Prologis Property Mexico SA de CV

OTC:FBBPF

Earnings Call Transcript 2024-Q1

[Operator]

Good day, and welcome to the FIBRA Prologis First Quarter Earnings Conference Call. [Operator Instructions] And finally, I would like to advise all participants that this call is being recorded. Thank you.

I'd now like to welcome Alexandra Violante, Head of Investor Relations to begin the conference. Alexandra, over to you.

[Alexandra Violante, executive]

Thank you, Kevin, and good morning, everyone. Welcome to our first quarter 2024 earnings conference call. Before we begin our prepared remarks, I would like to remind everyone that all the information presented in this conference call is proprietary and all rights are reserved.

The information has been prepared only for information purposes and is not a solicitation of an offer to buy or sell any securities. Forward-looking statements during this call speak only as of the date of this call. Our actual results, performance, prospects or opportunities may differ materially from those expressed in or implied by the forward-looking statements. Additionally, during this call, we may refer to certain nonaccounting financial measures. The company does not assume any obligation to update or revise any of these forward-looking statements in the future, whether as a result of new information, future events or otherwise, except as required by law. As is our practice, we have prepared supplementary materials that we may reference during the call as well. If you have not already done so, I will encourage you to visit our website at fibraprologis.com and download this material.

Today, we will hear from Hector Ibarzabal, our CEO, who will discuss our strategy and market conditions and Jorge Girault, our Senior Vice President of Finance, who will review results and guidance. Also joining us today is Federico Cantú, our Head of Operations. On February 13, we announced a non-binding proposal in respect of a potential Tender Offer and Exchange transaction for up to 100% of Terrafina certificate. This call will focus on our first quarter results. The company will not provide comments related to this transaction beyond what is included in our prepared remarks.

With that, it is my pleasure to hand the call over to Hector.

[Hector Ibarzabal, executive]

Thank you, Alex, and good morning, everyone. 2024 continues in the right momentum, which is reflected in our outstanding operational and financial results. As a consequence, we are adjusting our guidance upwards and Jorge will provide more color on this. I would like to present some highlights of the quarter. We continue to see an occupancy of nearly 100%.

In addition, we had a strong cash flow generation reflected in the company's same-store cash NOI, mainly due to our rental growth on rollover, which was close to 48%. Regarding the capital markets in early March, we successfully raised $570 million at MXN 70 per certificate and above NAV. We plan to deploy most of these monies before year-end, and we appreciate the extraordinary support received from our shareholders. Now I'd like to talk about market conditions. Net absorption in our 6 markets was 8 million square feet, stable versus last quarter. Vacancy increased 20 basis points to 1.7%, still a very adequate level.

Furthermore, due to the sharp increase in entitlement periods, lack of energy and rising replacement costs, we saw a 15% decrease in construction starts to 7.1 million square feet, the lowest level since 2021. We believe vacancy will stay around current levels for the remainder of the year. Because of the tightness we see across all of our markets, as well as an increase in leasing activity in the first quarter, we are convinced that we will achieve a strong rent growth of low double-digits during 2024. Our third-party appraised values increased approximately 8%, driven entirely by rent growth.

We expect rents to continue growing and GAAP rates to remain stable. Due to this, we have a positive outlook for our values. Let me provide additional color. Energy and infrastructure availability for new development remains very limited. We believe this condition is preventing customers from having more accelerated expansion plans. As has been the case in recent years, Monterrey was a market with the highest net absorption at 3.7 million square feet with vacancy stable at 1%. We saw an important increase in Monterrey leasing activity in the quarter, mainly pre-leasing from Asian customers. As we had anticipated, Mexico City saw a sharp decline in net absorption, mainly due to the lack of suitable product for clients' needs. Vacancy remains at very low levels of 1.6%.

For the first time in many years, pre-leasing represented the bulk of leasing activity in the quarter, reflecting clients' strong need to secure space in Mexico City. Tijuana continues with a low level of vacancy at 2% with limited space on the construction and a stable demand. Regarding Juarez and Reynosa, well, they have seen a slight pickup in vacancy, both remain below 3% and with very limited supply. To summarize, we are optimistic on this year's outlook and its favorable market conditions. Our 49% in place to market provides us pricing power to continue increasing rents and values on our portfolio. On the external front, our current plan is to invest around $400 million this year. Our sponsor currently has 3.7 million square feet under development, and we will continue to evaluate some identified third-party opportunities that are accretive and aligned to our business volume. In terms of our balance sheet, we believe is the strongest in the sector and a very important competitive advantage. Finally, we remain committed to our shareholders and putting their interest first.

With that, I will pass the call over to Jorge.

[Jorge Girault, executive]

Thank you, Hector, and good morning to everyone. We started the year strong with important initiatives in the first quarter, which is in line with our view of the sector and future of Mexico. Let me turn to our financial results. FFO was $59 million for the quarter, a 23% increase versus last year. AFFO reached $49.5 million for the quarter, a 24% increase versus last year and above our expectations. These results were driven by rent change on rollover and annual bumps.

Moving to our operating metrics. Leasing activity for the quarter was 1.2 million square feet with an average end occupancy above 99%. We achieved a testament of the strong market conditions of the sector and exceptional performance of our teams on the ground. Net effective rent change on rollover was approximately 48% for the quarter and 43% for the last 12 months. Our portfolio lease mark-to-market is 49%. What this means is that we could generate more than 70% of additional AFFO as lease rollover time, assuming current market levels. In terms of same-store cash and GAAP NOI for the quarter, we had an increase of 12.3% and 9.7%, respectively.

Moving to our balance sheet. With our recent capital raise, our balance sheet has gotten stronger. You can see our financial metrics in our supplemental. This said, I would like to touch on the following topics. Total investment capacity to get to 35% loan-to-value is $2.5 billion, including cash in hand of $740 million. We will remain prudent in the use of our capacity. You should think about our balance sheet strategy as a BBB+ going forward.

Let me move to our updated guidance for the year. Following our strong leasing rent change, we expect same-store cash NOI growth now to range between 8.5% and 10.5%. This is a 220 basis point increase versus previous midpoint. On the capital deployment front, we expect to acquire between $200 million and $400 million. This is a $100 million increase versus last midpoint. On other matters, last March, we announced the reduction of our sponsor management fee from 75 to 60 basis points on the incremental amount above $5 million for the portfolio.

To be clear, and as an example, if our assets under management were $7 billion, Prologis, our sponsor, would receive 75 basis points on $5 billion and 60 basis points on the incremental $2 billion. Turning to ESG. In the effort towards strengthening our team, we have added a new ESG dedicated person who will be supporting our different initiatives and will be responsible for reporting. Regarding our solar energy initiatives, we currently have 10 buildings under operations with solar panels and 11 more under process. This is in line with our goal to reach 120 buildings by 2025 which will generate 71 megawatts. I want to finish by thanking our people on the ground who have executed our strategy, adding value to our operations and the continuous trust from our stakeholders. As a reminder, we won't be addressing questions related to the Terrafina transaction on this call.

With that, let me turn the call to the operator to take your questions.

[Operator]

[Operator Instructions] Your first question comes from the line of Rodolfo Ramos from Bradesco BBI.

[Rodolfo Ramos, analyst]

Congratulations on the strong results and updated guidance. My question goes along the lines, a little bit of understanding your commercial efforts? I mean, Prologis outlook seems to be going in the opposite direction of the outlook that you set out for or updated for this year. Given your, let's say, global tenant base, many of these companies probably have operations in both countries. So just wanted to understand a little bit of how are your commercial discussions with clients evolving? And if they have logistics costs more as a concern now, and if you see something, perhaps more towards 2025, 2026, that could derail either rent growth or GLA growth, especially as your -- as more expirations start to come through?

[Hector Ibarzabal, executive]

Rodolfo, this is Hector. Thank you for your question. We -- one of the things that differentiate Prologis is that we try to be very close to our customers. For us, it's very important to understand our customer sentiment because this sentiment reflects the future of their business. Mexico is somehow a bit disconnected from what is happening in the U.S. because as I mentioned in my opening remarks, the possibility of launching new space into the market is very challenging.

The development activity has never been as complex as it is today in this business. So number one, we think our customers, because of the conversations that we have with them and because of the positive figures that consumption keeps on driving in Mexico, they are not only positive, but they have important expansion plans going forward. Number two, we do not see any important risk to have any oversupply in any of our markets because of the conditions that had been mentioned.

And number three, I think that the fact that FIBRA Prologis has in Prologis business partner, Prologis has increased its firepower buying lands and anticipating, understanding that the development cycles are taking longer. I think that as of today, to have FIBRA Prologis the ability to take over of everything that Prologis develops in Mexico is becoming every day more and more a very important competitive advantage. I don't see any important risk going forward. I think that the macro conditions, you know them, as well as everyone, they are there and they eventually could affect our market, but the conditions of our market or portfolio and the sentiment of our customers is positive.

[Operator]

Your next question comes from the line of Gordon Lee of BTG.

[Gordon Lee, analyst]

Just a quick question. There's been recently a lot of headlines, both in the U.S. and Mexico in terms of some concerns around the entry of Chinese manufacturers in Mexico, particularly EV manufacturers and whether they could use Mexico as a springboard to enter the U.S., somehow maybe circumventing some of the restrictions around USMCA.

And so I just wanted to see what your thoughts are about that? And if you could remind us to what your -- today when you look at your tenant base, what share of your tenant base would you say are Chinese tenants or suppliers of Chinese manufacturers?

[Hector Ibarzabal, executive]

Gordon, thank you very much for your question. When we mentioned our figures about nearshoring, we assigned probably 43% or 44% related companies coming from Asia. Having said this, we do not have important number of new Chinese customers. We have the original big global Chinese companies that have been doing business globally for over a decade, and we have a strong relationship with them. Out of the new Chinese [indiscernible], we probably have 3 or 4 customers.

What we have seen in our portfolio is an important activity expansion of suppliers of these Chinese companies. Companies that are taking advantage of this new Tier 1 coming into Mexico and that are increasing their activity. So that relation is an indirect relation. What we have seen for these Chinese suppliers is that they are expanding their production lines. And it is a very good sign to see how companies are working in their efficiency. They try to make more efficient the space that they currently have. And I think that we do not have a particular important risk related to Chinese activity in our portfolio.

[Operator]

Your next question comes from line of Jorel Guilloty from Goldman Sachs.

[Wilfredo Jorel Guilloty, analyst]

I just will take a similar line to Gordon's question. So we've been seeing some data points that are showing that imports from China into the Mexican West Coast ports have increased materially over the past -- over the recent past. And the whole idea here would be also to ship things through Mexico to the U.S. And I just wanted to understand in general terms, much of the focus has been on manufacturing as it pertains to nearshoring or as it pertains to recent demand. I'm just curious to know, are you seeing more demand for logistics? Is this something that you are once again going to be more focused on? Or do you think going forward, the demand would be mostly focused on manufacturing?

[Hector Ibarzabal, executive]

Thank you very much for your question. Currently, 43% of our portfolio is devoted to manufacturing. And this number has increased gradually, I would say, within the last 3 quarters. 57% of our portfolio is related to logistics and consumption. We are used to read the newspaper and every other day, there is important release about nearshoring. And of course, we have our border strategy complemented by Monterrey, a very important capacity to respond to customer needs for manufacturing, light manufacturing to export.

But we have a very close relation as well with the big e-commerce players and the logistic companies and I can tell you that they are not in the newspapers, they used to be, but they are enjoying low teens growth which is an important number in their different plans and that they are moving rapidly in their expansion plans, trying to improve the service they provide to their customers. One of the things that I feel very comfortable is with the balance that we have been able to achieve within our portfolio. We have the ability to deal with manufacturing. We have the ability to deal with logistics and consumption. And I think that it's an opportunity because depending on how the demand moves, our reaction is able to be the leader.

Something similar happened to the balance between pesos and dollars in our portfolio. I think that this has been a very good asset for FIBRA Prologis to have 1/3 of our revenues coming from pesos, it's a good balance. We have peso expenses and it's somehow another analogy between manufacturing, logistics, pesos and dollars, we are very well complemented.

[Operator]

Your next question comes from the line of Andre Mazini from Citigroup.

[André Mazini, analyst]

So my question is on capital deployment. So my impression is that in prior follow-ons, the majority of the capital was deployed purchasing assets from the sponsor of PLD, right? And this time around, it seems to me that the majority will be from third party, so a big change there, if you will. So how does this change the timing of capital deployment, characteristics of what's bought, like age of the property, maybe locations and ultimately, the cap rates of what spot?

[Hector Ibarzabal, executive]

Thank you, Andre, for your question. We were just last month in our follow-on roadshow and as we were talking with investors, we were very clear on the fact that 100% of the [indiscernible] that were going to be raised were going to be invested in a horizon of 12 to 18 months. Those plants are there. They have not received any modification. We should be still seeing the first acquisitions either by the end of this quarter or the beginning of the following quarter, 100% of the acquisitions that we have in the short pipeline, they are related to our 6 markets.

They are accretive to FIBRA and there's a combination between, I would say, probably 80% manufacturing and 20% logistics this time. Regarding market caps, the markets with a lower cap rate under our perspective are Mexico City and Tijuana depending on the quality of the assets, but you could be in the low 6s in those markets. And markets like Guadalajara and Monterrey are around 7%. As I mentioned in my opening remarks, we expect cap rates to become -- or to stay flat in the remainder of the year, but we are very optimistic about market rent conditions because the ratio between supply and demand give us positive feelings that market trends will keep on increasing.

[Operator]

Your next question comes from the end of Isabela Salazar from GBM.

[Unknown Analyst]

I was wondering if you could offer more insights into the market dynamics that contributed to achieving a 7.9% cap rate. New Mexico City acquisition this quarter, were there any tenant improvements involved? Or can you elaborate on the specifics?

[Federico Cantú, executive]

Thank you, Isabella, for your question. This is Federico. We saw very good dynamics across the 6 markets with good activity. As Hector mentioned, 8 million square feet of net absorption. And we -- customer sentiment remains positive. So we were able to achieve a very good rent change on rollover, as you saw. We expect these trends to continue into the future, and I feel very positive.

[Operator]

Your next question comes from the line of Pablo Monsivais from Barclays.

[Pablo Monsivais, analyst]

Just wanted to hear your thoughts on the new contracts that you are renewing, how do you see like clients be willing to extend or how they -- extended the lease of a new contract and perhaps you want to shorten it to have more rent price appreciation, how do you see that trade-off between the clients who wanted a longer-term contract and you perhaps you wanted a shorter one? And kind of a follow-up on that is, do you feel more confident that you are able to achieve a higher rent increase through that contract, not just inflation or asset increase on the rent?

[Federico Cantú, executive]

Thank you, Pablo, for your question. So yes, we did [indiscernible] for this quarter was 76 months. We had 3 leases that started for 7 years and one for 10 years. So we're seeing -- and these are all manufacturing. So you can expect for manufacturing customers where they typically invest heavily in their spaces, we're seeing longer terms, and we're fine with that. We're starting off in leveraging our good locations, our top quality product and best-in-class service.

We're leveraging to get very good rent levels at market. And so yes, we -- every negotiation is different. The logistics users typically want to match with their contracts or they tend to be 3 to 5 years. But we're seeing with the manufacturing users turning more towards 7 to 10 years. I would also comment on, as it relates to retention, where we had -- in this quarter, we had 3 move-outs, 2 of which were leased up immediately. None of them had to do with rent levels, rather consolidations or growth that we were now able to accommodate. I would encourage you to see retention and talking about this in the context of average and period-end occupancy as well as rent change.

We have a very good pipeline of prospects across our 6 markets. And just touching on your final part of your question. As you know, we've commented this in the past, all leases that are peso-denominated are indexed to Mexican inflation. And for U.S. dollars, we have -- typically, they're fixed and we've been averaging around 4% over deals that we've had over the last few months.

[Operator]

Your next question comes from the line of David Soto from Scotiabank.

[David Soto Soto, analyst]

Just a quick question regarding the development pipeline. We saw that Prologis reported a [indiscernible] development pipeline. Should we expect some [indiscernible] on the time line for acquisitions? Or should we expect more third-party acquisition? And the other question is, could you please provide some color about the dynamics specifically in Reynosa and Tijuana?

[Hector Ibarzabal, executive]

I will answer the first part of your question, and I will let Federico to answer the second one. The difference between acquisitions that FIBRA makes from Prologis and acquisitions that FIBRA makes from third party is the visibility. I mean, we have full visibility to what Prologis is developing about the timing, construction progress, leasing progress and as a reminder, when FIBRA Prologis buys any asset from Prologis, all the processes of due diligence are made identically, like we would be doing a transaction from third party.

So we are very positive. I mentioned in my opening remarks, we have 3.7 million square feet on this regard and the markets that we're going to be buying from Juarez, Tijuana, Reynosa, Mexico City and Monterrey, this speaks how Prologis is committed to keep on being active in all of the markets in which we participate. Regarding third parties, we have a very close relation to what is happening in the different fronts. The most frequent seller of portfolios, Ciudad Juarez and we have a close and reliable relation with most of the Juarez sponsors.

Today, as we speak, we are currently working in 3 important opportunities in this regard. One of them, we have a very important progress, but it's a complete different dynamic. You need to enter either into a top off-market transaction or into a bidding process. And as we have visibility of all the costs and values regarding Prologis assets, there's a point in the negotiations where we don't feel comfortable, and we do not necessarily close everything that we pursue.

I will pass the word to Federico to talk about Reynosa and Tijuana.

[Federico Cantú, executive]

I believe it's Reynosa and Tijuana were your questions, David, if I'm -- the dynamics in those 2 markets?

[Hector Ibarzabal, executive]

Yes, correct. Reynosa and Tijuana.

[Federico Cantú, executive]

Just first, generally, again, we feel very good about our 6 markets, and particularly, our border markets, where we've seen very good activity from both existing users and new users trying to enter. We had -- just talking about this quarter, we have 3 transactions in Reynosa, we achieved very good rent change and 2 in Tijuana. We also are seeing build-to-suit activity in both markets, and we have land to accommodate. So again, and as far as industries, we see a broad mix across many different sectors. And again, we feel very good about those 2 markets in particular.

[Operator]

Your next question comes from the line of Andreas [indiscernible] from GBM.

[Unknown Analyst]

My question is regarding the trend in U.S. dollar and Mexican peso rental rates. Have they remained stable? Or have you noticed any shift in demand or contract one point [indiscernible] the other to exchange rate constraints?

[Federico Cantú, executive]

Thank you, Andres, for your question. So yes, we've seen the mix of peso to dollars, which is 1/3 peso, 2/3 dollar maintained over the last few quarters. In the North, the border markets are 100% dollar denominated. And on the other side of the spectrum, Mexico City is around 50-50. So we see that mix. Again, it depends. The dollar or the peso denomination depends on the inherent business of the customer. If it's more focused on domestic distribution or domestic market, then they'll come on pesos. And again, more on the nearshoring side and the manufacturing side, export oriented, those tend to be dollars. So we see that mix maintaining for the most part into the future.

[Operator]

[Operator Instructions] And your next question comes from the line of Francisco Chavez from BBVA Market.

[Francisco Chávez Martínez, analyst]

Congrats on the strong numbers. Just a question regarding the EBITDA margin. You saw a decline. Can you expect a similar level of margin for the rest of the year? Or this margin should recover?

[Jorge Girault, executive]

It was a little bit hard to hear you, but I think that your question was related to the EBITDA margin versus previous quarters, and this is what [indiscernible]. You're correct. I mean, the EBITDA margin is around 74% this quarter. It's lower than previous quarters. And the reason why is that -- the main reason has to do with the asset management fee increase given the increase in the portfolio value.

In other words, valuations have been going up faster than the total effect of incremental rents on rollovers. So -- to give you an example, this quarter alone, the valuation of the portfolio went up 8%, 7.5% actually, that's the right number in one quarter. And the roll up during this quarter was 1.2 million square feet out of 47 million square feet of the total portfolio. So I mean, it's a catch-up thing, it has gone faster because of the rent increase. That said, this is one of the reasons why we adjusted on a going-forward basis, the asset management fee from 75 to 60 basis points on an incremental amount of about $5 million. So that's the reason why.

So in this year, I think that given the small rollover of the portfolio, about 8% to 9%, you will expect same margins. But on the long term, as revenues and rollover catches up, you will start to see previous margins, the EBITDA level as before, I would say.

[Operator]

Your next question comes from the line of Alan Macias from Bank of America.

[Alan Macias, analyst]

Just a quick question on -- just if you can provide some color on the main driver to revise upwards your acquisition guidance range. Is this due to -- you believe you can complete the transaction, get to a price faster than before, are market conditions better in that sense? Or what is the main driver?

[Jorge Girault, executive]

Alan, this is Jorge. Thank you for your question. I would say a couple of things. I mean, one of the reasons that we did a follow-on last March is we closed the year -- what we have seen in the dynamics in the market. Hector talked about potential for acquisitions. As you know, we have the Prologis pipeline, that it's also there. So what we're seeing today is that there are some opportunities on the third party, and that's the reason why we want to do -- raised the equity.

So in line with that, we are increasing our guidance. That's basically the point. We have more clarity than we had back at the beginning of the year. We start to see some transactions come into place. You have seen more dynamic in the market. We're taking the opportunity today of what we are seeing in near future. So that's the reason why.

[Operator]

[Operator Instructions]

And as there are no further questions at this time, I'd like to turn the call back over to Hector Ibarzabal, CEO, for closing remarks.

[Hector Ibarzabal, executive]

Thank you very much. I appreciate everyone's time devoted to this call and the reports related to this call. We are excited about the opportunity that we have for FIBRA Prologis in Mexico. Mexico is today one of the strongest Prologis markets within its global operation. And I can assure you that all Prologis team is fully engaged to bring the best value to our investors.

Please have in mind that there is always an open invitation to contact for any questions or any property tour that you may require. [Foreign Language]

[Operator]

That concludes today's conference. Thank you for participating. You may now all disconnect.