The Leader Magazine

MAR 2017

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MARCH 2017 23 agreements that companies enter into with third-party data center providers have generally transitioned from service contracts to real estate leases. Historically, IT departments have managed these mission-critical real estate/IT decisions. IT executives have typically driven corporate infrastructure strategy and execution. However, their experience in understanding complex leases and real estate peccadilloes can often be limited. Interestingly, over 70 percent of corporate America's IT is still housed internally, and these IT departments' top priority is ensuring that their company's IT infrastructure is available to support its business without downtime, operating efficiently 24x7x365 without a fear of ever, ever going down. But supporting the annual increases in data growth, network consumption and power requirements has become extremely time- consuming and expensive for corporations to manage internally; it is not the core of their business. Thankfully, advancements in design efficiencies and operational best practices by third-party providers have improved dramatically over the last few years. Data center providers are getting smarter and more cost-effective in their builds, which, in turn, benefits tenants from both an efficiency and economic perspective. Ten years ago, the standard construction cost to build a data center was between $13 and $18 million per megawatt of critical power capacity (data centers typically measure in terms of kilowatts or megawatts of power rather than square feet). However, with economies of scale and improvement in efficiencies, providers are now building data centers for a construction cost of between $7 and $8 million per megawatt. As a result of these lower cost structures, the average total cost of ownership (TCO) for an 8,000-square-foot (743 sq. m.)/1 megawatt, 10- year lease for a customer leasing from a data center provider has declined approximately 10 percent from five years ago. According to most industry experts, the only time it makes financial sense for a corporation to consider building its own data center is if the requirement is for over 100,000 square feet (9,290 sq. m.) and/or 6 megawatts of power. Most corporate (enterprise) facilities fall far short of this metric or, regardless, find that the flexibility in terms of growth and term length often tip the scale toward leasing vs. owning. Drawbacks of owned data centers Many enterprises who built their own data centers are sitting on unutilized capacity and are trying to develop creative solutions to sell assets. However, these assets were overbuilt (on IT executive projections of "what could be" as they looked into their crystal balls to guess what might happen to technology over a 10-year period), and the book values are so high that a sale is deemed to be out of the question. In one instance, a major airline chose to build a 1-megawatt data center on its campus rather than outsourcing to a third-party provider. IT drove this decision and built the data center for $35 million – over twice the industry standard. In a discussion with one CRE director with a major financial services firm, he stated "It would be nearly impossible for us to build a data center and match the demand of IT where the facility would be properly utilized." Whether it's through the cloud, colocation, or a wholesale data center solution, CRE executives should start actively participating in these decision- making processes. Without their involvement, corporations are paying higher lease rates, ignoring available business and tax incentives, facing unexpected capital expenses, and limiting flexibility options for the short and long term. Real estate obligations are already the second or third highest expense for most corporations. Given the rapid increase in corporate data center demand, overall real estate costs attributed to them will continue to climb. In many cases, CRE executives have not embraced this change and limit their involvement in these transactions, leaving it to the IT team. Why is that the case? John Bullen, director of real estate for Comcast and an active member of the company's data center procurement team, says: "There is certainly a language barrier that keeps the IT/CRE relationship strained. We have found that by taking the time to listen and learn from IT, we have slowly built trust with our IT partners. It's only by being able to speak the same language that CRE can truly understand the requirement. This understanding is necessary to negotiate the right transaction. There is more to a 'good deal' than rental rate and this is never more evident than with data center transactions. The burden of bridging the language barrier is on CRE." Many IT departments still hold on to misconceptions about internal data centers. Among them: internal facilities are superior in terms of corporate control, and they're less expensive, more resilient and more efficient. CRE executives can help prove out the facts over these common misconceptions; like many of the internal corporate-owned data centers that still exist, those misconceptions are simply obsolete because of the wide variety of outsourced data center options and services now offered in the marketplace. By CRE executives becoming more comfortable with the metrics associated with data center transactions (i.e., cost per kilowatt vs. cost per square foot/meter), they can add more value and more influence in the decision-making process for their companies. As Comcast's Mr. Bullen notes, the language barrier is a major factor and it's difficult for CRE to recognize the necessities vs. the desires articulated by IT professionals. The bottom line When IT is solely responsible for procuring data center space, they are tasked with being an IT expert, futurist, and a real estate negotiator. A good IT executive might have real insight into the evolution of a company's applications, its requirements, etc. But as we all know, real estate executives know how to negotiate and understand the dynamics of real estate leases that will better align with the company's goals. Not only can real estate add value in the negotiation process, they also can prevent the IT department from overlooking other aspects of the transaction that will benefit the company. CRE executives will complement IT's efforts by reducing TCO, balancing costs with operational goals, operating more efficiently, and maintaining corporate sustainability. David Horowitz of T5 Data Centers is a 12-year veteran of the data center industry and has managed practice groups for commercial real estate firms as well as data center providers.

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