worth noting. 1st, rent to income ratios are generally in line with traditional levels. As noted in Chart 3, effective market rents in Established regions have grown about 10% over the past 3 years with income levels more than keeping pace with rent growth.

Speaker 3

And second, With limited single family home inventory and higher interest costs, the economics of renting are considerably more favorable than buying a home in our markets. The near term supply picture also bodes well for the performance of our suburban coastal portfolio. As shown on Page 6, Our established regions have meaningfully less new supply coming online this year, estimated at 1.6% of stock as compared to Sunbelt Markets at 3.6%. And as shown on the right hand side of this page, when we look at supply that is directly competing with our portfolio, levels are even lower. At 1.4% of stock overall Only 1.2% of stock in our suburban markets, which comprises roughly 2 thirds of our portfolio.

Speaker 3

In terms of our portfolio allocation objectives, We do still want to shift 25 percent of our portfolio to our expansion regions over time in order to diversify and optimize our longer term growth profile. So that has not changed. And in the nearer term, the relative trade of selling assets in our established regions to acquire assets in the expansion regions could be more attractive to us than it has been, Allowing us to more profitably reposition our portfolio for future growth. And with that, I'll turn it to Sean for more specifics on the operating backdrop.

Speaker 2

All right. Thanks, Ben. Continuing with Slide 7 to address market trends, effective rents in the East 21 and the first half of twenty twenty two and then soften consistent with seasonal norms in the back half of twenty twenty two. Brents on the East Coast experienced a more modest decline through COVID and have grown steadily since Q1 2021 With a very modest seasonality in the back half of twenty twenty two and consistent with historical norms, LOTCOs posted positive Sequential monthly rent growth during the Q1. From a year over year growth rate perspective, The West Coast continued to decelerate during Q1, while the East Coast showed signs of stabilization bolstered by slightly better growth in absolute rent levels Since the beginning of the year.

Speaker 2

Moving to Slide 8 to address trends in our same store portfolio. Key performance indicators were healthy during Q1 and remain so heading into the prime leasing season. Our availability was in the low 5% range during the quarter. Turnover, which was relatively stable during the quarter, was lower than Q4 2022 as the volume of residents leaving our communities to purchase a home Declined by roughly 25% sequentially and about a third year over year. Occupancy increased about 30 basis points from Q4.

Speaker 2

And as noted in Chart 4 on Slide 8 and also in our earnings release, rent change improved from 3.7% in January to 4.9% in April. Additionally, our portfolio average asking rent has increased about 3.5% since the beginning of the year, Up 4% on the East and about 3% on the West and is slightly ahead of our original expectation. Also renewal offers for May in June went out at roughly 7%. I'll turn it over to Matt to address development now. Matt?

Speaker 2

All right. Great. Thanks, Sean. Turning to Slide 9. Our lease ups continue to deliver outstanding results, laying the foundation for strong future growth in both earnings and NAV.

Speaker 2

We currently have 4 development communities that had active leasing in Q1, all of which started construction early in the pandemic before rents had started to rise meaningfully. As a general rule, we do not update our projected rents on lease ups until we open for business and start to gain leasing velocity, at which point we mark those rents to current market levels. For these four deals, we have seen an increase of $4.85 per month or 17% above our initial underwriting. This in turn is driving a 70 basis points increase in the yield on these investments to 6.7%, well above Looking ahead, we expect to start leasing on an additional 7 communities before the end of the year. We have not yet marked the rents on these projects to current market, But in general, the locations in which they're located have seen similar increases in market rents since we started construction, providing a great opportunity As shown on Slide 10, with most of our communities development communities still early in lease up or yet to open, We realized just $10,000,000 of the total projected $142,000,000 in NOI from the entire development book in Q1.

Speaker 2

This leaves over $130,000,000 of incremental NOI to come as these assets complete construction and stabilize. And as per the prior slide, That total NOI figure is also likely understated given only 4 of those 18 total projects have been mark to market today. Turning to Slide 11, as we look to future development starts, we are certainly starting to see shifts in the development market in response to tightening over the past several quarters. Among our competitors, many planned projects are being postponed or abandoned As third party financing becomes scarce and comfortable and some of these dropped land contracts are starting to come back to the market with much lower pricing expectations. We've already been able to take advantage of several of these situations with recent additions to our development rights pipeline and we do expect to see more as the market adjusts.

Speaker 2

The slowdown in starts in turn is starting to impact the construction market where we are finally starting to see some retraction in subcontractor trade pricing After 3 years of outsized increases, an environment where capital is scarce and certainty of execution becomes more critical both to land sellers And subcontractors plays well to our strengths as both the developer and the general contractor. And we have traditionally seen some of our most profitable investment opportunities When these more challenging cyclical conditions have prevailed. And with that, I'll turn it over to Kevin for an update on the balance sheet and the CCC.

Speaker 4

Thanks, Matt. Turning to Slide 12. As we look ahead, our balance sheet remains exceptionally well positioned to provide financial strength and stability, while also giving us the flexibility to continue funding attractive growth opportunities across our investment platforms. In this regard, We enjoy low leverage with net debt to EBITDA 4.6 times, which is below our target range of 5 times to 6 times. We also enjoy tremendous liquidity of about $2,800,000,000 today with no borrowings under our $2,250,000,000 unsecured credit facility And an additional $500,000,000 from just having settled our equity forward that we originated a year ago.

Speaker 4

As a result, we don't need to tap Capital markets for an extended time and we are well positioned to lean into our balance sheet to take advantage of future investment opportunities that may emerge in our markets over time. On slide 13, we highlight our recently announced agreement to provide back office financial administrative support to Gables Residential's portfolio 25,000 apartment homes from our centralized customer care center, which we established in 2,007 to create operating And we will now begin the Q1 of 2019. At the outset, I want to acknowledge the efforts of the entire AvalonBay team that brought this business We highlight this achievement for several reasons. First, because we are genuinely excited to be able to extend these services To a highly respected multifamily company such as Gables and to its residents second, because this agreement demonstrates the appeal of the innovative capabilities that we've created in the 16 years since we established the CCC. And 3rd, because we have embarked on extending those capabilities in a way that allows us to create additional value for AvalonBay shareholders

Speaker 2

by offering

Speaker 4

the support services to other institutional multifamily owners now and in the future. As a reminder, we are not offering property management services under our agreement with Gables nor do we intend to do so, as all business and operational decisions And finally, from an economic and guidance perspective, while we are not disclosing the specific terms of our agreement for confidentiality reasons, The near term earnings accretion from this agreement is relatively modest and was included in our initial outlook given back in February 2023. With that, I'll turn it back to Ben for closing comments.

Speaker 3

All right. Thanks, Kevin. Page 14 summarizes our key takeaways and focus areas. We're pleased with our start to the year, expect our portfolio to outperform as

Speaker 5

we look ahead and are

Speaker 3

also mindful that these are the types of environments, With that, I'll now ask the operator to open the line for questions.

Operator

Thank you. Ladies and gentlemen, we will now be conducting a question and answer session. Our first question comes from the line of Eric Wolf with Citi. Please proceed with your question.

Speaker 1

Thanks. It's actually Nick Joseph here with Eric. Kevin, you mentioned the agreement announced last week with Gables. I recognize you can't talk too much on the specific terms of that. But Yes, if you could talk more broadly about, is this a one off deal?

Speaker 1

Are you looking to scale this business? What Sort of margin and economics could you derive from it? And then I

Speaker 2

know this isn't a 3rd party management contract, but would that be of interest as well for other property owners? Sure.

Speaker 4

Thanks, Nick. I'll start and others, Ben or John may want to chime in.

Speaker 2

In terms of the go forward The view

Speaker 4

of this, we're certainly excited to have this agreement in place. And without getting into the specifics of the economics, I mean, the impact is at the moment fairly modest if you think about the relative size of our business and our main value creators outside of operations and development and so forth.

Speaker 2

But we are excited to have

Speaker 4

it in place. It is accretive. There are from a contribution point of view, healthy margins for sure that make this worth the while. As to the future potential, we're certainly hopeful and inspired to do more business like this, but we're not proactively looking for that new business right now. We've just completed this transaction, of course, with Gable.

Speaker 4

So, but we do hope, looking ahead to be able to do more business like this over the time. And we think it does make sense for us to do it because over time because it allows us to scale and more fully invest Over time, in an important capability that allows us to further differentiate ourselves from our peers. So there's a lot more I could go into there, but maybe I'll just pause there. And I don't know If Sean or Ben have anything else to add.

Speaker 3

Yes, I think that was well put. I'll add a couple of things and thanks for the question, Nick. I would connect for you this step as the kind of next continued evolution, Both of our operating model journey, but as well as the role that the CCC and centralized services are playing for us. And so Part of the appeal in addition to the revenue and profit opportunity with Gables, we are increasingly Handling more services at least in part at a centralized way. And this relationship allows us to make continued investments, Think about technology, process, people, that we think can then accrue to the larger platform here at AvalonBay.

Speaker 3

So it's a nice next step in our overall operating model journey and we're excited for this first step and potentially future clients going forward.

Speaker 1

Hey, it's Eric. Maybe just a follow-up there. You said that the initial sort of impact was included in guidance and wasn't Frankly, that large. I guess, how many units would you sort of have to manage before it would become a sort of more material part of your earnings stream? And then Just to make sure that I understand the last part of your answer, I think you're effectively saying that you can sort of invest in your platform, invest in technology.

Speaker 1

And even though that the financial contribution above that might not be that big, you're effectively allocating those costs To other parties, is that the right way to think about it? Or did I misunderstand that?

Speaker 4

Yes. Eric, let me kind of take a stab at it a little bit. I can't really give you, I mean, an answer of what number of units would have to be under this kind of an arrangement for it to be material, partly depends on what you think is material, I guess, I think the way we look at it is from a slightly different perspective, not the immediate financial impact, but it's kind of been alluded to What this sort of thing does for us to continue our journey to create the leading operating platform in the business. And We're in our 17th year with this experience, and I think that we're pointing this out probably for two reasons. 1, to your question about what this can do, The more you do this for not only yourself, but for others, the more you can reinvest in that business, create a better platform in and of itself over time.

Speaker 4

But even for our own sake, when we started, we weren't at our current size of whatever 80,000 apartment homes when we started this in 2007, we were quite a bit smaller. And, it has gotten better itself over time. We've really fine tuned and honed the CCC such that it's substantially better than it was even back in 2,007 2010. And it has done a number of things you can see on the slide here for Over time, I mean, one thing it did is when we had the ArtStone transaction, we were able to add 20,000 units in 30 days. So That bespoke that speaks to sort of the ability to scale quickly when you've got that capability centralized in house.

Speaker 4

And the other reason why we think it's We respected institutional multifamily owner such as Gables by entering and screening with us after its own due diligence to us and our center It does provide external validation of the strength and the economic value of the capabilities we've created at the CCC over the past 16 years. And we think that's something that's worth emphasizing to our investors given the increasing importance of generating alpha in our operating platform through an innovation, which continuing to do across the entire business at this point.

Speaker 1

All right. Thanks for all the detail.

Operator

Our next question comes from the line of Steve Sakwa with Evercore. Please proceed with your question.

Speaker 6

They are pretty back end loaded for you guys this year. I'm just curious given Matt's comments about Costs starting to come down, but the economy is potentially weakening and rent growth is slowing. How those potential starts Kind of shaping up for you and what I guess are you looking for higher hurdle rates today and maybe in the back half of the year than you were say 6 months ago?

Speaker 2

Sure. Hey, Keith, it's Matt. Yes, so our target yield or going in initial return on new development Has been rising really over the last year as we saw cap rates rise and cost of capital rise, both debt and equity. Our target yields were probably in the mid-5s mid to high-5s last year and now they're kind of in the 6s, low to mid-6s depending on the geography and the risk associated with the deal. So our start activity for the year is It is probably a little more back half weighted just by the way these deals tend to pace out.

Speaker 2

And also we do think that as time goes by, we're going to see more buyout savings on our hard costs. So in some that probably pays to our advantage a little bit. And we can play that a little more aggressively given that we act as our own general Contractor 90% of our development, which is a little different than I think many others. Yes. But when I look at our development starts that are slated for this year, that's about where the yields are.

Speaker 2

They're probably in the low sixes. And you have to kind of look at the geographic mix and the risk profile of those deals to kind of weigh the profitability of each one, which is what we But again, we've been pretty consistent saying we're continuing to look for that 100 to 150 basis point spread on new starts. Frankly, the stuff that we started last year and the year before, the spreads are well wider than that, which was kind of highlighted on the slide.

Speaker 6

Yes. I guess maybe to ask that maybe do a little differently. I guess what risk or what probability would you put that You don't hit the starts number for host of reasons or do you feel reasonably confident that costs are coming your way and even if rent growth slows a little bit that You're still able to kind of achieve the returns you need to kind of put that you'll put those starts into the ground?

Speaker 2

I feel pretty confident about it. When I look at the starts for the year, we started 1 in the Q1. We have one that we've just started. It'll The 2nd quarter start, a third one where we have all of our final budgets and it's been approved through our investment committee. So that's 3 of the 7 rates start to be planned for the year.

Speaker 2

And when I look out at the other ones, I'm feeling Pretty confident that we should track that unless something very unexpected happens.

Speaker 3

Steve, maybe a little bit more to your question about how is our development Approach changing, and we do have a fairly fulsome development rights pipeline. And Matt's talking about our nearer term starts, which are Fairly baked at this point. But the next set of deals right in that pipeline over the next couple of years, part of what we're going through right now is very Proactively reworking those deals, right, to reflect today's environment. And given what's happening with some of our competitors, Some of the formerly active developers there, sellers are starting to increasingly acknowledge that the environment has changed. And so that's leading to Land repricing that's leading to more attractive terms.

Speaker 3

It's allowing us to control high quality real estate, relatively limited upfront costs. So all those dynamics continue to run-in our direction.

Speaker 6

Okay, great. And then maybe just one question for Sean. I guess given that we're going into spring leasing season, how I guess how much confidence do you have that Kind of the May June numbers might look like April, could they be better? And I guess what markets are you seeing the most strength and weakness?

Speaker 2

Yes, Steve, good questions. Maybe I'll provide a little high level commentary as it relates to renewals versus new move ins And a little bit about trends. But in the Q1, what I'd say is, if you look at the blend there, Renewals were kind of in the high fives and new move ins were sort of in the mid-two percent range. And then in April, Renewals were sort of in the mid-5s, but new move ins, just given the seasonality of rents, has kind of moved up into the mid-4s, Just to give you some perspective there. And our expectation is that consistent with what we talked about on the Q1 call that we would see the best rent change kind of in the first And then it would begin to decelerate, but that's dependent upon what happens with growth in asking rents as we move through the year.

Speaker 2

So Our expectation is still consistent with what we communicated in Q1 is that we would see Q1 perform well and then we would start to see some moderation Both in rent change and in overall rental revenue growth, and that's still the expectation. And part of that you're going to have to keep in mind Yes. On a year over year basis, the headwind associated with the reduction in rent relief becomes more material as you get into the 2nd Q3. That will create some moderation from a rental revenue growth perspective. But as it relates to rent change, based on what we know today, I would say as you get further into the Q2, we would expect that to begin to moderate more so than what obviously we saw in the Q1.

Speaker 6

Great. Thanks. That's it for me.

Operator

Our next comes from the line of Austin Wurschmidt with KeyBanc. Please proceed with your question.

Speaker 7

Great. Thanks everybody. Going back to Gables for a minute, I guess, I'm curious what sort of precipitated the discussions with Gables and whether or not you pursued any other potential portfolio To add, to the CCC platform and while, understanding you're not handling the property management, could we see these partnerships lead to a feeder for

Speaker 3

Yes, Austin. On the first piece, short version of it, there were some existing relationships Across the firms, which sort of started the conversations, we then went through a pilot with Gables on a smaller portion of this portfolio To test it both for them and for us. And on the heels of that, we both decided to proceed, given the benefits that were Being realized. And then to your last piece, no, this is not an acquisition type of approach or angle here. This is much more focused on operational benefits.

Speaker 7

Understood. And then going back to development, I recall Some tables you provided over time showing kind of IRRs on development and certainly recall coming out of the GFC, There were some really attractive returns over time. So given what's going on with the availability of bank Seeing the more attractive land and input costs, I guess it seems like a unique opportunity today. So how are you thinking about ramping Development, as quickly as you can to maybe capitalize on what's going on today?

Speaker 2

Hey, Austin, it's Matt. I can speak to that a little bit and then Ben may want to as well. But So the good news is we have a we're controlling a lot of really good real estate right now for very modest upfront investments. So We've kind of been operating the platform in anticipation of a potential opportunity emerging like this Really for the last couple of years, and we've added quite a lot to our pipeline over the last year or 2. We're controlling I think 40 or 41 potential deals with pretty modest land on our balance sheet.

Speaker 2

I think it was 180,000,000 End of the quarter, the total investment including capitalized pursuit costs is only around $235,000,000 or 240,000,000 So we have and a lot of those options Are not yet at the point where we have to make a decision about are we going to close, are we going to as Ben mentioned, there are some conversations going on with some Salaries about these deals are struck in a different environment. So I think we're well positioned. I wouldn't say it's quite there yet. It's not like development economics Our screening value yet, we kind of have to see where asset values settle out. And that's the other side of this is what's going on in the transaction market, Which is still pretty muted deal volumes, but we do have the ability to ramp it up if we see that Emerging kind of later this year, particularly when you look to next year.

Speaker 2

The other thing is, as I mentioned, we are starting to see the moderation in hard costs, particularly in some markets Every day and that's the other opportunity that we will see. There's some markets where we think it's going to come down more. There's other markets where it's going to take a little more time. But over particularly the next 4 or 5 months as we have More deals out in the market actively bidding, we'll have a much better sense for where hard costs are going because what we're finding Today is, if you have a job that you're going to start in a year and you're showing preliminary drawings, you're not getting particularly attractive pricing. If you have a job that's truly ready to go, you've got a permit in hand, subcontractors can see some early site work and they have a hole in their production schedule, that's when you're seeing The more aggressive bit.

Speaker 3

2 areas I'd emphasize. 1, just on the point of our relatively limited land holdings. We look across our peer set, our land holding numbers is below a number of our peers, despite kind of Our ability to execute at higher development levels throughout cycles. So we've got some room in there. The second part is In the environment right now, we recognize we need to be selective about that.

Speaker 3

But in places, it could be markets we know really well, have nearby Operating communities, places where we can bring our platform into, we're finding opportunities there in our expansion markets for some high quality land, deals that are falling out of contract, Ability to step in, and there have been a couple of situations where land is getting repriced at 30% to 35%, where it was priced 9 months ago, if we can step in and control that land with relatively limited cost, we can look at a couple of years and we think that'll accrue some significant benefits.

Speaker 2

Thanks for all the detail.

Operator

Our next question comes from the line of Adam Kramer with Morgan Stanley. Please proceed with your question.

Speaker 8

Hey, guys. Thanks for the question. I just want to ask about bad debt. It looks like 500 basis points on kind of a gross basis in the quarter. I'm just wondering, I know you're going to give a really helpful kind of market by market breakdown there.

Speaker 8

So just wondering kind of how you're thinking about gross bad debt Over the next few quarters, and is there a chance this could be kind of a some sort of tailwind going into next year if this does return to maybe it doesn't even return all the way to kind of normal pre COVID levels, right, but just you get some year over year improvements on that number?

Speaker 2

Sure, Adam. This is Sean. Just a couple of comments on that. First, as it relates to bad debt during the quarter, the Sort of uncollectible portion from our residents as we think about sort of underlying bad debt came in around 3%, Which is about 20 basis points better than what we anticipated, and that's the penny that Ben basically spoke about in terms of what we picked up in the Q1. Moving forward, for the balance of the year, we're expecting Q2 through Q4 to average roughly 2.7%, Starting at about 3% in Q2 and then sort of trending down throughout the year in terms of that underlying sort of bad debt percentage.

Speaker 2

So that's how the sort of trajectory looks as you move forward. Different markets are doing different things. We saw some nice improvement in New York, The Greater New York region in the Q1, it was responsible for about half the variance in the quarter, about 3rd and Southern Cal and then kind of sprinkled across the other markets as well. So overall, we were pleased with what we saw in the Q1, but It doesn't necessarily make for a trend just yet, and we'll be able to revisit that mid year once we have a better sense for how things are playing out as we move through the Q2 as well.

Speaker 8

Great. That's really helpful. I appreciate the clarification there on the 300 basis points. I was wrong on my higher number there. I appreciate that.

Speaker 8

Just as a follow-up, is there a chance you can kind of have a, I guess, kind of more of a one time in nature, but Kind of benefit from residents who kind of true up, right, who not only kind of get current on rent, but also pay Prior periods that they hadn't that they were delinquent on and hadn't paid, is it possible you can kind of see a 110 benefit from that?

Speaker 2

Adam, what I'd say is anything is possible. I don't think that is probable based on the resident behavior We have seen thus far. So I would not anticipate that to the extent that we all of a sudden Cash started raining in from people who haven't paid. That's not necessarily what we've expected in our guidance. It would be a bump, but I would not expect that as the likely outcome.

Speaker 8

Got it. Really helpful, guys. Thanks for the time.

Speaker 2

Yes.

Operator

Our next question comes from the line of Cheny Luthra with Goldman Sachs. Please proceed with your question.

Speaker 9

Hi. Thank you for taking my question. Could you talk about concessions? What are you seeing across your markets, particularly on the West And perhaps even on your expansion market, and how has the trend been in the last 19 days? Have things gone worse?

Speaker 9

Thanks.

Speaker 2

Sure, Shandy. This is Sean. Happy to answer that. First, in terms of Q1 activity Across all the leases we signed in the quarter, which is about 16,000 leases, the average concession is less than $200 So very, very modest. Obviously, more concentrated in certain places.

Speaker 2

What I would tell you is about 30% of the concession volume that we experienced in the quarter in that's where most of the volume is frankly. But if you look at concessions over the last few weeks, just to give you a little more recent data, less than 10% of Transactions that we're executing are seeing a concession. And again, it's more concentrated in those two areas, San Francisco and the Pacific Northwest, We're in those markets, you're 30%, 40%, 45% of leases depending on submarket are getting some type of a concession. So Those are the two places where we're focused on it the most in terms of moving volume, but it's not a significant issue elsewhere.

Speaker 9

Noted. And then as a follow-up, last quarter, you laid out cap rates in the mid to high 4s range. What are you seeing right now? And at what levels would you think that it would become appealing enough for you to dive in?

Speaker 2

Yes. Hey, this is Matt. I guess I'll speak to that one. So what we've said of cap rates and then our own trading activity, I think what we're seeing is that there's a bifurcated market. There are a lot of assets that are not trading.

Speaker 2

Those that are, I would kind of put them into 2 buckets, kind of the haves and the have nots. The HAVES, which is highly desirable assets in locations, either markets or submarkets that are on a lot of investors' lists For growth, those assets are still trading in the mid-four percent cap rates. I think in fact, I would have if you'd asked me 90 days ago, I probably would have said high fours. But And we do have some assets actively in the market today that hopefully will close here in Q2. And we have at least one that's in that Habs category, I would say that's probably more of a mid-4s cap rate.

Speaker 2

Now when I say cap rate, I'm not necessarily talking about the yield. I'm talking about Kind of the market convention, the way they record a cap rate, which includes a management fee and a CapEx allowance in the buyer's property taxes. The other side of the equation is the assets that maybe have a little bit less of interest that have a less deep Pool of bidders and there the have nots, you might have 1 or 2 that are seriously interested. And there I'd say cap rates are probably more like low fives. And so call that range anywhere from 4.5 to 5.25.

Speaker 2

And we may have an asset or 2 that's in that ladder category as well that Currently working in the market. As it relates to our own asset trading activity, our plan for the year was to be net neutral, But to really we started last year saying we were going to sell 1st and buy 2nd, so that to the extent we're trading out of Assets in our established regions into our expansion regions, we would know what the cap rate and pricing was on the asset that we were selling, Which in turn would inform our appetite on the buy side. So now we do have a couple of dispositions that are in process. And so we are going to be looking here over the next quarter or 2 to reinvest that capital into potentially some acquisitions in the expansion regions. We would expect I don't know if anything is going to close on the acquisition side in Q2, but it is our plan to kind of resume that forward trading.

Speaker 9

Appreciate all the color. Thank you.

Operator

Our next question comes from the line of John Pawlowski with

Speaker 2

around the state of the development market and the bullets you lay out on Page 11 of the investor deck. Ben, I know you threw out like a 30% to 35 reduction in land value comps, is that representative of the market right now? And like is the volume of these broken sites Meaningful right now or we're just getting started on the repricing?

Speaker 3

I think we are still early. There are More sellers than less who are effectively willing to give Current contracts sort of time, right, extend out and see where it heads. But we are starting to see some situations where deals are breaking. And the two situations I was referring to had buyers who are relatively motivated. And when they're looking out on the landscape, this goes to Matt's comments about Our ability to execute our that we don't need to rely on construction financing, right, to Projects today.

Speaker 3

Those buyers are going to on the margin look to somebody like Avalon Day to contract with. So that's yes, I'd say that's the kind of the general environment. Our expectation is that there is more to come. Starts, are we're expecting to be down substantially this year. And a big part of underlying all this is you look out at The private market environment and the merchant builders who have been very prolific, their ability to get Capital for new construction deals is just very challenging.

Speaker 3

And the cost of that capital is also expanded out significantly, Right. So on a relative basis, this is one of the parts that we're starting to see while our cost of capital has gone up And our cost of debt borrowing has obviously gone up from the 2% range to 5% range. The private market players, if they can get construction Financing, those senior mortgages are at 7.5% to 8.5% now, right? And that's before putting on some preferred equity or mezz and that's before getting to equity, Right. So our relative advantage in a period like this, we think is we're relatively well positioned.

Speaker 3

And so selectively, we're going to start stepping into some of these types

Speaker 2

Okay. On that point, I'm just curious if you guys have any internal theories of why we haven't seen a more precipitous Often permanent start activity, I mean, the credit markets have been volatile for a while and they've been tightening for a while. I know they're down a little bit more in your markets, but I'm just curious if you got any internal views on why we haven't seen the relief yet in the permanent starts data? Yes, John, it's Matt. I ask Craig Thomas, our Head of Market Research that question every month when the permit numbers come out.

Speaker 2

It is a little bit of a head scratcher. I mean, I think in the Q4, a lot of that was probably capital that was committed and had been lined up. And then a lot of the start a lot of the permit and even start activity, I've come to learn is not kind of what we would think of as our product. As much of half of it is other things, affordable housing production is actually running pretty high right now. There was a lot of one time money Through some of the COVID relief funds, which have gotten out there.

Speaker 2

So that could be inflating it a bit. But and in some cases, people may be pulling permits and then getting bids and not liking the numbers they're seeing. But it is a little bit of a head scratcher, I would agree with you. Okay. Thanks for the time.

Operator

Our next question comes from the line of Jamie Feldman with Wells Fargo. Please proceed with your question. Great.

Speaker 10

Thank you. I guess as you think about potential acquisition opportunities, do you think there could be some portfolios or platforms out there for Acquisition or you think it will be kind of singles and doubles on the land side or on the asset side?

Speaker 2

Hey, Jamie, it's Matt. I would expect it's probably more the latter. Usually portfolio transactions, unless somebody has some kind of I must say Bought a portfolio and put a lot of short term debt on it all, which would be pretty unusual. Our portfolio usually sellers selling portfolios, More opportunistic and those things happen when there's an abundance of capital and go back 3, 4 years, there was a kind of a portfolio premium. Today, we talked about, I think, on the last call, there's a portfolio discount, just given the capital markets.

Speaker 2

So we haven't heard Anything like that and I guess I'd be a little surprised.

Speaker 10

Okay. Thank you. And then as you think about the suburban versus urban assets, Whether it's the April data or your views on what's to come in spring leasing, any thoughts on how they're performing versus each other And versus your expectations and what we can exceed going forward expect going forward?

Speaker 2

Yes, Jim, it's Sean. What I'd say is that, generally, Things were in line. The rent change that we experienced in Q1, that's about 10 basis points better than what we anticipated. And if you double click through that and look at urban and suburban, again, very, very nominal variances. Certainly, as we move forward, Particularly if we get into an environment that is weaker from an economic standpoint, We do feel very good about our suburban coastal portfolio given the exposure to new supply is quite a bit less than Well, we're anticipating in urban environments.

Speaker 2

So I would say kind of as expected right now. But as you look forward, Depending on how the environment unfolds, we'd probably pivot more towards the suburban assets outperforming.

Speaker 10

Suburban F is outperforming.

Speaker 2

Yes.

Speaker 10

Okay. All right, great. Thank you.

Operator

Our next question comes from the line of John Kim with BMO Capital Markets. Please proceed with your question.

Speaker 10

Hi, thank you. I know you talked a little bit about Gables already, but I was wondering how big you think this revenue opportunity could be as far as offering These kind of office back office support functions for other operators?

Speaker 3

Hey, John, we haven't sized it yet at this point. We went through the pilot, as I described, wanted to get our 1st third party client fully implemented. We get a little bit further out, we'll start Thinking about the profile of additional clients and even further down the road thinking about where it could come, but we're not at that stage yet.

Speaker 10

Okay. And where do you see the most attractive opportunities, whether it's the broken deals that you talked about in the presentation Versus mezz or other

Speaker 4

round of developments?

Speaker 3

Yes. I'll hit maybe on Three areas and Matt can add in because he and his teams are living and breathing this. First is the development side, which we've talked about. 2nd is on acquisitions. And this gets into we do think our relative trade selling out of the established And in the expansion regions is more attractive today.

Speaker 3

We've got a couple of assets now that hopefully we will sell over the next couple of months. And so when we look to deploy Capital types of situations we can be looking at are could be deals in lease up, right, which are harder to finance for most buyers today, Could be a place where we can bring our platform to bear for a particular reason, nearby asset. But generally in this type of environment, we're not doing a ton of buying and selling. On the buy side, we're going to be looking for places where we can add and create some incremental yield On those acquisitions over the 1st couple of years. And then the 3rd category that I'd highlight goes Yes, broadly the theme in a world where capital is less abundant, we believe opportunities will present themselves to us, but it also makes our capital more attractive, Right.

Speaker 3

So you think about our programs, the developer funding program, our structured investment program and we look out over that book of business, we think we'll have the ability, stronger sponsors, stronger quality real estate, better returns. So that's another place where we can selectively put capital to create value.

Speaker 5

I want to go back to the opening remarks about the Development pipeline and how you don't mark to market the yields until they're impacted lease up. Is that implied at the potential uplift from those 7 projects that haven't gone into lease up yet, but We'll go into it later this year. Not included in the guidance range?

Speaker 2

Yes, this is Matt. The guidance For the year, most of those deals are going to really impact earnings in 2024 and 2025 because they're not going to start leasing until later this year. So we do have lease up budgets on those deals, which is reflected in the guidance, which does reflect higher rents than kind of what Shown on the development attachment, but the real list there isn't 23, it's 24.

Speaker 5

Okay. That's super helpful. And then one follow-up to that, the 70 basis uplift for the for you said Projects you have currently without data projections, is that a fair uplift at this point for those 7 projects?

Speaker 2

I would say that that was kind of the point of including the slide. Yes, that if The 17% uplift in rent is roughly comparable to what we've seen across our entire same store book over that time. If those seven lease ups experienced similar kind of rent growth to kind of what we've seen broadly over that time frame, And yes, I mean, we would be expecting to see the yields on those deals rise by like roughly similar amount.

Speaker 5

Okay. And then, you mentioned, like if you could start a project today, you're seeing good Construction pricing bids versus like if you had something that might not start for a year, you're not seeing that. What's driving that dynamic?

Speaker 2

I think it's just certainty. I mean, when you ask somebody to give you a price on a deal you're not going to start for a year, It's just they're just giving you an estimate number. It's not you can't take that number to the bank anyway. You don't even you don't have final construction drawing. So you're not contracting at that number.

Speaker 2

It's more of an allowance. And so it's natural for people to say, well, here's where I did the last job at. When you have a job that's ready to go and it's like I need your guys on-site in 90 days, that's when some subcontractors are busy and don't need the business. And we'll give you a we'll not give you a number that's any better than the number they would have given you 90 days ago. But there are others where, as I said, maybe they were working on 5 jobs, they only see 2 coming up, they have availability and they're essentially willing to lean into their margins, Which got very inflated over the last couple of years when all these subcontractors were stretched beyond their capacity.

Speaker 5

Okay. Thank you.

Operator

Our next question comes from the line of Haendel St. Juste with Mizuho. Please proceed with your question.

Speaker 11

Hey, good afternoon. A couple of quick ones for me. I guess, first, a question on the equity that you pulled From your forward investing with the bank with the 5%, how much is that? Can you request to withdraw it At any time at your option. And what's the longer term plan for that capital?

Speaker 11

Is it ultimately earmarked for development funding? Or would you also consider acquisitions Board or other DCP. Thanks.

Speaker 2

Yes. Sure, Haendel. This is Kevin.

Speaker 4

Well, the amount that we pulled down the equity for was $490,000,000 And so roughly speaking, that's the amount that we incrementally invested and we did so In latter time deposits with banking partners that are very highly rated, known to us, part of our Credit facility syndicate, and so the latter time deposits are essentially mapped to when we think we will be pulling That capital down or need to cash in order to reinvest into development. So that's how we've structured that set of cash investment activities so far. And we retain liquidity to fund development from that source as well as liquidity on our line of credit. So we Of $200,000,000 where there's nothing drawn. So we have plenty of ability to respond to new opportunities that may justify an earlier deployment of cash either from the cash we've invested or from our line of credit.

Speaker 11

Got it. Thanks, Kevin. That's helpful. Ben, maybe one for you. For those of us who followed AvalonBay for some time, the recent changes you've made entering the mezz lending business, Delving deeper into 3rd party services and even a more proactive cash management strategy capitalizing on the environment to generate some incremental FFO that you outlined.

Speaker 11

Guess, I'm curious, how should we be interpreting these changes and what they suggest for Avalon's longer term strategy as you evolve the platform? Curious what else You're considering what else top of mind as you navigate the company forward? And then how did you think about the trade off for perhaps growing the revenue, but maybe adding a bit of complexity and maybe a lower multiple as well? Thank you.

Speaker 3

Yes, I appreciate that. I'd start by emphasizing, I mean, this is about this executive team, right? So we're the ones setting the course for this business over the coming years and we're looking for ways to continue to drive Earnings, profit and ways to differentiate that we think can lead to long term value creation. A number of The recent announcements, including the DFP and SIP, there have been versions of this that have existed, Elements that we're working on and so we've decided as a team in certain player areas where we think we can accelerate that activity. And so you've seen that come.

Speaker 3

In terms of our strategic focus areas, we've communicated this externally and continue to emphasize it internally. First is our operating model transformation and driving margin and value to customers through that. 2nd is optimizing our portfolio as we grow, and part of that is our movement to the expansion markets and also looking to prune assets out of our established regions. 3rd is leveraging our development DNA in new ways and so that gets into our programs like our DFP and our SIP. We don't talk a lot on this call, but particularly for certain investors it matters and for associates and increasing our residents, our leadership in ESG.

Speaker 3

And then the 5th one we always drive home and this is what's special about here is people and culture. So that's yes, that's what those are what are driving us as we look ahead and I believe we'll create outperformance for us.

Speaker 11

Appreciate the thoughts. Thank you.

Operator

Our next question comes from the line of Alexander Goldfarb with Piper Sandler. Please proceed with your question.

Speaker 5

Hey, good afternoon. So two questions here. First, on the expansion market, Can you just remind us where you're targeting urban versus suburban just from some of your peers who have spoken and then Speaking to the private operators in the Sunbelt, it definitely seems like the supply competition is much more concentrated in the urban areas, whereas those Out in the suburbs tend to be less impacted. So just sort of curious as you look at the Sunbelt, how you're framing out your exposure?

Speaker 2

Yes. Hey, Alex, it's Matt. So, we don't necessarily start with a Particular kind of goal in mind, really what we're looking for is the best risk adjusted return. And we are taking it as an opportunity Expansion regions to construct a portfolio from the ground up. And what we found over the last couple of years as we've started our investment there is that we It felt like the supply demand fundamentals and the pricing of the assets was just more attractive to the suburbs.

Speaker 2

So if you look at our Denver portfolio, the assets we bought there, They've all been suburban assets. We did develop the one deal in Rhino to a very high development yield, but So we're going to supplement and ultimately have a diversified portfolio, but we tend to be finding better value Suburbs, not just better supply demand fundamentals, but also better pricing, until recently probably higher cap rates as well. So Same thing in Southeast Florida. If you look at where we bought in Southeast Florida, it has tended to be more we bought in Boca, we bought in Margate, we just recently bought a couple of different assets in Broward County. So, we've tended to find better And we are very mindful of that as we invest.

Speaker 2

We may develop a little bit in urban areas if we find a really strong opportunity, but a lot of our development pipeline It's also suburban right now in Denver. We have the one deal under construction in Westminster and then we have one deal in Governors Park, which is more of an urban submarket. But Yes. The submarkets in the 1st place, there's not as much they're not as urban in the 1st place. So I don't know that there is an urban submarket in all of Raleigh Durham, Downtown Raleigh, and we're not looking there.

Speaker 2

So and in Charlotte, All of our development has been in the suburbs. We did buy the portfolio in the South Bend, which is kind of the one urban submarket there that It's very, very dynamic. So I'd say that's the exception. But generally speaking, you're right, it is maybe a little bit of a different strategy than the way some others have pursued it. And it's also kind of just more the way the lifestyle is in a lot of these Sunbelt metros.

Speaker 2

They don't necessarily have the same Transit orientation, they don't have the concentration of employment, and a lot of the reason people are moving there is, it's frankly to have more space and have more of that suburban lifestyle.

Speaker 5

Okay. The second question is, just given what's going on in the insurance market, are you seeing more, I don't want to say opportunity, but are you seeing That it's financially better for you to take on more self insuring your portfolio to reduce the cost or maybe especially As you partner with developers where you guys are self insuring more to try and mitigate some of the pretty The sizable premium jumps or the ability or inability to get certain carriers or reinsurers?

Speaker 2

Alex, this is Kevin.

Speaker 4

Maybe I'll just respond strictly to the assurance aspects of this and Ben or Matt may want to respond to the development But you're spot on with respect to highlighting the self insurance aspects and really the relative strength of Well capitalized REITs and particularly residential REITs that absorb this risk as opposed to passing on to commercial tenants. Having that capability to self insure has been a helpful thing in recent years as the insurance market has become increasingly challenging. I'm not going to get too specific about what's going

Speaker 2

on with those property renewals

Speaker 4

now because we renew on May 15. So we're actually in the market for that. But we have In the past, I'd say 7 or 8 years, used our wholly owned regulated captive insurance company In order to be strategic in these property renewals to mitigate bearing the full impact of market increases in property insurance premiums, To the extent individual insurers have become inefficient in their pricing. And so that has helped keep our insurance costs in the property program To a far lower than market rate of growth. And so for example, last year, total insurance costs, Which property is the biggest piece grew down by 4% or 5% last year.

Speaker 4

We do expect a higher level of growth this year in the property program. But as we look at this year's renewal, we're likely to be willing to take on more self retained risk through our captive in order to mitigate Inefficient pricing from some of the market participants, should that be necessary?

Speaker 5

Okay. Thank you.

Operator

Our next question comes from the line of Amy Probrandt with UBS. Please proceed with your question.

Speaker 12

Hi. So turnover was up from the 20 22 lows, but remains low on a historic basis. Wondering over the next couple of years, do you think we trend back toward a more historic level or has demand Shifted in a way where turnover could remain below the historic level.

Speaker 2

Amit, this is Sean. Good question. Obviously, somewhat speculative in nature in terms of what happens. I mean, Multifamily, single family, etcetera. And the ability for people to access the kind of inventory they want Maybe more limited, particularly on the single family side, maybe condos, townhomes, etcetera, for the next couple of years.

Speaker 2

That does not seem to be Likely to correct. So I'd say that's probably the one macro factor that may put some cap on sort of churn. And people that would typically 13%, 14%, 15% that might go buy a home, this past quarter that was less than 10%. And that's not likely to get better in the near term given the financing market, but also just the production in terms of what's actually being put on the ground. So that's one factor that may kind of keep a lid on things here for the next several quarters.

Speaker 12

Okay, great. And then another quick one. How do yields on the projects in the developers funding program compare with Avalon Bay development yields?

Speaker 2

Hey, Nina. This is Matt. They are the way we think about that program is basically, we're allocating the risk Differently than on our own development. And so consequently, the target returns are also allocated differently. Our target is for the yield to be roughly halfway between an acquisition and a development.

Speaker 2

What we found so far and the few we've done is that it's been higher than that. So the way I would think about it is the yield on those deals is probably going to be 30, 40 basis points Less than the yield on if we've done the development ourselves, but still probably at least 50 basis points, 60 basis points north of where an acquisition yield would be, if not more.

Speaker 12

Great. Thanks.

Operator

Our next question comes from the line of Anthony Powell with Barclays.

Speaker 13

Hi, good afternoon. Broader question, I guess on the Governor of New York's House proposal that Stalled now in the Senate and the House there that would have expanded zoning for multifamily in the suburbs. Was that an opportunity for you to develop or was that more supply? And how do you view those times of initiatives nationwide going forward?

Speaker 2

I would this is Matt, I think, and Ben and Sean may want to weigh in as well. It's really interesting to see these states Try to engage in that dialogue about one of the things that has really led to the supply constraints that have in turn led to really an underproduction of housing Has been local control. And that is a bit of a 3rd rail politically in California and New York and other states. So it's interesting to see the state legislature Try to chip away at it. I think you're right, it's both, right?

Speaker 2

It would be an opportunity for us as a developer. If it was really effective in the long run, it might Lower the long term rent growth trajectory of some of those markets. Frankly, from a public policy point, that's kind of would be the point of What we've seen so far, at least in California, has been every time there's been something that in theory would have opened up more sites to development. There's been They say they'll allow multifamily near transit, but then they're saying it has to be prevailing wage construction costs, which is a 20%, 30% premium. So economically, it doesn't work.

Speaker 2

Or they'll open it up in certain sites, but they need 20%, 25% affordable. And again, you can't afford the going price for land and make that economics work. So the one place we've seen it truly be effective so far has been with this smaller program in California, the ADU accessory dwelling unit. Actually have over 100 of those currently in our pipeline where we can just add 2, 3, 4, 5, 6, 7 Apartments in kind of underutilized storage or parking areas at existing communities and not have to go through a zoning process. So that's not going to move the needle kind of on The problem at macro level, but that's one small program we have been able to take advantage of.

Speaker 3

And then maybe just to add kind of the higher level regulatory dynamics Are influencing our portfolio allocation decisions. It's been a part of the reason why over the last number of years, we've been moving more and more to a suburban oriented portfolio. And if you see where we're allocating capital, we're 2 thirds suburban today, probably headed towards 3 quarters there. It's influenced our move to the expansion regions Right. At a minimum to diversify away from regulatory environments.

Speaker 3

And then the reality is, at a more local level, based on some of the steps of certain municipalities, Effectively, the bar is higher for allocating new capital there and it's playing into how we're shifting capital around our portfolio and within our regions.

Speaker 13

All right. That's it for me. Thank you.

Operator

There are no further questions in the queue. I'd like to hand Call back to Ben Schall for closing remarks.

Speaker 3

Thank you. Thanks everyone for joining us today. We appreciate your support and look forward to speaking with you soon.

Operator

Ladies and gentlemen, this does conclude today's teleconference. Thank you for your participation. You may disconnect your lines at this time and have a wonderful

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