Rexford Industrial Realty Inc

NYSE:REXR

Earnings Call Analysis

Rexford Industrial Realty shows 11% FFO growth with stable outlook

Rexford Industrial Realty reported a strong Q2 with Funds From Operations (FFO) increasing by 11% year-over-year to $0.60 per share. Same-property Net Operating Income (NOI) rose by 6% on a net effective basis and 9.1% on a cash basis. Leasing spreads were also robust. The company has embedded $229 million in NOI growth over the next three years, targeting an increase of 35%. The guidance for 2024 FFO per share has been upgraded to $2.32-$2.34, representing an annual growth of 6-7%. Same-property NOI growth is projected to be 7-8% on a cash basis and 4.25-5.25% on a net effective basis.

Company Performance Overview

Rexford Industrial Realty showcased a robust performance in the second quarter of 2024, emphasizing the strength of its infill Southern California industrial market. The company's dedication to smaller and medium-sized spaces, averaging 26,000 square feet, differentiates it from the big box market. With consolidated net operating income surging by 21% and Funds From Operations (FFO) per share rising 11% year-over-year, Rexford demonstrates strong growth. Lease spreads were particularly impressive, with a 68% increase on a net effective basis and 49% on a cash basis. The company's same-property occupancy also improved, ending the quarter at 97.3%.

Financial Health and Liquidity

Rexford maintains a solid financial footing with a low leverage balance sheet. By the end of the second quarter, the company's net debt to EBITDA ratio was 4.6x, aligning closely with its long-term target leverage range of 4 to 4.5x. The company has nearly $2 billion in total liquidity, including approximately $830 million from forward equity proceeds, $126 million in cash on hand, and a $1 billion revolving credit facility. No near-term debt maturities are anticipated until mid-2026. This financial stability positions Rexford to seize opportunistic and accretive investments, furthering earnings per share growth and net asset value appreciation.

Operational Efficiency and Market Dynamics

Rexford's operations reflect its strategic prowess within the Southern California market. The company completed 2.3 million square feet of leasing activity, achieving notable absorption rates and bolstering operational efficiency. Rent trends showed some volatility but generally supported current levels due to limited net supply increase. Rexford's investment activity during the quarter amounted to $170 million, expected to yield substantial returns. The capital recycling program also brought in $37 million from property dispositions, with an internal rate of return of 12.9%. The ongoing modernization and functional improvements of vintage properties enhance the value and competitiveness of Rexford's portfolio.

Value Creation and Future Growth

A significant growth driver for Rexford is its focus on value-add strategies, including property improvements, repositioning, and redevelopment. Over the next three years, these activities are projected to generate $95 million in incremental Net Operating Income (NOI). The mark-to-market adjustments of below-market leases are another promising avenue, expected to contribute $82 million in NOI. Embedded annual rent steps of 3.7%, an improvement from the prior quarter, are forecasted to add $47 million. Collectively, these initiatives predict a 35% internal growth, driving cash NOI to $886 million by 2026. This robust growth forecast assumes steady market rents and no further acquisitions.

Guidance and Strategic Outlook

Rexford has increased its 2024 FFO per share guidance to a range of $2.32 to $2.34, signifying 6% to 7% year-over-year growth. The company expects same-property cash and net effective NOI growth between 7%-8% and 4.25%-5.25%, respectively. Projected occupancy rates for 2024 remain strong, though a slight decline in the second half is anticipated due to expected move-outs. Full-year estimated leasing spreads are 55% on a net effective basis and 40% on a cash basis. The company anticipates concession levels to remain low and consistent with previous forecasts. Despite some influences from municipal and utility delays, the overall trajectory for repositioning and redevelopment projects remains positive.

Earnings Call Transcript 2024-Q2

[Operator]

Thank you for standing by. My name is Mandeep, and I'll be your operator today. At this time, I'd like to welcome everyone to the Rexford Industrial Realty, Inc. Second Quarter 2024 Earnings Call. [Operator Instructions]

I would now like to turn the call over to David Lanzer, General Counsel. You may begin.

[David Lanzer, executive]

We thank you for joining Rexford Industrial's Second Quarter 2024 Earnings Conference Call. In addition to the press release distributed yesterday after market close, we posted a supplemental package and investor presentation in the Investor Relations section on our website at rexfordindustrial.com.

On today's call, management's remarks and answers to your questions may contain forward-looking statements as defined by federal securities laws.

Forward-looking statements address matters that are subject to risks and uncertainties that may cause actual results to differ. For more information about these risk factors, please review our 10-K and other SEC filings. Rexford Industrial assumes no obligation to update any forward-looking statements in the future. Additionally, certain financial information presented on this call represents non-GAAP financial measures.

Our earnings release and supplemental package present GAAP reconciliations and an explanation of why such non-GAAP financial measures are useful to investors.

Today's conference call is hosted by Rexford Industrial's Co-Chief Executive Officers, Michael Frankel; and Howard Schwimmer, together with Chief Financial Officer, Laura Clark. They will make some prepared remarks, and then we will open the call for your questions.

Now I turn the call over to Michael.

[Michael Frankel, executive]

Thank you, David, and welcome, everyone, to Rexford Industrial's Second Quarter Earnings Call. I'll begin with a few remarks, followed by Howard, who will provide market and operational detail, then Laura will provide our financial results and outlook.

I'd like to begin by thanking our Rexford team for your strong results, demonstrating the strength of our Rexford platform and the resilience of our infill Southern California industrial market.

As a reminder, we are the only industrial REIT focused exclusively on investing principally in smaller and medium-sized spaces within infill Southern California, where we find superior tenant demand fundamentals and substantial opportunities to add value. With our portfolio's average space size equal to 26,000 square feet, we operate in a fundamentally different segment of the market as compared to the big box market comprised of buildings in the 250,000 to over 1 million square foot range.

Our segment of the market is a much larger portion of the market, is a much higher barrier segment of the market and our target infill tenant base has proven to be more stable through cycles as compared to the big box market within Southern California.

Turning to our second quarter performance. We are pleased with the team's strong operating results, which continue to track the expectations we set earlier this year. On the leasing front, the team completed 2.3 million square feet of leasing activity, generating leasing spreads of 68% on a net effective basis and 49% on a cash basis. We generated 400,000 square feet of positive net absorption to end the quarter with our same property portfolio occupancy up 70 basis points to 97.3%.

The Our second quarter consolidated net operating income was up 21%, and our FFO per share was up 11% compared to the prior year quarter. Net operating margins were up 50 basis points to 77.7%, compared to the prior year quarter, demonstrating the quality of our growth through increased operating leverage.

As expected, our infill industrial markets continue to normalize from the pandemic era levels of frenzy demand, which continues to be impacted by persistently high interest rates and uncertain domestic political environment and ongoing global unrest.

Despite these macroeconomic factors, our infill Southern California industrial markets continue to demonstrate relative resilience supported by the strongest underlying long-term supply-demand fundamentals of any major industrial market in the nation. Drilling down into our segment of the infill Southern California industrial market, we continue to see a distinct bifurcation in relative performance in favor of higher quality, highly functional, small- to medium-sized spaces compared to the older vintage, less functional product that makes up the vast majority of our 1.8 billion square foot infill market.

The long-term outlook for our infill Southern California market remains very positive due to a virtually incurable long-term supply-demand imbalance. The near-term outlook for market rents may continue to reflect a nominal level of volatility. However, we believe the foundation for market rent growth is inherent within our markets. Our tenants are indicating through their behaviors that they expect to pay higher rents in the future. They are expressing this expectation through their proactive renewal activity and through the average compounding 4% annual contractual rental rate increases we are embedding within our leases.

The relative resilience and superior performance of the Rexford portfolio reflects our differentiated business model and market opportunity focused on value creation. The single greatest driver of our growth over time is generated through our value-add modernization, repositioning and redevelopment of vintage and underutilized properties within Southern California.

With over 1 billion square feet of product built prior to 1980 within our target infill market, we benefit from an almost limitless palette of opportunities to drive value creation into the foreseeable future by substantially increasing the cash flow generating capacity of these properties through physical improvements that are not reliant upon market rent growth to create value.

Rexford's forward internal growth opportunity is also substantial and reflects the balance and strength of our business model. Over just the next 3 years, we expect cash NOI to increase by $229 million or 35%, driven most significantly by our value-add property improvements, repositioning and redevelopment. Importantly, this assumes today's rents and no future acquisitions. With that, I'd like to thank the Rexford team once again for your sector-leading results driven by your entrepreneurial passion for creating value.

Lastly, I'm pleased to acknowledge that Howard and I just completed our 20th anniversary as partners growing Rexford together. Howard, it continues to be a true privilege and great fun to work with you and the entire Rexford team, and I couldn't be more excited about the next phase of Rexford's growth. And with that, I'm pleased to turn the call over to Howard.

[Howard Schwimmer, executive]

Thank you all for joining us today, and thank you, Michael. It continues to be an incredible journey, and I am too also very excited for Rexford's future growth.

Rexford delivered solid second quarter operating results, delivered by the sustained strength of our high-quality portfolio and great execution by our entrepreneurial team. As Michael mentioned, we continue to see a bifurcation in performance between higher-quality product compared to the older vintage, less functional product that represents the majority of our vast infill Southern California market.

It is important to recall that our value creation mandate focuses on converting those older vintage properties into the most functional, highest quality assets within their respective submarkets. These modernization and functional improvements substantially increased the utility and the per square foot value of our spaces for tenants, positioning Rexford to outcompete through all phases of the economic cycle.

The favorable relative performance of our portfolio compared to the market is noteworthy. For example, our 400,000 square feet of positive net absorption equal to [ 8 ] basis points of our total square footage towards activity in the market, which saw 10 basis points of positive net absorption according to CBRE.

Our positive net absorption contributed a [ 70 ] basis point increase in our same-property occupancy, ending the quarter at 2.7% vacancy, which compares favorably to the overall infill market vacancy of 3.9% according to CBRE.

Another positive leading indicator is our continued strong renewal demand in the second quarter with 79% net effective rent spreads and 58% cash spreads. This resulted in a strong second quarter retention and backfill rate of 80%.

Looking at general market conditions within infill Southern California, second quarter leasing activity was strongest in the 10,000 to 100,000 square foot size segment, up 24% compared to the prior quarter according to CBRE, with about 60% of Rexford's ABR coming from spaces below 100,000 square feet and given our second quarter average lease size of approximately 18,000 square feet. Our irreplaceable assets are ideally positioned at the strongest advanced segment in the market, a direct result of our strategic value-driven business model.

Regarding rent levels, as expected, we continue to see choppiness across submarkets and size ranges with rents down approximately 2% sequentially for highly functional product comparable in quality to our Rexford assets. Year-over-year, taking rents for high-quality product comparable to our portfolio are off about 4.5%, which compares favorably to the overall infill market. The relatively favorable performance of well-located, highly functional products within our markets is logical.

As we have generally noted, over recent quarters that a majority of vacancy contributing to a negative absorption in the market is typically comprised of lower quality, older vintage or obsolete products. Although we can expect some continued near-term relative volatility, the current supply/demand backdrop seems to be supporting the current rent levels within a relatively tight range and maintaining the foundation for potential future growth.

This favorable backdrop is further supported by the fact that it is nearly impossible to materially increase net supply within our markets. Construction of new product in our size range is at [ near zero ] and is expected to continue to be de minimis. With little construction -- when little construction may occur within our size range is generally replacing older product and is not adding to net supply. Turning to Rexford's investment activity during the quarter. We completed $170 million of investments, comprising approximately 500,000 square feet, generating an aggregate initial yield of 5.8% and a projected unlevered stabilized yield of 6.1% on total cost. Looking forward, we currently have approximately $160 million of investments under contract or accepted offers, which are subject to customary closing conditions.

Moving to our capital recycling program. During the quarter, we disposed 4 properties for an aggregate sales price of $37 million, generating a weighted average 12.9% unlevered IRR. In addition, we have over $20 million of dispositions currently under contract or accepted offer, which are subject to customary closing conditions. During the quarter and subsequent to quarter end, we leased 4 repositioning and redevelopment projects, totaling approximately 380,000 square feet across the Orange County, San Gabriel Valley at South Bay submarkets, which are projected to stabilize at an aggregate 8.8% unlevered yield.

We stabilized 2 projects with rent commencement in the second quarter, totaling approximately 85,000 square feet with a total investment of $54 million, generating a weighted average unlevered stabilized yield of 9.5%.

Looking forward, we have 4.2 million square feet of value-add repositioning and redevelopments in process or projected to start within the next 18 months with the remaining incremental spend of approximately $340 million, which are expected to deliver a 8% -- 6% unlevered stabilized yield on total investment.

Finally, I'd like to thank our Rexford team for your dedication in delivering another strong quarter of results. Now I'm pleased to turn the call over to Laura.

[Laura Clark, executive]

Thank you, Howard, and thank you all for joining us today. Second quarter results were strong with FFO in the quarter of $0.60 per share, reflecting 11% year-over-year earnings growth. Same-property NOI growth was 6% on a net effective basis and 9.1% on a cash basis, driven by strong leasing spreads executed over the trailing 12 months of 61% and 43% on a net effective and cash basis, respectively.

Our tenant base continues to exhibit strength and resiliency, as represented by continued nominal levels of bad debt as a percent of revenue at 30 basis points in the quarter.

Moving to the balance sheet. Our low leverage balance sheet strategically positions Rexford, allowing us to be opportunistic, recycles and to selectively capitalize on accretive opportunities that deliver earnings per share growth and net asset value appreciation. At the end of the second quarter, net debt to EBITDA was 4.6x, near our long-term target leverage range of 4 to 4.5x. We currently have nearly $2 billion of total liquidity, comprised of approximately $830 million from forward equity proceeds available for settlement, $126 million of cash on hand and a $1 billion revolving credit facility. We have no near-term debt maturities until mid-2026, assuming extension options. Rexford's differentiated business model is positioned to continue to deliver near- and long-term outsized NOI growth. With $229 million of incremental cash NOI growth embedded within our in-place portfolio realizable over the next 3 years and irrespective of market growth.

The largest component of our embedded growth is generated from our value-add repositioning and redevelopment, which is expected to deliver $95 million of incremental NOI. The mark-to-market of our below-market leases to current market rates, which is currently 38% on a net effective basis and 26% on a cash basis, and is projected to generate another $82 million.

In addition, the average annual embedded rent steps of 3.7% for the total portfolio, which is up 10 basis points compared to prior quarter is estimated to contribute $47 million. Accretion from second quarter investments is expected to deliver an additional $5 million. Together, cash NOI is projected to grow to $886 million over the next 3 years, equal to 35% internal NOI growth. Note that this strong embedded growth assumes today's market rents and no future acquisitions.

Turning to guidance. Our 2024 FFO per share guidance range has been increased by $0.01 at the low end of the range and is now $2.32 to $2.34, representing 6% to 7% year-over-year earnings per share growth. Note that our guidance range does not include future acquisitions, dispositions or related funding that is not yet closed. Full year 2024 same-property cash and net effective NOI growth is estimated to be 7% to 8% and 4.25% to 5.25%, respectively.

This remains in line with the expectations we laid out at the beginning of the year. Other components of 2024 guidance projections include average same-property occupancy of 96.5% to 97% in line with our prior projections. Guidance does imply a deceleration in occupancy in the second half of the year. This was contemplated in our initial guidance as we have a few expected move outs in the third and fourth quarters. Full year net effective and cash leasing spreads are now estimated in the 55% and 40% area, respectively, excluding a large tire to lease extension we executed in the first quarter. When compared to the prior quarter, the decrease in leasing spreads is primarily driven by the change in the mix of leases we expect to execute in the second half.

Concessions for the full year are projected to be in the 1.5 months area, consistent with our prior forecast. While concessions year-to-date are slightly above our full year estimate, the leases we expect to execute in the second half of the year are projected to have lower concessions, driven by the composition of new and renewal leases, term length and specific submarkets. Full year bad debt as a percentage of revenue is unchanged at 40 to 50 basis points.

And lastly, the full year incremental FFO per share contribution from repositioning and redevelopment is $0.01 lower than the prior quarter estimates. Rent commencement timing has been put by an average of 1 month with some properties outperforming, reflecting faster lease-up and a few properties where rent commencement was pushed out by construction delays driven by construction delays mainly associated with municipal and utility approvals as well as expectations around the timing of lease-up.

Looking forward, the incremental NOI contribution from repositioning and redevelopment projected over the next 3 years is in line with our prior quarter projections at $95 million. Finally, I would like to thank our Rexford team for your relentless pursuit of excellence that drives the success of Rexford today and into our exciting future ahead. We now welcome your questions. Operator?

[Operator]

[Operator Instructions] Your first question comes from the line of Craig Mailman with Citi.

[Nicholas Joseph, analyst]

It's actually Nick Joseph here with Craig. I guess, just maybe first on external growth. I was hoping you could touch on the appetite for acquisitions today and what type of opportunities that you're seeing?

[Michael Frankel, executive]

Nick, it's Michael. Thanks so much for joining us today. Great question. And look, our appetite for acquisitions is as it's always been in the sense that we look for quality of acquisitions, we look for appropriate yield profiles, we look for investments to deliver the quality of products and the cash flow per share growth that we feel is going to be accretive to the portfolio on a near- and long-term basis, and that's going to contribute strongly to NAV growth. And so that is the criteria. So again, we don't put volume targets out there internally or externally for the very reason that we're solely focused on quality.

[Nicholas Joseph, analyst]

And then, I guess, just on the announcement in June on looking for a CFO. I was hoping to get an update on the timing there and kind of the opportunity for the newly created COO position.

[Michael Frankel, executive]

Yes, it's a great question, and we couldn't be more excited about the opportunity for the company. First, eventually to elevate Laura to the Chief Operating Officer role, and as you mentioned, we're in process, searching for a CFO replacement. Laura has created some big shoes to fill. So we're very pleasantly surprised in the early stages of that recruiting effort to see some fantastic candidates. But we're looking to recruit the best athlete on the planet. So hard to predict how long that will take, but we're seeing great progress.

[Nicholas Joseph, analyst]

And then just on the COO opportunity and how that will add to the organization?

[Michael Frankel, executive]

Yes, we see a range of opportunities in the company. First of all, Laura -- we've talked about this, I think, before as well. But Laura plays a pretty broad role as the CFO, probably a little more broad than your typical CFO, generally speaking. And so we see this as a natural extension of the impact that Laura is able to make in the company. And as we grow today, we're about 50 million square feet with a significant opportunity ahead of us for additional growth. And we see a lot of opportunity to drive operating leverage, to drive further efficiencies in the business and to become just better at what we do.

[Operator]

Our next question comes from the line of John Kim with BMO Capital Markets.

[John Kim, analyst]

I wanted to ask about the occupancy guidance. I know Laura, you touched upon it a little bit with some of the move-outs expected in the second half of the year. But how should we be modeling the 50 basis point decline? Will it be kind of even throughout the next couple of quarters? Or will that possibly end the year below the 96.5%?

[Laura Clark, executive]

John, thank you so much for joining us today. In terms of occupancy, we don't guide on a quarterly occupancy rate. But what I could say is that those move-outs are projected in later in the third quarter and into the fourth quarter.

[John Kim, analyst]

Okay. And similar question on the uncommenced leases. I think it's like $8 million of ABR, which is a little bit over 1%. Are these going to be commenced in 2024 or thereafter?

[Laura Clark, executive]

It certainly varies, and the commencement of those is included within our current guidance.

[John Kim, analyst]

Got it. I know you don't provide the annual mark-to-market by year, but the last time you did provide it, the peak years of the mark-to-market on exploration were this year in 2026. And I'm wondering if that's still the case and have you done some acquisition since then?

[Laura Clark, executive]

Yes. We do have significant mark-to-market, obviously, still embedded within the portfolio. This year -- this quarter alone, we were able to capture $13 million of that, and we have just over the next 3 years, another $82 million of NOI to capture through that conversion of this low market rent to market rates. And so that will occur over the coming years. And we're not going to guide on the mark-to-market going forward by here.

[Operator]

Our next question comes from the line of Blaine Heck with Wells Fargo.

[Blaine Heck, analyst]

Michael, I think you talked about near-term nominal volatility in market rents that's expected to continue. So I just wanted to get yours and maybe Howard's view on what the catalyst or catalysts might be to see rent growth inflect from the flat to negative growth we've seen for several quarters now? And any thoughts on kind of potential timing from your standpoint?

[Michael Frankel, executive]

Blaine, thank you so much for joining us today. And it is a great question. Maybe that's one of the million-dollar questions today. But unfortunately, it's just hard to predict timing. But I think we're super comfortable with the fact, as I mentioned that the potential for rent growth is truly inherent in our markets. The fundamentals -- the long-term underlying fundamentals are exceedingly strong. And in fact, in some ways, the market is performing better than it was in 2019, particularly if you look at the embedded rent steps we're placing in our leases.

And given the practice, as I mentioned, renewal activity in the tenant base, the diversity of demand in the tenant base, we still see a high level of e-commerce interest in our leasing activity. And we're seeing a broad-based -- from a sector perspective, a broad-based demand base today from consumer products, household goods, peer distribution companies, actually apparel is coming back. So it's aerospace, pharmaceuticals, so I think that all those are very positive leading indicators, but difficult to predict the timing of when we start to see more persistent growth.

[Blaine Heck, analyst]

Okay. Great. That's helpful. And I think you alluded to this, but obviously, discussions around the election and potential impact of new legislation in each scenario have been picking up. And I think with respect to industrial, a lot of the conversation has been focused on potential impacts from increased tariffs. So just wanted to get your thoughts on that subject and whether you guys have any concern on the potential impact to demand in the Southern California market.

[Michael Frankel, executive]

Well, we've probably seen a slight uptick in interest from some of the Asian importers who are more aggressively looking for space within infill Southern California in anticipation of the possibility of higher tariffs for their goods coming overseas. So they're looking maybe for some more manufacturing domestically and from other locations like Mexico. So we do see some early indications of that, which is incrementally favorable for us actually. And historically, when we saw tariffs established, we really didn't see any negative impact to demand in our markets.

[Operator]

Our next question comes from the line of Mike Mueller with JPMorgan.

[Michael Mueller, analyst]

I was wondering, can you talk a little bit about the bid-ask spreads that you're seeing in the market for acquisitions? And I apologize if I missed it, but for your pipeline of transactions that are under contract, what's the mix of off-market opportunities in there?

[Howard Schwimmer, executive]

Mike, it's Howard. Good to hear your voice. So on the latter part of your question, we really don't distinguish between off or on market in terms of the pipeline. For the year, over 90% of our transactions we've closed have been off-market or lightly marketed. So that's significantly above prior years. And then as far as bid-ask spreads, yes, it's still out there. We've obviously had success in closing transactions. But overall, if you look to the market, the transaction volume has been fairly light, which seems to indicate that there still is some significance in terms of that bid-ask spread.

[Operator]

Our next question comes from the line of Samir Khanal with Evercore ISI.

[Samir Khanal, analyst]

And just in terms of market rent growth, I know you don't provide a forecast for the year. But as you think about the Inland Empire West, I mean that got incrementally worse in the quarter. Just trying to understand like what are the dynamics you're seeing on the ground there? Is this -- do you feel like we're sort of getting to the bottom here and you see like return the corner? Or just trying to understand a bit more kind of what you're seeing on the ground there?

[Michael Frankel, executive]

Samir, it's Michael. Thank you so much again for the question for joining us today. That's a great question. And I'd say from our current activity in the Inland Empire West submarket, actually, we're seeing a lot of good activity, strong activity, strong lease-up for us internally in that market. And I'll remind you that, that market saw the most aggressive acceleration in rental rates through the pandemic of any submarket within our region here in Southern California.

And actually today, despite the recent relative volatility, it still probably has the highest rent growth since the beginning of the pandemic of any regional submarket in the region. So I think that -- if you want the truth, it's a strong performing market. Although, again, as we said, you should expect to see some nominal levels of volatility quarter-over-quarter.

[Samir Khanal, analyst]

Okay. Got it. And I guess on the redevelopment pipeline, just in terms of the lease up there, with demand normalizing, I mean, how should we think about the timing of the lease up? Are you seeing any sort of slippage in timing at all? I mean, just trying to get an idea of kind of the lease up of the pipeline, given that demand continues to normalize?

[Howard Schwimmer, executive]

Samir it's Howard. Like there's always some components that are moving around, we've had a few delays here and there related to some permitting and utility timing, and then we've had some things that have moved forward a little quicker. As well as on the leasing side, we've had -- we have some adjustments in timing related to permits, et cetera. The leasing time frame sometimes given the doubt. But all in all, just a nominal change when you look at aggregate over the prior quarter.

[Laura Clark, executive]

Yes. And Samir, just to put some context on that, I mean, the -- given a few pushes in terms of recommencement that certainly some that we've had that are accelerating, the nominal change is about 1 month from our prior forecast.

[Operator]

Our next question comes from the line of Vikram Malhotra with Mizuho.

[Vikram Malhotra, analyst]

Maybe just on the redevelopment side. You mentioned just been pushed very modestly by 1 month in terms of, I think you said lease-up or stabilization. I'm just wondering for projects that may be -- and that's the average, but projects that may be taking a bit longer sort of, are these more tenant delays? Are they just construction is taking a bit longer because of supply chain issues? Like what's causing the delay in your stabilization estimates?

[Howard Schwimmer, executive]

Vikram, it's all of the above, right? And as Laura mentioned, sometimes we're able to push things a little quicker and other times, there are situations where they're just out of our control. We're dealing with cities and utility companies, and we just can't control the timing on those. But again, these are fairly nominal adjustments. And the market, I think as we've indicated, is still doing pretty well in strength, in terms of leasing activity. So we're optimistic that we'll actually beat some of these time frames as we move forward.

[Laura Clark, executive]

And Vikram, I'll also add that if you look at -- we've talked about the 1 -- nominal 1 month push in terms of timing. But if you look at our stabilized yields, our stabilized yields are largely right in line with our expectations that we set at the beginning of the year for repositioning, redevelopments some in aggregate.

[Vikram Malhotra, analyst]

Okay. That's helpful. So obviously, you had good spreads this quarter. You mentioned the cash mark-to-market is now 26%, I think. So if I just take that forward and use your estimates for the 3-year opportunity on mark-to-market, assume flat occupancy. I'm not putting words in your mouth, but I'm sort of getting to 6-ish percent same-store NOI growth next year. And if I lever that up, add your benefit acquisitions, I'm just wondering, can you still generate sort of that 14% to 17% FFO over the next 2 years? Or does that get pushed out or the trajectory gets changed a little bit over the next few years?

[Laura Clark, executive]

Yes, Vikram, great question. In terms of -- at the beginning of the year, we provided a forecast, and I look forward to our expected 3-year average annual FFO per share growth. And we provided a range of 11% to 13% over the next 3 years. And if you think about our guidance for this year, it implies 6% to 7% growth, so that would imply a higher growth rate for FFO per share and to '25 and '26. And while we're not going to update that forecast today, we're going to update that on an annual basis. I will say that we are still comfortable with the projection of 11% to 13% average annual FFO growth over the next 3 years.

[Vikram Malhotra, analyst]

Got it. And then just one last one. It's clear you mentioned versus your product and portfolio. There's a difference between sort of the average older product. But I'm wondering just maybe private players that are somewhat similar to your portfolio, are the tactics different from those private players in terms of lease-up or gaining share? Like are they pushing incentives or prices? And could that dynamic cause maybe a bit -- somewhat of a mini price war over the near term? Just some of the larger private guys who have maybe similar portfolios.

[Michael Frankel, executive]

Vikram, it's Michael. Thanks for joining us today. When you think about the landscape of ownership within our infill market, it is, as you say, predominantly private ownership. These we call mom-and-pops because they're not real estate professionals who own the vast majority of our infill market, again, comprised of small and medium-sized properties. And they are relatively passive owners. So they're not generally investing and improving in their assets, number one.

Then there's another very small segment where you have some private people, not public REITs, who are investing for the purpose of generating acceptable yields relative to their cost of capital. That, frankly, is a really small segment of the marketplace. Nobody with anything even close to the scale of Rexford, not even a rounding error, frankly. And honestly, there's just -- we don't really see anybody deploying a strategy of any magnitude that we would call material, improving assets the way Rexford is frankly, some very small players here and there.

[Unknown Executive]

But keep in mind, Vikram, if you're a private owner and you have a lower quality asset, it is a price war because there's not as much value in that asset -- in the utility for the tenant to use the space. And the only way they win is on pricing.

[Michael Frankel, executive]

Which is in contrast to our property, frankly, because we're investing, we're improving the functionality, we're competing on a different playing field of higher quality, highly functional space, of which there's an exceedingly low availability. And historically and typically through periods when we see the stated, for instance, market vacancy, when we drill down into the market vacancy generally speaking, and we look at -- of the vacant buildings in the market at the time, how many of those buildings actually begin to compete with the Rexford portfolio on a quality, functional locational basis.

And typically, it's well under half the stated market vacancy rate that actually even begins to compete with Rexford on a quality and functional basis. So it is the tale of two markets. And I know that might sound a little bit counterintuitive. But remember, Rexford is only about 2.7% market share. So it's -- through the quality and the functionality that we are really able to compete on a different playing field.

[Operator]

Our next question comes from the line of Greg McGinniss with Scotiabank.

[Greg McGinniss, analyst]

So based on the opening remarks, it sounds like new supply is not a significant factor within the submarkets that Rexford is operating. So is the increase in vacancy purely a demand side concern? And I understand predicting an inflection point is difficult. In the near term, what are you expecting on rent growth based on tenant and industry demand trends that you're seeing right now?

[Michael Frankel, executive]

Greg, thanks so much for joining us today. So in terms of supply, when we talk about the fact that you can't increase net supply for all practical purposes, we're really talking about the smaller and medium-sized segment of the market. Our average space size is 26,000 square feet. And that is the size where it's simply it's not economical to construct new product. It just doesn't pencil, hasn't for a very, very long time.

Where you see some supply increases in the larger-sized spaces, which again is not generally our target market. And I think that's been disproportionately impacting the vacancy factors.

The other bigger factor, frankly, also is the lower functional space, the obsolete space, which in our markets has been the primary driver contributing to any negative absorption and increase in vacancy in our markets. So again, not directly competitive to the Rexford product.

And with regard to market rents, again, we're not really giving any guidance. We're not going to speculate on where market rents are going.

[Greg McGinniss, analyst]

Okay. I can understand that it's a different type of product that's competing, but the disclosure that you do provide on rent growth is for a comparable portfolio. So you are seeing that the headwinds on rent growth on a comparable portfolio basis. So I'm just trying to get some understanding as to what you think in the near term some of the factors that could be driving that higher or lower?

[Michael Frankel, executive]

Yes. No, it's a great point. Thanks for the clarification. Yes, again, as we mentioned, we do see and expect to see some nominal levels of volatility in occupancy and rents over the near term. But again, I think, as we described, we see the foundation for the potential for market rent growth within our markets today. When sentiment turns, that catalyst could be interest rate driven. Some of the other factors that we talked about, we're certainly seeing a very strong broad base of demand out there. So I think if you want my personal opinion, off the record, I'd say it's going to be a little bit more macro driven, frankly.

[Greg McGinniss, analyst]

Okay. All right. And then one for Laura. The midpoint of core FFO per share guidance implies a kind of $0.01 headwind for the back half of the year compared to the first half. Just trying to understand what some of the drivers are there.

[Laura Clark, executive]

Yes. Great question. In terms of the FFO run rate through the rest of the year, I think it's important just to kind of talk about, one -- a couple of items. Number one is a onetime item this quarter, which was around interest income. So we did hold higher cash balances this quarter. Just as a reminder, we closed on the convertible issuance that we did at the end of last quarter, and we held higher cash balances associated with that $1.15 billion issuance, and that resulted in higher interest income.

And we don't expect to hold cash at the same levels in the second half. So that's about $0.01. There's another $0.01 of impact from higher G&A that we expect in the second half of the year. Our G&A guidance remains unchanged. It's just the cadence and timing of that G&A, the timing of hiring. Fourth quarter tends to run a bit higher because of bonuses and the CFO -- potential CFO hire is also included in the back half of the year. So those two items have about [ 2% ] impact when you look at the run rate.

[Operator]

Our next question comes from the line of Nick Thillman with Baird.

[Nicholas Thillman, analyst]

Maybe starting with Howard or Michael, you talked a lot about product quality in this conversation. So maybe just what percentage of the SoCal market, you view as competitive to yours? And then maybe tying that into a little bit on the acquisition opportunity set and what you're evaluating today, what's the mix between redevelopment and repositioning versus, say, just a traditional stabilized property?

[Howard Schwimmer, executive]

Well, Nick, on the first part of your question, it's really market driven, right? If you're in a market, let's say, like San Fernando Valley, which was started, I guess, well being developed more in like the 50 to 60s. The quality product in that market is -- as a percentage of total is fairly low. Where, obviously, if you go to West Inland Empire, the product quality is substantially higher. So it's hard to just wrap one figure around it all. And this is a huge, huge market. And frankly, that's the advantage we have here is really having our team focused on every opportunity, every building.

And so we really just look at it holistically and uncover those opportunities in the marketplace. And what was the second part of your question?

[Nicholas Thillman, analyst]

It was the mix of transactions you're kind of underwriting today between repositioning, redevelopment versus traditional stabilized assets.

[Howard Schwimmer, executive]

Well, obviously, with some of the opportunities we found with these higher yield profiles, those are very attractive as they come in with very limited risk to them. In fact, if you look at the portfolio of assets we bought this year, everything came in at that $1.4 billion or $1.3 billion that 98% occupancy, which is very different than you've seen in prior years, where we had a lot more value add where we're buying vacancy. So some of these obviously coming in are short-term leases where we're capturing income and are planning the projects that will occur at a later date. But with these type of yields, we're definitely leaning more in terms of focus to current cash flow, in terms of where things are in the market today.

[Laura Clark, executive]

And what I'll add to that, Nick, is our acquisition opportunity set is very much curated by us. And when we think about how we're investing capital, we're very much thinking about the accretion that that's going to drive today and then how we're embedding that cash flow growth into the portfolio over time. And so that's what drives in the decisions we make around capital allocation and the opportunities that we're seeing in the market.

[Michael Frankel, executive]

And I hate to add on, but I will add one more to that, which is just that what you hear from Howard and Laura is that our inbound yields are very strong on the acquisition activity. But that doesn't mean that we're sacrificing the stabilized yields.

In fact, the beauty of our buying has been able to do in this marketplace where we have a lot of buyers not present is that we're able to drive current initial cash flow actually and still have higher stabilized cash flows on average, then we were able to achieve, let's say, 3, 4, 5 or 6 years ago. And so that is really the beauty of the investing opportunity today.

[Nicholas Thillman, analyst]

That's very helpful. And then maybe following up with Laura. It sounds as though credit quality is kind of still -- and credit metrics are kind of tracking on the tenant side relative to first quarter. So maybe clarify and correct me if I'm wrong. And then if you could just give what the underlying sublease percentages as a percentage of the portfolio today?

[Laura Clark, executive]

Yes, absolutely. Yes. So in terms of tenant health remains extremely stable. We have a watch list of tenants that we focus on. And that watch list is about 5 or 6 tenants, and that's remained consistent really for the past several years. We have over 1,600 tenants.

So our guidance implies bad debt in the second half of the year of about 30-ish basis points -- 30, 35 basis points. And just as a reminder, historical average kind of pre-COVID ran about the 50 basis point area. So tenant credit remains very strong.

And then in terms of subleasing activity, this quarter in our portfolio, there were 8 new subleases signed, representing about 275,000 square feet. That compares to 12 subleases that were signed last -- that were signed last quarter and the first quarter. In terms of kind of historical averages, I'd say that subleasing activity is pretty much in line with what we've seen if I kind of look back over the prior 5 years on a historical basis.

[Operator]

Our next question comes from the line of Camille Bonnel with Bank of America.

[Jing Xian Tan, analyst]

It seems like the probability of East Coast port strikes is rising every day and the West Coast are benefiting from -- the boost from this. So I know you operate in a slightly different area of the market, but I wanted to get your views on how much of these port volumes do you think is temporary in nature? Or are you starting to see excess warehouse capacity come down leading to any leasing?

[Howard Schwimmer, executive]

Camille, it's Howard. Yes, I think that's definitely been part of the challenge in the marketplace is that especially on the 3PL world, there's been excess capacity. And that capacity has to get absorbed before you see any dramatic increase in leasing, even though the ports have had fairly large increases in the volume going through.

And look, at the end of the day, in terms of if it's going to be sticky or not, L.A. from the Asian ports is going to be the fastest entry point. It's the cheapest and fastest way, not just to obviously get to L.A., but to distribute and move product into the middle of America.

And that's really what grew these ports, and that's the advantage that will continue to have here. So if that pricing and time line changes, obviously, that could be something you need to think about, but we don't see any dramatic change in that sense. And even though there's obviously onshoring and some shifts in manufacturing that are occurring. They're still going to continue to be a tremendous amount of product that comes through the ports. The good news for us is that we're focused on local consumption in our portfolio. And so a lot of these trade flows and changes in terms of volumes through the ports, really don't have much, if any, of an impact on our tenants' needs within our market.

[Jing Xian Tan, analyst]

Laura, I wanted to clarify on your comment about concessions being lower in the second half. Are you seeing a downshift because these markets are tighter? Or asked in another way, if you were to sign these leases a year ago, would the concession levels be the same as what you're budgeting today?

[Laura Clark, executive]

Well, in terms of concession levels, I mean, for the full year, we're estimating 1.5 months concession, and that compares to last year on average, concessions were 1 month. So that 1.5 months compared to 1 month indicates a tick up in concessions, but I would say that we've expected that, as the market normalizes, I think 1.5 months is more consistent with a normal market.

When you look at the concessions that we expect to execute in the second half and why we project this to be lower, it very much depends on the composition of what we expect to sign. So the new and renewal leases, the term of those leases, obviously, shorter-term deals have lower concessions. The submarkets, the size of the units, all of those are indications of concessions. And so as we look forward, the leases that we are projecting to execute have lower concessions.

[Jing Xian Tan, analyst]

Got it. And I just have one more question. Like depending on which broker you speak to, it seems like there are different views of where rents have peaked and declined too. And if we just step back and consider that the average lease rate you executed in 2023 was at a 7% premium to market rents. Are you still signing leases at these premium levels today? Or has that gap narrowed?

[Michael Frankel, executive]

Camille, I think that the premium you're referring to is just the typical that we're getting, receiving and taking as compared to what we're seeing in the market. And again, it's a reflection of the higher quality of the portfolio. And remember, it's not just that we -- the properties look better. We invest in these properties so that you can stack more product in them, you can utilize the clear heights inside the property, we create and enhance stock high loading and access to the property. We basically maximize the throughput of goods and minimize the cycle time of getting goods in and out.

So there is -- our property is actually worth more to the tenants on a per square foot basis. So naturally, you should expect that premium to continue. And generally speaking, it is.

[Operator]

Our next question comes from the line of Rich Anderson with Wedbush.

[Richard Anderson, analyst]

And my first Rexford experience. So thanks for having me. The cash re-leasing spread of 49%, I think you said for the second quarter in combination with declining market rents. At what point do you sort of see a material reduction in that cash re-leasing spread math? Is it -- do you start to see it, start to trend down meaningfully over the next couple of years? Or do you still have plenty of runway to continue to produce that type of number for shareholders?

[Laura Clark, executive]

Rich, it's Laura, and thank you for joining us for your first Rexford experience. In terms of -- so I mean I think that goes back to the mark-to-market, right? And so the mark-to-market that's embedded in the portfolio today, and as I mentioned, over the next 3 years, as we roll these [indiscernible] market, leases to market and that's going to generate an incremental $82 million of NOI. So you would expect that we'll be able to continue to achieve leasing -- higher leasing spreads as we're rolling these leases, but we're certainly not going to guide around leasing spread expectations beyond this year or the mark-to-market.

But I do want to -- I do think it's important to point out that Rexford has a very differentiated driver of growth beyond the mark-to-market. And that's more significant than the mark-to-market in fact, and that's through our repositioning and redevelopment and the value that we're able to -- that we add there. And that really is the true differentiator of Rexford that enables us to drive leading FFO per share growth as we have demonstrated over the past 5 years.

So as we execute on that, repositioning, redevelopment over the next 3 years is expected to generate $95 million of NOI growth that will continue to differentiate our growth. And if you really look back over the last 5 years, we have demonstrated that growth. Over the last 5 years, Rexford has been able to achieve FFO per share growth of 16% annually, and that compares to the peers at 9%. So 75% differentiation. And that lever that we have, that repositioning and redevelopment is what will continue to differentiate us into the future.

[Richard Anderson, analyst]

Okay. Fair enough. And so you pivoted to value-added redevelopment and that was going to be my next question anyway. What is your comfort level of having investments in that important arm of your portfolio -- of your strategy as a percentage of total assets? Is it time to ramp that up or pull it back in, again, relative to the entirety of the company?

[Laura Clark, executive]

Yes. I mean, look, as I mentioned, that's the differentiator of our growth and a really important part of our strategy. But we're going to balance that, right, with the core opportunities that we embed into the portfolio so that we can continue to drive that outsized FFO per share growth consistently and over time.

[Howard Schwimmer, executive]

And also, Rich, we think about it a little bit differently. Most discussions would be about land bank, which is basically a fellow asset budget of income. And what we're typically buying income and through the redevelopment and repositioning process, we're raising the income. So it's not like we have hundreds of millions of dollars on [ products ] that have no incoming [indiscernible] generated. It's really a different type of business that's going to [indiscernible].

[Richard Anderson, analyst]

Fair enough. Fair enough. It's not a zero income business, I get that, but there is an element of risk associated with, I guess, is what I would say.

Last question for me. You mentioned Asian importers. Are there any utility issues in the area that would need to be addressed if there was a sort of a meaningful movement to manufacturing in the region? And what's the appetite of Rexford to be a party -- a landlord party to increase manufacturing activity?

[Howard Schwimmer, executive]

We typically focus on generic space, meaning the friction in terms of cost and time for tenants moving out of the building is relatively low. That said, the needs of these warehouse users today are greater in terms of power. And power has become an important issue in the marketplace in terms of availability and with utilities, timing of delivery and so on and so forth. So part of our strategy right now is actually to spec a tremendous amount of power into our repositioning and redevelopment assets, which frankly, are ideal for not just the warehouse increased power gains but also manufacturing. So if the demand is out there, we're in a great position to capture those manufacturing [indiscernible].

[Operator]

Our next question comes from the line of Brendan Lynch with Barclays.

[Brendan Lynch, analyst]

One of the things that you mentioned was that you're embedding 4% escalators, which are above the long-term industry standard. Maybe you could talk about a little bit where you think the limit might be there and whether you have tried to push escalators even above 4% or if that's a consideration for the future?

[Michael Frankel, executive]

Brendan, thanks so much and appreciate your first question here at Rexford. No, it's true that we're embedding pretty consistently 4% or better escalators in the leasing activity that we are completing. And we have done as high as 5%, or even isolated examples, a little bit above 5%. But in terms of underwriting, it seems that 4% is pretty reliable at this point. And hard to say where the limits are.

I think the fact is that rent still represents a very small share of the overall economics or expense structure of a typical tenant. So I think that we still have a lot of runway in terms of rent growth. And so where those escalators play, we'll see. But we're super excited and very comfortable about what we're seeing today.

[Brendan Lynch, analyst]

And when you're pushing the escalators, are you getting the sense that tenants are looking for additional concessions? Is that part of the reason that maybe we're seeing 1.5 months this year versus 1 last year? Or is that kind of unrelated?

[Michael Frankel, executive]

Generally speaking, I'd say that's unrelated.

[Operator]

That concludes our Q&A session. I will now turn the call back over to management for closing remarks.

[Michael Frankel, executive]

We'd like to thank everybody today for joining us for your interest in Rexford, and we look forward to reconnecting next quarter. Thank you so much, and wish you all a great day.

[Operator]

This concludes today's call. You may now disconnect.