Digital Realty and Demand for Data

05/23/2018 5:00 am EST

Focus: REITS

Ari Charney

Analyst and Associate Editor, Canadian Edge and Personal Finance

Demand for data storage continues to outpace supply, particularly as tech continues to push into new data-intensive areas such as artificial intelligence and augmented and virtual reality, asserts Ari Charney, editor of Investing Daily's Utility Forecaster.

But like their REIT peers, data-center REITs finally succumbed to rising interest rates, and late last year the space began what has since turned into a correction. Indeed, some of the top data-center REITs now trade at much more reasonable valuations again.

One attractive play in the sector is Digital Realty Trust (DLR), which is the second-largest REIT in the data-storage space. Not only does Digital Realty trade at just 15.8 times FFO, it also offers a more enticing yield, recently at around 3.9%.

While Digital Realty has some interconnections in its portfolio, its core business is in retail and wholesale co-location. This business provides companies with the appropriate facilities, resources, and security to host server farms and other networking equipment. Growth in this area is being driven by companies shifting more and more of their data and services to the cloud.

Last September, Digital Realty acquired DuPont Fabros Technology for $7.6 billion, a deal that significantly increases its presence in key markets, including in Silicon Valley, Chicago, and Northern Virginia.

In addition to giving Digital Realty broader scale, the merger should generate sufficient cash flows to bring the REIT’s elevated leverage back down to Earth this year.

The combined company is expected to grow funds from operations (FFO) per share by 7% annually over the next three years, driving further distribution growth at the same pace.

Such growth is especially noteworthy given that many REITs in other subsectors are expected to grind out FFO gains in the low-single digits during this period, due to a combination of high real estate prices in some areas and oversupply in others.

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