Q2 2019 Earnings Call
Greetings and welcome to Coresite second quarter 2019 earnings call.
At this time all participants are in a listen only mode.
A question and answer session will follow the formal presentation.
If anyone should require operator assistance during the conference. Please press star zero on your telephone keypad.
As a reminder, this conference call is being recorded.
I would now like to turn the conference over to your host Carl Jorgensen, Vice President of Investor Relations and corporate Communications. Please go ahead Carl.
Thank you good morning, welcome to Coresite second quarter 2019 earnings Conference call I'm joined here today by Paul during President and CEO Miley Kaiser Senior Vice President of sales and Jeff Finnin, Chief Financial Officer before we begin I would like to remind everyone that our remarks on today's call may include forward looking statements as defined by the federal securities laws, including statements addressing projections plans or future expectations.
These statements are subject to a number of risks and uncertainties that could cause actual results or facts to differ materially from such statements for a variety of reasons, we assume no obligation to update these forward looking statements and give no assurance that the expectations will be attained detailed information about these risk is included in our filings with the SEC.
Also on the call today, we will refer to certain non-GAAP financial measures such as funds from operations Reconciliations of these non-GAAP financial measures are available in the supplemental information. This part of the full earnings release, which can be accessed on the Investor Relations page.
On our website at Coresite Dot Com now I will turn the call over to Paul.
Good morning, and thank you for joining US today I will review, our second quarter financial highlights recap several significant second quarter events and provide an update on our development pipeline.
First I'd like to welcome to todays call Miley Kaiser who is substituting for Steve to cover our sales results and our sales strategy and execution, Steve is enjoying some well deserved family vacation time.
Jeff will then take you through our financial results in financing activities and provide an updated guidance overview.
Turning to our financial highlights for the quarter, we grew operating revenues, 4.7% year over year delivered a $1.27 of the FFO per share grew adjusted EBITDA of 2.4% year over year and achieved a record quarter for sales with 27.3 million of annualized rent, including solid retail scale and new logo sales and an unusually strong quarter for hyperscale sales all of which Miley will discuss in more detail.
Next I would like to highlight several significant events some of which we shared on our call in April .
First our pre lease at SB, eight and Santa Clara for two of the three phases at that data center with expected in service timing of late Q3 for phase one and did late Q4 for phase two.
Second closing on RSV nod property purchase for a future Datacenter addition to our Santa Clara campus third closing the financing of senior notes totaling $400 million and fourth receiving permits for our la three data center, leading to construction starting in early July .
In addition to the SB eight as benign to Delhi three milestones. We also made substantial progress on the rest of our development pipeline. We completed construction at L.A. won a datacenter expansion of 17000 square feet and also leased nearly 30% of the computer room to a large network and content provider.
We completed construction of our last phase of L.A. too and commenced the pre lease of this data center expansion for the entire 28000 square feet.
We completed construction of the Athree phase one b a purpose built data center in Reston, Virginia 51000 square feet.
We advanced our ground up construction of CHF two in Chicago, and we began preconstruction activities for SV nine including initiation of the environmental permitting and other early stage processes.
Summing up we placed into service about a 100000 square feet this quarter of which a third is leased we have another 323000 square feet under construction of which we expect nearly 40% or 128000 square feet to be completed this year.
So we continue to make steady progress delivering on our commitment to provide more capacity in our markets and more large contiguous spaces to sell to customers I am grateful for the efforts of our colleagues in all of these areas.
I also want to share a modest but important accomplishment related to our energy efficiency improvements. We were recently recognized by the Los Angeles Department of water and power within energy efficiency rebate of $3 million for the efficiency gains we achieved in 2018 based on our chiller plant replacement Adelie too.
Sustainability is an important ongoing goal for core site and we are pleased with both our energy savings and this award.
As we look forward 2019 continues to be a transition year for us we entered the year with leasable capacity at lower levels than historical norms, and we plan to end 2019, with leasable capacity and quickly developable inventory at the higher levels, we experienced in previous years.
As I shared last quarter to ensure a successful transition. Our 2019 priorities include translating new construction in the more bundled sales acquiring additional new customer logos, bringing new connectivity and customer service products online to drive sales and to delivering great customer experiences and operational efficiencies.
Im pleased that we are executing effectively on these priorities that said we have much work ahead of us, including ongoing sales execution for our existing and anticipated new capacity.
Leasing at VA, Dthree, which is going well for retail that continues to be challenged by the supply and pricing for large scale and hyper scale in that market.
Keeping construction on a good pace at CH to estimate and deli, three and obtaining entitlements power and permits for SV nine.
We are making important progress on the sales front, taking into account market dynamics Hyperscale and large scale leasing will continue to be lumpy as it has throughout our history as a company, but is currently challenging in Virginia.
Outside Virginia, our market seem to be reasonably balanced in terms of supply and demand for our offerings.
We are pleased with the quarter and all that we've accomplished the secular demand trends appear to be strong. However, the cyclical headwinds for northern Virginia scale, and Hyperscale leasing and increased churn will affect the second half of the year, Jeff will discuss these items further in his comments.
We've seen cycles of demand pick up quickly in the past.
And this time, we are ready to pounce with available data center space and shovel ready product.
I have confidence in our teams, which are working diligently to address all of these activities and challenges and look forward to contain.
Moving to our sales for the quarter, we had new and expansion sales of $27.3 million of annualized GAAP rent. These sales reflected a record quarter for Coresite, where we delivered solid core retail co location sales and a large pre lease at SB eight in addition to other scale leasing.
Turning to a few highlights on our sales are $27.3 million of annualized GAAP rent for new and expansion sales included $5.3 million of core retail co location sales and $22 million of hyper scale and scale leasing, including our pre lease at SB eight.
These new sales included 143000, net rentable square feet, reflecting an average annualized GAAP rate of $191 per square foot and strong sales of new logos.
Our $5.3 million of annualized GAAP rent for core retail Colocation sales included solid pricing on a per kilowatt basis compared to our trailing 12 month average.
Looking at new logos, we won 43, new logos compared to 30 last quarter.
These new logo additions reflect the highest number of quarterly additions in five quarters include quality, new brand names that enrich our ecosystem and represent total annual rent nearly double our trailing 12 month average. We believe these new logo should help drive future growth and remain a focus and priority for us.
Renewals were another key aspect of our leasing during the second quarter, our customer renewals included annualized GAAP rent of $24.1 million, reflecting our growing base of business and strong customer relationships.
Our renewals represented rent growth of 2.6% on a cash basis and 7.4% on a GAAP basis, but included as anticipated higher than historical churn of 2.4%.
Next I'll talk more about our sales strategy and execution.
I've been with Coresite seven years and in my current role as the head of sales for about a year.
I can best describe our teams sales focus as what we refer to as the community effect simply put we bring customers together to support their digital transformations and access to new technology, such as new cloud applications like advanced and specialized development platforms analytics or machine learning add storage and cloud adjacent storage security as a service and other SaaS offerings and content delivery platform.
We have a strong ecosystem as we are positioned at the network edge, which creates an ongoing cycle of attracting large cloud and network providers and enterprise customers, who need to interconnect their workloads and care about performance cost and latency and need our proximity to serve their teams and customers with very low latency.
To build on our ecosystem, we are providing our customers tools to drive opportunities for them to navigate their digital transformations.
For some customers. This means providing access to solutions like the Coresite open cloud exchange, which provides an efficient flexible and scalable SDN product to interact with multiple cloud providers and Coresites SDN inner site capabilities between markets that provide convenient options for wind realignment as well as easy access to multiple cloud regions from a single market.
For other customers. It may mean, introducing them to our solution partners, which provide them access to important solution providers to speed and streamline their transition to hybrid cloud architecture, and empower them to manage and interconnect those related applications and workloads.
As the market changes and shifts we are changing also we continue to refine our go to market strategy for ongoing growth in community density constantly working to attract new customers that value our ecosystem.
Serving new applications as they are created.
And supporting new ways to serve the network edge as new technology and customer needs become more defined.
As Paul mentioned, new capacity is coming online, which is critical to the customer opportunities. We are pursuing as we continue to demonstrate to our customers that we have the capacity for them to grow with us.
In summary, while we've had a strong quarter. We believe we can continue to improve in retail new logo and scale sales while constantly building on the community effect in our markets and periodically achieving complimentary hyperscale sale.
With that I'll hand, the call over to Jeff.
Thanks, Mike and Hello, everyone.
Today, I will review our financial results for the quarter.
Provide an overview of our April and July financing activities and discuss our financial guidance.
Turning to our detailed results for the quarter.
Our total operating revenues were $142.9 million for the quarter, which increased to 4.7% year over year and 2.9% sequentially.
Operating revenues consisted of $121.1 million of rental power in related revenue.
$18.8 million of interconnection revenue and $3 million of office light industrial and other revenue.
Interconnection revenue increased 7.8% year over year and 2% sequentially.
AFFO was $1.27 per diluted share, which decreased one cents per share year over year and increased two cents per share sequentially.
Adjusted EBITDA of $76.7 million grew 2.4% year over year and 2.9% sequentially.
Adjusted EBITDA margin was 53.6% for the quarter consistent with our trailing 12 month average of 53.8%.
Sales and marketing expense totaled $5.8 million for the quarter or 4% of total operating revenues.
General and administrative expense totaled $12.3 million for the quarter or 8.6% of total operating revenues, including elevated legal expenses, adding approximately four cents per share in cost this quarter that I will address further related to the impact on full year guidance.
We commenced 65000 net rentable square feet of new and expansion leases for the quarter at an annualized GAAP rent of $176 per square foot, which represented $10.2 million of annualized GAAP rent.
Moving to datacenter sales backlog.
As of June Thirtyth, the annualized GAAP rent from signed but not yet commenced leases was $26.1 million or $29.5 million on a cash basis.
We expect most of the GAAP backlog to commence in the next two quarters.
Turning to our property operations and development.
Same store monthly recurring revenue per cabinet equivalent for the quarter was $1575.
Reflecting an increase of 6.1% year over year, and an increase of 1.2% sequentially.
Q2 same store turnkey data center occupancy was 88.9%.
A decrease of 60 basis points year over year, and a decrease of 30 basis points sequentially, which offsets some of the same store growth in EMR per cabinet equivalent.
We have 323000 square feet of data center capacity under development with a $191 million of cost incurred to date of estimated total cost of $528 million or $337 million of remaining cost to complete these projects.
This includes all three phases of SB eight as well as Les three phase one.
For more details on our development projects. Please see page 19 of our supplemental information.
Capitalized interest was $3.6 million for the quarter and represented approximately 26% of total interest.
Moving to our balance sheet.
To recap and update our financing activities from our last call on April 17th we entered into a note purchase agreement and agreed to issue and sell in aggregate principal amount of $200 million of 4.11% series a senior notes due April 2026.
And $200 million of 4.31% series B Senior notes due April 2029.
And initial aggregate principal amount of $325 million was issued on April 17, with the remaining $75 million issued July 17th.
The proceeds from the notes were used to pay down outstanding amounts on the revolving portion of our senior unsecured credit facility.
This provides us liquidity of $456 million, which includes credit available under the revolving credit facility senior notes and cash as of quarter end.
That will be used primarily to fund the estimated $337 million of remaining current development pipeline cost.
Turning to our financial guidance.
As Paul mentioned, we've identified some headwinds in the last half of the year as it relates to sales in northern Virginia and elevated levels of churn.
For sales this primarily relates to scale and Hyperscale leasing in Virginia.
Where supply and demand dynamics are having a negative impact on pricing.
And therefore, we are expecting more retail signings, which support our expected returns for our business.
And we are hopeful supply and demand dynamics for larger scale leasing will improve over the coming year.
We also have recently identified additional churn for the last half of the year, resulting from customers terminating in end of life application or line of business or for some going out of business and deployments to the cloud which will be elevated the next few months compared to historical trends.
Fortunately the elevated churn appears to support edge cloud provider demand on our campuses.
We also have two other impacts to our financial guidance that are either event related or a reflection of timing.
The first is our legal expense, which has increased in the elevators are gionee costs this quarter.
We anticipate incurring additional cost for a total full year negative impact of nine cents per share.
Another impact includes the timing of our Commencements.
We've had strong sales this year and we're focused on leveraging that momentum into the second half of 2019.
However, we believe the timing of slower than expected sales Commencements will impact this year's operating results.
As a result, we are revising our guidance to reflect these items. Our 2019 guidance range is revised as follows.
Total operating revenues of $570 million to $580 million with a midpoint of $575 million.
Net income of $98 million to $103 million with a midpoint of $100.5 million.
Adjusted EBITDA of $306 million to $311 million with a midpoint of $308.5 million.
Net income per common diluted share of $2.04 to $2.10 with a midpoint of $2.07.
AFFO per diluted common share in LP units of $5.07 to $5.13 per share within midpoint of $5.10.
Annual rental churn rate of 9% to 11% with a midpoint of 10%.
This revised guidance reflects a decrease in FFO per share of 16 cents at the midpoint largely attributable to nine cents per share related to legal costs and seven cents per share due to northern Virginia sales elevated churn and timing of Commencements.
Please see page 23 of our supplemental earnings information for other guidance changes.
In closing, we made significant progress in the second quarter, including reporting a record sales quarter, achieving substantial property development progress and closing and successful financing.
As we move into the last half of 2019, the team will be working to continue our momentum.
Despite the headwinds of churn and northern Virginia scale leasing, which we will work through our business fundamentals are strong and we will continue to focus on our goal to accelerate growth in 2020 and beyond.
That concludes our prepared remarks, operator, we would now like to open the call for questions.
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Our first question comes from the line of Jordan Sadler with Keybanc. Please proceed with your question.
Thank you and.
Good morning out there.
So first I wanted to just address the changes in the guidance if I could dig in a little bit more.
The churn elevated again.
For the second consecutive quarter can you can you sort of identify with the specific drivers were.
That caused you to increase it.
Again sort of 90 days later, Jeff I mean, I think you probably had a decent handle.
90 days ago, which caused you to increase the guidance there and then here. We are 90 days later with an incremental.
Sizable Bob.
At the midpoint at least to the overall churn rate and I'm, just wondered wondering what's driving that especially.
Seven months into the year.
Yeah, Good morning, Jordan.
Let me see if I can give you some color related to your question and hopefully it helps explain the increases and what we're seeing inside the portfolio but.
Just.
Little bit more broadly speaking if you look at our churn over the last several years.
Our average has been right around 7.3%.
If you look at the bankruptcy that we talked about last quarter plus another small one we've got debt increases that average churn by about a 120 basis points.
So all in there you are at about 8.5% and what we've seen since that.
As we continue to look forward is we've got some additional customers who are looking to migrate some portion of their IP architecture.
Into the cloud and that element of what is really resulting in the increase this for this particular guidance is the incremental amount, we're seeing and looking at for the rest of this year.
And so that explains the timing associated with it I think we are optimistic that we retain a larger share than what we are of their of their deployments, but knowing what we know today, we felt more comfortable increasing that got us to the levels of which we have for guidance.
So.
I guess I would characterize that.
Reason as sort of a secular driver I mean, something that you guys have been experiencing and seeing.
Broadly you and your peers.
For a couple of years.
Is there are you baking in some incremental room for additional.
Potential customers to migrate to the cloud or how do you what's with the sort of outsized migration to the cloud to sort of happening in the back half is just one large customer.
No. It's it's a handful of customers.
That are driving that and most of that as Paul alluded to in his we're experiencing in three markets two of those markets are on the West coast.
And so it is a I'd say four or five customers that.
Our really elevating that.
That churn.
And again, we just we're estimating would be able to retain more of their architecture than ultimately we think we're going to.
You know I think to your to your comment is to it being a more broad secular driver I think inside our portfolio. It hasn't been as big of a driver as what we're seeing this year and so we're we're spending more and more time is getting our arms around what that looks looks like in the next.
One to three years, so we can better understand that dynamic and make sure. We're obviously communicating that as best as we can we hope this is elevated for a single year and not a sign of trend to calm, but thats something we got to spend some more time on.
Jordan as Paul I would just add two things.
There is a little bit of good news element to this churn we're experiencing because from what we can see pretty much all of it is going into the edge cloud cases that were hosting.
And so further cements the demand in our data centers for that activity.
Secondly, as you know there's always different use cases that increase and then some side and I think we're sort of at the tail end of the cycle of some of those historical use cases that are subsiding. So.
Yes, I would expect and Jeff and his team will dig into it a much more.
Extensively over the next couple of months, but I would expect that this will be a crest of churn for us and we'll see it's subsiding.
In the coming couple of years.
Okay that'd be good.
In terms of the timing of the churn is it I mean I was surprised that it's a couple of hundred basis point increase since we're already past June 30.
But as it turned out to have these guys churned out of the portfolio already or is this sort of a third quarter fourth quarter event.
No I mean, the churn we experienced in the second quarter was right in line with what we had originally communicated.
Jordan so.
We had expected the the Q3 churn to be elevated again at that 2.5% I would say based upon what we know today I would expect that churn in the third quarter to be somewhere between three and 3.5%.
And then back to around 2.5% in the fourth quarter.
Okay last question is just on legal costs.
Your elevated what's this what is the source of these and then could you give us the breakout again of I just missed it in your prepared remarks, how much the impact was in this quarter.
So Jordan.
This is ongoing litigation so there's not a whole lot we can talk about.
I can tell you it involves a dispute with a landlord in one of our smaller markets that started with the construction issue.
There's the normal disclosure in our 10-Q, which will be following soon.
And as with all ongoing litigation, there's just not a whole lot I should comment on beyond that to clarify the numbers, though it affected the second quarter four cents a share and we expect the full year impact and obviously, it's not perfectly predictable but to be about nine cents a share full year, including the four cents.
And the and just to add one more level just for your modeling purposes of it helps the incremental five cents for the year will be weighted towards the third quarter.
Okay I'll yield the floor. Thanks, guys.
You bet. Thanks Darren.
Our next question comes from the line of Eric revenues and with Stifel. Please proceed with your question.
Yes. Thanks.
Maybe just circling back on that I know you'd given the outlook for AFFO per share and there was this 16 cents sort of impact and nine is coming from legal.
You gave sort of three other reasons for the other seven cents.
If you had to sort of wait those three no over northern Virginia or the churn or.
Timing of Commencements, how would you say that will those will be weighted in terms of those seven cents for the remainder.
Yeah, Good morning, Eric.
Yes, let me just go to some of the.
Obviously, the public comments I said earlier in my prepared script, but.
You are correct I did say that the nine cents.
Attributable the nine of the 16 was attributable to.
To the legal costs and.
The incremental seven is largely attributable to the turn the market conditions in northern Virginia, and the timing Commencements. Those three are relatively weighted equally to be quite honest.
And just so that you also have again for just full transparency given everything we've disclosed around our guidance. There are some offsetting expense savings some of it in ESG in a and in operating expenses.
But it's largely attributed to those two items that that we highlighted in those three items weighted relatively equal.
Great.
Okay, well then.
In terms of maybe just ask in another way you know that the top line.
You know there was a $10 million impact.
Would you say sort of the the primary driver there is it more of the.
In churn that thats happened or is it.
The the impact of slowness that you're seeing in northern Virginia or is there something else and then I have just one more question.
Yes, yes, I know that that as you look at it from a topline perspective, those three have contributed to that $10 million reduction fairly equally at the topline there is some additional.
Power cost revenue was also but the larger ones of the three that I mentioned weighted relatively equally.
Okay great.
And then I guess in in thinking of the set up for next year and expectations for you know sort of accelerated growth and I'd say return to low double digits at this point.
Where do you see foresee sort of the biggest risk to hitting this target as we stand today.
Well, it's a great question, Eric I think obviously.
Based upon what we've just talked about in some of those items influencing 2019 is providing some headwinds and those headwinds will impact 2020 .
And I think we've obviously got a lot of work ahead of us.
Related to the back half of this year in terms of the highest risk.
I think ultimately.
You know cells and churn are probably the two I would elevate to the highest risk.
You know, obviously, Steve Milan the team work hard on the sales perspective, and we are doing what we can to minimize the churn, but I would say those are the two that I would say elevate the highest Eric we have a we have a lot of opportunity between now and year end, we have a lot of capacity.
So we definitely have the raw materials to have a very strong we'll have a we'll have a good growth year next year, regardless, but the strength of it will depend on how well we can capitalize on the raw materials, we have in place.
Great Thanks for that.
Okay.
Our next question comes from the line of Colby Synesael with Cowen and company. Please proceed with your question.
Great. Thank you for taking my questions.
I guess just to be specific do you still expect to achieve low double digit growth in 2020 or is that now.
Less likely and I guess as part of that.
Are you still wanting to.
Do a scale lease for SD eight phase three years that.
Something that you're looking to do the retailers and then.
My other question.
How much are you recognizing termination fees.
Or expecting to recognize and termination fees considering all the churn.
In 2019, including specifically what you just occurred maybe in the second quarter to the extent that its material. Thanks.
So.
Obviously, it's a little bit more challenging with the headwinds in northern Virginia, and not expecting as much scale and hyperscale sales out of Northern Virginia as we as we did six to nine months ago.
The hit double digit growth.
But it is still possible to do that for 2020, and then you carry that out with the capacity we have in the markets that we have.
In the.
The much increased number of markets in which we have capacity and it should be more sustainable thereafter.
It's still possible, it's going to be a harder lift to get there.
For the second half of your question.
SD eight educated.
Oh on SB eight yes, SB eight we will build that out as our traditional colo floor.
Colby as you know we are a flexible on all of our floors, they're designed to where we can accommodate both scale small hyperscale deployments as well as retail deployments and as we always do we will pursue it on a broad range and make decisions based on.
Customer ecosystem fit and pricing.
Colby the to address your third question as it relates to termination fee.
We don't have anything material in the second quarter regarding termination fees. However.
I think what you're referencing is probably the bankruptcy.
The customer that on the previous bankruptcy, we talked about and I and I think it's important to just give you a little bit of color around that.
When we went through we basically negotiated a lease modification with that particular customer.
And as part of that process. We drove overall economics that would include some level of a termination fee, but it doesn't get called that just because of the way gets accounted for.
But just so you're aware.
In the second quarter, we had a penny a share from that particular customer and we expect another penny a share in the third quarter from that particular customer before they vacate that particular computer room.
Great. Thank you.
You bet.
[noise].
Our next question comes from the line of Robert Gutman with Guggenheim Securities. Please proceed with your question.
Thanks for taking the questions.
First in the scale leasing of $22 million did that include any other hyperscale or hyper block or small deals. Besides SB eight one and two.
Secondly, you mentioned 3 million dollar energy efficiency rebate and I think in the quarter a footnote. It said you realise 1.7, so does that mean the balance gets recognized over the next two quarters.
And.
More broadly how should we expect recurring capex to play out in the second half of the year in light of that an ordinary spending.
Yes, Hi, Robert this is mainly ties there just to answer your first question on the scale leasing and.
And Hyperscale there was other scali thing in addition to the Hyperscale.
That made up the 22 million and I'll, let Jeff answer.
You had a question for you Robert.
Paul alluded to in his prepared remarks that we actually receive $3 million, which is ultimately the cash that we received.
And ultimately we allocated the $3 million pro rata to both recurring Capex and expansion Capex based upon the way we spent those dollars on the original project and so.
When we were spending the money a portion of what we spent was included in recurring Capex and then related to that portion that was already built and then another portion was expansion capex that related to the expansion of that particular data center and so the 1.7 million just reflects the pro rata portion of that allocated to recurring Capex initially and Thats whats, giving you that.
That decrease in recurring Capex for the second quarter does that explain what you were asking.
Sure, but I think it was also recurring capex in the first quarter was elevated and now it's actually a positive number with the rebate what should we expect it to be in the next several quarters with no rate.
Yes, Thats great question. So I think if you just ignore the rebate in the second quarter, we would have had about $1 million of recurring capex in the second quarter, and obviously thats down just a little bit from the first weve typically been forecasting somewhere between $1 million to $2 million per quarter of recurring Capex for 2019, and that's what I would expect in the third and fourth quarter of this year.
Thanks, one more if I may.
In the Commencements that were delayed.
Was that a function of.
Of.
The opening times like construction or was it a function of customer accommodation moving in later.
I think it really reflects.
The.
You'd have more new customers in this hybrid cloud type of architecture and they they tend to take longer to make some of the decisions they need to make to set up their space and even sometimes.
Finalize the sales order for for what they they need they just they have more decisions taking place then customers digital customers two three years ago would have had.
Got it thank you very much.
I'm, sorry, but I was just going to say this is mainly Kaiser and I would just add that that it really is a lot of times customer dependent on their timing and.
And putting together all of that architecture in the design and if it's a migration versus a new project all of those commencements can change.
So we're we're really at the mercy of their timing and requirement.
Thank you very much.
You bet. Thanks Robert.
Our next question comes from the line of Nick del Deo with Moffettnathanson. Please proceed with your question.
Hey, Thanks, taking my questions.
Yes, first cloud just be putting some pressure on the on the MSP business model early spores them to evolve some.
In a general sense do you think Msps and system integrators are as attractive customers for Coresite is that used to be or would you describe them as higher risk now.
I.
What I alluded earlier too.
Churn, we're having and traditional business models.
I think we've seen over the last four or five years kind of steady bleed off of.
MSP.
You know hosting.
Private some private cloud options that are not specifically geared to a hybrid cloud architecture.
You know.
So I think a lot of our churn this year is related to some of those companies come into their final reckoning.
So.
So yeah, and we don't see those are Molly you can do we see those types of customers much in our funnel. These days well I think that we see him in a new form so we definitely do quite a bit of business with ESI and MSP, but they're a smaller deployment and they're more aggregating hybrid cloud architecture, and then helping to manage that hybrid cloud architecture. So traditionally they used to purchase larger deployments and try to build out their own private cloud now what we're seeing those customers do and provide additional services on top of a hybrid cloud architecture and deploying those services in our data center.
Got it can you share what what portion of revenue they represent.
Yeah, if you.
I think if you do a deep dive just depending on how you categorize it for us it gets about 2% of our embedded base here today.
Okay, Thats pretty small.
Okay. That's helpful and then one last one.
Yeah would you consider the northern Virginia market soft enough, that's any scale leasing renewals, you're going to see in coming years are likely to face pricing pressure that you havent historically seen.
Depends on how quickly the market recovers I don't think we have any coming up for a couple of years.
But if market conditions persist today, we probably would have.
No negative mark to market on subscale leasing.
Okay. Thank you all.
You bet. Thanks, Nick.
Our next question comes from the line of John Atkin with RBC. Please proceed with your question.
Thanks got a couple I'll just ask them upfront and you can answer it and then whatever order, but when you sale to close on a scale deal opportunity is it because of term.
Is it price is it products just curious to get a little color on deals that maybe came close but didn't quite a.
Finish it.
Secondly, the new on the new logos I'm interested in kind of any qualitative color around the cross connect intensity of the new logos are bringing in and also is that primarily coming from channel or is that coming from the the efforts of your direct salespeople terms at the new logos and then on the churn I was wondering if you could help us localize where on the West coast is it some of the older inventory outside of Santa Clara, San Jose and what Peter in Northern California or is it.
Senator campus that you were seeing some of the churn and an L.A. is it is it to alameda or one more sure. Thanks very much.
So let me, let me try to address everything except the new logos and I'll, let Molly address those.
Obviously I get involved in every.
Large scale deal and every one of them that we have missed on.
I believe were just 100% pricing.
Where the pricing was below.
What we thought was the right.
Tradeoff.
And I understand that if our retail sales in north and it was at all nor the value of our retail sales in northern Virginia, we're not going as well as they were we'd probably be more tempted to take some of this.
Discounted pricing, but we're doing pretty well on the retail bucket and that continues to seem to gather momentum so.
Right now I think we can continue to pursue that strategy for leasing up the athree.
Until better opportunities come along on the scale side.
In terms of the churn.
Again most of this is a most of the churn was in the Spender campus in Santa Clara and in Alameda and L.A. too.
And.
The obviously the Boston.
Yes so.
Molly you want to talk about the new logos sure. So I think you know as we look to target new logos and bring on new customers were looking for customers that value, our ecosystem and our community effect and in with that and those deployments that are looking to be closer to the edge and interconnect their workloads with our service providers in our cloud on ramps.
So we see that that brings in more cross connect activity. So we feel pretty good about the new customers that we've brought on and the mix of customers. They are actually about.
55% of the the new logos were coming from enterprise and Ah. The rest were coming from networking cloud and those enterprises are looking to interconnect with several cloud providers and and network providers and services. So we expect to see a growth in cross connect with those customers coming on board.
And then lastly is there any anyway to kind of characterize the close rate that youve seen is it same close rate, but just kind of a smaller deal funnel late stage or.
What was kind of some of the dynamics that you've seen and then going forward. How would you characterize the late stage funnel is being added at average levels above average below average says we are as we sit here today.
So I think that that the good news is we are improving our win ratio that is one of our top priorities priorities for 2019. In addition to improving sales productivity and increasing the funnel of new opportunities. So both are critical and I think that we've seen a an increase in the quality of of new logos and opportunities in our funnel, where we're trending in the right direction with our improved when right and again, our focus is on bringing in more and more customers that value our ecosystem and need access to cloud on ramps and the interconnection support that we provide in our data centers.
Thank you.
Our next question comes from the line of Nate course, it with.
Aaron Berg. Please proceed with your question.
Hi, Thanks for taking my question I, just wanted to get a sense of how you're thinking about yield.
The development pipeline as you do more scale leasing and do you think you'll be able to maintain that 12% to 16% that you quote or.
Should we expect that range to kind of migrate lower the more scale that you do.
So they are really depends on the market.
Being very candid about Virginia.
If we did a significant amount of scale and be a three we would at today's pricing not hit that 12% threshold.
On the other side of the coast, you know that with a as long as we have an appropriate mix.
Retail, we can still do a significant amount of scale and hit our underwriting hurdles and I believe that will be true for L.A. and Chicago based on the interest we're seeing in the early stages of construction time will tell on those.
But in those in those markets right now the supply demand balance seems to be much more healthy than it is in northern Virginia.
Okay, and then just longer term like what percentage of your overall portfolio should we expect to be.
Scale.
Like is there a certain threshold you don't want to go over or is it just.
Customer demand really it's really hard to give you any guidelines on that because it's going to vary based on a pricing and supply and demand in each market. So I think that is that is going to be a derivative variable as opposed to an outright target.
Okay, and then just the land bank are there any other purchases like Catsix nine that are in the works.
You know, what's the amount of capital you're allocating towards kind of land purchases.
I think it'll be very modest going forward, we do want to you know Weve got SV nine in Santa Clara and very glad to have that we will.
Down the road, probably need to acquire additional pieces of land in Los Angeles and Chicago.
But we are good for a long time in northern Virginia, a were good for a long time and the northeast and obviously a we're in good shape in Santa Clara.
Okay. So there's no new markets on the horizon anytime soon.
Oh, we keep looking at I'll be honest the more we look at new markets or the more grateful I am to be in the markets that we're in I think relative to our size.
And based on the quality of our markets in terms of supply and demand and the other drivers of demand I think you know share per share we have more opportunity for growth.
Or relative to our size and as far as I can tell a among our peers. So you know time will tell if that's an accurate prediction, but I feel pretty good about where we are right now.
Okay. That's helpful. Thanks, guys.
Thanks, Nick.
Our next question comes from the line of Frank Loosen with Raymond James. Please proceed with your question.
Great. Thank you so talk to us a little bit about the pace of some of the hyper scale deals that youve got and when can we expect to see those kind of layer in and start billing and I apologize. If you already addressed this but how are you. How do you feel about funding for that do you are you need to raise additional capital.
Over the next 12 18 months to define those.
Hey, good morning, Frank.
Well I think we did reference it but I do let me just make sure you get caught what we said is when you look at yes, the eight phase one and phase two which is really what is the majority of our backlog today.
We've got six megawatts of that 12 coming online late Q3, and the remainder coming on late Q4, and so that's the timing associated with that particular.
Deployment.
On the in terms of liquidity.
You know, we've got about $335 million of remaining spanned based on what's under construction today and on our liquidity. We ended the quarter at somewhere right around $460 million. So we've got plenty of liquidity to take care of what's under construction today. So I don't see any needs for additional liquidity before year end.
But we it is something we look at and we always want to be watching the markets to ultimately see if you know we want to do something based upon pricing and where markets are headed but as I look at it today I don't think theres a need to do anything and we'll obviously probably have through the first half of next year without any real issues on the liquidity perspective.
Okay and then thank you and then just follow up on <unk>. The the question. So SB eight feet phase one and two in Q3 and four what's sort of the revenue ramp. We should expect is this with the Hyperscale deal is to say give me a longer revenue ramp for it the full a full billing run rate or will they be sort of in that that's full rate in those me up by the end of each of those quarters.
I got to be a little careful here just due to the confidentiality we have with the customer, but just to help you out there. There's there is not a significant ramp there I'd look at it fairly reasonable in terms of when it's coming online late Q3 and like Q4.
Okay, Great. That's very helpful. Thank you.
You bet.
Our next question comes from the line of Orin Klein with BMO capital markets. Please proceed with your question.
Thanks, So I've, a 7% or so in historical churn how much of that has been associated with with cloud migration.
And then in your prepared comments, you mentioned that you're hopeful that pricing would improve in northern Virginia over the next year or so what could drive that seems very challenging right now.
Oh good morning already you know if you look back historically as it relates to our churn and you referenced that 7.3% in terms of whats migrating to the cloud historically, it's been a relatively small percentage we've had some of it over the years, but nothing to the levels and what we're seeing this year, so I would say.
If I had to quantify it it's somewhere around call. It 25 to 40, maybe 25 to 50 basis points on an annual basis.
And I'm, sorry, but what was the second question Olivia I think you're asking about the potential for change in the northern Virginia market and what would drive that is that right yeah.
I mean, I think it's I think we're already seeing a little bit in that some of the buildings that we expected to come out of the ground by now appear to have been postponed or what is behind that in every case. We don't know we do we are aware of a couple of.
Prospective builders, who have put who have publicly said, they're going to go on pause and just look for build to suit opportunities.
So.
Supply will be affected by those types of actions.
Demand will pick up a window, probably when the cloud hyperscalers get into their next get out of their absorption phase of what they leased in 2017, and 28 team and move into the phase of having to lease or produce additional capacity to accommodate the growth.
Historically that tends to be about a you know a 12 to 18 month cycle between the the bottom of those cycles and in coming back up more to the top so maybe were I don't know 12 months away from that but it's hard to predict with certainty.
Is that a is that responsive.
Yeah perfect. Thank you.
[noise].
Our next question comes from the line of Michael Rollins with Citi. Please proceed with your question.
Thanks.
A couple follow ups, if I could so first.
On the question of Virginia from looking at the rent schedule correctly, there's about 53 million in annualized rent.
Based on current pricing what would you estimate the revenue risk would be overtime in a mark to market.
We'd have to go back and calculate that relative to scale and retail.
You know, Virginia still is primarily a retail.
Data Center campus for Us retail pricing has been pretty solid there. So I don't know what the magnitude of that would be but.
You know, we will try to we'll try to present that on our next quarterly call. Yeah, just Mike I'd just further that as you look at the numbers we've disclosed.
Keep in mind, you know whats in DC, one DC too.
Is really the retail side of the business and then the composition of the.
Reston campus.
If I had to give you an estimate.
And we will give you something more solid I'd, probably say at least two thirds of that is going to be built up with our retail business and so just keep that in mind as you as you think about that and you guys are asking very good questions related to due to pricing and let us just dig into it more and we'll giving us additional color and commentary on that as we move forward.
And secondly, as as we think about the comments that you made on churn and.
The risk of.
Customers migrating some infrastructure into the cloud if we look at.
The segmentation schedule on page 15 of the leases by size of NRF staff.
Is there a story to tell us.
Where.
They're susceptibility you know in terms of the size of the leases.
And is there some way that youve internally estimated like the long term.
Risk, where the long term exposure, where a certain class of the revenue.
He is more susceptible to some of the migration that you're seeing from a handful of customers that you mentioned for this year.
Well I think I think you're trying to look at it with obviously the information we've given as best as you can and.
You know when I think about what we're seeing this year.
I would say most of that churn is probably bucketed and two portions one would be the 5000 or less square foot bucking. The other one would be between five to 10 and that's why you've seen some of the numbers being elevated just due to the size but.
In terms of what you know what that looks like going forward wearers are our biggest susceptibility.
That's a it's a great question I think.
The most important thing is ultimately as Miley and Steve have alluded to in the past were ultimately trying to make sure. We can address those hybrid cloud solutions and the question is going to be what portion of their architecture that we that might reside with us today, either is retained with us or that moves to the cloud.
And I can't I don't think I have enough data today that says because we'll just see how much of that is that we've been experiencing to be quite honest. It's just something we're gonna have to dig into more and see if we can get it quantified for you.
But just to give you an idea those two buckets is where most of that churn resides today that I referenced earlier.
And Michael So far what were seeing are really specialized use cases that are going into specialized edge cloud use cases.
Most of what we have in our data centers you know the network. The cloud obviously that stuff is pretty impervious to to migration to the cloud and you know most of our enterprise.
Occupancy is come in in the last two three years from customers that have already moved primarily into our data centers to do the hybrid cloud.
Type of activity you know I should I should point out. We also have our new logos. This last quarter was somebody coming out of the cloud.
With the significant amount of capacity. So we're going to continue to see these dynamics and Jeff and his team have been working diligently this year to develop better predictive analytics around these things and it's still a work in progress but.
I think we have enough visibility to not feel terrible about where the church situation is with respect to cloud migration.
And this is mainly I think you know just to highlight what Jeff and Paul have I have shared Oh as we see our customers start to take advantage of some of the workloads that they can put into the cloud we are going to see that rightsized. The deployment, but we're also finding that it's the exact same reason that we're winning new hybrid cloud deployments due to that exact need to have their workloads connected with the cloud providers and with low latency in the edge market, So where on the one case, we do see some churn on the other case, we do see new logos and then we also see to see it feeding into our edge campus cloud customers. So.
Kind of a three three pieces to that puzzle.
And so one final question then so in the guidance change the guidance for revenues changed but not the interconnection revenue guidance. So.
Does that does that provide some observations about how your customers are valuing connectivity and that portion.
Of what they get out of the data centers, maybe to your point about the size of the deployment and if there's maybe some additional color there that would be great.
Yeah I think.
Just to give you some quantity numbers I think obviously year to date, our our interconnection revenues up 9.4%.
Cumulatively year to date, I think our midpoint of our guidance as eightpointthree. So.
We're comfortable where our numbers are for this year and what and obviously, we didnt change the guidance.
I think we've seen so in the first two quarters, we've seen good.
Volume growth inside our business.
And that does play towards.
Ultimately those customers that are needing to connect whether it's to the cloud whether it's to the networks actually it's some of both are the the growth and interconnects inside our inside of our portfolio continues to be very strong for those people needing to connect to the cloud.
And I don't think that dynamics going to change or subside anytime soon and as long as we can continue driving those types of.
Deployments Miley described I think that will continue at what levels not certain but we're comfortable with where we are for 2019, yeah. Michael on a micro level for an individual customer to the extent there keeping some deployment in our data center or they will they will either maintain their current cloud connectivity or even increase it depending upon how many additional clouds they use in how they architecture too.
Potentially a connected different cloud regions for additional resiliency.
And we've added a couple of new products into our interconnection portfolio as we've mentioned earlier at the course that interconnection gateway that allows them to interconnect and manage the connectivity between workloads to different cloud providers as well as the entire site capabilities between markets so connecting their their existing deployment into a new market. So more interconnection products that we hope will continue to drive the interconnection revenue.
Thanks again.
Thanks, Mike.
Our next question comes from the line of John Peterson with Jefferies. Please proceed with your question.
Great. Thanks for sticking with US here, so if I could just a little bit more on the churn. If you could just maybe give us how you're thinking about backfilling. This level of churn or maybe just to think about more from a real estate perspective, and obviously your occupancy is going to be going down through the rest of the year, how should we expect that the trend.
In 2020, and as you think of.
About getting back to 2020 or getting back to double digit growth in 2020 is kind of a quick turnaround and releasing that space required.
Oh, Yes, hi, John this is mainly so we are actively pursuing backfill opportunities for any of the areas, where we expect to see customers churn out. The good news is as in most markets. The the location in which there are we're going to see that come back is in turnkey colocation space and computer rooms, So very quick to be able to turn around and and support new customers. We've already been able to backfill a few opportunities and consistently look for a pipeline to support the ones that are coming up.
In terms of rate.
Okay.
John I'm, sorry, I was just going to say in terms of occupancy.
I mean, if you look at our same store.
Portfolio, it's declined a little bit here.
Over the last couple of quarters and I would expect that to continue as you as you point out is probably going to decline probably another two to 300 basis points here before year end based on the churn we're looking at today.
Yeah, that's kind of what I expected I guess my thought my question was more about as we look into 2022, we expect that to Reaccelerate.
I think it would John .
You know the as Molly was saying this churn space is basically our generic bread and butter co location product. So.
We just keep sell.
Okay, and I know you probably just answered this question, but just to be clear when we think about your development pipeline versus this now vacant churn space is there any difference in kind of the ability to sell that space and do you now have to kind of pulled in those markets, where you now have more vacant space or are you going to pull back on new developments for a quarter or two while you backfill that vacant space.
All the development that we have in process right now we will continue to press forward on because we think we're going to need it.
The new development quite honestly gives us the ability to handle much larger.
Opportunities than what the churns base enables us to handle the churn space just comes back into our generic retail co location inventory.
And John the only change related to that is we did purposefully move back the completion of the Boston computer room due to the one computer room were getting back in so to your point.
It to help it does we're going to delay the completion of that room, but we see still think long term, we're going to need it.
And as a result, we're continuing to move forward to just the timing is pushed back by quarter. Thanks.
Great.
Okay. Thank you very much.
You bet.
Our next question comes from the line of Sammy Badri with Credit Suisse. Please proceed with your question.
Thank you.
My question has to do with visibility of these discontinuation of applications you referred to some of your customers doing that.
Now when this happens in your business how much your general visibility do you have before it happens before they have this conversation where they want to.
Disengage out of co location moves to another type of workload or just ended application do they communicate this to use like every month when it happens three months six months just so we have an idea for as this transition takes place. We can just have an idea on how exactly the dynamics are impacting your ability to to guide.
So.
It really depends on the customer and the type and our traditional types of churn the f. a MSP hosting companies.
That.
Appear to be into their subsided cycle.
We've generally been able to predict that based on the account representatives interactions with the customer plus some details around their activity in the space and historically have been pretty accurate with that.
Little bit harder to predict that with the things that might go to the cloud.
Because the customers themselves, even though we're in close contact with them or are still evolving and some of these decisions and so one month. It's yeah, we're not going to do anything for some period of time and then.
Two months later after more understanding of what cloud products are available they make a change in decision. So that's that's why that segment is a little bit harder to predict than our traditional churn forecasting.
Got it and then we talked a lot about northern Virginia market softness and most of the people on this call probably know that northern Virginia is a very major markets. So would you say that this specific dynamic is isolated or you know like the supply and demand dynamics would you say that these are isolated to northern Virginia or do you think this is a overall secretary deceleration that we're going to start hearing about in some of the other markets over the rest of the year.
So in our markets the only place we're seeing it is northern Virginia.
I've heard similar rumblings about the Phoenix, and Dallas markets, but we're not in those markets and I should also qualify that you know we're not we don't have the capacity to be going after you know 12 18 megawatt deals in northern Virginia, So there might be less visibility for us into that particular.
Subset of the market than others are seeing and like you guys I'm I'm looking forward to seeing what we learn is our peers with a with activities in Northern Virginia report in the next week or so.
But so far supply and demand looks as I said looks pretty good and all of our other markets looks pretty balanced and.
Again, the long term secular drivers for demand the new data products the increase in the amount of content being pushed out.
You know the the increasing interaction with consumers and demands for lower latency those all seem to be very much in place and that's why we're seeing kind of consistent sales results across our core products and are hopeful of increasing that.
Over coming quarters, and why we still believe there will be periodically opportunistic.
Sales for scale and hyper scale.
Got it got it thank you.
Thanks, Jamie.
Our next question comes from the line of Richard Choe with Jpmorgan. Please proceed with your question.
Great. Thank you just a follow up on the churn aspect in migration to the cloud normally the lifecycle is you go from being in the cloud and move to dedicated and so this is kind of reversal of that but I guess given your comments. So far it seems like it's with certain applications and very specific do you think this is going to be more broad based or is this very application.
Specific and then in terms of maybe on the other side of it. It seems like that you are getting some benefit in that youre not completely losing the customer and as they continue to want connectivity and infrastructure around cloud providers. So can you kind of maybe give us a bit of a more holistic view on kind of the net loss versus the net gain on that thank you.
So we actually track that pretty well.
Or pretty diligently and.
So far between what Weve leased for cloud applications, including.
All the different components of the cloud companies in edge cloud use cases.
Plus what weve leased to companies coming into our data centers. So that they could do hybrid cloud in the most secure and high performance way possible. We are way ahead of the whole cloud migration.
Element and I'm guessing if you talk to your your colleagues a in the enterprise space.
Theyd, probably tell you that the vast majority of all migrations to the cloud are happening out of proprietary enterprise owned data centers.
Again as I mentioned earlier most of what we're seeing our specific use cases.
And we're also seeing a lot of hybrid cloud that's coming to us specifically because they have the cloud.
Operations right there on our campus or the direct cloud on ramps or the type of connectivity options. We give them. So net net cloud is still a huge positive for us.
And then in terms of the Backfilling is speed of filling it more important or getting the right price and looking at the space that youre getting back.
All the above.
Got it thank you.
Our next question comes from the line of Lukas Hartwich with Green Street Advisors. Please proceed with your question.
Thanks, I just want to clarify has northern Virginia become incrementally worse or are you just reiterating prior comments around that market.
So we've been saying for about two years now that.
You know pricing for scale and Hyperscale is coming down in northern Virginia.
You know, we didn't really get too acid test that until we were out.
Responding to our fees for the new space coming on and be a three phase one b.
And based on that I would say that it has.
Over the last three to six months has continued to deteriorate a bit.
It may be bottoming out right now.
Everyone certainly hope so, but that's that's our perception of the market.
Yeah, So maybe a little bit worse, and then you touched on this a little bit earlier, but in Boston I notice that a big chunk of square footage moved from stabilized to your held for development.
But the the Hbr was the same so just trying to figure out what exactly went on there.
That was just a space that was leased on a powered shell basis to a wholesale cup winner customer. That's in one of those business models that has been declining for a while.
And to release it according to our normal you know co location model will have to put some additional capital into that space converted from powered shell to co location space.
Got it and that's how we do it and until we do that it's not available inventory got it and then the rent didn't really move is that just a timing will that go down next quarter.
Yeah no it's.
Those powered shells, usually obviously are not leased at the same levels in which a typical turnkey is so it did come down but it was offset by the lease modification, we executed with the other customer that will come down in the third quarter.
Got it that's it for me thank you.
You bet Lucas.
Our next question is a follow up question from the line of John Atkinson with RBC. Please proceed with your question.
Thank you Yeah, just real quick on the new connectivity products that Miley was alluding to a couple of questions back and I wondered maybe if it'd be possible to learn a little bit about customer adoption is it is it new logos taking it on day one is it a longstanding retail customers that are that are beginning to kind of migrate to edge are we still in kind of really early days here or is there a mature run rate to think about as people kind of jobs.
On the Internet gateway.
And other other other newer products. Thanks.
Absolutely. Thanks, John for the follow up so these are relatively new products. So I think it is still early stages, a we are actively.
Proposing them to existing customers that can take advantage of new sites and interconnecting the two sites together as well as reaching new.
Cloud zone availability zones from their existing site with us, but it's also a I think also on the Coresite interconnection gateway product, we're going to see that the something that new customers are going to be interested in as they look to migrate out of their enterprise data center and into a collocation sites that they are not yet ready to make that move. So this we see as kind of a a way to bring them into a data center. So right now we're seeing some good pipeline with existing customers and Ah. We we think that that's going to grow as we sell it with our solution partners.
Thank you.
Thanks, John .
There are no further questions in the queue I'd like to hand, the call back to management for closing comments.
So thank you all for your time and interest.
Lot of good questions.
So I come out of every quarter I'm really proud of the team the things the building blocks for putting in place for long term growth.
Have really come together, well and I like where we're going with that.
I do believe the cyclical headwinds will pass and will be you know much happier is we have this additional space to sell and I know one thing that you can't give any sales. If you don't have the space to sell and so right now we have.
How much more opportunity to sell that we've had in quite some time. So I look forward to the future and I'm grateful to work with such a good Greg group of people to accomplish what we've accomplished so far.
Thank you all very much.
Ladies and gentlemen, this does conclude today's teleconference. Thank you for your participation you may disconnect. Your lines at this time and have a wonderful day.