Prologis, Inc.

Greetings. Welcome to ProLogic's second quarter 2022 earnings conference call. At this time, all participants are in listen-only mode. The question and answer session will follow the formal presentation. If anyone today should require operator assistance during the conference, please press star zero from your telephone keypad. Please note, this conference is being recorded. I'll now turn the conference over to Jill R. Sawyer, Vice President of Investor Relations. Ms. Sawyer, you may now begin.

Thanks, Rob, and good morning, everyone. Welcome to our second quarter 2022 earnings conference call. The supplemental document is available on our website at Prologis.com under investor relations. I'd like to state that this conference call will contain forward-looking statements under federal securities laws. These statements are based on current expectations, estimates, and projections about the market and the industry in which Prologis operates, as well as management's beliefs and assumptions. Forward-looking statements are not guarantees of performance, and actual operating results may be affected by a variety of factors. For a list of those factors, please refer to the forward-looking statement notice in our 10-K or other SEC filings. Additionally, our second quarter results, press release, and supplemental due contain financial measures such as FFO and EBITDA that are non-GAAP measures. In accordance with Reg G, we have provided a reconciliation to those measures. On July 13th, we announced the merger between Prologis and Do Realty. This call will focus on our second quarter results. The company will not provide comments related to this transaction beyond what is included in our prepared remarks. I'd like to welcome Tim Arndt, our CFO, who will cover results, real-time market conditions, and guidance. Hamid Moghadam, our CEO, and our entire executive team are also with us today. With that, I'll hand the call over to Tim.

Thanks, Jill. Good morning, everybody, and thank you for joining our call. This morning, we reported our second quarter results, which were strong and ahead of our expectations, occupancy, leasing, and rent change, all at record highs. Duke also released their operating results this morning, which tell a similarly strong story. That said, the macroeconomic environment is making it difficult for investors to fully assess the state of our industry. There's frankly a stark difference between what one reads in headlines versus what is actually happening in our business. Accordingly, we find ourselves focusing more on our own proprietary metrics and real-time feedback from our customers to build a forward-looking view of our markets and demand. Before going through that view, let me first step through our results. Core FFO with and without promotes was $1.11 per share, slightly ahead of our forecast. Rent change on rollover was 46%, led by the U.S. at 54%. Retention in the quarter was 79%, driving occupancy higher by 30 basis points over the quarter to 97.7%. All of this led to net effective same-store NOI growth of 7.6% and cash same-store of 8.2%. We started 1.7 billion in new development projects, bringing our year-to-date starts to 2.7 billion. On the balance sheet, we closed on a refinancing of our lines of credit, expanding the total commitment to 5.4 billion, ending the quarter with 5.2 billion of liquidity. We are very pleased to have not only increased our line capacity, but also to have done so while maintaining our spread and staggering maturities. In strategic capital, our net equity Q, which combines the committed Q plus outstanding redemptions and deployment, it was $2.8 billion at the end of the quarter. While performance in the second quarter was strong, we recognize that with the current backdrop, markets do have the potential to soften. Instead of repeating macroeconomic statistics from media headlines, which you all know well, I'll instead share observations from our unique data and insights. At quarter end, we have proposals on 52% of our remaining availabilities versus an average of 38% prior to COVID, reflective of the very active dialogue we've had and the fact that little space remains available to lease in our portfolio. 71% of leases expiring in the next 12 months are either pre-leased or in negotiations ahead of the pre-COVID average of 56%. Lease negotiation periods have lengthened by a few days to an average of 60, while up from the more rapid pace of 50 days across 2021, it has essentially returned to the normalized levels we saw pre-COVID. And as it relates to pricing, our SPIR data which measures normalized effective rents against forecast reflects that markets remain strong and rent growth stays ahead of our expectations. Our field teams report market activity which is totally consistent with all of this data. While the number of customers competing for available space has decreased from unprecedented levels, tempering urgency, our teams report still healthy demand and limited downtime. This is also reflected in our monthly customer survey data, which report high historical utilization at 86% and an IBI index that reflects growth in activity. In the end, we believe we're seeing a normalization in the volume and pace of demand, which we expected as the world reopened from COVID and consumers seek more in-person experiences. But given exceptionally tight markets and availability, the fundamentals remain excellent. E-commerce represented 14% of new leasing, down from approximately 25% in 2021, a shift we've long telegraphed. As noted, overall occupancy and leasing have continued to grow, with take-up coming from a broad set of users, most notably transportation, healthcare, and auto. E-commerce remains a positive long-term trend for our business. Clearly, COVID accelerated its adoption from a 15% share of retail sales pre-pandemic to and running at 23% during. At 21% today, it is roughly 150 basis points ahead of our pre-COVID expectations. We are also seeing the emergence of supply chain resiliency as a secular and incremental demand driver for our business. We hear it from our customers both in daily dialogue as well as our advisory boards, including three events held this quarter. We expect that this need for safety stock will lift demand for years to come although economic uncertainty could cause some delay this year. In light of very low vacancy and healthy demand, we are increasing our overall market rent growth forecast for the year to 23% on a global basis and 25% in the U.S. This is due to a very strong first half where we see rents having increased 14% globally and 16% in the U.S. We continue to see increases in construction costs which provide a pricing umbrella for continued rent growth given the need to uphold expected yields before new spec development can be started. The increase in rents over the second quarter has expanded our lease mark to market to nearly 56%, translating to over $2 billion of embedded annual NOI as these leases roll. Applying this mark to market to our lease expiration schedule will show that net effective same-store NOI growth through 2025 should exceed 8% without any further increases in market rent, an incredible amount of built-in organic growth and resiliency in our earnings. Before turning to guidance, we expect to imminently file the S-4 related to our acquisition of Duke Realty, which will guide the timing of our shareholder votes and the close date of the transaction. The following guidance excludes the deal's expected accretion. Beginning with operating guidance, we expect average occupancy to range between 97.25 to 97.75%, an increase of nearly 40 basis points from our prior guidance. We are increasing our net effective same-store guidance to a range of 7.25 to 7.75%, and cash same-store to a range of 8.25 to 8.75%, each an increase of roughly 90 basis points. Rent change on rollover is expected to grow from our first half levels, increasing spreads to over 50% in each the third and fourth quarters. Given our view of market rent growth, we expect our portfolio's lease mark to market will expand to over 60% by the end of the year. We are holding our guidance for net promotes at 60 cents for the year. Our current appraised values would generate net promote income above this level, but given market uncertainty, we're holding our prior guidance. Our overall deployment guidance is unchanged from last quarter, with the exception of acquisitions, which we have increased to $1.2 to $1.7 billion at our share, based on our belief that opportunities are likely to emerge in the back half, which we'll be well positioned to pursue. I'm also pleased to note that despite extraordinary moves in both interest rates and effects, our forecast remains unimpacted due to our proactive approach to managing both risks through limited maturities and robust effects hedging programs. In total, we are increasing our full-year earnings guidance to $5.14 to $5.18 per share, including promotes, and $4.54 to $4.58 per share, excluding promotes, representing 11.5% growth from 2021. Before closing, I'd like to spend just a few minutes highlighting one of the more important announcements we've made in recent years. Last month, we announced a new commitment to achieving net zero emissions by 2040, a full decade ahead of the targets established in the Paris Climate Agreement. Our plan includes key milestones along the way, such as a dramatic increase in our solar energy production and storage goal to one gigawatt by 2025, more than doubling our previous goal. We will also conduct carbon neutral operations and construction by 2025. Ultimately, we plan to get to net zero without reliance on carbon offsets and our scope one and two emissions by 2030 and net zero in our entire value chain by 2040. It's noteworthy that we are one of very few REITs to commit to science-based targets for our net zero goal. Prologis has long been a leader in ESG, both inside and outside of our industry. We're extremely pleased to have once again raised the bar and hold ourselves accountable to real, measurable, and reportable progress for our investors, our customers, and our planet. We truly feel great about our business and how we've positioned our teams, our portfolio, and our balance sheet to thrive across the cycle, even in uncertain times as we see today. With that, I'll now turn the call over to our operator to take your questions. As a reminder, we won't be addressing questions related to the Duke transaction on this morning's call.

Thank you. At this time, we'll be conducting the question and answer session. To ask a question today, you may press star 1 from your telephone keypad, and a confirmation tone will indicate your line is in the question queue. You may press star 2 if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. So that when we address questions for as many as possible, we ask you please limit yourself to one question. Thank you, and our first question will be coming from the line of Michael Bieleman with Citi.

Hi, it's actually Craig Bieleman here with Michael. I just want to hit on the market-run growth and mark-to-market piece. You know, you guys had 79% retention, 27.9% cash mark-to-market, just peak average occupancy levels. And so I guess maybe a two-parter here, just What breaks the camel's back here in the near term from an occupancy or market rank growth perspective? And then two, maybe Tim, could you just address as you head into the back half of the year and into 23, kind of remind us what that mark to market on a standalone basis means for FFO per share?

Yeah, I can take the second part. We actually really don't break the number down in that way. We have full year same store guidance as noted with a midpoint of it's at seven and a half percent to or sorry, seven and a half percent. And the growth in the back half is probably adding one to two pennies of the run rate that you'll see in Q3 and Q4.

Yeah, and we didn't really hear, I didn't really hear the first half of the question. Can you repeat that, please?

Sorry, Hameed. I was just saying kind of given the strength of the operating metrics, what breaks the camel's back from, you know, the sense of risk to occupancy, market rent growth, and the mark to market here? I know you guys talked a lot about kind of the headline risk versus the reality of what you're seeing on the ground. but just to maybe put out there from your perspective what the real risks are given what you're seeing on the ground.

Yeah, so there is the much-talked-about risk to supply exceeding demand, and there's a fair amount of confusion between the supply and demand balance in the overall U.S. industrial market and the markets that we are involved in. And I'll turn it over to Chris to actually walk you through that because that's a pretty important distinction, and I really don't think there is a risk to supply, particularly given the low vacancy rates from which we're operating today. But let's bookmark that, and Chris will talk about that. On the demand side, the way I think about it is that I've been doing this for 40 years, and I would say prior to last quarter and the quarter before, let's call the peak in terms of strength of market on the demand side as a 10 on a 1 to 10 scale. I think the last quarter and the quarter before were like on 12 or 13. They were just crazy good. And I think this quarter there may be 9.5 to 10. I mean, by historical standards, this would be exceptionally good. I mean, in the five percentile, good for the last 40 years it just it can never be as good as it was in the last quarter and the quarter before because frankly everybody reads the same papers and if you're a CEO of a company and are you looking to expand your operations you're going to just take your time a little bit more just to be sure that you're not making a stupid mistake so the difference between sort of grabbing grabbing every piece of space that you can see is which may push demand, you know, 10%, 20% above what is really needed, probably in an environment like this could have them be conservative by 10% to 20%. And that swing is basically coming out of the froth that we saw in the last two quarters. So that's the way I think about it. But Chris can give you the supply-demand numbers because there's a lot of misunderstanding on those factors.

Yeah, let's be clear, and indeed, We publish our data quarterly to try and help bring clarity to the marketplace. And what does that data reveal? Well, we forecast 375 million square feet of net absorption and completions this year, calendar year 2022, and see vacancy rate falling to 3.2%. Now, our statistics focus on our 30 U.S. markets and is based on the leading source in each market. Now, we could look out to 2023. It's a little early, but we foresee a gap, say, 50 to 100 million square feet in differential between supply and demand. That would lead to a moderate rise in market vacancies, but they would remain below 4%, which is well below the pre-pandemic and historical averages. Now, what we're seeing when we look at market commentary is that sources, some sources are using unconventional methodologies, and also include additional non-prologist markets. So, for example, the next 20 U.S. markets, places like Memphis, St. Louis, Detroit, have a market vacancy rate that's roughly one percentage point higher in our markets and do have a supply-demand imbalance, with 126 million square feet under construction versus trailing 12-month net absorption of 88 million square feet.

Yeah, the other thing that's going on, and we're probably overkilling this response, but I think it's a probably the single biggest area where we get questions on. Construction has not only become expensive, but also construction periods have been really stretched out because of limited availability of certain components. And by the way, we've been really good about ordering that stuff ahead of time. I'm talking about the market, not our situation in particular. So an extended construction period will make the pipeline of supply sound bigger. So if you're having a third longer construction period, which is sort of what we're estimating, with the same amount of supply, the numbers will just be a third bigger. That's just math. So, again, a lot of confusion about this issue, and I think it's the single biggest disconnect between investor perceptions and the reality on the ground.

Thank you. Our next question is from the line of Steve Stockwell with Evercore ISI. Please receive your question.

Thanks. Appreciate the comment, Sameed, on supply and demand. Could you maybe just talk a little bit about region and kind of what you're seeing both in the U.S. and Europe, just given some of the bigger challenges that we're seeing in Europe right now?

Well, let me give you the general commentary on Europe. Europe is as good as I remember Europe being. Because actually the war and sort of the excess population that's come out of Ukraine and in central, in the neighboring countries has actually increased demand and led to actually, you know, better market dynamics for unfortunate and tragic reasons. But it simply has. I would say the UK has slowed down a bit given what's going on with the politics. But Europe is generally a more muted market than the U.S., both on the supply and on the demand side. And that's why we're showing lower rental growth for Europe compared to the U.S. So that's not that unusual in terms of its historical relationship. Chris, do you have anything to add to that?

Yeah, I would add, look, the U.S. has been a market leader, especially on the coast, with rent growth meaningfully outperformed lower barrier markets. We're talking about 10% to 15% annual rent growth. It's better on the coast. And outside the US, whether it's Europe, whether it's the UK, whether it's Toronto, whether it's Mexico, vacancy rates are below 2.5%, and we're seeing some of the best market rent growth we've ever seen.

Thank you. Our next question is from the line of Tom Catherwood with BTIG. Please proceed with your question.

Excellent. Thank you, and good morning, everyone. Appreciate your comment about proposals on remaining availability of 52%. I think that was the number versus 38% pre-COVID. How does that 52% compare to the last few quarters? And then maybe more broadly on your kind of leading indicators, how much of a lag have you experienced during prior cycles between a fall off in demand and fundamentals and warning signals coming from your proprietary metrics?

Yeah, thanks, Tom. Basically, the 52% we measured this last quarter is the strongest it's been. It has accelerated from that pre-COVID number that we quoted of 38%, lifted up into the 40s through COVID, and has now hit what I think is an all-time high. And, Chris, maybe you can pick up the past cycles.

Yeah, so I'd start by saying some of these insights are based on our investments in data that are unavailable elsewhere. in real estate and uniquely available in this cycle. One metric that we invented in the last cycle was the IBI by way of a preview or by way of retrospective, I suppose. That metric is great at predicting next 12 months of net absorption and remains at a healthy level today.

Yeah, and the absolute vacancy rates today are just crazy low. I mean, like half of what they were in prior cycles. at the peak of the market. So we're talking about, just so that we've got our cycles clear, probably some of you on the call weren't even born then, but I'm talking about the early 80s oil crisis, the late 80s, early 90s, you know, S&L crisis, real estate crisis, the dot-com collapse in the early 2000s, the global financial crisis. Compared to all of those, First of all, I don't think we're looking at the same side of the situation, and certainly we're not starting off a vacancy rate that starts with a three. So I think it's crazy that we're even thinking about those situations.

Our next question comes from the line of Jamie Feldman with Bank of America. Please proceed with your questions.

Great. Thank you. Maybe shifting gears a little bit and thinking about asset values. It looks like you're going to ramp up your acquisitions in the back half of the year. I assume that means you're finding some interesting opportunities. Can you talk about how much you think cap rates have moved and how much you think asset values have moved and maybe what looks interesting to you that you're ramping up your outlook?

Yeah, good question. The fact of the matter is we're not seeing that much because just like any other market cycle, when people see an inflection point, basically transaction volume goes down. And buyers basically go in on deals that are in progress, try to get a price reduction. And oftentimes they don't get it and it just doesn't transact. So there is not a whole lot of visibility there. as to what values are likely to be. I can also tell you that based on our appraisal, external appraisals, which we have to do for our private capital business, the external appraisers have actually written up our values by 4% this past quarter. Now, are we gonna believe that? No, because appraisals are backwards looking. So certainly I think valuations are somewhat more muted particularly because the fraud is not there because of the typical leveraged buyer having a harder time being the marginal buyer. Having said that, I think cap rates are likely to remain pretty strong. If you were going to sort of give me a truth serum and say, where do you expect this to settle, I would say 10 to 25 basis points higher than where we saw it. prior to the downturn. And that's on top of the 4% that people have written up. In other words, not from that level. If it's 100, I would say going down 10 to 25 basis points in terms of value, as opposed to going up by 4% on value. So, Dan, do you have anything to add to that?

Yeah, the only thing I would add to that, Jamie, six weeks ago at NAREIT, we talked about we were entering a period of price discovery. And I think at the time we thought it would be 60 to 90 days before we started seeing some of those comps shake out. And we're just not quite seeing it yet. Volumes are way down. Deal volumes are way down. And we're hearing of a number of renegotiations happening for deals that were tied up before the headlines started getting ugly. So at this point, We'll see how it plays out, but this is in sync with what we were thinking six weeks ago.

Thank you. Our next question is from the line of Keevan Kim with Truist. Please proceed with your question.

Thanks, Don. Good morning out there. So just putting together some of the commentary around normalized customer behavior or lease proposals, how does that translate into your willingness to deploy capital on developments? So on a combined basis, you and Duke are probably reaching close to $6 billion. Is that a sustainable level given some of the things that you're seeing, or how should we think about that changing?

Yeah, our development activity is always bottoms up, deal by deal, leasing opportunity by leasing opportunity. And remember, we're not developing in new markets. We're developing in places where we have. I don't know, 20, 30, 40, in the case of Southern California, over 100 million square feet of activity that we're seeing on a day-to-day basis. So they're bottoms up. They're not like we're building to a goal. It's not that at all. But we are likely not going to be deploying the same amount of capital in development across the cycle. I think we're on the good side of the cycle. Where that will moderate, I don't know. But, you know, construction costs today are probably up 50%. Land values are up significantly. So the rents you need to get acceptable margins, and I mean land values at market, not land values at our cost, because with our cost we have significant margins. really make it tough to make some of the numbers work, particularly for a lot of our competitors that buy land as just-in-time type of acquisition. So I think that's a real limiter and governor on profitable development, and we'll just see. But across the 10-year cycle, we're towards the high end of deployment levels today for sure.

Thank you. The next question is from the line of John Kim with BMO Capital Markets. Please proceed with your question.

Thank you. Similar line of questioning. The yields you have on development starts increased to 6.1% this quarter, which is a pretty wide spread to your acquisition cap rates. But it was the acquisition guidance that increased that development starts. I was just wondering how easy it is to pull forward some of the developments opportunities earlier, just given the increase in margins and development yields.

One thing I'll just highlight and maybe throw it over to Dan is just that the development yields you are looking at there, while conservative, would incorporate our view of rents at the time that the assets are stabilized and as the leasing is occurring, whereas acquisition cap rates are going to be reflecting current and in place NOI. So that's a pretty big gap in there to appreciate.

And as it relates, this is Dan, as it relates to how quickly we can pull forward starts, we've got this land bank as a differentiator right now, right? We've got two and a half million worth of land on the balance sheet worth nearly double. So this is land that's largely entitled and ready to go. So that's really the beauty of our development business is that we can start and stop as we see the demand.

Yeah, the only thing I have to add is that implied in your question is that we think it's really important to pull forward development. Again, it is not. We're not building to a particular budget or anything like that. So if we see the market, again, bottoms up deal by deal, not being as strong as we want it, we'll just happy to sit and not develop in that market. Not to mention that the big portion of our developments are built to suit and lease, so we know the economics going in.

Our next question is coming from the line of Michael Goldsmith with UBS. Please proceed with your question.

Hi, good afternoon, good morning. Thanks a lot for taking my question. My question is on the near-term expected strength and how that evolves. Your same-store NOI guidance implies it remains at about 8.5% in the back half. Last year, growth in the back half was about 200 basis points higher than the first half. So can you talk about the contributing factors that allow you to achieve stable results despite the more difficult comparison. So accelerating results on the two-year stack and not asking for guidance here, but can you help marry that with when the impact from the expectation that conditions normalize, like when can that start to weigh on some of the fundamental numbers that you report? Thank you.

Yeah, it's Tim. I would say two things. One, the back half, and I think this we discussed last quarter, does not have the occupancy gains that we see in Q1 and Q2 that this year same store is enjoying. In the back half, the occupancy gains driving same store are more muted, and it's pretty much rent change from there. I think to shift your question more to the long term, I'd refer back to my comments for the script, where you can look at our expiration schedule, you can use the lease mark-to-market we've highlighted, establish a market rent, and look at the rents expiring in the remainder of this year, next year, 24, et cetera. That's the point I made about computing easily 8% same store growth enduring for many years to come. So that's how I would use the data and then look at that resiliency.

By the way, other than this cycle, in the entire history of the company, the highest same store number ever was 6.5% for the forward one year. So we, I mean, to have sort of 8% rental growth for multiple years, like five years, is just crazy good because the market to markets are so high.

Our next question comes from the line of Ronald Camden with Morgan Stanley. Please proceed with your question.

Hey, just a quick one on Amazon. You know, they talked about putting space back on the market. Maybe can you give us What's the update in terms of what you've seen in your portfolio and in the market in terms of space being put back and what you're hearing? Thanks.

Hey, Ronald. Mike Curliss. We've heard the same rumors out on the street, the 10 to 30 million square feet. None of it has been substantiated by Amazon. And what matters is what we're seeing on the ground. And we're not seeing much at all. We had our national broker calls last week. Literally heard about one space that's out there for sublease in the markets that we focus on. But more importantly, let's go to our portfolio of 132 spaces. And early on, we had an inquiry on two out of 132. Let me reemphasize, just two. And early on, those got taken off the table. So we have zero in play. And I think if you're very familiar with our portfolio like we are, it should not be a surprise. Those are mission-critical facilities located near it. Population centers, and to put a finer point on that, in the last 18 months, our retention rate in that set of spaces at Amazon has been 95%, 20 points higher than our company average at the same time. And just take it one step further, as we look to the future, we're 99% leased in the 36 markets we're doing business with them. We have 54% in place to market, very favorable there. So I think we are very well positioned for anything that might come our way.

Yeah, the only thing I would add is that I didn't listen to the Amazon earnings call, but I got more questions about that one comment than, you know, comments from the entire industrial real estate industry, which is pretty consistent. So I guess if you have a market cap of over a trillion dollars, people listen to you a lot more. But I think the single biggest miss for investors is that they've read too much into that commentary and The facts on the ground just don't support it. So that's all I have to say. And I'm prepared to be on the record for that.

Our next question comes from the line of Todd Thomas with KeyBank Capital Markets. Please proceed with your question.

Hi, thanks. Good morning. Within the context and conversation about the lease negotiation period and decrease or I guess normalization and competition for space, Are you expecting some of the leading indicators you track to continue normalizing or softening a bit further as you look out over the next several quarters? Or do you think that you might see conditions and underlying fundamentals stabilize at current levels just a bit off the extreme peaks you discussed that you realized over the last few quarters?

I think if I were going to bet, of course, nobody knows. is that I think that we'll normalize at a higher level than normal. But right now, I would say it's prudent to assume that down would be slightly down, but better than most market cycles. So that's the way we're running our business.

Our next question comes from the line of Anthony Powell with Barclays. Please proceed with your question.

Hi, good morning. You mentioned that you saw transportation, healthcare, and auto pick up in terms of mix of leasing. What's driving those sectors to really pick up their activity and would you expect them to continue to kind of lead via the mix here over the next several quarters?

Yeah, here's what I would say generally. We lease about a million square feet a day, actually more than a million square feet a day. But as big as we are, Once you start dividing the numbers into the markets we operate in and the economic sectors that we lease to, the 1 million square foot lease can move the numbers around radically in a quarter. And by the way, if you look at the same kind of data from other companies, you know, 100,000 square foot lease can really move their numbers around. So I wouldn't look at those statistics on a quarter-by-quarter basis. I think they're totally meaningless because of the law of smaller numbers. So the answer is I don't know, but I don't think – I wouldn't look to that for any kind of long-term assumptions on how to run our business.

Our next question comes from the line of Vince Devone with Green Street. Please receive your question.

Hi, good morning. Have your expectations for supply, supply completions in 23 changed in recent months? Are you seeing any other players taking a pause from new spec development starts to the macro concerns?

Hi Vince, it's Chris Caden. Yes, our expectations have evolved a couple ways. One is first for this calendar year we have reduced it, not increased it based on the challenge of delivering product as Hamid described earlier and products basically getting stuck in the supply pipeline. We have also reduced our view for next year just as you surmised based on fluidity in the landscape and the rise in financial return.

Thank you. Our next question comes from the line of Michael Carroll with RBC Capital Markets. Please proceed with your question.

Yeah, I just have a real quick question. I know the gap mark to market is about 56% today. Can you provide some color on what the cash mark to market is? I believe a few quarters ago you highlighted it was near 30%. Can you kind of highlight where that has trended?

Yeah, it's moving by the same delta roughly at the end of the quarter. It was 48%. You've probably heard me say that's not a number I find very useful. I would focus on the net effective because that stat is heavily influenced by where you are with remaining lease terms. So it creates all kinds of problems interpreting it. And the net effective number that we gave you of about 56%, I think is a better representative of what's going on in the economics and the leases and also better representative of what will go on in our earnings.

Thank you. Our next question is from the line of Nikita. Nikita Bailey with JP Morgan. Pleasure to hear your question.

Hi guys. Can you talk a little bit about the institutional capital in your funds business? Any conversations you've had with them and is there any change in the amount of capital that these folks are willing to put into your funds and any call you could provide around that subject?

Sure. I would say a similar to the fundamentals of our business in the past couple of years, we've had more demand for our funds than we've chosen to take money for. In other words, we've turned down people who wanted to invest money in our funds because we had these really long queues and it was irresponsible to keep taking money when we had a hard time deploying that volume of money. I would say that has shifted a bit. So demand for new product has shifted down. And on the margin, there is a little bit more of redemption requests. Well, a little bit more. Before it was zero, and now we have some redemption requests. All of this is reflective of what I call the denominator effect, is that, you know, their stock and bond portfolios are getting hammered. Their private equity and venture portfolios are getting write down. So basically, real estate generally is getting to be a larger percentage, and they have to rebalance. And industrial is probably the best sector to rebalance out of because that's where the liquidity and the market strength and the embedded gains have been in the last market cycle. So not at all surprising, but we still have plenty of private capital to run our business for a long, long time. And I think we have a great franchise in that area and one that has been really well tested in through three or four market cycles. And by the way, that's the same reason we've kept our leverage in that business so low. Because when everybody's kind of levering up, the thing to do is to run your business unlevered. And if we see some great opportunities coming out of that cycle, Our remaining powder is not just what we have in the queues that we talked about, but also the opportunity of levering up to the more normalized level that those funds were designed to do. So I don't think capital is a constraint for us on the private side.

Our next question comes from the line of Bill Crow with Raymond James. Please proceed with your question.

Good morning. Thanks. Within the context of the market rent growth that we're talking about and the street expecting kind of four or five years' worth, are you seeing any markets where either sequentially or on a year-over-year basis market rents are starting to come down from their peaks? Oh, go ahead, Chris.

Hi, it's Chris Caden. I ran through the regional differences. And the pace of growth this year is, in fact, higher than last year. So all the U.S. and those differentials, Europe as well, is faster, not slower. So we have quite a bit of momentum. In terms of individual markets, you know we track our supply risk markets, and that list has not appreciably changed over the past year. We are watchful of supply in a handful of markets. Dallas, Indianapolis, and Phoenix. But we would not rate that supply as too much to damage rent growth, but those are a couple of markets we are watching.

Thank you. Our next question comes from the line of Derek Johnston with Deutsche Bank. Please proceed with your question.

Hi, everybody. Many companies like retail, they're reporting higher inventory levels. And inventory to sales ratios are creeping up. So now how is the inventory build demand driver that you guys discussed impacted last quarter's leasing? And are you seeing any delays now for this year? Or really in the opening, just to clarify, was that cautionary given the macro? So any more insight as we're working to get our head around this emerging driver? Thanks a lot.

Hey, thanks, Derek. It's Chris Kaden. Yeah, indeed, Tim summarized our view, and we do think it's in his script, and we think it's appropriate to be proven in macro. In fact, we're getting a lot of questions on this, just as you're asking. So we're going to publish a paper this week on this very topic. Look, summary is the buildup of real inventories for resilience is really only half done, and it's progressing. It's progressing with our view. Now, notwithstanding some of that excess inventory for some retailers, for some products, which you just described, the broader landscape has continued to focus on raising inventory levels, reducing stock outs, and reintroducing product variety. As it relates to leasing, we are seeing it in the marketplace now for resilience. I'll just give you the basic numbers. Trend demand growth in our 30 markets is roughly 200 to 225 million square feet per year, And we are running at a pace of 300 million square feet per year. So we have indeed seen quite a bit of growth in excess of, excuse me, it's 400 million. So 300 realized over the last 18 months. So we've begun to realize some of these structural drivers, but more is in front of us than has been realized.

Yeah, I would say this is the second worst understood point about our business. I think I would put Amazon first and I would put level of inventory second. That's why we've chosen to put out this paper, and I just invite you to get into the nuances. These kinds of numbers, particularly sort of ratio-type numbers, can be very misleading if you don't parse them out. For example, whether you include autos or non-autos or general merchandise and non-general merchandise, you'll see those conclusions to be radically different.

Thank you. Our next question is from the line of Nick Ulico with Scotiabank. Please just share with your question.

Oh, thanks. I just had a couple questions here on page four where you give the leading indicators. I guess on lease proposals, I just wanted to see, you know, what you would attribute to that number having coming down. You know, is that just now finally realizing the Amazon effect, removing them from the market? I mean, lease proposals look like they're down 10%, 15% versus their three-year average. And then on the IBI activity index, I just want to also make sure, you know, in terms of what you're surveying people about, is that really looking forward on space demand, or is it more of a – I mean, the chart looks like it's almost more of a coincidental indicator rather than much of a leading indicator if you look at the last sort of two recessions and how it played out.

All I can tell you is that it's hard to increase lease proposals when you have less space to rent. We only have 2% vacancy. So the metric that you should think about is the one that we mentioned in the script, which is that we are 52% on our vacancy at this point in the cycle, which is by far higher than the normal point in the cycle in terms of releasing of our vacancies. These are proposals, by the way.

And as it relates to the IBI, which you asked, we find it to be more closely correlated with next 12-month net absorption than any other economic indicator.

Thank you. The next question comes from the line of Dave Rogers with Baird. Please receive your questions.

Yeah, thanks. Given the comments you made earlier just about the price discovery and the market, curious about your thoughts around asset sales dispositions. You didn't update guidance, but should we anticipate that that pushes later into the year? And then maybe more broadly, as you bring Duke on board, not a question about them, but about you, that effective transaction is a deleveraging event, it seems, for you guys. So do you run leverage back up as a company? Are you comfortable where you are, or do you run lower kind of in the future and trying to think about asset sales and recycling going forward?

Yeah, pretty hard to run leverage any lower than where we are. But we're not consciously thinking of leveraging up. And the fact that the combination will actually improve or reduce our leverage is totally coincidental. We're not doing the deal to reduce our leverage. Our leverage is pretty low. So I would say our leverage is probably much lower than it's likely to be across the cycle. But again, that's opportunity driven, not sort of top-down driven. Tim, anything else?

No, fully agree on how we view that transaction. And then with regard to DISPO timing, nothing has really changed in our forecast. The holding of our guidance reflects our original view. There's always puts and takes on which quarters some things will land in and what the right mix of assets are going to be, but we're good with our guidance.

Yeah, let me just give you an example of this pro guidance. We had a portfolio that we had on the market, nothing to do, obviously, with Duke. And the buyer came back for a price discount. And we basically told them they can take a hike. The same thing happened in the week that the world shut down because of COVID. A buyer came in. They were way down the road on the acquisition and they came back, this is two years ago, for a price discount, okay? And we told them to go away. They came back a year and a half later and they paid 15% more than they had the deal tied up on. So 20% more than where they were trying to drive the price down. I'm not saying the same thing will happen, but I'm just saying, look, At the end of the day, no level of disposition or acquisition or development is going to affect a company that's of this scale and diversity.

Our next question comes from the line of Michael Buehlman with Citi. Let's just see if you have a question.

Hey, Hamid, just staying with sort of the investment market, just wanted to get some of your views. thinking about it more so from an IRR perspective than a cap rate, just given how large of a mark-to-market there is today in various assets, talking about a spot cap rate sometimes leads to different conclusions. And so I'd be curious of your view how you're approaching it from an IRR basis, either on a five- or seven-year basis, and how you're thinking about the required return, but also how you're seeing the institutional investor change perhaps their view overall on underwriting.

Third least well understood point, and you make a great point. What does a spot cap rate mean if your mark to market is 50 basis points? You know, if you're investing in apartments, there is no mark to market, so the cap rate is the cap rate. But the fact that you have that built-in mark-to-market, just as your question suggests, that alone would drive cap rates way down. So I think the IRR is a much better measure of return requirements. And I would say a quarter ago, we were seeing transactions go down in the low five unleveraged IRRs, which is the way we like to look at it. By the way, we're in investing today. those kinds of returns but they were literally low five irrs with an average i would say rent growth forecast a market rent growth forecast uh probably three percent okay today i would say i would say the discount rates that people are likely to look at uh are gonna have a six in front of them low sixes but the rental growth forecast even with the same 3% market rent forecast, is going to be substantially higher than before because the mark-to-markets have expanded. So the lease mark-to-market of 3% is on top of the mark-to-market. So the total lease growth rate is increasing. So I'm not sure the cap rates are going to move around that much because of the mark-to-market issue. I think what's going to happen is most people don't get that, so they're going to pause a bit on volume of deployment. But anytime anybody wants to bring a good deal in one of our markets with 50% mark-to-market at the kind of cap rates that we saw maybe three quarters ago, our number is 1-800-PRO-LOGIST. We'd like to buy as much of that stuff as we can. Because I think to invest in that with that mark-to-market and that level of discount to replacement costs is our dream come true. And our leveraged friends can't do that. So it's a great environment.

Thank you. Our final question is from the line of Jamie Feldman with Bank of America. Please proceed with your question.

Great, thank you. I mean, I don't know if you can quantify this or not, but when you think about your leasing pipeline, the proposals you've mentioned, you know, 52% of remaining vacancies, can you break that out by how much of that you think is recession-sensitive versus not? So I guess I'm asking, you know, when you think about if they're really trying to get, you know, supply chains resilient and all the secular trends we're talking about, you know, how much of the leasing pipeline would just power through that versus... you know, take a pause if we do, in fact, have a mild recession, as a lot are calling for.

Jamie, it would be pure speculation. I have no idea is the personal answer. First of all, I'm not sure we're going to have a recession. Secondly, I have no idea if we have a recession, how deep or extended it will be. I'm not sure even what the definition of – of a recession is anymore, you know, because we've got now this committee deciding whether we're in a recession or not, and they usually declare it a couple quarters after it happens. So the answer is, I have no clue. That's the honest answer. Okay, that was the last question. Really appreciate your interest and look forward in our continued dialogue. Take care. Thank you.

This will conclude today's conference. You may disconnect your lines at this time and log off your computers. Thank you for your participation. Have a wonderful day.