3 ASX players with exposure to data centres

Simonelle Mody | Morningstar

The $24 billion sale of data centre mammoth Airtrunk to US private equity giant Blackstone marks the largest acquisition in Australia this year. It is also the largest data centre (“DC”) transaction globally. This reflects a valuation of over 20x forecasted earnings, continuing the momentum of eyewatering DC transactions. The announcement of this sale sent other DC operators and adjacent company’s share price surging, with investors seemingly reinforcing confidence in this sector, despite elevated valuation multiples.

I first plunged into the world of data centres (rather involuntarily) at my previous employment in the tech banking space. To be honest I’d barely heard the word prior to joining, let alone understood how they worked. After many tireless nights mulling over trading comparables, it struck me just how remarkable the sector was.

This is an asset that plays a fundamental role in our society as we know it. The world in its current form would be obsolete without data centres. And a few months ago, I didn’t even know they existed.

What is a data centre?

It’s no secret that the world runs on data, but have you ever wondered how its processed? Stored? To put simply, a data centre is a physical facility used to house IT infrastructure for the building, running, delivering and storage of applications and services. The business model is typically characterised by stable long-term revenue, capital-intensive upkeep and economic resilience. In many ways, data centres are an inflection point where digital infrastructure and commercial real estate converge.

With all eyes on the emergence of Artificial Intelligence (“AI”) to centre stage, DCs have been uniquely positioned to capitalise on this trend. AI requires significant computing power and data storage which DCs can deliver, as well as implement into their own functionalities for a more effective service.

The APAC data centre market

A recent report from CBRE estimated that Australia’s data centre market is primed to almost double over the next four years. Given the intense energy requirements the tech demands, the figure could be even higher if power-supply constraints are addressed.

Source: CBRE. October 2024. 

Australia is also a key driver of larger Asia Pacific (“APAC”) growth. MW capacity in APAC is projected to increase at a compounded annual average rate of almost 20% through 2028, more than doubling current megawatt capacity (10,500 MW to 24,800MW).

Key risks

Naturally there are some risks. The primary one is that the technology risks surpassing itself. Let me explain what I mean by that. Infinitely expanding amounts of data demand an ever-increasing power supply and puts newer data centres at risk of falling behind tech advancements.

Power densities are rapidly increasing to support growing MW capacity requirements. Higher density racks have several implications on how centres are built and require significant capital upkeep due to unique design considerations.

DCs have long fell victim to tougher sustainability regulations and reporting requirements given the immense amount of energy consumption that operations require, further contributing to carbon emissions. Creating water and energy efficiency is paramount in the face of growing scrutiny.

How you can capitalise on the trend

Investor sentiment for DCs is on the rise with survey results indicating that they are the second most preferred alternative asset for investment in 2024, after healthcare.

At the right price, the below ASX players provide some of the best exposure to capitalise on the data centre boom driven by the increasing adoption of AI.

Goodman Group GMG ★

• Fair Value: $24.00
• Moat Rating: Narrow
• Share Price: $35.82 (as at 28/10/24)
• Price to Fair Value: 1.49 (Overvalued)

Goodman Group is Australia’s largest listed real estate investor and has operations in key global consumer markets. The group has been working to pivot their strategic direction from warehouses towards data centres in response to strong demand. The development pipeline increasingly skews toward larger-scale, more complex and higher-value data centre projects. Within the DC space, Goodman provides essential infrastructure for the digital economy by owning, developing, and managing high-quality sustainable properties in key cities around the world.

The share price is up a whopping 70% since last October, with investors revelling at the seventh year in a row the company exceeded earnings per share expectations. At current prices, Morningstar analyst Jon Mills thinks the shares look materially overvalued. It becomes increasingly more difficult to continue to secure energy contracts on terms as attractive as it has in the past, therefore potentially constraining profitability.

Data centre projects are lengthy and capital intensive, however since Goodman has secured difficult-to-obtain land and power, these projects have greater upside potential than others.

NEXTDC Limited NXT ★★

• Fair Value: $14.00
• Moat Rating: None
• Share Price: $16.49 (as at 28/10/24)
• Price to Fair Value: 1.18 (Overvalued)

NEXTDC is Australia’s largest listed developer and operator of data centres with 12 operational data centres currently in operation and most recently purchased a new site, Sydney S7.

The company focuses on providing scalable, on- demand services to support outsourced data centre infrastructure and cloud connectivity for enterprises of all sizes. Like many of its tech peers, NEXTDC has seen an explosion in share price, up 42% this year.

Whilst the company continues to invest heavily in expanding its capacity, there is not enough supply at scale in the market to meet the potential demand from AI. This has seen per-unit price increasing with annualised revenue per square meter and MW reaching record levels.

FY24 results surpassed guidance with underlying earnings before interest, tax, depreciation and amortisation (“EBITDA”) and revenue up 5.5% and 11.6% respectively. The market showed a mix response after FY25 guidance fell short of early market forecasts. However, company management typically has a history of conservative guidance calls, so this wasn’t cause for alarm.

Megaport MP1 ★★★★

• Fair Value: $12.50
• Moat Rating: None
• Share Price: $7.15 (as at 28/10/24)
• Price to Fair Value: 0.57 (Undervalued)

The only company on this list that is current undervalued is entrepreneur Beavan Slattery’s conception, Megaport.

The company operates as a Network as a Service (NaaS) provider. The company's global Software Defined Network (SDN) helps businesses connect their network to cloud services, data centres and other major infrastructure. Megaport currently has connection to 850+ DCs that are redundantly linked using leased fibres.

Shares have fallen 39% in the past year; the most recent dip was after disappointing quarterly results ended a commendable rally beginning in January. However, we believe slower revenue growth is partly driven by cyclical’ factors rather than purely by competitive pressures.

Unlike the other two players in this list, Megaport owns no fibre or data centres of its own, so it enjoys the advantages of being a DC-adjacent platform whilst its balance sheet remains relatively capital light. There is a high risk of intensifying competition on price, given that Megaport lacks an economic moat.

Gone are the days of its early-mover advantage with competitors since having developed comparable advantages. Notably, the SDN industry has significant barrier to entry, which results in a limited number of scaled providers like Megaport.

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