Before the First Shovel: Construction Contracting for the Data Center Boom

The data center boom is no longer just a technology story — it is a construction story. As artificial intelligence, cloud computing, and streaming continue to drive demand for computing capacity, owners (and others developing data centers) are racing to deliver facilities that can keep pace. But in this market, speed is not the only challenge. Power, equipment, contractor capacity, pricing risk, and regulatory requirements can shape a project long before the first shovel hits the ground.

That is where construction contracting becomes a strategic tool, not just a project document. Data centers may resemble heavy industrial buildings, but their commercial pressures are different: Campuses can carry billions of dollars in value, business priorities can shift quickly, and the market rewards those who can move faster without losing control of risk. With those pressures in mind, we have gathered several observations from the past year advising data center owners engaging general contractors on projects across the United States, Canada, and South America, with a key California-specific consideration noted as well.

Build a Bench Before You Need a Place to Sit

There is much value and time savings in negotiating baseline commercial terms and construction agreement terms (in a project-neutral form), in advance, among a bench of contractors for a given region. Programmatic-level terms are kept consistent, RFP responses are more predictable, owners can pivot more quickly if a preferred contractor lacks capacity, and surprise deviations are quashed at the business level, all without the pressure of a looming start date. This strategy also highlights unreasonable asks as outliers, and works well for owners operating in multiple states and countries, incorporating local law changes only as necessary to preserve as much of the original deal as reasonably possible.

Allow for Incremental Builds

If you build in response to demand, consider optionality for phased releases of work (often tied to design hold-points, where logical and practicable). The simplest versions allow for the release of portions as the need arises, such as fitting-out more of a data hall when demand is signaled. More complex versions lock commercial terms and a floating schedule for whole buildings on a campus.

A phased approach does require some trade-offs: The more of the stage that is set (waiting for the owner to yell “action” with a notice to proceed), the greater the commercial risk to the contractor with respect to inflation, demand spikes, employment overhead, availability of materials and equipment, and the like. So, depending on the circumstances, it may be fair to lock some aspects for a longer period (like the contractor’s fee, general conditions, and general requirements), while others (like subcontractor pricing) may be open to renegotiation after a shorter period of time.

Pricing Subcontractor Risk

Unlike a construction manager, a general contractor is typically liable for the quality of the work of its subcontractors. Traditionally, the contractor is compensated for this risk with its fee. In the last decade, and particularly on large-scale projects, contractors have sought to convert this from a contractor risk to an owner cost, in the form of subcontractor default insurance (SDI), bonds, or other mechanisms, the cost of which may be passed on to the owner. The procurement and costs of SDI and the like are a joint legal and commercial consideration.

Owner-Furnished Equipment

Data centers are more equipment-heavy than other builds, requiring generators, switchgear, and various other widgets. By procuring equipment directly, rather than through the contractor, owners can order items early enough to combat long lead times, secure volume discounts (particularly if purchasing across multiple projects), and save costs by not paying the contractor a fee on top, though still paying the contractor to receive, store, and install the item. An owner is taking on some risk of a failed delivery or a change in design, for example, but the savings in cost and time may be worthwhile. The owner should inform the contractor of manufacturer requirements for handling and installation, so as not to impair the warranty. 

Because the cost of equipment relative to the rest of the project is significantly higher with a data center (meaning that the fee avoided on data center equipment is more significant), contractors may seek a separate fee on that owner-sourced equipment, ostensibly for the added risk in handling that equipment. But because the equipment is typically protected by insurance already in place (such as the builder’s risk policy), the added risk is relatively low, and that fee model is declining. Swinging the pendulum back, some owners have negotiated modified fee structures, paying the contractor a lower fee on contractor-procured (i.e., traditionally procured) equipment, reasoning that, dollar-for-dollar, the risk associated with the cost of a widget is less than with an equally priced scope of subcontracted labor.

California Prevailing Wages on Renewable Energy Projects

Data centers are frequently paired with photovoltaic (solar) or other renewable energy systems. California Public Utilities Code Section 769.2 requires that the contractor pay prevailing wages (similar to a public work) when a project includes a renewable electrical generation facility and uses net energy metering (NEM; selling electricity to the utility). There are other criteria, and exceptions apply for certain residential projects. Many data centers are likely to consume renewable energy generated on-site and may not use NEM, likely avoiding Section 769.2. But for those that do use NEM, pre-contract planning is essential to evaluate the impact.

The Take-Away

Once a subset of the industrial building market, data centers are their own category now. Traditional commercial and legal terms applicable to commercial construction, generally, have become stale and insufficient in the world of high-value, need-it-tomorrow data centers. Data center owners are well-advised to make sure their construction agreements are properly adapted to the current state of the contracting market.