AvalonBay Earnings: Expense Growth Outpaces High Revenue Growth as Expected

AvalonBay Communities AVB reported second-quarter results that were relatively in line with our expectations, leading us to reaffirm our $241 fair value estimate for the no-moat company. Same-store occupancy fell 20 basis points sequentially to 95.9%, below our estimate of 96.3% occupancy for the second quarter. However, average rental rates increased 6.7% year over year, slightly better than our estimate of 6.2% growth, leading to same-store revenue growth of 6.3% that was relatively in line with our 6.1% estimate. However, operating expense growth continues to outpace revenue growth, with same-store operating expenses up 8.2% in the quarter. The high expense growth was driven by a 30.7% growth in utility costs caused by the company ramping up bulk internet access across its portfolio, which increased revenue growth but also increased internet and electricity usage. Other expense items like repair costs, office operations, and marketing costs also saw double-digit year-over-year growth in the second quarter. As a result, same-store net operating income grew 5.4%, which matched our estimate for the second quarter. AvalonBay reported normalized funds from operations of $2.66 per share in the second quarter, a penny below our $2.67 estimate.

AvalonBay reported that it sold two apartment buildings with 489 combined units for $237 million in the second quarter. The combined disposition cap rate for the two properties was 4.5%. We will note that this is higher than the high-3% range the company was selling at in 2021 when interest rates were at the lowest levels and are also higher than the low-4% rates the company achieved in the second half of 2022. Still, it is in line with the range the company sold assets at in 2020 and in the prior economic cycle, so we view the rise in cap rates as a return to normal levels of demand for high-quality assets.