Q3 2019 Earnings Call

Greetings and welcome to Coresite Realty third quarter 2019 earnings call.

This time, all participant Arnie listen only mode. A question answer session will follow the formal presentation. If anyone should require operator systems. During the conference. Please press star zero when your telephone keypad. As a reminder, this conference call is being recorded I would now like turn the conference over to your host Carol Jorgensen, Vice President of Investor Relations and corporate communications.

Go ahead.

Thank you good morning, and welcome to Coresite third quarter 2019 earnings Conference call I'm joined today by Paul Zurich, President and CEO , Jeff Finnin, Chief Financial Officer, Steve Smith, Chief revenue Officer.

Before we begin I'd like to remind everyone that our remarks on today's call may include forward looking statement.

Fine by Federal security laws, including statements addressing protection and impede your expectation.

These statements are subject to a number of risk and uncertainties that could cause actual results or facts.

Differ materially from such statements for a variety of reasons, we assume no obligation to update. These forward looking statements you can give no assurance that the expectations will be obtained detailed information about these risk is included in our filings with the FCC.

Also in this conference call, we refer to certain non-GAAP financial measures such as funds from operation.

Reconciliations of these non-GAAP financial measures are available in the sample information that is part of our full earnings release, which can be found on the Investor Relations page of our website at <unk> Dot com.

With that I'll turn the call over the Paul.

Good morning, and thank you for joining us I'm going to briefly cover our financial highlights and then focus most of my time when how our strategic initiatives are playing out in light of today's market and technological environment.

And Steve will then follow with their respective discussions or financial matters and sales result control.

Our financial results for the quarter included operating revenue growth of 4.1% year over year.

Oh, the dollar 28 per share an increase of 2.4% year over year and another strong quarter sales at $14.4 million of annualized GAAP bread side, including strong new logo revenue.

This puts us on track to comfortably achieve a record year upsells.

Moving onto our strategy fulfillment.

Where demand for data center space is strong and we forecast a strike to continue in the foreseeable future or strategy capitalizes on the strength by expanding our extensive customer communities of enterprises networks in cloud.

Her operate with each other at our campuses to serve businesses and consumers and major U.S. metropolitan markets.

We fulfill this mission by providing capacity and connectivity, including numerous cloud on ramps and reliability and ease of use and serving our customers.

Our strategy start to dataset or capacity.

We reinvigorated our construction and development activities beginning in late 2016, and these activities are now delivering plentiful sellable capacity at our campuses, while building a pipeline for sustainable and agile capacity additions in future years.

With the delivery I've asked me a phase one at the beginning of September we're on track to deliver 224000 square feet of new capacity this year.

Leading phase two best V eight in the fourth quarter.

We're also on track to deliver an additional 196000 square feet of new capacity next year based on the projects currently under development and we have a sustainable pipeline for future years.

In our existing buildings, we can quickly deliver incremental computer a capacity of 550000 square feet, a projected higher margins compared to new ground up development.

In other words, we're shifting over the next 12 months from primarily ground up development to primarily in building development.

And we also have 1 million square feet of space. We believe we can develop on existing old land. It has denied in Santa Clara and want to Secaucus, New Jersey, and then our Reston campus expansion, making it easier to be shovel ready when demand is strong.

As our sales results show. This additional capacity is crucial to meeting customer demand, we continue to see for community expansion and its capacity at our major metro markets.

Especially for enterprises seeking the highest performance and most cost effective and most secure and reliable co location solutions for hybrid cloud I T architectures.

An example of the type of do bad or new capacity is addressing is our pre lease of L.A. three phase one for 74% of the space a year in advance of construction completion.

Although we are in early stages. We're also seeing a positive impact on co location sales related to the additional connectivity products. We are pretty customers. These products are designed to a called for several objectives for enterprises, including enabling more efficient provisioning of cloud access redundancy and enabling flat or up.

My eyes wide area networks to reduce costs were operating costs, while maintaining significant edge deployments as mentioned last quarter current market conditions have some temporary headwinds.

Well the growth of public cloud has been a strong positive for us due to significant leasing to cloud providers entered the enterprise is seeking powerful hybrid cloud solutions to a much lesser extent the trend is affected other sources of demand we have higher than normal churn. This year as a few long term customers have gone through bankruptcy or other business.

To a lesser extent some customer use cases are transitioning to the cloud much of this fortunately to cloud edge products located within our data centers.

The strong secular data usage strands of also draw an additional capital into the sector. While most of our markets are fairly well protected by high barriers to entry and our network debts business model Northern Virginia continues to be a challenge we believe our record sales would be even higher if supply and demand in northern Virginia were more balanced we have.

However, existing and potential capacity northern Virginia for in the market there strengthens.

And of course, new multi tenant development is generally a modest drag on earnings while pre stabilized, but the available capacity enables us to be fast emerging customer needs and strengthen our campuses.

Balance we continue to believe the long term data center demand trends are very positive for our campuses. It will generally reward us for staying abreast of capacity and product needs.

Therefore, we're confident that our major market network debts proactive development and product optimization strategies will provide sustainable growth with that I'll turn the call over to Jeff.

Thanks, Paul and Hello, everyone.

Turning to our financial results for the quarter total operating revenues increased 4.1% year over year and 1.4% sequentially.

Hi, merely due to increased rental revenue related to new and expansion lease commencements and growth in interconnection revenue.

We commenced 78000 square feet of new and expansion leases for $15.7 million of annualized GAAP rent at an annualized GAAP rate of $200 per square foot.

And our sales backlog as of September Thirtyth included $25.3 million of annualized GAAP rent from signed but not yet commenced leases.

$28.4 million on a cash basis.

We expect a majority of the gap backlog to commence in the next two quarters and the remaining amount in Q4 2020, following completion of L. Athree phase one.

Total property operating expenses increased 2.9% year over year.

Primarily as a result of increases in rent expense from recently completed developments in our L.A.M.D.C. markets, where we leased some of our facilities.

These property operating expenses also increased 4.3% sequentially.

Including the impact of increased rent expense I, just mentioned another increases resulting from seasonal power cost and other property operating expenses, partially offset by a property tax refund.

General and administrative costs for the quarter were relatively flat year over year and decreased sequentially.

This included the impact of a successful outcome related to a trial in Q3, including a minimum expected legal expense recovery of approximately $3 million minimizing the negative impact from legal fees this quarter to one cents per share.

Turning to adjusted EBITDA net income and F. all.

Adjusted EBITDA was $77.9 million, reflecting a year over year increase of 5.6% and a 53.8% adjusted EBITDA margin.

Net income per diluted common share was 47 cents per share and ever FFO was $1.28 per diluted share a three cents increase year over year and a one cents increase sequentially.

Moving to our balance sheet, we ended the quarter with $388 million in liquidity, including $383 million available under the revolver and $5 million in cash.

Leverage at quarter end was 4.4 times net debt to annualized adjusted EBITDA.

We expect to meet our short term liquidity requirements, including our anticipated development activity over the next 12 months, primarily through utilization of our credit facility.

We also anticipate addressing our 2020 and 2021 debt maturities before the end up this year by working with our lending partners and our credit facility to extend the maturity dates.

Next I'll recap some highlights of our first nine months of 2019.

I mentioned, we expect to bring more capacity to the market by adding 224000 square feet into service in 2019.

This new capacity provides us an opportunity for leasing and revenue growth by providing larger contiguous space for our sales team to compete for a larger set of customers needs.

This expanded capacity has led to new leasing year to date of more than $48 million annualized GAAP rent.

That's more than doubled the new leasing in the first nine months of 2018.

And our sales team will continue working hard during the fourth quarter to maintain our momentum.

Next I'd like to address your.

Last quarter, we raised our guidance of annual revenue churn to a range of 9% to 11% for 2019, which compares to work typical historical range of 7.5% to 8%.

Churn has resulted from various drivers over the years, primarily from integration related to M&A activities.

Bankruptcies and end of life applications.

Last quarter, we identified additional churn expected for the last half of 2019.

Since our last call we used a cross functional team to further analyze our customer portfolio looking for emerging trends vulnerabilities and areas to address.

This review identified customer characteristics to better identify growth opportunities and risk of churn and was a valuable process that our sales and customer service teams were used to augment our existing practices.

Based on our historical trends and characteristics of churn.

Our remaining exposure to customer deployments with similar characteristics is not a meaningful percentage of our embedded base and we expect almost all categories of churn to abate next year.

However, we have sizable capacity relocating from the Bay area market over the next two years and we're optimistic about our ability to release this capacity due to the strength of current market dynamics.

Turning to our work ahead.

We've accomplished a great deal in the first time bonds and we are focused on continuing that momentum.

Our scale pre leasing executed at SB, eight an l. athree and the second and third quarter's respectively or key objectives for the organization and helps de risk our development activity.

As Paul mentioned, we've delivered strong leasing results without the contribution we expected in northern Virginia, and still expect a strong finish to the year [noise].

As it relates to 2020.

We will provide a detailed annual guidance on our fourth quarter call.

However, I'd like to leave you with a few thoughts we feel good about the fundamentals of the business.

And our progress on our property development and pre leasing.

To provide some perspective as you update your models for 2020, M. beyond our accomplishments and challenges versus one year ago includes some timing considerations.

First our property development SB eight was delivered as planned however, phase one of L.A. three M.C.H. too while also progressing well are behind our timeline from a year ago due to issues like permitting and other impacts.

Second.

As a result of these changes leasing of these properties also looks different from a year ago, we executed more pre leasing the planned it SB eight.

Pushed out the timing related to lease Commencements at phase one of the L.A., three and C H too and scale leasing in northern Virginia has been lower than expected.

And lastly, our churn from 2019 will have carried over impacts on 2020, as we work to release, our data center capacity.

Before I hand off to Steve I want to recap.

We are executing on our previously discussed priorities related to bringing on capacity and increasing leasing.

The business drivers and secular Tailwinds for our services are strong and we believe we are well positioned for the long term with that I'll turn the call over to Steve.

Thanks, John today, let's start off with a summary of our quarterly sales results.

And then talk more about themselves when the business drivers behind them.

Moving to our sales we executed another very strong quarter sales.

Which is back to back with last quarter's sales quarter or the company.

We delivered $14.4 million of annualized GAAP rent or new and expansion sales.

Quoting $4.5 million, a core retail colocation sales.

$9.9 million upscale leasing, including a large pre leased it only three as well as other scare leasing.

And some impressive new logo wins with opportunities for future growth.

Turning to a few highlights of our sales included 73000, net rentable square feet, reflecting an average annualized GAAP rate of $197 per square foot.

And core retail Colocation sales included pricing on a per kilowatt basis in line with a trailing 12 month ever.

Looking at new logos, we won 36, new logos the reflect total annualized GAAP rent approaching three times, our trailing 12 month average.

Yeah include a weighted average contract term of 77 month versus the trailing 12 month average 46 months.

We're excited about the quality of these new logos and believe they will help drive future growth as there are two needs of all.

But tracking and winning new customers that value our platform remains a key area of focus and it's great to see continuing to bear fruit.

Renewals are another key aspect of our leasing focus.

During the third quarter or customer renewals included annualized GAAP rent of $20.4 million, reflecting growing base of business and strong customer relationships.

Our renewals represented rent growth of 4.2% on a GAAP basis, and a decrease of 2.2% on a cost basis.

Which was impacted by the renewal of three long term skill customers, but excluding me three customers. The remaining renewal volume reflected a positive 2.8% cash rent growth.

Churn was 3.1% or the anticipated.

Next I'll share some highlights of our sales wins and the related business drivers.

As Paul mentioned were located in strongest markets, which uniquely positioned backup to serve highly connected workload environments.

Customers in every segment are looking for helping there ever changing Archie journey or the Interconnector, a hybrid cloud and multi cloud me into seamless service for their end customers.

Today's Archie environment has greater innovation and left tolerance, the number for poor performance or latency where their applications.

These factors seem to be on the increase in unimportant.

It was a glimpse of a few wins across sectors, we signed this quarter.

Our multinational technology company specializing in cloud related services that are latency sensitive leasing space and our la market one of the top connected data centers in the world.

Our global pharma to organization.

Further introducing and leveraging technology across their business units to serve their diverse corporate and R&D needs locating and our Santa Clara market.

Our multinational company with businesses and consumer professional electronics gaming Entertainment and financial services, and our Elway market, where performance is critical in supporting their gaming and users.

And the large electronics company and our Boston market working to solve the needs of their multi cloud environment.

Well all of these customers are different industries and deployed across various markets. There are all leveraging the value of our interconnected platform to drive their business.

Each are experiencing increasing data growth heavily reliant on technology to develop new products and served customers.

Outperformance needs with no room for latency.

And all of them rely on or support a hybrid multi cloud environment.

[noise] technology continues to move out of frenetic pace and we continue to focus on winning and growing with these customers as we help them solve their archie charges to address the changing dynamic needs of their industry and their business.

We're pleased with our execution for the quarter and we look forward to further helping customers saw there are two challenges.

With that operator, we would now like to open the call for questions.

[noise] at this time, we will be conducting a question answer session you would like to ask your question. Please press star one of your telephone keypad, a confirmation tone will indicate your line isn't a question Q you May press star too if you would like to remove your question from the Q4 participant do you think speaker equipment. It may be necessary to pick up your hands that before passing the start here [noise] Wunderlich. Please will be okay.

Once.

Our first question is from Jonathan Atkin RBC. Please proceed with your question.

Thank you so had a question about.

Jeffs comments with regard to Santa Clara So.

The the sublease capacity, that's being marketed now it SB seven for nine megawatts, you referred that as it has a relocation but.

Is that going to be a customer that that leaves your rules entirely or are they relocating to a different coresite market I'm, assuming it's the former.

Jonathan Let me answer that first of all there's I don't think there's really any sublease capacity out there there may be some misunderstanding in the local market, but as Jeff mentioned it is a tenant that is moving their operations two different areas not to arpus.

Well what age.

That that.

Lease expires, partly towards the end of 2020, a little over half towards the end of 2020 and the rest towards the end of 2021.

And as we've seen in similar situations in that market in prior years.

We like having the ramp to go and released that space and hopefully help the tenant out a little bit and get some of the in their earlier.

But in that market, we're glad to have that capacity.

Well the kind of the tenant is marketing their sublease space and so I guess, it's maybe just semantics, but you did this wouldn't be elevated churn for next year, Lisa market. So Jonathan I don't want to get into any.

You know misunderstandings out there, but there is no right to remarket that space as sublease space.

Okay, but you mentioned the explorations.

Some of something 20 in some in 21 and and I hear you about Santa Clara being a very strong market tight supply very strong pricing trends, but but.

Is it fair to say that you could see churn in the market over those two years.

What your expectation is that you'd be Phillips and perhaps accretable. He is is that a fair way to characterize it.

I think I think it's fair again pricing and a view of the ultimate replacement deployments will need to be worked out and whether that is slightly accretive or not.

We will work out, but you've got to just my comments correct, which is it's a good datacenter it's good space.

We believe there's good demand in the market for it and we are working proactively to re tenant that.

Q2, more questions, Dan or question related to kind of new markets. So council bluffs is a market that.

Sorry, just one just indicated that they want to build capacity for enterprise sort of hybrid cloud applications.

And.

Was interested in kind of that's how you how you continue to look at.

Growth opportunities domestically.

Into new markets and whether those types of opportunities are interesting to you and then secondly.

There's been very strong leasing in Europe , and then there's been a recent M&A.

Transaction announced there and I know you've addressed this in many meetings as as has your predecessor, but just an update on your thoughts on international expansion. Thank you.

So we do continue we look for new markets and I'm I'm guessing at some point down the road, we will we will enter new markets, but so far we just haven't found the right mix.

We do very very strongly prefer and I'd be surprised if we did anything.

Outside of a major metropolitan market.

And we want to be able to deploy our business model, which as you know.

Depends very much on network density so its a.

It's a high bar to job, but we keep looking for it or our views on international haven't changed.

And.

We believe that the model that we pursued of going deeper and building larger communities and greater scale and major U.S. Metro markets.

Relative to the size of our company continues to brought provide us with as much percentage growth opportunity as a as I think is appropriate are needed for this this property category.

Thank you very much.

Our next question is from Jordan Sadler Keybanc capital markets. Please proceed with your question.

Hi, Good morning, this is Katie Jordan.

He kind of touched on this in your prepared remarks little vegetables to go back to churn.

See present, the quarter, 10% at the midpoint for the year.

You talked about.

The space to release and as Cseven, how should we think about churn on a go forward basis for next year do you anticipate churn coming back down to your historical 60% levels. Thank you.

Good morning Katie.

As I said, a little bit in my prepared remarks based on the analysis we did.

And the items that led to our churn we expect some of those items to abate if not most most of those items to abate as we go through 2020 [noise].

However, some portion of that decrease is going to be offset with the item ball just alluded to some of the churn it will take place in Q4 2020 .

As Paul alluded, we've got time to work on Backfilling that space, which is what we're planning on doing.

But that's what we're headed for 2020.

I would just back to the we're we're already actively discussing.

That space with potential prospects right now so activity is strong.

As you know that market is a.

Pretty tight right now so that's a good thing for us.

Thank you.

Our next question is from Colby Synesael Cowen and company. Please proceed with your question.

Great. Thank you too if I may.

Jack in the past you guys had talked about getting to potentially double digit growth in 2020.

And it feels like in the last quarter you guys made a walk that back in some of the comment you just mentioned now in terms of.

Timing delays and then also the full impact of churn in 20 versus what.

Kind of rolled through in 2019.

Just curious you can give us an update on on whether or not that double digits is achievable and then secondly, just going back to the California.

Yeah. This is one of the first time I think at least that I'm aware of a large nine megawatt.

Customer.

Looking to vacate third party data center and I'm just curious what your observations are around this trend.

And when do you think it's very specific to this customer or it's it's part of something broader going on and maybe as it relates to California, what the rolling blackouts, what the fires do you think that that market is going to sustain this strategic value.

That has had for now many years. Thank you.

Morning, Colby, Let me address your first question and then I'll have Paul provide some commentary on the second but as you as you mentioned I did provide some items of reference.

In my prepared remarks, as you guys look at updating models for 2020 and beyond and as I as I noticed store as I mentioned, primarily related to development completions that are further outlined in our supplemental.

And then as you guys think about the timing of leasing and Commencements. In addition, we've highlighted some of the northern Virginia market challenges.

As well as some of the 2019 churn so.

We still had a lot to accomplish before year end.

And that will provide us some better visibility into 2020, but I think it is fair to say when we provided that guidance one year ago. A lot has changed and we do not expect to hit double digit growth for 2020, so hopefully that helps.

Clear up that question from that perspective.

Colby This is actually the second time, we've had a customer of.

This relative magnitude move added that very say market. The last time was 567 years ago and the circumstances were very similar and.

Thank God, we had all of our peers have seen this to some extent, but the so called unicorns in their early stages ramp up very quickly in markets like this and then as they become more mature they start they start rationalizing things and moving things out there as they discover.

More precisely what their latency needs are.

Meanwhile, that market has continued to grow with much more mature and established business models and operations that are however, leveraging new.

Technology products, especially cloud type products and.

And we we see that continuing.

Notwithstanding the factors that you mentioned, which as you know hasn't really affected this particular area as much of us. Unfortunately, some outlying areas are and I know, we all feel for the people in those areas.

But.

But so far we continue to see very strong demand and need for space in this market and expect that to continue.

Thank you.

Our next question is from Frank Lutheran Raymond James. Please proceed with your question.

Great. Thank you just wanted to touch on the churn and in Boston I assume that was similar to the churn that you discussed last quarter. It was kind of expected any thoughts and that being released and then to the commentary about.

Pricing per kw in your conversation.

Now [laughter].

How to sort of that you know the next few quarters of pricing well on that basis. Thanks.

Good morning, Frank Let me address the first one and then I'll hand, it off to Steve for the second question, but you're correct the.

Decrease in occupancy in Boston is directly attributable to that churn event that we have been mentioning the last couple of quarters and so that occurred as we anticipated.

They vacated that space in August and that computer room is.

It is ready to be released.

That's very little if any additional capital needed to get that ready for for lease Steve on the second and just to carry on to the Boston conversation what it does give us more space back there are we are.

I'm pleased with the market dynamics in Boston and.

I don't have shown some good sales results and also see some good pipeline. There. So we're we're encouraged with where we see in Boston as far as a pricing on a per kilowatt basis. As you mentioned you know Andy.

In the comments earlier they on balance they remain in check for most of our markets and as we mentioned on prior calls probably the only market. The we've seen.

Material.

Erosion was bigger than the Virginia market, but even that we feel like is pretty much stabilized and look to see some of that come back and even in our retail and.

Enterprise sectors, there, it's it's been pretty consistent overtime. So.

Overall things seem to be holding pretty well.

Alright, great. Thank you very much the.

Our next question is from Erik Rasmussen.

Stifel. Please proceed with your question.

Yeah. Thanks.

On the leasing.

Again was quite healthy.

And over the last 12, you know outperformed your your 12 month average.

Scale was the sort of the primary driver there with steady sort of retail Colo we'll call it.

Are you seeing it sort of a change in your business that would suggest that you may continue to see sort of larger deals come through.

Well as Paul mentioned in his remarks as we bring on more capacity that does open up the market for us to sell larger opportunity. So that's the good thing for us than we've seen some of the results of that already.

And I think as you look at the average size deal and the more contribution from new logos.

And just overall maturity of the market, where you see more mid to large enterprises now maturing to the point, where they are adopting more multi well multi cloud and hybrid cloud type of environments that opens it up to on average larger opportunities for us. So.

We feel like with our expansions in different markets that well positions us for that opportunity.

And maybe just a follow on with that and so in terms of what does this mean for like for pricing cash rent growth obviously.

The scale and depending on who that customer bases that could have different dynamics, how do you plan to balance this.

Well, we're pretty judicious about how we approach each each opportunity I'm, especially as they get larger we do a lot of diligence around pricing and the yields that age they delivered to enter that market in that specific facility. So.

We work through both timing as well as size in pricing and try to make sure that we make the the right decision was to deliver the yields that we we expect first cells that are already shareholders are expecting another so.

We continue to balance out.

Hey, Thank you.

Our next question is from Nick dial down Moffettnathanson.

Please proceed with your question.

Hey, you know maybe first one for Steve.

You've had a lot of success landing on ramps for for call. It tier ones, Yes piece like Ed you asked and Microsoft you often times highlight that in your and your presentations I would you characterize your degree of success with call. It tier two or more specialized on ramps and do you feel like there are opportunities to grow that part of the business.

Yes, Thanks, Nick Yes, we have seen good good success, there we don't necessarily.

Publicly state those very often and maybe we should do more about obviously most of the cloud.

Business that happens, so there, especially public cloud probably 80% of it happens amongst four players. So that's where the real focuses and that's where I think a lot of our customers our focus but there was a lot of other services that are.

Delivering those same type of Onramps, then well I expect to see more of those in the future as.

That's connectivity and low latency demand sort of driving better performance out of those those platforms and customers are looking for.

Better performance over them, the those onramps, but deliver that performance will become even more important so.

We pursue all those are not in those two our platform into our open cloud exchange continues to be a focus and we've been successful, but I always like to see more.

Okay, good and.

I guess sort of back to the Bay area, you guys seem pretty confident you'll be able to release you know any space that you need to add at attractive rents can you comment on that in the context of the number of projects that are currently underway you by other by their market participants in the Bay area.

Likely to come online in the coming years.

So predicting when any or all those projects will come online is is.

Perfect science in that market, but.

We don't believe.

Any meaningful capacity is going to come online before you know this space is going to be released.

Okay got it thanks guys.

Our next question is from Michael Rollins Citi. Please proceed with your question.

Hi, good morning, so just.

A follow up to.

And the hyper scale, we see that you reprice downward in the quarter.

That's for what percent of leases are the right today might be subject showed reductions in the future either because of the deployment size, where that customer side just to try to ring fence.

Future risk over time on pricing within the portfolio.

And Michael where you maybe just clarify where are you asking on the entire portfolio or a market specifically.

Just a broader portfolio. Please.

Yes, so first of all the three leases, where we had the significant mark to market I'm not sure they would that.

Classified more scale and get Hyperscale.

And.

You know as as we look at our portfolio and Jeff can correct me if I'm wrong, we don't see a meaningful amount of that of customers in those circumstances, there's always going to be some.

Every quarter, we have some mark to markets that are negative and most of them are positive and so most quarters that that result is positive.

And we don't see anything in our portfolio would that would significantly change that.

Michael just two other things to think about measure looking forward related to that but if I just look at 2020.

And had to give you an estimate on where I think that mark to market would go I think it's going to be fairly consistent with maybe a little less than where we're going to finish. This year. As you probably saw were taken that we took it down to 1% to 2% Mark to market for the full year. So keep that am I, just think about 2020 and then the only other thing.

Have you look at as our lease expiration table, which you're familiar with on 15 I think it's important to just look at the pricing.

That we provide when those leases expire on a per square foot basis at least gives you some idea where those are as compared to where we're signing renewals and new and expansion leases just to give another data point to think about yeah and I. Just thought also just suffer a little bit of color which is.

As we become more mature as an organization and our customer base becomes more mature we just evaluate each customer as they become a up for renewal and ensure that we are market that we.

Look to retain them and look at what are other alternatives are in that market based off of available capacity and overall strength from the ban and so forth. So.

Overall, we don't see a major risk there, but we look at all those independently.

Thank you.

Our next question is from Mike Funk Bank of America. Please proceed with your question.

Yes. Thank you for taking the question I'm couple if I may.

You mentioned before the churn in costs or in some resources shall Pat to analyze the portfolio, hoping give some more some more detail all kind of on what your findings were maybe.

A ways that you found that you can better manage.

Manage clients I think you also mentioned that party analysis that you maybe saw some opportunity to actually expand the business you're done with existing customers. In addition to predicting when they might Sharon.

Sure just to give you a little bit of color on what we did in conjunction with a pretty broad team here within core sorry, we took a look at the last five years of data and our customers and just the behavior of those customers and work through any kind of correlation of growth as well as risk of churn and identified a small segment that might have some additional risk.

There.

I didnt appear to be met.

Material as Jeff mentioned in his remarks.

But we did identify it were allowed US to also just build a better view as to which customers are likely to grow with us as well and establish a a bit of a more formal and deeper process around how we engage with those customers to give them a better experience give us better visibility into the likelihood of them growing north churn in.

And make sure that we have the right resources around him to maximize that opportunity.

Great and then then one more quick one if I could you mentioned in thank you for the update.

You don't expect hit the double digit growth in 2020, I think you're kind of what a lot of changed.

Maybe just expand on that a bit on you know the different factors for that that have changed over the course for the past 12 months.

There are affecting your shift in view.

Yes, Mike I think you know the churn that we've talked about obviously contributed to that northern Virginia contributed to that and then a large part of what contributed to that is the timing associated with.

Our development completions is as we thought about.

One year ago from where we are.

A year ago from where we are today, we are obviously, making a lot of estimates and assumptions related to that and the timing has really been modified due to working through that development process, which as Paul as alluded to this year it can be challenging.

You manage it as best you can't but you just don't know the ultimate outcome. So that's that's contributing to a lot of it I think from our perspective as you think about 2020.

The back half of of 2021, you're seeing a lot of our development being completed some of which has been pre leased a lot, which we will still work on two to lease.

As well, we're focused on trying to exit 2020 at a higher growth rate given what we think we can accomplish in the next 12 to 15 months and that's our objective as we look out for from here, Mike I'd only add briefly that.

As we transition AVOD this phase of a lot of ground up development by the end of next year almost all of our new development. The vast majority of it will be just building out in new buildings, which is much easier to predict from a timing standpoint.

Sure and I think it's a good point now. Thank you guys are very much for the questions and see you guys in a few weeks that may right.

Thanks, Greg.

Our next question is from Jon Petersen at Jefferies. Please proceed with your question.

Great. Thanks, just maybe one more question on the Bay area, you mentioned, it's hard to predict what your competitors are going to do in terms of delivering products, but how are you guys thinking about the SB nine development and starting that in light of the the upcoming space you're gonna have over the next couple of years.

So the important thing is to get a shovel ready.

And were vigorously in the process of that and as we said it typically takes about 12 months give or take a couple of months to go from acquisition to entitlement.

And and permitting.

And by the way that's for a data center the size of SG nine for.

Larger.

Campuses, there's a much longer process to get all of the necessary environmental and power approvals.

We feel good about where we are in that process. So far it is going as we expected.

And.

You know therefore after about 12 months, we should be able to start construction and typically construction in that market takes about 12 months.

And we'll be able to make that decision on starting construction based on what we see in the market and what we see in.

The SB seven retenanting, but from what you know the view we have of it today is we're likely to start that construction when we have permits.

Okay. Thanks, that's good color and then.

A couple of your peers have achieved a investment grade ratings. This year I don't think that's something that you guys have aggressively pursued and so far but im curious what your thoughts sorry, there obviously, there's some interest expense savings biding Cyrus one on their call. Just now is talking about some customers and how that was an important.

Aspect in their underwriting of who to choose as a provider. So just curious any a any context or comments you might have around the possibility of gain investment grade rating and how that might position yet.

Yeah, John I, what I would just offer that has as you know and has to have seen nevertheless.

Three years or so we've accessed the private placement debt markets.

And.

Those go through a different ratings process, but as we sit here today and when we issued each of those instruments those were rated as investment grade and so.

We feel comfortable with the access to the capital, we have and and how it's been priced pricing on those instruments.

Has been probably you know tighter than what we would have seen what's without the public markets just given the lending.

And at the Investor group in those instruments so.

We're comfortable with where we are related to that obviously, we continue to operate the business in a manner to get that investment grade had more of a public level.

To the extent, we ever go out in the public bond market.

But thats, probably not going to happen here in the near term, but it's something we continue to watch and manage the business around.

So to what part is that a conversation with that with potential customers I'm looking at your.

Yeah, your balance sheet financial strength.

Sure Yeah, John just tell you that it's I've never seem to be an issue and my customer interactions I mean, if you look at our balance sheet and how were Levered were no one of the least Levered data center providers in the market. So our financial strength has actually been an asset to us not a hindrance yep. Okay makes sense. Thank you. Thanks John .

Our next question is from Robert Gutman Guggenheim Securities. Please proceed with your question.

Yeah. Thanks for taking my questions first last quarter, you mentioned slowing customer commitments I was wondering if you've seen that stabilized.

Secondly, on the legal expense, which I think you gave guidance nine cents for the year last time around 34 cents had been incurred and I'm not sure did you say in this call. Another penny had been incurred and could that at all extend into next year or is that.

Kind of yes, that's all there's two at nine sites and lastly, although it's too early for guidance for next year.

Given the expansion table.

On the elevated Capex. This year would you expect capex being relatively similar level next year.

Or as you mentioned second second phase and.

Second tier developments are less expensive should that bring capex down next year.

Rob It's Jeff Let me answer two of those then I'll pass it off to either Paul or steam to address the commencements.

As it relates to legal I did reference that we went through the third quarter as we expected and resolved our dispute and through the trial that we unfortunately had to go through.

The one cents of negative contribution to fall.

Keep in mind that was net of about a of the refund that we mentioned, which we believe today is a minimum a $3.1 million. So just keep that in mind.

So for the year, it's probably somewhere in the neighborhood of five to six cents as well, we'll expect it to be for 2019.

Maybe some more of that noise as we go through 20 as as most companies have there's always some legal issues out there that we're dealing with but it's not nearly to the magnitude we had it for this year.

As it relates to Capex.

Yeah, I would not expect our capex next year to be elevated like it is this year.

Paul alluded to want some of the reasons why but if you think about.

Yes, we've got about $265 million still to spend on everything that's under construction today some of that will be spent in the fourth quarter.

And if I had to give you a range today.

I'd say somewhere around 275 $300 million, maybe by next year.

Or I should say for next year, that's going to be largely department dependent upon leasing absorption et cetera, and the markets, but that gives you. Some idea where we think it will be going into next year.

Thanks, and then Commencements.

As far as Commencements are concerned we did see little bit of slowdown there from last year as far as Commencements are concerned we have seen that moderate but we've also seen does the deal sizes as I mentioned earlier in the complexity within enterprises as they roll out there their deployments to take a little bit longer. So that's part of the the calculus.

No this commencements and when they actually happened on how they turn up their environments. So.

But overall, we've seen that kind of stabilized.

Great. Thank you.

As a reminder, we're now conducting a question answer session if you'd like to ask your question. Please press star one on your telephone keypad.

One moment, please while we pull for questions.

Our next question is from Lucas Hardwick.

Green Street Advisors. Please proceed with your question.

Hey, guys. This is actually David on for lived it and I wanted ask about that pre leasing at L. Three and what drove that tenant to sign the lease so far in advance of delivery and.

Maybe if there are more attractive terms attached to that deal.

Then if you could just also talk about your he'll have expectations on that project. Obviously when you bring in late two and three online and prove back just wondering if there's been any change in expectation.

Are they like just give you a little bit of color I guess on the pre lease. Obviously, we are non disclosure is where the customer and can give you a whole lot of detail around the least itself or just probably just offer more color around the value of our our position in that market, which is pretty consistent with our position in other markets, which is.

Large scale capacity, that's right next to one of the most connector buildings on the planet and that is a unique offering a new unique value that as I mentioned in my earlier comments.

It is becoming more and more valued by more and more customers out. There. So you know that is I would just at the low latency scalable type of environment has proven to be.

Equals to a lot of customers in this case on a pretty large customer that was willing and good plan for the need of that capacity in the future. So I'm not sure I can give you a whole lot more color beyond that but.

Just gives you a little bit.

Thats I understand and then I guess, maybe with pre leasing in general and obviously that the Windows then shortened dramatically over the past few quarters, but is there any indication and maybe that to lengthen and again are ideally threeg scanning situation.

Well I think it's a you know its market by market right as there's more capacity you know given market like Virginia, there's less need for for customers to I'm, just trying to longer pre leases ahead of time in markets like la and pay.

They do so it's really market by market and also application by application or even customer by customer but.

Obviously with the tight inventory, that's not always Lincoln's on a behavior.

Okay Thats it thanks, yeah.

Our next question is from Richard Choe JP Morgan. Please proceed with your question.

Hi, I wanted to follow up on your analysis of your customers in terms of if they might churn or grow with you with the ones that you identified with that might churn how do you plan on addressing them do you expect them to.

Or kind of keep them or focus on growing customers in that same deployment to take or the spaces. They turned out.

Well of course, my my preference is always keep a customer so that's job one.

As Jeff mentioned, you know the numbers of those customers is very small I think we identified is roughly 2% overall and within that 2%. We expect to maintain hopefully all of them, but many of those are still under term and as we engaged with them and get deeper into their business models on how they are they operate them hopefully we will retire.

And as much or all of them as possible but.

No that the process just allowed us to identify them did a better operating model around how we engage with them and hopefully that will bear some fruit as a as some final outcome.

And then regarding the Bay area move.

Going to keep the churn elevated this nine to 11 or is that part of them below boasts over half the normal or just part of that.

Or is it too hard to say this far out.

Hi.

Good Yeah, no Richard I think if you think about our annual churn when we you back over the several years on average.

The range or any attach range anywhere from roughly seven a half to 8%.

We expect as I mentioned some of those to some of those items that were elevated this year to decrease for next year.

And if you back into that normal range.

The offset that might drive that a little bit higher is related to this bay area customer and that's probably going to add somewhere between 225 to 240 basis points in late 2020 and in late 2021.

I'd only add to what Jeff has said that churn of this type of market like that is generally.

A different quality of churn than the more widespread churn that is typically within our seven and have to 8% and again alluding to what we've mentioned earlier about having.

A lot of lead time to re tenant that space before maturity.

And also having a lot of contiguous space to accommodate a wider range of customers.

Great. Thank you.

Our next question is from Jonathan Atkin RBC. Please proceed with your question.

Yes, two follow ups. One if you can maybe talk about the trajectory of channel mix as a portion of the new logos.

In the most recent quarter and going forward and then on Elie three.

You know are you anticipating that that.

That knew that Preleased is going to.

Generates a lot of direct cross connect demand.

Because of the nature of the customers deployment or is it more likely be indirect over time as perhaps there's the enterprise hybrid.

Attachments to that initial.

Deployment.

Sure Hi, Jonathan to Steve I'm part of the channel mix is concerned we've been really pleased with the the channel growth over the year.

Last quarter, we saw that pick up even further if you look at their collective mix. It ended up being about 16% of our total and if you back out the larger scale lease that we mentioned earlier it ends up being about 32%.

Just a rough math, so that's a pretty good chunk and higher than what we've seen in our in prior years and that's been ramping throughout the year. So so that's good to see.

As far as the only three preleasing is concerned again not getting into too much of the details around that but I think you are looking for final comments around not only.

Deployment connecting through networks, that's going to drive from some interconnection, but also customers that will be connect into that will also drive you know in their hybrid used cases will drive further interconnection is accurate.

And when it when customers.

Takes advantage of dark fiber between.

I want to nearly two for instance is actually that counts as a cross connect that you monetize or do you, sometimes just let them by the fiber and then you're just collecting rent.

We typically count that as our cross connect in some cases, we've worked out specific arrangements for them to your I've dark fiber between the two but and 99% occasionally extra across America.

Thanks very much.

I will turn the call back to pause Eric for a few closing comments. Please go ahead.

Thanks I appreciate all the good questions before I move to my final comments I do want to invite you to our la La campus datacenter tour and networking event on November 11 at the beginning of re world come join in both our local and headquarters teams, who will be hosting the activities.

You can sign up with the Lake in our earnings press release or you can go directly to Coresites website to do that.

Im just close by reiterating we believe the market trends, we discussed today, we'll continue to reward us for creating a more proactive development and construction program.

And going forward, our job is to keep meeting campus expansion needs and continue growing the customer customer communities in our campuses.

I feel very confident in the team that we have here that are doing all the various aspects of that those activities.

And I feel very good working with them going forward. Thanks to everyone for joining us today and thank you for your interest in Coresite.

This concludes today's conference you may disconnect your lines at this time. Thank you for your participation.

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