The Data Center Wave: A Look at M&A, PE Trends
The data center industry has exhibited resilience in the face of a challenging economic environment. In fact, data centers are well-positioned to withstand future uncertainties due to their mission-critical role and the strong consumer dependency that is inherent to the sector.
Michael Underhill, CIO at Capital Innovations told Connect Money that the demand for data centers remains solid. He said the firm is “seeing strong net absorption with low availability rates and strong demand drive pricing power.”
He noted the decline in vacany rates over the past four years “by an average of 50 basis points each quarter” from 10% in the second quarter of 2020 to 2% in the latest quarter. “Net absorption in secondary markets is increasing as high costs and low availability make it difficult to lease space in top markets like Northern Virginia.”
Although the overall volume of M&A activity in the industry was down in 2023, owing mostly to rising capital costs, the amount of capital spent has remained at historic levels.
Recent data from Synergy Research Group showed that data center-oriented M&A transactions in 2024 are once again on the brink of surpassing $40 billion, following a lackluster 2023. Data revealed that 2021 and 2022 were the peak years for the aggregate value of all signed deals. In both years, the total value of closed transactions was around $50 billion.
In 2023, total value fell by 47% to $26 billion. However, the 2021 and 2022 figures were propelled by four of the largest deals in industry history, each for $10 billion or more, Synergy noted, including the acquisitions of CyrusOne, Switch, CoreSite and QTS. Equity investments in Vantage Data Centers and EdgeConneX have been the largest acquisitions to close so far in 2024.
If mega-deals of $2 billion or more are eliminated from the equation, then the trend in the flow of what could be termed “regular deals” shows a different pattern, the report noted. Peak activity is still 2021, with 2022 dropping off by 30%, 2023 declining again but only by 9%, and 2024 now poised to surpass the 2021 record.
Meanwhile, Synergy’s research revealed that the value of deals signed in 2024 is $36.7 billion, with an additional $7.1 billion negotiated but not yet formally finalized. The company said it also knows of “a pipeline of well over $20 billion in possible future deals, where companies are seeking sales or considering strategic options.” If that would occur, the final 2024 M&A tally might match the level set in 2021.
Private Equity Trends
Synergy has compiled nearly 1,400 data center-oriented M&A deals since 2015, with an aggregate value of $276 billion. Along with the explosive increase in data center M&A activity, private equity firms have also established a foothold in the industry. Private equity accounted for 54% of closed deal value in 2020, then climbed to 65% in 2021 and has stayed in the 85% to 90% range over the past three years.
“There has been an inexorable rise in the demand for data center capacity, driven by cloud services, social networking and a range of both consumer and enterprise digital services,” said John Dinsdale, a chief analyst at Synergy Research Group.
“Specialist data center operators have either not been able to fund those investments themselves, or they were not prepared to put their balance sheets at risk.” Data centers have become a “long-term safe haven for investments,” causing a huge influx in private equity, he added
The fierce competitiveness in the sector has driven purchase multiples to unheard heights. With valuations as high as 33x earnings becoming more frequent, data centers are a profitable place for investment. If supply fails to meet the rising need for capacity, this consistent demand could result in even higher valuations and multiples.
On the supply side, Underhill noted various challenges, including power constraints in some of the major markets, as “generation is near maximum capacity,” noting the 21% year-over-year rise in costs in Northern Virginia. However, given the aging grid infrastructure and new transmission capacity coming to market, it “poses major opportunities for investors across tiers of markets nationwide,” he added.
Underhill highlighted the availability of power in “2nd & 3rd tier markets,” including AWS in Mississippi and Indiana, Microsoft in Indiana, Google in Missouri, and Meta in Wyoming.
Some big data center providers have been pulled from the public market via private transactions. Providing both finance and strategic direction, financial sponsors—private equity funds, real estate funds, infrastructure investors—have been vital in the industry’s expansion.
“Financing has been a slog for two years as high interest rates have challenged development starts and banks are reluctant to issue construction loans. But private equity firms are still well-funded and active in development,” said Underhill.