If e-commerce was growing like wildfire before the novel coronavirus outbreak, then COVID-19 was when that blaze consumed your crazy uncle's apocalypse bunker full of explosives. This quote from FedEx's (NYSE: FDX) chief marketing and communications officer, Brie Carere, explains it more succinctly than I could:
"Several years of retail share gains have been compressed into a few months in the United States with e-commerce as a percentage of U.S. retail increasing from 16% in calendar year '19 to 27% in April 2020."
It's clear that e-commerce is a major trend that investors should be paying attention to, and that trend extends to the real estate market as well. For those looking for investment opportunities in real estate with significant exposure to e-commerce, here's why Prologis (NYSE: PLD), Terreno Realty Corporation (NYSE: TRNO), and Equinix (NASDAQ: EQIX) should be on your radar.
Prologis is likely the first stock people think of when they hear "real estate + e-commerce." With a market capitalization of $70 billion and a property footprint of 964 million square feet, the real estate investment trust (REIT) is far and away the biggest player in the industrial real estate market.
Typically, being the largest in any industry also means being a slow-growth company relative to smaller peers. That certainly isn't the case here, though, as Prologis has been able to grow its funds from operations (FFO) per share at a staggering annual rate of 12% and has increased its dividend at an 11% annual rate, all while maintaining a stellar balance sheet.
One of the keys to Prologis' success goes beyond riding the coattails of e-commerce growth. Rather, the company has looked to concentrate its recent investments in what it is calling "last touch" facilities. These are distribution centers in urban areas that make e-commerce conveniences such as overnight and same-day deliveries possible. According to management's calculations, a 1% decrease in transportation costs across a supply chain can justify a 15% increase in spending on real estate in locations that reduce delivery times. It's no surprise, then, that it has been able to charge significant premiums to these last touch facilities.
Allocating capital toward last touch facilities and others that significantly reduce transportation costs, its ability to leverage its investment-grade balance sheet, and its ability to use its size and scale to reduce management expenses across its portfolio have all translated into fantastic growth for its investors. With e-commerce adding jet fuel to this growth engine over the next several years, investors will likely be pleased with the results.
Terreno Realty Corporation
From a bird's-eye view, Terreno Realty Corporation looks like every other industrial REIT that's trying to capitalize on the surge of demand for distribution and logistics warehouses. Also, similar to Prologis, Terreno focuses largely on properties in urban areas that serve as last touch facilities. These are all fine traits for a REIT looking to capture growth from e-commerce, but what sets Terreno apart from many other REITs in this space is its focused, disciplined investment strategy and a management team that has an incentive structure that lines up very well with equity investors.
As the company lays out in its investment presentations, Terreno Realty isn't interested in growing simply for growth's sake. It has a clear playbook that it follows. It invests exclusively in value-add properties in six metropolitan markets across the U.S. These markets -- L.A., D.C., San Francisco, Seattle, New York, and Miami -- are all either seeing a shrinking supply of industrial property or new additions are only offsetting lost square footage. Also, the company doesn't do new ground-up development or complex deals under joint ventures.
By narrowly focusing on the investment opportunities in these markets, properties that fit this criteria, and maintaining a solid balance sheet, it has generated spectacular returns. Funds from operations have grown 1,100% since 2012, and its stock has outpaced both the S&P 500 and the Vanguard Real Estate ETF (NYSEARCA: VNQ) on a total return basis.
If that weren't enough, it's encouraging that management's incentive structure is tied to its ability to outperform the broader REIT index over the long term and that its compensation package is in common equity just like shareholders. Many other companies opt for more complex compensation packages where management's incentives aren't necessarily aligned with shareholders.
Terreno may not look like anything special at first, but knowing what's under the hood is what makes this company worth considering as a real estate play that is well-positioned to capture e-commerce gains.
OK; so Equinix isn't what you would call a direct investment in e-commerce, and Equinix even admits that retail is a relatively small portion of its overall client base. That said, this data storage REIT is a business that benefits from the digitization of our everyday lives, e-commerce included.
While data storage is by no means conventional real estate, several aspects of it make it suitable to be a real estate investment trust. Rather than charging rent for space in a building, Equinix charges rent for use of data centers that can meet mission-critical demands like customer data privacy compliance and digital security. Customers use Equinix because it allows them to gradually scale their business without large capital costs to build their own data centers, and Equiniix benefits because it can rent out space at any given data center to multiple clients.
What's perhaps most impressive about Equinix's business is that it is the go-to data center for the big four cloud computing companies -- Amazon (NASDAQ: AMZN) Web Services, Google (NASDAQ: GOOG) Cloud, Microsoft's (NASDAQ: MSFT) Azure, and Oracle (NYSE: ORCL). As of present, more than 40% of the cloud edge computing -- the remote processing power for these networks -- for these big data companies is at Equinix facilities.
The monumental growth in computing power has been a spectacular boom for Equinix, and that's forecasted to continue for years as the company expects major spending in cloud computing, 5G networks, the Internet of Things, and artificial intelligence. Having that many demand drivers pushing it along provides Equinix with a massive opportunity to grow its business and its dividend to investors.
Real estate for growth, not necessarily income
As an asset class, real estate is typically considered one that generates cash flow for investors while also offering some modest price appreciation. While all three of the companies mentioned here offer dividend yields and all three have grown those payouts at impressive rates over the past several years, none of them are what you would consider income investments. Of the three, Prologis has the highest dividend yield at 2.4%. That's pretty paltry by real estate standards.
That said, all three of these companies are in growth mode and elect to retain some funds from operations to reinvest in the business rather than pay out higher dividends. That's understandable with the massive growth opportunities in front of them from e-commerce. If you're looking for stocks that will provide significant income right now, these aren't the ones for you. If you want an investment you can hold over the longer term with considerable growth opportunities, though, then Prologis, Terreno Realty, and Equinix should be high on your list.