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8 Thoughts on the Biggest Apartment REIT Merger in U.S. History
Two of the biggest names in multifamily — AvalonBay and Equity Residential — announced they’re merging together, confirming prior reports that discussions were under way. The transaction is expected to close some time in the second half of this year, assuming no hiccups along the way.
Friendly reminder: This is not investment advice. Just stuff I find interesting, and for informational purposes only.
1) It’s a “merger of equals,” but what does that mean?
The REIT execs are positioning it as a “NewCo” — will have a new name, a new identity and a new culture, they say. They’ve clearly gone to great lengths to emphasize the “equals” part. The CEO will come from AvalonBay (Ben Schall) and the board chair from EQR (Steve Sterrett). EQR’s CEO, Mark Parrell, will retire. On a joint call announcing the merger, EQR’s head of investor relations (Marty McKenna) led the call, but the slide deck more closely resembled AvalonBay’s template and style.
NewCo will even maintain dual headquarters in Chicago (EQR) and Northern Virginia (AVB); however, it’s tough to see Chicago winning an eventual HQ battle due to tax purposes if nothing else.
The AvalonBay side also has the advantage of slightly larger market cap and therefore slightly more shares in the new entity (51% to 49%).
2) The combined firm is smaller than peak Equity Residential
Here’s a fun fact: The combined NewCo will own about 183k units. That’s well below the 225k units that EQR owned at its peak in the early 2000s, before it started pruning down the portfolio and narrowing its focus to Class A buildings in coastal markets.
There’s a lot of reporting about the combined scale on NewCo, but it’s a bit skewed by the comparison points — other current REITs. While NewCo will be the largest REIT and a top 2 owner overall, it will be just the No. 5 or 6 manager, well behind Greystar (1m) and Asset Living (446k) in particular. That isn’t to say NewCo’s size is insignificant, but it’s also not the behemoth some might think.
3) There will be fuss about combined pricing power, but it’s misguided
EQR and AVB could suffer from having names that are much bigger than their actual scale. Therefore, I’m sure conspiracy theorists will view the merger as a pricing power play, and perhaps that gets regulators’ attention. But if you take the gut-reaction emotion out of it, this argument doesn’t pass the sniff test.
Bottom line: “NewCo” will be a big name, but still tiny in the grand scheme of things. It’s a big name, yes, but in the most fragmented major industry in the U.S.
The combined firms will have about 0.5% of the apartment stock, and less than 4% in any one MSA. They’ll own 3-4% of apartments in the metro areas of Boston, D.C., Bay Area and Seattle. They’ll own 2.2% in Southern California (where both companies have cooled interest, particularly in L.A.) and 0.9% in the New York City area. They’ll have a much smaller presence in the Sun Belt (where both companies have recently re-entered, and both have targeted for longer-term expansion), with properties in Denver, Dallas, Austin, Atlanta, Charlotte, Raleigh and South Florida.
If in doubt, just think about this logically: If 3% of the apartments are priced meaningfully above comparable apartments, what’s going to happen? It ain’t complicated: It’d push demand toward the other 97%, and NewCo’s occupancy (and therefore revenue) will sink. And remember: REITs tend to favor high occupancy because occupancy = cashflow.
Also it’s important to remember both AVB and EQR serve the very high end of the Class A market — high-income renters spending ~20% of income on rent, a true “renters by choice” demographic. Not exactly where affordability problems exist.
4) The combined firms expect $175 million in operating synergies
The realer opportunity isn’t pricing power, but operating efficiency. The firms said they expect $175 million in efficiency gains, and net gains of $125 million after accounting for California’s Prop 13 (tax values resetting upon sale) and other factors. Some of that will come from reduced HQ headcount (executive compensation).
And because they operate in largely the same geographic footprint (large coastal MSAs), there are likely some gains to be had from efficiency of scale, though both firms have already pushed heavily toward operational efficiencies in recent years. On the joint call, the execs emphasized portfolio refinement through “neighborhooding” (aka clustering or pooling), which means focusing concentration within a submarket or micro-market for operational efficiencies / shared resourcing.
They also talked up “improved AI-powered demand forecasting. Not sure what that means, but it’d be interesting if they can better forecast demand shifts somehow, as that’s very hard to do even with AI.
FWIW, both companies (as of this writing) saw their stocks tick down today following the announcement, so maybe investors still need some convincing?
5) NewCo will have expanded focus on affordable housing
It’s interesting to see the companies announce “NewCo” will have a new focus on affordable housing. Neither company is really a player in affordable housing today. EQR was in the 1990s and early 2000s, but sold off its affordable portfolio long ago.
In the joint press release, they wrote: “New initiatives the combined company will pursue include an affordable housing bridge loan facility to provide predevelopment capital to nonprofit developers, expanded partnerships with nonprofit developers, and a naturally occurring affordable housing (NOAH) preservation program designed to protect long-term affordability.”
That’s a real shift for both firms, as neither has emphasized affordable housing in their public commentaries in recent years. It’s probably a smart move from a political/PR perspective, and obviously it serves a real need as well. We still need more affordable housing in the U.S. for sure. And the execs emphasized on the joint call that they “want to be part of the solution.”
6) NewCo is doubling down on new development
The firms said they have a combined 10.8k units under construction, and plan to further expand their development arm. On their call, the execs said they plan to continue development in all of their current markets — coasts and Sun Belt.
NewCo has “$4.2 billion development rights pipeline with expectation to meaningfully increase annual new development start activity,” they wrote.
7) AVB + EQR = Archstone? And more M&A history
Several long-timers have pointed out that the marriage of AVB and EQR equals a reunion of sorts for one of the great names of apartment REIT history — Archstone. EQR and AVB came together to acquire Archstone in 2013 from Lehman Brothers, which had taken Archstone private in 2007. EQR acquired 23k units, almost all in coastal markets, which accelerated EQR’s shift toward the coasts as they concurrently exited interior markets. AvalonBay acquired 20k units from Archstone as part of the same deal.
More broadly, both companies have long histories in M&A. For EQR, most of that activity (pre-Archstone) occurred in the 1990s. EQR bought some apartment operators who were big names at the time: Wellsford Residential in the Mountains and the Southwest region, Evans Withycombe in Arizona and Southern California, Merry Land & Investment across the Southeast, Lexford Residential in the Midwest and the South.
For AvalonBay, their name harkens back to another big merger: Avalon Properties and Bay Apartment Communities, which merged together in 1998.
In the WSJ coverage of the Avalon and Bay merger, there’s an interesting bit of history: Avalon technically merged into Bay, but Avalon’s CEO became CEO of the combined firm, and the headquarters stayed in Avalon’s home base of Alexandra, VA. (Bay was based in San Jose, CA.) Bay’s founder and CEO (Gilbert M. Meyer) became executive chairman of the board.
Of course, this is a different era and a different leadership team.
8) Mergers bring real uncertainty to real people
I’d be remiss not to point this out: While it’s fun to analyze the business impacts, there are great people at both firms impacted by a merger, as well. Some jobs will overlap. Some roles won’t make sense to keep, no matter how strong the talent. I am sure there’s real uncertainty among the teams at EQR and AVB right now, given that only one role has been publicly announced: AVB CEO Ben Schall becoming CEO of the new entity.
There are absolute rock stars on both sides of this merger, and I wish all of them nothing but the best from this. And I’m sure there are many recruiters out there already pre-emptively looking to pluck away some top talent.
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