Organization and Basis of Presentation (Policies)

6 Months Ended

Jun. 30, 2014

Organization and Basis of Presentation [Abstract]

The Company reports its available for sale securities at fair value, based on quoted market prices (Level 2 for the unsecured bonds and Level 1 for the common stock and investment funds, as defined by the Financial Accounting Standards Board (“FASB”) standard for fair value measurements, and any unrealized gain or loss is recorded as other comprehensive income (loss). Realized gains and losses, interest and dividend income, and amortization of purchase discounts are included in interest and other income on the condensed consolidated statement of operations and comprehensive income.

As of June 30, 2014 and December 31, 2013, marketable securities consisted primarily of investment-grade unsecured bonds, common stock, investments in mortgage backed securities and investment funds that invest in U.S. treasury or agency securities. As of June 30, 2014 and December 31, 2013, the Company classified its investments in mortgage backed securities, which mature in November 2019 and September 2020, as held to maturity, and accordingly, these securities are stated at their amortized cost. As of June 30, 2014 and December 31, 2013 marketable securities consist of the following ($ in thousands):

	June 30, 2014
	Cost/ Amortized Cost		Gross Unrealized Gain		Carrying Value
Available for sale:
Investment-grade unsecured bonds	$	11,627	$	217	$	11,844
Investment funds - US treasuries		3,842		6		3,848
Common stock		25,492		2,467		27,959
Held to maturity:
Mortgage backed securities		62,707		-		62,707
Total	$	103,668	$	2,690	$	106,358

	December 31, 2013
	Cost/ Amortized Cost		Gross Unrealized Gain (Loss)			Carrying Value
Available for sale:
Investment-grade unsecured bonds	$	15,446	$	509		$	15,955
Investment funds - US treasuries		3,675		3			3,678
Common stock		13,104		(1,304	)		11,800
Held to maturity:
Mortgage backed securities		58,651		-			58,651
Total	$	90,876	$	(792	)	$	90,084

The Company uses the specific identification method to determine the cost basis of a security sold and to reclassify amounts from accumulated other comprehensive income for securities sold. For the six months ended June 30, 2014, and 2013, the proceeds from sales of available for sale securities totaled $5.2 million and $20.3 million, respectively, which resulted in gains of $0.9 million and $1.8 million, respectively.

Variable Interest Entities

The Company consolidates 19 DownREIT limited partnerships (comprising twelve communities) since the Company is the primary beneficiary of these variable interest entities (“VIEs”). Total DownREIT units outstanding were 994,258 and 1,007,879 as of June 30, 2014 and December 31, 2013 respectively, and the redemption value of the units, based on the closing price of the Company’s common stock totaled $183.8 million and $144.6 million, as of June 30, 2014 and December 31, 2013, respectively. The consolidated total assets and liabilities related to these VIEs, net of intercompany eliminations, were approximately $232.6 million and $221.2 million, respectively, as of June 30, 2014 and $194.9 million and $178.3 million, respectively, as of December 31, 2013. Interest holders in VIEs consolidated by the Company are allocated income equal to the cash distributions made to those interest holders. The remaining results of operations are allocated to the Company. As of June 30, 2014 and December 31, 2013, the Company did not have any other VIEs of which it was deemed to be the primary beneficiary.

Equity Based Compensation

The Company accounts for equity based compensation using the fair value method of accounting. The estimated fair value of stock options granted by the Company is being amortized over the vesting period of the stock options. The estimated grant date fair values of the long term incentive plan units (discussed in Note 13, “Equity Based Compensation Plans,” in the Company’s Form 10-K for the year ended December 31, 2013) are being amortized over the expected service periods.

Stock-based compensation expense for options and restricted stock totaled $1.6 million and $0.5 million for the three months ended June 30, 2014 and 2013, respectively, and $2.2 million and $1.1 million for the six months ended June 30, 2014 and 2013, respectively. The intrinsic value of the stock options exercised during the three months ended June 30, 2014 and 2013 totaled $2.5 million and $1.9 million, respectively, and $3.2 million and $2.8 million for the six months ended June 30, 2014 and 2013, respectively. As of June 30, 2014, the intrinsic value of the stock options outstanding and fully vested totaled $17.4 million. As of June 30, 2014, total unrecognized compensation cost related to unvested share-based compensation granted under the stock option and restricted stock plans totaled $5.5 million. The cost is expected to be recognized over a weighted-average period of 1 to 5 years for the stock option plans and is expected to be recognized straight-line over a period of 1 to 7 years for the restricted stock awards.

The Company has adopted an incentive program involving the issuance of Series Z-1 Incentive Units of limited partnership interest in the Operating Partnership. The Operating Partnership also issued 50,500 units under the 2014 Long-Term Incentive Plan Award agreements in December 2013. Pursuant to the 2014 Long-Term Incentive Plan Awards, each recipient was initially granted a number of 2014 Long-Term Incentive Plan Units (the “2014 LTIP Units”), 90% of which are subject to performance-based vesting, and 10% of which are subject to service-based vesting based on continued employment. One-third of the performance-based vesting of the 2014 LTIP Units initially granted will be eligible to be earned by recipients based on Essex’s absolute total stockholder return and two-thirds will be eligible to be earned based on Essex’s relative total stockholder return, in each case, during a one-year performance period beginning on the initial grant date of the awards. All 2014 LTIP Units that are earned vest over a four year period commencing on the grant date.

Stock-based compensation expense for Z-1 Units and 2014 LTIP Units totaled $0.2 million and $0.5 million for the three months ended June 30, 2014 and 2013, respectively, and $0.8 million and $1.0 million for the six months ended June 30, 2014 and 2013, respectively. As of June 30, 2014, the intrinsic value of the Z-1 Units and 2014 LTIP Units subject to future vesting totaled $24.3 million. As of June 30, 2014, total unrecognized compensation cost related to Z-1 Units and 2014 LTIP Units subject to future vesting totaled $7.1 million. The unamortized cost is expected to be recognized over 6 years subject to the achievement of the stated performance criteria.

Fair Value of Financial Instruments

Management believes that the carrying amounts of outstanding lines of credit, notes and other receivables approximate fair value as of June 30, 2014 and December 31, 2013, because interest rates, yields and other terms for these instruments are consistent with yields and other terms currently available for similar instruments. Management has estimated that the fair value of the Company’s $4.46 billion of fixed rate debt, including unsecured bonds, at June 30, 2014 is approximately $4.63 billion and the fair value of the Company’s $539.2 million of variable rate debt, excluding borrowings under the lines of credit, at June 30, 2014 is $520.4 million based on the terms of existing mortgage notes payable, unsecured bonds and variable rate demand notes compared to those available in the marketplace. Management believes that the carrying amounts of cash and cash equivalents, restricted cash, accounts payable and accrued liabilities, construction payables, other liabilities and dividends payable approximate fair value as of June 30, 2014 due to the short-term maturity of these instruments. Marketable securities, except mortgage backed securities that are held to maturity, and derivatives are carried at fair value as of June 30, 2014.

At June 30, 2014, the Company’s investments in mortgage backed securities had a carrying value of $62.7 million and the Company estimated the fair value to be approximately $92.0 million. At December 31, 2013, the Company’s investments in mortgage backed securities had a carrying value of $58.7 million and the Company estimated the fair value to be approximately $86.2 million. The Company determines the fair value of the mortgage backed securities based on unobservable inputs (level 3 of the fair value hierarchy) considering the assumptions that market participants would make in valuing these securities. Assumptions such as estimated default rates and discount rates are used to determine expected, discounted cash flows to estimate the fair value.

Capitalization of Costs

The Company’s capitalized internal costs related to development and redevelopment projects totaled $3.0 million and $1.7 million during the three months ended June 30, 2014 and 2013, respectively, and $4.7 million and $3.3 million during the six months ended June 30, 2014 and 2013, respectively, most of which relates to development projects. These totals include capitalized salaries of $2.0 million and $0.6 million for the three months ended June, 2014 and 2013, respectively, and $4.2 million and $1.2 million for the six months ended June 30, 2014 and 2013, respectively. The Company capitalizes leasing commissions associated with the lease-up of a development community and amortizes the costs over the life of the leases. The amounts capitalized are immaterial for all periods presented.

Co-investments

The Company owns investments in joint ventures (“co-investments”) in which it has significant influence, but its ownership interest does not meet the criteria for consolidation in accordance with the accounting standards. Therefore, the Company accounts for these investments using the equity method of accounting. Under the equity method of accounting, the investment is carried at the cost of assets contributed, plus the Company’s equity in earnings less distributions received and the Company’s share of losses. The significant accounting policies of the Company’s co-investment entities are consistent with those of the Company in all material respects. For preferred equity investments, the Company recognizes its preferred interest in equity income in co-investments.

Upon the acquisition of a controlling interest of a co-investment, the co-investment entity is consolidated and a gain or loss is recognized upon the remeasurement of co-investments in the consolidated statement of operations equal to the amount by which the fair value of the co-investment interest the Company previously owned exceeds its carrying value. A majority of the co-investments, excluding the preferred equity investments, compensate the Company for its asset management services and may provide promote income if certain financial return benchmarks are achieved. Asset management fees are recognized when earned, and promote fees are recognized when the earnings events have occurred and the amount is determinable and collectible. Any promote fees are reflected in equity income (loss) from co-investments.

Changes in Accumulated Other Comprehensive Loss, Net by Component

Essex Property Trust, Inc.

($ in thousands):

	Change in fair value and amortization of derivatives			Unrealized gains/(losses) on available for sale securities			Total
Balance at December 31, 2013	$	(59,724	)	$	(748	)	$	(60,472	)
Other comprehensive income (loss) before reclassification		123			3,414			3,537
Amounts reclassified from accumulated other comprehensive loss		3,982			(841	)		3,141
Net other comprehensive income (loss)		4,105			2,573			6,678
Balance at June 30, 2014	$	(55,619	)	$	1,825		$	(53,794	)

Essex Portfolio, L.P.

($ in thousands):

	Change in fair value and amortization of derivatives			Unrealized gains/(losses) on available for sale securities			Total
Balance at December 31, 2013	$	(58,148	)	$	(792	)	$	(58,940	)
Other comprehensive income (loss) before reclassification		130			3,576			3,706
Amounts reclassified from accumulated other comprehensive loss		4,163			(886	)		3,277
Net other comprehensive income (loss)		4,293			2,690			6,983
Balance at June 30, 2014	$	(53,855	)	$	1,898		$	(51,957	)

Amounts reclassified from accumulated other comprehensive loss in connection with derivatives are recorded in interest expense before amortization on the condensed consolidated statement of operations and comprehensive income. Realized gains and losses on available for sale securities are included in interest and other income on the condensed consolidated statement of operations and comprehensive income.

Accounting Estimates

The preparation of condensed consolidated financial statements, in accordance with GAAP, requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosures of contingent assets and liabilities. On an on-going basis, the Company evaluates its estimates, including those related to acquiring, developing and assessing the carrying values of its real estate portfolio, its investments in and advances to joint ventures and affiliates, its notes receivables and its qualification as a Real Estate Investment Trust (“REIT”). The Company bases its estimates on historical experience, current market conditions, and on various other assumptions that are believed to be reasonable under the circumstances. Actual results may vary from those estimates and those estimates could be different under different assumptions or conditions.

Discontinued Operations

In April 2014, the Financial Accounting Standards Board (“FASB”) issued ASU, No. 2014-018, Presentation of Financial Statements, Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity. ASU 2014-018 changes the requirements for reporting discontinued operation under Subtopic 205-20, Presentation of Financial Statements—Discontinued Operations. The amendment updates the definition of discontinued operations and defines discontinued operations to be those disposals of components of an entity that represent a strategic shift that has (or will have) a major effect on an entity’s operations and financial results. This ASU is effective for disposals of components of an entity that occur within annual periods beginning on or after December 15, 2014 with early adoption permitted , but only for disposals that have not been reported in financial statements previously issued.

The Company adopted ASU 2014-018 in its first quarter of 2014. In the first quarter of 2014, Essex sold Vista Capri North, a 106 unit community located in San Diego, CA for $14.4 million. The total gain on sale was $7.9 million. The Company determined that the disposal was not a discontinued operation in accordance with ASU 2014-018. The gain is recorded in gains on sale of real estate and land in the condensed consolidated statements of operations and comprehensive income. The Company did not sell any properties in the second quarter of 2014.

BRE Merger

As previously discussed in Note 1, the merger with BRE closed on April 1, 2014 and 14 of the BRE properties were acquired on March 31, 2014. The preliminary fair value of the assets acquired on March 31, 2014 in exchange for $1.4 billion of OP units was substantially all attributable to rental properties which included land, buildings and improvements, and real estate under development and approximately $19 million attributable to acquired in-place lease value. With regards to the BRE merger that closed on April 1, 2014, a summary of the preliminary fair value of the assets and liabilities acquired on April 1, 2014 in exchange for the total consideration of approximately $4.3 billion were as follows (includes the 14 properties acquired on March 31, 2014 as the OP units issued were retired on April 1, 2014) (in millions):

Cash assumed	$	140
Rental properties and real estate under development		5,613
Real estate held for sale, net		108
Co-investments		223
Acquired in-place lease value		80
Other assets		16
Mortgage notes payable and unsecured debt		(1,747	)
Other liabilities		(94	)
Redeemable noncontrolling interest		(5	)
	$	4,334

Cash consideration for BRE merger	$	556
Equity consideration for BRE merger		3,778
Total consideration for BRE merger	$	4,334

The initial purchase accounting is based on management’s preliminary assessment, which may differ when final information becomes available. Subsequent adjustments made to the initial purchase accounting, if any, are made within the measurement period, which will be finalized within one year of the acquisition date.

The unaudited pro forma financial information set forth below is based on Essex’s historical condensed consolidated statement of operations and comprehensive income for the three and six months ended June 30, 2014 and June 30, 2013, adjusted to give effect to the merger with BRE including the 14 BRE properties acquired on March 31, 2014, as if they occurred on January 1, 2013. The pro forma adjustments primarily relate to merger expenses, depreciation expense on acquired buildings and improvements, amortization of acquired intangibles, and estimated interest expense related to assumed debt.

Essex Property Trust, Inc.

	Pro forma (unaudited) three months ended June 30
	(in thousands, except per share data)
	2014		2013
Total revenue	$	259,450	$	233,252
Net income available to common shareholders (1) (2)	$	30,705	$	35,789
Earnings per share, diluted (1)	$	0.49	$	0.59

	Pro forma (unaudited) six months ended June 30
	(in thousands, except per share data)
		2014		2013
Total revenue	$	506,282	$	461,033
Net income available to common shareholders (1) (2)	$	158,676	$	19,017
Earnings per share, diluted (1)	$	2.56	$	0.31

Essex Portfolio, L.P.

	Pro forma (unaudited) three months ended June 30
	(in thousands, except per unit data)
	2014		2013
Total revenue	$	259,450	$	233,252
Net income available to common unitholders (1) (2)	$	31,695	$	36,891
Earnings per unit, diluted (1)	$	0.49	$	0.59

	Pro forma (unaudited) six months ended June 30
	(in thousands, except per unit data)
		2014		2013
Total revenue	$	506,282	$	461,033
Net income available to common unitholders (1) (2)	$	163,618	$	19,596
Earnings per unit, diluted (1)	$	2.56	$	0.31

(1)

2014 supplemental pro forma net income available to common stockholders were adjusted to exclude $26.5 million and $42.6 million of merger related costs incurred by Essex during the three and six months ended June 30, 2014. 2013 supplemental pro forma net income available to common stockholders were adjusted to include these charges plus $4.3 million of merger related costs incurred by Essex during the three months ended December 31, 2013. 2014 and 2013 supplemental proforma earnings per share, diluted, were adjusted by approximately 23.1 million shares due to the common stock issued in connection with the merger.

(2)

2014 supplemental pro forma net income available to common stockholders includes approximately $105 million from discontinued operations related to the sale of three BRE properties during the quarter ended March 31, 2014 that are non-recurring transactions.

Revenues of approximately $91.5 million and net loss of approximately $4.0 million associated with properties acquired in 2014 in the BRE merger are included in the condensed consolidated statements of operations and comprehensive income for the three and six months ended June 30, 2014 for both Parent Company and Operating Partnership.