Prologis sees ‘normalization’ in warehouse demand off all-time highs

On a Monday call with analysts, management from logistics warehouse operator Prologis Inc. noted some moderation in demand for logistics space but with the caveat that the change represents only a modest step lower from the recent all-time highs.

“Let’s call the peak in terms of strength of market on the demand side as a 10, on a 1-to-10 scale,” said Hamid Moghadam, co-founder and CEO. “I think the last quarter and the quarter before were like on 12 or 13 — they were just crazy good. I think this quarter, they’re maybe 9.5 to 10. By historical standards this would be exceptionally good.”

Prologis (NYSE: PLD) reported core funds from operations of $1.11 per share for the second quarter before the market opened Monday. The result was in line with the consensus estimate but 10% higher year over year.

While the number of active bidders competing for logistics space in the quarter receded modestly from record highs, the changes weren’t evident in the results. Occupancy of the portfolio stood at 97.6% in the quarter, 160 basis points higher y/y and 20 bps tighter than the first quarter. Net effective rent change — the average rate change over the life of the lease — was 45.6%, 1,410 bps higher y/y. The metric was 54% on average in the U.S. during the quarter.

Management said 71% of leases coming up for renewal in the next 12 months are pre-leased or in negotiations, 15 percentage points higher than the pre-pandemic average. However, the length of the negotiating process has been extended by 10 days to 60 as tenants have modestly slowed their approach to taking on more space.

Essentially the leveraged renter of space is getting squeezed out as interest rates climb. Also, some of the e-commerce froth is coming out of the market. E-commerce accounted for 14% of Prologis’ new leasing in the period compared to 25% during the 2021 frenzy.

“Frankly, everybody reads the same papers,” Moghadam said. “If you’re a CEO of a company and you’re looking to expand your operations, you are going to take your time a little bit more just to be sure that you’re not making a stupid mistake.”

Prologis raised its full-year 2022 net earnings guidance to a range of $5.15 to $5.25 per share, a 5.6% increase from the guide provided just three months prior and 16.2% higher than the initial outlook given in January.

On the supply side, Prologis is forecasting 375 million square feet of net absorption and completions in 2022 with vacancies of 3.2% in the 30 major markets where it competes. Rents are now expected to increase 25% in the U.S., higher in some coastal markets, during the year. That’s 300 bps higher than the guidance provided a quarter ago.

Management believes it has roughly $2 billion of embedded net operating income across its portfolio when comparing current market rates to current leases, which will come up for renewal in the months and years ahead.

Looking to 2023, management sees supply potentially outpacing demand by 50 million to 100 million square feet. However, it believes the incremental capacity would not push vacancies above 4%.

Prologis also sees little impact to supply even though Amazon (NASDAQ: AMZN) has been reported to potentially be putting between 10 million to 30 million square feet of space back into the market. Management said any potential actions appear unlikely to impact any of the company’s facilities. Prologis has a 95% retention rate with Amazon, which is 20 percentage points higher than the portfolio average, and its properties are 99% leased in the markets where it engages with them.

“In the end, we believe we are seeing a normalization in the volume and pace of demand, which we expected as the world reopened from COVID and consumers seek more in-person experiences,” Prologis CFO Tim Arndt said. “But given exceptionally tight markets and availability, the fundamentals remain excellent.”

In June, Prologis entered into an agreement to acquire Duke Realty (NYSE: DRE) for $26 billion. The all-stock transaction is expected to close by the end of the year. No update on the deal was provided on the call.

Prologis Ventures is an investor in FreightWaves.  

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