Digital Realty Trust, Inc. (NYSE:DLR) Q1 2024 Earnings Call Transcript May 2, 2024
Digital Realty Trust, Inc. misses on earnings expectations. Reported EPS is $0.82 EPS, expectations were $1.63. Digital Realty Trust, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Good afternoon, and welcome to the Digital Realty First Quarter 2024 Earnings Call. Please note that this event is being recorded. During today’s presentation, all parties will be in listen-only mode. Following the presentation, we will conduct a question-and-answer session. Callers will be limited to one question. I would now like to turn the call over to Jordan Sadler, Digital Realty’s Senior Vice President of Public and Private Investor Relations. Jordan, please go ahead.
Jordan Sadler: Thank you, operator, and welcome everyone to Digital Realty’s first quarter 2024 earnings conference call. Joining me on today’s call are President and CEO, Andy Power; and CFO, Matt Mercier. Chief Investment Officer, Greg Wright; Chief Technology Officer, Chris Sharp; and Chief Revenue Officer, Colin McLean are also on the call and will be available for Q&A. Management will be making forward-looking statements, including guidance and underlying assumptions of today’s call. Forward-looking statements are based on expectations that involve risks and uncertainties that could cause actual results to differ materially. For a further discussion of risks related to our business, see our 10-K and subsequent filings with the SEC.
This call will contain non-GAAP financial information. Reconciliations to net income are included in the supplemental package furnished to the SEC and available on our website. Before I turn the call over to Andy, let me offer a few key takeaways from our first quarter. First, our customer value proposition continues to resonate as reflected by an AI-driven acceleration in leasing activity that drove our overall leasing volume to a new record. First quarter leasing was more than 40% above our prior record, principally driven by an improvement in pricing. Second, our fundamental strength picked up where 2023 left off, with record cash releasing spreads and strong stabilized same capital cash NOI growth of 4.7%, reflecting continued strength in data center fundamentals combined with the benefit of the improvements that we have made to our portfolio over the past year.
And third, we’ve made meaningful progress on our 2024 funding plan already with just over $1 billion of fresh capital raised from asset sales and joint ventures to date, putting us above the low end of our guidance range for 2024, just one third of the way through the year. As a result of our efforts, reported leverage fell from 6.2 times at year end to 6.1 times at March 31 and remains at 5.8 times on a pro forma basis, reflecting completed and announced transactions. With that, I’d like to turn the call over to our President and CEO, Andy Power.
Andrew Power: Thanks, Jordan, and thanks to everyone for joining our call. Following the successful course we set in 2023, Digital Realty experienced accelerating momentum in the first quarter of 2024, headlined by a collection of multifaceted AI opportunities that drove a number of new leasing records as demand for our capacity in core markets remains elevated, while visibility surrounding competitive new supply remains cloud. At Digital, we continue to focus on our strategic priorities and on delivering on behalf of our expanding list of 5,000 plus customers across our 50 plus markets in 25 plus countries on six continents. During the first quarter, we posted record leasing results, surpassing our prior record by more than 40% and exceeding our leasing results for all of 2019 in just this one quarter.
We also delivered strong operating results as evidenced by healthy stabilized same capital growth and the highest releasing spreads in the company history. We continue to innovate and integrate the further expansion of ServiceFabric through the launch of our service Directory marketplace, which has seen the addition of over 90 members offering more than 150 services, including secure and direct connections to over 225 global cloud on ramps, creating a vibrant community for seamless interconnection and collaboration. And just last week, we launched Private AI Exchange powered by ServiceFabric, which enables enterprise data to be at the center of an AI architecture, directly adjacent and interconnected with AI capabilities. This architecture alleviates the data crafted barriers that emerge as data generated and exchanged with multiple applications across end-to-end AI-enabled digital workflows.
We also continued down the path of bolstering our balance sheet and diversifying our capital sources. With the expansion of one of our stabilized hyperscale joint ventures and the addition of a new hyperscale development JV, together with our first transaction with our perpetual capital partner, Digital Core REIT in well over a year. These transactions help to fund the development pipeline capacity that our customers are seeking, while reducing our overall leverage. Operating and financial results in the first quarter were encouraging. We posted sequential growth in our core data center revenues, while growing adjusted EBITDA and core FFO per share. Development returns also continued to improve and we further enhanced the product mix of our portfolio, while maintaining strong liquidity and lower leverage.
Bookings and renewal results were even better with a number of metrics reaching new records, reflecting the strong demand environment and limited new capacity. Total bookings were $252 million, well ahead of our prior quarterly record of $176 million, reflecting the impact from the acceleration of AI and the improved pricing environment. Importantly, when comparing this quarter’s leasing to the prior record set in 3Q 2022, we leased an incremental 10% of IT load capacity, while rates in the greater than 1 megawatt segment were approximately 60% higher than those achieved 18 months prior. Perhaps a bit overshadowed by these record setting results was another strong quarter in our 0 to 1 megawatt plus interconnection segment, which delivered a third straight quarter over $50 million.
Demand for our connectivity oriented capacity remains healthy and pricing remains firm. Our mark-to-market renewal spreads were up by 11.8%, aided by a record 18.5% increase in our greater than 1 megawatt category. Churn remained low and well controlled at 1.7% for the quarter. Same capital cash NOI growth will also remain healthy, growing by 4.7% year-over-year in the quarter and marking our fifth consecutive quarter of positive same capital growth. A year ago, data center demand was strong, driven by the growth of cloud and digital transformation, while supply was tightening due to power transmission constraints, supply chain delays and other factors. Since then, AI has become a significant driver of demand as hyperscalers race to develop, deploy and implement the technology, while enterprise begin to explore the potential of this wave of technological evolution.
McKinsey recently forecasted data center demand growth at a double-digit CAGR through 2030. This growing secular demand is broad and deep with both enterprises and service providers need significant new data center capacity to accommodate their expanding needs, fueled by trends such as enterprise AI adoption, AI as a service, IoT and the relentless growth in data creation. Reflecting these trends, I want to highlight two highly strategic AI signs that came to fruition during the quarter. First, we were selected to host one of the world’s most powerful AI supercomputers in one of our data centers in Copenhagen in a collaboration spearheaded by the Nova Nordics Foundation and the Export and Investment Fund of Denmark, where researchers from Denmark’s public and private sectors access to a cutting edge NVIDIA powered AI supercomputer in addition to NVIDIA software platforms, training and expertise.
Second, Digital Realty further strengthened its collaboration with Oracle to accelerate the growth and adoption of AI among enterprises. Aiming to develop hybrid integrated solutions that address data gravity challenges, expedite time-to-market for enterprise deploying next generation AI services and unlock data and AI based business outcomes. Oracle will deploy critical GPU based infrastructure with Digital Realty that leverages platform Digital’s open purpose built global data center solution and caters to enterprise and AI customers’ critical NVIDIA and AMD deployments, among others. Our 01 (ph) plus interconnection customers also continue to recognize our demonishable strength and value proposition, whether that related to power dense applications, a network of globally connected data centers or other critical infrastructure requirements.
During the first quarter, we added over 128 new logos. Our wins included a leading Fortune 500 AI component maker is expanding their presence on platform digital to a new EMEA market to support their streaming service capabilities. A global cloud computing and content distribution provider leveraging the leading connectivity proposition of Platform Digital in Mombasa to support their global edge pump expansion project. A global 120 manufacturing company is building an AI HPC environment in Frankfurt to support its autonomous vehicle project. A leading French cloud service provider is deploying on platform digital to build out its edge cloud offering across the globe to support their enterprise customers’ hybrid infrastructure by delivering low latency performance while retaining local data residency.
Fortune 500 technology distributor and borrower IT service provider chose platform digital in Phoenix to support data exchange and interconnect with key partners. And a Fortune 500 health benefits provider is expanding into two additional North America metros to take advantage of cloud and network density available on platform digital. Moving over to a quick update on our largest market growth in Northern Virginia. During the first quarter, we leased approximately 80 megawatts of capacity in the supply constrained quarter in Eastern Loudon County. Demand for our capacity remains strong and while hyperscale leasing is typically lumpy, we continue to see healthy traction on our remaining capacity and we are focused on helping our customers and partners source the incremental data center infrastructure that they require.
During the first quarter, we worked with Dominion Energy to help address the transmission bottleneck in Ashford by providing them with an easement to land the selling line at the Mars substation that they plan to construct on a quarter parcel of our 450 acre Digital Dulles campus. We remain cautiously optimistic about getting access to additional power with Dominion’s current forecast for completion of the Southern Line Transmission project by late 2025. Today, we have roughly 80 megawatts of remaining capacity available for lease within our first building on our Digital Dulles campus in Loudoun, known as Dulles center and we have almost 200 megawatts available for development on our [indiscernible] campus in Manassas, which was contributed to our JV with Blastone in the first quarter.
As a reminder, Manassas is currently outside of the constrained area and power remains accessible there. Before turning it over to Matt, I’d like to touch on our ESG progress during the first quarter. We will continue to make meaningful progress and be recognized for our strong ESG performance in 2024. We went live with a switch to 100% renewable energy supplies for our Texas, New Jersey and Sydney data center portfolios benefits in 30 sites and addressing more than 10% of our global electricity footprint. We were recognized by the EPA as Energy Star Partner of the Year with sustained excellence for the fourth year. And we added a new green building certification at our MRS 4 development in Marseille, France. We also announced a partnership with a leading global energy solutions provider to use our UPS systems to support Ireland’s transition to renewable energy.
And we’ve announced a significant expansion of our use of HVO diesel, a cleaner fuel made from waste, cooking oils and fats to power our backup generators. This will up our use of HVO to 20 global sites and 15% of our global portfolio by IT capacity. We remain committed to minimizing Digital Realty’s impact on the environment, while delivering sustainable growth for all of our stakeholders. With that, I’m pleased to turn the call over to our CFO, Matt Mercier.
Matthew Mercier: Thank you, Andy. Let me jump right into our first quarter results. We signed a record $252 million of new leases in the first quarter, led by $175 million of greater than a megawatt leasing in the Americas and another $53 million of 0 to 1 megawatt plus interconnection leasing with interconnection bookings remaining firm at $13 million. Turning to our backlog. Given the record leasing, the backlog of signed but not yet commenced leases swelled to a new record of $541 million at quarter end, with new leasing outstripping a record of $156 million of commencements during the quarter. Looking ahead, more than half of the record backlog is slated to commence during the remainder of 2024, indicating that commencements are likely to remain elevated.
During the first quarter, we signed a record $248 million of renewal leases and a record increase of 11.8% on a cash basis. Releasing spreads were once again positive across products and regions, with particular strength in the Americas. Releasing spreads have been increasing steadily for well over a year now and while we expect that they will remain very healthy, they are likely to moderate from this quarter’s record given the significant weighting of lease expirations in the 0 to 1 megawatt segment for the remainder of the year. In addition, we think it is important to consider a normalized view of the headline renewal spreads as two separate items skewed our reported spreads higher in the first quarter. First, there was a notable outlier in the other category that should not be considered recurring or repeatable and removing this transaction would reduce our overall reported spreads by 250 basis points to 9.3% for the quarter.
Second, there was a significant early renewal transaction in our greater than 1 megawatt segment that was part of a large package deal as we work to support this customer’s broader data center capacity needs in one of our tightest markets. While this transaction enabled us to opportunistically pull forward some of our below market expirations from the outer years, our forward year lease expiration schedule remains dominated by our 0 to 1 megawatt segment, which tends to experience spreads in the low to mid-single digits akin to what we saw in the first quarter. Excluding both the outlier transaction and the package deal renewal, releasing spreads in the quarter would have been up 3.4% on a cash basis. We feel that this is more predictable aspect of our portfolio that we will continue to see opportunities and may periodically be able to capture the growing mark-to-market opportunity in our greater than a megawatt portfolio.
In terms of earnings growth, we reported first quarter core FFO of $1.67 per share, reflecting strong organic operating results, partly balanced by dilution associated with the stabilized asset sales and JV contributions completed early in the year and the ongoing deleveraging of our balance sheet. We have been normalizing for the sale or JV of $3 billion of stabilized assets completed since the beginning of last year, total revenue growth was 7% year-over-year in the first quarter due to the benefit of improved leasing spreads along with favorable new leasing. Revenue growth in the quarter was tempered by the decline in utility expense reimbursements as electricity rates fell sharply in EMEA year-over-year. Normalized adjusted EBITDA increased 9% year-over-year, reflecting the strong revenue growth and modest increase in operating expenses.
As Andy noted earlier, stabilized same capital operating performance saw continued strength in the first quarter with year-over-year cash NOI up 4.7%, driven by 4% growth in rental plus interconnection revenues and further supported by expense control. Moving on to our investment activity. We spent $550 million on consolidated development in the first quarter, plus another $23 million for our share of managed unconsolidated JV spending, while delivering 32 megawatts of new capacity across the globe for our customers. It is worth mentioning, the approximate $300 million sequential decline in our development spending this quarter, which highlights the effects of the contributions of our three development JVs. However, seasonal and other timing related factors also contributed to less CapEx spending in the first quarter.
Turning to the balance sheet. We continued to strengthen our balance sheet in the first quarter with the closing of previously disclosed transactions, including the Cyxtera transaction, the first phase of the Blackstone Hyperscale development JV, and the sale of an additional 15% share of the two stabilized hyperscale assets in our Chicago JV to GI partners. During the quarter, we also completed a hyperscale development JV with Mitsubishi for two assets and the Dallas Metro. In terms of new news, we also sold a piece of land in Sydney, Australia for $65 million and we provided an easement to Dominion Energy to build the Mars substation on our Digital Dulles campus for $92 million, which all contributed to a reduction in our reported leverage to 6.1 times at the end of the first quarter versus 6.2 times at the end of 2023.
And then in April, we continued to recycle capital by selling 75% of CH2, the third and final stabilized hyperscale facility on our Elk Grove campus at a 6.5 cap rate to GI Partners, raising nearly $400 million. And we sold to Digital Core REIT an additional 24.9% interest in our Frankfurt site where Digital Core REIT previously owned 25%, raising another $129 million. In addition, we used some of our cash on hand to pay-off the $600 million of maturing euro notes. After adjusting for these transactions, along with the anticipated closing of Phase 2 of the Blackstone transaction later this year, pro forma leverage is 5.8 times. We continue to keep significant cash on the balance sheet with approximately $1.2 billion on hand and over $3 billion of total liquidity at March 31 to support ongoing investment opportunities.
Moving on to our debt profile. Our weighted average debt maturity is over four years and our weighted average interest rate is 2.9%. Approximately 85% of our debt is non-U.S. dollar denominated, reflecting the growth of our global platform and our FX hedging strategy. Approximately 86% of our net debt is fixed rate and 97% of our debt is unsecured, providing ample flexibility for capital recycling. Finally, after paying off the year notes in April, we have $316 million of debt maturing through year end 2024. Beyond that, our maturities remain well laddered through 2032. I’ll finish with guidance. We are maintaining our core FFO guidance range for the full year 2024 of between $6.60 and $6.75 per share, reflecting the continued improvement we are seeing in our core business.
Positive underlying operating trends are partly balanced by potential acceleration in development spending and additional capital recycling, as we move our leverage down towards the long-term target and position the company for the accelerating opportunity in front of us. We are maintaining our total revenue and adjusted EBITDA guidance ranges for 2024, so we are notching up our cash and GAAP releasing spreads along with our same capital cash NOI growth expectations, reflecting better-than-expected execution on the leasing front in the first quarter and the strength in fundamental conditions that we continue to see across our portfolio. Specifically, cash releasing spreads are now expected to increase 5% to 7% in 2024, up 100 basis points at the midpoint of the prior 4% to 6% range.
And same capital cash NOI is now expected to increase by 2.5% to 3.5%, up 50 basis points from the 2% to 3% range we provided in February. Highlighted in our investor presentations, excluding the nearly 200 basis points of power margin headwinds that we have previously discussed, our same capital cash NOI growth for 2024 would be 4.5% to 5.5%. While these improvements and the stronger core FFO per share realized in the first quarter bode well for the balance of the year, there are a few mitigating factors to consider as you’re refining your models. First, we will see a modest drag of the $500 plus million of capital recycling completed in April. Second, we are only a third of the way into the year and there is still significant potential for both development spend and asset sales guidance to reach the high end of their guidance ranges.
In addition, it is worth pointing out that the interest rate outlook and curve have changed considerably since we provided guidance and remains another source of uncertainty for the balance of this year. Just one final reminder and update. Over the course of 2024 and 2025, we expect that our $6 billion development pipeline will become increasingly accretive as higher yielding projects are completed and stabilized. The expected yield on our stabilized pipeline ticked up another 20 basis points sequentially, reflecting the addition of higher yielding projects and the completion or contribution to joint ventures of lower yielding projects. To help provide increased transparency around this important and evolving aspect of our company, we have enhanced our development life cycle schedule on Page 25 of our supplemental to, one, reflect our proportionate share of total data center development, including our unconsolidated joint ventures; and two, to provide increased disclosure around our available developable capacity in terms of IT loading.
We hope you find this helpful. This concludes our prepared remarks. And now, we will be pleased to take your questions. Operator, could you please begin the Q&A session.
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