A Dose of Reality in the Warehouse Space

Industrial, and especially logistics and warehouses, was one of the big winners of the pandemic. It’s still going strong, but expect some changes soon, according to executives at Prologis in its quarterly earnings call.

The company saw 79% retention in the most recent quarter, with occupancy climbing to 97.7% and same-store NOI growth of 7.6%. There were proposals on the desk for just over half of remaining availabilities versus 38% pre-Covid average. And 71% of leases expiring in the next 12 months are either pre-leased or being negotiated. But negotiation periods are back to normal pre-pandemic levels. And where e-commerce had been 25% of new leases, that’s down to 14%.

“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,” Prologis CFO Tim Arndt said. “But given exceptionally tight markets and availability, the fundamentals remain excellent.”

However, recent performance has been something that was extraordinary and maybe not repeatable. “On the demand side, the way I think about it is that I’ve been doing this for 40 years,” CEO Hamid Moghadam said. “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 one 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.”

That’s still in the 95th percentile of performance over the last 40 years, but it’s not something that exceeds the guitarist in the 1984 mockumentary This Is Spinal Tap painting an 11 on his amp so the volume would be higher.

A tenant will “just take your time a little bit more, just to be sure that you’re not making a stupid mistake,” Moghadam added. There’s unlikely to be a case where, say, an Amazon snaps up everything in sight only to turn around as it did in May and start releasing 5% of the space it added during the pandemic.

Moghadam doesn’t see Prologis deploying the same amount of capital in development as it had been. “I think we’re on the good side of the cycle. Where will that moderate? I don’t know,” he said. “But construction costs today are probably up 50%, land values are up significantly.” And, as he’d later add, construction times are up by a third. So, rents have to be higher, which increases the caution of client CEOs.