One of the big economic takeaways from the COVID-19 pandemic has concerned the fragility of supply chains. The crisis demonstrated, among many other things, the need for keeping more inventory closer to consumers. For the better part of the last year, e-commerce giants like Amazon have been doing a lot of the heavy lifting on the consumer fulfillment front, but that's really just the tip of the iceberg.
Another less-known company that's benefiting from this logistical transformation is Prologis (NYSE:PLD), which is the leader in logistics real estate. This real estate investment trust (REIT) recently released fourth-quarter and full-year 2020 earnings, and its report touched on some imbalances that will benefit the company in the year ahead.
A leading logistics REIT
If you have driven down just about any major U.S. highway, you have probably seen the massive Prologis buildings, with their long rows of loading docks. The company owns just under 1 billion square feet of warehouse space in 19 countries. It has approximately 5,500 customers and handles both business-to-business and business-to-consumer shipping fulfillment. It's structured as REIT, which sets certain income dispersement rules to shareholders.
For the fourth quarter, Prologis reported core funds from operations (FFO) of $0.95 per share, up from $0.84 per share a year ago. Full-year core FFO was $3.80 per share compared to $3.31 in 2019 -- an increase of 15%. New leases rose 22% year over year to a record of 65 million square feet. Rents increased by 3.2%, with all of the growth coming in the second half of the fiscal year.
On the Q4 earnings conference call, Prologis management forecast that rental inflation would accelerate to 5.5% in 2021. Capacity utilization was 83% as inventory was depleted.
The fundamental backdrop is exceptionally strong
So what is driving this acceleration? On the call, CFO Thomas Olinger explained:
"We expect continued fundamental improvement in 2021 and beyond, based on three drivers. First, a powerful economic recovery including the highest GDP growth in the U.S. in more than two decades. ... Second, the pandemic accelerate the retail revolution. The e-commerce penetration rate jumped 480 basis points to 20% of goods sold in the U.S. in 2020. ... Our customers continue to plan for a long-term, retooling supply chains for increased the should generate a cumulative incremental demand of 200 million square feet or more over the next several years. ... Third, we expect higher inventory levels."
Prologis management also said that inventory-to-sales ratios were at all-time lows. The company estimates that inventories will rise, as many retailers were caught short when the pandemic struck and will want to get ahead of any rebound in consumer demand. Ultimately, online retailers require more inventory than brick-and-mortar stores do, and the company estimates that a 5% increase in inventories will translate into demand for an additional 300 million square feet of warehouse space.
The dividend is probably going up
Prologis has forecast that its 2021 core FFO per share will be in the range of $3.88 to $3.98 per share, which gives the stock a valuation of 26 times core FFO. That's generally expensive for a REIT.
However, the value of its real estate is increasing as well. And this business is all about location, relying on large footprints in high-barrier, high-growth markets. That's not the easiest model to duplicate. The company intends to deliver 10% growth, and maintain a payout ratio in the vicinity of 65% of FFO. In other words, the dividend will rise with income, so a payout hike is likely.
The segment of the economy where Prologis operates is undergoing some major structural changes, and all of them look likely to benefit the company -- and its shareholders.