This Under-the-Radar Utility Just Signed a Massive Data Center Deal Without Anyone Noticing

You're likely aware that utility company Constellation Energy is reactivating one of the mothballed nuclear reactors at Three Mile Island in Middletown, Pennsylvania, mostly to serve nearby data centers operated by Microsoft. And Facebook parent Meta Platforms -- along with cloud computing name Amazon -- have both made long-term power purchase agreements with electric utility outfit Vistra. Such high-profile partnerships between corporations and utility companies are quickly becoming the new norm, largely thanks to the rapid proliferation of electricity-hungry artificial intelligence (AI) data centers.

Not all of this dealmaking is being made with familiar names, however. The need is so great that even smaller power providers can now cash in on the insatiable demand for electricity. South Dakota utility outfit Black Hills (NYSE: BKH) is the latest small-cap beneficiary of the movement.

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Impact of the deal

With a market cap of only $6 billion and annual revenue of less than half that amount, Black Hills doesn't turn many heads. Don't be fooled, though. Good things come in small packages, too. This persistently profitable utility player's stock boasts a solid forward-looking dividend yield of 3.6%. And that's based on a quarterly dividend that has not only been paid like clockwork for decades but also been raised every year for the past 56 years.

Now the underpinnings of that streak are about to get even stronger. Early this month, the company agreed to sell 590 megawatts' worth of electricity to Google parent Alphabet (NASDAQ: GOOGL) (NASDAQ: GOOG) to power a nearby data center through 2048. This long-term commitment allows Black Hills to comfortably invest $1.8 billion in 564 megawatts' worth of new natural gas electricity-generation capacity, bringing its total potential output to 2.7 gigawatts. That's enough electricity to power a few million ordinary homes, or a handful of data centers.

Notably, Black Hills says this agreement should produce on the order of $150 million in net income in 2030 alone and $2.4 billion in free cash flow over its lifetime, even after accounting for the $1.8 billion in capital expenditures it will require.

Something to think about

This doesn't mean every minor utility company is guaranteed to win these sorts of contracts with major names from the technology sector. In this instance, Alphabet's Google is looking to establish a new data center in Cheyenne, a market that Black Hills Energy already serves. It makes sense that Alphabet would opt to make a proactive, mutually beneficial agreement with it rather than suddenly strain the power provider's current production capacity, which works against Alphabet just as much. Future data centers may or may not be located in a market where a smaller utility player is already up and running.

This development certainly gives investors something to think about, though. They've given plenty of thought to the bigger names in the utility business. But perhaps the overlooked smaller ones are just as much of an opportunity, particularly if they've got a dividend pedigree as impressive as Black Hills' is.

James Brumley has positions in Alphabet. The Motley Fool has positions in and recommends Alphabet, Amazon, Constellation Energy, Meta Platforms, Microsoft, and Vistra. The Motley Fool has a disclosure policy.