Corporacion Inmobiliaria Vesta Q2 2024 Earnings Call Transcript

Quartr
Provided by Quartr
July 26, 2024

Key Takeaways

  • Vesta reported 22.4% revenue growth to $63 million with adjusted NOI and EBITDA margins of 94.7% and 82.3%, and FFO up 23.2% year-over-year.
  • Leasing activity reached 2.8 million sq ft with record stabilized occupancy of 97.5% and re-leasing spreads of 7.1%, reflecting strong demand and rental growth.
  • The development pipeline hit 4.7 million sq ft under construction (38.6% pre-leased), including a new 730k sq ft spec building in Monterrey to capture robust market demand.
  • Margins were pressured by higher insurance, property tax, maintenance and audit costs, as well as peso appreciation and increased legal and consulting expenses.
  • Management highlighted Mexico’s macro tailwinds—~2.2% GDP growth, remittances at 4.2% of GDP, 35% FDI growth year-to-date, and a Fitch BBB- stable rating.
AI Generated. May Contain Errors.
Earnings Conference Call
Corporacion Inmobiliaria Vesta Q2 2024
00:00 / 00:00

There are 11 speakers on the call.

Operator

Greetings, ladies and gentlemen. Welcome to the VESTA Second Quarter 2024 Earnings Conference Call. At this time, all participants are in listen only mode. A question and answer session will follow today's prepared remarks. And as a reminder, this call is being recorded.

Operator

It is now my pleasure to introduce your host, Mariana Dominguez with Vesta's Investors Relations team. Please go ahead.

Speaker 1

Good morning, everyone, and welcome to our Q2 earnings call. Presenting today with me is Lorenzo Dominic Vero, Chief Executive Officer and Juan Sotil, our Chief Financial Officer. The earnings release detailing our Q2 2024 results was released yesterday after market closed and is available on the company website along with our supplemental package. It's important to note that on today's call management remarks and answers to your questions may contain forward looking statements. Forward looking statements address matters that are subject to risks and uncertainties that may cause actual results to differ.

Speaker 1

For more information on these risk factors, please review our public filings. Vesta assumes no obligations to update any forward looking statements in the future. Additionally, note that all figures included herein were prepared in accordance with IFRS, which differs in certain significant respects from U. S. GAAP.

Speaker 1

All information should be read in conjunction with and is qualified and is entirely by reference to our financial statements, including the notes thereto and are stated in U. S. Dollars unless otherwise noted. I will now turn the call over to Lorenzo Verro.

Speaker 2

Thanks, Mariana. Testa delivered solid second quarter results, driven by the sustained strength of our high quality portfolio and great execution by our professional team. Leasing activity reached 2,800,000 square feet, 1,000,000 square feet in new leases, nearly half of which were buildings under construction, led by the e commerce and consumer logistics sector as a result of strong demand we are seeing in the market. 1,800,000 square feet of our leasing activity was in renewals, and re leasing spreads reached 7.1% during the quarter, consistent with last quarter and reflecting stable growth in rents in the overall market with low vacancy levels. We reached 42,500,000 square feet of GLA, including buildings under construction and continue to see portfolio occupancy levels increasing.

Speaker 2

During the quarter, stabilized occupancy reached a record 97.5%. Este's construction pipeline also continues to strengthen, ensuring we meet the demand we're seeing on the market. Our pipeline reached 4,700,000 square feet during the quarter, of which 38.6% has been leased to date. Along these lines, 100 percent of the existing buildings within our Vesta Park Apodaca in Monterrey have been leased by 2nd quarter sand. We also pre leased a spec building in Monterrey during the quarter and began construction on the only 730,000 square foot large format spec building to have been built in Monterrey to date, anticipating the considerable demand we're seeing in Mexico's largest industrial market.

Speaker 2

Our business is led by 2 important drivers. 1st, Mexico's internal consumption and local and regional market demand. Deloitte estimates Mexico's GDP will grow 2.2% in 2024, then at a 2.1% average rate annually from 2025 to 2,030, continuing the country's current macroeconomic direction of the slow and stable growth we've seen post pandemic. And according to the World Bank, remittance sales accounted for 4.2% of Mexico's entire GDP in 2023, a number that is certainly higher now. Mexican's purchasing power is therefore strengthening.

Speaker 2

And new shoring remains an important growth driver for Mexico. Last week, pitch ratings appeared Mexico's sovereign rating at BBB- with a stable outlook. Fitch cited a prudent macroeconomic policy framework, sound and robust external finances and steady debt levels. The agency noted that new shoring could continue to offer future opportunities for the country. Foreign direct investment into Mexico reached over $38,000,000,000 from January through May.

Speaker 2

According to Mexico's Economic Ministry, a 35% year on year increase with the heaviest investment during the period in the manufacturing industry accounting for €21,800,000,000 or 56% of FDI. Vesta's 2nd quarter revenues reached $63,000,000 while adjusted NOI and EBITDA margins were 94.7% and 82.3%, respectively. BESTA FFO reached $37,900,000 a 23.2% year on year increase. As our results for the quarter, therefore, reflect, BESTE is well positioned to capture related opportunities. We're focused on the right markets, Mexico's most strategically relevant manufacturing hubs, and our sight remains on the long term.

Speaker 2

And as I have noted in the past, we're highly selective regarding the markets and projects where we'll continue to invest and grow. I'd like to reiterate Vesta's important differentiators. Our outstanding asset quality is second to none. We have a long track record of leveraging close client relationships to identify unique and accretive opportunities and a long history of exceptional execution and a deep understanding of industry dynamics and our market's nuances and challenges. Our capital allocation decisions have been and will continue to be measured and prudent.

Speaker 2

Finally and importantly, we have proven our success of quickly and nimbly adapting to both react and to anticipate with well grounded decision making. We'll therefore continue to focus on delivering strong and consistent results with both hands firmly at the helm and the wisdom and confidence built through more than 26 years as Mexico's leading industrial real estate developer. As a final comment, we released our 6 audited integrated annual report during the Q2, about which we are extremely proud. Please find it on our Investor Relations site. With that, let me pass our conversation to Juan, and I'll return for some brief closing remarks.

Speaker 3

Thank you, Lorenzo, and good day, everyone. Let me begin with a summary of our 2nd quarter results. Starting with our top line, total revenues increased 22.4% to $63,000,000 mainly due to rental revenue coming from new leases and inflationary adjustments and rental properties during the quarter. In terms of current mix, 88% of our 2nd quarter revenue was denominated in U. S.

Speaker 3

Dollars, up from 86% from the Q2 2023. Turning to our profitability. Adjusted net operating income increased 19.6 percent to 57,800,000 dollars while the margin decreased 70 7 basis points to 94.7%. Higher rental revenue from our rental properties was partially offset by an increase in insurance, property tax and other property costs, resulting in a lower margin. Adjusted EBITDA reached $50,200,000 in the 2nd quarter, a 20% increase compared to the same quarter last year, while the margin decreased by 188 basis points to 82.3%, primarily due to higher costs and expenses.

Speaker 3

Administrative expenses during the quarter were impacted by the peso appreciation relative to the same period last year and the increase in auditing, legal and consulting expenses driven from our equity transactions. We closed the Q2 of 2024 with a pretax income of EUR 132,000,000 compared to MXN 108,000,000 in 2023, which again this quarter benefited from higher gains on revaluation of investment properties and higher interest income. Vesta's FFO increased 23.2%, reaching MXN 37,900,000 as Lawton described. Turning to our capital structure and balance sheet. Cash and equivalents stood at $377,000,000 and our total debt remained unchanged at $914,000,000 at the end of the quarter.

Speaker 3

Net debt to EBITDA was 2.8 times and our loan to value was 22.9%. On the back of our disciplined and prudent approach, we continue to maintain a strong financial position that enables us to keep on executing Vestas' strategic plan while delivering sustainable results. Finally, subsequent to quarter's end and July 16, we paid a cash dividend of $16,200,000 for the 2nd quarter. This concludes our Q2 2024 review. Operator, could you please open the floor for questions?

Operator

Yes. Thank you. Thank you. Your first question comes from the line of Pablo Recalde from Santander. Your line is open.

Speaker 4

Hi, good morning, Descartes. I have two questions. The first one is on the expense line. The only version of this is in expenses, what do to this audit expenses and because of the leasing. And just wanted to understand how should we see this line going forward?

Speaker 4

That's my first question. And the other one is for the DJ project. We saw the project was delayed. Just trying to understand why is the reason behind the delay? Pablo, good morning.

Speaker 4

I'm going to address the first part of the question. On the auditing expense, indeed, they have come up. As you know, we did sort of the year of stock exchange and auditing expenses. In fact, a couple of other lines as well have become more expensive as our obligations under the PCAOB numbers require a more extensive auditing reviews. And so that's kind of explanation.

Speaker 4

So that's basically what happened on that line. But should we expect it like to remain at this level going forward? Or this is where like just what kind of expense? No, the auditing expenses will continue to be as stated because of the extensive review that we have to comply with on the Thank you. Thank you.

Speaker 4

If I may add can you hear me well, Juan? Thank you. If I may add, we did experience a couple of delays in a couple of buildings, nothing material. I think that it was just took us a couple more months of 1 of the buildings to be delivered. It was supposed to be delivered in the quarter, but now we are aiming that final project will be delivered at October, minor construction delays.

Speaker 4

And I think another part of an important part of the expense side is that we also experienced some maintenance expenses and energy expenses that we believe might be a one off for the quarter. And at some point, that particular cost will stabilize and improve our margins too. Thank you, Pavel, for your question.

Operator

Thank you. Your next question comes from the line of Gordon Lee from BTG. Your line is open.

Speaker 5

Hi, good morning. Thank you very much for the call. Just a quick question on your land bank. If I look at the land bank, it looks like at this point you only really have land in the Bahia region. So I was wondering how quickly you think you'll be able to refill land either in the northern regions or in central region in the Mexico City region?

Speaker 5

Thank you.

Speaker 4

Hola, Gordo, and thank you for being on today's call. Definitely, land acquisition is part a key part of our strategy. We have a very strong pipeline of land that is building up. We select very carefully the sites we acquire, urban infill, which are being one of the most important attributes, with locations that we where we can have good access to infrastructure, labor and differentiate ourselves as we have done in the past. Sometimes it takes a bit longer, but we have a strong pipeline and we aim to be able to buy and replenish land reserves in the North and Central Mexico in the next in the upcoming quarters and that's going to be very helpful for the strategy going forward, which is based on development.

Speaker 4

We will continue to do the same as we have done in the past. Fortunately, the reason why we let's call it, we ran out of land in some of the markets, it's because our development pipeline accelerated even more than we estimated. That's the case of, for example, Monterrey. As you could see, we just started a new building. I'm sorry, we just started our final building in the Apodaca project.

Speaker 4

With that, basically, which even that it will take some months to be developed, but with that, we are out of land. What we have now is buildings under construction that we still have to market and lease. Nevertheless, with the strong market performance that we see, we think that these type of projects we're going to be very well absorbed. But definitely part of our strategy is to continue buying land in great locations, in the markets where we have presence and continue growing in these sites in the next stage of the company.

Speaker 5

And would you say land prices and how you've developed and looking at that pipeline of land bank that you've built, would you still think that when you look at that versus rents in the market today that you would still be underwriting projects at sort of 10% development yields?

Speaker 4

Yes, absolutely. So more than getting into detail to each of the markets, Gordon, because all of the markets have different cost base land cost basis. I think that the main driver of Vesta is to continue focusing on spread investment. Spread investment where we can have a higher margin to acquisitions, mainly 300 basis points. So yes, we can still achieve returns of around 10%.

Speaker 4

If you look at the construction pipeline that we have right now, we have a yield on cost in average of 10.4%. So that will continue to be our main driver, our discipline and our main differentiator to certain other to other players that focus their strategies on acquisitions, on low yield acquisitions.

Speaker 5

Perfect. Thank you very much.

Operator

Your next question comes from the line of Alejandro Bragan from Morgan Stanley. Your line is open.

Speaker 6

Hi, good morning, Vesta team. Thank you for taking my question. I was just hoping to get some color on the buildings that you currently have under construction. So you mentioned close to 5,000,000 square feet that is under construction in Nahuas Calientes, Puebla. I was just hoping if you can comment on the dynamics that you're seeing in these key markets and more specifically, if you have received specific interest from potential tenants for these buildings?

Speaker 6

Anything on the speed dynamics of the market where you're expecting to drop these assets, that will be very good. Thank you.

Speaker 4

Hello, Alejandra, and thank you very much for being on the call. Definitely, I think that one of the main attributes of Vesta is our ability to develop. And as we have stated in the past, we will continue to find opportunities that drive profitability. And I think we think that current construction pipeline stands at probably the highest number we've seen at 4,700,000 square feet, total investment of above $400,000,000 of projects that we have just under construction. And we have pretty much projects in all of the markets where in most of the markets where we operate.

Speaker 4

Talking about the North, we continue to see strong demand in Ciudad Juarez. In Ciudad Juarez, out of the projects that we have under construction, one of them is leased and the other one is still under development and with a good list of potential clients in the electronic sector as well as the auto sector. Monterrey, we have now for projects under construction. We did an important lease to a very important e commerce player that while we were we had the building under construction, we were able to pre lease it and this will help us to continue grow in this particular market and we can start other projects. Actually, Monterrey, we are well diversified between consumer goods, e commerce and manufacturing.

Speaker 4

So this is a good example of how well diverse our projects might be. The Barrio has also been we have seen good demand with rent increases, particularly in markets like Queretaro and Aguascalientes. Aguascalientes did well to sign a couple leases for the auto industry with some Japanese firms. And additionally, in Aguascalientes, we have been able to renew several of our leases that were close to expiration, which shows another important commitment on companies that want to extend their presence in Mexico. And turning around central region, of course, Mexico City is very hot, very strong.

Speaker 4

We were able to lead last quarter to a major e commerce player, but we see good pipeline and particularly rents going up also pretty quick and that's we're benefiting from that, from anticipating to the market. That's why we will continue to acquire land, develop as long as we continue to see rents going up, we think that will continue to be the main driver of growth. So this pipeline is a good example of what we are we will continue to see a pipeline where we have not only spec buildings, but also buildings that are pre leased. Almost one third of the price are pre leased, but the markets are still strong that we feel comfortable that as long as we continue delivering inventory buildings, demand is good. Demand coming from good quality companies will continue to be there.

Speaker 6

Got you. That was very clear. Thank you very much.

Speaker 4

Got

Speaker 5

it.

Operator

Your next question comes from the line of Rodolfo Ramos from Bradesco BBI. Your line is open.

Speaker 7

Thank you. Good morning, everyone. So just wanted a little bit of a follow-up on the previous question, Alejandra. Why don't you get a sense of your commercial conversations, if you have seen a shift at all after Tesla's announcement in Monterrey and whether this has had any impact on clients potentially that were looking at Monterrey and or El Najo, if there is any type of cannibalization going on, if we were to see more slack in the market, if the Bahia region could suffer as a result or you see completely different dynamics. So that's the first one.

Speaker 7

And just secondly, if you can give us an idea if you have any exposure to EV suppliers to the EV market currently. Thank you.

Speaker 4

Thank you, Rodolfo, for your question. I think it's worth talking a little bit about the announcement from Tesla. The announcement from Tesla that the plant will be putting pause is not necessarily it's not a positive signal. However, it's interesting to see the drivers of that particular decision, which happens every now and then. Clearly, some of you follow the results from Tesla.

Speaker 4

Their sales volumes have dropped dramatically. They have entered other industry sectors on robotaxis and automated driverless systems and whatsoever. So definitely, using the political statement to pause the plant is something that some of us actually were kind of expecting. The Tesla project is a major project and many of the type of clients that we have are not necessarily related to Tesla in Mexico. I think that most of the type of clients we have, they are well diversified among different industry players in the EV electric vehicle industry as well as internal combustion that is still happening.

Speaker 4

And therefore, we think that this should not have a major implication for other industries and even for the auto industry that is already a part of the supply chain in Mexico and the U. S. This should not have any effect. Bear in mind that in order to manufacture cars, whether it's easy or internal combustion, in order to be profitable, you got to be in a production has to be in a region where companies can be profitable and can have reduced costs and can have integrated suppliers. And that's why even in the toughest times, companies where they most expand in Mexico is at tougher times, where there's more challenges.

Speaker 4

So that's why we actually think that we are going to see even more suppliers in the industry coming to Mexico. Many of them are already in Mexico and they are just expanding operations. And particularly on Monterrey, Monterrey is the largest industrial market, has currently a very low vacancy. I would say that few very few companies that were established in the last period in Monterrey were related to Tesla. Actually, the most the largest portion of them are related to completely different industries and completely different supply chains of other sectors.

Speaker 4

Actually, our project is in Apodaca, which is contrarian to the size of Tesla. So it will be interesting to see the evolution after the news, but I think that Monterrey is a thriving city. We had our last board meeting in Monterrey and we were able to see the strong dynamic that that particular market has not only because of industrial sector, but its services, quality of life, education, its location, also closer to the U. S. So we feel very comfortable to continue investing in Monterrey and other markets like Bahia where our industry has had strong presence.

Speaker 7

Thank you, Andre.

Operator

Thank you. Your next question comes from Jarell Giannakouli from Goldman Sachs. Your line is open.

Speaker 8

Thank you for taking my questions. I have 2. So the first one is on leasing spread. So we noticed that your trailing 12 month leasing spread came at 7.1% this quarter. It was 8% in 1Q 2024.

Speaker 8

And I was just wondering, are you what sort of leasing spread trends are you seeing? Are you seeing a leveling off to a lower level? Is it accelerating? It was what happened in 2Q, just once and done sort of situation? And then the second question is around your pipeline.

Speaker 8

So you have a pretty extensive development pipeline, nearly 12% of current GLA. And about all of it is on spec. So what I was wondering is, when you are thinking about the potential lease up for this pipeline and what you've been seeing so far in the last 6 months year to date. Are there any changes in expectations on how quickly you can lease up those properties? Is it are you seeing that window of leasing becoming shorter?

Speaker 8

Are you seeing it become longer? How are the negotiations for or how

Speaker 4

do you expect the negotiations

Speaker 8

to go for these new assets? So those

Speaker 4

are my 2 questions. Thank you. Thank you, Gerald, for being on the call. I will start with the second question. We actually see no we have no changes in expectation towards our underwriting of each of the projects on spec.

Speaker 4

We the process is we start we analyze the market. We see how the demand and supply are behaving. We start a spec building, and we have some time to lease up, maybe 6 months, 12 months after that. And that's when we underwrite a project at certain returns. Of course, in the process, sometimes we're able to pre lease these buildings, and this is quite convenient because while you're under construction, particularly in strong markets, when you're under construction, you can be able to lease up and that's what currently represents approximately a third of the projects.

Speaker 4

But for the rest, we feel very comfortable with the market dynamics. There is little supply of good quality assets like the ones that Vesta develops in the locations where we're at. And that's why even if we develop when we finalize the project without signing a lease agreement, we have some good time of marketing where we can push even prices and rents to our benefit and take advantage of having good projects available in the market and anticipate to many of the clients that normally require the buildings and when they take a building, they're already late on their projects. And that has been a key strategy of Vesta. Actually, what we have seen is rents and spreads interest rate going up.

Speaker 4

If you look at the numbers of previous quarters, we had some returns, let's say, closer to 9 between 9 10, and now we're seeing even returns even above 10%. This is a result of higher rents, limited supply for good quality assets and our ability to close better transactions and of course, all of them at dollar rents, long term leases adjusted to inflation and keeping the same standard going forward. As to your first question, I think that, yes, we will continue to see rent increases and net effective rent increases on the re leasing spreads. Every quarter is kind of different depending on the amount of leases that you got. But if inflation in the U.

Speaker 4

S. Is, let's call it, close to 3%, We will continue to see maybe a spread between getting closer to high single digits in terms of rent spreads overall. And the reason being in high single digits is a combination of existing, some expiring leases that take effect with CPI increases or some of them that we can be able to take to market and we have seen in some markets some increases between 20%, 30% and even 50% rent increases depending on the market. So that's going to be a dynamic that we will foresee in even the next I would say, in the next years to come as long as some business expire and we're able to take the leases up to market.

Speaker 7

Thank you.

Speaker 4

Thank you.

Operator

You. Thank you. Your next question comes from Isabella Salazar from GBM. Your line is open.

Speaker 5

Hello. Thank you for taking my question. I was wondering what your general feeling of the new administration is regarding their willingness to facilitate access to infrastructure and energy and water that is crucial for development? Thank you.

Speaker 4

Olli, Sabella, thank you for your question. We have high hopes that the new administration will take action on what matters most for the industrial sector and manufacturing sector, which is a great opportunity for Mexico with near sharing opportunities. I think they have identified very well the importance of industrial parks. They actually, Claire Deschenes, he's the 1st candidate, now President, that has had a plan in place even before taking office. She commands to have more than she has 100 industrial park projects, so she knows how important this is in order to attract investments, how important it is to generate well paid jobs, generate also the opportunity to bring in better infrastructure.

Speaker 4

So we have high hopes that the energy sector will probably show a shift to what we have seen previously as well as some other infrastructure requirements. In that regard, we through the Association of Industrial Parks as well as other business councils where we participate, we have been in very close contact with the new administration and some of their key officials in order to make sure that we can support the growth opportunities for the country and that the industrial and manufacturing platform is strategic for this new administration. So on that regard, we think that they understand well. They know what Mexico has to do. And hopefully we can also support them in order to be able to facilitate the improvements that are required, particularly on energy and other logistics infrastructure.

Speaker 5

Okay. Thank you very much.

Operator

Your next question comes from the line of Andre Mazini from Citigroup. Your line is open.

Speaker 9

Yes. Thanks, Vladimir and Juan. So actually my question would be a follow-up on this statement from the government that they want to support the construction of 100 industrial parks. So what exactly do you think they are meaning here would be I don't think it would be like government money for industrial parks themselves, right? It would just make regulation better, maybe lower taxes?

Speaker 9

What are the complete measures they could take for the so called 100 Parks construction, would you say? And on the other measures, Lauren, in terms of like energy, do you think they could open up the monopoly in transmission and distribution away from the CSE to have private money because I think this would be the measure that will really assuage

Speaker 4

Thank you, Andre. You broke a little bit at the end, but I think I got your questions well. Mexico needs heavy investment in energy and it's mainly on particularly on distribution and also some in some sort of transmission distribution and in some ways also generation. Definitely, the government has its limits in terms of spending, and that's why the private sector will have to play a role in energy. I don't know exactly the details on how they want to open up.

Speaker 4

Hopefully, they can generate a plan that is helpful for private sector, but not only for energy, but also hopefully they can conceive renewable energy. And we think that with the lead of Claudia Shembao, there will be an opportunity on renewable energy. And this has an important impact on the plan of 100 industrial parks. I don't think that the government will be supplying money directly to the parks. I think that it's more about giving support to whoever develops the parks in different regions of the country that are making sure that there is good interaction so that the parks can be overcoming certain challenges on infrastructure, on energy, also working in close connection with local governments and local authorities because this does not come necessarily only from the federal government.

Speaker 4

So I think this is a good plan. It's good for them to understand what the park developers might need. But also, the other part of the opportunity is attracting foreign direct investment. I think the Secretary of Economy understands as well also the office that links the business leaders to the government led by Anta Gracia Agones. I think she's doing a fantastic job on this regard.

Speaker 4

And I think that it's also a good part of us as to how far we can take the country and how far we can make this an important plan. But I think that it's actually it's interesting that we don't need funding from the government to establish opportunities. We just want them to understand the opportunity and keep supporting it and we can find ways to invest and hopefully this could be great years to continue attracting investment in the manufacturing sector.

Operator

Thank you. Your next question comes from the line of Andres Agrue from GBM. Your line is open.

Speaker 5

Hi, thanks for the call and congrats on the results. After the recent election and financial volatility, have you seen any changes in customer demand for space? Are customers more cautious or is the demand the same? And also, are you exposed to any Chinese plants? Thank you.

Speaker 4

Are we exposed to what, sorry?

Speaker 5

Any Chinese tenants.

Speaker 4

Okay. Great. Well, thank you for your question. Well, we don't actually we the election the result of the election was something that somehow international investors and international companies that are established in Mexico were looking to establish in Mexico. It was kind of a default scenario that target certainly would win.

Speaker 4

So for that reason, I think that many of the projects actually did not have a major impact before, during and little after the election after the couple of months it has been. So in that regard, changes and they have already considered that a cabochannel might take office. Maybe the only thing that I think some companies might be just more cautious is on the elections in the U. S, which is understandable. And I think that on that regard, we think that many companies understand well what Trump how Trump plays because he has been president in the past.

Speaker 4

Now with a new press the candidate, potential candidate from the Democrats, it's a little bit of kind of the same what we have seen until today. So importantly, will be the revision of the USMCA in 2026. And for that, I think that there's a good expectancy that the negotiation is going to be tough as always, but the outcome is going to be positive just because it's a great agreement that has sometimes to have its own tweaks. So for that reason, I think that's something that just the companies might consider closure. But in the end, I think that there's no other place better than North America.

Speaker 4

The integration of the 3 countries has had great results in order for the U. S. To be able to reduce the deficits to other parts of the world. That has been the example even with Chinese companies, where the U. S.

Speaker 4

Still has reduced its deficit materially. And thinking about the Chinese companies in Mexico, well, we're very careful regardless of the nationality of our companies that we have companies with very solid with high credit ratings, very solid finances and strong reputation in the industries where we operate, even regardless of the nationality. So in that case, I think that many of the Chinese companies are having a ride into Mexico. It's hard for us to pass on many of the type of companies they are. So that's why we have very few Chinese players.

Speaker 4

The only ones that we have are pretty much larger corporations that are more like global companies. TCL in, for example, in Tijuana doing flat screens and electronics. We have a few others in the auto sector that were German companies that are owned by Chinese with Chinese capital. So but have had a huge track record in the sector. So we are very selective.

Speaker 4

So we will continue to see a very well diversified portfolio and we're going to continue seeing a strong discipline on Vesta, how we select our clients. Chinese companies are still coming and they might be going to with other developers and we think that's fine and we will focus on our own portfolio to have good quality.

Operator

And your next question comes from the line of Natalia Leo from JPMorgan. Your line is open.

Speaker 10

Thank you. Good morning, everyone, and thank you for taking my question. Mine is more related to the cost per square meter of your development pipeline. So it increased around 7% sequentially and like 41% year over year. And especially in one of your developments in Mexico City, I think it was the impact.

Speaker 10

So just wanted to understand if it is more related to construction costs or land? And how do you take into account land to determine the yield?

Speaker 4

Great. Thank you for your question. Well, yes, definitely Mexico City is the place where land is most expensive. And that's why overall costs, holding costs per square foot or per square meter is the highest, particularly compared to other markets in Mexico. However, it's and construction costs have also had an increase in cost, particularly materials have increased, maybe 10%.

Speaker 4

And also somehow the exchange rate, which was below 17, have had an impact in some of these costs. Now at over 2018, clearly, things are different, but our underwriting is on the conservative side and not on the current exchange rates. So for that reason, we see higher costs. However, particularly Mexico City, we are seeing rents that are now in the $11,000,000 $12,000,000 $13 per square meter range. This is much higher than any other market throughout Mexico, particularly for high quality buildings like the ones that we're developing.

Speaker 4

And so that increase in rents offsets the increasing costs that we have seen. That's why if you look at the projects we have in Mexico City, Punta Norte, for example, we have returns above 10%, which is great, particularly in a market which has a greater barriers of entry. We have urban infill locations. It's projects that are very hard to replicate and replace. And that's why sometimes we rather pay a bit more of a price in land, but knowing that there's going to be long term value to it.

Speaker 4

And yes, sometimes might be higher cost per square foot or per square meter. But as long as it makes sense in terms of returns that we think that spread investment on returns will continue to be key in our capital allocation strategy. Thank you for the question. Definitely, our leases in Mexico City are in U. S.

Speaker 4

Dollars. So you're seeing returns at 10% in U. S. Dollars. And I think that explains well the discipline that Vesta has in taking good companies, making the leases in U.

Speaker 4

S. Dollars and continue to drive long term value for our portfolio.

Speaker 10

Perfect. Thank you so much.

Operator

Thank you. There are no further questions at this time. I'd now like to turn the call back over to Mr. Verho for his concluding remarks. Please go ahead, sir.

Speaker 2

Thanks, operator, and thank you, everyone, for joining us today. Testa's 2nd quarter results are consistent with our long term strategy and focus on continued value creation. Today, we're in a position of strength and forward momentum. We'll maintain our strong financial position, which enables us to further execute the investor strategic plan with sustained results strength, leveraging our company's ability to create value. I'd again like to thank the entire Vesta team for their important contribution to our performance.

Operator

Thank you. This does conclude today's conference. You may now disconnect your lines. Thank you for your participation.

Powered by Quartr