Duke Realty Q1 2022 Earnings Call Transcript


Listen to Conference Call

Participants

Corporate Executives

  • Ronald Hubbard
    Vice President of Investor Relations
  • James Connor
    Chairman & Chief Executive Officer
  • Steve Schnur
    Executive Vice President & Chief Operating Officer
  • Nick Anthony
    Executive Vice President & Chief Information Officer
  • Mark Denien
    Executive Vice President & Chief Financial Officer

Analysts

Presentation

Operator

Ladies and gentlemen, thank you for standing by, and welcome to the Duke Realty first quarter earnings call. [Operator Instructions]

And as a reminder, this conference is being recorded. I would now like to turn the conference over to our host, Mr. Ron Hubbard. Please go ahead, sir.

Ronald Hubbard
Vice President of Investor Relations at Duke Realty

Thank you. Good afternoon, everyone, and welcome to our first quarter earnings call. Joining me today are Jim Connor, Chairman and CEO; Mark Denien, Chief Financial Officer; Steve Schnur, Chief Operating Officer; and Nick Anthony, Chief Investment Officer. Before we make our prepared remarks, let me remind you that certain statements made during this conference call may be forward-looking statements subject to certain risks and uncertainties that could cause actual results to differ materially from expectations. These risks and other factors could adversely affect our business and future results. For more information about those risk factors, we would refer you to our 10-K or 10-Q that we have on file with the SEC and the companys other SEC filings.

All forward-looking statements speak only as of today, April 28, 2022, and we assume no obligation to update or revise any forward-looking statements. A reconciliation to GAAP of the non-GAAP financial measures that we provide in this call is included in our earnings release. Our earnings release and supplemental package were distributed last night after the market closed. If you did not receive a copy, these documents are available on the Investor Relations section of our website at dukerealty.com. You can also find our earnings release, supplemental package, SEC reports and an audio webcast of this call in the Investor Relations section of our website.

Now for our prepared statement, I will turn it over to Jim Connor.

James Connor
Chairman & Chief Executive Officer at Duke Realty

Thanks, Ron. Good afternoon, everyone. The fundamentals of our business continue to be at all-time record levels. We achieved record high occupancy levels in both our stabilized in-service and total in-service portfolio, record rent growth on a cash and GAAP basis, our development platform had nearly $340 million of development starts, our Coastal Tier one exposure is approaching 50%, our portfolio mark-to-market increased to 48%. All of these factors contributed to raising key components of our 2022 guidance, including over 10% growth in FFO, 11% growth in AFFO at the midpoints. Now let me turn it over to Steve to cover some of the market fundamentals and our operations.

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

Thanks, Jim. On the fundamental side, first quarter demand was 95 million square feet, making it five of the last six quarters of demand in the 100 million square foot or greater range. First quarter deliveries were about 85 million square feet with the vacancy rate at quarter end remaining near record lows all-time at 3.1%. Taking the record low vacancy rate of near 3%, coupled with an expected positive demand supply gap again this year, we have revised our 2022 rent growth forecast for our markets from the 10% to 15% range to the high teens to low 20% range. On the long-term demand side, CBRE recently affirmed its outlook for 1.4 billion square feet of demand through 2026 with no periods of negative net absorption through 2032. Although we are paying close attention to headline data such as inflation, fuel and labor costs and a resurgence in bottlenecks occurring in some Asian ports, we have yet to see an impact to demand in our portfolio. Based on recent dialogues with our customers, RFPs to lease space and the most recent logistics manager index at record levels, the near-term outlook is as strong as it has been in this cycle. Long term, we believe the secular themes for greater inventory resiliency, and e-commerce are still very much intact and should continue to drive short-term and long-term demand.

Turning to our own portfolio. We continue to see these positive indicators, evidenced by 62 leases executed during the quarter, totaling over 7.7 million square feet. Demand was broad-based across categories with a number of leases between 250,000 and 850,000 square feet with customers such as FedEx, Samsung, Walgreens, Cardinal Health, International Paper, Sealy Mattress, some major 3PLs and a global e-commerce customer. Of note, we had only two spaces greater than 100,000 square feet in our in-service portfolio available at the end of the first quarter. And Im happy and pleased to report that both are now leased. Our lease activity for the quarter, combined with the strong fundamentals I discussed, led to continued growth in rents on second-generation leases of 29% cash and 49% GAAP, both records. Id also point out that only 18% of this lease activity was in coastal markets. Across our entire in-service portfolio, the portfolio leased mark-to-market is now 48% on a GAAP basis. We believe this presents strong visibility for significant rent growth for the foreseeable future. We finished the quarter with the total in-service portfolio 99.1% leased and the stabilized portfolio 99.4% leased.

Again, both all-time records. On the development front, we had a tremendous first quarter starts, breaking ground on eight speculative projects totaling $339 million in cost. All of these projects are in well-located submarkets. Our confidence in leasing speculative space continues to be very strong. As evidence of the 5.6 million square feet of speculative developments placed in service over the past year, those projects were originally 3% leased at the start and are now 100% leased. Our development pipeline at quarter end totaled $1.64 billion with 63% allocated to Coastal Tier one markets and 85% allocated to overall Tier one markets. This pipeline is 52% pre-leased, and we expect to generate value creation margins over 70%. Looking forward, our pipeline for future development starts is very strong. Our land balance at quarter end totaled $582 million with an additional $235 million uncovered land.

93% of this land bank is located in Coastal Tier one markets. Coupled with the land options we have another land in our operating portfolio, we can support our current level of annual starts for the next three years. It is also important to note for modeling NAV that the market value of the land we own is about 2 times our book basis and, on average, weve only owned this land for about one year. With the fundamentals I outlined and our best-in-class local operating teams, our outlook for new development starts are strong. This is reflected by our revised guidance, up about 20% from our original midpoint.

Ill now turn it over to Nick Anthony to cover acquisitions and dispositions.

Nick Anthony
Executive Vice President & Chief Information Officer at Duke Realty

Thanks, Steve. Ill start with dispositions. As noted on the last call, earlier this quarter, we contributed to the third tranche of Amazon access to our joint venture with CBRE Investment Management, for which our share of the proceeds was $269 million. Coupled with the outright sale of another Amazon facility in Tampa, dispositions totaled $325 million for the quarter. As a result, our Amazon exposure was 5.7% at the end of the quarter. Given the strong prices for logistics real estate and particularly for a few of our strategically located assets, we are seeing an increase in reverse inquiries for some of our assets at prices we previously did not expect, did not have in our original plan to sell in 2022. As a result, we have increased our guidance for dispositions to a range of $900 million to $1.1 billion. This will provide attractively priced capital to fund our increased development expectations. On the acquisition side, we purchased one facility totaling 75,000 square feet in the Southern California Mid-County submarket. The building was vacant, and given current leasing prospects, we expect it to stabilize at a 4.6% yield.

I will now turn it over to Mark to discuss our financial results and guidance update.

Mark Denien
Executive Vice President & Chief Financial Officer at Duke Realty

Thanks. Good afternoon, everyone. Core FFO for the quarter was $0.44 per share, which represents 12.8% growth over the first quarter of 2021. The increased core FFO per diluted share was primarily driven by rental rate growth, increased occupancy and portfolio growth in highly leased developments. AFFO totaled $156 million for the quarter, our best in class low level of capital expenditures, along with strong NOI growth continues to generate significant AFFO growth on a share-adjusted basis even in excess of our FFO growth. Same-property NOI growth on a cash basis for the first quarter of 2022 compared to the first quarter of 2021 was 7.3%. The growth in same-property NOI was due to increased occupancy and rent growth as well as the burn off of some free rent compared to the first quarter of 2021. We do expect this growth to moderate a bit for the remainder of the year based mainly on less free rent burn-off. Same property NOI growth on a net effective basis was 5.2% for the quarter. As a result of our strong start to 2022, we announced revised core FFO guidance for 2022 to a range of $1.88 to $1.94 per share compared to the previous range of $1.87 to $1.93 per share.

The $1.91 midpoint of our revised core FFO guidance represents an over 10.4% increase over 2021 results. We also announced revised guidance for growth in AFFO on a share adjusted basis, between 9.1% and 13% with a midpoint of 11% compared to the previous range of 8.4% to 12.3%. For same-property NOI growth on a cash basis, we have increased our guidance to a range of 5.8% to 6.6% from the previous range of 5.4% to 6.2%. This increase is mainly a result of expectations of continued strong rental rate growth and occupancy for the remainder of the year, similar to levels that we experienced in the first quarter. On the development guidance. The market fundamentals are somewhat -- to be very supportive of specular developments, and coupled with our lease-up track record, we are revising guidance for development starts to be between $1.45 billion and $1.65 billion compared to the previous range of $1.2 billion to $1.4 billion. This increase in development starts provide a key source of growth in 2023 and beyond. Weve updated a couple of other components for our guidance based on our more optimistic outlook as detailed in our range of estimates exhibit included in our supplemental informational website.

Ill now turn it back to Jim for a few closing remarks.

James Connor
Chairman & Chief Executive Officer at Duke Realty

Thanks, Mark. In closing, even with some rising macro headwinds on inflation, interest rate and geopolitical side of things, we believe the multiple secular tailwinds driving our business and overall positive GDP and consumer spending set-up will continue to provide opportunities for strong leasing and development. This, combined with the substantial amount of embedded rent growth in our existing portfolio gives us great confidence in our ability to generate double-digit growth in FFO and AFFO for our shareholders not just in 2022, but in the foreseeable future, which should generate a commensurate level of growth in our annual dividend. I want to thank you all for your continued support in Duke Realty. We will now open it up for questions. [Operator Instructions]

And with that, operator, well open the lines and take our first question.

Questions and Answers

Operator

Thank you. Our first question comes from the line of Jamie Feldman. Please go ahead.

Jamie Feldman
Analyst at BofA Securities

I guess just thinking about the guidance, theres a lot -- several areas where clearly the outlook is better fundamentally, more development starts. Can you just talk about maybe some of the things that might have been a bigger drag than maybe some were thinking about, as you kind of weigh the positives and the negatives, if there was anything?

Mark Denien
Executive Vice President & Chief Financial Officer at Duke Realty

Jamie, Ill start. This is Mark. There were no really big drags. I guess maybe the only thing you could kind of point to is this change negatively on this years FFO number will be your increase in dispositions guidance. Most of that increase in dispositions guidance will go to fund the development pipeline. So thats modestly dilutive this year. But it will be certainly accretive in the long run as we trade a low cap rate on disposition sales for higher-yielding development assets. But that was probably a little bit of a drag from where we were last quarter. But I think were pretty optimistic to start the year, and it gets only better now.

Jamie Feldman
Analyst at BofA Securities

And then if you think about -- lets say, we do head into some sort of recession. Can you just talk about portfolio credit quality today and just how you think the -- whether its earnings growth or occupancy or even leasing spreads would hold up if you did -- we did see a pullback in the economy versus prior cycles?

James Connor
Chairman & Chief Executive Officer at Duke Realty

Yes. Sure, Jamie. Its Jim. I would make a couple of observations. I think we can all point back to roughly two years ago at the start of pandemic, which was a great stress test for our portfolio and the quality of our credit tenants. And reminding everybody, 18 to 24 months ago, we were collecting 99.99% of our rents. So not that anybody wants to see that kind of thing again, but thats the kind of stress test that gives us confidence that in any sort of a downturn out there in the future, our portfolio will continue to perform. And then as Steve pointed out earlier, even if the market softens to the point where theres no rent growth in the markets, we still have 48% embedded rent growth in our portfolio. So I would point to those two things as giving us a great deal of confidence in our ability to perform even if things were to soften somewhat.

Jamie Feldman
Analyst at BofA Securities

Okay. I guess just to be fair, though, I mean, there was a lot of government stimulus that kept tenants healthier, I guess, thinking about even earlier downturns, if we look back at where that its really declined.

James Connor
Chairman & Chief Executive Officer at Duke Realty

No, I dont -- if you look at the number of tenants in our portfolio that got any sort of government assistance, its less than 10%. And if you go back and look at some of the tenants that we did rent offset agreements, half of them prepaid those early. So I think that speaks to the quality and the resiliency of the portfolio and the tenants weve got.

Jamie Feldman
Analyst at BofA Securities

Okay. Great. Thanks for the color.

Operator

Thank you. Our next question comes from the line of Emmanuel Korchman. Please go ahead.

Emmanuel Korchman
Analyst at Smith Barney Citigroup

Hey, everyone. Good morning. If we think about just the long-term drivers of the growth in this business, at this point in the cycle, how much of that should be coming from sort of the internal growth, especially with the mark-to-market as high as it is? I guess the deeper questions there is how much of that we get each year in the next few upcoming years here and how much of that is going to come from external growth? So if we take your, call it, around about 10% growth, is that half from development and half from this rent mark-to-market? Or is it a different proportion than that?

Mark Denien
Executive Vice President & Chief Financial Officer at Duke Realty

Youre pretty darn close, Jamie -- or sorry, Manny. We have a slide in our...

Emmanuel Korchman
Analyst at Smith Barney Citigroup

You definitely get back to your question. This question is mine, Mark.

Mark Denien
Executive Vice President & Chief Financial Officer at Duke Realty

Yes. We have a slide in our investor deck that lays that out, and it really hasnt changed much. And youre pretty much right on. If you look at our external growth, I think we quoted a development return of like 10% to 12% to FFO, the impact on FFO; net of financing cost of four to six, so that goes together in your 5% to 6%, give or take, of external growth. And then our -- what I call our internal growth for GAAP FFO same property is about 5%. So its about 50-50. Youre right on. And I think the simple math way to think about it, our mark-to-market our portfolio, like Jim said, is 48%. If you roll plus or minus 10% a year that weve been doing at 48%, theres 5% growth. So thats simple math, but youre pretty close.

Emmanuel Korchman
Analyst at Smith Barney Citigroup

Great and then on the development starts, is there an either a cost or a mix component there? So if we were to look at the number of starts that youre going to have this year versus -- in the new guidance versus the old guidance, has that changed? Is it new projects? Or is it more expensive projects or a couple of bigger projects versus some smaller ones before?

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

Yes, Manny, this is Steve. I mean, theres always some ins and outs. I would tell you, its a couple more projects. Theres nothing significantly large that skew that one way or the other, so similarly -- I mean, we go into -- weve got most of next year mapped out as well. Again, theres always a few that we find along the way. But weve been pretty diligent about building our land bank and having visibility for the next couple of years in our development guidance.

Emmanuel Korchman
Analyst at Smith Barney Citigroup

So Steve, what would be the potential for that start guidance to go up again this year at all? Or is that kind of fixed for 22 at this point?

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

For development guidance to go up again on starts?

Emmanuel Korchman
Analyst at Smith Barney Citigroup

Yes.

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

Yes, if we found another project that were able to start near term, but those are harder and harder to come by with entitlements. So could it go up modestly? Perhaps. But most of what we have is were already in some level of process on.

James Connor
Chairman & Chief Executive Officer at Duke Realty

Yes. I think the only significant filter on that would be some big builds. And theyre out there, but they take a lot of time. Weve got a number of those built into the pipeline. But you add one or two or more of those, and I think you could see an appreciable increase.

Emmanuel Korchman
Analyst at Smith Barney Citigroup

Thanks all.

Operator

Thank you. Our next question comes from the line of John Kim. Please go ahead.

John Kim
Analyst at BMO Capital Markets Equity Research

Yeah. Good afternoon. On your development land bank, youre saying now we could accommodate three years of development starts at your current run rate because the run rate has gone up. Whats your ability to source more land in your Tier one markets and have development yields kind of remain attractive to you?

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

Yes. I would say I think thats the strength of our team. Weve been able to do that the last three years, looking back to 2019, 2020, 2021, weve ran at a lower land bank number, and this development -- our development starts have been in the same range. So weve got -- as weve said in our opening remarks, weve got a land bank that can support this level of starts for the next three years. Theres always a number of sites that are under contract, under option, some level of due diligence. But our teams are -- this is where our teams shine. And I think weve done a really nice job with doing it.

James Connor
Chairman & Chief Executive Officer at Duke Realty

Yes. For perspective, John, we got almost double the land now that we had a year ago. And to Steves point, weve been doing this level of development all along. Now a lot of that land is covered land. Its generating income, which is even better. But weve been buying about the same amount weve been monetizing every year. Weve been doing it through this whole cycle.

John Kim
Analyst at BMO Capital Markets Equity Research

Right. But development starts are going up. So its just the visibility on developments, it doesnt seem as strong as it did before. So I was wondering, on the second part of the question, multi-store development in Tier one markets or non-Tier one markets doing developments there, when do these become more attractive?

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

The spreads between the Coastal Tier one and the Tier one of the other markets, John?

John Kim
Analyst at BMO Capital Markets Equity Research

Right. Just given the difference in land cost. Does it become more attractive to do developments outside of your Coastal Tier one cities?

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

Yes. I would tell you, I think the land that we have either on the books or that we control, we believe is in the right submarkets in all of our various markets. So the margins are consistently -- have been consistently, lets just say, north of 50% in our development pipeline. So I would tell you, the value creation opportunity in the whole portfolio is really good. And its not a situation of where were differentiating between markets or shifting our strategy. I think weve got ample opportunity across the board.

John Kim
Analyst at BMO Capital Markets Equity Research

Great. Thank you.

Operator

Thank you. Our next question comes from the line of Caitlin Burrows. Please go ahead.

Caitlin Burrows
Analyst at The Goldman Sachs Group

Hi, good afternoon. I had another follow-up question on developments. I guess initial 22 development start guidance was low versus 21, but you did revise it higher. And some of your peers have discussed issues with labor and materials impacting developments potential. So just wondering if you could comment to what extent youve been impacted by current labor or material headwinds impacting your development potential?

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

Yes, Caitlin, Id tell you, were closely monitoring whats going on with materials. Id tell you, our processes have changed a bit in terms of when were starting design, how quickly or how far out in front were procuring materials. I would tell you, all of our 2022 starts are locked in, in terms of our start dates and design and our permitting as well as our early long-lead material items. Labor hasnt been as big of an issue, but materials have been. But again, I think this is where were able to use our size and our balance sheet and our 50 years of experience to stay out in front of this.

James Connor
Chairman & Chief Executive Officer at Duke Realty

Yes, Caitlin, I would add to Steves comment. I think whats helping us drive our guidance on the development side isnt related to labor or material costs. Its the land that we have in the portfolio when those sites are entitled and ready to go and its the leasing of our spec portfolio. And weve come out in the first quarter and most of the way through April much stronger than I think even we anticipated. So I think thats given us the confidence to go ahead and increase development guidance once again.

Caitlin Burrows
Analyst at The Goldman Sachs Group

Yes. And actually, my second question was going to be on that speculative side. I was just wondering, it does seem like speculative development at this point definitely makes sense. But wondering what metrics you look at to gauge when speculative development is warranted and youre open to it versus something that might be considered more risky.

James Connor
Chairman & Chief Executive Officer at Duke Realty

Well, I dont know what we can do thats more risky than speculative development, but Im open to ideas, I suppose. So what we look at is a number of metrics. Whats the percentage leased in the development pipeline? And even with the increase in the amount of speculative development were doing versus build-to-suits, that number is still at roughly 50%, which is a number were very comfortable with. We look at leasing volume. As Steve cited earlier, this is the, I think, eighth consecutive quarter that were above seven million square feet. And we look at the overall occupancy of the portfolio, the in-service and the total portfolio, both of which are above 99%. So I think the combination of all three of those metrics would tell you that we need to be doing more speculative development and bring more space into the portfolio.

Caitlin Burrows
Analyst at The Goldman Sachs Group

Got it. Yes, no, I was saying that in certain market conditions, speculative development might be considered more risky, but based on those metrics you were talking about, it seems thats not necessarily the case. So, thank you.

Operator

Thank you. Our next question comes from the line of Nick Yulico. Please go ahead.

Nick Yulico
Analyst at Scotiabank Global Banking and Markets

Thanks. I was hoping to get, Mark, in terms of the rent spreads that youre assuming in guidance for the rest of the year on a GAAP and cash basis.

Mark Denien
Executive Vice President & Chief Financial Officer at Duke Realty

Yes. Nick, I think theyll be very similar to what we posted in Q1. The mark-to-market on our portfolio sort of was going at 48%, is really close to the 49% we posted in the first quarter. Steve mentioned only 18% of that role was in coastal markets. Thats pretty similar to what we expect for the last nine months of the year. We still dont have a lot of coastal roll coming out of the last nine months. So I think youll see -- it may vary quarter-to-quarter, maybe a little higher or lower. But by and large, for the rest of the year, I think youll see rent growth that we post on deals very similar to the first quarter. As we look out to next year, were not going to give guidance yet. But I would tell you that the coastal role we have next year is a little bit over 30% compared to the 18% this year. So as we sit here today, I would expect it to get only better next year.

Nick Anthony
Executive Vice President & Chief Information Officer at Duke Realty

Okay. Great. Thats helpful. Just second question is on development. If you could talk a little bit more about the yield for the deliveries in the first quarter higher than its been. You had a six, seven expected cash yield there, kind of whats driving that? And then also, I guess going back to the yield that you quote on the development pipeline underway, 5.8%, how we should think about ultimately that yield once you deliver since you did raise your market rent forecast. And so I dont think youre trending rents in your development yields. So maybe you can just give us a feel for how that could play out.

Mark Denien
Executive Vice President & Chief Financial Officer at Duke Realty

Well, Ill start the first question and maybe try the second or turn it over to somebody else. Our yields have popped for really two reasons. We are leasing our spec projects literally as they go in service. Weve been talking about -- as Steve mentioned, we started the spec projects we delivered over the last 12 months, we started at 3%. They are now 100%. They are virtually 100% when they went in service. So weve been leasing these up at two months or less. We always underwrite one year. So when you look at our initial yields, weve got a year of carry costs buried in the cost. So it brings our yield down a little bit. So to the extent we can lease those up 10 or 12 months earlier, that helps yields. So thats part of it. And then the second part was just rent growth. You mentioned it, We dont trend rents when we do our underwriting. We underwrite current rents when we start to deal and then we only adjust that for signed deals. So the deals were signing based on the market rent well be experiencing, are rents substantially inaccessible we underwrote. So those two factors is whats creating that big pop in yields from initial underwriting to delivery. And I would tell you, as we look forward, to the extent that dynamic continues, youll see that result continue.

Nick Yulico
Analyst at Scotiabank Global Banking and Markets

Okay. Thanks, Mark. Appreciate it.

Operator

Thank you. Our next question comes from the line of Michael Goldsmith. Please go ahead.

Michael Goldsmith
Analyst at UBS Investment Bank

Good morning. Good afternoon. Thank you all for taking my question. You talked a bit about the drivers that are greater inventory resiliency and e-commerce growth. But I wanted to dig into a little bit about reshoring. Do the shutdowns in China escalate this conversation again? And this driver kind of takes a little bit maybe longer than some of the others to kind of realize in demand. So when can we really start to see this as a major contributor to demand going forward?

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

Yes. I think its -- people are determining now, future proofing their supply chains. Whether youre talking about resiliency or future proofing, I think its a trend were going to see, I think, New Mexico and Central America relative to manufacturing, were seeing some of it in spots and in certain industries in the U.S. But the bigger impact near term to us is just more product on our shores. So yes, I think its definitely top of mind for all of our customers.

James Connor
Chairman & Chief Executive Officer at Duke Realty

Yes, Michael, I would add, I think Steves exactly right. the near-term impact is the safety stock that our customers are out trying to put in their logistics and supply chain. I think the impact of onshoring and nearshoring will be a little slower but steady or steadier over the course of the next likely five to seven years. Because rebuilding or reengineering, manufacturing, processing, assembly operations, takes a little bit more time than just moving the logistics side of the business. So I think thats a better long -- midterm and long-term driver for our space.

Michael Goldsmith
Analyst at UBS Investment Bank

Got it. And as a follow-up, last year, you had a number -- you had more renewals than maybe expected as people look to renew early. What are you seeing on that this year? And how do those lease negotiations differ from kind of traditional expirations? And what sort of escalators are you currently getting in sort of your renewals?

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

Yes. I would tell you -- this is Steve. I would say that -- do we have customers trying to -- given the environment out there, trying to lock up space earlier? Certainly. I think thats what a good brokerage firm representing them would tell them to do if its a critical piece to their supply chain. Were -- well listen to customers. Well talk with them. But obviously, its a landlords market right now. So we dont tend to negotiate rents too far in advance in todays market. In terms of escalators, its been a big point of emphasis for us. You saw us move our escalators up in the latter part of 21 up north of 3% in what we were signing then. In the first quarter of 22, that number has moved to 3.6%. I would tell you, I would expect that trend to continue the rest of the year. Certainly, weve -- theres inflation numbers out there that would suggest that they could go higher for us in our annual escalators within our leases.

Michael Goldsmith
Analyst at UBS Investment Bank

Thank you.

Operator

Thank you. Our next question comes from the line of Ronald Kamdem. Please go ahead.

Ronald Kamdem
Analyst at Morgan Stanley

Hey. Just a quick one on inventory. And I know its announced a lot of different ways, but when youre speaking to tenants, can you just give us a sense of what theyre saying about their inventory levels? And are they happy? How much more do they need? Just any color commentary would be really helpful because we keep hearing about inventory comment, and Im wondering what you guys are seeing in your portfolio.

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

Sure. I would tell you, our -- we do a space utilization exercise twice a year with our tenants. Tenants are utilizing space at sort of near record levels for as long as weve been doing it, just around 90%. The resiliency side of this or the build back of stock that they have, we still think -- we pay a lot of attention to the inventory sales ratio. Theres been a lot of debate by a number of people on this call as to breaking that down by category. And weve done that. I would tell you, we still think that theres a 5% to 10% build back to get to pre-pandemic levels for inventories for our customers. And that would tell you theres 300 million to 400 million square feet of incremental demand that needs to get absorbed back into warehouses.

Ronald Kamdem
Analyst at Morgan Stanley

Got it. That makes sense. And then just another one on -- or a big picture one on recession, which I know its being debated in the market. Clearly, youre not seeing it putting more capital to work here. But maybe can you give us a sense of what -- when would you see it, right? What are some of the signs that you would have to see in your businesses, that could be built suit, it could be tenant commitments to capital. But how do you guys think about what the leading indicators in your businesses are for when things start to slow, if they start to slow?

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

So Ron, I think we would -- it would first manifest itself with us in, I think, our leasing volumes, in our renewal discussions and things like that. Next, if you kind of peel back the onion, if we look at the deals that were doing, and the capital that our customers are spending, if they start to pull back on capital investments inside the building, I think thats a pretty good leading economic indicator. So thats, I guess, one of the reasons we follow that so closely in terms of our renewal percentage, our leasing volume, where the development pipeline is, so that we can keep a pretty good handle on that, sense of the kind of demand were seeing. And then the other thing which weve talked about before is the build-to-suits. So the build-to-suits are the best leading economic indicator for us in our conversations with our clients for the next 18 to 24 months. Because youre talking about designing and entitling and building buildings that arent going to be delivered until 2024, in some cases, 2025. And customers are -- if theyre seeing problems out there in their logistics and supply chain, theyre not going to be willing to make those commitments. And sitting here today, weve got lots of those opportunities.

Ronald Kamdem
Analyst at Morgan Stanley

Thank you.

Operator

Thank you. Our next question comes from the line of Vince Tibone. Please go ahead.

Vince Tibone
Analyst at Green Street Advisors

Hi, good morning.Could you provide your lease mark-to-market on a cash basis and also share how that differs between some of your top markets?

Mark Denien
Executive Vice President & Chief Financial Officer at Duke Realty

Yes. Vince, its Mark. Were like at 48% on a GAAP basis and 35% on a cash. And then as far as the markets, I would tell you, its pretty well spread. Its pretty even across all the markets with the two main outliers being Southern California and New Jersey. Obviously, our coastal markets are a little bit better overall. But if you pull back in on the coastal markets, Southern Cal and New Jersey are the biggest. And you got to keep in mind, those are the two newest markets for us as well, and thats why were only rolling 18% this year versus the 45% plus exposure that we have on those coasts. And thats why were so bullish on our future outlook of this mark-to-market continuing to only get better. But pretty well spread out other than those two markets, are clearly at the top of the class.

Vince Tibone
Analyst at Green Street Advisors

No, that makes sense. Is there anything you can just quantify that a little bit? Just like how much higher is Southern California and New Jersey compared to the likes of Dallas, Chicago, Atlanta? Like what order of magnitude roughly?

Mark Denien
Executive Vice President & Chief Financial Officer at Duke Realty

Double. Literally double, yes. Now I like to say, keep in mind, some of the Dallas and Chicago, places like that, weve got -- Im trying to explain, weve got newer refresh releases buried in that number. So just hypothetically if Dallas is 45 and Southern Cal is double that at 90 in the strong numbers out, part of that is because Southern Cal, believe it or not, has to hold our leases in our portfolio because we havent got them to roll yet, and Dallas has been rolled all along. So we dont have as much churn left to go in Dallas, if that makes sense. Youve got to look at the maturity of it all, too, but yes it is. Its...

Vince Tibone
Analyst at Green Street Advisors

No, thats really helpful color. One more for me, switching gears. Like had your asset mix in terms of whats targeted for disposition this year changed at all given the higher rates? And do you think pricing has moved for properties that are longer lease, lower growth profile?

Nick Anthony
Executive Vice President & Chief Information Officer at Duke Realty

We havent seen it yet. What we have seen is that weve seen the buyer pool shrink a bit on the assets. Weve only had a few assets out in the market. One of them is under agreement at the pricing that we expected to transact at, sub-4 in a non-Tier one market. So were keeping a very close eye on it. Theres a lot of chatter out there about it. But I dont think anybody has really seen it yet. So well be back -- well be opportunistic on the disposition side and evaluate each one as we go about it. And if we think the price is right, well transact. If not, we wont.

Vince Tibone
Analyst at Green Street Advisors

Great. Thank you.

Operator

Thank you. Our next question comes from the line of Ki Bin Kim. Please go ahead.

Ki Bin Kim
Analyst at Truist Securities

Thanks. Good morning. Just going back to your land bank commentary. You mentioned about three years of runway. Im assuming you included the options that you have available. But if you look at the land, I mean, half of that if you include options, is actually in Columbus, Ohio, which Im sure you can develop there. But I was just curious, from a practical standpoint, is it really three years? Because I cant imagine you guys doing a bunch of Ohio developments all of a sudden. Or should we expect you guys to continuously reload that land bank at a pretty strong pace?

James Connor
Chairman & Chief Executive Officer at Duke Realty

Ki Bin, why do you pick on our Columbus, Ohio for, man? No, to your point, just to clarify, I think this is detailed in the supplemental. The only place we have a long-term land option agreement is at Rickenbacker Airport in Columbus, Ohio. So everything else supporting the numbers that Steve put out is land that we have either under contract, under agreement, covered land plays or already owned and on the books. So the Columbus option land is a very small piece. It does not represent the lions share of our development pipeline for the next three years.

Ki Bin Kim
Analyst at Truist Securities

Okay. Thanks for that clarification. And just going back to the topic of demand. I think one of your competitors have talked about e-commerce not being able to sort of spear anymore for demand and other segments stepping up. And I know it doesnt work this way because the economy grows and population growth, but theres always kind of continuous demand. But in a simplistic sense, if -- or how far along are all these corporate users in terms of really just getting into the space they need and have locked it up and maybe the next round of demand just looks a little bit weaker?

James Connor
Chairman & Chief Executive Officer at Duke Realty

Well, Ill make a couple of comments, and then I think Steve can add some color as well. I think people have talked or speculated about Amazon pulling back, and we saw them pull back in terms of their deal signed last year. And yet we had record demand across the country. So I think while we may see their demand moderate because of the -- how far along they are in terms of the build-out of their supply chain, I think the vast majority of our other clients are still playing catch up. So I think we continue -- expect to see more continued demand on the e-commerce from everybody other than Amazon. And I think a lot of companies are still playing catch up in terms of the capital investment in their e-commerce facilities. Material handling systems and the robotics are still in their early stages of development. We just saw a headline where Amazon is investing $1 billion in robotics. So I think we got a long runway to go in terms of e-commerce and its adaptation in the U.S. and the supply chain. And I think that bodes really good for us.

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

Yes, Ki Bin, I would just add, for us, 3PLs continue to be the most active user in the market. We saw that in the first quarter. We saw that last year. Retail e-commerce for us has probably fallen to about the third category in terms of overall demand. So as Jim said, its -- I think most of our customers are early on in their venture towards building out their own e-commerce platforms.

Ki Bin Kim
Analyst at Truist Securities

Okay. Thank you, guys.

Operator

Thank you. Our next question comes from the line of Anthony Powell. Please go ahead.

Anthony Powell
Analyst at Barclays Bank

Hi, good morning. Youve talked about how some of your non-coastal markets are showing increasing strength here. Can you maybe go into some more detail there? Which markets do you want to highlight? And how has the supply environment involved in some of those non-coastal markets?

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

Yes. Look, its hard to find a soft spot in todays world, right? I would tell you, for us, Houston, as -- we talked about it before, Houston is probably in the one market thats been a little soft for us. But markets this past quarter, markets like Minneapolis, Raleigh, Chicago, Dallas, Atlanta were all great markets for us in terms of rent growth and overall activity. Nashville has been a good market for us as of late. So its -- again, its hard to pick a market thats not doing well right now.

Anthony Powell
Analyst at Barclays Bank

Got it. Maybe one more. I guess in terms of your lease mark-to-market, how should we think about that during a possible recession? How sticky do you think current rents are, looking back at prior recessions? Maybe not COVID, but other recessions, how did lease mark-to-market or overall rents trend? And how should we think about that risk over the next few years?

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

Well, Ill start. I mean, I think -- forget the recession, 48%, we expect it to get better because we dont expect rents to pull back anytime soon. But I think the easiest way we think about it is, if they go flat, which is a dramatic decrease from what weve experienced the last several years, we still have that 48% baked into our numbers. So I think were very comfortable that even if we have some period of dislocation here and rent growth stops, it can stay in the range its at right now and well still have 48% upside. So how low can it go? I dont know. I mean, it can go lower, anything can happen. But I think were very comfortable that the 48% slowly will get better. And sort of a downside scenario, might be not a worst case, but the downside is it stays at 48%.

Anthony Powell
Analyst at Barclays Bank

How did rents trend in 2008 and 2001? Just curious, as someone newer to the space.

Operator

Well, I think you got to factor in the different starting point, first of all. 2008, we werent at 3% vacancy heading into 2008. Were in a -- I mean, I just dont know that you can always look at history in the environment were in now and draw logical conclusions from it. That would be my starting point. I dont know, Jim, if you have anything to add to that.

James Connor
Chairman & Chief Executive Officer at Duke Realty

Yes. I dont know, off the top of my head, I have that -- I think to your point, even if market rents fell and went truly negative, even if they fell 15% or 20%, weve still got a 48% mark to market. So I cant imagine a scenario, even in 2008 through 2010, rents didnt fall 50%.

Nick Anthony
Executive Vice President & Chief Information Officer at Duke Realty

The other thing Id point out is in 2008, today, we have 44% of our NOI coming from Coastal Tier one markets that have 1% vacancy and dont have any land available. Back in 2008, that was less than 1%. So theres a big difference there.

Anthony Powell
Analyst at Barclays Bank

All right. Thank you.

Operator

Thank you. Our next question comes from the line of Rich Anderson. Please go ahead.

Rich Anderson.
Analyst at SMBC Nikko Securities America

Hey, thanks. Just a couple of quick follow-ups. A lot of my questions have been answered. But there was a -- you mentioned, just to answer to a previous question just a little bit ago, e-commerce is the third largest, what was that, in terms of activity, leasing activity in the first quarter? And maybe you can give me the breakdown of the industries. I might have missed that.

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

Yes. Our top one was 3PLs. That made up -- for us that made up a little under half of our overall activity. Consumer product goods would be, I guess, the next category I would throw out there in terms of activity. Retail e-commerce would be the third. And then sort of what we call manufacturers assembled goods would be the fourth category.

Rich Anderson.
Analyst at SMBC Nikko Securities America

And how has that changed over the past couple of years?

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

I would say e-commerce and 3PLs have probably shifted. Consumer products goods have always been in that -- usually in that top four for our portfolio. Amazons activity the past three, four, five years has always put e-commerce up near the top.

James Connor
Chairman & Chief Executive Officer at Duke Realty

Rich, I would say, you got to take that with a little bit of grain of salt. Im not trying to make excuses, but the consumer products companies, how much of what theyre doing is to support their e-commerce and how much is to support their more traditional supply chain, thats kind of the gray area that moves back and forth. Its pretty easy to track Amazon and Wayfair.com because thats purely an e-conference platform. So theres a little gray area in there. But I think to Steves point, been pretty consistent all along.

Rich Anderson.
Analyst at SMBC Nikko Securities America

Same could be said for 3PLs, too, obviously, right? Its very much a gray area, perhaps more. So I wanted to -- I had sort of an idea about leading indicator and whats driving you to expand spec development at this point with a war going on and inflation and so on. And you mentioned build-to-suits being the best leading indicator because those companies arent going to make those types of commitments if they dont really see what they think theyre seeing. But at the end of the day, theyre ingrained in this business, and you used the term catching up to Amazon, so they might be willing to take on a little bit of a risk to play that catch-up trait and not entirely an objective leading indicator, if you were to ask me. The real objective leading indicators might be declining consumer sentiment in the face of inflation. GDP growth just released this morning, down 1.4% in the first quarter. And yet youre still hanging on to the speculative development process. I dont know if I have a question in here. But Im just wondering, beyond the build-to-suit observation as youre guiding like to speculative development, what else is getting you there in the light -- in the face of all these other, what I would call, risks to the system?

James Connor
Chairman & Chief Executive Officer at Duke Realty

Rich, those are all valid points, occupancy, demand, leasing volume, nationwide vacancy, all of those things. If the roles were reversed, you build more spec space. I mean, if you just think about it, at 99-plus percent in our in-service portfolio, we dont have enough space to handle just the organic growth of our existing customer base.

Rich Anderson.
Analyst at SMBC Nikko Securities America

Yes. But 99% is a coincident indicator and could go down as much as it could go up depending on demand of tenants and vacancies and all that sort of stuff. I dont mean to litigate this on this call. I just feel like, to expand speculative development at this point seems like a brave step, and youre not the only one doing it. But I guess Ill just leave it at that. Thanks.

Operator

Thank you. Our next question comes from the line of Mike Mueller. Please go ahead.

Mike Mueller
Analyst at JPMorgan Chase & Co.

Hi. Two quick ones here. First, who are you typically buying land from today? And what portion of your spec activity is in existing parks?

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

We typically buy, I would say, two different -- today, theres either private sellers, people who have owned land for a long time, whether that was a business or owned by a family or a private company. Two is, I would say, companies that are -- that were redeveloping a site, something theyve owned for a long time. And in terms of -- your other question was, was our development in the existing business parks? There might be -- I think theres one of our projects, looking at the list here, I think one of our projects is in an existing business park. Everything else was a site that weve been working on and added in some version of our land bank that was asked on this call a number of times over the past year.

Mike Mueller
Analyst at JPMorgan Chase & Co.

Got it. Okay. Thank you.

Operator

Thank you. Our next question comes from the line of Blaine Heck. Please go ahead.

Blaine Heck
Analyst at Wells Fargo Securities

Great. Thanks. Obviously, you guys put up some really sizable rents for this quarter, especially on a net effective basis at 49% and especially given that only 18% are in those Tier one markets. So I was wondering to what extent the term of the leases rolling off is affecting those strong rent spreads? Are those leases kind of seven or more years old and thats whats driving that high mark to market? Or are they closer to three to five years old, and those rent spreads are really indicative of very strong rent growth that youve seen even in those lower-tier markets over that short period of time?

Mark Denien
Executive Vice President & Chief Financial Officer at Duke Realty

Yes, Blaine, its a little bit of both. Theyre not, what I would call, extremely long leases rolling. Its a little bit longer than the three- to four-year terms that you mentioned. I think the average term was enrolled was about five or six, which is about what our overall portfolio is as we sit here today. So its just a combination. Weve seen great rent growth across all the markets. Whether you pick a market like Chicago or Indi or Atlanta, places weve been a long time, rent growth has been great. Not as good as Southern California and New Jersey but certainly been a lot better than the built-in escalators within the lease. So its not like its a lot of 15-year deals rolling or anything like that. It was like six -- five-, six-year deals rolling, just pretty good solid growth across all the markets.

Blaine Heck
Analyst at Wells Fargo Securities

All right. Great. Thats helpful, Mark. And then I noticed that about half of the year starts during the quarter on a square footage basis were in Indianapolis. Obviously, its your hometown and we probably expect you guys to keep a footprint there. But can you talk about your longer-term plans for that market and if we should continue to expect growth there? And maybe Steve can talk about the fundamentals that youre seeing there, relative to some of the trends in the Tier one market.

Steve Schnur
Executive Vice President & Chief Operating Officer at Duke Realty

Sure. I wouldnt read a lot into the fact that we started three buildings this quarter. Its just a timing thing with lots of land we had. We like the markets were in. Obviously, weve got a long history in this market. Weve got a very deep customer base. And were in the right submarket. Indis probably got some headlines recently about some overbuilding. I would tell you thats occurring on -- for those of you unfamiliar with Indianapolis, on the East side or the far South side, its not where these buildings are located. Again, weve got great history here. I think we know this market better than anyone. And I expect those projects to be successful. Longer term, we havent been super active on the development front in Indi. Its a good market for us. And where we see opportunities, well take advantage of them.

Blaine Heck
Analyst at Wells Fargo Securities

Great. Thanks, guys.

Operator

There are no questions in the queue. Please continue.

James Connor
Chairman & Chief Executive Officer at Duke Realty

I would like to thank everyone for joining the call today. We look forward to engaging with many of you throughout the year. Operator, you may disconnect the line.

Operator

[Operators Closing Remarks]

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