OREANDA-NEWS. Fitch Ratings has upgraded the credit ratings for Equity Residential (NYSE: EQR) and its operating partnership, ERP Operating Limited Partnership, as follows:

Equity Residential
--Long-term IDR to 'A-' from 'BBB+';
--Unsecured revolving term loan to 'A-' from 'BBB+';
--Preferred stock to 'BBB' from 'BBB-'.

ERP Operating Limited Partnership
--Long-term IDR to 'A-' from 'BBB+';
--Unsecured revolving credit facility to 'A-' from 'BBB+';
--Senior unsecured notes to 'A-' from 'BBB+'.

Fitch has affirmed the following ratings:

ERP Operating Limited Partnership
--Short-term IDR at 'F2'.
--Commercial paper notes at 'F2'.

The Rating Outlook is Stable

KEY RATING DRIVERS

The upgrade reflects strong qualitative elements in EQR's credit profile. Examples include the above-average quality of EQR's largely unencumbered operating portfolio and its cycle-tested management team that has extensive real estate and capital markets experience. The upgrade also considers the consistency of balance sheet strategy and the improvements in the company's portfolio, EQR's demonstrated commitment to a balanced borrowing strategy and proven access to multiple sources of debt and equity capital in varied capital markets environments. EQR's size, management quality and ownership of lower-yielding assets in core coastal gateway markets help offset its higher leverage relative to similarly-rated REITs.
The upgrade is supported by the company's focus on high-quality properties in strong markets and sound financial management. The company is the largest multifamily REIT in the U.S. by market capitalization and is a leading owner/operator in many of the top markets in the U.S. including New York, San Francisco, Los Angeles and Boston. EQR's top market, Washington D.C., has struggled recently due to supply deliveries; however, over the long term the market is consistent with the company's focus on markets that have historically experienced above average growth through the cycle and should continue to exhibit strong growth in the future.

Credit Metrics Normalized

EQR's leverage was temporarily elevated as a result of funding the Archstone transaction which closed in the first quarter of 2013 (1Q'13), but leverage has subsequently returned to normalized levels via asset sales and same store net operating income (SSNOI) growth. Leverage as of Dec. 31, 2014 was 6.4x, lower than Fitch's expectations pre-Archstone transaction. Fitch expects the company's leverage to sustain in the 6.5x-7.5x range over the longer-term, based on management's publicly-stated goals. Fitch defines leverage as debt, less readily available cash, divided by recurring operating EBITDA.

EQR's fixed-charge coverage for the LTM period ended Dec. 31, 2014 was 2.9x which is strong for the rating and up from 2.7x and 2.4x for 2013 and 2012, respectively. Fitch defines fixed-charge coverage as recurring operating EBITDA less recurring capital improvements divided by cash interest incurred and preferred distributions. EQR has benefited in recent years by refinancing debt at historically low interest rates while achieving strong SSNOI growth. Fitch expects the company's fixed-charge coverage will increase to the low 3.0x's from 2015 through 2017.

Positive Same-Store Results

SSNOI growth remains consistent relative to historical performance. EQR's SSNOI growth was 5.6% for 2014 and 5% in 2013 and Fitch anticipates that fundamentals will remain solid, but decelerate towards the longer-term historical average of 2% to 3% SSNOI growth by 2017. Fitch expects occupancy to remain in the 95% - 96% range as the company continues its focus on utilizing its industry-leading operational platform and technology to optimize NOI.

Weak Washington DC Expectations

Washington, DC is EQR's largest market at 17.8% of stabilized 4Q'14 NOI and may continue to weigh on the overall portfolio performance. SSNOI declined by -1.8% during 2014, the only market to post a decline within the company's portfolio. This decline compared with growth of 2.7% for full year 2013. Although Washington, DC was one of the strongest real estate markets during the global financial crisis, the metro has been hurt by an abundance of new supply (likely in response to the early cycle growth) coupled with tepid job growth and uncertainty surrounding near-term government job growth. Fitch expects this market to continue to lag the remainder of the portfolio for the next several years.

Small Uptick in Development

EQR acquired several attractive development sites through the Archstone transaction, which should provide growth opportunities over the next several years. The unfunded development pipeline as a percentage of gross assets was 4.1% at Dec. 31, 2014, up from 2.8% at year-end 2013. Despite this uptick, the company's total development pipeline and unfunded development pipeline as a percentage of gross assets is smaller than many of its closest peers. The development projects are focused in strong markets including Northern California, New York, Seattle and Los Angeles.

Good Contingent Liquidity

EQR's unencumbered cash NOI stressed at a 7.0% capitalization rate covered its net unsecured debt by approximately 3.0x as of Dec. 31, 2014. The company has consistently maintained adequate net UA/UD above 2.5x. The quality of the unencumbered portfolio is consistent with the quality of the overall portfolio, based on location and age.

Slightly Low Liquidity; Mitigated By Capital Access

Fitch calculates that EQR's sources of liquidity (unrestricted cash, availability under its unsecured revolving credit facility, expected retained cash flows from operating activities after dividends and distributions) divided by uses of liquidity (debt maturities, developments and recurring capital expenditures) results in a liquidity coverage ratio of 1.0x for the period Jan. 1, 2015 to Dec. 31, 2016, which is slightly low for the rating. The low liquidity is driven by over \$1.0 billion of expected development expenditures during this projection period. The company has demonstrated strong access to nearly all forms of capital, mitigating to a large degree expected uses of capital.

Preferred Unit Notching

The two-notch differential between EQR's IDR and preferred stock rating is consistent with Fitch's criteria for corporate entities with an IDR of 'A-'. Based on Fitch Research on 'Treatment and Notching of Hybrids in Nonfinancial Corporate and REIT Credit Analysis, dated Nov. 25, 2014 and available on Fitch's Web site at www.fitchratings.com, these preferred securities are deeply subordinated and have loss absorption elements that would likely result in poor recoveries in the event of a corporate default.

Short-Term IDR Affirmed At 'F2'

Despite upgrading the long-term IDR to 'A-', Fitch has affirmed the short-term IDR at 'F2' as REITs, by nature, pay out a large portion of their cash flow, placing pressure on EQR's ability to maintain meaningful amounts of cash to address short-term obligations.

Stable Outlook

The Stable Outlook reflects Fitch's expectation that multifamily operating fundamentals will continue to revert toward their long-term average. The company's leverage should remain approximately at current levels in the short term, and range between 6.5x and 7.0x over the longer term due to the timing of developments. In addition, EQR has market-leading access to capital, and should be able to refinance maturing obligations and fund growth via internally-generated capital and external markets.

KEY ASSUMPTIONS

Fitch's key assumptions for EQR in Fitch's base case include:

--Same-store revenue growth of 4%, 3.3% and 3% in 2015, 2016 and 2017, respectively. SSNOI expected growth is in the low single digits all three years;
--\$500 million of annual acquisitions at 5% capitalization rate and dispositions at 6% capitalization rate (net investment \$0), respectively, throughout the forecast period;
-- \$600 million of development completions in all three years of the forecast period;
--AFFO payout ratio between 69-77%;
--Secured debt is refinanced dollar for dollar in all three years of the projection period;
--Unsecured debt issuances of \$950 million in 2015, \$1.2 billion in 2016 and \$1.8 billion in 2017. A portion of which is expected to refinance maturing bonds and the remainder to fund development.

RATING SENSITIVITIES

The following factors may have a positive impact on EQR's ratings or Outlook:
--Combined with EQR management's commitment, Fitch's expectation of leverage sustaining below 6.5x throughout cycles (Fitch expects leverage to sustain between 6.5x - 7.0x on a longer term basis; leverage was 6.4x as of Dec. 31, 2014);
--Fitch's expectation of fixed charge coverage sustaining above 3.5x (Coverage was 2.9x in 2014 and is projected to improve to the low 3.0x's).
The following factors may have a negative impact on EQR's ratings or Outlook:
--A deviation from EQR's current portfolio, capitalization or financing strategy that may result in a deterioration in the company's market-leading access to capital on an absolute or relative basis;
--Fitch's expectation of leverage sustaining above 7.5x;
--Fitch's expectation of fixed charge coverage sustaining below 2.5x;
--A liquidity coverage ratio sustaining below 1.0x.