Powering Progress Episode 7 – Scaling the Deal

Aubrey Bishai [00:00:09]

Welcome back to Powering Progress, a podcast series exploring the infrastructure, energy, and market dynamics shaping the next generation of data centers and AI development. I’m your host, Aubrey Bishai, Chief Innovation Officer at Vinson & Elkins.

As investment in data centers accelerates, many organizations are pursuing platform strategies and joint ventures to scale development and deploy capital efficiently.

In this episode, we’re joined by Robert Hughes, who works with clients on platform acquisitions, joint venture structuring, and capital markets pathways that support large scale infrastructure investment.

We’ll discuss how investors and operators are structuring partnerships, allocating development risk, and preserving flexibility for future growth or exit opportunities.

Robert, thank you for joining us.

Robert Hughes [00:01:15]

Thanks so much for having me.

Aubrey Bishai [00:01:16]

So let’s talk about M&A. What is driving the current wave of M&A and joint venture activity in the data center sector?

Robert Hughes [00:01:27]

The short answer is that AI has fundamentally changed the speed and capital intensity of the market. We’re no longer talking about 10 megawatt co-location facilities. We’re talking about hundreds of megawatts, and in some instances, gigawatt facilities, and an infrastructure build-out measured in hundreds of billions, potentially trillions of dollars over the next decade.

Those factors and numbers have changed the nature of M&A and JV activity in several important ways. First, as I’m sure you’ve heard, power delivery has become the gating issue. Access to power and the confidence in the ultimate power delivery, whether that is from the grid or behind the meter, is often the primary driver of valuation. When you think about diligencing these assets, the lease or the revenue contract has always garnered the most attention. Now the power agreements attract similar scrutiny.

Second, the sheer scale of required capital is driving partnership and consortium structures. Very few entities are able to bear all of the development risk and CapEx unilaterally. So we’re seeing a major increase in joint venture and structured equity investments, both on the data center projects themselves and on the behind-the-meter projects built to support them.

Finally, we’re seeing an uptick in M&A related to businesses that support the data center thesis but are not the underlying assets themselves. Think conventional generation, transmission, services, manufacturing. Capital is flowing to opportunities that are critical to the data center sector and are feeding off of all of the underlying demand.

Aubrey Bishai [00:03:10]

And how are you seeing deal structures evolve in the current market?

Robert Hughes [00:03:17]

One of the biggest changes is that traditional stabilized asset acquisitions are no longer the center of gravity of the market. Increasingly, there’s activity in development platforms, powered land positions, and businesses with long-term expansion capability, both from an asset perspective and, frankly, finding developers that have experience successfully developing projects at this scale and complexity.

As I mentioned earlier, joint ventures have become a common structure for many large-scale projects, and that creates complicated negotiations around governance, exit rights and horizons, capital funding, and is made even more complex by the different types of investors you’re seeing in the market today — from your infrastructure funds and sovereign wealth funds to increasingly strategics and the hyperscalers themselves.

We’re also seeing much more sophisticated structured capital solutions. Preferred equity, hybrid capital, and other equity products are becoming increasingly common as capital is allocated to these projects with greater degrees of development and operational risk. These are highly bespoke securities that require an intimate understanding of the projects at an asset level, and familiarity with potential areas for risk in a way that allows for the negotiation of appropriate protections economically and control-wise in the event issues do arise.

And finally, I would say there’s likely to be a backend market that ultimately evolves around positions in these larger projects once they’re stabilized — likely a bit down the road given construction timelines, but given the desire to recycle capital and the size of the capital outlays, I would expect there to be a market for stakes in these massive facilities once they’re operational.

Aubrey Bishai [00:05:08]

What exit pathways are being preserved? Are we still seeing sale recapitalizations, IPOs?

Robert Hughes [00:05:16]

Critically, flexibility for those transactions needs to be structured for appropriately on the front end, both at the JV or partnership level, but also in the commercial contracts at the asset level. One of the most important discussions happening at the execution stage is not just how to finance or build the platform, but how to preserve optionality for the eventual exit and set up these platforms on the front end in a way that provides a clear pathway to ultimate monetization.

Investors are being very deliberate about structuring deals so they can pursue a myriad of options, including sales, recaps, yield-cos, and potentially IPOs, depending on where the market is several years from now. Given the capital intensity, as we’ve discussed, owners may look to monetize portions of these platforms incrementally through minority equity sales, preferred investments, or other refinancing events.

We’re seeing developers and investors create structures that allow them to recycle capital while still maintaining key operational control and future upside participation. And in that context, flexibility around transfer rights and governance becomes extremely important, because those provisions can either facilitate or frustrate that exit activity.

And then there’s the IPO pathway, which I think is increasingly part of the strategic conversation again after being dormant for several years, particularly as digital infrastructure becomes more institutionalized as an asset class. So ultimately, I think the market right now is focused on preserving maximum flexibility.

Aubrey Bishai [00:06:55]

Robert, what are the biggest legal and commercial issues clients are focused on today?

Robert Hughes [00:07:02]

You’re seeing the collision of kind of the froth of AI demand growth with the reality of infrastructure and manufacturing constraints. And as a result, legal negotiations are becoming hyper-focused on risk allocation around infrastructure delivery. For example, what happens if the utility infrastructure is not completed on time? What if the power generation is delayed? What remedies does the hyperscaler or the lender have? What damages apply? Are there caps related to those damages? Can the customer terminate, or are there simply cure or step-in rights? Do those issues directly affect bankability and valuation?

We’re also spending — and it’s a bit of a nuanced point — but a lot of time managing utility credit support obligations. In some markets, utilities are requiring enormous collateral packages because they’re concerned about stranded infrastructure costs tied to what they view as speculative AI load. So whether it’s preferred equity, LC facilities, hyperscaler prepayments, or other structures, developers are having to solve for the byproducts of the massive increase in the scale of the projects.

And we touched on it already, but power, again, is the most critical aspect of these projects — from grid power to behind-the-meter generation, renewables, battery storage, microgrids. Advisors working on data center projects need to intimately understand power markets, generation assets, interconnection issues, and the regulation that sits above all of it.

As data center power demand grows, regulators and utilities are increasingly asking, you know, who should bear these infrastructure costs and how does that impact ultimate pricing? How should utilities ultimately prioritize grid access? And the answers to these questions will not be universal across geographies. So legal structures and regimes will need to be flexible to respond to this dynamic environment.

Aubrey Bishai [00:09:15]

Thank you so much for joining today, Robert.

Robert Hughes [00:09:19]

Thanks for having me.

Aubrey Bishai [00:09:20]

And thank you everyone for listening to Powering Progress from Vinson & Elkins. For more insight on AI infrastructure and the forces shaping the data center economy, visit velaw.com.