One of the key lessons learned from the COVID-19 pandemic has been the vulnerability of supply chains and the downside of running a "lean and mean" inventory management model. Commodity prices have been rising, and even companies like Procter & Gamble are announcing that they are implementing price increases. Running with minimal inventory makes financial sense in that it is a more efficient use of capital, but when you enter periods of scarcity, you either have to pay up for inventory or watch your competitors take market share.
One of the companies in the middle of this whole phenomenon is Prologis (PLD -7.19%), which is benefiting from a massive inventory restocking that will take years to play out.
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The premier logistics company
Prologis is the biggest logistics company in the United States. It owns massive logistics facilities with dozens of truck bays -- you might have seen them along major highways -- and its concentration in urban markets with high barriers to entry is a significant competitive advantage. The company owns almost 1 billion square feet of logistics space in 4,703 buildings globally, and its list of top customers is led by Amazon (6.1% of net effective rent) and Home Depot and FedEx (1.9% each). It's structured as a real estate investment trust (REIT), which we'll discuss more about shortly.
The COVID-19 pandemic caused major disruptions in supply chains around the world, and companies are operating with bare-bones inventory. Especially in retail, the chains that were prepared for an increase in demand are now taking share from those that sailed too close to the wind. Inventory-to-sales ratios are only beginning to rise. On Prologis' latest earnings call, CEO Hamid R. Moghadam -- who has been with the company since its origins as AMB Property Corp. in 1983 -- said the current level of demand is the strongest he has ever seen:
The robust demand from the fourth quarter has carried into 2021 and is as strong as I have seen in my career. Global supply chains are pushing to keep pace with accelerating economic activity, retooling for faster fulfillment and resilience. With our well-positioned portfolio, differentiated customer offerings and abundant investment capacity, we expect to continue to outperform while delivering exceptional customer service.
In addition to tight retail inventories, many large urban markets are also struggling with shortages of available logistics spaces. In many of Prologis' top markets, vacancy rates are below 2%, and as the cost of building competing spaces increases, Prologis is in a position to raise rents. The company said on the call that it plans to see rents rise 6.5% in the U.S. and 6% globally. Over the past six months, overall logistics asset values have increased 7.5%. To put these numbers in perspective, consider that the weighted average interest rate for Prologis' debt is 1.9%. Prologis has no major debt maturities until 2026.
A great stock, but expensive
In this year's first quarter, Prologis' core funds from operations (FFO) per share rose 17% year over year to $0.97. Prologis also upped its guidance for 2021 FFO per share to a range of $3.96 to $4.02 per share. At current levels, Prologis is trading at almost 29 times expected FFO per share, which is on the expensive side. However, Prologis completely dominates its space. On a price-to-earnings basis, the multiple has really expanded:
PLD PE Ratio data by YCharts
Prologis recently bumped up its quarterly dividend to $0.63 from $0.58, which gives the stock a yield of 2.2% at recent prices. Given that FFO per share is expected to come in around $4, Prologis' payout ratio is on the low side for a REIT. But the stock has been a star performer over the last five years, rising more than 150% over that time. Investors may want to wait for a pullback to get in at a cheaper level, but Prologis' business backdrop is so good right now, they might not get that opportunity.
