Underwriting the empty building

When I underwrote loans at Thorofare Capital, I looked at every single-tenant property two ways: as-stable, with the tenant paying rent, and as-dark, with the tenant gone. The first number tells you what the deal is worth. The second tells you what you can lose.

Data centers stretch the gap between those two numbers further than almost any other property. This memo works through why, using the fictional 40 MW deal from my sample credit memo.

Why the gap is so wide

An office building without a tenant is still an office building. A data center without a tenant is three things with very different shelf lives:

The power connection. Scarce and slow to get. A new one can take years in many markets, so a site with power already energized keeps real value on its own.
The building shell. Concrete, steel and a roof. Useful, but not worth much more than a large warehouse on its own.
The power and cooling equipment inside it. Usually most of the cost, and built to one tenant’s specification for one generation of chips. The next tenant may want different rack densities or liquid cooling, so much of it may have to be refit.

Rent is paid on all three together. Take away the tenant and the market values them separately, starting with the power.

Five ways to value the same building

The fictional deal: $460 million to build, a $322 million loan, and $61.2 million of stabilized net operating income from a 15-year lease. Here is what it is worth under each assumption.

Case	Dark for	New rent per MW-month	Cap rate	Refit per MW	Value today	Loan-to-value
Stabilized, tenant paying	None	$150K	6.5%	None	$942M	34%
Quick re-let	12 mo	$135K	7.0%	$1.0M	$651M	49%
Slow re-let	24 mo	$110K	8.0%	$2.0M	$355M	91%
Hard re-let	36 mo	$90K	9.0%	$3.0M	$167M	193%
Sold as powered land and shell					$120M	268%

Same building, same loan, and the loan-to-value runs from 34% to 268%. Nothing about the concrete changed. What changed is how badly the next tenant wants the power, and how much of the equipment they can use.

What that means for the loan

The as-stable number is the one in the marketing deck. The lender should care about the slow re-let case, because that is roughly where it breaks even. Above that line the loan is a bet on the tenant. Below it, it is a bet that demand for powered sites holds up. Both can be fine bets. They should be priced and structured as different bets.

In practice that means:

Pay the loan down to the dark value while the rent is coming in. Amortization or a cash sweep that brings the balance toward the slow re-let value by the time the lease could end or the tenant could fail.
Make sure the power stays with the collateral. If the interconnection agreement or the power contract sits with the tenant or with a sponsor entity outside the loan, the lender’s best asset can walk away with them.
Reserve for a refit. A re-tenanting reserve that builds from rent over the lease, sized to the refit per MW the next tenant is likely to need.
Lean on whoever stands behind the rent. A guarantee or backstop from a stronger company keeps the as-stable number in force longer. That is the whole point of the Google backstops.
Watch the triggers. Cash management that springs on a tenant default, a notice to vacate or a credit downgrade, before the building goes dark rather than after.

Questions I’d ask on any single-tenant data center

Who holds the interconnection agreement and the power contract, and are they pledged to the lender?
How much of the power and cooling equipment would a different tenant actually reuse?
How many other buyers of power at this size are in this market today, and how many sites are competing for them?
What does it cost each month to keep the building ready while it sits dark?
When can the tenant leave, and what does it owe if it does?
If the worst case comes, what is left after paying for the refit and the downtime?

All numbers on this page are made up for illustration and do not come from any real deal or employer.