Speaker 1: Bloomberg Audio Studios, Podcasts, radio News.
Speaker 2: Hello and welcome to another episode of the Odd Lots podcast.
Speaker 3: I'm Jill Wisenthal and I'm Tracy Alloway.
Speaker 2: Tracy, you know, we've obviously been doing a lot about
Speaker 2: data centers, but one thing that's sort of becoming interesting
Speaker 2: is they just seem so complicated. There are so many
Speaker 2: different moving parts. And I don't mean like technically complicated,
Speaker 2: although that's part of it, but they really are this
Speaker 2: sort of weird thing where they're a high tech thing.
Speaker 2: They have the most advanced chips, or at least some
Speaker 2: of them have the most advanced.
Speaker 4: Chips in the world.
Speaker 2: They're real estate plays and we talk about securitization and
Speaker 2: so forth, and then they have to figure out all
Speaker 2: this stuff of how they're going to connect to the
Speaker 2: grid and maybe they're going to build their own power
Speaker 2: plant inside the data center, et cetera. There's a lot
Speaker 2: of moving parts.
Speaker 3: Yeah, there's a couple of things here. So number one,
Speaker 3: it does seem to be a complex space. And whenever
Speaker 3: I think about how some of these things are being financed,
Speaker 3: I get that, what's the meme with the guy standing
Speaker 3: in front of the board with like all the papers
Speaker 3: and directions. It all feels a little circular sometimes that
Speaker 3: whole ecosystem. But the other thing is just the sheer
Speaker 3: scale of the like financing requirement for doing this. So
Speaker 3: I was reading a Morgan Stanley report. I think it
Speaker 3: came out over the summer. They were forecasting two point
Speaker 3: nine trillion of global data centers spend through twenty twenty eight.
Speaker 3: And just for context, total CAPEC spending by all companies
Speaker 3: in the S and P five hundred in twenty twenty
Speaker 3: four was nine hundred and fifty billion.
Speaker 2: It's crazy, yeah, And by the words, are the numbers bug?
Speaker 3: Well? The other big question is if you actually stack
Speaker 3: that up against existing revenue from generative AI, existing revenues
Speaker 3: like sixteen billion, right, So there's a bit of a
Speaker 3: gap there that needs to be filled.
Speaker 2: Right, completely correct. The other thing that strikes me is
Speaker 2: very interesting and tricky is you have these projects and
Speaker 2: put there's big capital outlay, capital commitments, et cetera. And
Speaker 2: then the timelines like oh, when do you get connected
Speaker 2: to the grid, When does that turbine for your insight
Speaker 2: gas generator get actually get delivered? Maybe twenty thirty et cetera.
Speaker 2: So it feels like, I get the pressure. You're dealing
Speaker 2: with very uncertain timelines, and so how you establish that
Speaker 2: in the language so everyone feels protected, Like, what if
Speaker 2: you could ever get connected, what if anything could happen?
Speaker 5: Right?
Speaker 3: What are the expectations for when this actually starts to
Speaker 3: pay off.
Speaker 2: When does it payoff, what are the obligations of the tenant,
Speaker 2: et cetera. We don't really know anyway, I'm sure it's
Speaker 2: different number one, So many more questions for just scratching
Speaker 2: the surface.
Speaker 3: Yeah, absolutely, And you know, there have been some interesting
Speaker 3: things happening. So a lot of the activity has been
Speaker 3: done in the private market. But obviously AI players and
Speaker 3: companies have a lot of different options. So they could
Speaker 3: go to securitized markets, and I think we've been seeing
Speaker 3: some CMBs and ABS deals there, private credit I mentioned
Speaker 3: private equity bank lending, or they can go the public
Speaker 3: route into corporate bonds, and so I'm really curious how
Speaker 3: a lot of these players are choosing between those options.
Speaker 2: Well, I'm really excited to say we have the perfect guest,
Speaker 2: someone who is really at the intersection of sort of
Speaker 2: every one of the things that these data centers are
Speaker 2: also at the intersection We're going to be speaking to
Speaker 2: Travis Wafford. He's a partner at the law firm Baker Bods.
Speaker 2: He is the chair of the corporate department based in Houston.
Speaker 2: He works on all of these things. He can tell
Speaker 2: us what's in the details of all these agreements. So, Travis,
Speaker 2: thank you so much for coming on. Odd Love's great
Speaker 2: to have you here in studio.
Speaker 4: Thanks for having me.
Speaker 2: What do you give us just a quick overview? What's
Speaker 2: your role at Baker Boss? What do you focus on?
Speaker 2: What do you call it a practice area? Is that
Speaker 2: a legal for a legal term?
Speaker 5: Yeah, So I'm a deal lawyer. I help people build, buy, finance,
Speaker 5: and sell projects and companies. And so we take multi
Speaker 5: disciplinary teams and put them together in order to actually
Speaker 5: make people's dreams. The reality is the way I like
Speaker 5: to explain it. The idea is somebody comes to us
Speaker 5: with a very complex project and they need an integrated solution,
Speaker 5: legal solution to that problem. So you want to build
Speaker 5: the data center, you've got power, you need people that
Speaker 5: actually understand the air, the water, the interconnection with the fiber,
Speaker 5: the interconnection with power, the land, everything else. And then
Speaker 5: the finance layer on top of that we provide a
Speaker 5: one stop shop for that.
Speaker 3: Okay, so my question is how busy are you right now?
Speaker 3: Are you just getting you know, requests flying at you constantly?
Speaker 5: Yes, we are very busy, which is a good thing.
Speaker 5: And it's a bad thing, right because your capacity constrain,
Speaker 5: just like your clients are.
Speaker 3: Well, my husband is a former lawyer, so I know
Speaker 3: how bad it can be.
Speaker 5: Yes, But the good thing is they're interesting deals. It's
Speaker 5: interesting stuff to work on. It's in the news on
Speaker 5: Bloomberg as well, and that makes it fun.
Speaker 2: It seems like a baker Bod's with like the long
Speaker 2: history based in Houston, all the energy stuff. I mean,
Speaker 2: this is all sort of novel to everyone, right, especially
Speaker 2: the generative AI data center Like that aspect is just
Speaker 2: a couple of years old. Can you talk about when
Speaker 2: there is a new thing that everyone gets excited about
Speaker 2: that maybe even a couple of years ago no one
Speaker 2: was talking about now, granted, I know data centers a
Speaker 2: lot longer than a couple of years old, but the
Speaker 2: explosion of interest, how do you build that sort of
Speaker 2: team that understands all of the dimensions so that you
Speaker 2: could provide that one stop shop service.
Speaker 5: Yeah, so it's a really good question. And you know,
Speaker 5: I always go back to the expression there's nothing new
Speaker 5: under the sun. When you actually think about what we're doing.
Speaker 5: You're building a power project, you're building out a data center,
Speaker 5: the powered shell or the powered land or the like.
Speaker 4: People have been doing that before.
Speaker 5: When you're financing these we're actually using a lot of
Speaker 5: the same financing structures. It may not be exactly the same,
Speaker 5: but it rhymes. So ten twenty years ago we were
Speaker 5: doing whole business securitizations of cell towers, that same securitization
Speaker 5: technology you moved forward to residential solar, and now you're
Speaker 5: moving that same thing forward to CNBS and ABS of
Speaker 5: the data centers. So they're very similar. The rating agencies
Speaker 5: are very familiar with these things. You have to look
Speaker 5: at a few different variables and understand them slightly differently,
Speaker 5: but particularly energy infrastructure and telecom infrastructure. Those are two
Speaker 5: things that we've been doing for decades.
Speaker 3: Oh, walk us through the differences then between say, you
Speaker 3: know a cell tower ABS or I don't know, a
Speaker 3: solar power ABS versus a data center ABS or CMBs.
Speaker 5: Sure, so a cell tower ABS. Really when you're looking
Speaker 5: at that, you just have the tower. It's on land.
Speaker 5: You may have somebody that's coming along in order to
Speaker 5: mow the lawn around it, but they don't have much
Speaker 5: in terms of the actual equipment that's on top of
Speaker 5: the cell tower. When you have a residential solar securitization,
Speaker 5: you put the solar panel on top of somebody's roof.
Speaker 5: You're contracting the cash flows off of that. Again, on
Speaker 5: the cell tower, you're contracting the cash flows off of that.
Speaker 5: You pull those together and then you put a bond
Speaker 5: on top of it. With a data center securitization, what
Speaker 5: you're doing there is you have the cash flow from
Speaker 5: the data center lease. You have the cash flow from
Speaker 5: other aspects of the business that may be going along
Speaker 5: with that, like related to the power and some of
Speaker 5: the additional services.
Speaker 4: You pool those. You have long term contracted.
Speaker 5: Cash flows, and then a rating agency can rate those
Speaker 5: as well. But at the end of the day, you're
Speaker 5: trying to make sure that you have a special purpose
Speaker 5: vehicle that has all the assets that it needs within it.
Speaker 5: You have an separate entity that's handling the billing and
Speaker 5: the collection, an entity that's handling the operation and maintenance
Speaker 5: of the asset, and that's supposed to be a standalone
Speaker 5: product that can move at least the five to seven
Speaker 5: years until you get to the anticipated payment date, and
Speaker 5: often it's about a thirty year rated final maturity.
Speaker 3: So I have a question, and it's come up a
Speaker 3: couple times on previous podcasts, but you mentioned, you know,
Speaker 3: having a special purpose vehicle for this. Sure, Why does
Speaker 3: it seem that so many big tech companies who are
Speaker 3: in the AI space, who are presumably very, very cash
Speaker 3: rich and profitable, why are so many of them financing
Speaker 3: off balance sheet?
Speaker 5: They have better things to do with their money, so
Speaker 5: the return on their invested capital is much better on
Speaker 5: the tech side than it is on the infrastructure side.
Speaker 5: Infrastructure is usually low margins, but the benefit with that
Speaker 5: is it's long term, reliable, understood assets, such as again,
Speaker 5: if you're doing a large energy project, or even the
Speaker 5: poweredshell itself. It's land, it's a building, it's got the
Speaker 5: fiber connection, it's got the power connection, and that's something
Speaker 5: that can continue over a long period of time, Whereas
Speaker 5: on the tech side, they make a lot more money
Speaker 5: and have much greater margins, as we all.
Speaker 2: Know, right, So this aspect of the business, which could
Speaker 2: be very profitable, but it's stable, it's very predictable. It's like,
Speaker 2: let's outsource this, Let's have some other entity house that risk.
Speaker 2: What are the risks in data center finance when you
Speaker 2: think about the other side and not the tech companies,
Speaker 2: but the lenders to the SPV and we'll talk about
Speaker 2: thefferent structures that the credit form can take. What are
Speaker 2: the risks? You know, it's a fairly stable, long term thing,
Speaker 2: but how can things go wrong?
Speaker 5: So it depends on what exactly you're financing, right, So,
Speaker 5: in a securitization and ABS, what you're doing is you
Speaker 5: are financing the business of this PowerShell or turnkey solution.
Speaker 5: The tenant quality is very important. Do I have somebody
Speaker 5: that has the investment grade tenant quality or diversified pool
Speaker 5: of high credit quality tenants who can actually be clear?
Speaker 3: You're securitizing the cash flows from the data center leases, right, yeah?
Speaker 4: So exactly.
Speaker 5: So on an ABS, it's a focus on the business
Speaker 5: of this data center. The actual lease is in the securitization,
Speaker 5: and then that the hard assets are in there as well,
Speaker 5: and a CMBs you have the lease as well, but
Speaker 5: it's more focused on the mortgage. And then we have
Speaker 5: credit tenant.
Speaker 4: Leases as well, which are kind of directly to the tenant.
Speaker 3: That's useful, thank you.
Speaker 5: So risk associated with securitization are usually focus on the
Speaker 5: tenant quality. They're focus on the term of the lease.
Speaker 5: How long is the lease if you have a ten
Speaker 5: or fifteen year lease. If you have a shorter term lease,
Speaker 5: you're going to look a little bit more at well,
Speaker 5: is this something that's going to need to be released
Speaker 5: in that timeframe? What is the rate on the lease?
Speaker 5: If it's a below market lease, it's much less likely
Speaker 5: that somebody is going to want to get a new
Speaker 5: lease and leave you. And then the facility itself. Is
Speaker 5: the facility going to be able to withstand kind of
Speaker 5: technology risk over a long period of time?
Speaker 3: So how are people structuring the deals at the moment
Speaker 3: to compensate for that risk? So you have the time mismatch,
Speaker 3: you have maybe tenancy rollover risk as well. Are people
Speaker 3: like adding extra credit protection or how are they making
Speaker 3: these palatable to investors?
Speaker 4: So one is.
Speaker 5: The loan to value your advance rate. So typically if
Speaker 5: you're looking for something that's an investment grade securitization, you're
Speaker 5: going to have it around forty to fifty percent. The
Speaker 5: structure of the bond itself will have a rated final
Speaker 5: maturity that's much further out than the lease, maybe twenty
Speaker 5: five thirty years, but you're anticipating that the full principal
Speaker 5: amount of the bond would be able to be repaid
Speaker 5: within five to seven years. But the lease itself is
Speaker 5: a ten year lease or a fifteen year lease, and
Speaker 5: then that can get reapt for another ten years on
Speaker 5: top of that. So when you're looking at your cash flows,
Speaker 5: the cash flows are going to support your ard prior
Speaker 5: to even worrying wait aird the anticipated repayment date of
Speaker 5: the bond, prior to even worrying about your release.
Speaker 2: So one of the things that sort of like people
Speaker 2: tweet about and people even write about, including us, that
Speaker 2: we've talked about even this whole thing about GPU life
Speaker 2: and some of these questions regarding the long term value
Speaker 2: of the assets, and people like you know, like to claim, oh,
Speaker 2: they're not as going to be as valuable long term
Speaker 2: as people think. Does this come up in your work
Speaker 2: and what's really going on?
Speaker 5: Sure, So it depends on what the financing structure is
Speaker 5: that you're using. So the GPU life itself is more
Speaker 5: question on a private credit story or an equity. On
Speaker 5: the securitization side, they're more focused on the turnkey data
Speaker 5: center itself. The useful life comes up a lot when
Speaker 5: you're doing the accounting, and that rolls through to the
Speaker 5: earnings per share of these public companies.
Speaker 4: You've got a useful life of a.
Speaker 5: Few years ago, it was three years for these GPUs.
Speaker 5: Now some of them are using six years. If you're
Speaker 5: doing straight line amortization over three years taken about a
Speaker 5: third off over six years, it's obviously less than that,
Speaker 5: and so you have much less amortization depreciation expense on it.
Speaker 4: That helps your ranks for sure.
Speaker 3: What's your impression of how private credit lenders have been
Speaker 3: handling the GPU aging problem so far, Like, are they
Speaker 3: conscious of it or are people still kind of basing
Speaker 3: a lot of their expected cash flows off of GPUs
Speaker 3: that last, you know, longer because they were previously being
Speaker 3: used in cloud computing or something like that.
Speaker 5: Yeah, so they're very aware of it, particularly because if
Speaker 5: you look at the new in video had the H
Speaker 5: one hundreds and the H two hundreds that had come out.
Speaker 5: Then it was the Blackwell the B one hundreds two hundreds,
Speaker 5: and now Reuben's going to come after that, right, So
Speaker 5: every two to three years you have these new chipsets
Speaker 5: and that it's almost like, do I want to be
Speaker 5: financing these laptops that you've got in front of me
Speaker 5: for six years or seven years? What's the replacement cycle
Speaker 5: on that? So when do I need to get repaid
Speaker 5: on my debt? The interesting part that comes into it
Speaker 5: is it's not just one laptop. We're talking about entire
Speaker 5: data centers full of these things, and that's in the
Speaker 5: tens hundreds of millions of dollars. So how are you
Speaker 5: actually going to get your cash flow back when maybe
Speaker 5: those aren't going to be used for training the same way.
Speaker 5: The reality though, is the useful life of these and
Speaker 5: the economic life is not just that initial usage.
Speaker 4: You can use it for other things.
Speaker 5: So starting out with training, needing to get trained done
Speaker 5: as quickly as possible. If the data center is well
Speaker 5: located in Virginia or another Tier one location, maybe there's
Speaker 5: inference if it's close to a city or other location.
Speaker 5: And then for the CPUs data centers that have those,
Speaker 5: you can use them for compute and analytics and other
Speaker 5: technologies and use cases that maybe that one what you
Speaker 5: originally underwrote, but you knew that that was coming down
Speaker 5: the line.
Speaker 2: Since you mentioned Virginia, can you talk about where we
Speaker 2: are in twenty twenty five with data center siting and
Speaker 2: picking locations. So I know that there's tons around northern Virginia,
Speaker 2: and I know that there's some huge projects in the
Speaker 2: middle of nowhere in Texas where they're not going to
Speaker 2: offend any neighbors or whatever, etc. But what are the
Speaker 2: big themes that companies are thinking about right now when
Speaker 2: they think about location.
Speaker 5: Yeah. So one of the great things about Virginia is
Speaker 5: connectivity to the subse cables, so getting to Europe, getting
Speaker 5: to Africa, getting to other locations and the rest of
Speaker 5: the United States. There's a great regulatory environment there in
Speaker 5: terms of power, in terms of actually building out the
Speaker 5: infrastructure there and other data centers so that you can
Speaker 5: have I hate to use the word co located, but
Speaker 5: connectivity within other data centers makes it very attractive. The
Speaker 5: problem is it's saturated. It's a very saturated market. And
Speaker 5: so if you want to build that next large giant
Speaker 5: data center and you need power, or you need water,
Speaker 5: or you need other parts of the infrastructure, and you
Speaker 5: need to do it quickly, You're often going to look elsewhere.
Speaker 5: That's one of the reasons that Texas and ur God
Speaker 5: have become so attractive.
Speaker 1: Yeah.
Speaker 3: So one of the things we hear constantly is that
Speaker 3: chips and financing are not necessarily the big choke points
Speaker 3: for doing this. It's more the power. And I guess
Speaker 3: I'm curious, is it really a power shortage problem or
Speaker 3: is it more the distribution of power is not in
Speaker 3: the places where these data centers you know, want to
Speaker 3: be because of convenience, like colocation. It's you can say
Speaker 3: both as well.
Speaker 5: Yeah, it definitely is both. I will say though that
Speaker 5: with power its interconnection. It's getting that actual permission both
Speaker 5: for the load, so the data center itself is drawing
Speaker 5: power from the grid and for the generation and those
Speaker 5: are two separate interconnections on these larger facilities that you're
Speaker 5: going to be getting at relatively the same time. And
Speaker 5: if you can't have both, then you're probably not going
Speaker 5: to be able to support such a large facility. So
Speaker 5: on the generationation side, if you're trying to get interconnection,
Speaker 5: you go through a long process potentially with FURK and
Speaker 5: with your ISO or rto you know, ERCOT if you're
Speaker 5: in Texas to do typically at this scale, like the
Speaker 5: large data center scale, like a five year process in
Speaker 5: order to get that generation approved and interconnected, and.
Speaker 3: It's that's just the approval five years and then you
Speaker 3: have to actually do the connection.
Speaker 4: Yeah, and then you got to build it.
Speaker 2: Wow.
Speaker 5: The fun part about that is that timeline. A lot
Speaker 5: of people walk in and they think, oh, I've heard
Speaker 5: that it's going to be eighteen to thirty six months
Speaker 5: in order for me to get this done. And then
Speaker 5: a month or two goes by and they get a
Speaker 5: new date and it's been pushed out. And then a
Speaker 5: few months go by and they get a new date
Speaker 5: and it's been pushed out. And one of the analogies
Speaker 5: we use is like you're waiting in the airport to
Speaker 5: get on the plane.
Speaker 4: And they call I fly United all the time.
Speaker 5: They're like, oh, it's Global Services, okay, Global services, go forward,
Speaker 5: and now armed services okay, armed services and people with
Speaker 5: young children, and you just you realize that that first
Speaker 5: class ticket that has you know, boarding group one, doesn't
Speaker 5: mean that you're getting on first.
Speaker 2: Well, you all get there at the same time.
Speaker 4: At least.
Speaker 2: This is how I cause you know, I don't like
Speaker 2: waiting there either, but I was like, you know what
Speaker 2: I'm getting. I'm going to arrive at the destination the
Speaker 2: same as all these people with children everything, So that's
Speaker 2: hot anyway. You know, there was a story recently Core
Speaker 2: we have one of the big neocloud companies sort of
Speaker 2: lowered a growth forecast because of delay and the third
Speaker 2: party data center project, which is exactly sort of what
Speaker 2: you're talking about these things. How does that affect the
Speaker 2: financing this uncertainty of when you can actually plug these
Speaker 2: things in or when they're going to get approved, because
Speaker 2: that sounds very frustrating and time is money, and so
Speaker 2: how does that interact with the credit component?
Speaker 5: Yeah, so you kind of have three categories in the
Speaker 5: timeline of one of these projects. You have your development
Speaker 5: capital that's often equity funded. You have your construction but
Speaker 5: also you get a big construction loan once you've got
Speaker 5: your permits and your power, and then after that's been completed,
Speaker 5: then you do your takeout finance. Okay, that maybe the securitization.
Speaker 3: And the like.
Speaker 2: Has the regulatory I guess political environment does it feel
Speaker 2: like it's significantly changed in the last six months, So
Speaker 2: you talk about like, you know, very few people were
Speaker 2: talking about water. My impression is that the water component
Speaker 2: specifically is very overrated based I think, except right, But
Speaker 2: it obviously is a matter. But you know, the public
Speaker 2: is really concerned about water. The public is clearly concerned
Speaker 2: about electricity prices. People are showing up to town halls
Speaker 2: to protest or to voice their opposition to new data
Speaker 2: center projects in the areas where they live. Does it
Speaker 2: feel like the environment today when we're talking in December
Speaker 2: twenty twenty five, is meaningfully different than it was at
Speaker 2: the start of the year in terms of public awareness
Speaker 2: of all this stuff.
Speaker 5: So politically, absolutely right. I think that the community organizers,
Speaker 5: and there are a lot of organizations that kind of
Speaker 5: make their money based on outrage around these types of things,
Speaker 5: they've realized that this this is a great.
Speaker 4: Opportunity for them.
Speaker 5: And if you look at the sustainability reports of a
Speaker 5: lot of the hyperscalers and others, they talk about being
Speaker 5: water positive. It doesn't mean that they're just happy about water.
Speaker 5: It means that they're actually trying to have a positive impact,
Speaker 5: and they'll start putting money into the water sheds and
Speaker 5: the like and water replacement and that actually is really meaningful.
Speaker 5: Is a part of the story that I think a
Speaker 5: lot of the folks that are thinking about the political
Speaker 5: aspect of this don't realize, which is when these data
Speaker 5: centers come in and the balance sheets of these hyperscalers
Speaker 5: come into an area that's largely been overlooked.
Speaker 4: You know, it's that.
Speaker 5: New Yorker magazine cover where you know you're looking from.
Speaker 2: The Manhattan and then it's California, right Exactly.
Speaker 5: A lot of these areas are underinvested, particularly in infrastructure,
Speaker 5: and a hyperscaler comes in and starts saying, well, you know,
Speaker 5: this water treatment facility isn't sufficient, we need to build
Speaker 5: it out. That's very meaningful part of that interconnection study
Speaker 5: that we're doing. You're looking at the electric trans mission
Speaker 5: of the area. That is very meaningful. But water for
Speaker 5: the developer, it's not a problem unless it's actually a problem.
Speaker 5: What I mean by that is we have a lawyer
Speaker 5: on several lawyers on staff that focus on water, and
Speaker 5: one of them, for example, knows all ninety eight water
Speaker 5: districts in Texas and knows which one you are supposed
Speaker 5: to go to if you want to get your project
Speaker 5: done quickly and which one to avoid. That's something that
Speaker 5: if you mess it up, could really affect your timeline.
Speaker 3: Wait now, I'm really curious what would make one water
Speaker 3: destination more attractive versus the one you want to avoid.
Speaker 3: Is it just regulatory hurdles or is it like quality
Speaker 3: of the water.
Speaker 5: So it's not quality of the water. You know, if
Speaker 5: it's pottable water, it's pottable water. It's both water supply
Speaker 5: and then water off take. So one of the issues
Speaker 5: in oil and gas and Texas that they've had is
Speaker 5: where do we get all the water?
Speaker 4: And what are we doing with all of this wastewater.
Speaker 5: It's the exact same thing with data centers. Obviously they're
Speaker 5: putting different chemicals into the water in order to put
Speaker 5: it into the facility, but it's still a chemically treated
Speaker 5: water that has to be processed before it can go
Speaker 5: back either into the drinking supply or into the rivers
Speaker 5: and streams.
Speaker 2: And so, just back to the political environment, like what's
Speaker 2: that doing on the ground today, This big change that's
Speaker 2: occurred because everyone's up in arms about all this stuff,
Speaker 2: how is that affecting some of the project planning that
Speaker 2: exists today.
Speaker 5: So I think that the developers have been very mindful
Speaker 5: in the past, but they're even more so now because
Speaker 5: of the sensitivity around it. In certain states, they are
Speaker 5: considering proposals that might involve moratoriums on data centers. That's
Speaker 5: not the case in taxas. If you look at what
Speaker 5: Governor Abbott and the legislature have been doing, they're pushing
Speaker 5: a more data centers, more tax incentives, more infrastructure. I
Speaker 5: think Virginia and several other places realize how important it
Speaker 5: is to their economies as well and to their tax
Speaker 5: base because data centers produce a lot of tax revenue
Speaker 5: for these states, which go to help fund.
Speaker 4: Schools in the laws.
Speaker 3: Is anyone talking about public private partnerships in the data
Speaker 3: center context. I feel like this is something that comes
Speaker 3: in waves. People start getting really really excited about, like
Speaker 3: public private partnerships for infrastructure build out, and then you
Speaker 3: don't hear about it for like five years, and then
Speaker 3: it comes back. Are we in one of those waves
Speaker 3: right now when it comes to data center spend or not?
Speaker 5: Really? Yes, So I'm thinking about what I can say.
Speaker 5: So the short answer is yes, those are being explored.
Speaker 5: They're both from the perspective of public private partnerships, but
Speaker 5: also from the perspective of like the Department of Energy
Speaker 5: Loan Program Office and right you worked on TARA are
Speaker 5: the others. Yes, they can provide financing support and the
Speaker 5: Department of Energy has been very vocal about what the
Speaker 5: Loan Program Office offers. The Department of Defense, Department of War,
Speaker 5: I guess now also has programs that they can make available.
Speaker 5: Some of these are actual grants, some of them are loans,
Speaker 5: but separated apart from that, there's loan guarantees and so
Speaker 5: you have a backstop by the federal government of a
Speaker 5: loan that Let's be honest, if you're at forty percent
Speaker 5: loan to value and you've got investment grade tenant that's
Speaker 5: going to be paying the lease longer than the term
Speaker 5: of the bond, do you really need it? Probably not,
Speaker 5: but it can help lower the cost of capital anyway.
Speaker 2: Actually say more about that because we did several episodes.
Speaker 2: We've done several episodes about the idea of loan guarantees
Speaker 2: or particularly the Loan Program's Office. Well, but from the
Speaker 2: private side, like talk to us about how that functionally
Speaker 2: turns into Okay, we're going to get a better credit rating,
Speaker 2: or this is going to crowd in private capital. As
Speaker 2: they like to say, what happens, what is the steps
Speaker 2: via which the government's role suddenly unlocks this finance.
Speaker 5: I think in all credit, when you're trying to underwrite
Speaker 5: any kind of loan, you want to see what are
Speaker 5: the cash flows or what's the collateral? And am I
Speaker 5: going to get paid back? What's the likeliod right? And
Speaker 5: one of the things that the frameworks I think are
Speaker 5: show me who you walk with, and I'll show you
Speaker 5: who you are.
Speaker 4: Right.
Speaker 5: Fine, if you have the United States government that is
Speaker 5: providing a backstop, then I can be.
Speaker 4: Confident I'm going to get paid back.
Speaker 5: If it's Microsoft or Google or another who's providing a
Speaker 5: guarantee on a project or the loan, then I'm very
Speaker 5: comfortable that I'm going to get paid back. When you
Speaker 5: put these types of things together, that means I don't
Speaker 5: have to charge you an extra incremental amount to protect
Speaker 5: me from that credit risk, and that extra money that
Speaker 5: you keep in your pocket you can then turn into
Speaker 5: additional projects and it's a velocity of money concept.
Speaker 3: I want to go back to private credit for a second, because,
Speaker 3: as you mentioned earlier, a lot of these deals have
Speaker 3: been done in the private credit space so far, and
Speaker 3: companies have a lot of options when it comes to financing.
Speaker 3: As I mentioned in the intro, they can go the
Speaker 3: public route, they can securitize, they can go to private credit.
Speaker 3: And whenever people talk about private credit in the context
Speaker 3: of AI, they always say vague things like, oh, provides
Speaker 3: customizable financing options and stuff like that. What exactly is
Speaker 3: the attraction of private credit for data centers and AI
Speaker 3: build out.
Speaker 5: So one of the most attractive things that private credit
Speaker 5: can but doesn't always offer, is nondluted capital. Right, equity
Speaker 5: is diluted, and equity is very expensive. There's that risk premium.
Speaker 4: That's associated with it.
Speaker 5: Private credit, there is an assumption in the story that
Speaker 5: because of the extra protections that they receive, they don't
Speaker 5: need the same equity risk premium. So a lot of
Speaker 5: them are looking at maybe a fifteen percent IRR. They
Speaker 5: might charge you ten to twelve percent up front, but
Speaker 5: then because of the moint that basically their minimum return
Speaker 5: on the capital that they'll get paid or an IRR
Speaker 5: premium over time in the takeout, then they'll have a
Speaker 5: catch up on the back end the equity they're taking
Speaker 5: a percentage of what you at the end of the
Speaker 5: day are going to get, and it's usually a much
Speaker 5: more expensive piece private credit.
Speaker 2: But what about private credit versus other forms of credit
Speaker 2: like bank lending or the public bond market.
Speaker 4: Well, can you get it?
Speaker 2: Well, I mean that's I mean, what is that's a
Speaker 2: I don't know.
Speaker 5: The underwriting standards for private credit can be riskier than
Speaker 5: what you would have from you know, a bull bracket
Speaker 5: bank's credit desk.
Speaker 3: So when it comes to tenant diversification in data centers,
Speaker 3: how is that judged and evaluated and priced? Because if
Speaker 3: I think about who's you know, using a data center,
Speaker 3: correlation is hard to measure at the best of times.
Speaker 3: And if I think about, you know, like a new
Speaker 3: business that's growing and everyone is suddenly using it, it
Speaker 3: feels like the kind of thing that could end up
Speaker 3: being very correlated as opposed to diversified.
Speaker 5: So when you are thinking about larger investment grade bonds
Speaker 5: and debt in data centers, normally you are thinking about
Speaker 5: wholesale data centers where there's one tenant that has that facility,
Speaker 5: and that tenant has investment grade credit qual it's much
Speaker 5: less likely that you are going to have a pool
Speaker 5: of non investment grade tenants in a kind of co
Speaker 5: location style data center, and then because of that, Fitch
Speaker 5: or S and P or Kroll is going to give
Speaker 5: you this investment grade rating. So I don't think that
Speaker 5: the expectation should be that you're going to get a
Speaker 5: investment grade rating on a pool of non investment grade tenants,
Speaker 5: at least not right now. I think that eventually, when
Speaker 5: you've got thousands of tenants across hundreds of data centers,
Speaker 5: that becomes much more attractive.
Speaker 4: It's just not really where the market is right now.
Speaker 2: We did an episode a few months ago in September
Speaker 2: actually where we're talking to this guy, Don Wilson in
Speaker 2: Chicago who setting up a futures trading firm for GPUs
Speaker 2: and theoretically it can hedge your GPU costs. As you
Speaker 2: think about the industry going forward, could you see that
Speaker 2: being a useful instrument for data center financing. Where I'm
Speaker 2: a little concerned about is the value of this collateral goodness, name,
Speaker 2: I want to hedge the GPU exposure. Could you see
Speaker 2: over time maturing and debt being a valuable thing.
Speaker 5: I love new finance tools. I think that that kind
Speaker 5: of creativity is really important. There's always an opportunity there
Speaker 5: that The thing I have noticed with the data centers,
Speaker 5: just with other asset classes, is that there's always a
Speaker 5: cash flow stream that is not being utilized. And so
Speaker 5: for example, if you have a securitization you're or really
Speaker 5: any bond, you're not necessarily going to get credit for
Speaker 5: everything in it. So your contracted cash flows, if that
Speaker 5: counter party is an investment grade, may not get an
Speaker 5: advance rate a loan to value on that. Somebody else
Speaker 5: should be there in order to take advantage of that
Speaker 5: and provide you with additional capital that you can then
Speaker 5: reinvest into development.
Speaker 3: So last week we had a big outage at the
Speaker 3: CME and futures were basically frozen for like ten hours
Speaker 3: or something, and this was because of an issue at
Speaker 3: one of the CME's data centers, which is operated by
Speaker 3: a company called cyrus One. Is there a reputational or
Speaker 3: operational risk that either deal structures or investors need to
Speaker 3: be aware of when it comes to these financing arrangements.
Speaker 5: Reputational or in what regards so well.
Speaker 3: For instance, if cyrus one has a big melt down
Speaker 3: at one of their data centers which seems to have
Speaker 3: happened because one of their cooling centers reportedly malfunctioned. Is
Speaker 3: that something that then gets priced into the financing arrangement
Speaker 3: or is that something that investors should be concerned about.
Speaker 5: So these are definitely things that investors underwright too. So
Speaker 5: if you are a blue chip operator and developer, you
Speaker 5: are going to have a lower cost of capital than
Speaker 5: you would otherwise. There are a lot of Johnny cum
Speaker 5: Lateli's into data centers over the last two years, since
Speaker 5: AI has really come to the forefront. The people that
Speaker 5: have been doing it for a decade, they know what
Speaker 5: they're doing and they're very good at it. And that
Speaker 5: doesn't mean that there aren't going to be problems. Things
Speaker 5: blow up sometimes.
Speaker 3: Squirrels, two wires, yeah, hopefully not subsea ones.
Speaker 5: There are accidents all the time, but that's part of
Speaker 5: why you have these pretty incredible engineering studies that are
Speaker 5: done in order to actually put these things together, and
Speaker 5: freak accidents happen, and you know, that's part of the
Speaker 5: credit risk.
Speaker 2: We just compared to other sort of real estate plays,
Speaker 2: is there more sort of I guess, operational risk in
Speaker 2: a data center than in other times? You know, we're
Speaker 2: just some sort of retail distribution facility. I imagine the
Speaker 2: sort of operational risk isn't going to be as great
Speaker 2: and something like that.
Speaker 5: Yeah, so that's part of why they have these service
Speaker 5: level agreements within the data centers themselves, where the operator
Speaker 5: is agreeing to provide an uninterruptible, non intermittent power. That's
Speaker 5: one of the big things that people focus on. And
Speaker 5: how do the terms of that contract work and what
Speaker 5: are the backstops. You could have a reserve account associated
Speaker 5: with it so that if there are payments that are
Speaker 5: necessary to be made, that there's just cash sitting there
Speaker 5: ready to go. Normally, people are thinking that that would
Speaker 5: reduce the cash flow on the bond, and that would
Speaker 5: reduce at the end of the day, the equity distribution coming.
Speaker 4: From the SPV as opposed to affecting the payment on
Speaker 4: the bond.
Speaker 3: That reminds me, actually, are you seeing a big surge
Speaker 3: and demand for data center insurance or for people you
Speaker 3: know who want to ensure not just against operational risks,
Speaker 3: but cyber risk and things like that.
Speaker 4: Yes.
Speaker 5: So one of the wonderful things about any kind of
Speaker 5: economic activity is that the insurance market is always there.
Speaker 4: To support it.
Speaker 3: Like the lawyers as well.
Speaker 5: Right, yeah, definitely give us a call.
Speaker 4: Right.
Speaker 5: The reality though, is there are products that data centers
Speaker 5: have had for decades, and then there are new risks
Speaker 5: that are coming up just because of how AI training works.
Speaker 5: You can always go to Lloyd's of London in order
Speaker 5: to get a specific policy if necessary, But for the
Speaker 5: most part, these are risks that have already been priced in,
Speaker 5: and there are products that are already there. Now there's
Speaker 5: talk of well, there are products that exist in terms
Speaker 5: of getting an insurance product to handle your technology risk.
Speaker 5: So does the product work at the end of the
Speaker 5: day or does it become obsolete too quickly? That looks
Speaker 5: more like a bet, almost as opposed to a real
Speaker 5: insurance policy.
Speaker 4: But it's something that can be underwritten.
Speaker 2: How valuable it is just having a plug into the grid,
Speaker 2: you know, I'm thinking about are those various deals of
Speaker 2: companies wanting to buy bitcoin mining operations, for example, and
Speaker 2: it seems like you know what, yeah, maybe you can
Speaker 2: make a little money mining bitcoin, but you have you
Speaker 2: have access to twenty four to seven reliable power. That's
Speaker 2: a lot more valuable than what's going on inside the
Speaker 2: shell here. Talk to us just about that value of
Speaker 2: anyone who has access to power.
Speaker 5: So powered land is huge and that is developing. You know,
Speaker 5: it's existed for a while, but is becoming more and
Speaker 5: more important because there are rets and real estate developers
Speaker 5: who don't need to have the sophistication of can I
Speaker 5: do the new direct to cooling technology for a powered
Speaker 5: shell or turnkey solution. I'm just going to have land
Speaker 5: and I'm going to make sure that there's sufficient power
Speaker 5: here for you to build your data center or for
Speaker 5: you to bring your GPUs into. That's attractive if you
Speaker 5: listen to the earnings calls of several of the real
Speaker 5: estate developers, they're moving into that if they have an already.
Speaker 2: So their job is they're just going to secure land
Speaker 2: that they can that they know they can get power too.
Speaker 5: So they've already got like they've got that right. So
Speaker 5: the interesting part is there's so many different projects over
Speaker 5: the last several decades where they've been working through interconnection
Speaker 5: studies for the land for you name it project, and
Speaker 5: they're waiting years and years just like everybody else, in
Speaker 5: order to get those done. Well, why use it for
Speaker 5: this when we can use it.
Speaker 4: For that and data centers?
Speaker 5: You can make a lot more money on it.
Speaker 3: Isn't the obvious solution to the power problem just for
Speaker 3: the big guys to build their own power system and
Speaker 3: maybe spend a little bit more money plugging it into
Speaker 3: the grid. Again, if political pushback is becoming an issue,
Speaker 3: or if regulators are worried about this, shouldn't they just
Speaker 3: do it on their own? Is that the straightforward thing
Speaker 3: to do.
Speaker 5: The hyperscalers themselves. I think that goes back to what's
Speaker 5: the best use of their capital. They're not in the
Speaker 5: infrastructure business specifically, though, I will say if you look
Speaker 5: at Love, Amazon is an example. They sold books, they
Speaker 5: had the website, they needed to expand, so they build
Speaker 5: Amazon Web services. They need a distribution.
Speaker 4: They've got that.
Speaker 5: Tech companies have been becoming energy companies for years. Energy companies,
Speaker 5: we know, had to become tech companies a decade ago
Speaker 5: in order to just keep up. But now there's this
Speaker 5: integration that's happening from both sides, both in terms of
Speaker 5: what's happening in our operations but the ownership itself.
Speaker 2: Just going back to powered land for a second, So
Speaker 2: what you're saying is that there are these developments that
Speaker 2: have been going on a long time, but they initially
Speaker 2: planned for something else, But that today in twenty twenty five,
Speaker 2: is they're getting closer to when they could be connected.
Speaker 2: Maybe AI is you know, this connection is a lot
Speaker 2: more valuable for an AI data center.
Speaker 4: Absolutely, so this is interesting.
Speaker 2: See this to me, like, the only reason I go
Speaker 2: back to this is because one of the things that
Speaker 2: when people talk about an AI bubble, if there is one,
Speaker 2: is this idea of crowding out other productive use of
Speaker 2: the economy. Right, are there better things in the long
Speaker 2: term that we could have done with these turbines? Are
Speaker 2: there better things that we could have done with these
Speaker 2: electrical connection systems, et cetera. And other companies might have
Speaker 2: been waiting on some piece of gear and the AI
Speaker 2: data center outbid them, And I'm going to I'm not
Speaker 2: asking you like this sustainable, but there are other things
Speaker 2: that are going to lose out or not have access
Speaker 2: to electricity that people wanted to do but aren't going
Speaker 2: to because that wire is more valuable for an AI.
Speaker 4: Company one hundred percent.
Speaker 5: Think about the actual interconnection queue two and a half
Speaker 5: years ago, before AI became a big deal, there was
Speaker 5: I want to say, twenty six hundred gigawatts in the
Speaker 5: interconnection queue, and we were expecting eighty percent of that
Speaker 5: would never actually be constructed. Only twenty percent of it would.
Speaker 5: And that's pretty typical even on a going forward basis,
Speaker 5: what are you going to do with those projects and
Speaker 5: that land that has already started in a process of
Speaker 5: interconnections that he is and the like, Well, you can
Speaker 5: shift that to data centers, especially because a lot of
Speaker 5: that you were producing solar batteries, wind and other power
Speaker 5: gen Now you add on the data center layer to it.
Speaker 5: And what may not have been economic before now is.
Speaker 3: Should I build a data center?
Speaker 2: Joe, Yeah, I've.
Speaker 3: Got a grid connection, I've got a water Yeah, there
Speaker 3: we go. Okay, next project all lots builds a data
Speaker 3: center in protected land in Connecticut?
Speaker 6: Probably not actually, So this sort of piggybacks on a
Speaker 6: question that Tracy as already. But why not just for
Speaker 6: you know, these is companies, particularly the hyperscalers that look
Speaker 6: out in the environment and there's all these people showing
Speaker 6: up at meetings complaining about the water et cetera like that,
Speaker 6: Why isn't the future just entirely behind the meter in
Speaker 6: Texas where it's like we're just gonna.
Speaker 1: Build it all.
Speaker 2: We're gonna have the natural gas plant on site. We're
Speaker 2: never gonna bother with the grid. We're never gonna We're
Speaker 2: just gonna have the plan right there. Why isn't that
Speaker 2: just the entire future of data center?
Speaker 5: One of the issues with behind the meter is what
Speaker 5: if the data center goes away? So, for example, what
Speaker 5: if Mark Zuckerberg one day decides I'm not doing the
Speaker 5: metaverse anymore and somebody in AI says I'm not doing AI,
Speaker 5: or we move from GPUs to quantum.
Speaker 4: Computing or something like that.
Speaker 5: You want to have that generative capacity interconnected with the
Speaker 5: grid so that you don't have a stranded asset.
Speaker 3: Okay, oh yeah, stranded assets. There's a word I haven't
Speaker 3: heard of you.
Speaker 1: Yeah, I know.
Speaker 2: So just looking forward and I mentioned earlier core Weave
Speaker 2: saying okay, there is a delay and some of it's
Speaker 2: build out. What are the big choke points and do
Speaker 2: you expect them to stack up? We recently did an
Speaker 2: episode with a Travis Cavula Energy and he was like,
Speaker 2: I don't know, like the amount of just the sheer
Speaker 2: amount that we're adding to the grid, Like it's gonna
Speaker 2: be tough and I don't know how it's all going
Speaker 2: to pan out for some of these projects, but what
Speaker 2: do you see as the sort of big bottle extra
Speaker 2: choke points that you're thinking about in the coming years.
Speaker 5: So power continues to be the number one bottle, like
Speaker 5: I don't think anybody would dispute that. Water obviously is
Speaker 5: an issue as well. Getting the turbines and getting what
Speaker 5: you actually need in order to produce power is very difficult.
Speaker 5: I do think though, that when you look at how
Speaker 5: some of these interconnection requests are prepared, you have five
Speaker 5: or ten different people making applications for the exact same project,
Speaker 5: So it inflates what the expectations are on the number
Speaker 5: of projects in the market at a given time. When
Speaker 5: you get rid of all of that extra wash, you
Speaker 5: wind up with hyperscalers, large enterprises, and other real investment
Speaker 5: grade or serious tenets. Give you projects that can get done.
Speaker 5: That's infrastructure, that's infrastructure grade, and a lot of the
Speaker 5: speculative assets those are power points. They probably are not
Speaker 5: going to get made, particularly if there's any kind of
Speaker 5: economic shock later.
Speaker 2: Travis Watford, thank you so much for coming on OUTLAS.
Speaker 2: It was great.
Speaker 3: Thank you, Thank you so much.
Speaker 2: Appreciate it, Tracy. I thought that was really helpful, really
Speaker 2: clarified a lot of things for me. I'm trying to think,
Speaker 2: Like the point about the sequencing of the financing, I
Speaker 2: thought was really interesting or very important to help me
Speaker 2: understand these things, because in my mind, I'm like, well,
Speaker 2: they're going to lose so much money. They're breaking ground
Speaker 2: on all these deals. What if they don't actually get
Speaker 2: implemented because you're waiting forever? And so you're hearing him
Speaker 2: describe the sequencing of different financing at different stages, like,
Speaker 2: all right, well, at least that makes sense to me.
Speaker 3: Yes, I still feel like there's kind of a mismatch issue.
Speaker 2: Sure, well, it.
Speaker 3: Just feels like, you know, you're talking about a a
Speaker 3: technology that has like its own upgrade risk. Let's say,
Speaker 3: like you know, people are developing new chips pretty fast,
Speaker 3: and you don't know when the next one is coming
Speaker 3: down the line and when you might want to replace
Speaker 3: all your chips with something else. So that's one thing
Speaker 3: tendency rollover risk. I know he pushed back a little
Speaker 3: bit on the diversified point, but again, my understanding is
Speaker 3: for a lot of the ABS structures, maybe CMBs as well,
Speaker 3: diversification is part of the proposal, and I think he
Speaker 3: mentioned it earlier, and that seems difficult to me to
Speaker 3: accurately measure. If you have a bunch of tenants all
Speaker 3: you know, doing something in the cloud, drawing something from
Speaker 3: a data center, if there's a big macroeconomic downturn or
Speaker 3: something like, who's to say that they're not all going
Speaker 3: to renig on their lease at once.
Speaker 2: The levels of uncertainty yah, seems so extreme because you're
Speaker 2: talking about, Okay, there's the economic downturn. There's the fact
Speaker 2: that maybe a lot of this AI stuff could completely
Speaker 2: fizzle out and doesn't produce even in normal times. Then
Speaker 2: there's the technological questions. Then there's the operational questions about
Speaker 2: are you actually good at operating and building a data center?
Speaker 2: Not everyone who's gonna be the same, And then there's
Speaker 2: the grid interconnection and all of these things about like
Speaker 2: reliability of power, et cetera. So it feels like, yes,
Speaker 2: on the one hand, I'd very much buy that on paper. Yes,
Speaker 2: you know, this is the twenty twenty five iteration of
Speaker 2: what used to be cell towers or what used to
Speaker 2: be rooftop solar or anything else. But with just an.
Speaker 2: I mean he mentioned with the cell tower for example,
Speaker 2: if one guy whose job is to mow the lawn, right,
Speaker 2: that's like that's the sort the like operational component. I
Speaker 2: get the you know, most of the time the tower
Speaker 2: is just there, right, and you have to make sure
Speaker 2: that it's in it's safe area, et cetera. But the
Speaker 2: degree of complexity, of operational complexity, of technological energy complexity
Speaker 2: for these it just seems like exponentially higher.
Speaker 3: Yeah, And I keep thinking back to just the sheer
Speaker 3: scale of it, and like thebers that got thrown around
Speaker 3: literally trillions of dollars. In the next few years. Well,
Speaker 3: I'm sure we'll do more episodes on it.
Speaker 2: There are so many sub episodes we could do, including
Speaker 2: how the best of the Texas is ninety eight water
Speaker 2: districts and how you find.
Speaker 3: We No, no, no, Joe, you know what sub episode we
Speaker 3: could do?
Speaker 2: Subse cables we got to do. We didn't get into that,
Speaker 2: but we should do an an Yeah, well we should
Speaker 2: do more subs cable episode. And actually just in terms
Speaker 2: of data center siting, like access to you know, latency
Speaker 2: risk and where it needs to be, et cetera. It's
Speaker 2: something we should talk about more.
Speaker 3: Shall we leave it there?
Speaker 4: For leave it there?
Speaker 3: This has been another episode of the Odd Thoughts podcast.
Speaker 3: I'm Tracy Alloway. You can follow me at Tracy Alloway and.
Speaker 2: I'm joll Wisenthal. You can follow me at the Stalwart.
Speaker 2: Follow our producers Kerman Rodriguez at Carman Arman Dashel Bennett
Speaker 2: at Dashbot and kill Brooks at kill Brooks. For more
Speaker 2: odd Laws content, go to Bloomberg dot com slash odd
Speaker 2: Lots with the daily newsletter and all of our episodes
Speaker 2: and you can shed about all these topics twenty four
Speaker 2: to seven in our just discord dot gg slash online.
Speaker 3: And if you enjoyed this conversation, if you want us
Speaker 3: to do a sub episode on subc cables, then please
Speaker 3: leave us a positive review on your favorite podcast platform.
Speaker 3: And remember, if you are a Bloomberg subscriber, you can
Speaker 3: listen to all of our episodes absolutely ad free. All
Speaker 3: you need to do is find the Bloomberg channel on
Speaker 3: Apple Podcasts and follow the instructions there. Thanks for listening