Duke Realty Corporation
Q2 2021 Earnings Call Transcript

Published: 29 Jul 2021

[Operator:]

Ladies and gentlemen, thank you for standing by and welcome to Duke Realty Earnings Conference Call. At this time, all participants are in listen-only mode. Later, we'll have an opportunity for your questions. As a reminder, today's conference is being recorded.

[Ron Hubbard:]

Thank you, Amy. Good afternoon, everyone and welcome to our second quarter earnings call. Joining me today are; Jim Connor, Chairman and CEO; Mark Denien, Chief Financial Officer; Steve Schnur, Chief Operating Officer; and Nick Anthony, Chief Investment Officer. Before we make our prepared remarks, let me remind you that certain statements made during this conference call maybe forward-looking statements, subject to certain risks and uncertainties that could cause actual results to differ materially from the expectations. These risks and other factors could adversely affect our business and future results. For more information about those risk factors, we'd refer you to our 10-K or 10-Q that we have on file with the SEC and in the company's other SEC filings. All forward-looking statements speak only as of today, July 29, 2021 and we assume no obligation to update or revise any forward-looking statements. A reconciliation to GAAP of the non-GAAP financial measures that we provided at this call is included in our earnings release. Our earnings release and supplemental package were distributed last night after the market close. If you did not receive a copy, these documents are available in the Investor Relations' section of our website at dukerealty.com. You can also find our earnings release, supplemental package, SEC reports and an audio webcast of this call in the Investor Relations' section of our website. Now for our prepared statement, I'll turn it over to Jim Connor.

[Jim Connor:]

Well, thanks, Ron and hello, everybody. The fundamentals of our business continue to be the best we've ever seen. We've now had three successive quarters of demand at or near all-time records and projected market level rent growth has risen from the 6% to 7% range to the 10% range nationally with some submarkets as high as 25%. During the quarter, we began just under $200 million of new developments with strong value creation raised our full year guidance starts once again. Continued cap rate compression and rent growth have well outpaced material cost increases that allowed us to drive improved margins. Our core portfolio achieved record rent growth on second generation leasing, and our total in-service portfolio is an all-time high of 97.9% leased. We sold four assets in non-Tier 1 markets during the quarter for over $180 million. When coupled with the recently announced joint venture and the St. Louis market disposition, we've raised over $600 million of capital from portfolio management activities that also improved our Tier 1 geographic exposure.

[Steve Schnur:]

Thanks, Jim. I'll first cover market fundamentals then review our operational results. Industrial net absorption registered an impressive 85 million square feet which is the third highest quarter on record. This is more than enough to offset new supply as completions dipped to 52 million square feet. This positive absorption over deliveries for the quarter reduced vacancy down to 4%. The strong fundamentals increased asking rents during the second quarter by 9.8% compared to the previous year. CBRE now projects demand for the full year to surpass 350 million square feet and break the all-time 2016 record of 327 million square feet. Completions are projected to be around 300 million square feet for the year. With this setup, we expect national asking rents to grow over 10% on average in 2021 with a range of mid-single digits to the mid-20s in the best submarkets. This is consistent with what we're seeing on the ground in our own markets. Growth in retail sales and e-commerce sales across the two month May and June period were up 20% and 9% year-over-year and perhaps more notably when measured against the 2019 pre-pandemic timeframe, the recent May and June figures were up 19% and 37%. Continued strains in the supply chain caused the retail inventory to sales ratio to remain at a record low of 1.1 level times. Demand by occupier type remains broad-based and very active with 3PLs leading the way. 3PL activity nearly doubled the square feet absorbed year-to-date compared to a year ago. The general retailer and wholesaler categories were also up over 85% from a year ago. Of course, e-commerce is still exceptionally strong, and even with Amazon leasing 33 million square feet, which is downside from a year ago, these data points are a very good indicator that demand is broadening out past pure e-commerce players. Turning to our own portfolio, we executed a very solid quarter by signing 7.6 million square feet of leases. The strong lease activity for the quarter resulted in continued growth and rents in our portfolio, as we reported 19% cash and 30 - 36% on a GAAP basis, both of which were all-time records for our portfolio. About 35% of these deals were in coastal markets, which is higher than our historical run rate, but still lower than our current portfolio exposure to these markets of about 40%.

[Nick Anthony:]

Thanks, Steve. For the quarter, we sold $183 million of assets comprised of two facilities in Raleigh, one in St. Louis and one in Columbus. The pricing in aggregate was at in-place cap rate of 4.2% partly from very strong credit and asset quality but also from exceptionally strong fundamentals in asking rent even in these non-Tier 1 markets. 8 of our stores contained in the Newark submarket in New Jersey. The expected stabilized yield across both projects is 4.4% with IRS expected in the mid 6% range. The 766,000 square foot facility acquired is a unique big box asset and IE West SM has extra trailer parking and in a market with only 1% vacancy. The lease expires in approximately two years with current rents about 75% below market. By continuing our facilities in an irreplaceable location near the Port of Newark, the Newark Airport and the New Jersey Turnpike and leased for 12 years to a local investor in logistics firm. There is also a long-term redevelopment possibility on this site. And in the interim, the investment will generate an excellent return as an income-producing logistics asset.

[Mark Denien:]

Thanks, Nick. Good afternoon, everyone. Core FFO for the quarter was $0.44 per share, which represents nearly 16% growth over the $0.38 per share from the second quarter of last year. AFFO totaled $150 million for the quarter, compared to $135 million in the second quarter of 2020. We expect this level of high performance to continue through the remainder of 2021 as reflected in our revised guidance. Same property NOI growth on a cash basis for the three and six months ended 2021 compared to the same periods of 2020 was 5.5% and 6.2%, respectively. The growth in the same property NOI for the second quarter of '21 compared to the second quarter of '20 was mainly due to rent growth and some free rent burn off partially offset by a slight decrease in occupancy in our same property portfolio compared to the previous year. During the quarter, we generated $156 million of proceeds from the sale of 3.4 million shares under our ATM program. We also redeemed the remaining $84 million of our 3.9% unsecured notes that were set to mature in October of next year. We finished the quarter with $265 million of outstanding borrowings on our line.

[Jim Connor:]

Thanks, Mark. In closing, I'm really proud of our teams' execution through midyear. Market fundamentals are exceptionally strong and we're driving significant growth in rental rates, as well as capturing new development opportunities with new and existing customers. The year-to-date results in our outlook for the year have clearly exceeded our expectations from the beginning of the year. I'd also like to take this opportunity to point out our recently published Annual Corporate Responsibility Report which most of you should have received. If not, I would urge everyone to review it on our website. It's an important element of our culture and strategy. We believe our ESG characteristics and initiatives are unique, a positive differentiator for Duke Realty Investment proposition.

[Operator:]

Thank you. And well our first question will come from John Kim. Please go ahead.

[John Kim:]

Thank you. I was wondering on CBRE joint venture if you could disclose the total value of the three tranches? And also the cap rate on the sale? And if there was an Amazon premium?

[Nick Anthony:]

Yeah, this is Nick. The total agreed value of all three tranches is just north of $700 million. And the cap rate is a mid to upper 3 cap. And yes, Amazon deals do trade relatively well along with a lot of other assets in this environment.

[Operator:]

One moment here. Thank you. And our next question will come from Vince Tibone. Please go ahead.

[Vince Tibone:]

Hi, good afternoon. Can you discuss the marketing process and pricing on the St. Louis deal? Based on your disclosure, it looks like that portfolio sold at a high 5% cap rate, which is maybe a little higher than I would have thought, given you know, just current trends in the transaction market and some other comps. So is there any other additional color on that portfolio deal would be helpful.

[Nick Anthony:]

Yeah, Vince this is Nick again. We broke that transaction into two pieces. One asset traded at a low 4 cap and the other part of it traded at a mid to upper 5, as you alluded to. Yes, the turnout was good. One difference on this portfolio and different from all the other assets is the rents on the latter portfolio was a little bit above market, about 4%. So I think that drove the price in a little bit higher than probably what you might have expected.

[Vince Tibone:]

Got it. That makes sense. So why were they above mark? Were these build-to-suits that are you know had to better build out and we're above market? Is that both the reason they were above?

[Nick Anthony:]

Well, and there was - there's tax abatement in that market. And I think that's part of the reason why they were a little bit above market. I will tell you the IRR was on that transaction was still in the mid 5s.

[Vince Tibone:]

Got it, that's really helpful. That's makes a lot of sense on where that why it landed at that spot. Maybe one more for me, I just wanted to follow-up on Jim's opening comments that certain submarkets could have up to you know as high as 25% rent growth this year, is, you know, could you provide a little bit more detail on where you're seeing the strongest fundamentals?

[Steve Schnur:]

Sure, Vince this is Steve. You know, I think it's no secret, Southern California, Northern New Jersey, Northern California are performing exceptionally well. I think I saw a report recently that CB said northern New Jersey was north of 30% year-over-year. So you know, we're seeing in our own portfolio, I think with the numbers we put up on a national basis were best in our sector. And if you broke it out by submarket it tracks certainly with those three that I just outlined to you for being the top of the class.

[Vince Tibone:]

Makes sense. Thank you.

[Operator:]

Thank you. Next, we'll go to Blaine Heck. Please go ahead. Your line is open.

[Blaine Heck:]

Great, thanks. Good afternoon. Jim, can you talk a little bit more about the thought process behind forming a JV for the Amazon assets instead of an outright sale? I think past commentary from you guys pointed more towards selling the assets outright. So was there anything meaningful that kind of changed your mind there?

[Jim Connor:]

No, if you go back to the conversations, you know, I think we were trying to guide people towards a combination. There are a number of the assets when you look at our overall Amazon Holdings that we determined, you know, we did want to own long-term, and those are the ones that we're selling outright. And, you know, as Nick alluded to getting, you know, unbelievable premium pricing. Other ones are in markets that, you know, we really would like to, you know, at least keep you know, an interest in those properties. And we also want to, you know, maintain as many of those as we can from a relationship perspective. So, you know, it's a little bit of a balancing act, keeping some wholly-owned, some in the joint venture and then some selling outright. And I think going forward, you'll continue to see us do all of the above, some will be a 100% wholly-owned, some will go into the venture and some will be sold outright.

[Blaine Heck:]

Yeah, that makes a lot of sense. And then just as a quick follow-up, is there any type of, you know, right of first refusal that CBRE has on any other assets being sold beyond the three tranches you talked about? Or, you know, any other agreements or stipulations within the JV that we should be aware of?

[Jim Connor:]

So, yeah, Nick can give you some color, there's a little bit of, you know, close by property and -

[Nick Anthony:]

Yeah.

[Jim Connor:]

Things like that.

[Nick Anthony:]

I mean, Blaine, this is Nick. We control our destiny there. You know, if we want to sell something outright, we can sell it outright. If we want to hold something, we can hold it. Now, if we want to do something in another JV, then they do have some rights first refusal, of course.

[Blaine Heck:]

Got it. Thanks guys.

[Operator:]

Thank you. Our next question will come from Michael Carroll. Please go ahead. Your line is open.

[Michael Carroll:]

Yeah, thanks, Jim or Nick, I guess with the announced St. Louis sales how's the company thinking about the geographic concentration today? Are there any other markets you want to exit or reduce your exposure to? And I know Indianapolis has been something you talked about a little bit? I'm not sure if you're happy with that concentration today. But how should we think about how that should change going forward?

[Jim Connor:]

You know, Mike, it's an ongoing evaluation. You know, we've said for the last few years, we like our portfolio, you know, we continue on an annual basis to try and be good stewards of the portfolio. And look at asset allocation, look at the assets that are performing, you know, at the bottom of the list, whether it's, you know, below market rent growth, rent escalations, the agent, clear height of the asset, whatever the case may be. But as we continue to focus on Tier 1 assets, we'll always be looking to prune out of the portfolio, whether we do market-wide decisions like we did in St. Louis and we have done before or we continue to do, you know, smaller portfolios simply remains to be seen based on the opportunities that we see in the marketplace. I don't know, Nick, if you have any additional -

[Nick Anthony:]

I think that's right, I think that's always one of the capital raising levers that we use. And then we, you know, there's always going to be some lower-performing assets, although the bars getting higher and higher for those assets. So we'll continue to look at it on an ongoing basis.

[Michael Carroll:]

Okay. And then, I guess with the joint venture to reduce the Amazon exposure I mean is there a goal of what type of tenant concentration you're comfortable with? I mean, it's around 8% now, I mean, do you want to get it down to 5% or how should we think about that?

[Jim Connor:]

We've had a stated goal of trying to keep it in the 4% to 7% range on an ongoing basis. You know, the challenge is as fast as Nick can push it out the back door and dispositions and joint ventures, Steve's guys are bringing it in the front door by the Amazon Prime truckload. So you know, it's this kind of the same answer as I use with Blaine. It's a bit of a balancing act. And, you know, we want to be clear the numbers going to fluctuate up and down as we, you know, as we continue to do other deals in our partnership with Amazon and, you know look, they've been great partners and we've done last mile facilities and sortation and fulfillment centers and we hope to keep having more and more of those opportunities. And, you know, we'll manage our exposure and manage the balance sheet accordingly.

[Operator:]

Thank you. And next we'll go to Dave Rodgers. Your line is open.

[Dave Rodgers:]

Yeah. Good afternoon, everybody. Maybe wanted to talk about development first, again, Jim, and Steve probably for you. But I guess as you look at the development pipeline about half of it goes in-service in the third quarter, and then I think after that, you'd see the occupancy rate dropped down a little bit, you start another $600 million or so on the back half of the year. If you start more on spec, how low could that kind of pre-leased component go? Obviously, you're leasing quite a bit at the same time, but I guess I'm just trying to think about where you might head in the second half of the year with that rate overall, and how many build-to-suits you might have in that pipeline?

[Jim Connor:]

Yeah, they've all started and Steve can give you a little bit of color. You know, starting at the June NAREIT meetings. You know, we started guiding people towards the 40% to 50% range in the pipeline in the third quarter for the exact reasons that you outlined. Buildings coming in-service and, you know, new projects that we're starting. So I think, you know, the low point would be in the, you know, the low 40s. But, you know, as Steve alluded to, given the volume of spec leasing so far in advance of buildings completing I don't - I'm pretty confident we're not going to go that low. I mean effectively sitting here today we're at 54%. So even with all the ins and outs, I don't think you're going to see us lose 50% of our pre-leased percentage. I don't know, Steve, you have any other color?

[Steve Schnur:]

Yeah, Dave. The only thing I'd add in to your question is, I think you'll see us start more spec projects like we've outlined in the latter half of the year that the spec leasing pipeline as Jim indicated is, is strong. So I don't see us fall off there. But I do think, you know, some of the commentary around material shortages and things that we're dealing with, I do think you'll see build-to-suits maybe get a little tougher in the next, you know, 6 to 12 months as materials' shortages start to push that out a bit.

[Dave Rodgers:]

Got you. That's helpful. And then Steve, maybe one last one for you in terms of the size range of tenants or the size spaces, you know have you seen a meaningful difference in terms of either demand or rent growth overall?

[Steve Schnur:]

Yeah, I'd say for us 250 to 500 was the strongest sector. Next was 100 to 250. So call that you know, 100 to 500 was our best category from a rent growth that also represented about 65% or 70% of our overall activity. Honestly, we don't have a lot of spaces available over 500,000 feet. I think that that market and the places we have space right now is very hard. I wish we had more of it. You know, everything's doing well, it's all relative. But I think you know, for us that 100 to 500 was the best performer in the second quarter.

[Dave Rodgers:]

Great, thank you.

[Operator:]

Thank you. Next, we'll go to Manny Korchman. Please go ahead. Your line is open.

[Manny Korchman:]

Hey. Good afternoon, everyone. Nick, you gave a little bit of color on acquisitions. You did. You're confident in raising your acquisition guidance, given that where valuations have gone. Is there anything special about the acquisitions that you're going to you know look at going forward same markets, different markets, different tenants anything we can learn from that?

[Nick Anthony:]

Yeah, Manny, this, you know, we're going to continue to focus and lever our development teams in the ground mainly in our coastal Tier 1 markets. You know, our pipeline right now is probably about $1 billion deep. We may not get any of those deals, but we'll be looking at deals, you know, like the dream is the deal that we just did this quarter, in the container yard, deals like that, that are more likely marketed, that we'd be more creative on our redevelopment place. So we still feel very good that we'll get there. But it is challenging out there. Obviously, we talked about this in the past, you know, the broadly marketed stuff, you know, Class A 10-year leases, they're getting very, very expensive. We're starting to see a lot of sub 3 caps now.

[Manny Korchman:]

And then just turning back to the JV discussion for a second. If you were to go and sell, you know, the next tranche of assets, so let's say assets 8 through 15. Is that something you've already discussed with a CBRE? Or do you think you go to market and figure out if there's going to be a new partner or a different JV structure for that?

[Nick Anthony:]

No, I mean, we've got 9 assets identified, now they're going into the JV, we've got a pool of assets that we know that we're going to sell outright. And then we've got another pool that we know we're going to hold, each new deal that we do, we have a discussion internally of what bucket that needs to go into. And we'll make those decisions one-by-one. But we've got a strategy for every asset that we hold today.

[Manny Korchman:]

Thank you.

[Operator:]

Thank you. Next, we'll go to Mike Mueller. Your line is open.

[Mike Mueller:]

Yeah, hi. I was wondering should we think of this year's disposition levels of $1 billion plus as being, you know, a bit inflated to jumpstart the JV? Or is this basically the new norm when you're running it about $1.03 billion of development starts?

[Nick Anthony:]

Hi, Michael, this is Nick. No, I think this is a bit inflated, you know, we were doing a little bit of catchup on the Amazon exposure was the primary reason behind it. And you know, that we're taking a cap that, you know, we didn't know what's going to happen with the tax environment. So we're being a little bit cautious from that perspective as well. So I wouldn't expect them to remain at this level on a go-forward basis.

[Mike Mueller:]

Got it. That was it. Thank you.

[Operator:]

Thank you. And next we'll go to Brent Dilts. Please go ahead. Your line is open.

[Brent Dilts:]

Great, thanks. Hey guys. In the prepared remarks, Steve talked about how a greater proportion of coastal renewals in 2Q led to a jump in rent growth, but said that mix is lower in the back half. But would you be able to quantify the coastal mix of upcoming renewals in the second half of this year and maybe in the next year?

[Mark Denien:]

Hey, Brent, this is Mark. I'll start and Steve can add in. You know, we've been running at about 15% to 20% of our rollover has been in the coastal markets prior to this quarter. This quarter, it did jump up to 35% like we mentioned. The back half of the year, I think you'll see it back down in that 15% plus or minus range. And the reason I'm not quoting exact numbers is, we don't exactly know how many early renewals will pull forward. That's always the million-dollar question, right. But if we look at what we know that's coming at us, plus some slight early renewals, we think we'll have, that coastal market rollover will probably be closer to, you know, 15%, 20% at the back half year like it has been prior. So the two things I would take out of that is, a little bit of the record growth this quarter was driven because we had a little bit more exposure there. But it's still not the exposure that our portfolios at 40%. So I think that gives us some really good comfort going into, you know, 2022 and beyond, that those numbers could even escalate further. It may moderate a little bit in the back half this year, but we still think it's going to be very good. So, you know, as we sit here today, we still think you're going to see mid-teens give or take on a cash basis and, you know, 30% plus or minus on a GAAP. We're still getting good rent gross everywhere.

[Steve Schnur:]

Yeah, the only thing I'd add to that is as Mark said, it's pretty broad-based. I mean, I'm just looking through some of our numbers here. I mean, Central Florida, Cincinnati, Indianapolis, Nashville were all markets that were north of what we've reported at 16% or 19% cash. So very broad-based for us and what we're seeing on the gross side.

[Brent Dilts:]

Okay, perfect. Thanks. And then last one here, on the tenants that haven't been renewing, you know, what types of tenants are electing not to renew? And then since you're backfilling so quickly, what types of tenants are immediately backfilling the space?

[Steve Schnur:]

On the renewals side, I would tell you, the majority of the tenants we have either not renewed or lost however you want to say it, the majority would be a space need, right. They either needed more space or different space than what we had. Right behind that would be they didn't want to pay what we expected to get. And then on whose backfilling you know, I think the top segments right now for our portfolio, I mentioned in my remarks 3PLs, you know, the 3PL business has been on fire relevant to supply chain, increased inventory levels, safety stock, we're seeing a lot of e-commerce requirements that needs space quickly, turning to 3PLs to fulfill that need. E-commerce has been very active, consumer products and retails has been very strong started this year. So again, very broad-based, but hopefully those were some specifics for you.

[Brent Dilts:]

Yeah, appreciate that. Thanks, guys.

[Operator:]

Thank you. Next, we'll go to Jamie Feldman. Please go ahead. Your line is open.

[Jamie Feldman:]

Great, thanks. I was hoping to ask a similar question to the one on dispositions, but on development starts. So I mean, as you think about, you know, you bumped your guidance for the year, is this something you think is sustainable into next year this level? Or are there pull forwards or you know stuff that didn't start last year you were able to start this year? And how are you thinking about the run rate for starts?

[Jim Connor:]

Yeah, Jamie, I would tell you, as my General Counsel looks at me make sure I don't give guidance for next year. We're pretty optimistic about our ability to maintain a run rate that's several hundred million higher than we've historically been. So you know, we'll see when we get to January. But as we look at the pipeline for the next 18 months, we're pretty optimistic about build-to-suit, about spec development. You know, there's been a lot of discussion about land, we control our own destiny on the land for all of our 22 pipeline. There's been a lot of talk about material. We've gotten way out ahead of that in terms of contract, development, design, securing steel and precast spots. So you know, all-in-all, we feel pretty good about it. And you know we look forward to sharing that optimistic guides with you in January.

[Jamie Feldman:]

Okay, thank you. And then how far ahead can you plan and can you pre buy like, you know, as we think about you said, 18 or over the next 18 months what - what's the -

[Jim Connor:]

Well the target about structural steel, you're prebuying virtually a year out right now. So you know and we can lock in material and production slots probably almost 18 months out. And the newest one, we talk about steel, precast has gotten out there, roofing materials are also in significant demand. That's the other one that lead-times and prices have gotten up there. But we've been working diligently to secure all of those.

[Jamie Feldman:]

And what does that add to your development costs to do that ahead of time?

[Jim Connor:]

Not that I don't have to pay for it until they deliver.

[Jamie Feldman:]

Okay. All right, great. Thank you.

[Operator:]

Thank you. Our next question will come from Nick Yulico. Please go ahead. Your line is open.

[Nick Yulico:]

Thanks. Hi, everyone. Just I had a question in terms of, you know, cap rates that, you know, you did inch down the cap rate, I guess in your development page in terms of you know your margin creation assumption there. Maybe you can give some perspective on how much you think cap rates have moved, you know, year-to-date and over the past year?

[Mark Denien:]

Before Nick chimes in, Nick, I just want to add one thing there just to clarify. We don't adjust cap rates on our development projects, once in a pipeline unless there's like a lease that gets signed with an Amazon or an A credit tenant that causes us to think the cap rate change. So the changes in the cap rate there is really due to population changes. So it's new populate - you know, it's new coastal markets that are getting started in a lower cap rate market that maybe projects that got placed in-service. So I just want to clarify our methodology first, and then I'll let Nick comment on the actual cap rate changes.

[Nick Anthony:]

Yeah, I would tell you over the last six months cap rates had probably compressed 50 to 65 bps. The Prominent Brokers Group literally revised their cap rates and Newark Castle County, New Jersey over the last two weeks to be sub 3 now. That's the first time I've ever seen, you know, published cap rates south of 3, but we're seeing comps in that level too now. A lot of this can be attributed to this how fast rents are growing too, because as these, you know, as rent growth increases and in-place leases get low market, people are willing to lower their cap rates. But it is moving very quickly and it hasn't stopped yet.

[Nick Yulico:]

Okay, great. That's very helpful. Thanks. And then in terms of the guidance, I know, you talked about this last quarter, but in terms of the - some of the slowdown in the back half of the year on same-store, I think you said was due to you know, some burn off of free rent and as well, you had some occupancy comps that were tough in the back of the year. But you did increase your occupancy guidance, I guess I'm just trying to still understand some of the nuances in the back half of the year we should be thinking about.

[Mark Denien:]

Sure, Nick, I'll try. And you know, as you've just laid out, there's a lot of moving pieces here. So, a little bit of it is less uplift from free rent in the back half of the year compared to the first half of the year. But most of it is occupancy. And when I talk about occupancy, I'm not talking about a decrease in our occupancy from the first half of '21 to the back half, I'm talking about a tougher occupancy comp in '21. So for perspective I have some numbers in front of me. If you look at the first half of this year, we actually had a 40 basis point favorable occupancy uplift from '21, from '20 to '21, when we were 97.6% in the first half of '20 or 98.0% in the first half of '21. So that's a 40 basis point positive impact. When you look at the back half of the year or occupancy comp in 2020 was 98.5%. So we think our occupancy will be pretty flat from the first half of '21 to the backup, maybe call it 97.9%, but even with occupancy flat from the first half to the back half, because of that hard comp, we go from a positive 40 basis points in the first half of the year to a negative 60 in the back half. So if you'd look at it that way, you really have 100 basis point change in occupancy solely because of the comp period, not because of anything going bad in our portfolio now. So that's the main driver here. I also think that sets us up then for next year, because next year won't have that 98.5% comp like we had this year. So I know there were a lot of numbers there. But if you write all that down and follow it, hopefully that makes sense.

[Nick Yulico:]

Yeah, thanks, Mark. Appreciate.

[Jim Connor:]

We'll just call Ron afterwards -

[Operator:]

Thank you. Our next question will come from Caitlin Burrows. Please go ahead. Your line is open.

[Caitlin Burrows:]

Hi, there. Just a question on the land bank. I think you touched on it briefly before, but could you give us some detail on what you're seeing on the land buying process these days, I imagine it's rather difficult, and just being able to keep up that land bank to allow the development to continue.

[Jim Connor:]

Yeah, Caitlin, I can start and then Steve can give you some color. You know, my guys will tell you how difficult it is. And yet, they're having no problem continuing to keep our land bank, you know, at over $300 million, we actually anticipated to go up in the second half of the year. So I'm not really worried, you know, the old adage of they're not making any more, we continue to find opportunities, you know, the challenge is finding, you know, finding the right opportunities where we can create value, particularly in the coastal Tier 1 markets, and managing the entitlement process. That's gotten a little bit more challenging. And so as we work our way through that, that affects the timing of when we could deliver sites for build-to-suits or spec development. And that's really more the art of the deal that Steve and his guys are really, really good at.

[Steve Schnur:]

Yeah, Caitlin, I'll just add, you know, our land bank today with 97% of our land bank is in coastal markets, which is great from the markets we want to develop in and grow rents. And it's also - they also happen to be the tougher entitlement markets as Jim indicated. So we're finding plenty opportunities, you know, we've got a lot of land under option agreement under contract can support us, you know, probably 15 to 20 million square feet going forward, we won't close out all of that, you know, we're working through due diligence and things on those sites. So we feel very good about it. You know, you look back over our last four years, you know, we've averaged between $275 million and $400 million in our land bank, and we buy $300 a year, we monetize $300 a year. So we've got very good teams as Jim indicated on the ground and feel confident about it. But it is certainly one of the more challenging things we deal with day-to-day.

[Jim Connor:]

It is and the last point that I would make, Caitlin that the perfect land acquisition from our perspective is, we close on Tuesday and we put it in production on Wednesday. So you never see it hit the land bank, you know, at quarter end. And we're successful at doing that a lot of the time that too is getting a little bit more challenging, given the constraints of the market out there. But we're pretty efficient processors. And, you know, I know, there's been some analysis done about, you know, the number of years of production or the amount of production you have in land inventory. And I'm not worried about our development pipeline for the foreseeable future, because we've got plenty of land that we own, we got plenty of land that we control that we could close on, you know, in the coming years. So I think we'll be fine from that perspective.

[Caitlin Burrows:]

That's a good point. Thanks. And then maybe one more you mentioned earlier in the call that it's not the top - that probably one of the top reasons people move out is that they just need space that you don't have it. But I guess from the standpoint of tenants not wanting to pay the rents that you guys are commanding, I guess, how are you guys thinking about that balance between occupancy and rate at this point and being aggressive or not, but seems like aggressive on the rate side?

[Jim Connor:]

Will give you two answers. Jim will tell you we're not pushing high enough, Steve will tell you we're doing a great job, because we just broke all the records and had, you know, our highest ever cash and GAAP rent growth. So, you know, it's a balancing act, I've used that expression, but, you know, it costs more to re-tenant to the space. So, you know, we try and keep people as much as we can, but we have a pretty good handle on what market rent is. And if we can continue to grow our rents at the level we are, I'm pretty satisfied that our guys are pushing.

[Caitlin Burrows:]

Thanks.

[Operator:]

Thank you. Next, we'll go to Rich Anderson. Please go ahead. Your line is open.

[Rich Anderson:]

Thanks, good afternoon. So on that topic, Jim, isn't it true like 19% cash releasing spread isn't that essentially, you've given your tenant an interest where you loan for the life of their lease, and they now are paying you back? I mean it seems to me it's not a really efficiently run machine. I know it feels good to say 19% but, you know, in the interest of time value of money, it'd be better for Duke to have that money before the lease expires. So I wonder what you think about that. And, you know, if rent is not a pain point very much for customers, you know, is there an angle to maybe at least have more of a rent escalation dialed into your leases as opposed to you know 10% market rents and a couple percentage points of rent escalation over the course of the lease?

[Jim Connor:]

Well, I - I'll start out, you know, that's a great theoretical question. I'm certainly not looking at it as an interest free loan, you know, I think, you know, looking at the cash releasing spreads, and you know, look at your own rent, you know, on your own place, if your rent goes up effectively 20% from the end of your lease to the starting new lease, that's a pretty healthy increase. And you add in that we're getting 3% to 3.5% annual rent escalation. So that's how you get that, you know, the GAAP rent growth numbers. So, you know, I mean pretty good numbers compared to our historical numbers at all of our peers. So -

[Rich Anderson:]

No I get it. It means the market is very healthy, but if it were run efficiently, you would be getting your market rent more quickly, rather than waiting for it. And that's my only point. That was the silly theoretical question. But I figured -

[Jim Connor:]

No, no, no, I think, you know, that's a valid point. I mean, you know, one of the things we've talked about is, you know, one of the challenges of our portfolio, given the length of lease terms is, we don't, you know, we don't get the opportunity to get into spaces as frequently as some of our peers do. You know, I think we all understand the value of lease term, particularly with the quality of credits that we have. But, you know, that's why we're pushing when these things are rolling. And as you know, as Nick alluded to in that acquisition, you know we just bought a building with rent that's 75% under market. Somebody's going to get a hell of a price increase in about two years.

[Mark Denien:]

Well I just had a couple of comments, Rich, and you touched on them actually is, well, first of all, I'd say, the tenants are feeling this pain to say that, you know, it's not painful for him is not really, right. They're feeling the pain, number one. Number two, the market is the market and the market has moved from what was a 1.5% to 2% escalator that now once, you know, easily into the 3s and pushing 4 in some markets. So we're getting there, well I'd say market is a market. And then the last thing I would say is, you know, there's a cost associated with shorter-term deals, you know, the more often you're rolling deals, the more you're putting capital in those deals. So there is a cost associated with that, and a risk associated with that too. So you got to look at everything a little bit on a risk associated basis - risk adjusted basis, I'm sorry, and then also look at the totality of the cash flow stream. And there is, you know, some savings to be had on the capital side by not rolling on this quick. So it's a balancing act, but you got to factor all those now.

[Rich Anderson:]

Okay. And then the second question is, if you were a private company, would you be reducing or increasing your exposure to Amazon? In other words, you're owned by shareholders and we - and that's and you're doing - you know you're in some ways you are responding to, you know, a balance and all that sort of stuff. But is it when you start reducing your exposure to Amazon are you actually doing that in sort of cringing in a way because it's such a good company?

[Jim Connor:]

No, Rich, I'll tell you, I'm a pretty substantial shareholder of this company. And I have input in all these decisions, I'll tell you, we're doing the prudent thing.

[Rich Anderson:]

Okay.

[Jim Connor:]

Yeah. Any good asset manager would tell you having more than 10% of your exposure to any one tenant, even Amazon, who we love as a partner, and who has a great profile, you know, is probably taking on more risk than you should have. And, you know, we've looked at creative ways to reduce that. And, you know, limit our exposure still give us the opportunity to control the assets and maintain the relationship. So, yeah, I would tell you, if we were a private company, I think we'd be doing the exact same thing. We might get greedy and monetize more of it sooner. But, you know, that's a conversation for, you know, for a bar of the next time we're all together.

[Rich Anderson:]

I'll catch you in Las Vegas on that one.

[Jim Connor:]

I'll be there.

[Rich Anderson:]

Thanks very much, guys.

[Operator:]

Thank you. And next we'll go to Bill Crow. Please go ahead. Your line is open.

[Bill Crow:]

Hey. Good afternoon and thanks. And I guess I'll apologize if you don't have philosophical questions, because I'm going to ask you one as well. And it really centers on development economics, it just seems like over the last couple of years, it's become much more popular to focus on spreads and less than stabilized yields, which certainly makes sense if you're, you know, flipping Amazon boxes or a merchant film with it. And I know both metrics are intertwined and, you know, revolve around cost of capital, but I'm wondered, is there a point at which the development yields get so low that they don't make sense, despite the fact that the spreads may still be healthy?

[Jim Connor:]

Yeah, in theory there is. I don't know where that is or what that number is. I mean, we look at the value creation spreads, even though we're not monetizing the vast majority of the assets. We look at the spread on the stabilized yield in the 5 or 10 year average yield over our cost of capital. And, you know, our ability to grow the top line and the bottom line. But the alternative is the yields on acquisitions are probably on average 200 to 250 basis points lower. So, you know, if you've got a healthy, strong company, you got a really strong growing economy and strong markets, I think you want to put as much money as you can into the development side, supplement that with strategic acquisitions and that's really the best way to run the ship, which is what we're trying to do.

[Bill Crow:]

Right, I guess you're right, vis-a-vis acquisitions, certainly it makes a lot more sense. But, you know, maybe there's a time at which a strong growth just doesn't make as much sense. And maybe it takes trading, you know, at a discount to NAV or something like that to make that happen. And it's just a philosophical question.

[Jim Connor:]

No, no. I mean in theory, you're absolutely right. I mean, if land prices continue to rise, the entitlement process gets more and more challenging, material costs rise and we get to some softening in the overall market. And, you know, yields, you know, because of how we got to underwrite the deals, you know, get a lot thinner, then yeah, we would dramatically pull back on development.

[Nick Anthony:]

But IRRs are still very strong on our development pipeline. And we do look at that as well.

[Bill Crow:]

You know now let's hope we don't get to that point. Congratulations. Have a good quarter, guys. Appreciate it.

[Nick Anthony:]

Thank you.

[Jim Connor:]

Thank you.

[Operator:]

Thank you. And next we have a follow-up from John Kim. Your line is open.

[John Kim:]

I think I had touched I didn't mean to do that.

[Operator:]

Okay - that's okay. And we have no further questions in queue at this time.

[Ron Hubbard:]

Thanks, Amy. I'd like to thank everyone for joining the call. And we look forward to engaging with many of you throughout the second half of the year. Operator, you may disconnect the line.

[Operator:]

Thank you and that does conclude your conference for today. You may now disconnect.