This article is sponsored by Digital Colony
How well has digital infra stood up to the challenges of the pandemic, and what new opportunities have emerged as a result?
Marc Ganzi: Covid tested the limits of network infrastructure, particularly in cloud computing, mobile networks and home broadband. So coming out of the pandemic, there are a number of key trends to look out for. More fibre will be required to meet demand for home broadband. We believe there is a significant opportunity to help continue to build out fibre networks in 2021 and 2022, and expect the 5G infrastructure build to be really important globally over the next decade.
The other big winner from the pandemic is edge computing. That is a function of workloads shifting from offices in central business districts, where people congregate every day, to a world where people are increasingly working from home, either from the suburbs or from smaller tier two and tier three cities they have moved to. There is a recognition that people will continue to do more from home, particularly e-commerce, e-fitness, telemedicine, remote education in addition to work-from-home. All that requires pushing the network infrastructure to the edge, rather than big city, centralised data centres.
The decentralisation and proliferation of data is a necessary part of the infrastructure ecosystem and will help to take our economies forward. So, we believe the three opportunities propelled by covid are 5G infrastructure, fibre networks, and edge computing.
What is your approach to portfolio construction?
Ben Jenkins: Our first fund was focused on North America, Europe and Latin America. We achieved a nice balance between the three at around 40:40:20. We are building our presence and exposure to Asia in our investment strategies, including Japan, Korea and Australia, as well as selective investments in emerging Asia. That could mean a slightly smaller future allocation to Latin America, with investments in North America and Europe continuing to constitute the majority of our portfolio.
In terms of sub-sectors, we invest across towers, fibre, data centres and small cells and other related digital infrastructure. Each of those sub-sectors can then be broken down further. You have telecoms towers, broadcast towers and the potential for internet of things (IoT) and satellite-based stations. Within data centres, there is hyperscale, the more traditional enterprise data centres and now, increasingly, edge data centres. And with fibre, you have dark fibre, long haul routes, metro fibre and fibre-to-the-home. It is a multi-layered tapestry, but we broadly seek diversity across the various sub-sectors.
Who do you see as your primary competition?
MG: To be honest, our greatest competition is our own ability to serve the growing needs of our customers globally. That focus has been our hallmark and the key to our success so far, staying focused on the customer and their evolving demands. External competition is typically from the big, listed infrastructure players such as American Tower, Digital Realty and Equinix. Of course, there are other infrastructure investors that do digital investing, but we think of ourselves more as operators and it is those other operating companies we compete with every day.
And those listed players must also be your primary exit route. How you describe the current exit environment?
MG: Absolutely – those strategics often represent an attractive exit option, allowing us to achieve our objectives from a return perspective. Ben and I have been doing this for almost three decades and I would say this is probably one of the frothiest environments we have seen – exit multiples are close to historical highs. Frankly, it’s what makes our operating background as business builders so important, allowing us to deploy capital and create value at our existing and new platforms at levels much lower than the sticker prices you are seeing in the market today.
Do LPs favour specialists in the digital space, or has the pandemic reinforced the importance of diversification?
BJ: The overall trend is clearly towards sector specialisation and I think we have demonstrated the value add that specialisation can bring. Furthermore, we believe this is a sector with strong, long-term fundamentals. It’s also incredibly resilient and we don’t expect it to be susceptible to the same kind of macro events that have impacted energy and transportation infrastructure.
MG: The pandemic has highlighted to asset allocators that not all forms of infrastructure are immune from macroeconomic events. They have seen diversified infrastructure funds exposed to midstream energy, airports, shipping ports and toll roads impacted by the pandemic, while specialist funds, and in particular renewables and digital infrastructure funds have performed well – with our investments continuing to meet and exceed their business plans.
You have to remember that the digital infrastructure market is worth trillions of dollars today. It’s growing at $500 billion a year, in terms of capital deployed, so, really, it has become its own asset class. There is such a diversity of sub-sectors, from mobile towers and small cell infrastructure to digital media infrastructure, hyperscale data centres, edge data centres, sub-oceanic cables and satellites, that is has become a significant ecosystem in its own right. What asset allocators want today is diversity across that entire digital infrastructure ecosystem.
What are some of the challenges associated with investing in digital infrastructure?
BJ: It is important to distinguish digital infrastructure investment from investment in more passive infrastructure sectors. This is very much active infrastructure. It requires hands-on, day-to-day operational capability, and that is something we are ideally positioned to provide because of our operating history, because of the relationships we have built over the past 25 years and because of our proprietary IT systems. Not every deal, every counterparty or every seller is looking for that. Sometimes a passive financial stake is all that is needed. But in situations where you truly want a partner to help build and operate a successful business, that is where we really excel.
Similarly, this is not like any other type of M&A, because when we work with a counterparty, it involves a critical element of their business. In the case of a telecoms operator selling towers, for example, that is mission critical for them and they won’t trust just anyone. Likewise with data centres, the leading webscale companies won’t outsource to someone they don’t know. History and credibility are essential.
What are some of the challenges you face from an ESG perspective?
MG: Balancing some of the trade-offs that exist between building sustainable infrastructure that has lower, if not zero, greenhouse gas emissions, and the commitment to deliver financial performance is a challenge for us all. For example, we have the capability as an industry to source renewable energy across digital infrastructure, and that is what we should be doing.
It starts with being conscious of these impacts and finding intelligent ways to actively reduce or re-source them in a way that can sometimes can even lead to lower costs. But there are still trade-offs between returns and doing the right thing from an environmental perspective. As an organisation, we have committed to a bold NetZero 2030 target that is industry-leading, so we are going to be an active part of the long-term solution.
We also believe that having a complete framework around ESG is important. You can’t forget about governance or social impacts. In addition, we need to make sure we’re creating a level playing field for the people that work at our firm and in our portfolio companies.
This holistic approach to ESG is all about making sure we leave the planet in a better condition than we found it. Digital infrastructure can help do just that, by bridging inequality. We believe we can deliver social good at the same time as generating great returns for investors.
Do you only invest in equity or do you invest in debt as well? Is that an area of focus?
BJ: Lending levels have not kept pace with the increases in asset value we have experienced, and so larger and larger slices of equity are going into these deals. Due to the performance, resiliency and growth of the sector, however, we believe these assets can support higher levels of leverage than what has been allocated historically. Consequently, we believe private debt could play an important role in the digital infra space going forward.
What do you think the future holds for digital infrastructure more broadly?
MG: The outlook is strong, it’s a business that is both resilient and growing. Net capex in the sector is expected to move from $480 billion a year to around $500 billion a year, so there should be a solid uplift in spend. We believe that trend will persist for quite some time.
Meanwhile, we are just starting to build 5G mobile infrastructure and we’re only around 20 percent migrated to cloud infrastructure globally. We are also poised to move from 20 billion IoT devices to around 80 billion devices over the next three and a half years and then to 500 billion by the end of the decade, so you can see this notion of edge computing where capex is on the rise too.
All of these themes are coming together at the same time, which is very exciting. As long as our customers continue to invest in their networks, we will answer that call and be ready to deploy, build, manage and operate that infrastructure.
How competitive is the talent market in this sector?
BJ: It’s quite competitive, since this is an area with a lot of growth, so people are always looking for talent. However, we have been around for a long time and have extensive networks of relationships we can draw on, people we have worked with, or interacted with, in the past. That means we’ve been able to hire great people both at Digital Colony, in terms of investment professionals and operating partners, as well as at the portfolio company level. As we like to say, “our people create the alpha” so continuing to support and develop talent is a big priority at our firm.