Global data center capacity is forecast to double over the next five years, according to Moody's1. As demand surges, fueled by the growing need for high-density, high-compute environments, firms must pay attention to regional market dynamics—including supply and demand imbalances that may affect pricing and returns on investment.
Impact of cloud, data and AI
Growing demand for cloud services, adoption of AI and cryptocurrencies is forecast to spur investments in new data center capacity exceeding $2 trillion globally over the next five years.2 Cloud adoption is accelerating as businesses increasingly shift from on-premises infrastructure to public, private and hybrid cloud solutions. Cloud services accounts for more and more of total IT spending, with major providers like Amazon Web Services (AWS), Microsoft Azure and Google Cloud expanding their data center capacity globally to meet this demand 3.
At the same time, the explosion of data generated by Internet-of-Things (IoT) devices, social media and enterprise applications is driving the need for enhanced data storage and processing capabilities. Global data creation is expected to reach 181 zettabytes annually by 2025, up from 64 zettabytes in 20204. Data centers will be critical in managing and processing this growing data flow, supporting tasks such as real-time analytics and predictive modeling.
Moreover, AI applications - particularly those related to machine learning and deep learning - require high-density computing environments with significant power and cooling capacities. To support AI workloads, data centers are increasingly implementing technologies like liquid cooling and direct-to-chip cooling to handle the intense computational demands. AI-driven industries will rely on hyperscale and edge computing environments, further boosting the demand for scalable and energy-efficient data centers.
These trends highlight the increasing importance of modern data center infrastructure, creating significant investment opportunities for private equity firms. As AI and cloud services continue to transform industries, the need for agile and technologically advanced data centers will drive substantial growth in the sector.
Operational efficiency and value creation
For PE firms, data centers offer substantial opportunities for operational efficiencies that can significantly improve EBITDA margins. This can be achieved by modernizing data center operations, adopting best practices and automating processes. Some of the most effective value-creation strategies include:
Capex optimization: Through modular design and efficient project management, data center builds and upgrades can be streamlined.
Cost-saving through synergies: Streamlining the supply chain, consolidating operational processes and adopting shared service centers can remove redundancies and cut costs.
Energy efficiency and sustainability: As energy consumption is a major cost driver, investing in energy-efficient technologies and renewable energy sources can lead to substantial savings and meet the increasing demand for sustainable operations.
Technology and infrastructure considerations
Investing in the right infrastructure and technology is essential to maintaining a competitive edge. Data centers need to upgrade their infrastructure to meet future demand requirements. Some key areas of focus include:
Advanced cooling technologies: Liquid cooling and direct-to-chip cooling solutions are becoming critical as rack densities increase to 40kW-100kW.
Electrical systems upgrades: Investing in more efficient uninterruptible power supplies (UPS) and power distribution units (PDUs) is essential to support high-compute loads.
Connectivity and latency: The proximity of data centers to end-users is becoming increasingly important, especially for low-latency applications. PE firms should consider investments in edge data centers to capture opportunities in regions with increasing demand for real-time data processing.
Regulatory and compliance landscape
The regulatory environment surrounding data centers is becoming more complex. In regions like Europe, compliance with DORA (Digital Operational Resilience Act) and GDPR (general data protection regulation)is critical. Data centers must have robust measures in place to ensure cybersecurity, data protection and operational resilience. Furthermore, the rise of data sovereignty laws means data center locations must be chosen carefully to align with legal requirements on where data is stored.
Capex and pricing pressures
The cost of building and maintaining data centers is on the rise, driven by factors such as:
Rising land acquisition costs: Data centers require large footprints and land prices are becoming more and more expensive in key data center hubs like Frankfurt and London.
Construction material costs:The price of materials like steel and copper has risen since the pandemic, adding to construction costs.
Hyperscale competition: Major tech companies and cloud providers are increasingly building their own hyperscale data centers, driving up competition and putting pressure on pricing. However, as AI demand rises, occupancy rates are expected to remain high, which could offset some pricing pressures.
Exit strategies and monetization
PE firms must have a clear strategy for exiting their data center investments. Carve-outs, mergers and sale-leaseback transactions are common exit options. It is crucial to structure the investment to attract potential buyers, such as hyperscalers, infrastructure funds or even strategic buyers. Additionally, maintaining a balance between long-term leases and flexible contracts can provide steady revenue streams while allowing potential for upside.
People and talent management
Data center investments require highly specialized operational expertise. PE firms should focus on building strong management teams with deep technical expertise in data center operations, IT infrastructure and cybersecurity. Investing in training and development for staff can also enhance operational performance and ensure the organization is ready to tackle the increasingly complex challenges of running data centers.
Conclusion
For PE firms, investing in data centers offers significant opportunities for value creation, but it requires a thoughtful approach. From optimizing operational efficiency to staying ahead of technological trends, firms must address several key factors to ensure success. With the right strategy, data centers can offer a stable, high-growth asset class that aligns with the increasing digitization of the global economy.
Footnotes
1. Navigating the future of data centers amidst rapid expansion
2. Moody's Talks – The Big Picture
3. Global cloud spending leaps 19% in Q2 2024
Originally published 25 October, 2024
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