Digital Realty(NYSE: DLR) and Blackstone(NYSE: BX) are joining forces to develop data centers. They expect to invest about $7 billion over the next several years to build four data center campuses across three metro areas. The deal will provide Digital Realty with funding to accelerate its development plans while enabling Blackstone to invest more investor capital in one of its highest conviction themes.
The investment should enable both companies to grow their income in the future, giving them more cash to support their higher-yielding dividends. Here's a look at what the deal means for investors.
Teaming up to build more data center capacity
Digital Realty is forming a joint venture (JV) with several funds managed by Blackstone. They will acquire an 80% interest in the data center development JV for an initial contribution of $700 million. The data center REIT will retain the other 20% interest and manage the JV. The partners will fund their proportional shares of the remaining development costs for four data center campuses in Frankfurt, Paris, and Northern Virginia.
The total outlay will be around $7 billion to support the construction of 10 data centers. They expect to build out 500 megawatts (MW) of information technology (IT) load capacity in the coming years. Digital Realty currently has 46 MW under construction and has pre-leased 33% of the capacity. The partners expect to build out the remaining capacity based on customer demand. They anticipate bringing about 20% of the total online by 2025, with the balance delivered after 2026.
A win-win deal to further capitalize on this once-in-a-generation opportunity
The deal will enable Digital Realty to offload a significant portion of the capital outlay needed to build out these facilities. That will free up more of its capital to maintain and strengthen its balance sheet and 3.6% yielding dividend. The data center REIT had been under a lot of pressure over the past year over concerns about how it would finance future developments amid rising interest rates. It has since secured several joint venture partners, infusing it with cash and transferring a portion of its future capital spending commitments to its partners. These deals position it to continue capitalizing on the data center megatrend to grow its earnings while maintaining a sound financial foundation.
Meanwhile, the JV will enable Blackstone to invest more capital into the digital infrastructure space. Its COO, Jon Gray, commented: "Data centers are experiencing once-in-a-generation demand growth, driven by cloud adoption and the AI revolution. Digital infrastructure is one of our highest conviction investment themes as a firm, and this transaction with a trusted data center operator in Digital Realty is another example of how we are investing behind this trend."
According to some estimates, the world must invest $1 trillion to build new data center capacity over the next decade. Several catalysts are driving demand for capacity, including cloud computing and artificial intelligence (AI).
Blackstone has been investing heavily in the space. It also acquired data center REIT QTS Realty for $10 billion in 2021 and plans to invest $8 billion in building out data centers with that platform. The company expects these investments to generate above-average returns for investors in its real estate and infrastructure funds. That will trickle down to Blackstone, enabling it to capture higher management fees and performance revenues. Those income sources will give the company more money to pay dividends (its payout currently yields 3%). That combination of income and earnings growth should boost Blackstone's total returns.
Data-driven growth ahead
The world needs a tremendous amount of data center capacity in the coming years to support digitalization and AI. Digital Realty currently has more data center investment opportunities than it can fund, which is leading it to join forces with others to help finance new developments. Its deal with Blackstone is the biggest. It will help the REIT fund its growth so it can maintain its dividend. Meanwhile, it will allow Blackstone to invest more capital in one of its highest conviction themes, which should power outsized returns for fund investors and earnings and income growth for Blackstone shareholders. This data-driven growth makes both stocks compelling investment options for the long term.
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Matthew DiLallo has positions in Blackstone and Digital Realty Trust. The Motley Fool has positions in and recommends Blackstone and Digital Realty Trust. The Motley Fool has a disclosure policy.
