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Prologis (PLD) owns and manages interests in more than 2,669 distribution facilities, service offices, and properties, spanning about 483 million square feet of space in 105 markets, including North America (72.36% of total property square footage as of September 30, 2007), Europe (19.38%), and Asia/Pacific (8.26%). The company classifies its operations into three reportable segments: Property Operations (PO), Fund Management, and Corporate Distribution Facilities Services (CDFS). Property Operations, engaged in direct long-term ownership of industrial distribution and retail properties, accounted for approximately 8.17% of 3rd quarter total segment revenues. CDFS, the property development division that feeds the PO division or sells assets to third parties, generated approximately 90.75% of the total segment revenue in the 3rd quarter, while Fund Management, accounting for long term investment management property funds and also fees and incentives from property management and development, contributed approximately 1.08% to total segment revenue. Prologis does not have a single tenant that accounts for more than 3.8% of its operating portfolio Deutsche Post AG is the company's largest tenant, contributing 3.35% of the portfolio's annualized base rent.

Prologis is the benchmark REIT owner and developer in the industrial distribution sector, and is poised to benefit most as the sector continues its broad recovery. The company had an exceptionally good 3rd quarter gross proceeds from CDFS dispositions increased to $3.1 billion in the 3rd quarter of 2007. Most of the CDFS sales were from a $2.1 billion sale of shares of Macquarie Prologis Trust to a property fund. Total FFO contribution during the quarter from CDFS sales was $230.1 million versus $92.8 million recorded in 3Q 2006. The CDFS segment develops and or rehabs industrial properties and sells these assets either to one of the company's funds or a third party. The company's current CDFS development pipeline now stands at $6.2 billion, up 16.1% over December 31, 2006. Of this amount, about $2.8 billion of projects are currently under construction, while the remaining $3.4 billion of completed developments and repositioned properties were 65% leased at the end of the quarter. CDFS generated total income of $2.4 billion from acquired property portfolios. While CDFS income is not as predictable as recurring rents, we feel this is a viable business that will continue to be profitable throughout the first part of 2008 as we do not predict a material rise in cap rates in class A properties next quarter.

All segments reported good operating results during the quarter, reflecting continued strong global industrial market demand. While North American markets could be slowing, the company is well diversified internationally, and most of the company's growth going forward will be outside of North America. In the 3rd quarter FFO came in at $1.41 per diluted share, up 78.5% from $0.79 in the same period in 2006. The substantial rise in FFO can be attributed to CFDS sales, high occupancy levels, growth in rental rates, and expansion of the investment management business. PLD increased its full year FFO guidance to $4.40 - $4.50 per share. The increase is primarily due to the 3rd quarter recognition in FFO of $0.36 per share related to PLD's acquisition of the shares of Macquarie ProLogis Trust (MPR) and subsequent contribution to a new property fund. Without this sale, FFO the 3rd quarter would have been $1.05 per share, still a 33% increase from the prior year quarter.

The company also provided guidance for 2008, and expects FFO to fall in the range of $4.65 to $4.85 per share. At the high end of guidance, this would represent over 10% y/y growth from our 2007 estimates.

During the 3rd quarter same store net operating income increased 5.4% vs. 3Q 2006. The increase in net operating income can be attributed to 9.6% growth in same store rents and 2.7% growth in average same store occupancy. YTD same store rents are up 8.4%. In the company's stabilized portfolio overall occupancy stood at 95.5% in the 3rd quarter. In Asia SS occupancy finished the quarter at 98.9%, Europe 93.7% and North America 95.6%. Leasing activity was strong during the 3rd quarter. The company signed 493 new leases representing 29 million square feet in the 3rd quarter. 3Q retention was 79%. The company has posted positive same store revenue, NOI, and occupancy growth over the past several quarters and we expect this trend to continue throughout the year. The company expects occupancies to remain stable and rental rate growth on lease turnovers to continue into 2008.

The property fund business continues to grow at a healthy clip. During the quarter, the company announced four new property funds, in addition to ProLogis North American Industrial Fund II (NAIF II), with a combined capitalization of over $14 billion. The funds will own distribution centers in Europe, the United States, Mexico and South Korea. The total fund business has now grown to $33 billion of assets, which will result in significant increases in management fees when these funds are fully invested.

Prologis currently has a large International development pipeline. The company had $777 million of development starts in the 3rd quarter of 2007 $232.3 million in North America, $357.2 million in Europe, and $187.4 million in Asia. The company expects global trade to continue growing at a brisk pace, and increased projections for total global development starts to $4 billion at the high end in 2007, up from a high end estimate of $3.6 billion last quarter. In the 3rd quarter, the company completed developments (including joint ventures) worth $509.7 million. At the quarter end, PLD had projects worth nearly $2.8 billion under development, led by Europe ($1.1 billion, 17.2% leased), Asia ($970.9 million, 20.1% leased) and North America ($617.1 million, 24.2% leased). In Asia, net absorption remains healthy, and leasing activity in the company's new inventory development is brisk. In North America, net absorption in the top 30 logistics markets remained healthy at over 32 million square feet during the 3rd quarter. In Germany, PLD signed agreements for roughly 1.8 million square feet of new development on a pre-committed basis. Nearly 80% of the company's starts this year are outside North America.

ProLogis' share of FFO from property funds increased by 105.7% in the 3rd quarter to $39.9 million, up from $19.4 million in 3Q 2006. Fee income from property funds for the quarter increased 32.8% to $27.1 million, compared with $20.4 million in the same quarter of 2006. During the quarter, total assets owned and under management increased to $34.4 billion, from $26.7 billion at December 31, 2006, a year-to-date increase of 28.8%.

We like the fact that Prologis is mitigating some of the risks via joint venture in its push to enter the unknown Chinese market however, we believe that as the company gains expertise, it will begin to capture more of the development upside in the country. In China, PLD now has a stabilized portfolio of 7.2 million square feet, which is 98.3% leased. Leasing activity is good in Guangzhou, Beijing, and Shanghai. We tend to favor developments versus acquisitions as cap rates around the world continue to compress. Prologis will likely achieve over 10% stabilized NOI yields on its pipeline, versus 6-9% yields on acquisitions. It simply does not make sense to be a large acquirer in this current environment, as such, Prologis as a skilled and experienced developer should continue to realize large implied gains a the spread between acquiring and developing remains attractive.

[edit] References

1. ↑ ^{1.0 1.1 1.2} ARE,2007,10-K.Item-6,Page-22
2. ↑ ^{2.0 2.1} ARE,2007,10-K.Item-6,Page-23
3. ↑ ^{3.0 3.1 3.2 3.3} AMB,2007,10-K.Item-6,Page-36
4. ↑ AMB,2007,10-K.Item-7,Page-38
5. ↑ ^{5.0 5.1 5.2} DLR,2007,10-K.Item-6,Page-38
6. ↑ DLR,2007,10-K.Item-8,Page-84
7. ↑ DLR,2007,10-K.Item-2,Page-30
8. ↑ ^{8.0 8.1 8.2 8.3} PLD,2007,10-K.Item-6,Page-31
9. ↑ PLD,2007,10-K.Item-2,Page-24
10. ↑ ^{10.0 10.1 10.2 10.3} PSA,AR-2007,Item-6,Page-31
11. ↑ PSA,AR-2007,Item-2,Page-24

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