The Babson College Fund is initiating coverage on Prologis Inc.

with a buy rating and a $107 target

price, representing a potential upside of 22%.
Company Overview
Prologis, Inc. engages in the provision of real estate investment trust services. It operates through Real Estate
Operations and Strategic Capital segments. The Real Estate Operations segment represents the ownership and
development of logistics properties and also includes rental revenues, recoveries and expenses recognized from its
consolidated properties. The Strategic Capital segment represents the management of co-investment ventures and
other unconsolidated entities. The company was founded in 1991 and is headquartered in San Francisco, CA. Prologis
is currently the second biggest holdings iin XLRE.

Investment Thesis
Continued Global E-commerce Growth Will Drive Strong Stock Rating | Buy
Demand for Logistics 12 - 18 Month Price Target $ 107
Over the last few years, the demand for Logisitic centers have Recommended Weight 11%
shot up dramatically due to the increase in e-commerce sales. Benchmark Weight 7.2%
In 2014, e-commerce sales were about $1.4 trillion. As of Current Price $ 89.12
today, 2019 total e-commerce sales are projected to be $3.5
Upside 22%
trillion, up 150% since 2014.
Consensus $ 93.17
Logistics is an All Weather Asset Class Ratings | Buy / Hold / Sell 2/3/0
Prologis, being a Logistics RIET, has very limited downside Key Statistics
in the event of a market downturn, especially given that 52 Week Range $ 55.21 -92.49
logistics centers demand is currenlty way underserved.
Avg. Daily Vol (3 Mo) 2,489,394.5
Additionally, Prologis having extremely credibe tenants and
long term leases in place. Market Value (M) 57.204
Enterprise Value (M) 62,468
Sufficient and Effective Financing Strategy and Solid
Shares Out (M) 650.6
Financial Position
Dividend Yield 2.4%
Prologis has manages its balance sheet to have high liquidity,
Float 99.4%
low leverage, and low near-term maturities. Having a strong,
investment-grade balance sheet is the key to surviving a % Short Interest 1.1%
downturn. In addition, Prologis has a sufficient self-funding Institutional 99.4%
strategy that could last at least 4-5 years, limiting dilution from Notable Holders 47.2%
significant equity raises. These fixed cap rate creats great
values for Prologis, especially in the long-run, achieving considerable cost and development synergies with better
operating results.

Valuation
We came up with a target price of $107, which represents an upside of 21% of the current market price of $89.12,
based on a weighted average of Comps and a NAV model.

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Stock Chart – PLD YTD Performance

Price Multiple Graphs

5-Year P/FFO Multiple

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Continued Global E-commerce Growth Will Drive Strong Demand for Logistics
Over the last few years, the demand for Logisitic centers have shot up dramatically due to
the increase in e-commerce sales. In 2014, e-commerce sales were about $1.4 trillion. As of today,
2019 total e-commerce sales are projected to be $3.5 trillion, up 150% since 2014. By 2021, experts
are anticipating e-commerce sales to reach $4.9 trillion.
I would like to put emphasis on the fact that I understand that the market is pricing in the
growth of the 1st wave of the e-commerce boom, where customers started to seek conveniance of
goods being shipped to their home. What the markets don’t understand is the 2nd wave of e-
commerce. Logisitc centers, and Prologis specifically, are creating advancements that will make
warehousing and shipping even more conveniant and efficient then it was before. Logistic centers
and third party logistic operators are currenlty inventing and seeking to invent many new
softwares. First, is the improvement in robotics causing the organization of goods within a
warehouse to be highly efficient. Second is the creation of interactive warehouses, where
companies can simply manage inventory through clean user interface, similar to the way you shop
on websites today. Third, Prologis has recently accomplished creating the first multistory
warehouse in Seattle, giving them the opportunity to double up on well located areas. Finally, is
the development of shipment drones, dropping packages at your doorstep, which people are
underestimating the scale of this; I believe shipments will soon be able to reach customer homes
in 30 minutes.
US and Europe is currently considered the center of e-commerce, although the center is
starting to shift globally to undeveloped markets. Warehousing in Asia and the other americas is
still cheap relative to the US, leaving a lot of room for growth. Within these emerging markets the
consumers are evolving to, creating a consumer class similar to what we see today that has
originally started the e-commerce boom in deveoped markets. Additionally, the growth in
emerging markets will be driven by technology coming to par with the US and Europe. Another
driver is already established markets are
wanting to expand convenianlty to those
countries through online platforms and not
only do businesses want to sell in these
markets, American and European customers
want to buy in these markets. 57% of
customers said that they have made overseas
purchases. With all that said, Prologis will
have the opportunity to capitalize with their
well postitioned land bank and on-going
development in these cities.

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 As a key metric, I looked at Shopify stock metrics. Shopify growth is another major reason
we believe in the growth of e-commerce. Shopify is a complete e-commerce platform that lets you
start, grow, and manage a business. Shopify’s numbers represents e-commerce historical
performance and ecommerce going forward. Shopify’s price/sales is currently at an extremely high
multiple, 25.4x Another example is Walmart’s stock performance year-to-date is ~35%. Looking
at this number one would believe that this can be attributed to sales growth. This is not the case
here; sales has only increased by 3.7%. The growth in Walmarts price is due the change in the
composition of their revenue, shifting more towards e-commerce. The market believes that the
increase in e-commerce sales, causes walmart to be deserving of higher multiples and to be traded
at a premium.
My differentiating prospective lies in the following theory. Shopify has recently announced
an initiative they call the “Shopify Fulfillment Network.” The network “will provide United States-
base merchants with a network of distributed fulfillment centers, coupled with machine learning
to ensure timely deliveries and lower shipping costs, putting their brand and customer experience
front and center.” “For a long time, Shopify has been working to bend down the curve of
entrepreneurship to make it more simple to succeed at scaling their business, most merchants in
our network are great creative, marketers, and brand storytellers…and create new and exciting
products, with some disrupting entire product categories and breaking the rules of retail to create
new brand experiences. We want them focused on scaling their business and winning on what they
know to do best. But any one of them lack a few specific things to be able to be great at logistics.”
I want to note that Shopify’s stock jumped 10% when the news was released. The one problem for
shopify is, they don’t currently own the network to easily proceed, but ,on the other hand, Prologis
has the largest network of logistic centers in the US and now globally. As of now, Prologis acts as
landlord to many different third party logistic operators. Although, I believe that Prologis has the
opportunity to do exactly what Shopify is looking to do, while already having the infrastructure to
do so. With a network like this, Prologis will be able to create a world where all warehouses are
connected, revolutionizing the supply chain we know today.
After speaking to executives from multiple real estate private equity firms they believe that
the market doesn’t understand the demand to own warehouses. For example, Blackstone has
recently acquired $18 billion worth of assets. Co-head of Blackstone stated “Logistics is our
highest conviction global investment theme today, and we look forward to building on our existing
portfolio to meet the growing e-commerce demand. Our global scale and ability to leverage
differentiated investment strategies allowed us to provide a one-stop solution for GLP’s high
quality portfolio.” More and more players are trying to get a piece of this market, which will
continuously cause cap rate compression of this asset class. The CEO of a New York based real
estate firm that recently started developing and venturing into logistics in Europe said to me
“people don’t understand the current demand for logistics warehousing… rents are shooting up
and everyone wants to get involved.”

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Logistics is an All Weather Asset Class
Prologis, being a Logistics RIET, has very limited downside in the event of a market downturn,
especially given that logistics centers demand is currenlty way underserved. Additionally, Prologis having
extremely credibe tenants and long term leases in place.
The demand for logistics outpacing the development
is clearly proven by continously high occupancy rates of 97%
coupled with global rent growth of 6% in 2017 and 2018 (8%
in the US).
In addition to managements ability to maintain high
occupancy and grow base rental revenues, the firm is
primarily focused on maintaning the quality of its tenant base
and minimizing risk from any single tenant. As seen above,
Prologis top 10 tenants account for ~15% of its rental
revenues. Aside from Amazon, the worlds largets e-
commerce company, no single tenant represents more than
2% of rental income.
In a market downturn tenants have leverage that is
not existent in logistics as a whole. Similar to the life science
industry, warehouses have gradually became a sector that builds out spaces, specifically to the needs of the
tenant, also known as build-to-suit leases. For Prologis, in 2018 built-to-suit leases increased to 50% from
37% in 2017. This gives Prologis the advantage when the time comes for a lease renewal. As you see in
this chart, they have similar lease renewal qualities to have ARE, a life science industry real esate
investment trust, with a renewal rate of 70% and
rent increases of around 29% in 2018.

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A huge concern in the market is the uncertainty of the trade
war. Many companies consider these uncertanties as
potential risks towards their business, although I believe that
the trade war serves as a tailwind for a company like
Prologis. Most of Prologis’ portfolio is made up of assets
within the US. With the trade causing less imports and more
supply being shipped from within the US the demand for US
warehouses is increasing, causing a rise in rents.

Sufficient and Effective Financing Strategy and Solid Financial Position

Prologis has a sufficient self-funding strategy that could last at least 4-5 years, limiting dilution
from significant equity raises. Prologis borrowing globally at extraordinarily low interest rates. There is an
under appreciated aspect of the Prologis acquisition from the effective issuance of: 1) with the DCT merger,
97.6 million shares at roughly $66.58 per share, or a then 4.5% implied cap rate and 22.3x 2018 FFO
multiple, and 2) with the LPT merger, 108.8 million shares at roughly $87 per share, or a 3.7% implied cap
rate and 24.5x estimated 2020 FFO multiple. We consider the the cost of capital drives much more value
creation and earnings growth than generally appreciated. These fixed cap rate creats great values for
Prologis, especially in the long-run. These M&A deals could provide Prologis with more will achieve
considerable cost and development synergies.

Prologis’ financial position continue to stand strong as it kept improving its financials as an industry
leader over the past several years. Having a strong, investment-grade balance sheet is important to surviving
in a downturn economy. Prologis manages its balance sheet to have high liquidity, low leverage, and low
near-term maturities. In 2018, Prologis had a debt to adjusted EBITDA of 4.4x, a fixed charge
coverage ratio of 7.2x, and liquidity of $3.5 billion. Prologis continueous managed to lower its debt to
equity ratio to around 50%. Additionally, with efficient management and M&A synergies, Prologis seeks
to maintain and improve its operating performance metrics going forward. With average debt maturities of
approximately five years, Prologis would be able to meet future obligations. As a REIT, Prologis is required
to pay out at least 90% of its income as dividends to shareholders. The current dividend of $2.12 represents
about 65% of Prologis’ 2019 income from operations projection. It’s likely that the company will continue
to tap into the debt markets as its main source of financing given its healthy appetite for expensive
developments and cheap access to capital. Management continually evaluates the portfolio and sells
facilities as well as land, which allows the company to subsidize developments and not become
overburdened with debt financing.

Thus, given Prologis’ solid balance sheet position and sufficient self-financing strategy, Prologis
would be better prepared for both future growth and downturn recession.

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Valuation
Comparable Analysis:
Our CompCo analysis uses two multiples that are commonly used in the asset management industry: Price
to Funds from Operations and Price to Adjusted Funds from Operations. Our comparable companies include
a range of companies whom portfolios are composed of markets similar to Prologis. A 40/60 weighting of
the P/FFO and P/AFFO multiples give an implied price of $89 per share, representing current stock value.

Net Asset Value Model (NAV):

One valuation metric that analysts and investors use in evaluating public companies is price-to book ratios.
Unfortunately, P/BV ratios are not useful valuation yardsticks for REITs since a company‘s book value is
based on its historical costs and therefore does not reflect the appreciation in property prices over the past
decade. As a result, we prefer to use NAVs (Net Asset Values) as a surrogate for the underlying values of
REITs. The biggest divergence analysts and I have is determining the appropriate cap rate to use for each
company‘s underlying real estate value. The steps taken in calculating our NAVs are presented as follow:
1.) Determine a company’s forward 12-month cash net operating income. The reason for choosing this
period is that purchasers of real estate focus on the earnings potential of a property, not its past performance,
and cap rates are generally defined as a consequence of income over the next-12-months. Prologis’ revenue
is derived from rental and management fee revenues. Prologis net operating income in YTD 2019 is a total
of $1.8 Billion. We forecasted future NOI growth using historical growth rates as well as growth rates
suggested by local brokers in these markets.
2.) Divide the company’s cash NOI figure by an appropriate cap rate. A cap rate is simply an inverse
multiple; i.e. dividing a cash flow estimate by a 5% cap rate is the same as applying a 20x multiple to the
cash flow. Consensus’s average blended cap rate applied to NOI is 3.9%. As a result of this cap giving us
a NAV of $109/share.

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The weighted valuation of $107.25 represents a 21% upside for the stock.

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Investment Risks
1.) Low Barrier to Entry

Usually, Logistics and distribution centers do not have strong moat. The additional supplies of such
properties would be the greatest threat to Prologis. Low barrier to enter this market would allow
rapid growth in distribution and logistics construction projects, from 25 million sq ft in 2010 to
over 200 million SF recently. The rapid growing supply adds pressure into Prologis’ operation in
this fiercely competitive market.

2.) Downward Economic Conditions

Prologis’ business heavily dependent on the market demand of its distribution and logistics assets.
In a potential recession period, people’s consumption power decreases. This would result in the
lower demand of Prologis’ assets. Furthermore, the rent growth might not increase as expected,
hurting Prologis’ profitability.

3.) Global Market Risk

Most of Prologis’ revenue comes from domestic market with US. The recent trade concerns around
trade-war with China could act as a tailwind, especially given ongoing tariff discussions. Any
changes in global economic activity will have an impact on the company. In addition, most of its
oversea properties are strategic assets, which is very different from US self-managing distribution
and logistics centers. Those might be exposed to more risks when facing more foreign capitals.

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Investment Catalysts

1.) Shift in Consumer Demographic

There is an undeniable shift toward the tech-savvy millennial/Gen Z consumers, who are more
likely to choose to spend more time on retail websites and utilize mobile purchasing than traditional
brick-and-mortar stores. In addition, new consumers are more familiar with and willing to have
returns. Thus, online retailors need to add more space for not only the growing e-commerce
demands but also the increasing returns. As a result of this trend, Prologis will tap into its deep land
bank to complete lucrative developments. Thus, the demand for distribution center and logistic
building would continue to increase, benefiting Prologis’ business.

2.) Sustainable Long-term Rent Growth

The Global mark-to-market rate of rent is approximately 13%. This provides Prologis a sustainable
long-term rent growth even if there is a flat market rent environment. Given that Prologis continues
to build a more differentiated customer-centric holding assets, Prologis would be better to benefit
from the differentiation of rents.

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Supplement Information

Disclosures
Babson College Fund
The Babson College Fund (BCF) is an academic program in which selected students manage a portion of the Babson
College endowment. The program seeks to provide a rich educational experience through the development of
investment research skills and the acquisition of equity analysis and portfolio management experience. Please visit
http://cutler.babson.edu for more information.

Analyst Contact Information

Sitt, Daniel <dsitt1@babson.edu>
Huang, Ricki <rhuang1@babson.edu>

Definition of Ratings

BUY: Expected to outperform the S&P 500 producing above average returns.
HOLD: Expected to perform in line with the S&P 500 producing average returns.
SELL: Expected to underperform the S&P 500 producing below average returns.

References
FactSet

S&P Global Market Intelligence

REIT.com

Capital IQ

Thomson/Reuters Eikon

Investext

Analyst
Ricki Huang
rhuang1@babson.edu
Daniel Sitt
dsitt1@babson.edu

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