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SAN FRANCISCO-BRE Properties, an apartment REIT, reported a sharp increase in second quarter profit compared to 2005 in part due to land sales and a litigation settlement. Net income available to common shareholders spiked to $70.6 million from $13.5 million in the same 2005 period. Total second quarter revenue climbed to $82.1 million in the second quarter from $72.7 million in the same 2005 period.

Core FFO–a key industry gauge that excludes gains and losses from sales of previously depreciated real estate assets from net income–nearly doubled to $51.4 million, or $0.96 per share, from $26.9 million, or $0.51 per share, beating expectations by several cents per share. The company boosted its FFO per share guidance for the full year to between $2.60 and $2.67, an increase of 6.5% on the low end and 4.3% on the high end.

Of the 21,978 apartment units owned directly by BRE during the second quarter, same-store units– stabilized apartment communities owned by the company for at least five full quarters–totaled 19,976. Average same-store market rent for second quarter 2006 increased 9.1% to $1,330 per unit, from $1,219 per unit in second quarter 2005. Same-store physical occupancy levels averaged 95.0% during second quarter 2006, as compared with 94.4% in the same period 2005. On a year-over-year basis, overall same-store growth in Net Operating Income, 5.8%, was driven by revenue growth and maintaining property-level operating margins at approximately 68%.

During a Tuesday afternoon conference, BRE chief executive Constance Moore told analysts that California represents 80% of the company’s net operating income and will grow to 90% of NOI over the next couple of years. “Ours is a revenue business and as California delivers two- to three times CPI rent growth, expect to see that (operating) margin expand,” she said.

Market rent growth in California during the quarter ranged from 10% in San Francisco to 6% in Sacramento. BRE was able to push rents in its Los Angeles/Orange County and San Diego properties by 9% and 7%, respectively. The steepest market rent increase, 19%, occurred at its properties in Phoenix, which represents just 4% of the company’s NOI. Moore told analysts multiple times the number represent pure growth.

“Concessions, which have never been a big part of our leasing strategy, are essentially non-existent (at BRE’s properties), running at about two days rent,” says Moore. “That means revenue growth is being driven by market rent increases and not by the burn-off of concessions.”

Looking ahead, Moore pontificates that because the company’s 30-day unit “availability” metric currently stands at 7%, “perhaps rent growth may slow a bit as markets and residents digest the strong rent growth we have experienced to date.”

Property-level operating expense increased 10.4% in the second quarter from the same year-earlier period. Through the first half of the year, operating expenses are running 8.4% ahead of the first half of 2005. By end of the year, the company expects annual same-store operating expense growth will have dropped to 6.0%.

BRE chief financial office Ed Lange told analysts that 80% of the increase in operating expenses was related to turnover and the balance was property tax assessments for which the company is seeking rebates. Regarding the turnover, the costs for new carpet and installation are up significantly, he said.

Non-routine income items that boosted net income included a $19.5 million recovery from a litigation settlement and $3.5 million in gains from the sale of excess land in Bellevue, WA, and Anaheim, CA. The litigation settlement is from a 2003 suit filed against M.H. Podell Co. regarding moisture damage at at its 453-unit, 17-building Red Hawk Ranch apartment complex in Fremont, CA, which it acquired from Podell in 1997 for $57 million.

Lange estimates it will end up spending $22.5 million to fix the property and an additional $1.5 million to replace the kitchens and baths while they are at it in order to push rents. Buildings have been shut down two at a time. About $13 million has been spent to date. Occupancy was 75% in March and 2006 NOI was expected to be around $2.5 million, down from an occupancy of 95% and NOI of $5 million prior to the problem being discovered.

With regard to the land sales, Lange said the Bellevue land totaled 1.5 acres and sold for $11 million, generating a $2-million gain. The Anaheim property was 3 acres and sold for the same price, mostly because the price was set three years ago when the entitlement process began, said Lange.

Including the two properties in the final stage of construction, BRE currently has five communities under construction, with a total of 1,328 units, for an aggregate projected investment of $316.4 million and an estimated balance to complete totaling $116.9 million. Expected delivery dates for these units range from third quarter 2006 through fourth quarter 2007. Four development communities are in Southern California; the other is located in Northern California (Bridgeport Coast, Santa Clarita, 160 units).

BRE owns five land parcels representing 1,362 units of future development, and an estimated aggregate investment of $402.8 million upon completion. Expected construction starts for four parcels are expected to occur during second half 2006; one is scheduled for the first half of 2007. The land parcels are located in Southern California, Northern California and the Seattle, WA metro area.

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