The recent surge in generative artificial intelligence (AI) has resulted in an arms race to develop the technology, which will require many high-density data centers and significantly more electricity to power them. That challenge is creating a swathe of investment opportunities for private funds across debt, equity, energy, and infrastructure, right at the intersection of two global megatrends: digitization and decarbonization.

What is clear is that the global data center market is in serious need of power, further fueled by the growth of cryptocurrencies, and the traditional grid is not equipped to respond. Consequently, energy providers well-versed in data center developers’ needs are pursuing onsite electricity generation options, leading to interesting new structures in both the United States and Europe.

What is emerging is a market opportunity characterized by innovation, scale, and a deep need for capital. With traditional capital providers increasingly limiting their lending, private credit is seen as a growing source of finance at a time when deals are getting larger and the geopolitical and regulatory context is more challenging.

AI has created an arms race that will require many high-density data centers and significantly more electricity to power them.

Diversification of power essential

While electricity grids are under intense pressure, in all but extreme cases power is still available – just not necessarily where data centers are located. That means instead of bringing power to data centers, data centers need to be built near new power sources.

Developers must either improve data connectivity to and from those new sites or build onsite electricity generation as a complement – but rarely a total substitute – to the grid, an option known as behind-the-meter generation.

As the ability to deliver data center capacity quickly becomes crucial, data center owners and developers are increasingly offering their tenants – most often large US tech companies, or hyperscalers – solutions to bridge a temporary lack of capacity. Alternative power sources are installed to increase the site’s total capacity and provide backup power in case of grid deficiencies. While the market for renewable energy powered data centers continues to grow, this is progressively done via the installation of gas turbines which, once the onsite plant is built, then transition to a backup role.

At full production capacity, a data center powered by onsite generation has the added advantage of potentially selling surplus power back to the grid. This could help avoid a loss of production capacity and alleviate some of the financial pressure on the overall project.

Innovation’s impact

Ironically, AI will accelerate innovation and substantially affect how data centers are designed, powered, and connected to networks. A world where IT drives the economy represents an entirely new paradigm, one that will lead humanity into uncharted territory.

The current race for advanced chips and the pursuit of superintelligence – an intelligence that surpasses human capability – is a striking example of how the data center sector will evolve over the next decade.

Square footage is becoming less important as servers become more efficient. But these servers require significantly more power and cooling to function, and their numbers have increased dramatically. In response to that new challenge, small modular nuclear reactors are expected to be operational and deployed across data centers within two to four years. Similarly, solar and wind power generation is improving, and the use of hydrogen sources is being regularly tested.

Financing behind-the-meter data centers

We see a growing number of private funds exploring data center power opportunities. Powered land (or land with a timeline to power) in or near a cluster of existing data centers is seen as the golden ticket.

The market is also pursuing powered shells, on which data centers matching hyperscaler designs can be developed. These can either be rented with an option to purchase or purchased once built.

A similar logic is emerging for onsite power generation. Energy developers are buying large tracts of land, securing a connection to the grid, and building initial onsite generation plants. This first move is generally financed through equity and followed by a series of debt financing.

Once the initial groundwork is in place, developers seek equity partners to finance part of the construction of the data center through a joint venture. The remainder is financed through debt at the joint venture level, with lenders secured by a series of subordination, non-disturbance, and attornment agreements; enforcement rights; and, ultimately, the lease secured with the anchor tenant. Given that the overall power capacity may not be fully delivered at this stage, some projects rely on additional mezzanine financing.

The final step for the energy company that initiated the project is to secure additional funding to complete and build the onsite generation plant. This not only delivers a reliable primary power source for the existing buildings but may attract new customers who may request the construction of additional data center buildings powered by the plant.

The markets continue to evolve

The current global market capacity of data centers is approximately 59 gigawatts (GW), and Goldman Sachs estimates there will be around 122GW of data center capacity online by the end of 2030.

The US currently represents approximately 50% of globally installed data center capacity and looks set to account for the majority of data center power demand growth. This reflects the presence of many major hyperscalers, plus good access to reliable energy, strong connectivity, a low country risk profile, and a favorable regulatory environment.

The US Department of Energy recently directed the Federal Energy Regulatory Commission (FERC) to initiate a rulemaking process to expedite grid interconnection for data centers, aiming to ensure the grid can keep up with demand and processes are smoothed out. It remains to be seen how that proposal, which essentially expands FERC’s jurisdiction over the interconnection of large loads, will be met by state regulators.

Conclusion

The construction of high-density data centers and quickly increasing electricity demands present vast opportunities for private capital to support both data center and power project developers, and particularly those capable of bridging the two domains.

As deals continue to get larger and the pace of innovation intensifies, investors who can adeptly navigate these trends will be well positioned to capitalize on a meaningful growth trend.