S&P Raises Outlook on Avalonbay Communities (AVB) to Positive; Sees Apartment Portfolio Benefiting from Favorable Fundamentals

Standard & Poor's Ratings Services today revised its outlook on AvalonBay Communities Inc. (NYSE: AVB) to positive from stable. At the same time, we affirmed our 'BBB+' corporate credit rating on the company and our 'BBB+' rating on its senior unsecured notes.

"We expect the company's well-positioned apartment portfolio to benefit from favorable, but decelerating apartment fundamentals, which will support modest cash flow growth," said Standard & Poor's credit analyst George Skoufis. We also expect the company will continue to pursue a conservative financing strategy, while it engages in meaningful development-oriented growth. The company has a good track record of managing development and generating solid returns and attempts to mitigate some development risk by prefunding a majority of its funding needs. As the current pipeline is delivered and stabilizes, incremental cash flow from these currently non- or low-income-producing development communities will enhance EBITDA and the company's key credit metrics. We also factor in the company's comparative standing relative to its rated apartment peers and more broadly similarly rated peers, and its standing in the capital markets, including its strong access to capital and favorable cost of capital.

Our rating on AVB reflects the company's "strong" business risk profile supported by the platform's large scale and strong management. In addition, the rating reflects AVB's ownership of a high-quality, well-occupied apartment portfolio that is well-positioned in coastal markets which are characterized by higher cost of homeownership, are more costly to develop in, and have higher average incomes. The portfolio does exhibit some geographic concentration; however, in our view, the company's portfolio is more diversified in terms of product/price points and its operations are supported by a strong management team and operating systems. AVB is a development-oriented company with the largest active development pipeline that carries inherent risk given the speculative nature of apartment development. However, we acknowledge the company's good track record creating value through the development process and we expect management to fund its capital needs prudently and manage its development exposure relative to access to capital and shifting fundamentals. We also view AVB's management and governance as strong, given our positive views on the company's strategic planning,
successful operational track record, risk management, and depth and breadth of management.

AVB is the second-largest multifamily REIT with undepreciated real estate of $17 billion and a total market capitalization over $24 billion (as of July 10, 2014). AVB's investments consisted of 276 properties (82,374 units) in 12 states and Washington, D.C. The company's portfolio garners above average rents and has exhibited consistently strong occupancy. As of March 31, 2014, the average rental rate in AVB's stabilized portfolio was $2,225 per month, up 3.8% year-over-year, and occupancy was 96.1%. We expect occupancy to remain healthy and believe AVB's apartment portfolio will continue to produce positive rent and net operating income (NOI) growth over the next one to two years as household formation and job growth in AVB's markets drive demand.

The outlook is positive. We expect the company's well-positioned apartment portfolio to benefit from favorable, but decelerating apartment fundamentals, which will support modest cash flow growth. We also expect the company will continue to pursue a conservative financing strategy that will support stronger credit measures, while it pursues meaningful development-oriented growth that we expect will peak over the next 12 to 24 months.

We would raise our rating over the next 12 months if the company can achieve its expected development yields as it works through its large development pipeline, including some large individual projects, in the face of growing new supply in certain markets and a maturing apartment cycle, while continuing to prudently prefund its capital need, as well as continue to reduce secured debt. We also expect AVB to maintain its conservative balance sheet management and strong credit measures, notably achieving and maintaining fixed-charge coverage in the mid- to high-3x area and debt to EBITDA in the low-6x area, which helps balance the company's development-oriented strategy and provides cushion through a period of stress.

We believe there is limited downside at the current rating, due to expectations for healthy near-term operating fundamentals and the company's sound financial profile. We would revise the outlook back to stable if the company experienced development challenges and/or pursued a more aggressive funding strategy.

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