Investments in Real Estate Entities

9 Months Ended

Sep. 30, 2011

Investments in Real Estate Entities

6. Investments in Real Estate Entities

Investments in consolidated entities

In April 2011, the Company completed an exchange of assets with UDR, Inc. (“UDR”). The transaction included exchanging a portfolio of three communities and a parcel of land owned by the Company for a portfolio of six UDR communities and $26,000,000 in cash. The Company’s portfolio consisted of two properties and a small land parcel located in metropolitan Boston and one property located in San Francisco. The UDR portfolio is located in Southern California (Los Angeles, Orange County and San Diego). The Company accounted for the exchange as a non-monetary transaction based on the carrying value of the assets relinquished by the Company. The Company recognized a partial gain of $7,675,000, related to the monetary consideration received, representing the proportionate share of the assets sold. In addition, the Company assumed a $55,400,000 5.24% fixed-rate mortgage loan that matures in June 2013. In exchange, the Company relinquished a $55,800,000 5.86% fixed-rate mortgage loan that matures in May 2019.

Also in April 2011, the Company acquired Fairfax Towers, located in Falls Church, Virginia. Fairfax Towers contains 415 apartment homes and was acquired for a purchase price of $89,200,000. In conjunction with this acquisition, the Company assumed the existing 4.75% fixed-rate mortgage loan with an outstanding principal amount of $44,044,000 which matures in August 2015.

The Company accounted for the acquisition of Fairfax Towers as a business combination and allocated the purchase price to the acquired assets and assumed liabilities, including identifiable intangibles, based on their fair values. The Company looked to third party pricing for the value of the land, and an internal model to determine the fair value of the real estate assets, in place leases and mortgage loan. Given the heterogeneous nature of multi-family real estate, the fair values for the land, real estate assets and in place leases incorporated significant unobservable inputs and therefore are considered to be Level 3 prices within the fair value hierarchy. The Company used a discounted cash flow analysis on the expected cash flows of the mortgage note to determine its fair value, considering the contractual terms of the instrument and observable market-based inputs. The fair value of the mortgage loan is considered a Level 2 price as the majority of the inputs used fall within Level 2 of the fair value hierarchy.

Transaction costs for the asset exchange and acquisition of Fairfax Towers were $1,010,000. These costs are included in operating expenses, excluding property taxes on the accompanying Condensed Consolidated Statements of Operations and Other Comprehensive Income.

Investment in unconsolidated entities

As of September 30, 2011, the Company had investments in six unconsolidated real estate entities with ownership interest percentages ranging from 15.2% to 50%. The Company accounts for its investments in unconsolidated real estate entities under the equity method of accounting, except as otherwise noted below. 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 three months ended September 30, 2011, AvalonBay Value Added Fund I, LP (“Fund I”) sold Avalon Redondo Beach, located in Redondo Beach, CA. The community contains 105 apartment homes and was sold for $33,100,000. This disposition resulted in a gain in accordance with GAAP of approximately $12,445,000, of which $1,743,000 represents the portion attributable to the Company.

In July 2011, AvalonBay Value Added Fund II, LP (“Fund II”) acquired Captain Parker Arms, a garden-style community consisting of 94 apartment homes located in Lexington, MA. The community was acquired for a purchase price of $20,850,000.

In addition, as discussed in Note 1 “Organization, Basis of Presentation and Significant Accounting Policies”, the Company recorded an impairment loss related to its investment in an unconsolidated development joint venture, see footnote 8 in the following table.

There were no other changes in the Company’s ownership interest in, or presentation of, its investments in unconsolidated real estate entities during the three months ended September 30, 2011.

Detail of the real estate and associated funding underlying the Company’s unconsolidated investments is presented in the following table (unaudited, dollars in thousands):

		Company Ownership Percentage			# of Apartment Homes		Total Capitalized Cost (1)		Debt
Unconsolidated Real Estate Investments									Amount (2)		Type	Interest Rate (3)			Maturity Date
Fund I
1.	Avalon Lakeside - Chicago, IL					204	$	18,581	$	12,056	Fixed		5.74	%	Mar 2012
2.	Avalon Columbia - Baltimore, MD					170		29,410		22,275	Fixed		5.48	%	Apr 2013
3.	Avalon Sunset - Los Angeles, CA					82		20,903		12,750	Fixed		5.41	%	Mar 2014
4.	Avalon at Poplar Creek - Chicago, IL					196		28,132		16,500	Fixed		4.83	%	Oct 2013
5.	Avalon at Civic Center - Norwalk, CA					192		42,756		27,001	Fixed		5.38	%	Aug 2013
6.	Avalon Paseo Place - Fremont, CA					134		25,081		11,800	Fixed		5.74	%	Nov 2014
7.	Avalon at Yerba Buena - San Francisco, CA					160		66,811		41,500	Fixed		5.88	%	Mar 2014
8.	Avalon at Aberdeen Station - Aberdeen, NJ					290		58,614		39,842	Fixed		5.64	%	Sep 2013
9.	The Springs - Corona, CA (4)					320		29,926		23,653	Fixed		6.06	%	Oct 2014
10.	Avalon Lombard - Lombard, IL					256		35,323		17,243	Fixed		5.43	%	Jan 2014
11.	Avalon Cedar Place - Columbia, MD					156		24,505		12,000	Fixed		5.68	%	Feb 2015
12.	Avalon Centerpoint - Baltimore, MD (5)					392		80,257		45,000	Fixed		5.74	%	Dec 2014
13.	Middlesex Crossing - Billerica, MA					252		38,406		24,100	Fixed		5.49	%	Dec 2014
14.	Avalon Crystal Hill - Ponoma, NY					168		38,645		24,500	Fixed		5.43	%	Dec 2014
15.	Avalon Skyway - San Jose, CA					348		78,250		37,500	Fixed		6.11	%	Mar 2014
16.	Avalon Rutherford Station - East Rutherford, NJ					108		36,821		19,544	Fixed		6.13	%	Sep 2016
17.	South Hills Apartments - West Covina, CA					85		24,756		11,761	Fixed		5.92	%	Oct 2014
18.	Weymouth Place - Weymouth, MA					211		25,298		13,455	Fixed		5.12	%	Mar 2015
	Total Fund I		15.2	%		3,724	$	702,475	$	412,480			5.7	%
Fund II
1.	Avalon Bellevue Park - Bellevue, WA					220	$	33,993	$	21,515	Fixed		5.52	%	Jun 2019
2.	Avalon Fair Oaks - Fairfax, VA					491		72,164		42,600	Fixed		5.26	%	May 2017
3.	Avalon Rothbury - Gaithersburg, MD					203		31,481		18,750	Variable		2.78	%	Jun 2017
4.	The Apartments at Briarwood - Owings Mills, MD					348		45,413		26,850	Fixed		3.64	%	Nov 2017
5.	Grove Park Apartments - Gaithersburg, MD					684		102,028		63,200	Fixed		5.42	%	Jan 2018
6.	Creekside Meadows - Tustin, CA					628		100,462		59,100	Fixed		3.81	%	Oct 2017
7.	Canyonwoods - Lake Forest, CA					140		25,459		—	N/A		N/A		N/A
8.	Fox Run Apartments - Plainsboro, NJ (6)					776		87,288		54,296	Fixed		4.56	%	Nov 2014
9.	Waterstone Carlsbad - Carlsbad, CA					448		78,661		46,141	Fixed		4.68	%	Feb 2018
10	Yale Village - Rockville, MD					210		49,529		32,131	Fixed		4.26	%	Aug 2019
11	Captain Parker Arms - Lexington, MA					94		20,852		13,500	Fixed		3.90	%	Sept 2019
	Total Fund II		31.3	%		4,242	$	647,330	$	378,083			4.5	%
Other Operating Joint Ventures
1.	Avalon Chrystie Place I - New York, NY (7)		20.0	%		361	$	136,572	$	117,000	Variable		0.88	%	Nov 2036
2.	Avalon at Mission Bay North II - San Francisco, CA (7)		25.0	%		313		124,060		105,000	Fixed		6.02	%	Dec 2015
3.	Avalon Del Rey - Los Angeles, CA		30.0	%		309		70,080		44,464	Variable		3.53	%	Apr 2016
Other Development Joint Ventures
1.	Aria at Hathorne - Danvers, MA (8)		50.0	%		64		N/A		1,860	Variable		7.98	%	Jun 2010
	Total Other Joint Ventures					1,047	$	330,712	$	268,324			3.4	%
	Total Unconsolidated Investments					9,013	$	1,680,517	$	1,058,887			4.7	%

(1) Represents total capitalized cost as of September 30, 2011.

(2) The Company has not guaranteed the debt of its unconsolidated investees and bears no responsibility for the repayment, other than the construction and completion and related financing guarantee for Avalon Chrystie Place I associated with the construction completion and occupancy certificate.

(3) Represents weighted average rate on outstanding debt as of September 30, 2011.

(4) Beginning in the third quarter of 2010, the Company consolidated the net assets and results of operations of The Springs.

(5) Borrowing on this community is comprised of three mortgage loans.

(6) Borrowing on this community is comprised of two mortgage loans.

(7) After the venture makes certain threshold distributions to the third-party partner, the Company generally receives 50% of all further distributions.

(8) As of September 30, 2011, the amounts under this borrowing have not been repaid and the lender has declared an event of default with respect to the note and required the venture to pay a default rate of interest, which is not material to the Company. Although the Company has not guaranteed the debt of Aria at Hathorne nor does it have any obligation to fund the debt should the venture be unable to do so, the Company has the right to cure any event of default by the venture. The Company determined that the value of its investment was impaired and this impairment was other than temporary, recognizing a charge in the third quarter of 2011.

The following is a combined summary of the financial position of the entities accounted for using the equity method, as of the dates presented (dollars in thousands):

	9-30-11			12-31-10
	(unaudited)			(unaudited)
Assets:
Real estate, net	$	1,493,832		$	1,393,274
Other assets		82,916			67,278
Total assets	$	1,576,748		$	1,460,552
Liabilities and partners’ capital:
Mortgage notes payable and credit facility	$	(1,035,234	)	$	(965,931	)
Other liabilities		(30,390	)		(24,835	)
Partners’ capital		(511,124	)		(469,786	)
Total liabilities and partners’ capital	$	(1,576,748	)	$	(1,460,552	)

The following is a combined summary of the operating results of the entities accounted for using the equity method, for the periods presented (dollars in thousands):

	For the three months ended						For the nine months ended
	9-30-11			9-30-10			9-30-11			9-30-10
	(unaudited)			(unaudited)			(unaudited)			(unaudited)
Rental and other income	$	40,953		$	28,236		$	117,407		$	81,066
Operating and other expenses		(18,829	)		(15,488	)		(53,474	)		(40,290	)
Gain on sale of communities		12,445			—			12,445			—
Interest expense, net		(12,818	)		(9,958	)		(37,596	)		(28,548	)
Depreciation expense		(12,363	)		(9,242	)		(35,702	)		(26,494	)
Net income (loss)	$	9,388		$	(6,452	)	$	3,080		$	(14,266	)

In conjunction with the formation of Fund I and Fund II, as well as the acquisition and development of certain other investments in unconsolidated entities, the Company incurred costs in excess of its equity in the underlying net assets of the respective investments. These costs represent $9,427,000 at September 30, 2011 and $9,566,000 at December 31, 2010 of the respective investment balances.

As part of the formation of Fund I and Fund II, the Company provided separate and distinct guarantees to one of the limited partners in each of the ventures. These guarantees are specific to the respective fund and any impacts or obligation of the Company to perform under one of the guarantees has no impact on the Company’s obligations with respect to the other guarantee. The guarantees provide that, if, upon final liquidation of Fund I or Fund II, the total amount of all distributions to the guaranteed partner during the life of the respective fund (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 $7,500,000 for Fund I and approximately $7,095,000 for Fund II as of September 30, 2011). As of September 30, 2011, the expected realizable values of the real estate assets owned by Fund I and Fund II are considered adequate to cover such potential payments under a liquidation scenario. The estimated fair value of, and the Company’s obligation under these guarantees, both at inception and as of September 30, 2011, was not significant and therefore the Company has not recorded any obligation for either of these guarantees as of September 30, 2011.