Behind the Meter Solutions Investing Guide

Like real estate, “location, location, location,” is what matters. Companies with pipelines closest to the data center hubs can offer cheaper energy and quicker deployment times.

For general reference, the graphic below illustrates that Virginia, Texas, and California have the highest number of data centers.

Williams Companies (WMB)

WMB moves almost one-third of the nation’s natural gas through its network of pipelines. It has existing pipelines servicing the states with the most data centers. Furthermore, the company believes it is well-suited to serve what it calls “emerging markets” in eastern Washington and Salt Lake City.

In addition to having strategic pipeline locations, the company focuses on lateral hook-ups. These are the short pipelines used to divert gas to the power plant from the main lines.

The following paragraph from an article by S&P Global speaks to the significant demand WMB is witnessing for BTM solutions:

Natural gas midstream giant Williams is receiving an "overwhelming" interest in expansions to meet growing demand from data centers… "Particularly in the Southeast and the mid-Atlantic...we frankly are kind of overwhelmed with the number of requests that we're dealing with and we are trying to make sense of those projects," Armstrong said during the company's second quarter earnings call.

If Williams can execute efficiently to meet the “overwhelming” demand surge, they should see upside to sales and earnings.

Kinder Morgan (KMI)

KMI’s pipeline network is primarily located in the Southeast and mid-Atlantic regions, where data center growth is experiencing a surge.

The CEO recently noted that competition is fierce and that there are added costs and delays due to states and municipalities with stricter environmental laws and regulations.

The following paragraphs are courtesy of Reuters:

"Data center demand has skyrocketed," CEO Kimberly Dang said. The overall gas market could grow by 25 billion cubic feet per day over the next five years, she said.

The company said the Gulf Coast Express Pipeline, which it operates and holds a stake in, has green-lighted an about $455 million expansion project that would raise natural gas deliveries by 570 million cubic feet per day from the Permian Basin to South Texas markets.

ONEOK (OKE)

To the best of my knowledge, OKE has not signed BTM contracts. Nor have we seen management discussions about BTM solutions. However, they are well-positioned to supply gas to data centers. OKE has an extensive network of pipelines in Texas and Oklahoma, located near data center hubs. Moreover, they have multiple storage facilities to ensure reliable gas flow. This is critical for hyperscale facilities with 24-hour workloads.

OKE has significant untapped potential. Furthermore, the proximity of their pipelines to data center hubs makes them a good takeover candidate for a larger multiproduct energy company or pipeline competitor.

OKE trades at a cheaper valuation than KMI and WMB. Some of the discount is due to its recent underperformance in share price compared to its competitors. OKE could potentially close the valuation gap if it demonstrates to investors that it can be a supplier of natural gas to data centers, or if another company expresses interest in a partnership or takeover.

Energy Transfer (ET)

ET has over 100k miles of natural gas pipelines. The company has a long-term agreement to supply natural gas to CloudBurst data centers in Texas, and they claim they are in discussions with more than 40 prospective BTM customers. ET has an extensive pipeline network in Texas, which is home to the second-largest number of data centers in the United States.

Please note that ET is a limited partnership, and as such, it has unique tax consequences and reporting requirements for investors.

Alerian MLP ETF (AMLP)

AMLP is an ETF that holds more than 90% of its assets in energy master limited partnerships (MLPs). Due to its structure, the ETF shields its investors from the tax consequences and reporting requirements associated with its underlying holdings. The ETF’s largest holding is ET, but it does not provide exposure to WMB, KMI, and OKE, as they are not limited partnerships. That said, some of its other holdings benefit from B TM-related natural gas demand.

Power plant equipment manufacturers

I now turn to the manufacturers that specialize in equipment for natural-gas-fired power generation plants. The key components in a BTM power plant include:

• Turbines: Convert natural gas into mechanical energy through combustion
• Generators: Convert mechanical energy into electrical power
• Control and Monitoring: Systems that manage plant operations, helping with efficiency, load balancing, and integration with the data centers.

Turbines

GE Vernova leads the global market for gas turbines. Following them closely are Siemens Energy and Mitsubishi Power. GE Vernova and Mitsubishi Power turbines have hydrogen-ready capabilities, enabling their customers to align with environmental goals and leverage hydrogen as a future energy source.

The following from GE Vernova describes what they offer for on-site power generation:

GE Vernova offers a broad portfolio of on-site power generation technologies, ranging from simple-cycle aeroderivative turbines to heavy-duty combined cycle systems and cogeneration (CHP) solutions. These assets are tailored to the unique demands of data centers, offering flexible options that support both prime and standby applications.

Generators

Caterpillar, Cummins, and Generac Power Systems are the largest manufacturers of generators used in BTM gas-powered plants. While these companies will benefit, the marginal gains will be diluted due to the extensive scope of their current product offerings.

Control and Monitoring

Honeywell is the recognized leader in sales of control and monitoring systems. The following statement regarding one such product is courtesy of Honeywell:

PowerSpring meter data management (MDM) system is a critical component in realizing the full potential of advanced metering infrastructure (AMI) or smart metering, especially for meters used in the gas distribution business.

Industrial Select Sector SPDR Fund (XLI)

We are not aware of any ETF that concentrates its holdings solely on BTM solutions. XLI, however, does hold many of the companies we discuss above. Caterpillar, Honeywell, and GE Vernova constitute roughly 10% of the ETF and are all represented in its top 10 holdings.

Bloom Energy (BE)

While BTM solutions using natural gas traditional power plants are effective, they are not a particularly novel idea. There are many companies with innovative ideas on how to generate electricity more efficiently and cleaner than those we have discussed. I share a brief description of one such company, Bloom Energy (BE).

Bloom is a leading producer of solid oxide fuel cell (SOFC) systems. Per Bloom’s website:

Bloom Energy’s solid oxide fuel cell technology generates clean, reliable, and resilient electricity on-site by converting fuel such as natural gas, biogas, or hydrogen into electricity through an electrochemical process without combustion. This results in significantly lower carbon emissions compared to conventional grid power and provides always-on energy that is cost-effective and sustainable.

The key takeaway is that their system is fuel-flexible, capable of using hydrogen, natural gas, or biofuels, and produces significantly lower emissions than fossil-fuel-based systems. Its cost is comparable to traditional combustion power plants.

Bloom doesn’t disclose its revenue directly resulting from data centers, but its revenue grew by almost 40% in the first quarter compared to the same quarter last year. Moreover, as shown below, revenues are on a consistently positive trajectory.

While its technology is promising, especially for customers in states and nations with stricter environmental laws, the company has been losing money for most of the last decade. Moreover, it has taken on over $1.5 billion in debt. Its ratio of debt to equity is 2.53. Generally, a debt-to-equity ratio above 2.0 is considered high. That said, capital-intensive industries, such as Bloom's, tend to have ratios between 1.5 and 3.0.

While leverage can be beneficial in the long run, the company needs to generate profits in the short term; otherwise, it risks adding to its already-onerous debt load.

Bloom has a forward P/E of 27 and a PEG ratio of approximately 1, assuming earnings can grow in line with revenue. The valuations for a company with such potential are usually much higher. Its tempered valuations suggest investors have concerns about the technology and/or the debt load. It has a market capitalization of approximately $5 billion, making it an easy takeover candidate.

The graph below shows that its shares have been trading well recently, but they are at the same price as when they were issued in 2018.

Investing strategies for BTM solutions

If investing in BTM solutions for data centers is of interest to you, I strongly suggest diversifying among the many players and sectors in the burgeoning industry. For instance, I would consider having one or multiple stocks from some of the following industries:

• Natural gas midstream pipeline companies
• Natural gas turbine and generator manufacturers
• Natural gas producers
• Control and monitoring system manufacturers
• Utilities developing BTM solutions to ease grid constraints

Considerations

As I noted earlier, BTM is a bridge technology. It will help meet short- and intermediate-term data center power demands. Over time, however, nuclear and renewable energy sources could prove to be more efficient and cost-effective.

While political trends will ebb and flow, the world’s leading industrial nations have been gravitating toward more renewable energy sources and less carbon-based energy.

Changes in regulatory regimes at the local, state, and national levels should be closely monitored.

Technology changes rapidly. For consideration, might AI engines invent a more efficient and cost-effective energy source, rendering BTM solutions obsolete?

The information provided here is for educational and informational purposes only and should not be considered investment advice.

Michael Lebowitz is a portfolio manager with RIA Advisors and author for Real Investment Advice. For more information, contact him at [email protected] or 301.466.1204.

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