The AI building boom is bound to bust

The Star

2 days ago

THE artificial intelligence (AI) hyperscalers that are spending hundreds of billions of dollars on data centres have dropped a windfall into the laps of the manufacturers, construction firms, building-materials makers and energy companies that make the build-out possible.
Companies like Caterpillar Inc, GE Vernova, Siemens AG, Trane Technologies Plc and Amphenol Corp are grabbing a big chunk of that capital spending to the delight of their investors.
For now, the boom has room to run. The introduction of AI into the workplace and society will match the rollout of electricity and the Internet, Morgan Stanley predicts, and it estimates that capital expenditure on AI infrastructure will reach US$3 trillion through 2028.
Microsoft Corp, Alphabet Inc, Meta Platforms Inc and Amazon.com Inc are leading the charge, and startups including Anthropic and Elon Musk's xAI are also piling in. The digital gold rush won't last forever, though.
Just how long this spending bonanza lasts will be key to knowing when to exit the stocks with the most exposure to the data centre build-out, such as Vertiv Holdings Co and Amphenol.
These are the companies that have soared the most and still have upside. For the manufacturing behemoths such as Caterpillar and Siemens, the explosion of AI investment is a strong tailwind that at some point will turn into a headwind.
Right now, it's early innings in the AI infrastructure game, and it's unclear when the payoff from all this investment will kick in. Will these AI model builders overshoot on the infrastructure and pull back in a painful consolidation?
Will AI demand find a growth groove with a curve pointing steadily north?
Private-equity firms are jumping into the game, prowling for hidden gems that are posting eye-popping sales growth.
Apollo Global Management Inc's agreement to purchase a majority stake in Stream Data Centers, which builds, leases and operates data centres, is only the tip of a trend to follow the money.
Blackstone Inc got ahead of the demand surge when it bought QTS Realty Trust for about US$10bil in 2021. Brookfield Asset Management announced a strategy to focus investment on AI infrastructure in a letter to investors last Wednesday.
You can bet that more firms are looking to cash in on this broad economic windfall.
Amphenol, which makes specialty cables and fiber-optic connectors for data centres, is one of the strategic buyers that is on the hunt. Earlier this week, the company agreed to purchase the connectivity and cable solutions unit of CommScope Holding Co for US$10.5bil.
About 40% of the unit's sales come from its data centre connectivity business.
Investors applauded, pushing up the stock 5% since the deal was announced last Monday. That only added to the two-year tear in which the stock has gained 150%, pushing Amphenol's market value above US$130bil.
Vertiv Holdings is another data centre supplier with products ranging from power controls to cooling solutions.
Shares have jumped almost fourfold in the last two years as sales swelled on the strength of data-centre demand.
The big stock move is backed up with an operating profit increase of 36% in the first half of this year, which comes on top of 60% growth in the first six months of 2024.
Other companies, including GE Vernova and Cummins Inc, are riding the surge of energy demand from the rapid build-out of data centres.
Electricity plants powered by natural gas will be constructed quickly for power-hungry data centres while the so-called hyperscalers turn to nuclear energy for a longer-term solution.
Caterpillar, known for its earth-moving equipment, and Cummins, a maker of diesel engines, provide large generators for both data centre backup and baseload power.
Caterpillar said its power generation sales jumped 19% in the second quarter mostly because of data centre demand.
Air-conditioner makers including Trane and SPX Technologies Inc are also getting a bump. SPX, whose stock price has gained 40% this year, has introduced a new cooling product for data centres that allows customers to choose if they prefer to conserve more water or energy.
There is no winner-takes-all because the hyperscalers 'typically try to avoid being sole sourced,' Gene Lowe, chief executive officer of SPX, said in an earnings conference call.
Construction companies with experience building data centres, such as Sterling Infrastructure Inc, are reaping the windfall.
Sterling agreed to buy a Texas-based construction company to expand into new regions at the behest of customers. They want data centres built as quickly as possible to keep ahead in the race.
'Cost is always critical to customers, but speed is the most important thing,' Joseph Cutillo, CEO of Sterling, said in an earnings conference call. The company's shares have jumped 78% this year.
TopBuild Corp, an installer of residential insulation, is looking to grab some of the data centre business to offset weakness in the housing market.
There are 324 data centre projects under construction in the United States and 110 that are in the engineering stage, CEO Robert Buck said in an earnings conference call.
The company is also tracking 2,000 projects that are in the planning stage. At a recent data centre campus in Arizona, the company provided roofing services and insulation installation.
'We definitely see an opportunity,' Buck said.
It's unlikely that Microsoft, Meta and other companies investing in AI will maintain this level of spending indefinitely. At some point, they will slow down the spending and seek to make money. The boom will be big. Navigating the inevitable bust will be tricky. — Bloomberg
Thomas Black is a Bloomberg Opinion columnist writing about the industrial and transportation sectors. The views expressed here are the writer's own.