Rexford Industrial: A Fantastic Dividend Stock With Significant Upside Potential (REXR)

Introduction

I have to admit that I think about artificial intelligence (“AI”) a lot. Right now, it’s one of the hottest trends on the market, as it is currently reshaping our modern economy.

Personally, I’m both amazed by it and slightly worried about what it may do to a lot of white-collar jobs – including my own.

The other day, I used one of the AI programs to give me a full overview of the benefits that come with the supplements that I occasionally take.

Within seconds, I had a report that would have taken at least 30-60 minutes for someone to put together before AI was a thing.

According to an article I read on March 12, we are still in the “weak” or “narrow” AI phase, where AI is capable of performing specific tasks. However, it’s still restricted.

Eventually, we could be moving to “superior” AI:

Suрer АI refers tо self-аwаre АI thаt hаs соgnitive сарасities thаt аre suрeriоr tо humаns. It is а level аt whiсh mасhines with соgnitive аbilities саn рerfоrm аny tаsk thаt а humаn саn. – SimpliLearn

Interestingly enough, one of my most liked tweets this year was when I posted a picture of a steak with the caption: “Enjoying good food before AI takes my job.“

While I was joking, we need to be aware of the impact AI may have on our portfolios and jobs.

In this article, I want to present an AI-proof stock that I have had on my radar for a while, as I desperately want to own it.

A company that has a fantastic geographical advantage in its business, fast dividend growth, a good valuation, and the ability to reward investors with an elevated total return for many years to come.

That company is Rexford Industrial Realty (NYSE:REXR).

My most recent (co-produced) article on the stock was published on October 24, titled “Rexford Industrial: Going Back To Cali.” Since then, shares are up 21%.

In this article, I’ll revisit the stock and explain why REXR is a fantastic stock for my portfolio and why we could expect elevated returns in the future.

So, let’s get to it!

Industrial Real Estate Has A Huge Advantage

Generally speaking, real estate is a fantastic place to be when it comes to protecting one’s money against what AI may do to the economy.

Although there’s a case to be made that office real estate may suffer from the AI trend, other areas continue to be in a great spot. We still need homes to live in, places to produce stuff, hotels for trips, grocery stores, and warehouses to support supply chains.

Moreover, AI can’t replace the need for human property managers to oversee maintenance, handle tenant relations, and deal with unforeseen issues.

I think it’s fair to say that real estate is a good place to be for all parties involved.

That said, when it comes to real estate, I’m very picky.

After all, looking at the Vanguard Real Estate ETF (VNQ), it’s fair to say that the sector has been underperforming the S&P 500 by a wide margin over the past ten years.

In this case, I like industrial real estate. While it may have something to do with the fact that my dividend growth portfolio has roughly 50% industrial exposure, I truly believe this is one of the best places to be.

Modern supply chains need industrial buildings to function. This includes warehouses, production facilities, and everything related to that.

For example, did you know that strategic industrial real estate is one of the reasons why Amazon (AMZN) is now rapidly expanding its footprint in the transportation industry?

The company’s largest warehouses are located in near population hubs, with the Amazon inventory split among them to minimize delays. Each distribution center is optimized to make picking, packing and shipping as efficient as possible.

In general, industrial real estate has many longer-term tailwinds that help it offset current cyclical headwinds like elevated rates, poor consumer sentiment, and lower industrial activity (see the chart below).

According to the latest industrial real estate report from Yardi Matrix, there are a number of tailwinds that make this sector one of the best places to be.

• A slowdown in new supply: Industrial stats in 2023 came in at 314.6 million square feet. This is a significant decline from 593.2 million SF in 2022. This was caused by the normalization of demand, record-high levels of previous deliveries, higher construction loan rates, reduced lending by banks, and overall economic uncertainty.

• Reshoring and nearshoring: The ongoing relocation of manufacturing operations is poised to reshape the distribution of new industrial supplies. More industrial activity in North America requires more buildings. According to Yardi, annualized construction spending on manufacturing facilities has tripled over the past three years.
• Future supply absorption: Yardi Matrix expects future demand to support higher supply growth in the future if lower rates make it easier to build new buildings. See the quote below.

Economic growth and technology will continue to create demand. For example, new computer chip manufacturing facilities will allow for more advanced processes to occur stateside, spurring demand for more facilities. – Yardi Matrix

With all of this in mind, let’s dive into REXR!

Why I Like REXR So Much

One of the reasons why I am so picky when it comes to REITs is supply risks. Most REITs have no moats, as it is not that hard to build new assets – as long as funding is available.

That’s where Rexford Industrial Realty comes in.

It benefits from all the aforementioned tailwinds without being exposed to major supply risk!

With an $11 billion market cap, Rexford is solely focused on the Southern California (“SoCal”) infill market, where 100% of its 374 properties are located.

This has allowed it to “crush” the Vanguard Real Estate ETF since going public.

While California has some political issues that have kept investors at bay, it has one major benefit: constrained supply.

• Developed land is scarce. SoCal is surrounded by the sea and mountains.
• SoCal has strict zoning laws.
• New supply mainly replaces existing buildings.
• Because of housing shortages, non-housing properties are increasingly converted to housing assets, which further limits supply.

As we can see below, the SoCal market has low availability and low supply risk. Supply risk in SoCal’s infill market is 3.8%, much lower than the 7.3% average in the United States.

SoCal is also home to two of the biggest ports in the world, which are the Ports of L.A. and Long Beach.

Furthermore, the best regions in SoCal have vacancy rates close to 2%, which is truly remarkable.

Even better, according to REXR, the industrial market of SoCal is valued at $43 billion. That’s the same as Chicago ($10 billion), New York/North New Jersey ($16 billion), and Philadelphia ($17 billion) combined.

In fact, it’s the fourth-largest industrial market in the world!

In these markets, the company services a wide variety of tenants. Most are warehousing companies, wholesalers, and manufacturers.

Rexford also benefits from a well-diversified tenant profile, as its top ten tenants account for just 16% of the annualized base rent.

This portfolio is currently 97.8% occupied. For 2024, the company is guiding for a 96.5% to 97.0% occupancy rate, which is solid, given the pressure on cyclical demand and new supply that has come online since the pandemic.

During its 4Q23 earnings call, the company noted that despite facing challenges such as prolonged labor negotiations at ports and adjustments in post-pandemic tenant demand, it benefited from tremendous resilience in the SoCal infill market.

Moreover, rents for quality industrial properties similar to the company’s portfolio in SoCal remained stable, with a nominal positive growth rate of about 1.2%.

Going forward, the company anticipates some near-term fluctuations in demand. However, the overall market backdrop is expected to remain favorable.

2024 cash and net effective same-property NOI growth is projected to be in the range of 7% to 8% and 4% to 5%, respectively, and full year average same-property occupancy is projected to be 96.5% to 97%. – REXR 4Q23 Earnings Call

One driver of growth that came somewhat unexpected is the instability in the Middle East impacting the Suez Canal and reduced capacity through the Panama Canal due to a long-term drought. This benefits the West Coast.

Adding to that, the company has both internal and external growth drivers.

Over the next three years, the company has more than $800 million in NOI opportunities. This includes rent adjustments to market rents, repositioning, and property expansions.

This translates to 42% growth potential without the need for acquisitions.

Externally, the company focuses on acquisitions that allow it to expand its footprint. Since 2013, the company has grown its portfolio from 5.5 million SF to 46.1 million SF, mainly driven by off-market acquisitions.

I can imagine that the current environment may result in some landlords being forced to sell assets to cover debt. That could bode well for REXR as it has buying power and a very healthy balance sheet.

The company has a net leverage ratio of just 3.6x EBITDA, $1.2 billion in liquidity, and a weighted average interest rate of just 3.6%.

Prudent financial management is rewarded by a BBB+ credit rating, which is just one step below the A range.

Shareholder Distributions & Valuation

After hiking its dividend by 10% on February 5, REXR currently pays $0.4175 per share per quarter. This translates to a yield of 3.2%.

Although a 3.2% yield may not be spectacular, there are a few things worth mentioning here:

• The five-year dividend CAGR is 18%.
• Since the company went public roughly ten years ago, it has hiked its dividend by 23% per year, on average.

• The dividend is protected by an 88% AFFO (adjusted funds from operations) payout ratio.

While 88% may seem a bit high, we need to keep in mind that growth expectations are high.

Using the data in the chart below, AFFO is expected to grow by 10% this year, potentially followed by 18% growth in 2025 and 15% growth in 2026.

This also bodes well for its valuation. Since its IPO, the company had a normalized P/AFFO ratio of 35.2x. Even a 30x multiple would imply a fair price target of $77, which is 51% above the current price.

That said, despite all of this good news, the stock is unable to rally, as it recently resumed the downtrend that started in 2021.

The problem is that because of elevated commercial real estate risks, investors are not eager to buy real estate until they see a path to sustained rate cuts.

As I do not expect that we will see a series of rate cuts without a serious economic decline, I’m waiting for a slightly bigger correction before adding REXR to my portfolio.

I also have to say that I found out that I have to pay way more in taxes than initially expected. This did a number on my cash reserves.

However, my rating will remain Strong Buy, as I believe that the stock offers tremendous long-term potential.

Takeaway

As AI continues to reshape our economy, I remain both fascinated and cautious about its impact on jobs and portfolios.

While some sectors may face challenges, industrial real estate stands out as a resilient investment choice.

In this sector, Rexford Industrial Realty emerges as a compelling option, as it benefits from a constrained supply market in Southern California and growth prospects.

Despite short-term market trends, REXR’s strong fundamentals, prudent financial management, and potential for elevated future dividend growth make it a stock worth considering for long-term investors.

While I take the risk that comes with waiting for a more favorable entry point, my outlook remains very bullish, as I believe that REXR is in a fantastic spot to deliver elevated long-term returns.

Pros & Cons

Pros:

• Geographical Advantage: REXR operates in the Southern California infill market, where it benefits from constrained supply and a strategic location near major ports.
• Stable Occupancy: With a portfolio occupancy rate of 97.8% and solid projections for future occupancy, REXR remains resilient in a challenging market.
• Strong Growth Potential: The company has significant growth opportunities, including internal initiatives and external acquisitions.
• Healthy Financials: REXR maintains a low net leverage ratio, a lot of liquidity, and a strong credit rating.

Cons:

• Commercial Real Estate Risks: The stock faces headwinds from elevated rates and (temporarily) weakening demand pressuring the industry.
• Short-Term Volatility: REXR’s stock price may experience short-term volatility, influenced by market sentiment and broader economic conditions.
• Competition: Competition is always a risk in an attractive market. However, given REXR’s fundamentals, I believe this risk remains subdued.