Q2 2022 Cogent Communications Holdings Inc Earnings Call
Yeah.
Okay.
Welcome to the Cogent Communications Holdings second quarter, 2022 earnings conference call.
As a reminder, this conference call is being recorded and it will be available for replay at Www Cogent C. O Dot com a transcript of this conference call will be posted on the same website when it becomes available cogent summary of financial and operational results attached to its press release can be.
Deloitte it from the Cogent website.
As a reminder, all participants are in listen only mode. After the speaker's presentation, there will be a question and answer session.
To ask a question. During this session you will need to press star one one on your telephone you will hear an automated message advising you that your hand is waste.
And now I would like to turn the call over to Mr. Dave Schaeffer, Chairman and Chief Executive Officer of Cogent Communications Holdings.
Thank you very much and good afternoon to everyone welcome to our second quarter 2022 earnings Conference call.
Dave Shaffer approaches she yeah. It was.
On this afternoon's call is Tad weed, our chief financial Officer, hopefully you've had a chance to review our earnings press release. Our press release includes a number of historical quarterly metrics that we present in a consistent manner each quarter.
Now for a quick overview of our results.
We issued a $450 million unsecured 2027.
And we used a portion of that proceeds to redeem or 350 million euro unsecured notes that were due in 2024.
Received net proceeds from this offering of $71 million.
And we extended the average maturity of our debt by extinguishing. Our 2024 Euro notes, we obtained an economic gain of $26 million from the difference between the euro to dollar rate at the date of issuance as compared to the euro to dollar rate.
Date of settlement.
We also eliminated a restrictive covenant progression in our euro denominated notes that was for the quarter to one times EBITDA.
This restrictive covenant limits, our ability to transfer funds from our operating company to the holding company and therefore be available for both dividends and share buybacks.
As of June 30, our cash held at Cogent Holdings was 66.6 million and we had an additional 219.9 million that can now be transferred to holdings for a total of $286 5 million.
Well the unrestricted cash is available for either dividends or.
Or buybacks.
Sheldon our operating companies, whereas 283 3 million.
Our total consolidated cash and restricted cash was $349 8 million.
End of quarter.
Gross leverage ratio was 5.22 and our net leverage ratio was 3.7 out our consolidated leverage ratio as calculated under our notes indenture was slightly lower at five point to one headquarters.
Our total revenues and our Netcentric revenues were materially impacted by the negative foreign exchange movement during the quarter and a significant strengthening of the U S. Dollar in particular against the Euro.
For the quarter, we had sequential negative foreign exchange translation of $1.4 million and a negative year over year of $3 4 million the negative impact of foreign exchange on our revenues for the quarter third quarter is expected to be even more.
Significant.
Our total revenues at corporate revenues are materially impacted.
<unk> also by the change in USF, our Universal Service fund revenues in the quarter due to the reduction in the USF rate by the U S government.
For the quarter the negative impact of USF on our revenues was point.
<unk> 3 million and negative of one 4 million.
On a year over year basis.
Combined negative impact to our sequential revenues.
Foreign exchange and USF was one $7 million sequentially and $4.8 million negative impact on a year over year basis.
Our corporate business to can you used to be influenced by real estate activities in the central business districts of North American cities.
<unk> statistics.
Occluding the level of card swipes in buildings and leasing activities indicate that during the first half of 2020 to the real estate market and leasing activities in the central business districts in which we operate have seen some improvement but have not yet for sure.
They are pre pandemic levels.
Leasing activities across major marches and workers return to offices continue to improve albeit slowly.
On a U S GAAP basis, our corporate revenues declined by one 1%, which was partially attributable to the change in USF rates adjusting for the snacking the USF impact.
Corporate revenue decline for the quarter was 0.7 of 1% sequentially.
We continue to remain cautious in our outlook for our corporate revenues given the uncertainty of the economic environment and the continued lingering effects of the pandemic.
Our netcentric business continues to benefit from robust growth in video traffic and streaming for the quarter. Our traffic was up 3% sequentially and increased on a year over euro basis by 19%.
S GAAP basis, our Netcentric revenues grew by three tenths of a percent and grew on a year over year basis by 10, 2%.
Adjusting for foreign exchange on a constant currency basis, our netcentric revenues increased by 16, 2% on a year over year basis, and two 5% on a sequential basis.
On a U S GAAP basis, our second quarter total revenues sequentially declined by one half of 1% to $48 5 million and increased on a year over year basis by four tenths of a percent on a constant currency basis.
Quarterly revenues increased sequentially four tenths of a percent and increased on a year over year basis by two 7%.
On a constant currency basis, and also adjusting for the change and negative impact of USF revenues.
Our sequential quarterly revenues would've acquired six tenths of 1% sequentially at three 6% year over year.
<unk> equivalent to the rate of growth in the last quarter.
Our EBITDA margins this quarter increased to 39, 4%, which was presents the highest EBITDA margin in the company's history.
We're also encouraged by the fact that our Salesforce productivity numbers increased to 4.9 installed orders per full time equivalent rep per month up from 4.7 last quarter. This was actually the best.
Sales force productivity, we've seen since the fourth quarter of 2018.
During the quarter, we returned 41 9 million to our shareholders through our regular quarterly dividend, we did not purchase any stock during the quarter and have a total of 34 million available for buybacks under our program, which our board has authorized to continue through the year.
Iran or.
Our board of directors reflected on our strong cash flow generating capabilities as well as investment opportunities that the company has decided again to increase our quarterly dividend sequentially by two and a half cents per share in the quarter.
Therefore, raising our quarterly dividend from 88 cents per share to 95 cents per share. This increase represents the 14th consecutive sequential increase.
Regular quarterly dividends.
Our annual dividend growth rate today is 12, 4%.
Now for a few expectations against our long term guidance targets or targets are meant to be long term EBITDA annual margin expansion.
<unk> to be approximately 200 basis points a year.
Our targeted multi year constant currency growth rate.
Approximately 10% for revenue and EBITDA targets are meant to be multiyear targets.
Other than looking at a specific quarter and these targets assume that businesses will continue to return to their offices, albeit in a hybrid work model.
This is not intended to be quarterly or annual guidance.
Now I'd like Tad to read our Safe Harbor language.
Some additional details on our operations in the quarter following that well open the floor for questions and answers.
Thank you Dave and good morning, everyone. This earnings conference call includes forward looking statements. These forward looking statements are based upon our current intent belief and expectations.
These forward looking statements and all other statements that may be made on this call that are not historical facts are subject to a number of risks and uncertainties and actual results may differ materially. Please refer to our SEC filings for more information on the factors that could cause actual results to differ cogent undertakes no obligation to update or revise.
Our forward looking statements and if we use non-GAAP financial measures. During this call you'll find these reconciled to this call.
Corresponding GAAP measurement in our earnings releases, which are posted on our website at cogent co dot com.
Like many companies, we continue to be impacted by the COVID-19 pandemic and the accompanying responses by governments around the world are risk related to COVID-19, and other risks are described in more detail in our annual report on Form 10-K for 2021 and on our quarterly reports on form 10.
Q.
Some discussion on corporate and Netcentric revenue and corporate customer connections.
As a reminder, we analyze our revenues based upon network connection tight which is on net off net and noncore and we also analyze our revenues based upon customer type.
We classify all of our customers into two types netcentric and corporate customers, our corporate customers buy bandwidth from us in large multi tenant office buildings or in carrier neutral data centers and these customers are typically professional service firms financial service firms and educational institutions located.
Multi tenant office buildings or that connect to our network through our carrier neutral data center footprint.
Our netcentric customers buy a significant amount of amounts of bandwidth from us in carrier neutral data centers and includes streaming companies and content distribution service providers as well as access networks, who serve the consumers of content.
Our corporate business represented 57, 4% of our revenues this quarter.
And as Dave mentioned, our corporate revenue declined year over year by five 9% and was $85 2 million.
And declined sequentially by one 1%.
Decrease in the USF tax rate, which only applies to our corporate VPN connections at a point 3 million negative impact on our sequential corporate revenue growth.
And at one 4 million negative impact year over year.
USF tax rate changes quarterly and we cannot predict the impact of future USF tax rates on our revenues.
We had 45103 corporate connections.
Connections on our network at quarter end that was a sequential decline of <unk>, 6% in a year.
Year over year decline of one 5%.
Our netcentric business, which represented 42, 6% of our revenues for the quarter and despite very material FX headwinds had another solid quarter and grew by 3% to $63 3 million sequentially and year over year by 10, 2%.
The volatility in foreign exchange rates, primarily impacts our netcentric revenue and the impact was materially negative both sequentially and year over year.
On a constant currency basis, our net centric revenue increased year over year by 16, 2% and sequentially by two 5%.
We had 50674 netcentric customer connections on our network at quarter end, a sequential increase of two 4% and a 10% increase year over year.
Yes.
Comments on revenue by customer network type.
Our on net revenue was $112 million for the quarter, which was a sequential decrease of <unk>, 6% on a year over year increase of <unk>, 8%.
Our on net customer connections increased by <unk>, 8% sequentially to 82277, an increase by 4% year over year and we serve these on net customer connections on our network and our <unk>.
<unk> 3095 total on net multi tenant office and carrier neutral data center buildings.
Our off net revenue was $36 3 million for the quarter that was a sequential decrease of <unk>, 3% in a year over year decrease of one 1%.
Our off net revenues are impacted by incorporated the cost savings, we obtain from lower local loop prices into our pricing.
Introduction of these customers into our off net revenue base lowers our off net ARPA and impacts our revenues off net revenues.
Our off net customer connections increased sequentially by one 8% to 13160 in the year over year growth was six 2%, which was an increase from last quarter.
We ended the quarter.
Our off net customer connections and about 8000 off net buildings.
And these off net buildings are primarily located in North America.
Some comments on pricing consistent with our long term historical trends, our average price per megabit of our installed base and our new customer contracts decreased for the quarter.
The average price per megabit for our installed base declined sequentially by six 2% to <unk> 29 in.
And year over year by 18, 7% and that year over year.
<unk> was better than our historical rate of decline of 21, 5%.
The average price per megabit for our new customer contracts for the quarter decreased sequentially by 15% to 15 and the year over year by 15, 9%.
We continue to succeed in selling larger 100 gigabit connections and 400 gigabit connections in selected locations to our customers.
Selling more of these larger connections results in a change to our connection mix and has the effect of lowering our average price per megabit at a greater rate than some tax changes in our ARPA.
Regarding <unk>, our on net <unk> decreased primarily from the negative impact of foreign exchange and the negative impact of USF on our revenues.
Our off net <unk> continued to decline from the lower pricing, we obtained from our off net circuit vendors and again, we pass that savings on to our off net customers.
Our on net <unk>, which includes both corporate and Netcentric revenues declined sequentially by one 5% and was $455.
Our off net <unk>, which is predominantly corporate customers declined sequentially by two 2% to $927.
Comments on churn.
Our sequential quarterly churn rates for on net and off net connections will relatively stable. Our on net unit churn rate was 1% this quarter compared to <unk>, 9% last quarter and our off net churn rate was one 1% compared to 1% last quarter.
In order to reduce our customer turnover, we employ a dedicated sales group that works to retain customers who have indicated that they are considering terminating their service with us.
We may offer pricing discounts these customers in order to induce them to reverse their termination decision or to purchase additional service from us and or to extend the term of their contracts with us.
During the quarter certain of our Netcentric customers took advantage of our volume and contract term discounts and entered into long term contracts with us for over 2000, and 460 customer connections and that increased their revenue commitment to us by $23 3 million.
Some comments on the EBITDA and EBITDA margin.
We reconcile our EBITDA to our cash flow from operations in each of our quarterly press releases.
Seasonal factors that typically impact our EBITDA and our SG&A expenses include the resetting of payroll taxes in the United States at the beginning of the year annual cost of living or CPI increases.
Seasonal vacation periods, the timing and level of our audit and tax services and our annual benefit plan costs increases.
Our EBITDA increase increased sequentially by $1 3 million and also $1 3 million increase year over year and the impact of foreign exchange negatively impacted our EBITDA dollar growth year over year by $1 3 million.
So absent that it would've been $2 6 million year over year.
Our quarterly EBITDA margin increased sequentially by 110 basis points to 39, 4% an increase year over year by 70 basis points.
Some comments on earnings per share our basic and diluted income per share was <unk> 24 cents for the quarter.
Foreign exchange gains and losses on the translation of our Euro notes into dollars until we extinguished them on June 30 of this quarter.
Losses on the extinguishment of debt and the noncash changes in the valuation of our interest rate swap agreement.
Have been the primary contributors to the variability in our net income and consequently, our per share results.
Our foreign exchange gain on our Euro notes before they were retired was $23 5 million in this quarter. It was $8 million last quarter and was a loss of $5 3 million in the second quarter of last year.
We incurred a noncash charge of $7 5 million this quarter related to the increase in the estimated fair value of our interest rate swap agreement and that increase was $221 3 million last quarter.
We incurred a loss on the extinguishment of our Euro notes.
11, 9 million this quarter and there was a loss of $10 8 million when we extinguished our 'twenty two notes 2022 notes in the second quarter of last year.
Binding all these amounts.
That increased our net income this quarter by $4 2 million decreased our net income last quarter by $13 3 million and decreased our net income in the second quarter of last year by $16 1 million.
Further comments on foreign exchange.
Our revenue earned outside of the United States as reported in U S dollars and was approximately 25% our total quarterly revenues about 16% of our revenues. This quarter were based in Europe , and 8% of our revenues related to our Canadian Mexican Asia Pacific South America and in <unk>.
Africa operations.
As we experienced this quarter volatility in foreign currency exchange rates can materially impact our quarterly reported revenue and EBITDA results.
Impacts devaluation of our Euro notes until we extinguished those notes this quarter and also impacts our overall financial results as we translate foreign currency exchange amounts into U S dollars.
The foreign exchange impact on our revenue this quarter was materially negative and it's expected to be again materially negative for the third quarter.
The average euro to U S dollar rate so far this quarter is $1 two and the average Canadian dollar exchange rate of 77 cents.
If these average rates remain at their current levels for the remainder of our third quarter, we estimate that the FX conversion impact on our sequential quarterly revenues for the third quarter would be a negative $1 1 million in the year over year FX impact would be a negative $3 8 million.
We believe that our revenue and customer base is not highly concentrated and our top 25 customers represented about 6% of our revenues this quarter consistent with many quarters in the past.
Our quarterly capital expenditures decreased sequentially by four 6% to $17 3 million.
Supply chain uncertainty is causing us to shift our typical purchasing schedule for network equipment and these anticipatory investments are designed to ensure that we have satisfactory inventory levels of network equipment to accommodate our growth plans and customer needs.
Some comments on our finance leases and I are you leases.
Our finance lease <unk> obligations are for long term dark fiber leases and typically have initial terms of 15 to 20 years or longer and after the initial term include multiple renewal options.
Or are you finance lease obligations totaled $254 2 million at quarter end.
We have a very diverse set of <unk> suppliers, and we have <unk> contracts with a total of 301 different dark fiber suppliers.
Our finance lease principal payments decreased sequentially by 10, 7% to $5 2 million.
Some comments on cash and operating cash flow at.
At quarter end, our cash and cash equivalents and restricted cash totaled $349 8 million.
In our $37 8 million of restricted cash is tied to the estimated fair value of our interest rate swap agreement.
Our cash flow from operations. This quarter was $34 4 million, which was a decrease of $15 million from last quarter, but included in this quarter and part of that sequential decline was $16 8 million of semiannual interest payments on our note obligations that we made this quarter with no corresponding amount.
Last quarter.
Comments on that and ratios our total gross debt at par, including our finance argued lease obligations, reflecting the extinguishment of our euro notes and the issuance of our new $450 million 2027 notes was $1 2 billion at quarter end and our net debt was 850.
$4 4 million.
Our total gross debt to trailing last 12 months EBITDA as adjusted ratio was five two and our net debt ratio was three seven in the ratio as calculated under our indenture was slightly less at $5 two one.
Further comments on the swap.
We are a party to an interest rate swap agreement that modifies our fixed rate obligations associated with our $500 million of 2022 notes to a variable interest rate obligation. That's based on the secured overnight overnight financing rate or sofa.
We record the estimated fair value of the swap agreement at each reporting period, and we occur corresponding noncash gains or losses due to the changes in market interest rates.
At quarter end, the fair value of the swap agreement increased by $7 5 million from last quarter to a net liability of $37 8 million.
Under the swap we are required to maintain our restricted cash balance with the counterparty equal to the net liability.
The settlement payments under our swap agreement are made each November in May.
Under our initial settlement payment that was made in November of last year, we achieved a net interest savings of <unk> 6 million that was the period from the swap inception date in August of last year to the end of October .
Under the settlement payment made this may may 2022, we achieved a net cash savings of $1 2 million for the period from November one through April 30, So we've achieved a total cash savings on our swap agreements since inception of $1 8 million.
Lastly, some comments on bad debt and Dsos.
Our bad debt expense was only <unk>, 4% of our revenues for the quarter compared to 2% last quarter and 5% in the second quarter of last year, our days sales outstanding or DSO for worldwide accounts receivable was 22 days for the quarter.
Want to again, thank and recognize our worldwide billing and collection team members for continuing to do a fantastic job, serving our customers and collecting from our customers.
And now I will turn the call back over to Dave.
Thanks Ted.
To highlight some of the.
The strengths of our network, our customer base and our Salesforce.
We achieved excellent revenue growth in our Netcentric business on a year over year Netcentric revenue growth was 10, 2% and 16, 2% on a constant currency basis, we continue to be a direct beneficiary.
Increased over the top video and streaming traffic, particularly in international markets.
<unk> were connected to 1409 carrier neutral data centers in 53, cogent data centers more than any other carrier as measured by third party research.
Our coverage enables our netcentric customers to optimize our networks have reduce latency.
We expect to continue to widen our lead in this market as we plan to connect an additional 100 carrier neutral data centers to our network each year for the next several years.
At quarter's end, we were connected directly to 7685.
Economists systems or unique networks that comprise the internet.
This collection of ISP is telephone companies cable companies.
<unk> operators and regional carriers provide us access to the vast majority of the world's broadband subscribers and mobile phone users.
At quarter's end, we had a dedicated salesforce over 197 professionals focused solely on the Netcentric market.
We believe this group of professionals as the largest group of salespeople focused on this market sector.
Now for a few comments on our corporate business, we are seeing positive trends in our corporate business.
But in a work from home environment that has become established as part of People's normal work routines. We believe corporate customers will continue to upgrade their internet infrastructure, particularly supporting larger connections to improve the user experience.
<unk> of their remote workers.
Corporate customers are aggressively integrating some of these new applications to become part of their working environment, such as including video conferencing and all aspects of employees jobs.
This usage will require high bandwidth connections, both inside and outside of the premise.
A classic push towards lowering the cost of bandwidth and providing greater coverage has begun to boost corporate demand for a robust bidirectional symmetric one gig and now 10 gig connections are corporate customers are also increasing there.
Purchases of redundant connections and carrier neutral data centers to help support the AD hoc virtual private networks that they have remote workers knee now.
Now for a few comments on our Salesforce.
We continue to experience improvement, our salesforce productivity due to our training as well as managing out underperformers.
On a sequential basis, our total rep count gets slightly declined from 490 479 reps to 477 and our full time equivalents declined from 450 324.
449.
Both of these declines were more moderate than we've seen in other periods during the pandemic.
On a year over year basis, our total sales rep head count decreased by 88, and our full time equivalent rep.
Total decreased by 62.
Our Salesforce was working remotely for the majority of the first quarter and only returned to a cogent sales office.
March <unk>.
Our salesforce turnover numbers are improving they were five 9% per month that is a significant reduction from the $6 nine per month in the previous quarter and a peak during the pandemic of a turnover rate of eight seven.
Reps percentage of Salesforce per month at the peak.
The factors that contributed to the increase in our Salesforce productivity have been better training and an office attendance.
This 4.9 is a material improvement from the 4.7, we experience in Q1.
So in summary.
We remain optimistic about our unique position in serving small and medium businesses in the central business districts of major cities. We have a total of 826 multi tenant office buildings directly connected to our network supporting approximately 1 billion square feet of Rentable office.
Space.
We remain concerned about the slower pace of office leasing as well as tenants returning but we are seeing a number of key indicators that are showing signs of improvement whether it be workplace reentry.
Or declines in the rate of increase in office vacancy and a heightened level of newly signatures well.
These remain below pre pandemic levels, there are substantially improved over the past 18 months. We're encouraged that many tenants are indicating a return office in 2022, and therefore, the commercial office leasing market.
Should continue to improve.
We are optimistic with the combination of our sales teams being in office and the return to a more normalized environment for our customers. We believe this will benefit.
Our sales organization and allow us some tenants who have deferred or delayed network upgrade decisions.
The combination of establishing long term network architectures does incorporate a hybrid work policy. This is a positive for cogent.
As certain corporation select downsize, our office space requirements and multi tenanted office buildings. This actually provides an increased addressable market opportunity as those spaces begin to be re tenanted with new organizations.
We believe the benefit from this opportunity will allow us to sell more services to more tenants.
As Lan awards aggressively strive to fill the vacant office space and U S and Canada.
Towards the multi year constant currency growth rate remains 10% at our long term EBITDA margin expansion target is 200 basis points. This is in line with our long term historical averages but.
During the pandemic, we've been operating at about half of that level.
We expect to see it continue but unfortunately gradual improvement to these long term targets.
Have extended the average maturity of our debt eliminated restrictive covenants that were included in our Euro notes and as of June 30, we have substantially more cash available at holdings of a total of 286 5 million that is available.
To benefit our shareholders, while we did not repurchase any stock in the quarter and have $34 million remaining we felt that the decision of the board took to increase our dividend.
For yet a 14th consecutive quarter.
$2 95 per share for the quarter, representing a 12, 4% growth rate in our dividend is consistent with our belief that our business is continuing to grow our consistent dividend increases demonstrate the long term.
Optimism, we have in our business now I'd like to open the floor for questions.
Yes.
Great. Thank you very much at this time, we will conduct question and answer session. As a reminder to ask a question you will need to press star one one on your telephone and wait for your name to be announced.
I will just standby, while we compile the Q&A roster.
Our first question comes from the line of Gregory Williams with Cowen Gregory go ahead.
Great. Thanks for taking my questions.
Just on corporate DB, you've noted in the past that you would want to get to the two two and a 5% sequential growth target has talked about targets in the next few quarters.
That changed.
And so now, noting a little bit concerned about office leasing trends.
And the second question is just on.
Your appetite for that.
An increase in that so I understand with this debt raise you did here while it was nice to be paying in euro as you know.
Now it would be funded at a much higher rate I understand that you are lifting some of those restricted debt covenants with those.
Covenants removed or at least a lot more flexible.
I was hoping you could give us sort of a new range or a new target of how high you would be comfortable taking your debt levels up now that youre at two seven times.
Yes, So first of all let me touch on the corporate growth rate.
We have seen I think three factors impact.
Corporate activity and central business district at the beginning of the pandemic. We saw many businesses shutter and just go out of business and that increased the vacancy rate in those buildings and had a material negative impact on our core.
That growth rate.
The second thing that then occurred is for the remaining tenants in those buildings. They were unwilling to make architectural decisions around what their networks would look like post pandemic in part because they had no visibility to the end of the.
Pandemic to third factor, which has been probably the most difficult to fully understand has been the fact that some tenants and customers at the end of their leases are electing to continue to vacate property. So while the increase.
<unk> and vacancy has abated, we have not yet seen a and version and a reduction in vacancy.
I think for us to get back to a two 5% sequential growth rate in corporate we will have to see net absorption of central business District.
Vacancy rates and tenants reoccupy signed those leases we.
We are much less focused on the dollar value of those leases or the duration. Those are very important factors for landlords, while we have seen a slowdown in the rate of degradation, we have not yet seen that net absorption number turn positive.
Because of that.
While we were hoping that in the first the second half of this year, we would get back to that positive rate. We don't have complete visibility to that we are seeing signs of improvement we appear to be kind of at a plateau with declines and corporate being similar.
Until last quarter, but not yet improving so I think at minimum we're still several quarters away.
We are encouraged by the leading indicators, which are tors card swipes and some leases, but there is still more work to be done to get.
The buildings that we serve back to their historical occupancy rate.
Turning over now to your debt question.
We have a stated net leverage range that includes all of that inclusive of our capital leases of two and a half to three and a half times EBITDA today, we're over that range at 3.7, we don't feel that that is an alarming number.
At this point, it's big part of the consideration that the board had in making its decision to yet again raised the dividend by two and a half cents.
We also understand that over a long period the growth in EBITDA has to match the growth and the dividend.
We have historically grown EBITDA faster than we've grown the dividend and since the pandemic has grown slower we continue to monitor the situation. We are committed to our dividend growth policy.
And we think while we'll be above that three and a half for several more quarters. The board is comfortable with the level. We're at and has not yet changed an official range and we do think we'll revert back into that three and a half are below number.
Over the next year or so.
Got it thanks, Dave.
Hey, Thanks, Craig.
Thank you we will queue up our next question.
Our next question is by Frank Louthan with Raymond James.
Hey, guys, it's Rob one for Frank.
So you know.
Obviously <unk> you just talk to the outlook for corporate with respect to the right.
Vacancies in the re absorption beyond that.
Just just pivoting to internet traffic growth.
What the traffic growth looked like during the quarter you might have addressed this earlier.
And you know is there any reason that internet traffic volumes might potentially be able to return.
Were they were like about a year or two ago like what's the outlook on traffic growth going forward. Thanks.
Well, we're actually very encouraged by the traffic growth that we saw traditionally the summer months on a sequential basis are slower than the winter months, we grew sequentially in the second quarter by 3% and our year over year growth actually accelerated to 19%.
These are very positive signs.
Seeing that growth come mostly from international markets. We saw our Netcentric revenues were a direct result of this growth grew at 10, 2% year over year on a stated basis.
And 16.2 on.
On a constant currency basis, so far above the long term average growth rate of 9% I know that.
Many investors were concerned because some of our content delivery customers had called out slower traffic growth as part of the reason why their businesses were not performing as well as some faster as expected we have over 200 content to <unk>.
<unk> networks and thousands of proprietary networks.
Continuing to use our network so we feel pretty good in.
<unk> been actually pleasantly surprised to the upside for the past several quarters on how well our netcentric business has performed and we actually expect this.
This outperformance to continue at least for the foreseeable future.
Got it very helpful. Thanks.
Thanks, Rob.
Thank you.
Our next speaker, our next question and answer.
Is from Nick del Deo with Moffett Nathan go ahead Nick.
Hey, good afternoon, guys. Thanks for taking my questions.
Yes, Dave a couple of questions ago. You noted that you think you need to see vacancy rates declined to get corporate growth back to normal if I think back to when your corporate unit was growing at much faster rates.
You can see rates bounced around.
I don't think that was ever really thought of as a key driver of the business I think the driver was improving your share of connections in the building users.
This is the way you tie corporate grows to vacancy trends almost makes it sound like share gains arent part of the story.
I mean shouldn't you be able to grow the corporate business, even if vacancy rates stay flat by share gains and maybe just help me understand that disconnect or if I'm interpreting something incorrectly.
So share gains are our primary way of growing our corporate business you are absolutely correct.
Ever our addressable market.
Frank by over 10% when the average vacancy rate went from 6% to 18% where it has to date nationwide and CBD.
Some cities actually have CBD vacancy rates of nearly 40% those are probably the most extreme.
<unk> San Francisco is probably the worst example, but I think with that level of vacancy in the building. Many tenants are just reluctant to make a switch they don't know if theyre going to stay or not are they going to move to a different building or are they going to downsize and I think.
We just need to see a stable environment and one that's maybe a little more.
Normal what we've historically seen.
I do believe that most of cogent growth will come from capturing incremental customers and the building, but we've always stated that there are three windows in which we can win customers that does not change when.
A customer moves ended up building when the customer's it infrastructure is re architected.
When a customer experiences a failure from their incumbent provider. These three factors remain the key reasons why people will consider a new internet provider and I think with a lack of new.
Tenants coming in and these vacancy rates.
Lot of tenants or just for Washington to make that architectural decision.
Things have improved there are definitely not where they were during the pandemic.
At its peak, but we're still not back to normal and you know.
I'm not trying to make excuses, but the reality is our growth rate in corporate is materially below our long term average and I think it's because some of the existing tenants are also not willing to commit figuring they may take advantage of the software market.
Lower their rental rates either by renegotiating, where they're at we're migrating to another building the market for office space has dramatically changed during the pandemic going from a sellers market to a buyers market and I think because of.
That many tenants are reluctant to take a multiyear commitment for new bandwidth.
Okay. Okay. That's helpful.
On the Netcentric side, obviously, you've talked about Netcentric returning to a more normal pace for some time. So it's not surprising that its tapering off if I look at the sequential constant currency growth rate, yes. It did step down quite a bit from what we've seen over last year and a half.
Obviously, that's volatile its hard to forecast should we think of this as a more.
Normal sequential growth rate going forward.
That's up and down and take longer to taper to a.
To your.
Target growth rate.
Well I think it will definitely have some sequential volatility and typically we see a pick up in traffic growth and therefore, a corresponding netcentric revenue in the latter part of the third quarter throughout.
Our fourth quarter and throughout the first quarter, and then slowing down again in the second quarter.
And that's been a historic trend.
Both pre pandemic and during the pandemic, we've said that over time, we expect our netcentric growth to converge to about a 9% annualized rate.
We're obviously at least 50% above that today.
Hub.
It's a little hard for us to tell how much more of the internationalization of streaming will continue because many of the markets are still relatively nascent.
We've seen I think a lot.
Evel of maturity in the U S and Canada for streaming that doesn't mean, it's not growing it just means the growth rate has slowed materially.
Same trend has not happened in the developing world.
And.
If it continues to follow the same trajectory as the U S and Canada that we probably have three or four years of elevated growth, but again, we just don't have enough data to be comfortable to tell investors expect 15% not 9% growth for the next three.
Three to four years.
Okay. Thank you Dave.
Thanks, Nick.
Thank you.
Our next question.
From the line of Timothy Horan with Oppenheimer.
Thanks, guys.
Customers are kind of frozen not really upgrading our change in their networks, because they might move but theyre not really moving at the churn is relatively low.
And new tenants arent really coming in yet.
<unk>.
You think the recession kind of extends out this frozen period.
Maybe just last two or three years more another 12 18 months or what gives you the confidence with the dividend increase that this will reverse in a few more quarters.
Yeah, so two different points. So the first one airs.
In previous recessions with the exception of the financial crisis.
Oh nine.
We were not materially impacted in terms of our corporate growth rate.
We typically see is.
Tenants used recessions to upgrade their offices at the same or lower rent by migrating from being C buildings and to a buildings and we've experienced that in our customer base and if you look at third party data.
Whether it's J O L. Costar Cushman <unk> Wakefield for previous recessions Thats always been the case now if we have a recession. It is most likely not going to be as impactful as 2008 2009.
And for that reason, we don't believe that the rate of economic growth is really material to our corporate growth rate.
It's really the aggressiveness of the landlords to lower the rent and the most expensive buildings to reduce the vacancy rates and they typically have had more flexibility in doing that in previous recessions. We think that will continue we also think that.
At the lower end of the market, we're continuing to see supply be converted to residential show up.
I think part of the reason why even though the world is migrated mostly to a hybrid work environment.
All that we're seeing the rate of vacancies plateau that doesn't mean, it's a V. It means it looks more like a U but it has at least stabilize it.
In terms of the dividend.
We feel very comfortable and raising two and a half sense today.
Got the outperformance of our Netcentric business we.
We have the expansion in margins and the best EBITDA performance in our company's history.
And as a percentage of our business that is netcentric has ticked up throughout the pandemic.
From roughly 40% of total revenues going into the pandemic to today being approximately 47% of revenues.
So as long as that increases their share and it continues to increase at a outpaced rate we feel comfortable in our ability to generate more cash as I stated earlier.
Absolutely necessary that our dividend growth rate.
And our EBITDA growth rate eventually converge, we think that with the high percentage of on net and our Netcentric business will continue to see further margin expansion and acceleration in EBITDA growth even.
Without a material re acceleration in corporate on net we do think corporate on net and off net for corporate customers will improve but we also are realistic that the.
Rate of improvement is not as aggressive as we would've thought even two or three quarters ago.
Very good just to other maybe briefly are you seeing any change in pricing and in the corporate side.
<unk> ticked up a lot in.
Prices have been down a lot have you seen any change in trajectory there.
So we live in the industry that inflation forgot we are in the business of selling a deflationary service.
Todd mentioned the rate of decline in the average price per megabit actually did moderate some.
Think part of that is the fact that more of those megabit sold have tended to be in more expensive markets outside of the developed world.
I think has distorted that a little bit.
We are a huge beneficiary of substantial improvements and technology, both wave division multiplexing and optically interfaced routers, we think those trend lines will continue for the foreseeable future our equipment vendors support.
That prognosis, so we feel pretty good.
On the operation side clearly.
Our expenses are rising just like all other businesses, we have been able to expand margins, even though we have passed on some of those inflationary pressures haven't been able to.
Increase our employee salaries remain competitive in the market and obviously take advantage of market conditions for office rents for other services that we buy.
We are also fortunate that most of our power purchases are fixed and are not susceptible to wild market fluctuations.
We have had some increases in power and we've been able to pass those on to our Colo customers. So all in all we think that inflation will not impact our ability to grow our EBITA.
Thank you.
Thanks Kim.
Okay.
Thank you.
Our next question comes from the line of Walter Piecyk with light shed partners.
Hey, Dave you mentioned in the prepared comments.
Hi, there and hapag.
And in the prepared comments.
About the long term deals on that track.
When those companies under new long term deal, we're asking for price reductions, but that also means some good visibility in terms of the growth in that like a some kind of qualitative content.
Comments excuse me.
You know the kind.
The puts and takes on those long term deal.
Yes, sure wall and by the way you can go back to transcripts for the past decade, and we have that same section and every one of them and we quantitatively give how many customers and what their contract value increase was so a netcentric customer.
<unk> is accustomed to buying services on a metered basis, we offer discounts for fixed commitment and fixed term. So when a customer will typically do is by a number of ports.
They will typically commit to 50, 60%.
Total pork capacity.
And they will be running at.
That level.
As time goes on they may either or add additional ports.
Or they may start to run over their committed capacity in which case they didn't pay a premium for a higher price per megabit.
Customers understand that market prices have declined at about 23% per year for like volumes, because most netcentric customers enter into a three year contract to get the lowest initial price.
Usually about halfway through that contract the customer is experiencing two things one they haven't gotten a reduction in price and two they're utilizing more than theyre committed capacity and are paying the penalty rate on that first tranche.
Okay.
What they will typically do at that point has come back to us say will sign a new three year contract recast. The 18 months to 36 months will take more ports more total commitment and a lower price.
We expect that to happen routinely with netcentric customers.
And we then factor that in to their next three year contract commitment that is the most common pattern for these re pricings I would just add for us to accept that new commitments. So a customer is pricing.
Asking for a change in term the total contract value for the new contracts must be greater than the remainder on the original contract for us to accept that.
There's a second carbon or which is the sales person only gets a commission.
If there is an increase in the monthly spend so there's kind of both in internal control mechanism and our customer control mechanism.
Thank you for that.
I often go back to <unk> question, because I think your response to that was a bit more cautious than you know.
And then kind of the outlook that you provided really kind of a pandemic started.
And then I want to kind of.
Put that in the context.
Long term youre expecting EBITDA growth and long term at some point I don't know what the timeframe.
I think you were specific about it but youre going to converge.
EBITDA growth rate with the dividend growth rate, which obviously.
Pacing at the moment isn't as you already highlighted.
I mean.
<unk> got something wrong in the past, obviously everyone's got something wrong in terms of understanding when things.
Don't go.
So given how cautious you weren't and NEC.
We don't really know the timeframe of when those kind of converge.
It seems like there's a possibility.
That you can't get leverage down below <unk>.
But that aside you are willing to stick with that I would point to.
Youre not thinking about like.
For euro and the benchmark.
The bogie is for five at what point does the board Fay.
We're tired of waiting for this convergence.
For our four two or four five or five or seven like Theres got to be a number are you willing to take leverage the nighttime.
So.
Three parts to your question three answers first of all I do not have a crystal ball for return to normality. When the pandemic started if you would ask me I thought everybody was kind of go home for three or four weeks and we're going to come back.
Everything would be just like it was before the pandemic.
Now two and a quarter years later, we're still living in a different world, which has experienced supply chain issues price distortions and a significant change and the employer employee died.
<unk> I think the pendulum swung from employers, having all the power to employees, having much more power as a result of the pandemic and as a result of that swing a hybrid work environment has become much more common.
<unk>.
Now again I can't predict is that a permanent change or transitory change.
What I do know is all of these have taken longer to revert back to historical norms than we had.
Expected.
As a result, I have been very clear, we expect our corporate business has bottomed out I think we've proven that and I think our expectations were correct.
You know on the previous earnings call.
Pretty clear that I said I thought we were two to three quarters away from return to normality.
While another quarter is past, we've got additional data points.
And while we see things.
Improving as leading indicators. The results are about the same so as a result of that I think the pace of return to a normal work environment is slower than what I would have predicted.
Because of that and really tie into next question. The reality is we need customers to feel they can make architectural decisions.
Absolutely when we're in front of a prospect when 50% of our ordinate proposals that we are sure, but you got to get the customer to be willing to focus on it and know what their architecture is going to be and you know.
I can just go back to kind of the linear sure of euro firm and how you've transitioned through the pandemic.
And maybe you will transition back to an office, maybe you want <unk>.
And you play that out across literally tens of thousands hundreds of thousands of tenants in our buildings and we have seen a more cautious environment.
Now we are winning person says we are gaining customers.
And our sales efficacy is improving piece are all positive signs.
We've also been fortunate that our netcentric business, there's quite honestly outperformed the expectations we've had.
Going in to the pandemic and frame longer period of time that business actually has the attribute of being more profitable on an incremental dollar of contribution basis, because the percentage that is on net is much higher.
All of this put together shows that we are going to see a growth in EBITDA. If we go back and look at Cogent average since going public we grew top line, a 15 or a 10% and EBITDA rough.
Roughly 15% throughout that period.
Today, we're growing top line at three 5% three six this quarter and EBITDA at about 5% those were materially slower.
We do think it is improving and that's why we have the confidence in growing our dividend as we thought about the dividend going forward. We continue to monitor it but we have substantial liquidity on the balance sheet substantial Inc.
Incremental borrowing capacity.
And we feel that we have a lot of confidence in our ability to continue to growth the dividend now.
Now the pace of that growth may vary it is not today, but again, we're going to monitor the situation as we go for it but we feel very comfortable in this business producing more free cash flow each quarter.
The last part of my question was.
Is there a point, where your leverage ratio to where we.
Slower substantially or just don't grow the dividend.
Everything you said I understand there's a new boyfriend or comprehend.
What do you think the time Costar a return, but we know what we've.
We've got greater uncertainty than ever.
We're right now in terms of the economy.
Inflation among a host of different things I mean, I could argue also that the conversion of all.
Our residential arguably more than just small market.
My Kid has been paid for rental then the cost of construction to put new residential and New York City on a lot of these studies. So this is an uncertain future.
The question is.
At what point does the board.
What kind of levers as well.
I mean, there might be we can agree with 10 times leverage is.
Q2 higher leverage so we can agree that there is a number I'm just trying to get a spectrum.
What is the number.
Okay, well I can definitely tell.
Kelly.
Okay.
Well, our indentures actually have limits, we cannot have more than six times gross leverage and four times secured leverage social contractual terms that are built into our indentures, we are very far from both of them.
Those limits in terms of the businesses ability to maintain.
Elevated levels of leverage it really is a question of the cost of rented capital of debt.
Art get capital costs remain substantially below our competitors and substantially below historic averages.
So I don't think the board has a hard number saying.
The day, we hit.
A specific number or we're going to slow the dividend growth down but it is something that we think about every single board meeting we consider it and we look at the totality. We also know as Todd pointed out there's $350 million on our back.
<unk> sheet, and we've been pretty clear, we only need to keep 60 or 70 million to run the business.
So we have a lot of cash to essentially return, it's now unencumbered through the modification of our covenants.
And for the foreseeable future, we continue to expect to return excess cash.
This is Marshall I can't give you a hard number one doesn't make sense that's helpful. There.
Alright, thank you.
Thanks, Paul.
Thank you.
We'll queue and our next question.
Our next question.
It comes from David Barden with Bank of America.
Hey, guys. Thanks, so much.
While it's been giving me a lot of crap on Twitter, but that was a good question.
So I guess I've got a couple.
Number one would be.
On the kind of.
Sales force hiring.
And salesforce productivity.
I guess.
Are we looking at are we redlining productivity firm from what Salesforce, we have left.
And how is your success rate in recruitment I remember when you guys went fully back into the office you actually tighter.
Coming back into the office as being one of the problems.
But you had with retention and so I'd like to kind of talk about that a little bit.
Second question would be.
Yeah.
Loosen.
Not loosen lumen and AT&T are both kind of stated that.
Wholesale prices have been rising for them and it's been a problem for them and people have been kind of hunting for whom the principal beneficiary of.
That has been and maybe.
Maybe that's cogent I don't know, but I would love to hear your view on that and then the last one.
If I could would be.
The risk of extending the call.
While.
Would be.
<unk>.
As a prominent short seller investors come out with a short thesis on the data center industry.
Which by the transitive property would have.
Negative implications for <unk>.
Cogent and its connectivity prospects in the data center industry.
Mike I'm confident youre aware, what that is and I'd love to hear your thoughts on on the likelihood of the near term disintermediation of the data center industry by by the cloud providers.
Yeah, and I'm here to answer the questions I really appreciate everyone.
Staying weight and listening to our answers and I feel that it's important that we do answering them. So let me take the.
Salesforce one first the rate of decline in our Salesforce.
Substantially moderate it so from Q4 to Q1, we reduced salesforce by 12 from Q2 to Q3, our Q Q1 to Q2, we only lost two net salespeople.
Have actually.
Since the beginning of the pandemic hired at record rates, we have no shortage of applicants we have had peak hiring bonds of over 60, new salespeople and a 600 or 500 person.
Quota bearing sales force 650 total organization.
Yes, there are individuals who don't like working in an office there are individuals who don't like being accelerated.
And each of those represents some of the reason for higher turnover and most of the reason is lower productivity.
To me it was extremely encouraging that we've returned to nearly our 15 year average of productivity.
So we have not done this well and salesforce productivity since Q4 of 2018, so long before the beginning of the pandemic.
Now our turnover rate.
Did kick up materially from an average of around 5% five 2% of the Salesforce all the way up to eight.
8.7.
It declined last quarter to six nine and declined again this quarter.
We're very much encouraged by that we think.
Size of the Salesforce will grow from this point it basically flattened and is growing we're not seeing any issues in terms of salesforce in terms of productivity.
This is a combination of having the people in the office.
Learning from all of the training that we experimented with in a remote environment.
And an improving environment.
So we're pretty encouraged by our salesforce efficacy and its ability to continue to drive incremental revenue growth without an increase subscriber acquisition cost.
Now to your question about wholesale pricing.
I'll be honest I heard that comment from.
One of the large carriers and I didn't quite believe it.
We buy off net circuits, we have almost 13000.
Off net.
Customers and we buy from 90 different suppliers in almost every instance, we have at least two providers. We only sell off net services that are delivered over fiber and we have seen a <unk>.
Six or 7% compounded rate of reduction and the price for those wholesale loops and we think that will continue particularly as there has been a host of fiber overbuild projects funded both by private equity as well as.
<unk> incumbent carriers.
So one we're not <unk>.
Asia, our prices to the customers, we sell on wholesale in Netcentric and two we're experiencing lower prices as we by.
Now to your last question about Mr. <unk> short thesis on data centers.
While we serve.
<unk> hundred and 50 data centers operated by several hundred different carriers.
We're in more equal access than any other carrier in a world where more interactions we're in more core sites.
More and more.
<unk> Terrace pretty much every multiple site data center, operator, where in the past for charge if not all of their facilities.
We ourselves have a very limited data center footprint. It is typically associated with the sales office and our network equipment.
The reason why we have chosen not to spend capital and build into that market I know data center valuations have been very robust.
Data centers have not for the most part there are some limited exceptions demonstrated a consistent ROI say above their cost of capital and they blame that are perpetual growth. There is absolutely hyper scale cloud substitution there's tech.
The logical obsolescence theres oversupply and there's competition.
Now we're agnostic.
We have seen as many data centers that we serve.
Quarterly go out of business, we'd probably online five or six data centers every single corner. What's ironic. However is usually after we unwind it the next quarter, we relied it we don't remove our fiber and a new operator comes in it takes over that facility.
So I can't comment on the profitability long term at the data center operators, what I do know is there is fundamental industrial demand for space and power.
Condition facilities that have access directly to the Internet. That's what we sell and whoever operates set I don't really care I care about the customers in that facility and that part of our business has experienced.
Growth beyond our normal trend line, so sorry, netcentric business and we felt comfortable it's probably going to continue to grow longer than we had anticipated at the beginning of the pandemic.
Yeah.
That's great. Thanks, Dave.
Hey, Thanks, David.
Thank you.
Our next speaker. Our next question comes from the line of Michael Rollins with Citi.
Okay.
Hi, Thanks for taking the question.
One follow up and one question. So a follow up would be Dave you did mentioned the goal to build a 100 data centers annually for the next few years.
What's the implications for Capex on that type of a build plan.
And then secondly on the subject of tax.
Where are you today in terms of the tax position and when do you start paying material cash taxes and.
Does the <unk>.
Most tax changes.
In D C have any influence on that timing or your expectations. Thanks.
Yeah. So let me take the data center one first.
We have a pretty robust funnel of actual building addresses in facilities that are under construction, both by existing operators and new operators and feel that the 100 a year. It is very realistic it's about the pace we did last year.
We are probably going to do less multi tenant office buildings not be cost of market.
It's not recovering quickly enough because even before the pandemic are MTO b expansion had materially slowed as we had reached the targeted buildings that we wanted to know there are several new buildings coming on in major markets and we will go to them but.
Top MTO be footprint expansion.
Has slowed over the past year from about 7% to about 2% a year as measured by square footage. The data center number has been pretty consistent with that we think that our total cap ex will be in line with last year.
NIM down on a sequential basis, both in terms of straight Capex and principal payments on capital leases.
We think that in our Capex guidance the hard data centers for a year are very achievable without a change in capex now.
Now to your tax question.
Cogent still has slightly over $1 billion of Nols. However.
Only about $40 million of those Nols are in the U S. The majority of those Nols are in international markets with the origin concentration and our holding company and Luxembourg that holds many of our European subsidiaries.
We believe we will be subject to a 15% minimum tax due to the BD calculation independent of a new statutory 15%.
Minimal.
So over the next year or two we will become a cash taxpayer, but we believe we will be able to utilize our international Nols not paying taxes outside of the U S. But then being effectively caught by the.
Foreign indirect tax.
<unk> capture.
Capture at 15%. So I think there's some factors kind of model cogent in out years.
That's a pretty good outcome, it's not perfect, but it's a.
Surely better than paying at a 21% or higher rate.
Thanks.
Thanks, Mike.
Thank you.
Now for our final question.
Okay.
Our final question comes from the line of Brandon Isbell from K Bcm.
Your line is now open.
Hey, Thanks, it's Evan on for Brandon.
Do you think you could talk a little bit about your thoughts around the share buybacks and maybe what conditions would need to exist for you to start thinking about.
Thanks.
Yeah sure so.
It first starts with our return to cap return of capital question and I think that's the question out Walt was focused on price as a dividend question, but it's really a question about are we committed to continuing to return increasing amounts of cap.
All the shareholders the answer is unequivocally yes.
Rate of growth of that is something that we will evaluate but we are absolutely committed to returning increasing amounts now the mechanism of return.
Today is mostly dividends.
Impart because we have not.
In the level of volatility that told us suspending the dividend and using a buyback was more effective we have been able to classify the majority of our dividend as a return of capital therefore getting a tax.
<unk> result for the dividend recipient or as a result of that we have decided to use dividends more than buybacks.
We consider that every quarter.
We've returned $1 1 billion in total.
Fully two thirds of that has been through buybacks.
And about 850 of that has been through dividends.
I think at this point it will probably remain dividend focused but again, we will evaluate each and every quarter based on market conditions.
Great. Thanks.
Thanks.
Thank you no more questions I would like to turn it back over to Dave for.
Closing remarks.
Well. Thank you all very much for staying late we normally do this in the morning, but we.
Needed to accommodate some schedule. So hopefully this was not too inconvenient, we thank everyone for their attention and we are available to do any follow up calls take care talk to you soon bye bye.
Thank you for your participation in today's conference. This does conclude the program you may now disconnect.
Okay.
Okay.
Yeah.
Okay anybody still on.
Yeah.
The conference will begin shortly to raise your hand during Q&A you can dial star one one.
[music].
Okay.
Yes.
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