By Michael Fickes

Keith R. Guericke took over as president and chief executive officer of Essex Property Trust, Inc. (NYSE: ESS) in 1988. Throughout the previous decade, the Palo Alto, Calif.-based REIT had syndicated small apartment properties to main-street investors. But in the late 1980s, the main-street money dried up following the commercial real estate crash. In response, Guericke turned his attention to the potential of the portfolios being assembled by the Resolution Trust Corporation (RTC). He put together a handful of RTC deals with investment banking partners and then decided that Essex could do better raising money in the public markets.

CLOSE UP

AGE: 56 FAMILY: Married, two children, and two grandchildren HOME: San Francisco CAREER BEGINNINGS: "I started as a CPA with Kenneth Leventhal and Company and worked in their audit department auditing homebuilders. I found that I enjoyed the real estate world." EDUCATION: Bachelor of Science, Accounting, Southern Oregon College, 1971 HOBBIES/SPORTS: Hunting, fishing, snow skiing CHARITABLE ACTIVITIES: "My wife, who is Filipino, and I have vacationed in the Philippines for the past several years. While touring the countryside, we saw horrible poverty. There are barrios with 5,000 or so people and schools with maybe 500 kids, as poor as you can imagine. We've selected schools in two of the barrios and started supplemental nutritional programs for the kids. It doesn't cost a lot of money, but it does a lot of good."

In 1994, Guericke took Essex public at a share price of $19.50. Through a combination of thorough research, sound strategic thinking and strong financial execution, the firm began to thrive as a public entity. Today, Essex shares are trading around $84. Current total market capitalization is $3.4 billion, up from $3.2 billion a year ago, thanks solely to an increase in stock value. Debt-to-equity ratio is about 38 percent, approximately a percentage point lower than last year. Total returns for the most recent five and 10-year periods are at the top of the multifamily REIT sector. Last year, total returns reached 35 percent, compared with the 30 percent recorded by the NAREIT Composite REIT Index. Growth in funds from operations (FFO) has averaged 14 percent since 1994. Except for the recessionary period of 2001 and 2002, the firm's occupancy rate has alternated between 96 percent and 97 percent. Even during the recession, occupancies never fell below 95 percent. Today, with 122 properties and 25,500 units, Essex apartments are 96 percent occupied.

Recently, Real Estate Portfolio sat down with Guericke to find out his secrets to success and how he has executed Essex's rapid growth strategy.

Portfolio: A favored strategy of some multifamily REITs is to focus their building expertise on one geographic market. But you seem to have chosen a larger regional strategy for Essex, specifically the West Coast.
Guericke: Yes, we do favor the broader strategy. In fact, our strategy was pooh-poohed when we went public. Frankly we had a tough time getting our IPO done. Instead of the conventional strategy, we adopted a four-pronged plan. First, we wanted to be in supply-constrained markets, like those on the West Coast.

Second, we wanted to be in a number of markets because economics don't always favor one area. We've found that at least one market between Seattle and San Diego always outperforms.

Third, knowing that we would be an acquirer or a developer at various times in the cycle, we believed that we should hang our strategy on one primary means of external growth. In our case, that would be acquisitions and financial execution.

Portfolio: You've only listed three prongs of your strategy. What's the fourth?
Guericke: Sometimes I think I should mention this one first because it is so important. We've employed an in-house economist to research the markets for 15 years. We are constantly evaluating supply and demand in our regions and across the country.

Portfolio: I can see how your strategy might have been unpopular 10 years ago, but today, it really isn't that unusual.
Guericke: Good point. Other companies have now copied our approach. While we've outperformed our sector handsomely over the last 10 years, it will be more difficult to do that in coming years. Of the 14 or so multifamily companies operating today, at least half are operating in our markets with similar strategies. Where we used to outperform because we had a better strategy, now we will have to out execute. That's a more difficult challenge. But we recognize that, and we've beefed up our executive staff to focus on execution.

Portfolio: When you talk about execution, what do you mean?
Guericke: Portfolio funds, for example. While you can always sell common stock, investors will not always pay a share price set above the net asset value of your current portfolio. It doesn't make sense to sell stock that dilutes the holdings of current shareholders. Funds provide an alternative source of capital when the public markets aren't open.

We formed our first fund in 2001, the Essex Portfolio Fund 1. It was a $250 million fund. We raised $200 million from eight institutional partners, including three state pension funds. We put in the last $50 million. We leveraged the funds to about 65 percent and bought 4,000 units (400 in Portland, 200 in Northern California, and the rest in Southern California).

Portfolio: Essex raised some eyebrows last year when it sold properties in Southern California.
Guericke: Well, rents continued to grow in Southern California. Throughout the recession, rents rose at 3 percent to 4 percent a year. Then cap rates started down, and we realized we had a huge opportunity to sell. United Dominion Realty Trust (NYSE: UDR) bought the entire Fund 1 portfolio.

It was a tremendous execution on everyone's part. The internal rate of return (IRR) to our partners was 25 percent. Because of the way the structure worked, we were partners in that too, and we also had 20 percent of the capital. Essentially, we got 40 percent of the profits for 20 percent of the money. So the return to Essex shareholders was a 50 percent IRR.

Portfolio: I understand Essex has started another fund.
Guericke: Before starting the second fund, however, we went to the public markets. In November 2003, we raised $100 million on a common stock sale and invested that money aggressively, buying $180 million of properties on balance sheet.

As we evaluated the environment, cap rates continued to decline and we thought that interest rates would start to go against us. At that point, it looked like it would be easier to create returns in a more leveraged format, so we raised $260 million for Fund 2. All but two of our Fund 1 investors re-upped, and we put in a little more, raising our share to 28 percent. With 65 percent leverage, we will be able to invest about $750 million.

We've begun buying properties for Fund 2, this time in the Bay Area and Seattle where rents seem to have bottomed. We think the Bay Area and the Northwest will perform better than Southern California over the next few years.