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AvalonBay Communities 10-Q 2015

Documents found in this filing:

  1. 10-Q
  2. Ex-12.1
  3. Ex-31.1
  4. Ex-31.2
  5. Ex-32
  6. Ex-32
Q2 2015 10-Q

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended June 30, 2015
 
Commission file number 1-12672
 
AVALONBAY COMMUNITIES, INC.
(Exact name of registrant as specified in its charter)
 
Maryland
 
77-0404318
(State or other jurisdiction of
 
(I.R.S. Employer
incorporation or organization)
 
Identification No.)
 
Ballston Tower
671 N. Glebe Rd, Suite 800
Arlington, Virginia  22203
(Address of principal executive offices, including zip code)
 
(703) 329-6300
(Registrant’s telephone number, including area code) 
 
(Former name, if changed since last report) 
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding twelve (12) months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past ninety (90) days.
Yes ý                    No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes ý                    No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer x
Accelerated filer o
Non-accelerated filer (Do not check if a smaller reporting company) o
Smaller reporting company o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).
Yes o                    No ý

APPLICABLE ONLY TO CORPORATE ISSUERS
 
Indicate the number of shares outstanding of each of the issuer’s classes of common stock as of the latest practicable date:

132,902,193 shares of common stock, par value $0.01 per share, were outstanding as of July 31, 2015.



AVALONBAY COMMUNITIES, INC.
FORM 10-Q
INDEX
 
 
PAGE
PART I - FINANCIAL INFORMATION
 
 
 
ITEM 1.
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 







AVALONBAY COMMUNITIES, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except per share data)
 
6/30/2015
 
12/31/2014
 
(unaudited)
 
 
ASSETS
 

 
 

Real estate:
 

 
 

Land and improvements
$
3,524,350

 
$
3,432,769

Buildings and improvements
12,634,057

 
12,258,009

Furniture, fixtures and equipment
429,308

 
402,940

 
16,587,715

 
16,093,718

Less accumulated depreciation
(3,092,205
)
 
(2,874,578
)
Net operating real estate
13,495,510

 
13,219,140

Construction in progress, including land
1,536,368

 
1,417,246

Land held for development
487,205

 
180,516

Operating real estate assets held for sale, net
61,939

 
118,838

Total real estate, net
15,581,022

 
14,935,740

 
 
 
 
Cash and cash equivalents
65,126

 
509,460

Cash in escrow
103,679

 
95,625

Resident security deposits
31,290

 
29,617

Investments in unconsolidated real estate entities
264,616

 
298,315

Deferred financing costs, net
40,108

 
39,728

Deferred development costs
28,103

 
67,029

Prepaid expenses and other assets
206,532

 
201,209

Total assets
$
16,320,476

 
$
16,176,723

 
 
 
 
LIABILITIES AND EQUITY
 

 
 

Unsecured notes, net
$
3,567,831

 
$
2,993,265

Variable rate unsecured credit facility

 

Mortgage notes payable
2,919,299

 
3,532,587

Dividends payable
166,113

 
153,207

Payables for construction
109,158

 
101,946

Accrued expenses and other liabilities
242,133

 
244,549

Accrued interest payable
40,809

 
41,318

Resident security deposits
53,403

 
49,189

Liabilities related to real estate assets held for sale
657

 
1,492

Total liabilities
7,099,403

 
7,117,553

 
 
 
 
Redeemable noncontrolling interests
10,588

 
12,765

 
 
 
 
Equity:
 

 
 

Preferred stock, $0.01 par value; $25 liquidation preference; 50,000,000 shares authorized at June 30, 2015 and December 31, 2014; zero shares issued and outstanding at June 30, 2015 and December 31, 2014

 

Common stock, $0.01 par value; 280,000,000 shares authorized at June 30, 2015 and December 31, 2014; 132,888,167 and 132,050,382 shares issued and outstanding at June 30, 2015 and December 31, 2014, respectively
1,329

 
1,320

Additional paid-in capital
9,466,120

 
9,354,685

Accumulated earnings less dividends
(217,441
)
 
(267,085
)
Accumulated other comprehensive loss
(39,523
)
 
(42,515
)
Total equity
9,210,485

 
9,046,405

Total liabilities and equity
$
16,320,476

 
$
16,176,723

 
See accompanying notes to Condensed Consolidated Financial Statements.



1


AVALONBAY COMMUNITIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(unaudited)
(Dollars in thousands, except per share data)
 
For the three months ended
 
For the six months ended
 
6/30/2015
 
6/30/2014
 
6/30/2015
 
6/30/2014
Revenue:
 

 
 

 
 
 
 
Rental and other income
$
454,517

 
$
411,134

 
$
894,273

 
$
808,131

Management, development and other fees
2,942

 
2,672

 
5,553

 
5,750

Total revenue
457,459

 
413,806

 
899,826

 
813,881

 
 
 
 
 
 
 
 
Expenses:
 

 
 

 
 
 
 
Operating expenses, excluding property taxes
112,069

 
101,059

 
224,845

 
199,601

Property taxes
45,913

 
42,439

 
93,089

 
86,924

Interest expense, net
44,590

 
43,722

 
90,164

 
86,255

(Gain) loss on extinguishment of debt, net
(7,749
)
 
412

 
(7,749
)
 
412

Depreciation expense
118,627

 
110,395

 
235,480

 
216,762

General and administrative expense
11,628

 
10,220

 
22,111

 
19,456

Expensed acquisition, development and other pursuit costs, net of recoveries
673

 
2,017

 
1,860

 
2,732

Casualty and impairment gain, net
(17,114
)
 

 
(11,326
)
 

Total expenses
308,637

 
310,264

 
648,474

 
612,142

 
 
 
 
 
 
 
 
Equity in income of unconsolidated real estate entities
13,806

 
7,710

 
48,371

 
12,933

Gain on sale of real estate
9,625

 

 
9,647

 

Gain on sale of communities

 
60,945

 
70,936

 
60,945

 
 
 
 
 
 
 
 
Income from continuing operations
172,253

 
172,197

 
380,306

 
275,617

 
 
 
 
 
 
 
 
Discontinued operations:
 

 
 

 
 
 
 
Income from discontinued operations

 

 

 
310

Gain on sale of discontinued operations

 

 

 
37,869

Total discontinued operations

 

 

 
38,179

 
 
 
 
 
 
 
 
Net income
172,253

 
172,197

 
380,306

 
313,796

Net loss (income) attributable to noncontrolling interests
71

 
(14,111
)
 
163

 
(13,971
)
 
 
 
 
 
 
 
 
Net income attributable to common stockholders
$
172,324

 
$
158,086

 
$
380,469

 
$
299,825

 
 
 
 
 
 
 
 
Other comprehensive income:
 

 
 

 
 
 
 
Cash flow hedge losses reclassified to earnings
1,427

 
1,438

 
2,992

 
3,011

Comprehensive income
$
173,751

 
$
159,524

 
$
383,461

 
$
302,836

 
 
 
 
 
 
 
 
Earnings per common share - basic:
 

 
 

 
 
 
 
Income from continuing operations attributable to common stockholders
$
1.30

 
$
1.22

 
$
2.88

 
$
2.02

Discontinued operations attributable to common stockholders

 

 

 
0.29

Net income attributable to common stockholders
$
1.30

 
$
1.22

 
$
2.88

 
$
2.31

 
 
 
 
 
 
 
 
Earnings per common share - diluted:
 

 
 

 
 
 
 
Income from continuing operations attributable to common stockholders
$
1.29

 
$
1.21

 
$
2.86

 
$
2.02

Discontinued operations attributable to common stockholders

 

 

 
0.29

Net income attributable to common stockholders
$
1.29

 
$
1.21

 
$
2.86

 
$
2.31

 
 
 
 
 
 
 
 
Dividends per common share
$
1.25

 
$
1.16

 
$
2.50

 
$
2.32


See accompanying notes to Condensed Consolidated Financial Statements.



2


AVALONBAY COMMUNITIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
(Dollars in thousands)
 
For the six months ended
 
6/30/2015
 
6/30/2014
Cash flows from operating activities:
 
 
 
Net income
$
380,306

 
$
313,796

Adjustments to reconcile net income to cash provided by operating activities:
 
 
 
Depreciation expense
235,480

 
216,762

Amortization of deferred financing costs
3,379

 
3,164

Amortization of debt premium
(14,815
)
 
(17,554
)
(Gain) loss on extinguishment of debt, net
(7,749
)
 
412

Amortization of stock-based compensation
8,255

 
6,190

Equity in loss (income) of, and return on, unconsolidated entities and noncontrolling interests, net of eliminations
8,432

 
(1,363
)
Casualty and impairment gain, net
(17,303
)
 

Abandonment of development pursuits

 
1,455

Cash flow hedge losses reclassified to earnings
2,992

 
3,011

Gain on sale of real estate assets
(91,456
)
 
(98,814
)
(Increase) decrease in cash in operating escrows
(9,357
)
 
3,489

Increase in resident security deposits, prepaid expenses and other assets
(3,439
)
 
(8,094
)
Decrease in accrued expenses, other liabilities and accrued interest payable
(2,823
)
 
(12,743
)
Net cash provided by operating activities
491,902

 
409,711

 
 
 
 
Cash flows from investing activities:
 
 
 
Development/redevelopment of real estate assets including land acquisitions and deferred development costs
(865,497
)
 
(547,800
)
Capital expenditures - existing real estate assets
(50,584
)
 
(20,617
)
Capital expenditures - non-real estate assets
(1,432
)
 
(5,187
)
Proceeds from sale of real estate, net of selling costs
135,841

 
186,651

Insurance recoveries for property damage claims
44,142

 

Mortgage note receivable payment

 
21,748

Increase in payables for construction
7,126

 
1,389

Distributions from unconsolidated real estate entities
36,858

 
55,096

Investments in unconsolidated real estate entities
(803
)
 
(2,796
)
Net cash used in investing activities
(694,349
)
 
(311,516
)
 
 
 
 
Cash flows from financing activities:
 
 
 
Issuance of common stock
97,326

 
214,970

Dividends paid
(318,240
)
 
(288,610
)
Issuance of mortgage notes payable

 
53,000

Repayments of mortgage notes payable, including prepayment penalties
(588,226
)
 
(24,768
)
Issuance of unsecured notes
574,066

 
250,000

Repayment of unsecured notes

 
(150,000
)
Payment of deferred financing costs
(4,277
)
 
(3,414
)
Distributions to DownREIT partnership unitholders
(19
)
 
(17
)
Distributions to joint venture and profit-sharing partners
(187
)
 
(170
)
Redemption of preferred interest obligation
(2,330
)
 
(4,800
)
Net cash (used in) provided by financing activities
(241,887
)
 
46,191

 
 
 
 
Net (decrease) increase in cash and cash equivalents
(444,334
)
 
144,386

 
 
 
 
Cash and cash equivalents, beginning of period
509,460

 
281,355

Cash and cash equivalents, end of period
$
65,126

 
$
425,741

Cash paid during the period for interest, net of amount capitalized
$
91,572

 
$
94,343

 
See accompanying notes to Condensed Consolidated Financial Statements.

3


CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)

Supplemental disclosures of non-cash investing and financing activities:

During the six months ended June 30, 2015:

As described in Note 4, “Equity,” 157,779 shares of common stock were issued as part of the Company's stock based compensation plans, of which 95,826 shares related to the conversion of restricted stock units to restricted shares, and the remaining 61,953 shares valued at $10,721,000 were issued in connection with new stock grants; 46,589 shares valued at $3,552,000 were issued in conjunction with the conversion of deferred stock awards; 1,028 shares valued at $177,000 were issued through the Company’s dividend reinvestment plan; 36,104 shares valued at $5,793,000 were withheld to satisfy employees’ tax withholding and other liabilities; and 2,011restricted stock units with a value of $226,000 previously issued in connection with employee compensation were canceled upon forfeiture.

Common stock dividends declared but not paid totaled $166,113,000.

The Company recorded a decrease of $1,807,000 in redeemable noncontrolling interest with a corresponding increase to accumulated earnings less dividends to adjust the redemption value associated with the put options held by joint venture partners and DownREIT partnership units.  For further discussion of the nature and valuation of these items, see Note 10, “Fair Value.”

The Company reclassified $2,992,000 of cash flow hedge losses from other comprehensive income to interest expense, net, to record the impact of the Company’s derivative and hedge accounting activity.

As discussed in Note 5, "Investments in Real Estate Entities," the Company recognized a charge of $21,844,000 to write off the net book value of the fixed assets destroyed by the Edgewater fire.

During the six months ended June 30, 2014:

The Company issued 113,822 shares of common stock as part of the Company's stock based compensation plan, of which 16,193 shares related to the conversion of restricted units to restricted shares, and the remaining 97,629 shares valued at $12,607,000 were issued in connection with new stock grants; 1,286 shares valued at $165,000 were issued through the Company’s dividend reinvestment plan; 50,105 shares valued at $4,689,000 were withheld to satisfy employees’ tax withholding and other liabilities; and restricted units valued at $1,284,000 previously issued in connection with employee compensation were canceled upon forfeiture.

Common stock dividends declared but not paid totaled $152,113,000.

The Company recorded a decrease of $626,000 in redeemable noncontrolling interest with a corresponding increase to accumulated earnings less dividends to adjust the redemption value associated with the put options held by joint venture partners and DownREIT partnership units.

The Company reclassified $3,011,000 of cash flow hedge losses from other comprehensive income to interest expense, net, to record the impact of the Company’s derivative and hedge accounting activity.

The Company derecognized $17,816,000 in noncontrolling interest in conjunction with the deconsolidation of an AvalonBay Value Added Fund I, L.P. ("Fund I") subsidiary.



4


AVALONBAY COMMUNITIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)  
1.  Organization, Basis of Presentation and Significant Accounting Policies

Organization and Basis of Presentation

AvalonBay Communities, Inc. (the “Company,” which term, unless the context otherwise requires, refers to AvalonBay Communities, Inc. together with its subsidiaries), is a Maryland corporation that has elected to be treated as a real estate investment trust (“REIT”) for federal income tax purposes under the Internal Revenue Code of 1986 (the “Code”). The Company focuses on the development, redevelopment, acquisition, ownership and operation of multifamily communities primarily in New England, the New York/New Jersey metro area, the Mid-Atlantic, the Pacific Northwest, and Northern and Southern California.

At June 30, 2015, the Company owned or held a direct or indirect ownership interest in 257 operating apartment communities containing 74,857 apartment homes in 11 states and the District of Columbia, of which seven communities containing 2,787 apartment homes were under reconstruction. In addition, the Company has 26 communities under construction that are expected to contain an aggregate of 8,117 apartment homes when completed. The Company also owned or held a direct or indirect ownership interest in land or rights to land on which the Company expects to develop an additional 34 communities that, if developed as expected, will contain an estimated 10,080 apartment homes.

The interim unaudited financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and in conjunction with the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements required by GAAP have been condensed or omitted pursuant to such rules and regulations. These unaudited financial statements should be read in conjunction with the financial statements and notes included in the Company’s 2014 Annual Report on Form 10-K. The results of operations for the three and six months ended June 30, 2015 are not necessarily indicative of the operating results for the full year. Management believes the disclosures are adequate to ensure the information presented is not misleading.  In the opinion of management, all adjustments and eliminations, consisting only of normal, recurring adjustments necessary for a fair presentation of the financial statements for the interim periods, have been included.

Capitalized terms used without definition have meanings provided elsewhere in this Form 10-Q.

Earnings per Common Share

Basic earnings per share is computed by dividing net income attributable to common stockholders by the weighted average number of shares outstanding during the period. All outstanding unvested restricted share awards contain rights to non-forfeitable dividends and participate in undistributed earnings with common shareholders and, accordingly, are considered participating securities that are included in the two-class method of computing basic earnings per share (“EPS”). Both the unvested restricted shares and other potentially dilutive common shares, and the related impact to earnings, are considered when calculating earnings per share on a diluted basis. The Company’s earnings per common share are determined as follows (dollars in thousands, except per share data):

5


 
For the three months ended
 
For the six months ended
 
6/30/2015
 
6/30/2014
 
6/30/2015
 
6/30/2014
Basic and diluted shares outstanding
 

 
 

 
 
 
 
Weighted average common shares - basic
131,977,578

 
129,856,335

 
131,930,916

 
129,574,118

Weighted average DownREIT units outstanding
7,500

 
7,500

 
7,500

 
7,500

Effect of dilutive securities
1,101,361

 
384,486

 
1,192,947

 
356,614

Weighted average common shares - diluted
133,086,439

 
130,248,321

 
133,131,363

 
129,938,232

 
 
 
 
 
 
 
 
Calculation of Earnings per Share - basic
 

 
 

 
 
 
 
Net income attributable to common stockholders
$
172,324

 
$
158,086

 
$
380,469

 
$
299,825

Net income allocated to unvested restricted shares
(445
)
 
(254
)
 
(975
)
 
(487
)
Net income attributable to common stockholders, adjusted
$
171,879

 
$
157,832

 
$
379,494

 
$
299,338

 
 
 
 
 
 
 
 
Weighted average common shares - basic
131,977,578

 
129,856,335

 
131,930,916

 
129,574,118

 
 
 
 
 
 
 
 
Earnings per common share - basic
$
1.30

 
$
1.22

 
$
2.88

 
$
2.31

 
 
 
 
 
 
 
 
Calculation of Earnings per Share - diluted
 

 
 

 
 
 
 
Net income attributable to common stockholders
$
172,324

 
$
158,086

 
$
380,469

 
$
299,825

Add: noncontrolling interests of DownREIT unitholders in consolidated partnerships, including discontinued operations
9

 
9

 
19

 
17

Adjusted net income available to common stockholders
$
172,333

 
$
158,095

 
$
380,488

 
$
299,842

 
 
 
 
 
 
 
 
Weighted average common shares - diluted
133,086,439

 
130,248,321

 
133,131,363

 
129,938,232

 
 
 
 
 
 
 
 
Earnings per common share - diluted
$
1.29

 
$
1.21

 
$
2.86

 
$
2.31

 

All options to purchase shares of common stock outstanding as of June 30, 2015 are included in the computation of diluted earnings per share. Certain options to purchase shares of common stock in the amount of 243,326 were outstanding at June 30, 2014, but were not included in the computation of diluted earnings per share because such options were anti-dilutive for the quarter.

The Company is required to estimate the forfeiture of stock options and recognize compensation cost net of the estimated forfeitures.  The estimated forfeitures included in compensation cost are adjusted to reflect actual forfeitures at the end of the vesting period.  The forfeiture rate at June 30, 2015 was 1.0% and is based on the average forfeiture activity over a period equal to the estimated life of the stock options. The application of estimated forfeitures did not materially impact compensation expense for the three and six months ended June 30, 2015 or 2014.

Derivative Instruments and Hedging Activities

The Company enters into interest rate swap and interest rate cap agreements (collectively, “Hedging Derivatives”) for interest rate risk management purposes and in conjunction with certain variable rate secured debt to satisfy lender requirements.  The Company does not enter into Hedging Derivatives transactions for trading or other speculative purposes. The Company assesses the effectiveness of qualifying cash flow and fair value hedges, both at inception and on an on-going basis. Hedge ineffectiveness is reported as a component of general and administrative expenses. The fair values of Hedging Derivatives that are in an asset position are recorded in prepaid expenses and other assets. The fair value of Hedging Derivatives that are in a liability position are included in accrued expenses and other liabilities. Fair value changes for derivatives that are not in qualifying hedge relationships are reported as a component of interest expense, net.  For the Hedging Derivatives positions that the Company has determined qualify as effective cash flow hedges, the Company has recorded the effective portion of cumulative changes in the fair value of Hedging Derivatives in other comprehensive income.  Amounts recorded in other comprehensive income will be reclassified into earnings in the periods in which earnings are affected by the hedged cash flow. The effective portion of the change in fair value of Hedging Derivatives that the Company has determined qualified as effective fair value hedges is reported as an adjustment to the carrying amount of the corresponding debt being hedged. See Note 10, "Fair Value," for further discussion of derivative financial instruments.

6



Legal and Other Contingencies

In January 2015, a fire occurred at the Company’s Avalon at Edgewater apartment community located in Edgewater, New Jersey ("Edgewater"). Edgewater consisted of two residential buildings. One building, containing 240 apartment homes, was destroyed. The second building, containing 168 apartment homes, suffered minimal damage and has been repaired. The Company is still assessing the direct losses resulting from the fire as well as its potential liability to third parties who incurred damages as a result of the fire. The Company is also evaluating whether to rebuild and replace the building that was destroyed and does not believe that the outcome of this decision will have a material impact on the Company’s financial condition or results of operations.

The Company believes that the fire was caused by sparks from a torch used during repairs being performed by a Company employee who was not a licensed plumber. The Company’s insurers have begun to negotiate and settle claims made by third parties who incurred property damage and other losses. Four putative class action lawsuits have been filed on behalf of Edgewater residents and others who may have been harmed by the fire. In addition, 15 lawsuits representing over 120 individual plaintiffs have been filed against the Company. The Company believes that it has meritorious defenses to the extent of damages claimed. Additional lawsuits arising from the fire may be filed.

Following the fire, the Company received a civil citation for “failure to notify Fire Department of an active fire” from Bergen County, New Jersey. The Company has decided not to appeal this citation. The Company has also received two citations that were deemed serious by the Occupational Safety and Health Administration ("OSHA"); the Company has informed OSHA that it plans to appeal these citations. It is possible that additional governmental investigations are or may be ongoing. The Company is unable to evaluate the nature and potential materiality of any such investigations or actions.

Having incurred applicable deductibles and a self-insured amount equal to 12% of the first $50,000,000 of property damage, the Company currently believes that all of its remaining liability to third parties and all of the Company's additional cost for replacement cost coverage for property damage resulting from the fire will be substantially covered by its insurance policies. However, the Company can give no assurances in this regard and continues to evaluate this matter. See Note 5, "Investments in Real Estate Entities," and Part II, Item 1, "Legal Proceedings," for further discussion of the casualty gains and losses and lawsuits associated with the Edgewater fire.

The Company is involved in various other claims and/or administrative proceedings unrelated to the Edgewater fire that arise in the ordinary course of its business. While no assurances can be given, the Company does not currently believe that any of these other outstanding litigation matters, individually or in the aggregate, will have a material adverse effect on its financial condition or results of operations.

Acquisitions of Investments in Real Estate

The Company accounts for acquisitions of investments in real estate in accordance with the authoritative guidance for the initial measurement, which requires the identifiable assets acquired, the liabilities assumed, and any noncontrolling interest in the acquiree to be recognized at fair value. Typical assets and liabilities acquired include land, building, furniture, fixtures, and equipment, and identified intangible assets and liabilities, consisting of the value of above or below market leases and in-place leases.  In making estimates of fair values for purposes of allocating purchase price, the Company utilizes various sources, including its own analysis of recently acquired and existing comparable properties in its portfolio and other market data.

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make certain estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the dates of the financial statements and the reported amounts of revenue and expenses during the reporting periods.  Actual results could differ from those estimates.

Reclassifications

Certain reclassifications have been made to amounts in prior years’ financial statements to conform to current year presentations as a result of changes in held for sale classification as described in Note 6, “Real Estate Disposition Activities.”


7


Recently Issued Accounting Standards

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers, a revenue recognition standard that will result in companies recognizing revenue from contracts when control for the service or product that is the subject of the contract is transferred from the seller to the buyer. The guidance is effective in the first quarter of 2018, and the Company is assessing whether the new standard will have a material effect on its financial position or results of operations.

In February 2015, the FASB issued ASU 2015-02, Consolidation: Amendments to the Consolidation Analysis, which amends the criteria for determining variable interest entities (“VIEs”), amends the criteria for determining if a service provider possesses a variable interest in a VIE, and eliminates the presumption that a general partner should consolidate a limited partnership. The guidance is effective in the first quarter of 2016 and allows for early adoption. The Company is currently assessing the effect of adoption on its consolidated financial statements.

In April 2015, the FASB issued ASU 2015-03, Interest - Imputation of Interest: Simplifying the Presentation of Debt Issuance Costs. The guidance requires debt issuance costs related to a recognized debt liability to be presented as a direct deduction from the carrying amount of that debt liability. The new guidance will only impact financial statement presentation. The guidance is effective in the first quarter of 2016 and allows for early adoption. The Company does not expect the adoption of this standard to materially impact its consolidated financial statements.

2.  Interest Capitalized

The Company capitalizes interest during the development and redevelopment of real estate assets. Capitalized interest associated with the Company’s development or redevelopment activities totaled $19,800,000 and $18,626,000 for the three months ended June 30, 2015 and 2014, respectively, and $38,830,000 and $38,305,000 for the six months ended June 30, 2015 and 2014, respectively.

3.  Notes Payable, Unsecured Notes and Credit Facility

The Company’s mortgage notes payable, unsecured notes, Term Loan and Credit Facility, both as defined below, as of June 30, 2015 and December 31, 2014, are summarized below (dollars in thousands).  The following amounts and discussion do not include the mortgage notes related to the communities classified as held for sale, if any, as of June 30, 2015 and December 31, 2014, as shown in the Condensed Consolidated Balance Sheets (dollars in thousands) (see Note 6, “Real Estate Disposition Activities”).
 
6/30/2015
 
12/31/2014
 
 
 
 
Fixed rate unsecured notes (1)
$
3,275,000

 
$
2,750,000

Term Loan
300,000

 
250,000

Fixed rate mortgage notes payable - conventional and tax-exempt (2)
1,812,557

 
2,400,677

Variable rate mortgage notes payable - conventional and tax-exempt (2)
1,046,332

 
1,047,461

Total mortgage notes payable and unsecured notes
6,433,889

 
6,448,138

Credit Facility

 

Total mortgage notes payable, unsecured notes and Credit Facility
$
6,433,889

 
$
6,448,138

_____________________________________

(1)
Balances at June 30, 2015 and December 31, 2014 exclude $7,169 and $6,735 of debt discount, respectively, as reflected in unsecured notes, net on the Company’s Condensed Consolidated Balance Sheets.
(2)
Balances at June 30, 2015 and December 31, 2014 exclude $60,410 and $84,449 of debt premium, respectively, as reflected in mortgage notes payable on the Company’s Condensed Consolidated Balance Sheets.

The following debt activity occurred during the six months ended June 30, 2015:

In January 2015, in conjunction with the disposition of Avalon on Stamford Harbor, another operating community, AVA Belltown, was substituted as collateral for the disposed community's outstanding fixed rate secured mortgage loan.

In March 2015, the Company borrowed the final $50,000,000 available under the $300,000,000 variable rate unsecured term loan (the “Term Loan”), maturing in March 2021.


8


In April 2015, the Company repaid an aggregate of $481,582,000 principal amount of secured indebtedness, which includes eight fixed rate mortgage loans secured by eight wholly-owned operating communities, at par. The indebtedness had an aggregate effective interest rate of 3.12%, and a stated maturity date of November 2015. The Company incurred a gain on the early debt extinguishment of $8,724,000, representing the excess of the write-off of unamortized premium resulting from the debt assumed in the Archstone Acquisition, as defined in our Form 10-K for the year ended December 31, 2014.

In May 2015, the Company issued $525,000,000 principal amount of unsecured notes in a public offering under its existing shelf registration statement for net proceeds of approximately $520,653,000. The notes mature in June 2025 and were issued at a 3.45% coupon interest rate.

In June 2015, the Company repaid a $15,778,000 fixed rate secured mortgage note with an effective interest rate of 7.50% at par in advance of its February 2041 maturity date, recognizing a charge of $455,000 for a prepayment penalty and write-off of deferred financing costs.

In June 2015, the Company repaid a $7,805,000 fixed rate secured mortgage note with an effective interest rate of 7.84% at par and without penalty in advance of its May 2027 maturity date, recognizing a charge of $263,000 for the write-off of deferred financing costs.

In June 2015, the Company repaid the $74,531,000 fixed rate secured mortgage note secured by Edgewater with an effective interest rate of 5.95% at par and without penalty in advance of its May 2019 maturity date, recognizing a charge of $259,000 for the write-off of deferred financing costs.

The Company has a $1,300,000,000 revolving variable rate unsecured credit facility with a syndicate of banks (the “Credit Facility”) which matures in April 2017. The Company has the option to extend the maturity by up to one year under two, six month extension options for an aggregate fee of $1,950,000. The Credit Facility bears interest at varying levels based on the LIBOR rating levels achieved on the unsecured notes and on a maturity schedule selected by the Company. The current stated pricing is LIBOR plus 0.95% (1.14% at June 30, 2015), assuming a one month borrowing rate. The annual facility fee is approximately $1,950,000 based on the $1,300,000,000 facility size and based on the Company’s current credit rating.

The Company had no borrowings outstanding under the Credit Facility and had $46,119,000 and $49,407,000 outstanding in letters of credit that reduced the borrowing capacity as of June 30, 2015 and December 31, 2014, respectively.

In the aggregate, secured notes payable mature at various dates from December 2015 through July 2066, and are secured by certain apartment communities (with a net carrying value of $3,549,533,000, excluding communities classified as held for sale, as of June 30, 2015).

As of June 30, 2015, the Company has guaranteed approximately $234,500,000 of mortgage notes payable held by wholly-owned subsidiaries; all such mortgage notes payable are consolidated for financial reporting purposes. The weighted average interest rate of the Company’s fixed rate mortgage notes payable (conventional and tax-exempt) was 4.7% and 4.5% at June 30, 2015 and December 31, 2014, respectively.  The weighted average interest rate of the Company’s variable rate mortgage notes payable (conventional and tax exempt), the Term Loan and its Credit Facility, including the effect of certain financing related fees, was 1.8% at both June 30, 2015 and December 31, 2014.

Scheduled payments and maturities of mortgage notes payable and unsecured notes outstanding at June 30, 2015 are as follows (dollars in thousands):

9


Year
 
Secured notes payments
 
Secured notes maturities
 
Unsecured notes maturities
 
Stated interest rate of unsecured notes
 
 
 
 
 
 
 
 
 
2015
 
$
8,443

 
$
104,198

 
$

 
%
 
 
 
 
 
 
 
 
 
2016
 
17,298

 
16,256

 
250,000

 
5.750
%
 
 
 
 
 
 
 
 
 
2017
 
18,365

 
710,091

 
250,000

 
5.700
%
 
 
 
 
 
 
 
 
 
2018
 
17,632

 
76,940

 

 
%
 
 
 
 
 
 
 
 
 
2019
 
6,440

 
588,428

 

 
%
 
 
 
 
 
 
 
 
 
2020
 
5,475

 
50,825

 
250,000

 
6.100
%
 
 
 
 
 
 
 
 
 
 
 
 

 
 

 
400,000

 
3.625
%
 
 
 
 
 
 
 
 
 
2021
 
5,516

 
27,844

 
250,000

 
3.950
%
 
 
 
 
 
 
 
 
 
 
 
 

 
 

 
300,000

 
LIBOR + 1.450%

 
 
 
 
 
 
 
 
 
2022
 
5,881

 

 
450,000

 
2.950
%
 
 
 
 
 
 
 
 
 
2023
 
6,255

 

 
350,000

 
4.200
%
 
 
 
 
 
 
 
 
 
 
 
 

 
 

 
250,000

 
2.850
%
 
 
 
 
 
 
 
 
 
2024
 
5,567

 

 
300,000

 
3.500
%
 
 
 
 
 
 
 
 
 
Thereafter
 

 
1,187,435

 
525,000

 
3.450
%
 
 
 
 
 
 
 
 
 
 
 
$
96,872

 
$
2,762,017

 
$
3,575,000

 
 

 

The Company was in compliance at June 30, 2015 with customary financial and other covenants under the Credit Facility, the Term Loan, and the Company’s fixed rate unsecured notes.

4.  Equity

The following summarizes the changes in equity for the six months ended June 30, 2015 (dollars in thousands):
 
Common
stock
 
Additional
paid-in
capital
 
Accumulated
earnings
less
dividends
 
Accumulated
other
comprehensive
loss
 
Total
equity
 
 
 
 
 
 
 
 
 
 
Balance at December 31, 2014
$
1,320

 
$
9,354,685

 
$
(267,085
)
 
$
(42,515
)
 
$
9,046,405

Net income attributable to common stockholders

 

 
380,469

 

 
380,469

Cash flow hedge loss reclassified to earnings

 

 

 
2,992

 
2,992

Change in redemption value of redeemable noncontrolling interest

 

 
1,807

 

 
1,807

Dividends declared to common stockholders

 

 
(331,323
)
 

 
(331,323
)
Issuance of common stock, net of withholdings
9

 
96,337

 
(1,309
)
 

 
95,037

Amortization of deferred compensation

 
15,098

 

 

 
15,098

Balance at June 30, 2015
$
1,329

 
$
9,466,120

 
$
(217,441
)
 
$
(39,523
)
 
$
9,210,485


As of June 30, 2015 and December 31, 2014, the Company’s charter had authorized for issuance a total of 280,000,000 shares of common stock and 50,000,000 shares of preferred stock.

10



During the six months ended June 30, 2015, the Company:

i.
issued 54,196 shares of common stock in connection with stock options exercised;
ii.
issued 1,028 common shares through the Company’s dividend reinvestment plan;
iii.
issued 157,779 common shares in connection with stock grants and the conversion of restricted stock units to restricted shares;
iv.
issued 46,589 common shares in conjunction with the conversion of deferred stock awards;
v.
withheld 36,104 common shares to satisfy employees’ tax withholding and other liabilities;
vi.
issued 5,022 common shares through the Employee Stock Purchase Program; and
vii.
issued 609,275 shares of common stock in partial settlement of the Forward.

Any deferred compensation related to the Company’s stock option, restricted stock and restricted stock unit grants during the six months ended June 30, 2015 is not reflected on the Company’s Condensed Consolidated Balance Sheet as of June 30, 2015, and will not be reflected until earned as compensation cost.

In August 2012, the Company commenced a third continuous equity program (“CEP III”), under which the Company was authorized by its Board of Directors to sell up to $750,000,000 of shares of its common stock from time to time during a 36-month period, which expired on August 3, 2015.  Actual sales depended on a variety of factors determined by the Company, including market conditions, the trading price of the Company’s common stock and determinations by the Company of the appropriate sources of funding for the Company. In conjunction with CEP III, the Company engaged sales agents who receive compensation of approximately 1.5% of the gross sales price for shares sold. During the three and six months ended June 30, 2015, the Company had no sales under CEP III and had $346,304,000 authorized for common stock issuance remaining under this program as of June 30, 2015.

On September 9, 2014, based on a market closing price of $155.83 per share on that date, the Company entered into a forward contract to sell 4,500,000 shares of common stock for an initial forward price of $151.74 per share, net of offering fees and discounts (the "Forward"). The sales price and proceeds achieved by the Company are determined on the date or dates of settlement, with adjustments during the term of the contract for the Company’s dividends as well as for a daily interest factor that varies with changes in the Fed Funds rate. The Company generally has the ability to determine the date(s) and method of settlement, subject to certain conditions and the right of the Forward counterparty to accelerate settlement under certain circumstances. Settlement may be (i) physical sale of shares of our common stock for cash, (ii) net cash settlement, whereby the Company will either pay or receive the difference between the forward contract price and the weighted average market price for its common stock at the time of settlement, or (iii) net share settlement, whereby the Company will either receive or issue shares of its common stock, with the number of shares issued or received determined by the difference between the Forward price and the weighted average market price for its common stock at the time of settlement. The Forward price and the weighted average market price would in both cases be determined under the applicable terms of the Forward. Under either of the net settlement provisions, the Company will pay to the counterparty either cash or shares of its common stock when the weighted average market price of its common stock at the time of settlement exceeds the Forward price, and will receive either cash or shares of its common stock to the extent that the weighted average market price of its common stock at the time of settlement is less than the price under the Forward. Settlement of the Forward will occur on one or more dates not later than September 8, 2015. The Company accounts for the Forward as equity. Before the issuance of shares of the Company’s common stock, if any, upon physical or net share settlement of the Forward, the Company expects that the shares issuable upon settlement of the Forward will be reflected in its diluted earnings per share calculations using the treasury stock method. Under this method, the number of shares of the Company’s common stock used in calculating diluted earnings per share is deemed to be increased by the excess, if any, of the number of shares of common stock that would be issued upon full physical settlement of the Forward over the number of shares of common stock that could be purchased by the Company in the market (based on the average market price during the period) using the proceeds receivable upon full physical settlement (based on the adjusted forward sale price at the end of the reporting period). If and when the Company physically or net share settles the Forward, the delivery of shares of our common stock would result in an increase in the number of shares outstanding and dilution to our earnings per share. During the three months ended June 30, 2015, the Company issued 609,275 shares of common stock at a sales price of $147.72 per share, for net proceeds of $90,000,000, in partial settlement of the Forward.


11


5.  Investments in Real Estate Entities

Investment in Unconsolidated Real Estate Entities

As of June 30, 2015, the Company had investments in five unconsolidated real estate entities, excluding an interest in the Residual JV (as defined in this Form 10-Q), with ownership interest percentages ranging from 20.0% to 31.3%. The Company accounts for its investments in unconsolidated real estate entities under the equity method of accounting. The significant accounting policies of the Company’s unconsolidated real estate entities are consistent with those of the Company in all material respects.

During the six months ended June 30, 2015, AvalonBay Value Added Fund II, L.P. ("Fund II") sold Eaves Plainsboro, located in Plainsboro, NJ, containing 776 apartment homes. Eaves Plainsboro was sold for $117,000,000, and the Company's share of the gain for the disposition was $9,660,000. In conjunction with the disposition, during the six months ended June 30, 2015, Fund II repaid $9,395,000 of related secured indebtedness in advance of the scheduled maturity date.

During the six months ended June 30, 2015, the Company received $20,680,000 from the joint venture partner associated with MVP I, LLC, the entity that owns Avalon at Mission Bay North II, upon agreement with the partner to modify the joint venture agreement to eliminate the Company's promoted interest for future return calculations and associated distributions. Prospectively, earnings and distributions will be based on the Company's 25.0% equity interest in the venture. In addition, MVP I, LLC obtained a $103,000,000, 3.24% fixed rate loan, with a maturity date of July 2025, and used the proceeds and cash on hand to repay its existing $105,000,000, variable rate loan which was scheduled to mature in December 2015, at par.

The following is a combined summary of the financial position of the entities accounted for using the equity method as of the dates presented, excluding amounts associated with the Residual JV (dollars in thousands):
 
6/30/2015
 
12/31/2014
 
(unaudited)
 
(unaudited)
Assets:
 

 
 

Real estate, net
$
1,513,850

 
$
1,617,627

Other assets
60,793

 
72,290

Total assets
$
1,574,643

 
$
1,689,917

 
 
 
 
Liabilities and partners’ capital:
 

 
 

Mortgage notes payable and credit facility
$
964,246

 
$
980,128

Other liabilities
21,232

 
24,884

Partners’ capital
589,165

 
684,905

Total liabilities and partners’ capital
$
1,574,643

 
$
1,689,917

 

The following is a combined summary of the operating results of the entities accounted for using the equity method for the periods presented, excluding amounts associated with the Residual JV (dollars in thousands):
 
For the three months ended
 
For the six months ended
 
6/30/2015
 
6/30/2014
 
6/30/2015
 
6/30/2014
 
(unaudited)
 
(unaudited)
Rental and other income
$
43,395

 
$
52,270

 
$
88,650

 
$
104,646

Operating and other expenses
(17,375
)
 
(20,483
)
 
(34,712
)
 
(41,691
)
Gain on sale of communities

 
5,682

 
32,490

 
5,682

Interest expense, net
(10,334
)
 
(13,523
)
 
(20,811
)
 
(27,413
)
Depreciation expense
(11,942
)
 
(13,863
)
 
(23,845
)
 
(28,280
)
Net income
$
3,744

 
$
10,083

 
$
41,772

 
$
12,944


In conjunction with the formation of Fund II, the Company incurred costs in excess of its equity in the underlying net assets of the respective investments. These costs represent $3,312,000 at June 30, 2015 and $3,880,000 at December 31, 2014 of the respective investment balances.


12


As part of the formation of Fund II, the Company provided a guarantee to one of the limited partners that provides if, upon final liquidation of Fund II, the total amount of all distributions to the guaranteed partner during the life of Fund II (whether from operating cash flow or property sales) does not equal the total capital contributions made by that partner, then the Company will pay the guaranteed partner an amount equal to the shortfall, but in no event more than 10% of the total capital contributions made by the guaranteed partner (maximum of approximately $8,910,000 for Fund II as of June 30, 2015).  As of June 30, 2015, the expected realizable value of the real estate assets owned by Fund II is considered adequate to cover the guaranteed distribution amount under a liquidation scenario.  The estimated fair value of, and the Company’s obligation under, this guarantee, both at inception and as of June 30, 2015, was not significant and therefore the Company has not recorded any obligation for this guarantee as of June 30, 2015.

In addition, through subsidiaries, the Company and Equity Residential are members in three limited liability company agreements (collectively, the “Residual JV”). The Company and Equity Residential jointly control the Residual JV and the Company holds a 40.0% economic interest in the assets and liabilities of the Residual JV. During the three and six months ended June 30, 2015, the Company recognized equity in income of unconsolidated real estate entities of $9,549,000 and $11,464,000, respectively, associated with the settlement of outstanding legal claims against third parties and planned and executed disposition activity in the Residual JV.

Expensed Acquisition, Development and Other Pursuit Costs and Impairment of Long-Lived Assets

The Company capitalizes pre-development costs incurred in pursuit of new development opportunities for which the Company currently believes future development is probable (“Development Rights”). Future development of these Development Rights is dependent upon various factors, including zoning and regulatory approval, rental market conditions, construction costs and the availability of capital. Initial pre-development costs incurred for pursuits for which future development is not yet considered probable are expensed as incurred. In addition, if the status of a Development Right changes, making future development by the Company no longer probable, any capitalized pre-development costs are written off with a charge to expense. The Company expensed costs related to the abandonment of Development Rights as well as costs incurred in pursuing the acquisition of assets or costs incurred pursuing the disposition of assets for which such disposition activity did not occur, in the amounts of $673,000 and $2,017,000 for the three months ended June 30, 2015 and 2014, respectively, and $1,860,000 and $2,732,000 for the six months ended June 30, 2015 and 2014, respectively. These costs are included in expensed acquisition, development, and other pursuit costs, net of recoveries on the accompanying Condensed Consolidated Statements of Comprehensive Income. These costs can vary greatly, and the costs incurred in any given period may be significantly different in future periods.

The Company evaluates its real estate and other long-lived assets for impairment when potential indicators of impairment exist. Such assets are stated at cost, less accumulated depreciation and amortization, unless the carrying amount of the asset is not recoverable. If events or circumstances indicate that the carrying amount of a long-lived asset may not be recoverable, the Company assesses its recoverability by comparing the carrying amount of the long-lived asset to its estimated undiscounted future cash flows. If the carrying amount exceeds the aggregate undiscounted future cash flows, the Company recognizes an impairment loss to the extent the carrying amount exceeds the estimated fair value of the long-lived asset. Based on periodic tests of recoverability of long-lived assets, the Company did not record any impairment losses for the three and six months ended June 30, 2015 and 2014, other than related to the casualty gains and losses from property damage discussed below.

The Company assesses its portfolio of land held for both development and investment for impairment if the intent of the Company changes with respect to either the development of, or the expected holding period for, the land. The Company did not recognize any impairment charges on its investment in land during the three months ended June 30, 2015. During the six months ended June 30, 2015, the Company recognized an impairment charge of $800,000 relating to a parcel of land to reduce the Company's basis to the contracted sales price less expected costs to sell. This charge is included in casualty and impairment gain, net on the accompanying Condensed Consolidated Statements of Comprehensive Income. The Company did not recognize any impairment charges on its investment in land for the three and six months ended June 30, 2014.

The Company also evaluates its unconsolidated investments for other than temporary impairment, considering both the extent and amount by which the carrying value of the investment exceeds the fair value, and the Company’s intent and ability to hold the investment to recover its carrying value. The Company also evaluates its proportionate share of any impairment of assets held by unconsolidated investments. Excluding amounts associated with the Residual JV, there was no impairment loss recognized by any of the Company’s investments in unconsolidated entities during the three and six months ended June 30, 2015 and 2014.


13


Casualty Gains and Losses

The Company recorded net casualty gains related to Edgewater of $17,114,000 and $16,321,000 for the three and six months ended June 30, 2015, respectively, which are included in casualty and impairment gain, net on the accompanying Condensed Consolidated Statements of Comprehensive Income. During the three months ended June 30, 2015, the Company received $22,000,000 in insurance proceeds, which were partially offset by casualty charges of $4,886,000 relating to demolition and additional incident expenses. During the six months ended June 30, 2015, the Company received $44,142,000 in insurance proceeds, which were partially offset by casualty charges of $21,844,000 to write off the net book value of the building destroyed by the fire at Edgewater, and $5,977,000 to record demolition and additional incident expenses. See discussion in Note 1, "Organization, Basis of Presentation and Significant Accounting Policies, Legal and Other Contingencies," and Part II, Item 1, "Legal Proceedings," for further discussion of the Edgewater fire.

During the six months ended June 30, 2015, several of the Company's communities in its Northeast markets incurred property and casualty damages from severe winter storms experienced during this time. The Company has recorded an impairment due to a casualty loss of $4,195,000 to recognize the damages from the storms, included in casualty and impairment gain, net on the accompanying Condensed Consolidated Statements of Comprehensive Income.

6.  Real Estate Disposition Activities

During the six months ended June 30, 2015, the Company sold one wholly-owned operating community, two land parcels and air rights.

Avalon on Stamford Harbor, located in Stamford, CT, containing 323 homes and a marina with 74 boat slips, was sold for $115,500,000. The Company’s gain on the disposition was $70,936,000, reported in gain on sale of communities on the accompanying Condensed Consolidated Statements of Comprehensive Income.

Two undeveloped land parcels and air rights, representing the right to increase density for future residential development, in the New York Metro region were sold for an aggregate sales price of $23,820,000, resulting in an aggregate gain of $9,626,000, reported in gain on sale of real estate on the accompanying Condensed Consolidated Statements of Comprehensive Income. The Company had previously recognized impairment charges of $800,000 during the three months ended March 31, 2015, and $5,933,000 in 2008 for the land parcels.

The results of operations for Avalon on Stamford Harbor are included in income from continuing operations on the accompanying Condensed Consolidated Statements of Comprehensive Income.

The operations for any real estate assets sold from January 1, 2014 through June 30, 2015 and which were classified as held for sale and discontinued operations as of and for the period ended December 31, 2013, have been presented as income from discontinued operations in the accompanying Condensed Consolidated Statements of Comprehensive Income.

The following is a summary of income from discontinued operations for the periods presented (dollars in thousands):
 
 
For the three months ended
 
For the six months ended
 
 
6/30/2015
 
6/30/2014
 
6/30/2015
 
6/30/2014
 
 
(unaudited)
 
(unaudited)
Rental income
 
$

 
$

 
$

 
$
579

Operating and other expenses
 

 

 

 
(269
)
Depreciation expense
 

 

 

 

Income from discontinued operations
 
$

 
$

 
$

 
$
310


At June 30, 2015, the Company had one operating community that qualified as held for sale.


14


7.  Segment Reporting

The Company’s reportable operating segments include Established Communities, Other Stabilized Communities, and Development/Redevelopment Communities.  Annually as of January 1st, the Company determines which of its communities fall into each of these categories and generally maintains that classification throughout the year for the purpose of reporting segment operations, unless disposition or redevelopment plans regarding a community change.

In addition, the Company owns land for future development and has other corporate assets that are not allocated to an operating segment.

The Company’s segment disclosures present the measure(s) used by the chief operating decision maker for purposes of assessing each segment’s performance.  The Company’s chief operating decision maker is comprised of several members of its executive management team who use net operating income (“NOI”) as the primary financial measure for Established Communities and Other Stabilized Communities. NOI is defined by the Company as total property revenue less direct property operating expenses, including property taxes, and excluding corporate-level income (including management, development and other fees), corporate-level property management and other indirect operating expenses, investments and investment management expenses, expensed acquisition, development and other pursuit costs, net interest expense, gain (loss) on extinguishment of debt, general and administrative expense, joint venture income (loss), depreciation expense, casualty and impairment gain, net, gain on sale of real estate assets, income from discontinued operations and net operating income from real estate assets sold or held for sale, not classified as discontinued operations. Although the Company considers NOI a useful measure of a community’s or communities’ operating performance, NOI should not be considered an alternative to net income or net cash flow from operating activities, as determined in accordance with GAAP.  NOI excludes a number of income and expense categories as detailed in the reconciliation of NOI to net income.

A reconciliation of NOI to net income for the three and six months ended June 30, 2015 and 2014 is as follows (dollars in thousands):
 
For the three months ended
 
For the six months ended
 
6/30/2015
 
6/30/2014
 
6/30/2015
 
6/30/2014
Net income
$
172,253

 
$
172,197

 
$
380,306

 
$
313,796

Indirect operating expenses, net of corporate income
14,817

 
12,343

 
30,215

 
23,161

Investments and investment management expense
1,073

 
1,137

 
2,107

 
2,116

Expensed acquisition, development and other pursuit costs, net of recoveries
673

 
2,017

 
1,860

 
2,732

Interest expense, net (1)
44,590

 
43,722

 
90,164

 
86,255

(Gain) loss on extinguishment of debt, net
(7,749
)
 
412

 
(7,749
)
 
412

General and administrative expense
11,628

 
10,220

 
22,111

 
19,456

Equity in income of unconsolidated real estate entities
(13,806
)
 
(7,710
)
 
(48,371
)
 
(12,933
)
Depreciation expense (1)
118,627

 
110,395

 
235,480

 
216,762

Casualty and impairment gain, net
(17,114
)
 

 
(11,326
)
 

Gain on sale of real estate assets
(9,625
)
 
(60,945
)
 
(80,583
)
 
(60,945
)
Gain on sale of discontinued operations

 

 

 
(37,869
)
Income from discontinued operations

 

 

 
(310
)
Net operating income from real estate assets sold or held for sale, not classified as discontinued operations
(1,353
)
 
(6,240
)
 
(2,791
)
 
(12,522
)
        Net operating income
$
314,014

 
$
277,548

 
$
611,423

 
$
540,111

__________________________________

(1) Includes amounts associated with assets sold or held for sale, not classified as discontinued operations.

The following is a summary of NOI from real estate assets sold or held for sale, not classified as discontinued operations, for the periods presented (dollars in thousands):

15


 
For the three months ended
 
For the six months ended
 
6/30/2015
 
6/30/2014
 
6/30/2015
 
6/30/2014
 
 
 
 
 
 
 
 
 Rental income from real estate assets sold or held for sale, not classified as discontinued operations
$
2,285

 
$
10,226

 
$
4,809

 
$
20,595

 Operating expenses from real estate assets sold or held for sale, not classified as discontinued operations
(932
)
 
(3,986
)
 
(2,018
)
 
(8,073
)
Net operating income from real estate assets sold or held for sale, not classified as discontinued operations
$
1,353

 
$
6,240

 
$
2,791

 
$
12,522


The primary performance measure for communities under development or redevelopment depends on the stage of completion.  While under development, management monitors actual construction costs against budgeted costs as well as lease-up pace and rent levels compared to budget.

The following table provides details of the Company’s segment information as of the dates specified (dollars in thousands). The segments are classified based on the individual community’s status at the beginning of the given calendar year, or April 1, 2014, when the Company updated its operating segments, primarily to include communities acquired as part of the Archstone Acquisition in its Established Community portfolio. Therefore, each year the composition of communities within each business segment is adjusted. Accordingly, the amounts between years are not directly comparable. Segment information for the three and six months ended June 30, 2015 and 2014 has been adjusted for the real estate assets that were sold from January 1, 2014 through June 30, 2015, or otherwise qualify as held for sale and/or discontinued operations as of June 30, 2015, as described in Note 6, “Real Estate Disposition Activities.”

16


 
For the three months ended
 
For the six months ended
 
 
 
Total
revenue
 
NOI
 
% NOI  change from  prior year
 
Total
revenue
 
NOI
 
% NOI  change from  prior year
 
Gross
real estate (1)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
For the period ended June 30, 2015
 
 

 
 
 
 
 
 
 
 

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Established
 

 
 

 
 

 
 
 
 
 
 
 
 

New England
$
49,000

 
$
30,985

 
2.3
 %
 
$
96,760

 
$
58,823

 
(0.7
)%
 
$
1,477,145

Metro NY/NJ
96,372

 
67,880

 
2.9
 %
 
190,704

 
132,989

 
2.9
 %
 
3,191,141

Mid-Atlantic
52,263

 
35,938

 
(0.9
)%
 
103,967

 
71,969

 
(0.8
)%
 
2,170,822

Pacific Northwest
19,047

 
13,657

 
7.9
 %
 
37,536

 
27,030

 
8.4
 %
 
719,366

Northern California