While listening to Archstone-Smith Trust's
First, a quick primer on the current state of the real estate market. During the earnings call, management noted that an already ultra-competitive market for well-located apartment community properties became even more heated, with capitalization rates below 4%. In a nutshell, this means investors in these apartment communities are willing to pay such a high price that the first-year cash-flow return drops to 4%. Investors accept this paltry return because they think that stream of income will grow.
This means that apartment developers have to pay through the nose if they want to acquire new properties. However, Archstone-Smith has deftly sidestepped this competitive quagmire because it's sitting pretty on real estate developments that were acquired during less competitive times. On one of the company's current Manhattan developments, land costs were $50 per square foot -- at current market prices, land costs would be $300 per square foot. Its total hard costs for this property were $310 per square foot, compared with what would be $450 in hard costs today.
The company currently has $4.4 billion worth of development in its pipeline, and has healthy exposure to some of the best markets, with Seattle, New York City, southern California, and San Francisco Bay accounting for 57% of the portfolio.
Archstone-Smith has also wisely sidestepped the intense competition by buying land intended for retail, distribution, or office purposes at cheaper prices. It then works to get that property rezoned for apartment uses, which increases the value and development yield of the property.
During the earnings call, management noted that it projected its average gain on sold properties to be a whopping 70% of the sale price (thanks to smart investments made years ago), and bluntly said that the replacement cost and private market value of the company's portfolio is much higher than the REIT's share price, which should indicate in bright flashing lights that shares could be undervalued.
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Fool contributor Emil Lee is an analyst and a disciple of value investing. He doesn't own shares in any of the companies mentioned above. The Motley Fool has a disclosure policy. Emil appreciates your comments, concerns, and complaints.