It may be the biggest growth industry of our lifetime. “Computer Technology” used to be nothing more than a replacement for yesterday’s technology such as the typewriter, the fax machine, the copier, and the phone. Today, not only has new technology replaced once-pivotal tools, but it also created completely new dimensions to our life.
Think about how we use technology – specifically technology that uses data – on a day-to-day basis:
- We now share our photo albums in real-time with Facebook, Instagram, and Snapchat;
- We text or FaceTime as opposed to call;
- We read our news on Twitter, or on our phones;
- We attend school on YouTube;
- We’ve gone from records, to 8-tracks, to tapes, to CDs, to MP3s, to streaming in 30 years;
- We work remotely through a VPN
- We now save all of our data, and house servers on the cloud
We seem to take all of this cutting-edge technology for granted. Because of this huge leap of technology, we need a place for all of this data to be stored, which is why data center developments exist. In today’s post, we’ll discuss whether it’s viable to invest in data center developments.
Moving to the Cloud
The two biggest changes taking place today, are the evolution of the “Cloud” and the advent of AI (Artificial Intelligence). The hard drive on your desktop and the server at your office are now being replaced by the cloud. All the information you kept personally and professionally is now being stored and secured in data centers, owned and operated by companies like Google, Microsoft, Facebook, and Cisco.
Not only is the hard drive disappearing but “loading” software onto your desktop is also being quickly phased out. Remember when we you bought a printer, and you had to find a CD for installation – those days are long gone. Google now offers an alternative to Microsoft Word for free, and Microsoft now allows you to simply pay $10 a month and you always have the most recent Microsoft Office at your disposal.
AI is driving cars without a human at the wheel; it is growing crops more efficiently; rapidly improving medicine; diagnosing patients with high success rates; helping supply chain and procurement; and routing you through traffic and more.
Hence, market demand is certainly evident now, leaving the question: How does that translate to a good investment?
Pros and a Con of Data Center investing
To keep up with data storage, massive companies across the U.S. have to build facilities to store data both safely and efficiently. To maintain the integrity of the data and satisfy the consumers demand for on-demand access, hundreds of millions of dollars’ worth of equipment will be invested into each facility. Companies like Oracle and Microsoft need these data centers to keep their customers happy. With this massive investment in technology comes an enormous opportunity in commercial real estate. Here are a few positive reasons for looking towards data centers:
- Credit Tenants: Data center buildings are inexpensive when compared to the equipment that is installed; it will not be uncommon for a data center to have a billion dollars-worth of equipment installed. Therefore, the tenants are usually substantial with strong credit ratings. The main players today are Facebook, Google, Amazon, Netflix and Microsoft. You might ask, why don’t they just build the facilities themselves? The fact of the matter is, building and owning real estate is not what these companies do; and investors frown on companies operating outside of their core competencies. This is why they tend to outsource their developments to third parties – companies that have a history of good fundamentals and developing solid buildings.
- Long-term Leases: With the amount of investment each facility experiences, it is not likely that they will vacate the space. Investors can expect to have 15-30-year leases with periodic rent escalations. Long term leases greatly enhance the value of an asset.
- Cash Flow: Having long term leases with credit tenants make data centers good investments for investors seeking long term consistent cash flow. Typically, with long term leases and cash flow, investors will get monthly or quarterly dividends from their investment, as opposed to a bulk payout towards the end. You can almost think of long term, cash flowing deals, as similar to a bond.
Here are a couple of reasons why data centers might not be a great fit for your portfolio:
- Expensive land: If there’s a major knock against data center developments, it’s the fact that land for these projects is both expensive and there is a limited supply of fiber networks. Landowners in data center-rich areas have come to know this. In fact, one of the most surprising locations for data centers, is Northern Virginia – it’s considered the data center hub of North America. With its proximity to Washington D.C. and the main fiber trunk crossing the Atlantic Ocean, Northern Virginia is a perfect location. Because of this, land costs can average $300 per SF. Data centers are making private landowners millions of dollars for only a handful of acres. It’s an odd concept to think about, but it’s equitable to land owners in Texas, North Dakota, and Colorado, who happen to sit on a bevy of oil. Land grabs are becoming very common in Northern Virginia.
- Need for cheap energy: Data centers take up a MASSIVE amount of energy. It’s hard to put into reasonable terms as to how much company will spend on energy, which will eat into profits. Between cooling servers, and simply letting terabytes of data flow every second, it is not a cheap venture. Because of this, data centers need to be in areas with access to affordable energy. Ideally, near natural gas power plants. Finding suitable land near the Atlantic and hoping for cheap energy is a tricky venture.
Data centers are a multi-billion-dollar industry that are still relatively new to the investment world. We think that the space still has an enormous amount of room for growth. This past year, Northstar has been contracted to build three data centers for a major U.S. company. We are very interested in pursuing data center developments across the country, and invite our investors to joining us in our next data center opportunity. If you have any questions regarding data centers, then feel free to contact us at investorrelations@northstarcp.com.