Data Center REITs Thrive on Our Internet Addiction: Gadfly

(Bloomberg)—This is not news to you because you're reading this column digitally or on your Bloomberg terminal: We all have a blossoming and apparently limitless addiction to the internet. But here's a twist: That phenomenon is fueling the growth of real estate investment trusts specializing in data centers.

Every time we stream video on Netflix, share photos on Instagram or listen to "Lemonade" on loop on Tidal, we add to the internet traffic glut -- and to the pocketbooks of data REIT shareholders.  That's not going to stop anytime soon.

Worldwide, Internet traffic this year is expected to surpass a zettabyte (or 250 billion DVDs’ worth) of information, according to networking equipment company Cisco. The company expects current traffic to double by 2019.

All that Internet activity increasingly relies on the cloud or, in other words, servers located in data centers somewhere else). Research firm Forrester expects cloud adoption to accelerate this year.

That's good news for data center REITs, the real estate companies that house, power and cool data centers around the world.

Share prices of the six, publicly-traded U.S. data center REITs have risen 27 percent, on average, so far this year. Last week, Digital Realty's stock jumped on news that it’s joining the S&P 500 (making it the second data center REIT to do so after Equinix, which is the biggest in its class by market cap).

Part of these companies' successes stems from their ability to accommodate a range of data needs.

Customers have to pay up if they want a data center REIT to host private servers or set up a private cloud for them, but those are appealing options for companies that want full control over their computing needs.

Public cloud vendors like Amazon and Microsoft sell space on their servers to customers more cheaply (and often more conveniently) -- but companies can’t manage systems as directly and self-sufficiently themselves when they do so. Many big companies use a mix of their own services and those from outside vendors (an option known as the "hybrid cloud"). Amazon itself is a customer of Equinix and Digital Realty.

Equinix is located in 40 cities around the world and it's the global leader in interconnection services (which allow different companies to connect directly with each other), according to Bloomberg Intelligence analyst Joshua Yatskowitz.

Digital Realty has the most data-center square footage (22.8 million square feet). It had mainly leased its data centers to wholesale customers, until its acquisition of Telx last year amplified its retail and interconnections businesses as well.

QTS and CoreSite are smaller than their peers but offer a range of data services, including interconnection and cloud service businesses.

However rosy the stock appreciation has been for the sector, that largely appears to be a bet on future revenue, earnings, and market share growth. As the chart below shows, revenue growth thus far for these major players has been strong. Earnings for all of the REITs in the chart below have been heading in decidedly the wrong direction (a function, in part, of the large up-front capital expenditures and other large, one-time costs data centers require).

Managing and sustaining growth will be a challenge for all of these REITs, especially in a sector in which, as noted above, new data centers are costly and can take one or two years to build and launch. Repurposing existing buildings for such uses is possible, but the inventory of buildings that meet data centers' needs is limited.

While REITs in general will benefit from greater investor attention after they get recategorized as their own market sector on major indices this summer, data center REITs will still have to prove that their futures are as bright as their recent past.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story: Rani Molla in New York at [email protected] To contact the editor responsible for this story: Timothy L. O'Brien at [email protected]


© 2016 Bloomberg L.P

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