Prologis (PLD 0.69%) has done a masterful job growing its dividend. The leading industrial REIT has increased its payout at a 15% compound annual rate since its initial public offering. That ranks 13th-best among the S&P 100 (the 100 largest U.S. corporations). Meanwhile, its dividend has grown twice as fast as the S&P 500 over the past five years (12% annually versus 6%). The company currently offers an attractive dividend yield of 3%.
Prologis' payout should continue its unstoppable growth. It recently enhanced its already strong growth prospects by acquiring $3.1 billion of industrial properties from funds managed by Blackstone (BX -0.03%). The deal will boost its income in the near term while providing additional upside potential.
Adding an attractive incremental income stream
Prologis has agreed to buy 14 million square feet of industrial properties in the U.S. from Blackstone. It's paying $3.1 billion in cash, valuing the portfolio at a 4% capitalization rate. That's a solid exit rate for Blackstone and a fair price for Prologis to pay. This valuation implies Prologis will generate an immediate 4% income yield on its investment.
The industrial REIT is using its immense financial capacity to fund the deal. Prologis ended the first quarter with $5.7 billion of liquidity. It's putting some of that to work in a transaction that will supply it with incremental cash flow. That will give Prologis more money to support its growing dividend.
The win-win deal also enables Blackstone to cash in on some of its vast industrial real estate portfolio. The private equity giant is capitalizing on the strong demand for high-quality warehouses by selling some properties from its opportunistic real estate funds. That will enable it to return cash to fund investors and generate performance revenues for its shareholders by realizing a profit on a portion of its industrial real estate investment.
Adding to its upside potential
The incremental income from the in-place cash flows is only part of the draw for Prologis. While long-term leases back the current cash flow, the properties have significant income upside potential as those leases expire. That's because there's a significant gap between the existing lease rates and current market rents. As such, the income from the acquired properties will grow as legacy leases expire and it signs new ones at higher market rents. Prologis estimates it's paying an even more attractive 5.7% cap rate when adjusting for current market rents.
Lease rollovers are a massive growth driver for Prologis. Warehouse rents have surged since the pandemic began because of the accelerated adoption of e-commerce and supply chain issues. That's caused a wide gap between existing lease rates and market rents:
Image source: Prologis.
As that slide shows, the company estimates that market rents are 68% higher than current lease rates across its portfolio. That means it has significant embedded growth as legacy leases expire, and it can sign new leases at market rents. In the company's estimation, lease rollovers will drive 8% to 10% annual net operating income growth across its existing portfolio.
Meanwhile, the Blackstone deal will provide Prologis with additional upside potential as it leverages its Essentials platform. The company offers tenants a portfolio of solutions to help solve their challenges. For example, Prologis can install solar panels, EV charging, and hydrogen refueling capabilities at its facilities to help tenants reduce their carbon emissions and costs. It also offers turn-key operations solutions and workforce training. The company's Essentials platform supplies Prologis with incremental income while enhancing its relationships with tenants, making it more likely they'll renew their lease, even at a much higher rate. The Blackstone deal will provide it with 77 new tenants to cross-sell its Essentials solutions.
More power to grow the dividend
Prologis is using some of its financial firepower to acquire $3.1 billion of warehouse properties from Blackstone. The deal will supply it with some incremental income from the long-term leases securing the properties. Meanwhile, the acquisition increases the company's upside potential from future lease rollovers and cross-selling opportunities from its Essentials platform. These drivers should grow the portfolio's income over time, which should help support the continued rise of Prologis' dividend.
