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spk09: Ladies and gentlemen, thank you for standing by, and welcome to the Duke Realty third quarter earnings call. At this time, all participants are in a listen-only mode, and later we will conduct a question-and-answer session. Instructions will be given at that time. If you should require any assistance on today's call, please first start, then zero. And as a reminder, this conference is being recorded. I will now turn the conference over to your host, Ron Hubbard. Please go ahead.
spk14: Thank you, Josh. Good afternoon, everyone, and welcome to our third quarter earnings call. Joining me today are Jim Conner, Chairman and CEO, Mark Dineen, CFO, Steve Chenard, Chief Operating Officer, and Nick Anthony, Chief Investment Officer. Before we make our prepared remarks, let me remind you that certain statements made during this conference call may be forward-looking statements subject to certain risks and uncertainties that could cause actual results to differ materially from expectations. These risks and other factors could adversely affect our business and future results. For more information about those risk factors, we would refer you to our 10-K or 10-Q that we have on file with the SEC and the company's other SEC filings. All forward-looking statements speak only as of today, October 29, 2020, and we assume no obligation to update or revise any forward-looking statements. A reconciliation to GAAP or the non-GAAP financial measures that we provide in this call is included in our earnings release. Our earnings release and supplemental package were distributed last night after the market closed. If you did not receive a copy, these documents are available in the investor relations section of our website at dukerealty.com. You can also find our earnings release, supplemental package, SEC reports, and an audio webcast of this call in the IR section of our website as well. Now for our prepared statement, I'll turn it over to Jim Connor.
spk15: Thanks, Ron, and good afternoon, everyone. First of all, I hope you and all of your families are healthy and safe as we all endeavor to get through this pandemic. We had a great quarter and the outlook for our business is very bright. Demand for our state-of-the-art logistics space continues to remain resilient amidst the volatile economic environment and the uneven recovery that's underway. The consumer remains relatively healthy on a spending front with advanced August and September retail sales numbers up 4, and 6% year-over-year, respectively. E-commerce sales were up over 40% in Q2, and estimates for full-year growth 2020 are north of 30%. Online sales activity remains robust, with e-commerce penetration rate as a percentage of total retail sales rising 6 to 7 percentage points so far in 2020, and expected to maintain at that penetration rate going forward. Numerous cargo transportation indices have also turned positive recently, with rail cargo and truck tonnage both up about 5% year-over-year and now only slightly below peak levels. Also, the last two months of inbound West Coast container traffic has been up 11% to 14% each of the last two months, all good indicators for the holiday season and perhaps the inventory restocking themes we've been talking about. Nationwide real estate fundamentals for the quarter also ended up relatively strong given the surge in leasing, primarily from e-commerce or omni-channel oriented firms, as well as third-party logistics firms. The result was the 47th straight quarter of net absorption, despite many forecasts predicting the opposite. Even more encouraging has been the resiliency and performance of our portfolio. For the third quarter, we achieved 32% rent growth in rental rates on a gap basis and 17% on a cash basis. We started four development projects totaling $261 million with solid value creation margins. We have a strong pipeline of build-a-suit prospects, which in total is back above pre-COVID levels. We signed 7.3 million square feet of leases, which contributed to a 30 basis point increase. in total portfolio occupancy to 95.6%. Leasing was fairly broad-based across industries with about 30% of it tied to e-commerce. And our monthly rent collections remains very strong at 99.9% for the quarter, including executed deferral agreements. The end result is our year-to-date performance and full year expectations now exceed our beginning of the year expectations. Based on these results and our optimism for the balance of the year, we have raised the dividend and revised our guidance metrics. Mark will go over these changes in detail momentarily. Now let me turn it over to Steve to cover our real estate operations in more detail. Thanks, Jim. In the third quarter, the U.S. demand was 57 million square feet, and for deliveries were 68 million square feet. This resulted in a flat vacancy rate from the previous quarter of 4.7%. For the full year, the major research firms project deliveries in the mid 200 million square foot range and demand to be 160 to 170 million square feet. Given this outlook, we expect a high four to maybe 5% vacancy rate nationally. On the rent side, CBRE estimates nationwide rent growth for this year to be in the mid single digit range. For next year, early projections for demand and deliveries remain in the 250 million square foot range. with an historically high pre-leasing estimate of those deliveries. This would bode very well for the market to remain in balance. As I noted on our last call and per recent CBRE and JLL forecasts, the intermediate and long-term demand situation is very favorable for our sector. We had an excellent quarter on the demand front with total leasing volume, as Jim mentioned, of 7.3 million square feet for our portfolio. Our team did a great job of pushing rents with rental rate growth on new leases, 32% on a net effective basis, 17% on a cash basis. As you saw from our press release last night, our lease renewal rate of 46%, or 67% when including back bills, was lower than historical levels. Part of the story here is that one, just the sheer volume of leasing was considerably lower than average, and two, our high occupancy levels and strong rent collections were continuing to aggressively push rents, so that also has some impact on the numbers. One of the more notable leases signed this quarter was a 1.1 million square foot new lease for 100% of our speculative project under construction in the Inland Empire of California. This facility is not expected to go into service until the second quarter of 2021. It's a great example of our team's success in leasing speculative developments well ahead of our underwriting. As we noted on our last call and as referenced by CBRE research, there continues to be a post-pandemic trend to larger lease sizes. In our own portfolio during the pandemic, we've realized an increase in the average lease transacted by about 38%. As we've emphasized before, we believe the size and term of our transactions, our modern portfolio features, and the credit profile of our tenants represents an element of differentiation and stability in terms of our portfolio cash flow. And speaking of cash flow, I'll give you an update on rent collections. As most of you are aware, and per numerous sell-side research reports, we've reported some of the very best collection rates in the entire REIT industry since the onset of the pandemic. Our monthly collections have trended better every month since the start of the pandemic, and amounts due under deferral agreements have been fully collected. Some tenants have even repaid their deferred rent ahead of schedule to avoid interest charges. For the third quarter, and including the month of October as well, our overall collections have averaged 99.93%, including the executed deferral agreements. On the new development front, as we noted on our late July earnings call, the demand for newly developed logistics space was coming back strong, and then we planned to commence new projects very soon. During the third quarter, we started four new projects, totaling $261 million in costs, that were 28% pre-leased on average. Two of the starts were speculative projects totaling 1.4 million square feet in Southern California and Seattle markets. We also started a 220,000 square foot project in Miami that is 72% pre-leased. The fourth development was a build-a-suit project totaling 415,000 square feet in Eastern Pennsylvania for Rickett Benckiser Health. This was our second build-a-suit project for Rickett who's a global manufacturer of Lysol wipes and other healthcare products. In summary, the third quarter was a great reflection of the health and logistics market and the strength of our portfolio. I'll now turn the call over to Nick to discuss the acquisition and distribution environment.
spk10: Thanks, Steve. On acquisitions, we continue to be strategic and selective, but had a lot of good investment activity during the third quarter. We closed on four transactions to acquire a total of five facilities, totaling 680,000 square feet, for a total cost of $112 million. The assets are all located in coastal Tier 1 markets with three facilities in Northern California, one in the Seattle market, and one in Northern New Jersey. We were working on three of the four transactions pre-COVID and were able to transact at a slightly lower purchase prices, discounts that are not available in the market today. All these transactions have certain attractive long-term return characteristics, such as below-market rents, the potential for redevelopment, and or were likely marketed. Overall, we believe we acquired these assets with low replacement costs with unlevered IRR expectations in the low 7% range. This quarter is also an example of how our acquisition opportunities can be lumpy quarter to quarter, as well as an example that we are mainly focused on single asset transactions with the potential to capture a yield premium. On the disposition side, we closed on the sale of a 280,000 square foot building in Indianapolis for 18.5 million at a 5% cap rate. As implied by our 2020 disposition guidance of a $300 million midpoint, we have a number of disposition transactions expected to close in the fourth quarter. These deals are all in the final market stages or under agreement. Some of these assets, as well as future dispositions, include Amazon as a tenant as we manage our overall exposure given the significant amount of business we continue to transact on with this key customer. I will now turn it over to Mark to discuss our financial results and guidance update.
spk03: Thanks, Nick. Good afternoon, everyone. Core FFO for the quarter was $0.40 per diluted share compared to $0.38 per diluted share in the second quarter of 2020 and $0.37 per share in the third quarter of 2019. The increase to core FFO in the third As a result of favorable collections history and updated credit reviews, we reversed approximately $486,000 of reserves on straight-line receivables during the quarter, or recording nearly no cash bad debt expense. We reported FFO as defined by NAREIT of $0.39 per diluted share for the third quarter of 2020, compared to $0.33 per diluted share in the second quarter of 2020. increase to core FFO. FFO, as defined by Nareed, was $0.37 per diluted share in the third quarter of last year. AFFO totaled $135 million for the third quarter of 2020, compared to $120 million for the comparable period of 2019. This increase in AFFO is due to the earnings growth that drove the increase in core FFO Same property NOI growth on a cash basis for the three and nine months ended September 30, 2020, compared to the same periods in 2019, was 5.0% and 5.5% respectively. Same property NOI growth for the quarter was driven by increased occupancy, rent growth, and the expiration of some From a capital standpoint, our leverage metrics remain very conservative with debt to EBITDA on a trailing 12-month basis at five times, consistent with the midpoint of our guidance. Our current quarter annualized basis, debt to EBITDA was 4.6 times. Coupled with our substantial leverage neutral funding capacity, we have multiple levers to pull for raising new growth capital at very attractive pricing with the current state of the capital markets and state of the investment sales markets. I'll remind everyone that the capital deployed into developments is at a strong pre-leasing level. For example, of the 3 million square feet of projects being delivered in the next two quarters, they are in aggregate 93% pre-leased with a mid-5% expected stabilized yield, and thus are immediately accreted to earnings. Also, our near-term development prospects are heavily tilted towards highly pre-leased and bill-to-sue projects. I would now like to address the changes to our 2020 guidance that we've made, which are based on our better than expected third quarter results and a continuation of our optimistic outlook for demand and tenant credit worthiness. First, we've increased our guidance for core FFO to a range of $1.50 to $1.54 per diluted share from the previous range of $1.48 to $1.54 per diluted share, which equates to a one cent per share increase to the midpoint compared to our last guidance update in July. The increased guidance for core FFO is driven by our strong leasing results thus far, as well as a lower estimate of bad debt expense for the remainder of the year. Page 16 of our supplemental information details our bad debt expense estimates. For similar reasons to core FFO, we have also increased our guidance for NAREIT FFO to a range of $1.38 to $1.44 per diluted share from the previous range of $1.35 to $1.43 per share. Also, driven by the same factors as our updated guidance for core FFO, we've increased our guidance for the growth in adjusted funds from operations on a share-adjusted basis to range between 4.6% and 7.7% compared to the previous range of 3.1% to 7.7%. For same property NOI growth on a cash basis, we've increased our guidance to a range to 4.5%. This increase in guidance is a result of our leasing progress to date, continued rental rate growth, and lower expectations for bad debts for the remainder of the year. Based on our continued progress in leasing up our specular developments, as well as our solid pipeline of build-to-suit prospects, we have increased guidance for 2020 development starts. Our revised guidance is between $650 million and $850 million. Compared to the previous range, $350 million to $550 million. Also, as Nick's team has been successful at finding some one-off acquisitions in Coastal Tier 1 markets, we've increased our guidance for acquisitions to $225 million to $325 million, compared to the previous range of $50 million to $250 million. We've updated a couple more, a couple other components of our guidance based on our Thanks, Mark.
spk15: Our quarterly results were strong, highlighted by solid leasing, particularly in the speculated development pipeline, the achievement of 32% rental rate growth, and a rebound in our development starts. While we are mindful of continuing macroeconomic and political risks, our resilient performance the last two quarters and the continuing strong demand themes should provide opportunities for us to continue to drive earnings growth. This confidence was reflected in last night's announcement that our Board of Directors has approved the raise of the quarterly dividend by two cents a share, or over 8.5% over the previous dividend rate. With that, we'll now open up the lines to the audience. I would ask that participants keep the dialogue to one question or perhaps two short questions, and you, of course, are welcome to get back in the queue. Josh, you may open up the lines, and we are ready to take our first question.
spk09: Well, ladies and gentlemen, if you would like to ask a question, press 1 then 0 on your telephone keypad. And our first question is from the line of Eric Frankel with Green Street. Please go ahead.
spk06: Thank you. Just a couple of short questions, if you will. First, just regarding your leasing activity this quarter. Obviously, it is a relatively low leasing volume. Can you just comment maybe on the lease term? That does seem to be a little bit shorter than usual, especially for the renewals.
spk15: Yeah, Eric, this is Steve. No, I think overall activity for the quarter, anytime we're over 7 million feet in our portfolio, we feel pretty good about it. Obviously, our occupancy levels are fairly high as well. And then in terms of the shorter term, you know, there's not a lot to read into there. I think we're... still year-to-date. We're on par with where we were in 19. The quarter was a little shorter at a little over three years, but that's just a couple of transactions and sample size.
spk06: Thanks. And just another quick follow-up, just regarding your cap allocation activity, how are you thinking now about acquisitions and dispositions going forward you're obviously able to find as you as you said a couple pre-covered deals um and bringing them across the finish line um i mean do you plan to kind of match still kind of plan to match fund acquisitions with dispositions or is it going to be more programmatic you think over the next couple quarters the next year uh hi eric this is nick um yeah i would say generally we are going to match on we continue to be
spk10: very opportunistic on the acquisition side and very focused geographically on the coastal tier ones. But I think you'll see the acquisition disposition values kind of be equal to each other.
spk05: Okay. Thanks, guys.
spk09: Our next question is from the line of Blaine Heck with Wells Fargo. Please go ahead.
spk18: Great, thanks. Good afternoon. Nick, just to follow up on acquisition strategy, can you talk about whether you're looking for core buildings in those markets that you want to increase allocation to, which it kind of looked like was part of the drive behind some of the acquisitions this quarter, or is the focus going to be more on deals with vacancy, upcoming rule, any other value-add component, and how much of a differential, if any, is there in pricing for core versus value-add at this point?
spk10: Well, Blaine, first of all, I would tell you that most of the acquisitions are going to be focused on lease product because most of the vacancy that we take on, we do on the development side. And basically, we're teaming up with our development teams to find assets that are below market. We can buy below replacement costs or if there happens to be a redevelopment play going forward. So that's generally what we're focused on. We'd love to buy some class A newly developed assets in very infill markets, but the pricing on those have been pretty aggressive recently. Most notably, there was a deal in Southern California that traded at a sub three and a half cap rate. So we're still being prudent with our capital and just trying to find assets that aren't quite as fully marketed as some of the others.
spk18: Great, that's helpful. And just to follow up on that, cold storage has seen a lot of positive momentum from the pandemic. You guys bought a cold storage facility in the second quarter last year, but I'm not sure you've done any more since then. Can you just talk about whether you guys would consider expanding that part of the business and I guess your appetite for cold storage going forward?
spk10: Well, we like the product. We like the asset we purchased. We have pursued and probably will do some cold storage on the development side. There's not a lot of opportunities, though, I would tell you, so it's never going to be a large part of our business. As we've said before, we're not intending to be operators of that product type, so we're really looking for assets that you can actually lease back to other operators. And, frankly, it's tougher to find those assets in the coastal Tier 1 markets.
spk18: Got it. Thanks.
spk09: Our next question is from the line of Jamie Feldman with Bank of America. Please go ahead.
spk11: Thank you. I appreciate your color on the expected supply next year. I think you said 250 million square feet, which would be about the same as this year. How do you think about your development pipeline? Do you think it would be pretty similar as well as you're kind of starting to pencil out what's possible for the next 12 months?
spk15: Yeah, Jamie, I'll let Steve add some color. I think clearly we're feeling much more comfortable about the development business in 21 than we were even just a quarter ago. The performance of our portfolio has allowed us to start building speculative again, and that's always been roughly 40% of our development pipeline. So if we can continue to do speculative development, I think you'll see us return to historical levels that you saw us operate in 17, 18, and 19. I don't know, Steve, you want any of the color? Yeah, Jamie, the only other thing I would add is, you know, you've heard us talk in the past about our build-a-suit pipeline and the attention we pay to that in terms of the confidence of our customers and what that pipeline looks like. I'll tell you, that pipeline today is is as high as it's been in this cycle in terms of active prospects we're looking at. So we feel good about the direction it's headed for development for us.
spk11: Yeah, I guess you would comment about even your fourth quarter starts sound like they'd be pretty heavily weighted towards build-a-suit. Do you think that you'll continue on with that pipeline and then get back to a 40% kind of 60% spec, meaning like even incremental over what's in the pipeline, or you'll kind of keep the same size and it'll just be more build-to-suit for a while longer?
spk15: Well, I think the answer lies somewhere between. I think, you know, the message Steve is trying to convey is the build-to-suit pipeline is as strong as it's been in the last four or five years. So obviously we see a lot of significant opportunity there. I think you can plan on us continuing SPAC at a slightly more elevated rate than we are this quarter. Again, as long as the market will bear it. Our portfolio performs well and the markets continue to perform well. So we're not in a hurry to ramp that back up. It's not like we're trying to achieve a certain specific number or target. I think we're very comfortable with the revised guidance that we gave, given everything that we see in the marketplace. And I think next year, you know, as long as the trend holds true, again, should recover nicely.
spk11: Okay, great.
spk15: Thank you.
spk09: Our next question is from the line of Dave Rogers with Baird. Please go ahead.
spk02: Yeah, good afternoon, guys. Nick, maybe just another one on investment sales. What what do you see kind of going into the end of the year? Is activity kind of coming back to normal for the fourth quarter in terms of investment sales transactions just nationally and your ability to participate in those and your thoughts around cap rates heading into the end of the year and into early 2021?
spk10: Yeah, Dave, it's going to be very active in the fourth quarter for us and everyone else. You know, everybody took a pause earlier in the year and now everybody's racing to the finish line to get a bunch of deals closed by year end. So, As I've mentioned before, cap rates clearly have compressed. We're seeing trades now proving that out, and I would say it's pretty broad-based. We've seen sub-3.5 in Southern California, sub-4.5 in Atlanta, and we've seen sub-5, well below sub-5 in Indianapolis. And it's a good mix. A lot of them are Amazon transactions, but there's a mix of plenty of others out there to prove that those cap rates have compressed. but there's a lot of demand from investors, either investors getting back into industrial or rotating out of other product types, and then obviously the interest rates are also fueling that activity as well.
spk02: Okay, that's helpful. And then maybe just to stick with the development theme, can you talk about construction costs, land costs, what you're seeing out there, and then in terms of kind of where you think you can achieve in terms of development margins? on the project that you're starting here in the second half of the year?
spk15: Sure, Dave. This is Steve. You know, I think land prices have continued to be sticky, if not increasing, right, certainly in the markets we want to invest in. Construction costs, I'd say, are, you know, historically, you know, moderating in terms of their increases, you know, probably in the low single digits on an annual basis in terms of costs. And then, you know, margins, you know, on the development side, we've been pretty consistent with our margins. You know, I think we've been north of 30% on our margins. You know, as Jim indicated, you know, mixing in the build-a-suits, we like the risk-adjusted returns on those deals, and we've been pretty consistent in our portfolio of producing margins that are 30% or better.
spk02: All right, great. Thank you.
spk09: Our next question is from the line of Omoteo Okusana with MISHO. Please go ahead.
spk04: Yes. Good afternoon, everyone. In regards to speculative development, could you talk a little bit about where you would expect those developments to be over the next six to nine months?
spk15: Sure. I would tell you we like the coastal tier one markets. That would be Southern California, Northern California, Seattle, New Jersey, Miami. You know, there's a handful of other submarkets in some of the other cities we operated in where we've got good positions. If we think the opportunity is right, we pull the trigger on that. But certainly those five markets from a broad perspective.
spk04: Okay, great. And if I could just ask one quick follow-up. Cash, things to NOI, 5.5% year-to-date. Midpoint of three-year guidance is 4.9%. So it implies a deceleration in 4Q20. Could you talk a little bit about that?
spk03: Sure. There's a few moving pieces there. And, you know, I think part of it is just timing from quarter to quarter. A couple of those moving pieces, if you look at our in the third quarter of 20 compared to the third quarter of 19 and really the whole first nine months, we're up about 60 basis points in occupancy. So we've had a big uplift in occupancy. same property NOI because of occupancy. But then when we get out to the fourth quarter, we had a really high occupancy comp in the fourth quarter last year. So we're really projecting occupancy to be pretty flat quarter over quarter in the fourth quarter. So that's part of the reason there. Another one that's really impacting the third quarter positively and negatively in the fourth quarter is free rent burn-off. We had a little bit of free rent burn-off In the third quarter of this year compared to last year, that was an uplift. Not significant, but a little bit. It's really turning the other way in the fourth quarter. We have a little bit of extra free rent in the fourth quarter of this year compared to the fourth quarter of last year. So it's a little bit of a negative. So I just look at that as a little bit of timing. And then the final reason is bad debt expense. As I mentioned earlier, we had no bad debt expense in the third quarter of this year. we have in our guidance about $500,000 of bad debt expense in the fourth quarter. You know, hopefully that doesn't happen, but that's based on the guidance. So a lot of little moving pieces that no one individually is a big, big factor in most of it. Great.
spk05: Thank you.
spk09: Our next question is from the line of Brent Ditts with UBS. Please go ahead.
spk17: Hi, thanks. I heard your comments on improved rail and ship volume. So could you just talk about how well you think supply chains are prepared for an acceleration in the pandemic this fall and winter, just assuming that pace of acceleration keeps up for a little bit?
spk15: Yeah, I can give you some high level, and Steve can add some color as well. You know, there's a couple of components. I mentioned in my remarks, you know, the inventory restocking component. And obviously, with the amount of goods that have moved thus far this year, there's a tremendous amount of restocking of inventory. And then second to that is the concept that we've all been talking about for the last couple of quarters, which is the safety stock or increased levels of inventory in the U.S. And I think both of those are driving... you know, what we're seeing in terms of demand, and that would be supported by the increased transportation numbers that we're seeing more recently. So, Steve, you can add some color to that. Yeah, I think the only thing I would add is, you know, we're as engaged with our customers today as we probably ever have been, given what all of us have gone through. You know, there's a lot of talk out there about supply chain resiliency and about where products are coming from. You know, there's articles every day about delivery times from e-commerce and fulfillment centers. There's a lot being done on the restocking side of things. If you look at inventory to sales in the retail category, you know, that's as low as it's been maybe ever in the history down at 1.2 times. So There's a lot of talk going on, and I think we'll continue to see this drive volume in our sector for the near future.
spk17: Great, thanks. And then just one quick one on tenant concentration, both in regards to Amazon, but just more broadly, how you're thinking about that as the business moves towards a greater penetration of e-commerce?
spk15: Well, if you ask me today, I like Amazon. Given everything that's going on in the world, we're pretty comfortable having an A-rated company as a client that's growing as rapidly as they are. But all kidding aside, we recognize that concentration. We have been looking at a number of alternatives. We have mentioned in the past selling some Amazon individual assets, as we have historically done over the last few years. And so I think you'll continue to see us focus on managing it at the corporate level through those types of vehicles.
spk05: Okay, great. Thanks, guys.
spk09: Our next question is from the line of Rich Anderson with SMBC. Please go ahead.
spk16: Hey, thanks. Good afternoon, everyone. So I asked this question to one of your peers last week, I think, but What do you make of the idea that post-COVID things actually start to slow down for your space? You're kind of, you know, fast-tracking e-commerce. It's like shotgunning a beer instead of, you know, sipping it quietly and nicely. And a lot of the good stuff is coming through, you know, like a fire hose at the moment. Is there a chance that this, you know – beyond this environment, which we're all hoping for quickly, could actually slow your business down on the other side of this?
spk15: You know, Rich, I'll start out. There's always a risk, but I think one of the things that comes out of situations like this is these trends never completely reverse themselves. So I don't think, you know, people are going to go back to, you know, not doing any online grocery shopping or going back to pre-pandemic levels. I think e-commerce companies feel very comfortable that the level of conversion that they've had in the last couple of quarters, that they think they can keep the vast majority of those clients. And the other thing I would point to is, let's go back to pre-COVID. We've been on a pretty good run. A lot of that obviously driven by a strong and growing economy. But a lot of that is also supply chain revitalization. Existing retailers and consumer product company having to invest heavily in their supply chain to compete with the e-commerce companies. We've talked before about the need to be able to get product to the customer inside of 48 hours. And if your supply chain doesn't allow for that, that's a problem. We've talked in the last couple of quarters about reshoring or nearshoring, given some of the issues with China that don't appear to be going to go away anytime soon. A lot of our customers have been seeking alternative sources and trying to get product closer to the U.S., if not within the U.S., to alleviate some of those issues. So I think the combination of all of those things would tell you that we're in a pretty good spot going forward. There is always the risk that you mentioned, but I really don't think that's very significant. I think we'll continue to go in the direction we're going.
spk16: And then one of the problems, if it's a problem, I don't know, about your business is it's hard sometimes to know exactly how much e-commerce is playing a role in your leasing activity and your tenants and all that sort of stuff. Does this environment sort of excavate out some observations about how much e-commerce is really playing a role, and do you actually become smarter about your tenants in the aftermath of all this because of what has happened?
spk15: Well, I would answer your question this way. The answer is yes. E-commerce is probably a bigger driver than people give it credit for. First, you have the Amazons and the true e-commerce companies that are out there consuming a large amount of space. Nobody's denying that. We talked about e-commerce being roughly 30% of our volume last quarter. That's absolutely true. The other component is you've got our omnichannel customers that are doing distribution to other retail clients. They're doing their own online sales. Maybe they're doing distribution to their own retail stores. That component, again, being driven by e-commerce and changes, is forcing those companies to make investment. And then the other is the traditional retailers, whether you're talking about Target or Walmart or Home Depot or Lowe's or any of these companies are investing heavily in their supply chain to match what e-commerce can do. So I think aside from pure e-commerce consumption of our space in the sector, it's driving a lot of additional consumption of our space in the sector.
spk16: Okay, great. Thanks very much.
spk09: Our next question is from the line of John Kim with BMMO. Please go ahead.
spk07: Thanks. Good afternoon. That 30% e-commerce market share of leasing that you just mentioned was up from 20% last quarter. And I'm just wondering if you expect that percentage to continue to increase. And then also, what other industries do you see increasing demand? And conversely, what industries do you see waning demand?
spk15: Sure. I think we'll see e-commerce continue to be a big chunk of the activity we're doing, and that may vary. And as Jim said, between retail and omni-channel and 3PLs that are doing work with e-commerce, sometimes it is hard to decipher how deep that goes. But clearly it's the largest driver in our business right now. Outside of that, I mentioned 3PLs, whether that's e-commerce-related, retail-related, suppliers-related, Um, manufacturing assembly, uh, we see that being a good driver of space, uh, consumer goods. You know, I make, I mentioned, uh, our build a suit with, uh, Rick had been teaser. Um, you know, that's somewhat consumer good, uh, healthcare related. And then the final one, which someone mentioned earlier in a comment or question was, uh, the food and beverage side, not just cold storage, but, uh, dry goods as well. Uh, food and beverage continues to be a very active segment for, uh, for us and the sector as a whole.
spk07: On the acquisition opportunities that you guys mentioned focused on Tier 1 markets, can you share any other characteristics as far as what you're looking at as far as small box versus big box, stable assets versus assets with development opportunities, and so forth?
spk10: Yeah, I'll give you – this is Nick. I'll give you a little bit of color on this quarter's activity, which I think will be similar to what we see going forward. For example, we transacted on an asset in Northern California where we did a short-term sale lease back that we expect to redevelop at 20% margins in the future. Over in New Jersey, we found an asset that was leased way below market, about 50% to 60% below market. It isn't covered by a long-term lease, but we were buying it at well below land cost. So we'll be able to get a good return from it with good bumps. then hopefully that will be a redevelopment at some point in the future potentially. We also bought a transaction in Oakland that has good access to the I-880 and frontage to it as well. Those assets are well positioned, slightly below market, below replacement cost, and we'll probably hold and lease those on a long-term basis. So that's kind of what we're looking for. Like I said earlier, You know, we haven't taken on a lot of vacancy risk on our acquisition since we did the bridge transaction, largely because most of that is, you know, we take that risk on the development side.
spk07: That's great color. Thanks.
spk09: Our next question comes from the line of Caitlin Burrows with Goldman Sachs. Please go ahead.
spk01: Hi, everyone. Good afternoon. I think you introduced disclosures regarding short-term leasing and early renewals last quarter, and as of 3Q, it looks like the year-to-date short-term leasing is already higher than full-year 2019 in square footage, and that early renewals are also significantly higher than 2019 levels. So I was just wondering what's driving these increases, and how should we think about them?
spk03: Hey, Kaylin, it's Mark. I'll cover the early renewals, and then maybe Steve can talk about the lease terms. The main driver of the early renewals were to basically extend some lease terms on some assets that we're looking to transact on from a disposition perspective. So these are assets that will probably close either yet this year or early next year, and it's really just to lock the tenant in to longer-term leases to increase our value on the disposition side. So that's really the driver of the early renewals, and then I'll let Steve comment on the lease terms.
spk15: Yeah, the lease term, some of the short-term leasing, you know, I think was done in the second, third quarter where there was a little bit more uncertainty in the market early, late in the second quarter and early in the third quarter. I think you'll see that taper off. Again, some of those are larger transactions that wind up holding over an extra month or two, but I wouldn't read anything into it from an overall macro trend for us or the market.
spk01: Got it. And then another, I think, straightforward one. In terms of bad debt, I know that 3Q was lower than expected and the 2020 guidance now implies just $500,000 of bad debt in 4Q. So is it that there were specific tenants that you had been watching? And if so, then I'm wondering kind of what's the outlook for them and are they out of the woods? Or was it just that you had kind of an amount to be conservative and you did not end up needing that?
spk03: You know, I would say that there's really nothing new out there that troubles me. In fact, you know, I continue to be surprised on some of the folks who have been watching that get caught up. We've even had tenants that we gave deferrals to that are paying them off early to avoid interest charges. So I continue to be pleasantly surprised overall from a collection standpoint. You know, the ones that we're watching that made up the majority of the reserves we took, and are sort of baked in that potential fourth quarter are the industries that are really impacted by COVID. You think like travel, leisure, entertainment, hospitality, event planning, you know, companies like that that truly are really suffering from COVID. A lot of them, most of them continue to pay us, but they're the ones that we kind of watch the most. It's not like we have a lot of exposure to those industries, but that's really what's been on our watch list and continues to be there.
spk01: Got it. Okay, thanks.
spk03: The only thing I would add to that is most all those, in addition to the industries they're in, typically are on the smaller tenant side as well. So they just worry me a little bit from their overall wherewithal to withstand if there's another shutdown or something like that. But most of them actually continue to be current on their rents.
spk01: Got it. Thanks. Yep.
spk09: Our next question is from the line of Kaibin Kim with Truist. Please go ahead.
spk08: Thanks. Hey, guys. So I'm looking at your development pipeline for the projects that you've delivered over the past couple of years. The yields have ranged from like 6.5% to 7%. And the current projects that are under construction, the yield is 6%. Now, there's obviously a mix issue, and you're doing a lot more in California, so the yields by nature should be lower. But then look at your land bank, which you've been eating into, and if you have to reload that land bank with more market-priced land, I'm just curious about what the next couple rounds of development, what kind of yields we should expect, and if there should be further compression that we should just be thinking about.
spk03: Kevin, let me start on the land piece. I mean, you're obviously right. If you're reloading at market-level pricing, that drives costs up. But what I would tell you is in the markets where we've been doing the – On the coastal markets where we've been doing land, it's all at market because as soon as we buy that land, it really goes right into production. I mean, as soon as we can get it entitled. So it's not like our yields in the past have been inflated based on lower land prices, if you will. The yields in those markets are always with land prices at market. And then I'll let Nick or Steve add to that.
spk10: Well, clearly the... Change in yields is based on our geography, the mix of the assets. We obviously were doing more development in the other major markets at slightly higher yields, and as we gravitated to do more coastal tier one development, that's what's driven down the yields there. We continue to see good margins, but land is getting expensive, and it's something that we deal with every day in our business, and we'll continue to manage going forward.
spk08: Okay, thank you.
spk09: Our next question is from the line of Mike Mueller with JP Morgan. Please go ahead.
spk13: Yeah, hi. I was just wondering, have you been seeing anything different in terms of development lease up times compared to prior years? Maybe ignoring what happened during the lockdown, but just thinking about now and kind of going forward.
spk15: No, this is Steve. I will tell you, we as a standard practice, we underwrite a one-year lease-up timeframe on all of our new developments that are spec. We've averaged, we beat that by about three or four months on average. So I would tell you we continue to see good pre-leasing activity in our portfolio. We were just talking today about Southern California, and I think we've done 10 projects in and around the Inland Empire, 10 spec buildings, and we've pre-leased nine of those before the end of construction. So I think we see that as a good sign for the health of our markets.
spk13: Okay, great. That was it. Thank you.
spk09: Our next question is from the line of Eric Frankel with Green Streets. Please go ahead.
spk06: Thank you. I just want to get back to the leasing question, if you don't mind. First, I should have asked this earlier, but your early renewals, that wasn't factoring your cash rent growth, was it?
spk03: It is not, Eric. I mean, we don't count those. Our early renewals are deals that are renewed two years before they're up. So even if we were to count them, it would be misleading, I think, because you wouldn't get to that pop for two more years. And like I mentioned on an earlier question, we'll actually never get to growth anyway on those because they were done in connection with assets we're going to sell. So they're not included as the short answer.
spk06: Okay, great. Good to know. Then related to that, on the cash rent growth figure itself, Can you provide a rough geographic mix of kind of where that's shaking out? Maybe were there a few more coastal market leases that rolled during the quarter? And then maybe you can also discuss on how rents are generally trending. I know you're thinking that coastal market rents are going to continue to grow, but maybe you can talk about what you've seen for the last couple of quarters.
spk03: Yeah, Eric, I'll cover what's in the current numbers, and then Steve can touch on what we're seeing next. Actually, the leases making up our growth really for this quarter and really for the year is really pretty indicative of our overall portfolio. So it's not heavily driven by any one market. So for example, if our coastal market exposure is 35%, that's about the percentage of deals that's in that from the coastal and the non-coastal conversely. So the only thing I would say is you've got to remember that a lot of these non-coastal markets, while maybe the year-over-year rent growth has not been quite as dramatic as the coastal markets, a lot of those leases we have are older vintage leases. So our mark to market on those is still very healthy. And then I'll let Steve talk about what we're seeing.
spk15: Yeah, I think it consists of what Mark said, Eric. You know, we've seen better rent growth in the high barrier coastal markets recently. Seattle, New Jersey, Southern California in particular have been very strong markets for us. In terms of the other markets that Mark covered, again, we've gotten pretty good growth. Probably the one that's been a little challenging for us has been Houston. That'd be the one market I'd point out where that's been a bit of an outlier the other way.
spk05: Gotcha. Thanks for the call, Arthur.
spk09: Our next question is from the line of Jamie Feldman with Bank of America. Please go ahead.
spk11: Hi. I guess just a similar question. Not rents, though, but just cap rates. Can you talk about where you've seen the most cap rate compression across the market?
spk10: Jamie, it's been pretty widespread, I would tell you. Obviously, we've seen – I would say it's probably been 25 to 40 bps. As you see more deals, there's a lot of rumor trades, and then you actually see the trades. We're getting a little more confidence in how much it is compressing. Like I said earlier, we saw a sub-3.5 trade in Southern California. We've seen a sub-4.5 in Atlanta. Then we have seen, I think, a 4. Well, it hasn't traded yet, but a trade quite a bit lower than a 5 cap, closer to 4.5 on the east side of Indianapolis. So it's been pretty widespread. Obviously, there's still a broad range. Not every deal is obviously that. Those are the record cap rates. You're still seeing some things higher depending on what it is and where it is and where the market rents are, but it's pretty widespread.
spk11: And the 25 to 40, that's over what time period?
spk10: I would say from pre-COVID to today.
spk11: Okay. All right, great. Thank you.
spk09: Our next question is from the line of Emmanuel Coachman with Citi. Please go ahead.
spk12: Hey, guys. Good afternoon. I was wondering if there's anything changing on the labor front, either one, from more demand, obviously, as you open more facilities in the distribution space, and two, just getting people out to work given the environment right now.
spk15: Yeah, this is Steve. It continues to be, if not the number one concern of our customers, it's certainly in the top two, if they're not complaining about how much rent is. The lack of labor is a problem. We do labor studies on all of our land acquisition opportunities that we look at, as well as any big vacancies. It's sort of a... an insurance policy for us on the front end that there's enough labor there for what we'd like to do. Most of our customers asked for it in the very first showing. So that continues to be a problem. You know, I think the thought was that may alleviate some with what we saw with the unemployment numbers, but I don't think that necessarily affected what you'd call the essential businesses as they'd open during the pandemic. So continues to be a real problem for us, for our customers, I should say.
spk12: Thanks. And Nick, just going back to the conversation, whether it be on Amazon or any of your other well-leased assets, is there any desire to hold on to the assets, whether it be in a JV structure or, you know, either somehow hold on to them in a portfolio format or sell them in a portfolio format?
spk10: Manny, yes, there would be. You know, we look at each individual asset and sort of think about how it fits long-term into our overall strategy. And so you're going to see some outright sales. You're going to see some that are, you know, long-term holds for us for various reasons. And then we may potentially entertain a joint venture structure on some of them at some point in the future.
spk12: All right. That's it for me. Thanks.
spk09: Once again, if you do have a question or comment, press 1, then 0. Our next question is from the line of Dave Rogers with Baird. Please go ahead.
spk02: Hey, Mark, just a quick follow-up on the straight-line rent reversal. You guys took a big write-down in the first quarter. You said you reversed about a half a million of that this quarter. I guess, one, what triggered that? And then, two, would we potentially see more of that based on whatever happened this quarter that gave you the confidence to bring that back on the balance sheet? Let me know. Thanks.
spk03: Sure, Dave. Well, your second answer is I hope so. We would love to get all that back. I'm not prepared to do that right now. You know, I would just say there was no, it was not like there was any one big tenant or anything like that to cause a reversal. We're continuing to look at our total portfolio and slice and dice it a bunch of different ways. I would say that in short, the general reason that we reversed the $500,000 was just collection experience. I mean, we're you know, seven months through this thing, and we're just a whole lot better off today than where we thought we were going to be seven months ago. We're not through it far enough for me to even entertain reversing the rest of that right now. But, you know, this time next year, hopefully we're talking about the ability to do that, but time will tell.
spk02: Okay, thanks.
spk03: Yep.
spk09: We have no further questions at the moment.
spk14: Thanks, Josh. I'd like to thank everyone for joining the call today. We look forward to engaging with many of you over the next few months, such as at the NAIRI conference in just three weeks. Operator, you may disconnect the line.
spk09: That does conclude our conference for today. Thank you for your participation and for using AT&T Teleconference.
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