Article | Creating Resilience

Valued Insights: Sustainability and Data Centre Valuation

March 3, 2021

Valued Insights: Sustainability and Data Centre Valuation

Surge in data centre investment

Investor interest in data centres continues to grow amid the rise of Big Data, Industry 4.0, Internet of Things (IoT), the introduction of 5G and the mainstream adoption of cloud-based services.

Recent pandemic-led demand for video conferencing, online streaming and other platforms to support business activity has provided additional impetus for digital transformation, ensuring 2020 was a banner year for investment in Asia Pacific data centres.

Full-year transaction volume for data centre assets reached US$2 billion, the highest in five years, as the sector lured investors keen to avail of the opportunities resulting from massive demand for data storage and computation, as well as the prospects data centres offer for asset diversification and enhanced risk-adjusted returns. 2020 also saw a continuation of platform formation and M&A deals for data centres, with upwards of US$5 billion deployed by funding platforms and joint ventures across the region.

As data centre investment volume continues to gain momentum and the sector evolves into a mainstream real estate asset class, demand for accurate and reliable appraisals is mounting in what is widely considered to be one of the most complex fields of real estate valuation.

While factors such as facility type, age, location, tenant covenant, and regulatory issues are undoubtedly important in data centre valuation, other criteria such as power supply access, fibre optic network connectivity and reliability of building cooling systems – most of which typically play only a marginal role in ascertaining the value of other property types - carry substantial weight.

The importance of data centre energy efficiency

Environmental factors are also increasingly being considered in data centre valuation amid growing urgency to address climate change and decarbonise the world economy. Data centres utilised an estimated 1% of electricity production worldwide in 2019, making them major contributors to the global carbon footprint.

In Asia Pacific, data shows that just under 7% of the total energy used in Singapore in 2019 was by data centres, well above the worldwide average, while in Australia, data centres are responsible for more than 4% of national energy consumption.

Data centres require such high volumes of energy to both power the array of IT equipment they host as well as extract the heat they generate. Enhancing the efficiency at which data centres use this energy is therefore decisive for the future of the industry.

Energy efficiency in data centres is typically calculated by utilising a model called Power Usage Effectiveness (PUE), which establishes the ratio of a data centres’ total amount of energy used to the energy delivered to its IT equipment. The most advanced data centres can achieve an average annual PUE of 1.1 and in certain cases, even lower, although these low PUE ranges are typically seen in single-user, self-operated hyperscale data centres.

With many countries in the region pledging to be carbon neutral by the middle of this century, regulators are beginning to mandate greater energy efficiency in data centres. In 2018, the Beijing municipal government restricted new data centre builds to a maximum PUE of 1.4. In Shanghai, from 2020, new builds will be controlled at PUE 1.3 and below and redevelopments will be limited to PUE 1.4 and below.

In many cases, tech advancements in hardware will help generate PUE efficiencies. In Singapore, a large tech company looking to achieve the design PUE it is quoting is now working with a hardware manufacturer who can provide a silicon chip that can run at higher temperatures.

ESG comes to the fore

In addition to government regulation, occupier requirements and the shift to corporate social responsibility are driving user demand for more energy efficient data centres. Leading multinational tech companies have spearheaded innovation in energy efficiency, while many enterprise customers are now also demanding that data centres provide greater transparency of their climate impact.

Investors are also greening their approach. Although many traditional investors have not widely adopted sustainability as key investment criteria, many global investors are formally including sustainability into new investment strategies or investment committee processes, including those for data centre investments.

As these trends gain momentum, owners of digital infrastructure that do not take action to improve the energy efficiency and other environmental features of their facilities will come to find it increasingly challenging to attract large end-users: a trend that will inevitably influence valuations.

Water and power source emerge as key criteria

In addition to PUE – which only tracks the energy efficiency of a facility’s IT equipment - the industry is now monitoring the impact of associated infrastructure such as cooling and lighting systems and water usage.

Water in particular is a key issue, with global demand for fresh water expected to exceed availably supply by 2030, and data centres using around 8 million gallons of fresh water annually per MW. This is likely to lead to a shift away from water-based cooling systems towards newer technologies such as air-cooled chilling.

Types of power sources are also being tracked and evaluated in response to stakeholder demand for greater accountability on climate impact, with some data centres, particularly hyperscale facilities owned and operated by leading tech companies, now using renewable energy sources such as wind and solar power. In September 2020, Google announced it would power its entire data centre operations using carbon-free energy sources by 2030.

Green data centres will command an advantage

Sydney, Singapore, Hong Kong, and Tokyo remain the dominant Asia Pacific data centre markets, with continued strong growth in the number of core and shell and fully operating models. As the data centre market continues to evolve and expand, investors are increasingly considering locations such as Seoul, Taipei, Vietnam, Jakarta, and India. As real estate investors develop a greater understanding of data centres’ business model and potential, income certainty will strengthen, and capitalisation rates will start to compress.

With many large investment groups in the region looking at implementing ESG criteria into the investment processes, properties with sustainability hardware, operations and practices are likely to achieve superior NOI and be more widely sought after. As this occurs, valuation professionals will need to analyse these key elements and benchmarks to assist investors in forming their opinion of value.

Provided they also meet required standards of productivity, reliability and security, sustainable data centres with strong environmental credentials such as high energy efficiency ratings and low resources wastage will command a significant advantage both in the marketplace and in valuations.