Billionaire real estate developer waves red flag over data centers

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Fernando de Leon, founder of Leon Capital Group, started a small development company in 2004 with $100,000 and turned it into a $10 billion company, primarily focused on commercial real estate. He says he did this by anticipating distress, monitoring the source of capital, and relying on his Harvard degree in evolutionary biology.

While others lost their shirts in the Great Financial Crisis, de Leon began to amass his fortune. He had left a job at Goldman Sachs to start his own business and was doing some deals in residential land development. A year later he saw some early signs from subprime mortgages and overbuilding that this was going to be a “tough turnaround cycle,” he said.

“We basically said, ‘Look, we’re seeing things here that are fundamentally unhealthy. We’re going to take these real estate centers and sell them, and then we’ll wait and see what happens,'” de Leon told Property Play.

“We divested, brought back some liquidity, then kind of waited, and then from 2008 to 2012 we became brokers,” he said. “We became people who were able to talk to banks, life insurance companies, companies that had loan exposure, and we were able to solve problems for them.”

De Leon said he successfully brought back projects that had defaulted and become problematic for lenders, experience he now says influenced his thinking in the early years of the pandemic.

“In 2021, we sold a significant amount of multi-billion-dollar real estate because prices were high, and it was due to low interest rates and euphoria and bad incentives in the market,” he said. “Part of that is understanding where the capital is coming from. You start to see market participants that shouldn’t be there…and when they match up and that goes through the supply chain, you start to see distortion and pricing.”

De Leon said he now sees the same red flags flying over data centers.

While big players like Blackstone, KKR and Bain Capital are buying their shares, de Leon said he is not involved.

“The thing I can’t quite iron out is the data center play. I’m looking at a $10 billion data center, right? First of all, there haven’t been any exits above $4 billion or $5 billion, you know, and you’re not seeing comps, so that worries me a little bit,” he said.

“Then I see big tech companies, the biggest companies on the planet, with a market capitalization of $4 trillion, saying, ‘I don’t want to own this asset. “I don’t want this to be on my balance sheet. So I ask, why? Why wouldn’t the largest company in the world want to own its own assets?” De Leon said. “The AI ​​business is everything to them today, to the big, hyperscale companies, so they say: No, you build it, you fund it.”

De Leon predicts that what is inside these data centers, the AI ​​technology, will quickly become outdated. After all, AI is designed to make everything more efficient, including itself. The value of the centers is not the four walls, but what is inside them.

These 15- to 20-year leases that developers rely on are believed to be “Swiss cheese” leases – as in full of loopholes in the agreement over time.

De Leon said his biggest concern is that large private capital investors get the money they manage from things like retirement funds for teachers, police and firefighters.

“When they say, ‘I’ll own this asset and lease it back to some big expansion company,’ they’re putting other people’s money at risk,” he said.

De Leon began working in real estate as a teenager, working as a translator for a local developer in Texas. Instead of receiving a salary, he asked for shares in a project. Instead of getting a business degree, he chose evolutionary biology, because understanding people is good business, he says.

“It was a clear vision. I mean, it helped me make decisions about corporate organization and leadership, and building the business,” De Leon said. “I think some of this stuff is about incentives, right? The basic business interaction between humans is about incentives.”

This is especially true in industries where there are established players, he said.

“You always find a group of current officials who have been appointed and have certain advantages,” he said. “Understanding it from a social standpoint, it gave us some insight into saying, ‘Okay, these businesses should compete on this basis. “This is where we can win,” and it’s kind of a vision around the corners.

De Leon said he is excited about the amount of capital coming into commercial real estate — from wealth firms, family offices, sovereign wealth funds and pensions.

“When allocations to real estate rise from 3% to 6%, that number means there is approximately an additional $4 trillion of capital chasing a limited number of real estate assets,” he said. “When that happens, you see an increase in the supply of capital, you’ll see fundamentally sound real estate asset prices rise. And so I think the story of the next 10 years will be that real estate capital markets will grow 10-fold.”