Switch and Data Facilities Q4 2008 Earnings Call Transcript

Switch and Data Facilities (SDXC)

Q4 2008 Earnings Call

February 17, 2009 4:30 pm ET

Executives

Keith Olson - President, Chief Executive Officer

George Pollock – Chief Financial Officer

Analysts

Jonathan Atkin – RBC Capital Markets

Srinivas Anantha – Oppenheimer

Eric Suppiger – Signal Hill

Richard Fetyko – Merriman Curhan Ford

Jonathan Schildkraut – Jefferies & Company

Robert Dezego – Suntrust

Steve Salberta – Boenning & Scattergood

Manny Recary – Kaufman Brothers

Gray Powell – Wachovia

Todd Weller – Stifel Nicolaus

Michael Bowen – Piper Jaffray

Mark DeRussy – Raymond James

Presentation

Operator

Welcome to the fourth quarter 2008 Switch and Data Earnings conference call. (Operator Instructions) I would now like to turn the presentation over to your host for today's call, Miss Kathleen Haney.

Kathleen Haney

Good afternoon everyone. This afternoon after the market closed Switch and Data released its fourth quarter 2008 financial results. A copy of the press release may be found on the website at switchanddata.com in the investor relations section. Making presentations today will be Keith Olson, President and Chief Executive Officer and George Pollock, Chief Financial Officer.

Part of our discussion today may include forward-looking statements. These statements are not guarantees of future performance and therefore undue reliance should not be placed upon them. The company undertakes no obligation to update any forward-looking statements in order to reflect events or circumstances that may arise after the date of this conference call.

We refer you to the company's recent filings with the SEC for a more detailed discussion of the risks that could impact the company's future operating results and financial condition. Management may mention financial terms such as EBITDA and non-GAAP measure financial performance. Management believes it is a common and useful tool in evaluating the company's performance.

EBITDA is defined as operating income plus non cash items including depreciation and amortization, stock based compensation, lease litigation costs, deferred rent and certain other costs. A reconciliation of comparable GAAP measures can be found at the end of the earnings press release as well as on the company's web site.

I will now turn the call over to Keith Olson, President and CEO.

Keith Olson

Good afternoon ladies and gentlemen. Thank you for taking your time to join us today. I want to welcome you to our 2008 earnings call. Switch and Data's fourth quarter and full year results were strong. Today I will share with you our highlights and George Pollock; our CFO will review our financial results. We will open the call for your questions after our presentation.

As you may have read in our earning release, our business momentum continues and we delivered strong results for the year. Total revenues in 2008 increased 25% from $137.5 million to $171.5 million. This revenue growth contributed to our strong EBITDA results. For the year, EBITDA increased 33% from $42.5 million to $56.6 million.

The fourth quarter's performance marks the eighth consecutive quarter of growth since our IPO. I attribute our successful year to the disciplined execution of our strategy and the investments we have made in our business. Our results for the fourth quarter and year end were supported by the following operating metrics.

Cabinets increased 10% from 6,883 in December 2207 to 7,596 in December 2008. Cross connect increased 18% from 19,977 in December 2007 to 21,149 in December 2008. ARPU or average revenue per unit decreased 9% from $1,851 in Q4 2007 to $2,020 in Q4 2008.

In the fourth quarter we added 1,300 cabinet equivalents and added 3,300 cabinet equivalents for the year and this represents a 34% increase in our product capacities. The majority of this capacity was added in six markets; Dallas, New Jersey, Seattle, Sunnyvale, Toronto and Vienna, Virginia.

The trajectory of sales in these sites is on track to support our expectations. These sites contributed 45% of our new sales in the fourth quarter and are represented by a number of large opportunities in our current sales funnel.

During our past two earnings calls in July and October, George and I referenced concerns with regards to the impacts of the slowing economy. As we look at our 2008 results, we were able to move through these headwinds and post strong results for the year.

In the fourth quarter we saw continued effects of the slowing economy on some customers. Customers have delayed some projects and we saw an uptick in revenue churn from the third quarter. It is a complex balance; pressures from the broad economic conditions and a counter-point of strong demand for our services.

The demand in our market supported our results for the quarter and the year. These results reflect the impacts of incremental sales; improve ARPU's and the execution of our expansion plan.

We are operating in a complex environment and although the economic conditions persist, our strong demand continues. The number of new customer orders continue to offset the pressures and provide us with a prudent optimism for 2009.

As I look at these uncertain times, we continue to see the counter-acting dynamics for 2009. On one hand, the macro economic trends are impacting customers. We have seen an increase in churn and some customers have delayed or postponed projects. On the other hand, we continue to experience strong demand for our services and our sales funnel is as strong as ever. We continue to win larger customer orders more frequently.

I know in past calls, I've referenced one of our sales indicator reports, our top five report. These customer wins increased in frequency and size over the same period last year. Some notable wins that landed in the fourth quarter include; Adobe, Comcast, Forex and Intermedia. These customer wins complement Switch and Data strengths by leveraging our capacity expansions and our carrier densities.

These and a number of our wins create revenue opportunities for other Switch and Data customers who have deployed their services in our sites. This dynamic adds to the overall value of the sites network effect. It also increases the value for customers who use our sites as marketplaces.

More and more global content companies are landing in our sites. Seven of comps scores top ten world wide most visited content companies are Switch and Data customers. These companies complement our success with network providers. The ten largest global networks are also Switch and Data customers.

And more recently, at a recent capacity conference in Miami called Metro Connect U.S.A. 2009, a number of the industry players recognized the network effect of our sites as content aggregation and distribution ecosystems.

Some of our customers who participated in the venue referred to our sites as neutral central offices, or as we refer to them, neutral exchange points, both powerful attributes for our brand. As we attract more content and network centric customers, the value of our sites as efficient places to inter-connect, exchange and improve their businesses continue to increase.

Adding to the previous customer wins, other noteworthy contracts in the fourth quarter include LE Motion, a leading European of on-line video, Face book, which has more than 150 million global users, expanded its peering capacities across the country. This news was highlighted in a recent E-week article where Face book referenced Switch and Data as its data center of choice.

And NPPA, a global network provider has expanded its next generation internet backbone in our Atlanta, Dallas, New York, Palo Alto and Seattle sites.

This customer growth is indicative of the way businesses and consumers are becoming more and more dependent on bandwidth rich applications. According to the European Internet Exchange Association, internet exchange traffic continues to increase. Their report reference regional traffic growth statistics as follows: growth in Asia was 31%, in Europe it was 57%, and in the U.S. it was 62%.

As I reflect on our traffic growth through our Pacs Exchange Services, I'm thrilled to report that our year over year traffic growth was 150%, more than double the U.S. growth rate.

Let me change gears a bit and speak to the impacts of supply and demand. Gartner, IDC, Tier-1, all predict strong location growth through 2012. These industry analysts continue to predict that demand will outpace supply. As the broad economic conditions continue, the lack of capital being deployed will also contribute to a favorable imbalance.

These trends and predictions for traffic growth as well as the supply and demand imbalance are positive for Switch and Data. The demand we continue to see from existing and new customers provides our confidence that our outlook for growth will exceed 20% in 2009.

In tough economic times, customer satisfaction and loyalty are even more important. We use a variety of tools and methods to measure the level of satisfaction, such as our day to day communications to and from customers in our channel checks, letters and emails of direct conditions from customers, our multi-moments of truth reports and our annual third party satisfaction survey. All of these sensing techniques point to improved levels of satisfaction.

Our annual customer satisfaction report from November 2008 included the following; customers site our product performance, service support center, site operations, and billing support as being superior. In this report, 91% of our customers indicated that they will choose Switch and Data for their next data center purchase.

And for the fourth quarter 84% of our new sales came from our existing customers, and for the year, 80% of our new sales came from existing customers. To me, there is no better measure of satisfaction than new orders from existing customers. We are very thankful for their business and extremely thankful for their loyalty.

Before I turn the call over to George, allow me to reiterate the following. We delivered outstanding results in a difficult environment. We see continued demand and I would be remiss if I did not thank the men and women of Switch and Data for their outstanding contributions to our business' success.

I'll now turn the call over to George.

George Pollock

Thank you all for joining us. Today I will share our fourth quarter and full year financial results with you and provide insight into the current year.

Let me start with revenue for the fourth quarter. Total revenues in the quarter increased 22% from $37.5 million to $45.8 million, and as Keith mentioned with the capacity we added and strong demand in our markets, total revenue for the year increased 25% to $171.5 million.

Recurring revenues which consist of co-location and inter-connection services were $42.9 million in the fourth quarter of 2008, an increase of 22% over the comparable period in 2007. For the year recurring revenue increased 24%, and our revenue model continues to be driven by monthly recurring revenue which was 94% of total revenue.

Non-recurring revenues representing one time installation fees and services, increased from $2.2 million to $2.8 million in this quarter and $7.5 million to $9.8 million for the year, representing a 31% increase for the year.

Our EBITDA performance was strong. EBITDA increased 25% from $12.7 million in the fourth quarter 207 to $15.8 million for the fourth quarter 2008. For the full year EBITDA increased 33% from $42.5 million to $56.6 million and the EBITDA margin increased from 31% to 33%.

Cost of revenues excluding depreciation and amortization increased from $18.5 million in the fourth quarter of 2007 to $24.4 million in the fourth quarter of 2008. This increase is attributable to higher rent, utility and personnel expenses associated with our facility expansion and revenue growth.

As a percent of revenues, cost of revenues increased from 49% in the fourth quarter of 2007 to 53% in the fourth quarter of 2008, and this was expected as we added 44% more in product capacities.

Our sales and marketing expenses in the quarter increased from $4.6 million to $5 million. This increase is due to personnel expenses including wages, commissions and non cash stock based compensation. As a percent of revenue, these costs decreased from 12% in the fourth quarter of 2007 to 11% in the fourth quarter of 2008.

Our G&A expenses increased from $3.6 million in the fourth quarter of 2007 to $4.6 million. This increase was due to higher wages and non cash stock based compensation, and as a percent of revenue, these expenses remain flat at 10% of revenues.

As you may recall in the third quarter of 2008, we entered into interest swap agreements to convert our floating interest rates to fixed rates on our bank debt. We have discussed on several calls the potential volatility with our interest expense caused by the requirement to record the interest swaps at fair value.

In the fourth quarter, there was a 260 basis point decrease in the three month LIBOR rate which resulted in a $6.3 million interest expense charge to net income to record the change in fair value of the swap. The key take away here is that we have a fixed interest rate of 6.2% on $120 million of our bank debt for 2009.

Now turning to the balance sheet as of December 31, 2008; our cash balance was $15 million. Our day sales outstanding was 24 days and our bank debt was $120 million. As we reported on January 5, 2009, we accessed the $22.5 million delay draw term loan, and our bank debt is now $142.5 million and our bank debt to EBITDA ratio is 2.4 times.

Regarding capital expenditures, our capital expenditures were $37 million in the fourth quarter and $155 million for 2008. A payment to a building contractor for $10 million was paid in early January instead of late December due to invoice timing. As such, the CapEx for the year was $155 million versus our plan of $165 million. We are adjusting our 2009 CapEx from $65 million to $75 million to reflect this payment occurring early in 2009.

These capital expenditures will be funded from operating cash flow, our balance sheet and our flexibility in our credit agreement. We remain fully funded to achieve our targeted growth for 2009.

As we look at 2009, we are maintaining our guidance as follows: revenue to be between $207 million and $210 million, EBITDA to be between $71 million and $73 million. This will deliver revenue growth of more than 20% and EBITDA growth of more than 25%.

In summary, we exceeded our revenue and EBITDA expectations for 2008 and we look forward to delivering another strong year of execution and results.

And with that, Keith and I are happy to answer your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first call comes from Jonathan Atkin – RBC Capital Markets.

Jonathan Atkin – RBC Capital Markets

With respect to your 2009 guidance for revenues and EBITDA, I wanted to get a feel for what you're assuming over the next several quarter with respect to churn, maybe average customer size as well as spot pricing that underlies the guidance relative to what we saw in the past quarter.

Keith Olson

Let me first address the pricing bit, then I'll come back to churn. Our pricing as we've shared on a number of calls remains very consistent as far as the rational as well as what we see as strength in pricing. We're still expecting somewhere between 3% and 3.5% percent positive impact to revenue from pricing, re-pricing of contract renewals and incremental price points in the markets.

As it relates to churn, right now we've seen an uptick and we have not modified yet our outlook on the annual churn rate. What we were just reporting is that the economic headwinds, looking at the reasons and rationales for churn increase were due to the economic conditions of people grooming or some insolvency.

Jonathan Atkin – RBC Capital Markets

And with respect to average customer size, I guess I'm curious as to whether that is going to tick up. You sort of alluded to that in your comments.

Keith Olson

Yes, year over year the average size of deal is up 10%, frequency is up 27% when we do that top five sales report.

Jonathan Atkin – RBC Capital Markets

And the frequency means what exactly?

Keith Olson

The number of deals year over year in that category.

Jonathan Atkin – RBC Capital Markets

And with the average deal size up in terms of, I would assume that means more cabinets taken down, can we expect exiting this year inter-connection revenues as a portion of the total might start to dip a little below 30%?

George Pollock

That's something that will be interesting to see the types of deals that are landing, and that's a very good question. Right now the biggest contributing factor to the changes in percentiles is really centered around power, and specifically not only in more power per rack, but a lot more B power, so redundant power being added as well.

So there's kind of a couple of different moving parts, but that's what we see as the biggest contribution the change of percentages, is centered around power.

Operator

Your next question comes from Srinivas Anantha – Oppenheimer.

Srinivas Anantha – Oppenheimer

I know you've talked about there hasn't been a whole lot of impact on you on the margins, some customers doing projects, could you maybe give us some color on what kind of sales cycle end you're seeing today from three months ago, and when I'm looking at the ARPU's for this vertical quarter, it looks like you've seen the smaller sequential increase. Was this just timing related or was there something else that we should look at?

Keith Olson

Let me first address, we have not seen other than projects being delayed, which certainly I mentioned in my prepared notes, we certainly see certain deals going through that kind of lengthening, but overall our channel checks and coming from our sales reports, we're not seeing an impact overall to lengthening sales cycles.

I think that's partly due that we've added some tremendous capacities in key markets, and therefore there's been some resonation in the market about the capacities that we've added and where we've added them, especially when I take into consideration the deals that I referenced from fourth quarter wins.

As it relates to the ARPU, some very large deals came in towards the later part of the fourth quarter and they're in staged implementation so think of them as taking a footprint, but not yet fully built out in their power and inter-connections. We anticipate that as they fill up their installation processes in some of the new builds, we'll see the ARPU's again come back to a stronger step basis.

Operator

Your next question comes from Eric Suppiger – Signal Hill.

Eric Suppiger – Signal Hill

Did you give us the number of customers?

Keith Olson

No, we did not.

Eric Suppiger – Signal Hill

What was the customer adds?

Keith Olson

Let me have somebody get that number quickly for you, and then we'll just come back to that if you don't mind. I can take another part of your question if you have one.

Eric Suppiger – Signal Hill

Back on the ARPU, you say it was due to some customers that came in with large deal sizes at the end of the quarter, would you expect a good pick up in the Q1 of next year or it just seems odd that a couple of late customers would skew it that much.

Keith Olson

We would, as I just was answering Jonathon's question, we expect it to pick up and we'll see the staging throughout the first quarter.

Eric Suppiger – Signal Hill

Have you seen customers coming back to negotiate pricing on either power or inter-connects or space?

Keith Olson

Not anymore than we've had in the last several years.

Eric Suppiger – Signal Hill

Then in terms of the pipeline, you did say that your pipeline is as large as ever, is that correct?

Keith Olson

That is correct. I think I said, my exact notes were, it's as large as ever.

Eric Suppiger – Signal Hill

And the churn, are there any verticals that you're seeing generate more churn or any trends within the churn that the type of customer you're seeing?

Keith Olson

It's not the customer or the segment of customer. But we've seen two aspects; one is insolvency and we've also seen some companies actually going through all their assets that are deployed in the sites and doing some grooming. I guess with pressures on their expense streams, they're looking at optimization.

But outside of normal kind of what I would say trends of the business, it's the economic headwinds that are forcing both the insolvency and some grooming by some clients.

Eric Suppiger – Signal Hill

On the churn and your outlook for '09, earlier did you say when the question was posed, did you say you expect the churn to stay at this level at the kind of 1.5% range, or what did you say?

Keith Olson

At our plan level.

Eric Suppiger – Signal Hill

What is that plan level?

George Pollock

The plan level on a percentage basis, and we spoke about this on the last call as well, is closer to the 1.25% to 1.3% we experienced. The importance of the churn is in dollar terms. We experienced $12.9 million in revenue churn in '08 and at the 2010 plan on guidance, that suggest that's a $15 million revenue churn, so we've increased that by 15%, the 2010 on the high end of the range between the 2007 and the 2010, obviously we bracketed the churn where it's about $15 million to $16.5 million. So we've taken the churn up 15% to 25% on dollar terms.

Eric Suppiger – Signal Hill

Are you still maintaining the long term guidance which was from '08 through 2010 at 24% and 35% growth for revenue and EBITDA?

Keith Olson

Yes we are. Eric, I have that number. In the quarter we added 50 new logos and it was actually the strongest quarter for new logos for our business in 20088.

Eric Suppiger – Signal Hill

So you ended with 985 customers?

Keith Olson

I was just giving you the gross new logos. I'll have to get you what the churn was.

Operator

Your next question comes from Richard Fetyko – Merriman Curhan Ford.

Richard Fetyko – Merriman Curhan Ford

Just curious about the New Jersey facility and how that sell through or I guess at this point how installations are coming along, if you could comment on that. And what additional capacity and what markets are you expecting to add in 2009?

Keith Olson

Let me address first New Jersey. New Jersey is performing better than what we had expected. We have about 40 customers going through installation in the site, so a great uptick. Sizes, many of them are the most significant, software companies and content companies and network companies. Some we have announced and some we cannot announce.

I believe that we have over 100 service orders in for New Jersey so the cadence of the business, the site tours, and certainly when I spoke about the funnel, not only New Jersey but a number of our net new capacity expansion and/or new sites are supporting a good portion of the deals that are in the funnel.

George also shared with me that when we look at site cash flow, New Jersey has already turned the corner for positive site cash flow which is certainly ahead of what our expectations were.

In 2009, we plan to add about a 1,000 cabinet equivalents and most of that will fall on our phase two of New Jersey. There may be some fill ins from some optimization in some of the other sites, but when we think of large scale capacity adds, it will be phase two of New Jersey and we anticipate that coming on by the end of September '09.

Richard Fetyko – Merriman Curhan Ford

With respect to the pipeline that you referred to, could you sort of define the pipeline? What do you define at what point is the deal in the pipeline?

Keith Olson

We have kind of a sales play book. Things that are more of a target nature never make it into the pipeline. This is opportunities that have been sized, dialogued and there's an exchange of interest and I would say documentation and pricing associated. So think of it as a traditional sales 30, 60, 90 type of time frame.

Operator

Your next question comes from Jonathan Schildkraut – Jefferies & Company.

Jonathan Schildkraut – Jefferies & Company

One real quick question about your deferred rent expense, is the uptick mostly to do with opening New Jersey?

Keith Olson

It's mostly to do with the Seattle property that we announced in the fourth quarter, that we opened in the fourth quarter. We spoke about it a few weeks ago. It's mostly to do with deferred rent for that property.

As a reminder, New Jersey as well is under capital leases so they're handled a little differently in terms of deferred rent.

Operator

Your next question comes from Robert Dezego – Suntrust.

Robert Dezego – Suntrust

I wanted to follow up on the pipeline. I know you're getting a lot of questions on it, but maybe you could talk about some of the largest deals that are in that pipeline, the ones that are really going to move the needle on growth for next year, and I wondered if you could just talk a little bit more in detail about what those specific customers are telling you in terms of expectations today versus perhaps where they were three or six months ago on their growth outlook and obviously your revenue growth that's associated with them?

Keith Olson

I don't think I have the depth to speak to their rates of growth and things of that sort. The sales team and Bill Roach who leads our sales team, he has set a confidence factor centered around how me manage our pipeline, and it's not behaving differently. It just is a number of more and larger types of deals and that corresponds to our capacities that we've brought on throughout 2008.

Robert Dezego – Suntrust

Have you seen any changes in the conversion of this funnel into revenue in the last three to six months?

Keith Olson

No. As I referred, our top five which is one of our sales indicator reports, because we use a couple of different channel chits and tests, year over year of '08, size and frequency of the deals that qualify in that category are both up. Our revenue side is up 10%, frequency was up 27%.

Robert Dezego – Suntrust

Has there been any change in the capital markets for you since you last spoke publicly in October and does that change any of your approach to give a longer term CapEx?

George Pollock

From a capital markets perspective we spoke about a couple of times for '09. Our plan is fully funded. We took down the delay draw. We have a couple of other levers within the credit agreement, whether it's the revolving credit facility which is fully committed by our banks, whether it's a car adopt for equipment leasing. There's a couple of other abilities within the credit agreement.

From a capital markets perspective, we really haven't been engaged in the capital markets since our last phone call because our plan is fully funded and it's funded to meet our targeted growth for the year.

Operator

Your next question comes from Steve Salberta – Boenning & Scattergood.

Steve Salberta – Boenning & Scattergood

Can you talk about the new installations that you're seeing, the bookings that are kind of translating into revenue, I guess primarily the New Jersey facility and just across the country. Are they going as you anticipated? Are they taking longer, are customers taking longer to install the equipment that they initially thought they would put into these data centers?

Keith Olson

No, they're not taking longer. The size of some of these deals is just more complex and larger than some of the historic deals when we look at our business from '06 and '07 and the earlier part of '08 until we started getting into the larger capacities. But now, they have their install plans. They've deployed their CapEx and it's a matter of fulfilling and finishing out the rest of their installs. So we have not seen a change.

The change from perspective was more around deals in process or sales activities in process which were noted around some of the postponements and delays, but those are not ones that have gone to paper.

Steve Salberta – Boenning & Scattergood

Can you give us some sort of level of deals in process? Are you finding fewer deals to put into the pipeline? Are you closing? I'm kind of asking as we get through the 2009, do you just have less of a pipeline as you go through the year to continue?

Keith Olson

As I stated, our pipeline has never been as strong. It's behaving as we've seen.

Steve Salberta – Boenning & Scattergood

The customers that are grooming their business, are they doing this when their contract is up for renewal? Are you seeing customers just completely come back to you mid contract saying we just have less of a need for what we thought we would?

Keith Olson

There is a little of both. Some contracts or some services are on a month to month so they can groom those kind of at will, but it's also times of renewal where some people who are saying, maybe I can squeeze more into less. But it's just one of the attributes that we see.

Grooming is always part of the inter-connect business because it's what we can a macd business; moves ads change, deletes.

Steve Salberta – Boenning & Scattergood

How is that continued into 2009?

Keith Olson

Macd process has been around since I've been in telecom which is 27 years.

Steve Salberta – Boenning & Scattergood

The grooming, I guess what I'm asking is have you seen the churn downtick a bit coming into the year or is that something that we have to wait until future quarters?

Keith Olson

When we get our analysis done, then we'll absolutely be prepared to share that with you.

Steve Salberta – Boenning & Scattergood

Any help you can give us in terms of depreciation for the first quarter and for the year?

George Pollock

No, we specifically do not provide any guidance on the depreciation just because of the projects that come on line and the old sites that get fully depreciated, so we'll report the actuals as we get to the quarters.

Steve Salberta – Boenning & Scattergood

Any guidance on how much that second phase of New Jersey will take in CapEx for this year?

Keith Olson

We've sized and have spoken on other calls, it's $40 million of the capital budget.

Operator

Your next question comes from Manny Recary – Kaufman Brothers.

Manny Recary – Kaufman Brothers

The revenue guidance, I know you're expecting churn to remain on typical 1.25% to 1.3%, what happens if it stays at around 1.5%? What would be the impact? I think you spoke about $15 million to $16 million revenue impact. How much more of an impact would that extra quarter of a percent have?

George Pollock

At $15 million of revenue churn in year is the $1.2% to 1.25%, so if there's another $2 million of churn at $17 million, if it's fully related to $2 million of churn, then that would take our revenue to $20.8 million with everything else consistent.

Manny Recary – Kaufman Brothers

So that extra quarter is another $2 million or so.

George Pollock

If you took a quarter, yes. If it's $2 million more, $15 million into $17 million that would be a direct correlation in terms of impact to revenue.

Keith Olson

We saw an uptick in the fourth quarter of two-tenths of a percent. That's what we were referring to.

Manny Recary – Kaufman Brothers

As far as the capital, I think on your October call you mentioned that at the end of '09 you were still targeting $15 million or so in cash. Is that still the number that we should expect?

Keith Olson

Yes.

Manny Recary – Kaufman Brothers

You're still not expecting to dig down into your $15 million credit line?

George Pollock

The revolver, no.

Operator

Your next question comes from Gray Powell – Wachovia.

Gray Powell – Wachovia

I know you've talked about this a lot and I understand the potential impacts of the economy on pricing, but with limited supply coming into the market this year, how much of an offset do you think there is and is there some point in utilization where you really start to gain more leverage with customers whether they be existing or new customers?

Keith Olson

Let me first clarify. We're not seeing pressure on pricing. We continue to speak and report out that 3% to 3.5% lift in revenues from pricing actions so that's been consistent for the last couple of years as we've looked at the way we model and the contracts come up for renewal when you think of the number of customers in the multiple term.

We still see rational pricing stable and spend in pricing and clearly in markets where there's an acute supply and demand imbalance favoring demand, that's where we see the strength in pricing.

Gray Powell – Wachovia

I guess my question was really like, is there some magic number if you had 80% utilization in a particular market that you really get more flexibility on pricing.

Keith Olson

It's really market dependent. We always speak to before we had the larger footprints, we used to talk about the pressure would start mounting in the mid to upper 60% power with some larger footprints is when you start approaching the 70% power because it's about contiguous.

So you may have 50 or 100 cabinets available at a particular site, but you may not have anything over 10 or 15 contiguous, and therefore it starts becoming, there's certain deals that you may be constrained for in which case, there's the opportunity.

Typically, if you're looking at it from the standpoint of the way that Switch and Data has communicated in the past, we used to say when it gets to the upper 60%. We start looking right now to expand the footprints, we look at the 70% is probably where our products have landed as far as when we start seeing some of those capacity constraint issues.

Gray Powell – Wachovia

Can you talk about any geographies where overall leasing demand is strong and maybe geographies where it's only performing in line or not quite up with expectations?

Keith Olson

I try to stay away from the word leasing. We're a service provider. When you think of the top markets, think of the big market ranging from New York, Toronto, D.C., Atlanta, Dallas, Chicago, Seattle, the Bay Area, L.A., those are all the big markets where there is a lot of demand, a lot of competition, and there's a lot of business and deals that are being done.

When you start moving into some of the other markets, the size of competition is less and the types of decisions and the providers, certainly support. Now some of our customer deals that are landing in five or six of our locations simultaneously, that's one of the steps in our value proposition.

So when we think about certain types of deals and some of the ones that we aren't at liberty to be able to reference, some of those are landing in some of the other markets. We certainly see the higher percentage of demand being in those major markets, but the footprint plays a very important role for strategic wins and types of sales where people are looking to be able to expand beyond those major markets.

Gray Powell – Wachovia

It looks like CapEx for Q4 came in about $10 million less than what I was looking for, and then your 2009 guidance increased by pretty much the same amount. Is that just simply a timing issue?

George Pollock

Yes, it's the timing of a contractor payment for $10 million that moved from late December to early January.

Operator

Your next question comes from Todd Weller – Stifel Nicolaus.

Todd Weller – Stifel Nicolaus

Any updates on the Atlanta expansion you're targeting for 2010?

Keith Olson

There's none at this point. As soon as we have any change from what we've communicated, we'll be back to the market.

Operator

Your next question comes from Michael Bowen – Piper Jaffray.

Michael Bowen – Piper Jaffray

I want to make sure I understand something. We've heard from Saves and Equinox so far this quarter and some of the commentary sounds very similar to Equinox except that obviously you haven't taken down your revenue guidance here, but what I did hear was pipeline very, very strong, never stronger in your opinion, but I also hear customer delays due to the economy. So when I translate that into bookings, I'm sure the skeptics out there are probably thinking bookings are either going to slow down or they're already slowing down or maybe the company is not quite ready to admit that at this point. I want to make sure that the right message comes out of the strong pipeline yet customer delays.

Keith Olson

Let's first start with as we were moving 2008 versus 2007, we spoke about that new sales and orders and revenue were greater in retrospect to 2007. So from a velocity perspective, there was an improvement.

When we speak about the funnel going into '09, what we're talking about is the strength in the funnel. I provided some insight that said that tied to the capacities that we've brought on board in a number of key markets, that's what has bolstered both not only frequency but also the size of deals.

I can't comment on any of the other companies, but I know what we see from the standpoint of deal size, deployments and pricing are within the context of the comments we've already made, and when I look at comparison, they're strength.

Michael Bowen – Piper Jaffray

With regard to grooming, I want to make sure I understand that too because I'm assuming grooming primarily if not all of it refers to the existing customer base. How much are they able to groom, because they essentially are locked into contracts, although I thought maybe you also said the grooming occurs upon contract renewal. Did I hear that right?

Keith Olson

You heard part of that. That was one aspect of the grooming. There is also the inter-connect piece which is typically not a term based product, also have this move, add, change delete which is a pretty prevalent telecom or network centric term in the way people utilize it. Certainly as people are coming and having difficulties during a tight period, as we come into a time period for those particular service orders to be renewed, they could take advantage of some form of grooming.

What I was just providing was, there was a question about the economic issues versus capacity issues and I was just providing a couple of incremental insights for the call.

Michael Bowen – Piper Jaffray

Interest expense, remind me, that was up I think in the quarter it was about half of the full year. Can you remind us what caused that?

George Pollock

The interest expense, that's where the fair value mark to market is booked on the interest rate swap. That's booked to that interest expense line and that's where you'll see the increase vis-à-vis the prior fourth quarter.

Michael Bowen – Piper Jaffray

I want to put you on the spot in a good way. You said 50 new logos growth. It sounds like your new logo business was strong. Equinox says their new log business is rather weak. Are you in a position to say or admit are you actually taking business from the Equinox's of the world?

Keith Olson

I wouldn't comment on what that 50 meant other than we had a successful sales quarter tracking new logos.

Operator

Your next question comes from Mark DeRussy – Raymond James.

Mark DeRussy – Raymond James

A question on the last couple of quarters, we've seen a sequential decline in cross connects or inter-connects and I was wondering if that is a function of some of the grooming that you were talking about. Should we expect that growth to reaccelerate?

Keith Olson

I don't think you've seen a sequential downtick.

Mark DeRussy – Raymond James

In the net adds. Not the absolute numbers.

Keith Olson

That's what I'm talking about. In the net adds, when you look at it, because it's a percentage of a higher base, so when you think about the year over year, you need to look at that. I think the commentary that we spoke about whereby more power per rack is increasing the percentile of revenue, and so there's times where it could show up where you'd see some compression in the inter-connect revenue bucket vis-à-vis the bucket because of the increased ARPU's for any increased power on a per rack basis.

Mark DeRussy – Raymond James

I understand the revenue mix issue, but did you not add fewer inter-connections this quarter versus the third quarter?

Keith Olson

Yes.

Mark DeRussy – Raymond James

And then versus the second quarter.

Keith Olson

Yes.,

Mark DeRussy – Raymond James

So there's been a slowdown in your rate of inter-connections, just raw inter-connections.

Keith Olson

Yes. I think you should look at the revenue growth on the inter-connection line because there is substitution that occurs as people move from lower speed to higher speed, so you want to look at revenue on inter-connection, and I don't think you have that phenomena.

Mark DeRussy – Raymond James

Getting back to New Jersey, it's essential to your growth going forward because that's where your CapEx is going, that's where your capacity is going. Could you be a little bit more specific about where you stand today? I guess you've got 1,300 cabinets. What's your booking rate there or what's your utilization there of those 1,300? I think George you mentioned you're generating positive cash flow. Could you define that for us? Is that including the capital lease portion of the entire facility or are you amortizing it over that 1,300 cabinets. If you could give us a little more clarity there.

Keith Olson

Let me provide some on the customer front and I'll let George work through the second part of your question.

The specifics that we provided is that we have 40 customers that have deployed in the site. There's over 100 sales orders, and when we look at our plant, that is ahead of what we expected at this point in time. That's as much as we talk about from the standpoint of utilization rate and things of that sort of a particular site.

George Pollock

New Jersey is EBITDA positive today, and we expect it to be full cash flow positive including the capital lease within the next few months.

Operator

Your next question comes from Eric Suppiger – Signal Hill.

Eric Suppiger – Signal Hill

On the cash, did you say that you don't expect to draw down any more on your credit line in which case the $15 million of cash that you have now would be sufficient for your free cash flow needs going forward?

George Pollock

We specifically spoke about not any anticipation of using the revolver.

Eric Suppiger – Signal Hill

Is there a separate credit line that you would use or am I correct in what I said?

George Pollock

As we look at our business and our cash, we'll make those types of decisions. We have access to the revolver. We have access to some under the credit agreement and depending on how cash lands, a lot of it is tied to timing as we just looked at with the fourth quarter and the first quarter. But suffice it to say, we're comfortable with our cash position and our capabilities within our balance sheet to fund our growth and meet our expectations.

Eric Suppiger – Signal Hill

When you say that you don't plan to use your revolver, does that suggest that you're not planning to use up more than the $15 million of cash you have on hand.

Keith Olson

It all depends on timing of the cash as we move through the year.

Eric Suppiger – Signal Hill

'On the interest expense, is it fair to assume that your interest expense next quarter will come back down to kind of the traditional levels given that you wouldn't be having the interest swap issue or what should we model going forward?

George Pollock

It should come down given the fact that we were not, because there's no more runway, we're not expecting another 260 basis point decrease in LIBOR.

Eric Suppiger – Signal Hill

In your top ten markets, you had talked about utilization and new facilities getting up to 70% being comfortable. If you look at your top ten markets, where do you think you might start running out of capacity. Do you think that's an '09 issue or are you pretty comfortable? In the individual markets, are there markets that are going to start running out of space?

Keith Olson

I think we talked about on the last call, and I'll just add some incremental color. We expected that we would come into 2009 just about 58% to 59% utilization which we landed at 58% utilization based upon the capacity that we brought on throughout the year and certainly within the fourth quarter.

As I listed out where those capacity increases were, which is in the New York Metro, New Jersey, in the Bay area, in Seattle, in Dallas, in D.C. area, in Toronto, those are all in those top markets so we had some constraints in some sites. Of course, we run multiple sites so there could be constraints in particular sites within that particular market, but inside of the market, our top markets, we have excellent capacities and that's the investments that we've made and that's supporting the sales and funnel.

Eric Suppiger – Signal Hill

And you think that would sustain through the end of the year with what you currently have?

Keith Olson

Absolutely, unless demand goes through the roof.

Operator

Your next question comes from Richard Fetyko – Merriman Curhan Ford.

Richard Fetyko – Merriman Curhan Ford

Another way of approaching the guidance, looking at the mid point of the guidance, we're looking at about a $36 million revenue growth in 2009 versus about $34 million achieved in '08, so a bit of an acceleration actually which is great, just perhaps there's going to be a lot of suspicion about that. How do you get to that? How do you accelerate revenue growth in the current environment? Is that because of the increased capacity in certain of your key markets where you are able to get larger deals? Is that a big driver of that?

Keith Olson

The biggest amount of available capacities in the biggest markets is absolutely one of the contributing factors. It also is represented by the high rate of recurring and new orders from our existing customers who are the biggest brands in the network based space and the macro conditions of constraints, ever increasing applications and ever increasing traffic are the macro drivers to our business. That's what gives us that type of confidence.

Operator

Your next question comes from Robert Dezego – Suntrust.

Robert Dezego – Suntrust

I wanted to get one last question on power capacity. When you look at your power capacity across all of your assets, is it similar to the utilization number that we're at today?

Keith Olson

Utilization is really the power and cooled cabinet equipment in a particular site and that's the numbers we report which we talked about, the 1,300 and 3,300 and the 13,000 bookings of that sort. When we think about the types of customers that are landing in different sites, they have different power requirements and different density requirements that are fulfilled across the footprint.

Robert Dezego – Suntrust

Do you have a sense for how much of your power in all of your centers you're using? That's really the more important number to look at than the 60% number, right?

Keith Olson

No, that is the number. In other words, 58% utilization says that power and cooled cabinets across our footprint, that's what it is.

Robert Dezego – Suntrust

So you can get to 100?

Keith Olson

Yes. The way that we model and have been modeling our capacity since I've been here has been, it's got to be a power and cooled cabinet for it to count as capacity. It's not about square feet. That's why it's not a leasing environment. We're a service provider that monetizes power and cooled racks and interconnections.

Operator

This concludes the question and answer session. I would now like to turn the call over to Mr. Keith Olson for closing remarks.

Keith Olson

Ladies and gentlemen, thank you very much for your time. We appreciate your support. Have a good evening.

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