String Of Big Data Center Deals Shows Shift In Capital Driving Industry's Development

Equity investment in data center developers is on the upswing, with infrastructure and pension funds providing an ever-larger share of the cash.

Two weeks ago, Australian pension fund Aware Super announced a half-billion-dollar investment in Switch, a data center developer and operator owned by DigitalBridge. The deal came just three weeks after Brookfield and the Ontario Teachers’ Pension Plan acquired data center provider Compass Datacenters in a recapitalization estimated at $5.5B.

The deals are part of a rise in the number of acquisitions and major equity investments in data center operating companies this year, with much of the investment explicitly funding new development. 

These transactions also reflect an ongoing shift in where the capital supporting large-scale data center development comes from, with a growing number of pension funds, insurers and similar institutional investors joining infrastructure funds as the primary sources of capital funding the industry’s growth. It’s a trend some experts say has accelerated over the past year as the skyrocketing scale of new data center projects and longer development timelines have pushed short-term-minded investors to the sidelines. 

“Traditional capital sources — that before had a pretty straightforward way of deploying capital where a property going to get leased up in an expected period of time, around two years — are not as competitive anymore because they don't want to deploy that capital that long,” said Andy Cvengros, a managing director on JLL’s data centers team.

“[Providers] are having to go look at new capital sources because they're not only asking for longer wait times, they’re asking for much bigger amounts."

There have been six equity investment M&A deals involving data center operating companies so far this year, compared to just four such transactions in all of 2022.

In addition to the investments in Compass and Switch, EdgeCore Digital Infrastructure was acquired by Partners Group, with an additional commitment of $1.2B to fund new development through an infrastructure fund subsidiary. Manulife Investment Management acquired a controlling interest in Serverfarm through its infrastructure fund with the goal of expanding the company’s footprint, while Apollo Infrastructure Funds made an undisclosed “significant investment” in Yondr to “facilitate the continued buildout of Yondr’s portfolio of hyperscale data center facilities.”

The scale of these deals doesn’t come close to the record M&A wave the sector experienced in 2021, when some of the industry’s largest publicly traded platform companies like QTS, CoreSite and CyrusOne were acquired in take-private deals exceeding $10B. Still, experts say the recent bump in M&A reflects capital markets for digital infrastructure that are coming back to life. This comes after a period in which interest rate uncertainty and subsequent volatility in debt markets and asset valuations made deals difficult to execute. 

“There’s stabilization and predictability that's happened at this point with the interest rate environment,” said Irtiaz Ahmad, a managing director at Solomon Partners focused on digital infrastructure and services. “People have adjusted a little bit more toward that and are more comfortable transacting in this new world.” 

The investors behind this recent run of transactions, in all but one case — DartPoints’ May acquisition of small regional colo provider Venyu — have been infrastructure funds or pension funds, which are large institutional investors with long-term investment timelines. Experts say this reflects an ongoing shift that has seen such funds become by far the most significant sources of capital funding large-scale data center development. 

An influx of capital from institutional investors into the data center space isn’t a new phenomenon, at least by the standards of the relatively nascent data center industry. Infrastructure funds like KKR, Global Infrastructure Partners and EQT AB have been behind some of the industry’s largest M&A deals since 2020. Digital Bridge, whose $11B acquisition of Switch in 2022 was by far the year’s largest transaction, has emerged as one of the space's most important players through its ability to consolidate capital from a growing array of these institutional sources. 

The pandemic kicked off a torrent of institutional capital into data centers and other digital infrastructure, as demand for data center capacity surged while asset classes that were previously considered safe investments, from office towers to downtown hotels, suddenly struggled. Data centers went from a niche asset class to safe ground. 

“If you just look broadly at what's happening in commercial real estate, the digital infrastructure space that incorporates data centers and towers and fiber is performing significantly better,” said Pat Lynch, executive managing director in CBRE’s data center practice. “I think these entities continue to view it as a safer place to invest.

Investing in the growth of development-oriented operating companies like Compass or Yondr also allows pension funds, insurers and similar institutional investors to bet on the tech industry’s growth with a much lower risk profile than investments in similarly sized tech ventures. 

“You get some of the growth aspects of the tech industry, but without as much risk associated with it,” Solomon Partners’ Ahmad said. “It’s a more defensive way to play what could be trillions of dollars’ worth of digital transformation that’s coming over the next decade, building real estate facilities and leaving them out over multiyear contracts to really good tenants.” 

But some experts say the past year has seen investment in large-scale data center development — or the firms executing it — become even more exclusively the territory of infrastructure funds, insurers and pension funds with long-term investment timelines, with private equity and other capital sources increasingly pushed out of the picture. 

JLL’s Cvengros said this is the result of longer development timelines for data center builders, as providers have to go to ever greater lengths to get power in key markets and face persistent supply chain delays for everything from transformers to building materials. Whereas it used to take less than three years to bring a data center to market, that timeline can now extend past five years — beyond the time frame that many of the industry’s traditional investors want to have capital tied up in a deal. 

“You’re seeing less of the private equity groups that are looking for three years or five years at most in terms of their return and exit,” Cvengros said. “Now you're seeing groups that are in it for the long haul, that are willing to really stick their neck out there and invest in the space in a big way and not expect a return for any set period of time.”