Data centers: Securing sufficient power through surety guarantees

Artificial intelligence, cloud computing, data storage services, and more are contributing to a dramatic surge in data usage, which is, in turn, driving increased demand for data centers and fueling major investment in their construction.

And as these power-intensive facilities grow and proliferate, their demand for energy is increasing at a fast clip, with the average hourly demand expected to triple by 2035.

To secure stable, long-term power that matches increasing demand, data centers typically enter into complex agreements with utility companies and power producers to deliver the required power throughout the contract period. Further, data centers with on-site renewable energy generation, such as solar panels, that want to sell excess power back to the grid will need an interconnection that requires an investment from the utility company.

Data centers with on-site renewable energy generation often require an interconnection to the utility grid. This involves the building of physical components that oversee power flow, ensuring that the connection is established and operational. The interconnection process often requires investment and collateral until the connection is approved and operational, serving as a construction project that enables power to be transmitted from the generator to the grid.

Funding power guarantees

When a data center connects to the grid, utilities often require a performance guarantee to safeguard capital investments related to infrastructure upgrades. Similar guarantees are also typically required to guarantee long-term power purchase agreements (PPAs).

Guarantees mitigate the risk of contract default, both during the construction stage and for the duration of the PPA, allowing the utility or grid operator to recover costs associated with infrastructure investments or operational commitments.

Letters of credit (LOCs) have traditionally been considered as the standard means to provide financial guarantees, mainly due to their perception as secure, liquid, and reputable vehicles. However, LOCs often necessitate posting significant collaterals, limiting cash flow and capital flexibility.

Surety guarantees, on the other hand, can deliver comparable liquidity, reduce costs, and free up capital, allowing data center owners to optimize their financial strategies. Benefits typically include:

Cost savings. Surety guarantees have no collateral requirements, which can translate into significant savings, especially for multi-million-dollar guarantees.
Enhanced liquidity and cash flow. Removing collateral requirements frees up cash, allowing developers to use it for other projects, which can also support the broader energy transition.
Reduced financial exposure. Surety guarantees provide a clear, enforceable guarantee backed by highly rated insurers, which is critical when dealing with large, complex projects involving billions of dollars in infrastructure investments.

Busting surety-related myths

Despite the benefits, myths surrounding surety guarantees’ suitability to provide guarantees for power generation performance investments have contributed to utility companies generally preferring LOCs. These include the perception that surety claims may be slower to resolve, often taking months.

However, pay-on-demand bonds are designed for quick payouts. For example, Marsh’s power generation performance bonds are structured to pay out within a short, defined period, typically 10 business days from claim submission, which is similar to the liquidity of a bank LOC.

Further, surety providers are highly regulated, operating under statutory requirements that are often on par with those of banks, dispelling the myth that bank guarantees tend to be more reputable and providing surety recipients with a level of comfort that their investments are secure.

Tailored bond solutions

Marsh’s team of energy surety specialists have worked with insurers to develop specialized power generation bonds that are well-suited for the energy sector’s needs and provide guarantees that enable grid connections without the need to tie up capital.

A close collaboration with major power and utility companies allows Marsh’s team of energy surety specialists to clearly explain how power generation performance investment bonds can provide the needed guarantees, operating similarly to LOCs while providing additional benefits.

For data centers and energy developers, securing large-scale power agreements is a complex but critical process. Transitioning from traditional letters of credit to structured power generation performance bonds offers a compelling alternative — delivering comparable liquidity, enhanced credibility, and significant cost savings that could be used to further the energy transition.

As the energy landscape evolves, innovative guarantee solutions can enable data center owners and developers to secure large-scale power agreements that allow them to maintain a competitive advantage while helping to support the energy transition.

For more information on Marsh’s power generation performance bonds and to better understand what type of guarantee is most suitable for your organization, contact your Marsh representative.

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