A year or two ago, the balance sheets of major tech companies like Google were simple, holding massive cash reserves that could cover debt multiples. Now, driven by enormous AI investments, these tech firms are adopting a range of financial tools long used on Wall Street to expand their business without bearing all the risk alone.
For example, Google disclosed last week that it has agreed to guarantee up to $44 billion in third-party data center lease payments if a tenant defaults. This guarantee is a significant jump from $6.5 billion at the end of September last year. The move is aimed at promoting its custom-designed TPU AI chips to companies like Anthropic, offering an alternative to Nvidia's AI chips.
This potential payment exposure vividly illustrates the profound change in Alphabet's capital structure over the past year. Massive AI spending has forced Google to move beyond its own cash reserves and seek funding from multiple channels. As of June 30, the company's debt rose to $98 billion from $23.6 billion a year earlier. Simultaneously, for the first time in over two decades, Google conducted an equity offering. The necessity of this fundraising became clear last week: Alphabet's earnings report showed that for the first time since its IPO, the company recorded negative free cash flow and a net cash consumption in the second quarter.
However, this $44 billion guarantee for data center tenant defaults is not recorded on the balance sheet; it is only disclosed in the earnings report footnotes. The books show only $815 million, which is Google's estimated actual probable payout. The core purpose of Google undertaking these guarantee obligations is to promote its Tensor Processing Unit (TPU) AI chips. Alphabet's Google Cloud itself offers servers equipped with TPUs, and it is now expanding TPU usage by placing them in third-party-operated data centers.
Many partners are former cryptocurrency mining companies, such as Hut 8 and TeraWulf, which have transitioned to running data centers to meet AI computing demand. Two people familiar with the matter say that Google's internal calculations suggest the long-term revenue from TPU sales will sufficiently cover the contingent liabilities from the data center lease guarantees. One of them stated that management's calculations show the overall deal is beneficial for Alphabet.
According to several people familiar with the matter and company announcements, most of these partnerships involve cloud startup Fluidstack leasing and operating new data centers, deploying TPU computing power, and then subleasing it to Anthropic. When assessing the guarantee risk, Alphabet looks through Fluidstack's lease arrangements to determine if the end customer poses a risk of payment default or bankruptcy. A person familiar with Google's plans revealed that Alphabet has provided guarantees for approximately 10 projects, totaling 2.4 gigawatts of data center capacity. None of these projects are completed yet, so the guarantee agreements are not yet formally in effect.
The TPU chips within these data centers have separate financing arrangements. In most partnerships, Broadcom, which co-designs the TPU chips, also provides guarantees. Under this model, Google essentially acts as a corporate guarantor for the data center sites, helping developers secure lower-interest loans and accelerate construction. The $44 billion reported to regulators is the maximum potential future amount, which the earnings report calls the nominal exposure. The $815 million is the company's expected actual payout. This derivative exposure, measured at fair value, is recorded in Alphabet's current-period profit and loss. Alphabet's fair value calculation is based on comprehensive assessments of default probability, default timing, and potential recoverable amounts.
Recent earnings reports clearly show the explosive growth of this exposure. In October last year, the nominal guarantee was $6.5 billion, with a negligible fair value. In the latest quarter, the nominal guarantee surged to $43.8 billion, with a book fair value of $815 million. Jordan Chalfin, head of technology research at credit research firm CreditSights, advises against over-focusing on the nominal guarantee amount at this stage. "The disclosed figure is the theoretical maximum loss limit. It's crucial to understand this, and there are multiple hedging methods to reduce actual risk."
Alphabet's earnings report states that if a tenant defaults, Google has several options. It can take over the entire lease for its own use or transfer it to its own customers to expand scarce computing capacity, or it can sublease the data center to other companies. Furthermore, most lease agreements have a maximum term of 15 years, meaning the potential payout exposure will gradually decrease over time. Google also has the right to terminate the guarantee agreement, but two people familiar with the matter say that terminating would require a one-time high compensation payment to creditors who bought bonds in reliance on the guarantee. This compensation would ultimately be converted into equity in the project, with the ownership stake depending on the payout amount relative to the total project cost.
Not all of Google's guarantee terms are identical. Fitch Ratings documents show that the Hut 8 partnership agreement stipulates that if Fluidstack defaults, Google will fully cover the rent for 15 years. It also states that neither party can be released from performance obligations if there are major construction delays. In contrast, the partnership agreements with developers like TeraWulf and Cipher include termination clauses for project delays, a clear difference. Hut 8 CEO Asher Genoot stated on a conference call that the total value of this data center lease contract is $7 billion, plus an additional $2 billion for electricity, property taxes, and insurance. The project has not yet officially commenced lease payments.
Google's model represents an approach to building AI infrastructure using financial engineering, and competitors are using different methods. For example, Meta is a minority partner in joint ventures to build data centers in Louisiana and Texas, keeping the assets off its balance sheet. Oracle is also relying on various off-balance-sheet arrangements to support its computing expansion. Beyond guarantee obligations, Alphabet, Meta, Oracle, and others have signed hundreds of billions of dollars in long-term data center leases that are not yet effective and currently do not need to be recorded on their financial statements. Most leases only become effective once the data center is built, chips are installed, and the facility is operational.
As of the end of June, Alphabet had a total of $85.2 billion in unstarted lease agreements. It also had $7.6 billion in guarantees to help partners secure power and purchase electromechanical equipment. Additionally, Google has finalized another $24.1 billion in future guarantee plans, which will add corresponding guarantees once the terms are finalized. Of course, Google's fundamentals remain solid. Its operating cash flow over the past 12 months exceeded $185 billion. Despite recent stock and bond issuances, the company still has ample room for refinancing. In an extreme risk scenario, Google could also proactively reduce capital expenditure.
Anubhav Arora, a credit analyst at Fitch Ratings, stated that when assessing bonds related to these data center projects, Google's guarantee is the core reason for the rating upgrade to investment grade. He believes that this type of guarantee partnership for Google will not slow down in the near term. "We continue to see more unrated tenants using Google's guarantees to get projects off the ground, and this trend is likely to continue."
Sharing project upside gains
Simultaneously, Google has designed a profit-sharing mechanism in most of its partnerships. If the stock price of the data center developer rises, Google can share in the appreciation. Many guarantee transactions come with equity warrants, but not all projects have them. For instance, Google holds warrants in TeraWulf, which, if exercised, would give it a 14% stake in the company. TeraWulf is building a computing data center for Fluidstack in Barker, New York. Google also holds warrants for up to 5.4% of Cipher Digital, which is building a data center in Colorado City, Texas, under the same partnership model. There is only one exception so far. When Hut 8 announced its partnership with Fluidstack and Anthropic last December, it did not grant warrants to Google for its guarantee. People familiar with the matter say this was a special case and will not be repeated in the future.
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