A risk-averse way into technology

Digital Realty Trust is a real-estate play focused on computing operations.

By Jim J. Jubak Mar 23, 2012 11:32AM
Image: Dollar sign on keyboard (© Corbis)In my March 16 post on investing in the technology sector -- even after it rallied so strongly at the beginning of 2012 -- I said don't forget about companies that enable bigger technology trends. 

I mentioned very briefly Digital Realty Trust (DLR) a company that owns a portfolio of 102 data centers in 31 markets serving clients that include Facebook, AT&T (T), and Morgan Stanley (MS). Organized as a REIT (real estate investment trust), I noted, Digital Realty pays a 3.8% dividend.

Let me dig a little further into this REIT because I think it's a very interesting way to get some technology exposure for even a risk-averse portfolio.

The company makes its money from leasing space in its data centers on anything from a turn-key basis to build-to-suit to operations that range from a company's computing center to a telecommunications network to an Internet enterprise such as Amazon (AMZN) or Salesforce.com (CRM).

About 90% of its business comes from North America, but Digital Realty Trust has been building out its capacity in Europe (Dublin, Paris, and London), Singapore, and Australia.

A typical deal might work start with Digital Realty buying a building from a technology company looking to lower its debt load by getting paid to convert an owned asset into a lease. Digital Realty then installs the basic infrastructure in the building, but passes on the cost of things such as fully redundant electric systems to tenants. That helps lock in clients -- the company saw a 92% retention rate in 2011. On average tenants sign a lease for 14 years with built-in 3% increases in annual rent. Tenants also pay for maintenance, real estate taxes, and insurance.

Even though it's selling facility management and space to technology companies instead of apartments or retail space, Digital Realty works like a standard REIT. The company pays out 100% of taxable income to unit holders and raises money on the public debt markets to invest in building new facilities. In other words, business is pretty good when money is cheap.

As long, that is, as demand for data center space is growing. In the company's most recent survey of North American demand, the company found that 92% of companies responding to its survey said that they would definitely or probably expand in 2012. That’s the highest percentage in the six years that Digital Realty has sponsored this survey.

In 2011 EBITDA (earnings before interest, taxes, depreciation, and amortization) climbed to $623 million from $512 million in 2010. That’s a 21.7% increase from 2010. The company has raised its annual payout to $2.92 in 2012 from $2.72 in 2011 (a 7.4% increase) from $2.02 in 2010. That’s a 4.07% yield on the March 22 close of $71.67. (Digital Realty paid its most recent quarterly dividend to shareholders of record on March 15.)

As of March 23, I'm adding units of Digital Realty Trust to Jubak’s Picks with a 12-month target price of $78 a share for Digital Realty. With the units trading on March 22 at $71.67, near their 52-week high of $73.73, that would give an investor a 9% gain plus a 4% yield for a 13% return in a year. With a beta of just 1.04 suggesting that this REIT is not significantly more volatile than the stock market as a whole (the market's beta is 1.00 by definition) that seems a solid potential return. Of course, you might do better. In 2011 the units gained 34.6%.

At the time of this writing, Jim Jubak didn't own shares of any companies mentioned in this post in personal portfolios. The mutual fund he manages, Jubak Global Equity Fund (JUBAX), may or may not own positions in any stock mentioned. The fund did not own shares of Digital Realty Trust as of the end of December. For a full list of the stocks in the fund as of the end of the most recent quarter, see the fund's portfolio here. 
Mar 23, 2012 10:26PM

His analysis is accurate.  I bought this stock at $40 and and have it as a long term hold in my portfolio.  The one item he is missing in his analysis is that DLR annnounced for the first time that they are looking at paying 8% cap rates for their new acquisistions vs. 10% about a year ago, which means they will be paying much more for the assets (with lower returns).  Regardless, at $72 bucks this stock is still cheap.  I will probably look to take some chips off the table at $92-$95.  I would also closely watch CBB.  I picked that up at $3.73 a couple weeks ago.  With their data centre portfolio I value it at about $12 bucks


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