Chameleon of the Capstack

Q&A Highlights

Transcripts

Today we're joined by Pace Loan Group CEO Rafi Golberstein and Senior Vice President, Robbie Pinkas. Data centers are critical infrastructure with unforgiving capital requirements. This episode explores scale, certainty and financing in a rapidly evolving asset class. All right, so, Robbie, you had kind of a big deal that just closed, an out of the box deal.

Let's kind of rewind to the beginning about how this got to you and how we got from sort of this concept of a data center deal to closing the data center deal. Two things I think came together for the original sourcing of this one I had at the beginning of last year started kind of a search for a data center opportunity.

I knew that they were a hot topic. They still are. And I just had this gut instinct that PACE and data centers would be a good combination because, as you know, as everyone knows, it's in the news, data centers consume a ton of electricity. So efficiency really matters. Also, two years ago now, 2024, I closed what was then the largest deal in Missouri, the Gateway Studios deal.

And I think because of that, I was approached by this company, Patmos, who had an opportunity in Kansas City, Missouri, to convert a former printing press into a data center. And they reached out to me because of the track record we'd established in Missouri. And the more I learned about the deal, the more conviction I had that this would be a great PACE financing opportunity.

I remember that because it was something along the lines of, Rafi, we have a data center deal in Kansas City in an old printing press. I think that's where I kind of went, okay. Let's unpack that a little bit, because I've never I mean, my knowledge in data centers is super limited. I've done a few in my career.

But, if I can recall correctly, they were all ground up credit tenant type deals. And this was just kind of the opposite of that. It was not ground up and it was not credit tenants, with fairly, young developers that are behind the wheel. But I think what the the first thing that we sort of latched on to was like, there's actual real estate value to the property.

And we didn't have to take development ground up risk on the deal because it was built. It was in a major metropolitan area. Like there is some intrinsic, you know, worst case scenario, value to the real estate if this whole thing just imploded. Yes. And there more importantly, even for at least the data center component than the intrinsic value, was the power allocation that the building had, because as a printing press, it consumed a huge amount of power.

And so I think the local utility had 25MW that was pre-allocated to this building. It wasn't currently being drawn. So there was a lot of work that needed to be done to kind of get the project back up to its former draw. But that was what I saw. The real opportunity because the biggest limiting factor to data centers is availability of power, especially if it's grid power, which is definitely the most desirable because it's the most reliable.

But most of these big data centers that are ground up credit tenant projects are being built kind of in the middle of nowhere, where land and power are cheap and the power is often self-generated, a lot of these data centers are power plant data center projects. And we had power in the bag from this one which which made everyone's life a lot easier.

We ended up having a little bit less power than we originally thought. You know, I think when we signed up the deal, we were optimistic they would get upwards of 35MW of power from Evergy, but they ended up with 25, which is still nothing to kind of sneeze at. And it made the conversion much easier because yeah, we had to put in, you know, new electric.

We had to upgrade the chillers. You know, we had to kind of tie in to the local cold water utility. But there was much less construction risk than there would be in a typical data center deal, for sure. And a typical deal takes two to get to a typical kind of ground up greenfield site deal. I mean, that could be years, years at least.

At least two years, I think, between the permitting either like getting the allocation from the utility, which is like a complicated path to power process, or building a power plant and then building a data center. Like, I think if you could do that in two years, people would be applauding you, right? I think it's typically more like three plus.

And these people deliver a 25 megawatt data center in less than 12 months. But but the plot thickens, right. Because there's more to the story that we haven't sort of unravelled yet, which is that they didn't actually own the property. And so they they had taken like, you'll be better to explain this, but it's something along the lines of they had the Developer, Pablos, had stumbled upon this site, realized to your point, Robbie, that it's already been built for power that has just never been used since the paper press went under.

The owner of the asset was, you know, not in the field of data centers and didn't quite understand what they were literally sitting on. And so they were able to take control of the asset and through some structure. Yeah. So despite this is the sponsors like first big project. But they are clever. And as part of negotiating a lease for the space they negotiated a purchase option, understanding the value that they would create if they could build and own a data center.

And the owner at the time was a local family who had purchased the property from, you know, the bankrupt Kansas City Star. And I think they had a gut instinct that there was some opportunity here. But their business is not data centers. Like they're kind of, you know, opportunistic real estate investors and what ultimately was created was a partnership of sorts, because, yes, Patmos is now the owner of this data center.

But they negotiated a fairly favorable purchase from the prior owner. And the prior owner, through a subsidiary of theirs, also provided a lot of the electric, subcontracting work. So it is one of my favorite stories where, like, everyone kind of wins. They signed a lease, they had this purchase option. They had a significant upfront investment from some of their tenants.

And so they were able to to start the conversion process without the PACE funds. And we came in sort of halfway through the project, provided money to complete the project, but we also provided funds that allowed them to effectuate the purchase of the property by sort of using a portion of the retroactive proceeds. And yeah, I don't know, it's just a really great story where all the kind of puzzle pieces fit.

Tell me more about how you got the puzzle pieces to fit right. PACE is very nuanced and complicated. And I'm sure the developer didn't really understand PACE as well as they understood. I need X amount of dollars. No, I was the one who was like you can use PACE to buy this property. Like, once I found out how much money had been invested and what that money was spent on, it became clear to me that there were sufficient retroactive proceeds to make the down payment necessary to buy the property, and the rest of the sale was, you know, seller financed.

So, you know, I think I'm a creative thinker, and I know PACE pretty well. And so the more I kind of learned about this story, the the more I started to put together the general architecture of the deal. I mean, and that like debunks the whole concept of like, hey, this is not complicated. And even if it is, you'll figure it out here.

Yeah. It's not complicated, but it's nuanced and it's flexible. And that makes PACE hard to sell sometimes because it can take a lot of different shapes. But I think if you know the product well, it can be used as an advantage, like in this case, where the more I started to learn, the more I became confident that I was like, oh, this is what we're going to do.

Like we're going to provide a PACE loan. You're going to use the retroactive portion to buy the building. We're going to use the sort of forward looking portion to complete the build out, and then you're going to own a really valuable asset, and we're going to be your partner in it. So let's talk some numbers though, because I think we got to put it in context.

So the the PACE assessment that we wrote was $100 million flat. Flat. Yeah. So a $100 million assessment on a roughly 440,000 square foot building. The square footage, even though I always think about it, is largely irrelevant. And because the data center is all about megawatts and power access, I'm rounding here, but about $20 million of that went toward closing on the purchase of the building.

Right. Because our sponsors here, had a limited liquidity. So they had to use our money to, to purchase it. And, you know, a large portion of the balance of the money wasn't to a reserve to, be drawn out sort of in the immediate future for the continued and finalization of the build out for their two tenants.

Yes. And we also have, you know, a two year capitalized interest reserve. Sure. And a sufficient contingency, because I think that this is a relatively de-risked project and that they've already built out half of it. And the remaining build out will be done, you know, by April. Hugely. Dearest. I mean, that's why we were so interested. There was no ground up construction aspect at the time we signed that up.

They had one tenant that had signed and now now they're actually over capacity. Right. So it's gotten better over time. But when we first saw it, yeah, it was de-risk so that there was no construction risk. But there was still some risk of will they get the thing fully leased up.

And through the course of, you know, the the underwriting of the due diligence and the PACE audit, which was in and of itself a process, you know, they they really nailed it. Yeah. And they, you know, the timing is everything. And I think they really timed this well because the new tenant that they brought in was at a significantly higher rent than the existing tenant, which was still at market rent.

And so or at least what was then market, I think the market really moved over the course of the year. And, you know, I think that there's an opportunity to do a subsequent pace assessment because I know to, you know, to your point, it's a 400,000 square foot building, I think the data hall is maybe 100,000 square feet.

And, you know, I've been in it. It's maybe 30% used. So if they can get more power from Evergy or you know, build some sort of onsite power generation, like, I think that there's the opportunity to provide subsequent PACE financing to kind of get this up to whatever its maximum capacity is. Yeah. And I think for entrepreneurial data center developers out there, this is a super interesting case study.

And just to kind of spell it down to the basic building blocks, basically the sponsors identified a building that had power. They didn't have the capital to buy the building, so they leased it while they had leased it. They effectively subleased it to a tenant because it was an existing building that was ready to roll more or less immediately.

Their tenants were willing to contribute significant amounts of money toward their build out and rack system, like tens of millions of dollars, because for them, it was all about speed to market. Like, I can either give the sponsor 30 million bucks to build up the space, or I can wait three years for someone to go develop a greenfield site.

So like, definitely, that's money well spent. And so they had spent the early the sponsor spent the early days of their lease effectively subleasing it, using the money from the tenants to build it out. And then when it came time to close on the purchase, they were like, well, we don't have the cash to close on the purchase.

We'll use retroactive space to create a liquidity event to give us the money to buy. Yeah, I mean, this is definitely a replicable strategy. I don't know how many of these opportunities there are. I don't think it's thousands because there are a lot of unique elements, like an empty building in a metro area with a significant underutilized power allocation connected to a carrier hotel, connected to a carrier hotel like this.

This is like the archetype. But there are certainly other opportunities out there and I am excited to go find them.