Trepp | Data Center Sector’s Growth Comes with Challenges

The data-center sector’s rapid growth is colliding with mounting challenges around power, community opposition, concentration, and underwriting risk. Those were among the key takeaways at last week’s Trepp Connect conference hosted by Trepp Inc. in Midtown Manhattan’s Rockefeller Center.

It’s hard to believe that a sector with a 1% vacancy rate and a global inventory that is expected to nearly double in the next five years could be facing so many uncertainties, but they seem to continue to mount.

Those uncertainties have prompted some investors to stay away from the sector, while some lenders are avoiding the property type because of its sometimes complex lease structures and because the sector remains in its infancy and largely untested.

But for those getting involved, the biggest challenges right now are community opposition, explained Barbara Denham, lead economist for cities and regions at Oxford Economics, who spoke on a data-center panel. Communities often are concerned about potentially higher utility costs, strains on local power grids, noise pollution, water usage, and limited job creation.

Regarding the latter: It required 9,000 workers to build the Stargate data center in Abilene, Texas. But the property has resulted in the creation of only 50 permanent jobs. The argument there: communities are bearing the costs without receiving many long-term benefits.

An estimated 40% of all data-center projects that face sustained local opposition eventually are canceled.

A challenge for investors and lenders: tenant concentration risk. Unlike multifamily or other traditional commercial properties that might have diverse tenant bases, data centers often are leased to a single tenant. If that one tenant leaves, how viable is the property to other potential users? How much capital would it require to make it leasable?

The major players are all full-in on the sector, taking space as it becomes available. The risk is that they’ll all pull back at the same time. Another risk: How long will it take for today’s state-of-the-art technology to become obsolete?