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Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Good morning, and thank you for standing by. Welcome to the Prologis Second Quarter 2021 Earnings Conference Call. At this time, all participant lines are in a listen-only mode. After the speakers’ presentation, we will have a question-and-answer session. [Operator Instructions] Please be advised that today’s conference is being recorded. [Operator Instructions]
It’s now my pleasure to hand the conference over to Senior Vice President of Investor Relations, Tracy Ward. Tracy, I hand it to you.
Thanks, Holly, and good morning, everyone. Welcome to our Second Quarter 2021 Earnings Conference Call. The supplemental document is available on our website at prologis.com under Investor Relations.
I would like to state that this conference call will contain forward-looking statements under Federal Securities laws. These statements are based on current expectations, estimates and projections about the market and the industry in which Prologis operates, as well as management’s beliefs and assumptions. Forward-looking statements are not guarantees of performance and actual operating results may be affected by a variety of factors. For a list of those factors, please refer to the forward-looking statement notice in our 10-K or SEC filings.
Additionally, our second quarter results press release and supplemental do contain financial measures such as FFO and EBITDA that are non-GAAP measures, and in accordance with Reg G, we have provided a reconciliation to those measures.
This morning, we will hear from Tom Olinger, our CFO, who will cover results, real-time market conditions and guidance. Hamid Moghadam, Gary Anderson, Chris Caton, Mike Curless, Dan Letter, Ed Nekritz, Gene Reilly and Colleen McEwan are also here with us today.
With that, I will turn the call over to Tom. Tom, will you please begin?
Thank you, Tracy. Good morning, everyone, and thank you for joining our call today. The second quarter exceeded our expectations both in terms of our results and outlook for 2021 and beyond. With our exceptional portfolio and teams, we set high watermarks across several measures this quarter. Demand for space is robust and diverse and market conditions remained the healthiest in our 38-year history.
In the second quarter, lease signings were 64 million square feet and lease proposals were 84 million square feet, both remain above average and were driven by new and development leasing. Likewise, the Prologis IBI Customer Activity Index reached a new high in the second quarter, an early indicator of strong future demand.
Our leasing mix is broad. Currently, the greatest demand is for spaces above 100,000 square feet. For smaller spaces, activity is picking up. We signed 518 leases totaling 18 million square feet in the quarter, the highest volume in this segment in three years.
For customer segments, e-commerce continues to lead the way, representing 30% of new lease signings in the second quarter. While Amazon remains steady at 6% of total new leasing, we have seen many more e-commerce players come to the table.
For example, we signed 168 new e-commerce leases in the first half of 2021 versus 53 in the first half of last year. Supply chains are raising, beginning to restock. And as they view, we’ll create more demand going forward. Containerized imports are up 33% through May versus pre-pandemic levels, as retailers replenished their supply chains.
While inventories have risen 3% from their trough, they have struggled to grow this year as retain sales are up 19% from pre-pandemic levels. We see the current low level of inventories on our space utilization, which at 84.3% is below the long-term average of 85%. This is yet another sign that our customers are operating with suboptimal levels of inventory.
Putting together the recent outperformance and ongoing momentum, we are raising our 2021 U.S. forecast for net absorption by 20% to 360 million square feet and deliveries by 8% to 325 million square feet.
Looking forward, we foresee continued supply balanced by demand with historic low vacancy of 4.5% carrying into 2022. With balanced demand and supply, acute scarcity in our markets is driving record rents and value growth, while operating portfolio lease percentage rose by 80 basis points to 97.2% at quarter-end.
Customers continue to compete for space and are making decisions faster with lease gestation in the quarter of just 44 days. When we look at the factors impacting supply, significant barriers exists in our markets and include a lack of buyable land, increasingly difficult and expensive permitting and entitlement processes and rapidly escalating replacement cost. Our research team released an excellent paper on this last month, which you can find on our website.
Our supply watch list remains quite small. We reviewed Houston in the quarter leaving just Spain and Poland. Accelerating demand in the quarter, combined with ultra low vacancies, translated to a very strong rent growth of 4.1% in our U.S. markets exceeding our expectations. As a result, we are raising our 2021 rent forecast an all-time high of 10.3% for the U.S., up approximately 40 basis points from our prior estimate and 8% globally, which is up 300 basis points.
Our in-place to market rent spread is now the widest in our history at 16.9%, up 330 basis points sequentially. This represents future gas in the tank of nearly $700 million in NOI, or $0.90 per share.
Turning to valuations. Our assets have strongest quarterly uplift in our history, rising 8% in the second quarter alone, with the U.S. up more than 10% and Europe up 5.6%. On the topic of valuation, I want to point out that we enhanced the NAV disclosure in our supplemental related to property management fees.
Given the size and scale of our portfolio, we created substantial value through our operational advantages. As a result, we know that real estate is worth more in our hands. Accordingly, we are now including net property management fee income as the bone in the adjusted NOI in our NAV disclosure.
Switching gears to results for the quarter, our team and portfolio continued to deliver excellent financial results. Core FFO was $1.01 per share, with net promote earnings effectively zero, rent change on rollover was 32%. Occupancy at quarter-end was 96.8%, up 110 basis points sequentially.
Cash same-store NOI growth accelerated to 5.8%, 290 basis points year-over-year. We tapped into favorable market conditions and disposed of $880 million of non-strategic assets across our portfolio.
In addition, just last week, we completed the sale of a $920 million owned and managed portfolio, including all of the non-strategic IPT assets. It’s worth noting that to date, we have sold $2 billion of non-strategic assets from our IPT and LPT acquisitions at pricing more than 23% above underwriting.
Turning to strategic capital. Our team raised almost $600 million in the second quarter. Equity cues from our open-ended vehicles were $3.3 billion at quarter end, hitting another all-time high. Robust investor interest has prompted private equity limited partners to shift away from diversify to more sector-specific funds, particularly for the logistics sector.
In light of recent asset management transactions and public cost, the value being ascribed to our strategic capital business is uniquely understated. For the balance sheet, we continue to maintain excellent financial strength with liquidity and combined leverage capacity between Prologis and our open-ended vehicles totaling $14 billion.
Moving to guidance for 2021. Our outlook has further improved given higher rent growth, higher valuations and robust demand. Here are the key updates on an our share basis. We are increasing our cash same-store NOI growth midpoint by 75 basis points to now range between 5.25% and 5.75%. We expect bad debt expense to be approximately 10 basis points of gross revenues, down from our prior guidance midpoint of 20 basis points and well below our historical average.
We are increasing the midpoint for strategic capital revenue, excluding promotes, to $470 million, up $15 million from prior guidance. This upward revision is due to increased asset management fees resulting from higher property values. Faster development lease-up and higher asset values are also leading to an increase in promotes.
We now expect net promote income of $0.02 for this year, an increase of $0.04 from our prior guidance. We are also increasing development starts by $300 million and now expect a midpoint of $3.2 billion. Build-to-suits will comprise more than 40% of development volume.
Our owned and managed land portfolio, which is composed of land, options, and covered land place supports $18 billion of future development over the next several years. We are also increasing the midpoint for dispositions and contributions by $650 million in total. This increase will have roughly a $0.02 drag on earnings this year, given the timing to redeploy incremental proceeds.
We now expect to generate net deployment sources of $200 million at the midpoint, with leverage remaining effectively flat in 2021. Taking these assumptions into account, we are increasing our core FFO midpoint by $0.07 and narrowing the range to $4.04 to $4.08 per share. Core FFO, excluding promotes, will range between $4.02 and $4.06 per share, representing year-over-year growth at the midpoint of almost 13%. We continue to maintain exceptional dividend coverage and our 2021 guidance implies a payout ratio in the low 60% range and free cash flow after dividends of $1.3 billion.
In closing, the first half of the year has been extraordinary and our outlook is equally promising. Visibility into our strong future organic earnings potential is very clear. We have a significant embedded in-place to market rent spread, the development-ready land portfolio, substantial balance sheet capacity and ability to create value for our customers beyond the real estate.
With that, I’ll turn it back to Holly for your questions.
[Operator Instructions] And our first question is going to come from the line of Steve Sakwa, Evercore ISI.
Thanks. Good morning out there. Maybe Tom or Hamid, I was just wondering if you could spend a little more time just talking about some of the demand drivers across some of the various subsectors and maybe regionally, I know Europe, maybe grew a little bit faster, but maybe just provide a little more context around which businesses and which regions you are seeing the most demand in?
Hey, Steve, it’s Chris Caton. I am going to jump in with a few highlights and then, I think, Gene will share some color. I think there are three or four demand trends that represent themselves. The first is broadly the diversification of e-commerce. So, internationalization of the major players or small and mid-size players stepping up.
The second is the growth leaders of last year are leasing safe. Think about food companies, pharmaceuticals, and durable goods companies. The third trend would be supply chain resilience. For example, we see the core markets are among the strongest they’ve ever been. So, you have several clear themes playing through demand.
Yes. So, Steve, the only thing I would add to that is, if you want to get some geographic color is, coastal markets are definitely doing better. You look at the U.S., Southern California and New Jersey by far I think have the strongest demand dynamics. But I’d also say that it’s very difficult to find a weak market globally, no matter where they are, in the Latin America, Europe, the U.S. There is strength in demand really everywhere.
Thank you. And our next question is going to come from the line of Emmanuel Korchman with Citi.
Hey. Good morning, everyone. Chris, maybe just another one for you. But you spoke about broad-based demand. But is the specific demand from, especially e-commerce customers changing at all? Are they kind of willing to get whatever they can or are they being more specific as to what they want? Are they pinpointing markets? Is it a wider sort of tapers of demand? Can you help us figure out what they are actually asking for when they come to you?
Yes. So, the message on e-commerce is actually, it’s very diverse. And I think if you look across the maturity of different organizations, they all want something slightly different. So, if you have a large international player, I do think they are getting much more pinpointed. We’ve seen a lot of growth, for example, in the last such sub-markets.
There is a lot of focus on shortening those delivery times. But more mid-size organizations might be in an adjacent location or in a regional location to still build out the basic infrastructure for executing online.
And our next question is going to come from the line of Caitlin Burrows with Goldman Sachs.
Hi. Good morning, team. I was just wondering if you could talk maybe about development of Prologis is obviously an active developer. You increase your guidance for development starts and stabilizations and also the contributions. So, could you give some detail on how you think about your development businesses, valuation? How the developing gains are related to that and how it might be different than peers’ activity? I know that’s a lot.
Hey, Caitlin, thanks for your questions. This is Tom. I’ll take a first shot at that. I think there are several aspects of our development business that are quite unique. The first I would just think looking at the size of that portfolio $18 billion of build out, almost 20% of our market cap. And that portfolio was very focused in our high barrier markets at which we operate. So we’ve got a land bank that we can build out.
A very, very high quality portfolio that’s in high demand. It’s very diversified across 19 different countries and it’s a huge opportunity set that our development platform has to build out and just having the menu to seek the best returns and to solve customers’ problems across all of those different markets is a huge advantage. And I think that leads to just the durability of those development gains.
So if you look at our track record, we’ve got a track record of 20 years, developing $37 billion of assets, 20% unlevered IRR and we did those results verified externally by Duff & Phelps, by the way, but -so anincredibletrack record of durability. So, when you look at the $18 billion of build out, our history of being able to continue to develop at very, very attractive rates, there is a very, very long runway of opportunity that’s just presented in front of us.
And then, to your point on realized gains, I think it’s another point that makes sense quite unique that given our capital structure and how it works, how we want to structure the vast majority of our assets outside the U.S. are held in funds, but we are developing the vast majority of those assets on balance sheet Europe, in Japan, Mexico.
And those assets, with very few exceptions, are contributing into our funds. So there is a real crystallization of those gains. So, when you think about the 20% unlevered IRRs all that development, the vast majority of those gains were realized in cash and that’s a real cash flow. That – it’s part of your AFFO and should be embedded in your valuation.
I think when we look at valuation in particular for development, I think, it is a very scattershot approach because there is a couple of different things you have to do. Obviously, you’ve got the CIP that’s in front of you. You got to face that and value that. You got your land bank, in our case, $18 billion that you have to value.
And there is also residual for this platform, right? This platform has a history of $37 billion and 20% unlevered IRRs. There is a value here. So, I think you can put those all together. There is different ways to do it, obviously. But I would just encourage you to take a look at the cash flows that this thing generates historically. And I think you are going to find the valuation for our development capabilities are, I would say, significantly undervalued.
Thank you. And our next question will come from the line of Craig Mailman with KeyBanc Capital Markets.
Hey, everyone. I appreciate the update there and where you think market rent growth is and clearly your net absorption stats as well. Just looks like we are still at equilibrium. But I am just curious, did you guys talk to tenants and kind of continue to push through rents or maybe even accelerate that? How does the conversation changed now with labor shortages continuing and maybe even getting a little bit worse places and just gas prices continue to rise and impacted the transportation side?
I mean, are rents even how high up on the list are they at this point? Maybe update us on how many deals you are losing as a result of rent versus other factors? Those are few questions.
Yes. This is, Gene. So, I’ll take that. So I think you are – if you look at the conversations we are having with customers and what their pain points are relative – excuse me.
Gene is having a little bit of issue with the access to it. So, let me cover while he – there is a sort of. So the conversations are mostly around labor. That is absolutely a pain point. But there is an ability to push through our pricing today, because when you have retail sales jump 20% from pre-pandemic levels and God knows what percent from pandemic levels. And the supply chain is dry and there is very little probability of losing that piece of business, because people are flushed with cash and out there spending money. I think this is going to continue for a while. So, basically, everybody’s hair is on fire trying to keep up with demand. And Mike, any additional color on that?
Yes. I think one way you can really represent this is the fact that we’ve had more customers competing over space than we’ve seen ever before and that creates some difficult situations. So we always start with transparency with both parties. But I got to tell you the rent becomes a very minor discussion just the availability and accessibility of that space becomes the priority. So I think that’s a good description of what we are seeing out there in terms of the customers’ priorities.
Craig, I wish we were losing more deals because of rent, because we actually look at that on a quarterly basis by geography and the number is under 5%, which to me it means we may not be pushing rents enough. So, in a way, the fact that we are not losing those deals to rents may not be such a great bank.
There is - Let me jump in here and continue with my point. But with respect to gas prices, that pretty much makes location on the more important. So I think that’s probably a tailwind with respect to rents.
And our next question is going to come from the line of Vikram Malhotra with Morgan Stanley.
Morning. Thanks for taking the question. Just maybe wanted to build upon comments around the strategic capital business. You referenced several times the power of the business and potentially being undervalued. I am assuming that’s on the equity side. As I talk to my colleagues who cover the asset managers, there is clearly different multiples that you use to value some of these larger or asset management platforms.
So maybe you can unpack this for us a little bit in terms of the power of the business; the more focused customer base you are seeing that are focused on logistics-only platforms and then just the valuation, that’d be really helpful?
Yes, Vikram, it’s Tom. I will take that first. So, I think let’s start with that business and how that business has grown. If you look over the last five years, any land and revenues of that business has grown 18%, some 18% CAGR. More importantly, the EBITDA or cash flow that that business is generating has grown by 26% CAGR, so incredible growth.
As we look forward, just given what we are seeing, I think the opportunities are there for very strong continued EBITDA growth. So I think that’s a baseline I would think about there. A highly, highly scalable business for what we do.
And relative to valuation, there have been I think clarity around valuation in this business. It has never been better because there has been several transactions that have cleared the market lately and you can certainly look at public comps. I think for us, you need to look at the alternative asset managers as the right place to start.
And while there are a lot of different ways, I think analysts and investors are looking at multiple, but when you work through it all for the alternative of those and the comps we are seeing, you are going to see multiples in the mid-20s on earnings and those include promotes. So when you strip out promotes, you are seeing for the best alternative asset managers a multiple of 30 or higher, and they are getting an x on promotes.
So, yes, that would tell you our business is - I would say, very undervalued, because as you are thinking about how we compare to them, I think you need to think about the stickiness of our AUM. 90% plus of our AUM is in long life or perpetual vehicles.
We talked about the growth profile that we have and then clearly, there is incredible investor demand for our product, which is also lining up to support growth. Our equity queue at quarter end was $3.3 billion, an all-time high. So, happy to get into more discussions with you all on this going forward. But lot of good visibility out there on valuation.
Yes. I would add two things, which we sort of assume that are important. First the business’ scale. It’s a $60 billion plus business. I mean, that puts us among the top real estate asset managers anywhere by any measure and we are focused on one property type. So that’s a pretty significant market share in the most desirable market. So that’s place to the premium.
And also, I would say, we have the longest history of actually producing these returns that goes back to AMD’s early days in the mid-80s. So, both in terms of longevity, the quality of the income stream, these are not a bunch of closed-end funds that expire. These are, as Tom pointed out, very sticky and long-lived cash flow streams.
I would argue that they have more leverage on the upside than the real estate cash flows that support that business because of the fee and promote structure. So, for the life of me, I don’t really understand why they are being valued the way they are, but we are going to do a better job of explaining that to people who follow this business, because we are honestly getting a lot of receptivity from those investors that really understand this sector.
And our next question will come from the line of Jamie Feldman with Bank of America.
Thank you. Following up to the last question, $14 billion of investment capacity, we’ve seen a good amount of large portfolios trade the last few years, but clearly pricing is getting more and more dear. How should we think about your ability to do large-scale transactions to keep growing that business through acquisition?
We do not care one iota about external growth and through M&A. It is – that is no skill of the management team. Just multiple conversion and dismiss that fair that our size prevents us from growing fast.
I would just invite people to look at the numbers and you can strip out the M&A from that. So M&A is opportunistic. It’s never part of our business plan and if we never had another dollar of M&A, outplay our growth rate against anybody else’s in any center frankly over time.
Thank you. And our next question will come from the line of John Kim with BMO Capital Markets.
Thank you. Given the increase you’ve had in valuations this quarter, I was wondering if you could provide an updated view on exit cap rates and that spread between exit and going in yields when you and your partners are looking at investments?
Well, historically we pencil in a 50 basis point – used to pencil in a 50 basis point increase in the residual calculation based on our rents projections and alike. But I think 50 basis points when cap rates were 9% was quite a bit and when the cap rates are in the mid-3s, that’s even a great deal more on a relative basis. So, we are mostly using about a 25% increase in residual calculations ten years out.
But again, we are an infinite life vehicle. When you invest in our REIT, you don’t – we just sell non-strategic assets. We don’t sell our other assets that we like. You look at the dividends or the cash flow that comes off those assets and the growth rate of those assets that translates into a very nice overall IRR, which is really the fundamental driver of value in our business.
Thank you. And our next question will come from the line of Jon Petersen with Jefferies.
Great. Thanks. You guys in your press release mentioned that cash same-store NOI growth in the international portfolio was higher than U.S., which I think is kind of a flip from what we’ve seen in recent years. But I look at occupancy the occupancy is still growing faster in the U.S. So, maybe you could just talk about what’s driving that higher international growth?
Yes. Tom, I’ll take that. I think part of it is driven by strong results in other Americas and Europe was also strong. I think it’s more of a reflection of a easier comp in Q2 of 2020 than everything else. But listen, I think longer term, I mean, by and large, particularly in Europe, the cap rates have dropped further in Europe over the last several years.
That’s been more of a headwind on rent growth and I would expect, going forward, we are going to see whether it’s next year, the year after that, but we are going to see growth in our international markets to be on par if not better than our U.S. markets.
Yes, I would also say that land is very difficult in the U.S. but it’s even more difficult in Europe because the government is a much bigger actor in allocating land out and they really tie it to employment and they are not wild about logistics. So land supply is just that much more difficult.
And our next question will come from the line of Blaine Heck with Wells Fargo.
Great. Thanks. So we noticed turnover costs on leases ticked up this quarter and those costs as a percentage of lease value have been trending up over the last four quarters as has free rents. Just given the context of you guys having the highest demand you’ve ever seen, those increase, that increase seems somewhat counter-intuitive. So, can you just give some color on what might be driving that increase? And how we should think about those concessions going forward?
Blaine, this is Tom. That’s a good observation. What is driving that over the last four quarters and particularly in the second quarter is higher levels of new leasing. So new leasing in Q2 versus Q1 increased 40% sequentially. And new leases generally come with slightly higher concessions, slightly higher turnover costs as a result, but the key is we are looking at long-term economics.
So, yes, there is a little bit of short-term pain with that but we are getting in what we believe to be a better cash flow and higher rents. So, I think that’s the key. We are looking at the long-term economics here and we are getting at.
I do think, in clearly, over the last four quarters, we’ve seen much higher levels of new leasing than in the past, I think that’s going to moderate a bit going forward. But we are looking at the long-term end game here and it’s clearly the right economic decision to make.
Yes. The other issue you should keep in mind is that we are pushing rents a lot harder than we were before. So, likely to replace existing customers with the most efficient customers that have the highest value chain and the ability to pay. So, that reshuffle has been accelerated in the last 12, 24 months.
And our next question will come from the line of Michael Carroll with RBC Capital Markets.
Yes. I wanted to touch back on the earlier comments regarding the broadening out of tenant interest, specifically from e-commerce players, I guess. When you say you are seeing more demand from the smaller players, are these companies that are looking to insource their logistics needs versus outsourcing it to 3PLs or did they already have an insource network and they are just looking to expand it right now or is a little bit of both?
Hey. This is Mike. It’s certainly a little bit of both. I think the bigger story here is, we get asked a lot of questions about is it all about Amazon? And while they’ve been very steady and robust in terms of their activity with us this year with actually plenty of back-end activity coming up in the next couple of quarters.
The bigger takeaway is what Tom said in the earnings front-end here were the other customers. Last year, we leased about 50 non-Amazon – 50 leases to non-Amazon e-com players. This time fast forward, the number is three times as high and it’s a wide variety of smaller and larger customers. There is some big brand names in there like walmart.com or MercadoLibre in Latin America, JD.com.
But the bigger story is, there is over 150 of these smaller, more diversified players using a combination of insourcing and outsourcing. We really like that diversification there and again, the story is just not all about Amazon.
I think there is a frenzy on playing catch-up that that is creating a lot of activity. I mean, I think people - if anything the pandemic sort of suggested that they can take business as usual in a very incremental approach with respect to their e-commerce strategy and now they are realizing how important it is and they are just pedal to the metal and that’s showing up in our 3PL leasing statistics as well.
And our next question will come from the line of Mike Mueller with J.P. Morgan.
Yes. Hi. Can you talk a little bit about your development margins on spec versus build-to-suit? And do you think we could see the mix, which I think you said is about 40% this year drift down further?
Yes. Mike, this is Gene. I think the – I think that’s going to hold. In fact, I think we might see ultimately a higher build-to-suit percentage. And I’d be careful looking at the comparison of margins between build-to-suit and spec, because the mix has an awful lot to do with it. How long the transaction has taken to negotiate has something to do with it.
But I think in both cases, you can expect margins to creep up. We have cost increasing on us on the construction side. But we have return compression and rent growth that’s ahead of our underwriting expectations and that overwhelms the cost increases. So I think, generally going to see margins expand.
And our next question will come from the line of Dave Rodgers with Baird.
Hi, there. Maybe to start with Mike or Gene. Wanted to ask on the inventory and the sales topics that you guys mentioned earlier. Obviously, the big increase in sales and inventory is not keeping up. I guess, when you talk to the customers, what are they trying to solve for from an inventory to sales perspective maybe how does that vary between industries, if at all?
And I guess, how do they take into consideration may be interest cost with interest going down? Does that change kind of their willingness to carry even more inventory in the near-term? Those kind of - type of conversations and any color would be helpful.
Hey, Dave, it’s Chris Caton. I’ll kick it off. So first off, as has been shared a few times, right now it’s fulfillment by any means necessary. Trying to get goods into the country. Look, inventories are down 10% from pre-pandemic levels. And so, it’s really just a race to get levels in. As it relates to resilience, I do think we are starting to see this, but I think the specific numbers of people are looking at.
They are not yet at the strategic planning phase they are much more tactically focused on fixing their supply chains this year. Refresh up in our supply chain conference four days ago, 75% of people we spoke with, they had a poll survey said increasing inventories do have resilience related issues with top of mind and we are starting to see that play out.
And our next question will come from the line of Vince Tibone with Green Street.
Hi. Good morning. I wanted to follow-up on significant increase in your U.S. market rent growth forecast. I just wanted to get a little more color on which markets you are seeing the greatest improvement in fundamentals and reviews last quarter? And also just hear how high you are forecasting growth in Southern California, New Jersey and alike?
Hey, Vince. It’s Chris Caton. So indeed, we did make a material increase and look, I think the facts of the situation are really impressive. Rents in the U.S. are up nearly 7% just in the first half of the year, that’s a record. And look, it’s not just the U.S. rents are rising, in Europe they are up 2% so far this year. When I think about different categories, let’s start with the coastal, the major markets on the coast and we’ve had Toronto in there.
Typically, these markets on an annual basis will outperform by 250 to 400 basis points. Last year that compressed as there was less differentiation. That differentiation has returned. And so, we are going to see these coastal markets in Toronto hit mid-teens, I think this year. And I — based on some of the trends we discussed earlier, I’d say we should expect to see this relative outperformance widen in the coming years. Hope that helps you.
Vince, this is Tom. I would just tack on the impact of – and on our earnings, right? I mean, we are rolling around 16%, 17% of our portfolio for a year now. So all of this good news on rent growth is not coming to the P&L right away. So you need to look at the in-place to market which significantly gapped out this quarter now at almost 17%.
And as I said in my prepared remarks, it’s almost $700 million of incremental NOI and want to see where rent growth continues to go. But I would continue to think that in-place market is going to March a little higher.
Yes and one other thing I would add, as strong as rents have been in some of these best markets, with today’s rents, today’s construction cost, and today’s land cost, development doesn’t pencil. So, when people are developing, that means they are thinking, they may be wrong, that rents have to grow quite a bit from here or cap rates are going to compress significantly from here.
I don’t know which and they may be wrong. But I can tell you that with today’s marginal land cost and building cost, no way you come close to that clearing your margin in development.
And our next question will come from the line of Rob Simone with Hedgeye Risk Management.
Hey, guys. Thanks for taking the question. Kind of a two-part question for me, get back to your earlier comments on strategic capital. We took a shot at that valuation and I think, Tom, your comments were really helpful. I think in many ways, they are probably too conservative. But, on the growth rate side, so one of the things that’s a little bit tougher to handicap from the outside is, kind of the sustainable growth rate and your capital raising.
The deployments from contribution is a little more obvious from the numbers, at least historically. So, I was hoping you guys could comment on how you see the fundraising environment kind of proceeding over the coming years?
And then, also, maybe secondarily to that, it’s really interesting. This is the first year that the net income excluding promotes kind of subsumed your corporate G&A. So from a valuation perspective, how do you think about addressing that? It’s obviously a huge benefit but a big change versus prior year.
Hey, Rob. Let me take a shot at this. Today’s – our third-party AUM is mid $60 billion. At the time of the merger exactly 10 years ago, the merger closed on June 30 of 2011, exactly ten years ago, it was $14 billion. So, you do the math as to what the growth rate has been.
But I think ten years got to be a pretty representative period, because we had some early not so great years in industrial and past couple of years have been really good. But I haven’t done the CAGR, but if you do the CAGR between $14 billion and whatever, $60 billion plus, it’s got to be pretty impressive. The guys are trying to do the math.
But, anyway, you can do the math. It’s certainly higher than what any valuation model will suggest and I bet you, it’s higher than a lot of public company asset managers. It’s 16% annual growth rate in third-party funds under management. So – and the limiter on that growth is not our ability raise capital. We can go out there and raise – more capital than we have right now.
It’s just that we don’t want to raise the capital if we think we don’t have good deployment opportunities for us. So, we don’t want our queues getting too long and investors to get frustrated and we certainly don’t want to have a big queue that forces deal making like we see in a lot of other places.
We’ve raised somewhere between $2 billion and $6 billion of good capital over the course of last three years depending on the need. This year you will be interested to know that 15% of the new capital that’s raised is from new investors, new to Prologis. So that really underscores the broadening of interest in the logistics sector.
The other thing that I think you are going to find interesting is that 50% of the investors are now diligencing ESG as an imperative. So, that really plays to our strength. We’ve been an ESG leader for more than two decades. So, I think that’s a differentiator for PLD.
Hey, Rob. I’d just also point out from a key focus on equity raising. But these are open-ended funds are extremely low levered. They are A minus rated entities. They have significant financing capacity. So we’ve got a lot of runway just by using their balance sheets, much less ours. And then thanks for pointing out your point about G&A and scale.
I mean, that just tells you the power of the scale of these businesses. We talked about the AUM growth, that’s 16 over the last ten years or 18 over the last five years. But it’s all about cash flow and EBITDA. That’s grown 26% CAGR in the last five years. And as we grow, the vast majority of that money is going to drop to the bottom-line.
And our next question is going to come from the line of Tom Catherwood, BTIG.
Excellent. Thank you, guys. Hamid, just wanted to follow-up on your comment on industrial development not penciling out. Last quarter, I think you had mentioned that replacement cost could increase by mid and as much as 25% and that Prologis had gotten ahead of that by pre-ordering a lot of material including steel.
As we sit today, what are your current thoughts as far as input costs and how they could continue to trend? And is there a timeframe in which you might kind of fully utilize the material you pre-ordered and we could see maybe more margin compression on the development side is yet to take kind of market rates for those? What are your thoughts on that?
Yes. In terms of our pre-purchasing steel, I didn’t want to create the false impression that we’ve got our entire development program hedged on steel costs. And we are pretty much working through the steel that’s been hedged.
So, I don’t think that’s a big factor in forecasting margins going forward. My personal view is that some of these supply chain-related issues that have impacted material costs are going to subside and there was a period out there a year or two years out where maybe the steel price escalation could reverse and get back on a sort of normal inflationary trend, once all the plants are back up and producing.
But the most important thing affecting margins is what Gene mentioned a little while ago, which is that, cap rates are compressing and rents are growing faster than land cost and replacement costs are going up. So the margins, if anything are going to expand unless something material changes that I can’t think of right now, particularly given the outlook for demand.
And when someone asks Chris about the different sectors and all that, notably absent in his sectors was housing. Housing is still not anywhere near its potential and it’s a big consumer of warehouse space that hasn’t even kicked in. And you know how low the housing inventory is and how much prices are going up in the housing sector. So I expect actually that to be an additional engine of growth for demand.
And our next question will come from the line of Ki Bin Kim with Truist.
Yes. Good morning. Just wanted to go back to the land topic. You guys bought more land year-to-date than you did in 2020. Just curious - so just a couple of broad questions. You already have a pretty sizable land base.
I am just curious about what the thinking is behind that? Is it – shouldn’t been feel good that you had to kind secure market value land to put it to work relatively soon? Or is there a longer term element to it that you think the demand is long lasting and so good that you wanted to replenish the land inventory?
And also, how should we think about the $18 billion of build out in your land bank today? Should we expect that to start to get smaller as we do more development? Or is this a level that you plan you can maintain just to keep things humming along?
Yes, couple of things, Ki Bin. First of all, land comes in couple of different flavors. One is raw unentitled land, of which we buy some but not a lot. Second comes in the form of options that we actually don’t buy. It doesn’t show up in the period when we made the deal. It shows up in the period that we actually closed the land option.
So, I don’t know the specifics for this quarter that you are looking at. But we can find that out. But it could be closing in options that we negotiated many, many moons ago.
And finally, the infrastructure cost of improving land shows up as land and it may not be actually new land, it may be just additional infrastructure on existing land. For example, in our Tracy Park, we are doing million square foot deals like they are going out of style and along with that, we need to put the infrastructure in and with that land we bought in 2012. But that infrastructure it shows up as a little land.
Finally, an increasing percentage of our land is covered land place and they have an income stream and they pencil as investments even if we weren’t going to scrape them and redevelop them down the road. So, these are land purchases deals that are actually pretty attractive in their own right. But they also have an embedded upside in terms of developing new product on it. Gene, anything?
Yes. So, Ki Bin, if you look at that $18 billion of build out, about 44% of it is either covered land place or option land. And if you look at how we are replenishing the land bank over time, we are sticking pretty much to those ratios. So, nearly 50% of it comes in those two categories and with respect to the size of the land bank, it’s got to grow. Our development program is growing and you are going to see the land bank grow along with it.
A good example would be this Hilltop transaction that got all this attention that all of a sudden are we going to the retail business? No, we are not going to the retail business. That’s just another way of buying land with the yield on it. So, but it’s chunky. It’s $100 million. So that shows up as that can move the numbers around in a given quarter by quite a bit. But it’s covered land place at the end of the day.
[Operator Instructions] And our next question is a follow-up from Jamie Feldman, Bank of America.
Thanks. I just wanted – I have two quick follow-up questions. One is going back to the supply chain shortages, pleasantly surprised to see you raised your starts guidance and your stabilizations guidance. Would you say that we’ll see that across the board in this sector? Or there is something specific about the PLD platform that let you continue on with your development plans?
And then, secondly, you mentioned housing is not yet at its full potential for demand. Any thoughts - latest thoughts on re-shoring and what that could mean to demand and then anything coming out of Congress with the infrastructure bill that could also be a driver of growth? Thank you.
Yes. On the infrastructure side, a lot of it isn’t infrastructure, this is I can tell. So I don’t think those things are necessarily going to add a lot of business. But the real infrastructure for part, this is less than $1 billion should be really great for the business.
Onshoring is - I only see onshoring in newspaper articles. I haven’t really actually seen them and if you look at the import numbers, we set month-after-month of records. And now I do think there will be onshoring of medical supplies and PPE. And some of the things that are strategic to use an over-used word. But generally speaking, we just don’t have the resources, the infrastructure, the labor, the knowhow to manufacture a lot of the things that come into our containers. Gene, anything?
Yes. I mean, I think you will see in the Mexico, they are seeing it. But I don’t think you see re-shoring here. What was the first part of your question?
What we see others.
Right. Right.
Well, I have no idea.
Yes, we need to.
Yes, I mean we’ll find out in a couple of weeks. But the – I can tell you that – and you’ve heard us talk about this for years now. We’ve really taken the customer and put it in the middle of our business, and that is paying dividends. So this customer-centric model allows us to do a lot of business. By the way that playbook will get like copied like everything else.
So, I assume, other people will do the same thing. But so far, we are doing great with major customer business. Thanks to the good work that the teams are doing.
With that, Jamie, you were the last. So, thank you again for your attention and we look forward to talking to you before next quarter for sure. Take care.
Once again, we’d like to thank you for participating in today’s Prologis conference call. You may now disconnect.