Real estate investment trusts (REITs) are often known as boring income stocks more suitable for investors seeking income rather than growth. They typically don't toss out doubles or triples very often. That said, logistics real estate has been a growth area for several reasons. Prologis (PLD -7.19%) is one of the leaders in this space.
If you'd bought this company in 2016, you would have almost tripled your money since then. What should you do now?
Image source: Getty Images.
A leader in logistics spaces
Prologis is one of the leading logistics REITs in the world. The company builds massive structures that allow companies to store inventory close to big markets. If you drive along the major interstates near big cities you will probably see these massive buildings with dozens of truck bays, some of which will be managed by Prologis.
The company has a portfolio of 4,914 buildings with about 1 billion square feet globally. About 62% of Prologis' square footage is in the U.S. The company's biggest customers are Amazon, FedEx, and Geodis. Amazon and FedEx recently made news regarding their plans to reduce space, but as of the end of the third quarter of 2022, Prologis expected little to no impact on its business from these reductions.
COVID-19 changed general corporate attitudes about inventory
As a general rule, corporations have tried to minimize inventory holdings. Storing inventory is generally an inefficient use of a company's financial resources since it ties up capital (you have to buy it first, then sell it). Excess inventory is a risk as well, especially for retailers that might need to discount it if it sits too long. Corporations have therefore spent a lot of energy making their supply chains more efficient, and this was pretty much the way things went for 40 years.
The COVID-19 pandemic exposed some of the vulnerability of the inventory-light approach. Lockdowns made supply chains more fragile, and many companies were caught with too little inventory. This caused many companies to rebuild inventory to make sure they could withstand a temporary shock to the global supply chain. This change in mindset increased the demand for Prologis' logistics space.
Space is in demand and rents are rising
Prologis ended the third quarter of 2020 with occupancy at 97.8%, and saw a 30% increase in cash rents during the quarter. Vacancy rates are extremely low, and competition for space is fierce.
In early 2016, Prologis was trading at $39.47 per share. If you'd invested $500 in Prologis at the beginning of the year, you would own 12.67 shares. Today, 12.67 shares of Prologis would be worth $1,481. Prologis has benefited from increased online shopping and also the change in corporate attitudes toward holding inventory. The big question going forward is whether this will continue.
Given the tight supply of logistics space, Prologis should continue to experience sizable increases in rents. So far, the situations at Amazon and FedEx have affected competitors of Prologis, but not the company itself. If we enter a recession, we could see a temporary dip in demand for logistics space. That said, things are not back to normal in the overall supply chain, and companies will continue to build inventory.
Prologis is guiding for 2022 funds from operations (FFO) per share to come in between $5.12 and $5.14 per share. This gives the company a multiple of 22.8 times FFO per share. While this is on the high side for a REIT, Prologis is a leader in its space. Its dividend yield is 2.8%, which is low, but typical for a REIT that is investing in the business. Overall, the biggest risk for the company is multiple compression (in other words, falling price-to-earnings ratios), not a fundamental change in the business.
