Cbeyond Management Discusses Q4 2012 Results - Earnings Call Transcript

Feb.27.13 | About: Cbeyond, Inc. (CBEY)

Cbeyond (NASDAQ:CBEY)

Q4 2012 Earnings Call

February 27, 2013 5:00 pm ET

Executives

T.C. Robillard

James F. Geiger - Co-Founder, Chairman, Chief Executive Officer and President

J. Robert Fugate - Co-Founder, Chief Financial Officer, Executive Vice President and Secretary

Analysts

Barry McCarver - Stephens Inc., Research Division

Brett Feldman - Deutsche Bank AG, Research Division

George F. Sutton - Craig-Hallum Capital Group LLC, Research Division

Frank G. Louthan - Raymond James & Associates, Inc., Research Division

Michael Rollins - Citigroup Inc, Research Division

James D. Breen - William Blair & Company L.L.C., Research Division

Donna Jaegers - D.A. Davidson & Co., Research Division

Operator

Good day, ladies and gentlemen, and welcome to the Cbeyond Fourth Quarter 2012 Conference Call and Webcast. [Operator Instructions]

I would now like to introduce your host for today's program, Mr. T.C. Robillard, Vice President of Investor Relations. Please go ahead.

T.C. Robillard

Thank you, operator, and thank you, call participants, for joining us today. I would like to begin today's call by reminding you that this call contains forward-looking statements that include words such as believe, expect, anticipate, intend, project and similar expressions. Actual results may differ from our forward-looking statements. For specific factors that might cause future results to differ, we refer you to the forward-looking statements discussion in our most recent press release and the risk factors and other disclosures in our periodic reports that we file with the SEC.

On the call today, we have Jim Geiger, Chairman, President and CEO; and Bob Fugate, Executive Vice President and CFO. With that said, I'll turn it over to Jim Geiger.

James F. Geiger

Thank you, T.C., and thanks for joining us on the call today. Today we're discussing the financial and operating results for the fourth quarter of 2012. Well, it's been a year since we provided with you the details of our plan to evolve our business model to more cloud-centric offerings. With the tremendous amount of change that has taken place, I feel this is a good time for us to put the past year in perspective. And more importantly, provide you with our thoughts on the year ahead as we continue to build on our progress.

In short, 2012 was a historic year for Cbeyond. Our 2.0 vision went from a strategy to being fully implemented in every one of our 14 markets. Over the past 12 months, we put in place agreements to secure fiber assets, we began lighting buildings with our own fiber, we significantly increased the Metro Ethernet reach within our markets through a combination of owned and leased fiber as well as Ethernet-over-copper, we launched new cloud products, we retooled our sales force to more effectively address our new target market opportunities, we made significant investments in people, processes and technology to become more proactive in addressing the emerging needs of our customers. All while driving improving overall customer satisfaction and Net Promoter Scores. And as a result, our 2.0 platform is built. We will have 200 lit fiber buildings by the end of this week. And we expect to have 1,000 by year end. We have Metro Ethernet coverage in over 150,000 buildings in our 14 markets where we can provide 10 megs or higher of symmetric bandwidth at market rates. We have a full suite of cloud, network and professional services offerings that address the technology needs of tech-dependent small and midsize businesses. We have a fully staffed sales force that is focused on delivering this full suite of services, and we have a go-to-market approach that focuses on selling directly into buildings where we have network advantage.

Our 2.0 strategy is working right now and there is plenty of evidence to support this. We added over 1,600 2.0 customers in 2012. Our 2.0 ARPU continues to trend in the right direction and is now 60% higher than our total ARPU. 2.0 revenue represented 10% of December's revenue. In January, 2.0 services were 30% of new monthly revenue, which is more than double the levels we were seeing only 6 months ago and of the decisions made in our pipeline of monthly $5,000 plus revenue opportunities, we delivered a 10% win rate. Now to put that in perspective, that's up from 0 a couple of quarters ago. Now this is not to say our transition has gone precisely to plan or has been without certain challenges. As we mentioned last quarter, we expected Q4 to be our most inefficient quarter with respect to sales force productivity. And the reason for that was a combination of one, tenure. A majority of the new sales personnel came on board late last year. Two, new products. Our new cloud offerings have only been in the market since November. And three, longer sales cycles. The 2.0 products generally involve a more technical, solutions-oriented discussion than our traditional products and thus carry a longer sales cycle.

The net result of these challenges is that in Q4, our average monthly revenue productivity per rep was flat with Q4 last year, which is down from plus 6% last quarter. Clearly, we are not satisfied with our current rep productivity. However, when we take into account the variables of rep tenure and the availability of our 2.0 product offerings, we believe the statistic is a reflection of timing. And we expect to see improvement in this metric as we move through the year with our recently launched bundled cloud offerings get traction in the market, and the tenure of our newly hired reps increases. So as I sit here today looking at the significant progress and accomplishments we have made in driving our 2.0 strategy to market, I'm even more confident that our strategy is the right one. More importantly, I believe we can deliver a return to revenue and EBITDA growth in the coming years on the back of our 2.0 business.

To position ourselves for renewed top line growth and margin expansion over the coming years, our focus in 2013 is to drive improvements in our sales productivity and to further refine and improve our service delivery and customer care processes for the 2.0 offerings. One of the keys we see to facilitating an improvement in our sales productivity is our go-to-market approach. But before I get into that, I want to put some perspective around the total results of the company, specifically as it relates to our 2013 guidance. Bob will get into more detail on the guidance in his section, however, we believe our outlook for flat revenue this year is not the telling of the whole story and is masking the current 2.0 trends.

We continue to manage our 1.0 customer base as a source of cash flow to fund our 2.0 growth and as a source of customer upgrades to generate higher revenue 2.0 accounts. And we refer to these activities internally as monetizing our 1.0 base. And our 2.0 revenue has delivered high teens sequential growth in each of the past 3 quarters, which is a remarkable metric considering current tenure and productivity levels of our 2.0 sales force.

Now, shifting to our go-to-market approach. You've heard us say for the past year that our focus was to provide services at the intersection of cloud, network and security. The combination of our secure cloud platform, the significant reach of our symmetric Metro Ethernet footprint and our recently launched total assist professional and managed services offering positions us well across all 3 areas. It allows us to control the end-to-end experience, which, in turn, enables us to manage the quality of the service for customers.

It also positions us to be a single point of contact for the lion's share of our customers' technology needs. In effect, we are delivering on our vision to be the technology ally to small and midsized businesses with our ability to provide services, from a customer's PC or phone, all the way to our data center.

And looking at the full suite of offerings we have today, Cbeyond has a unique competitive advantage in each of our markets, one that we believe is unmatched by any of our competitors. And the steps we've taken now to put us in a position to leverage this advantage by providing bundled cloud and network solutions for small and midsized businesses. And we are calling this bundle our Cloud Advantage offering. A customer who purchases a certain monthly value of cloud services from us will receive anywhere from 10 to 100 megabits of symmetric bandwidth included in that price.

A determinant for the amount of bandwidth included in the bundle is the monthly value of the customer's cloud spend. The higher the cloud spend, the greater the amount of included bandwidth. We believe these bundles are going to accelerate the adoption of cloud services within the SMB market since the price point and set of services are too compelling for small and midsized businesses to ignore. Cbeyond, over its entire history, has continually innovated to make technology accessible to small and midsized businesses, at prices they can afford. We did it with voice and data, we did it again with mobile, and we're doing it all over again, right now, with cloud services. We are very excited about our competitive position within the market, and we expect these new bundled offerings to position Cbeyond to return to meaningful revenue and EBITDA growth. Clearly, there is more for us to execute on in 2013 to get an inflection in our revenue. We believe our new go-to-market strategy is a significant step forward in achieving that goal.

So to summarize. We achieved a lot in 2012. Our 2.0 platform is built, and it's rewarding to know we're able to accomplish such a significant transition in our business model while meeting or exceeding our financial targets. Our bundle of technology and communication services for small and midsized businesses is unmatched in the markets we serve and provides us with a unique competitive advantage. And our go-to-market approach is focused on targeted, direct-to-building selling model where we can best leverage this competitive advantage. We believe our strategy is absolutely the right one and I'm even more confident in this fact now than I was a year ago and our 2.0 revenue trends provide plenty of evidence to support this.

We believe we have all of the pieces in place from our network to our products to our sales model that positions Cbeyond to return to growth in both revenue and EBITDA in the coming years.

And at this time, I'll turn the call over to Bob to provide more detail on the quarter. Bob?

J. Robert Fugate

Thanks, Jim. First of all, I'm pleased to note that Cbeyond's results for the fourth quarter of 2012 put us at or above our guidance levels in revenue, adjusted EBITDA and free cash flow for the full year.

I believe this is noteworthy given all of the moving pieces in our business in 2012. Today, I'll provide some commentary on trends and revenue, ARPU, expenses and adjusted EBITDA for the fourth quarter. I'll also spend some time on capital expenditures, our cash balance and free cash flow as I know this is an area of focus for many of you. And lastly, I'll address guidance for 2013 and touch on our expectations for an inflection in revenue.

I'll begin by providing some commentary on Q4 revenue and ARPU. We posted quarterly revenue of approximately $119 million in Q4, a 3.6% decrease year-over-year, and at the high end of our expectations, reflecting ARPU trends and customer numbers consistent with our plan. ARPU in Q4 was $638, a reduction of $2 from Q3 levels. As we have expected, quarterly declines in ARPU have narrowed in recent quarters as we repriced customers in our base and 2.0 revenues began to increase. At this point in time, based on our current assumptions for 2.0 revenue trends, churn, pricing dynamics relative to our traditional communications offerings and recent increases in regulatory cost recovery fees, we expect an inflection in our revenue on a sequential basis to occur in either the first or second quarter.

On a year-over-year basis, we expect to return to growth in the second half of the year. That takes me to a discussion of our revenue categories as well as 2.0 revenue. Recall that we now break revenue down into 2 categories. The first is Network, Voice and Data, which consists of our traditional BeyondVoice packages and associated services, terminating access, as well as mobile and office applications. The second is Managed Hosting and Cloud, which consists of virtual and physical servers, Cloud PBX and other cloud revenues. During the quarter, our Network, Voice and Data revenue declined 4.5% year-over-year as anticipated. It was due to the fact that we have a much smaller sales force addressing our traditional customer prospects than in prior years. However, our Managed Hosting and Cloud revenue increased 15.8% year-on-year. Our number of 2.0 customers and corresponding ARPU continued to trend in the right direction during the quarter. We added over 1,600 2.0 customers last year and our 2.0 ARPU in Q4 was 60% higher than the ARPU of our total base.

Our total 2.0 revenue in the quarter was $11.4 million or 9.5% of total revenue, which is up 170 basis points from last quarter. We saw progression each month through the quarter with 2.0 revenue representing 10% of December's monthly revenue. This marks continued progress toward our goal of 25% of total revenue by the end of this year.

Now, I'd like to make a few comments about our customer churn since it's a contributing factor to revenue. Our monthly customer churn for Q4 was 1.6%, which is flat with Q3 levels and is in line with our comments from last quarter's call. Based on what we've seen in January, we expect this quarter's churn to look similar to Q4. As we've mentioned on prior calls, we've shifted our focus from a customer unit orientation to revenue and revenue quality. This shift involved changes to the composition of our sales team and meant that we would incur some quarters of revenue decline while our new sales channels became fully staffed and productive. So the revenue transition is happening according to our plan, and we look forward to reaccelerating year-over-year growth in the second half of the year.

Next, I'll cover our gross margin and adjusted EBITDA. Gross margins in the quarter decreased 120 basis points quarter-over-quarter, due to a combination of lower cost recoveries from our network partners and higher mobile costs, which were a result of a greater mix of smartphones. Our adjusted EBITDA for the quarter was $18.8 million, a decline both year-over-year and quarter-over-quarter, but the result was slightly above our expectations for the quarter. The year-over-year and quarter-over-quarter declines were expected and highlighted in our commentary last period, where we indicated SG&A would increase to more normalized levels in Q4 as we reached our targeted sales headcount levels. We also stated that we expected Q4 to be our most inefficient in terms of EBITDA as we were carrying the cost of a fully staffed team without receiving the benefit of full productivity.

Our adjusted EBITDA margin was 15.8%, which compares to 20.7% last quarter and 18.3% a year ago. As we look forward to 2013, we expect adjusted EBITDA to improve marginally from Q4 and both adjusted EBITDA and adjusted EBITDA margins to remain relatively stable thereafter on a quarterly basis.

Moving to capital expenditures. Total capital expenditures in the fourth quarter were $19.5 million, of which $14.5 million were cash capital expenditures. Our cash CapEx during the quarter declined roughly $3 million from last quarter's level. Non-cash CapEx during Q4 was $5 million and consisted of $1.6 million from a lease agreement for servers and computers for our data center, and $3.4 million in capital lease obligations related to our fiber assets.

As it relates to spending on our dark fiber project, I would like to provide some additional details to help investors track this project financially. We estimate the total cost of lighting 1,000 buildings with our own fiber will be $35 million to $40 million. And as we've said, roughly 30% to 40% will be in the form of cash CapEx, with the remainder coming from non-cash CapEx in the form of a loan or capital lease obligation. The amount of cash CapEx spent in 2012 on our fiber project was $6.1 million, and this amount is reflected in our cash CapEx result on our cash flow statement. The amount of noncash CapEx spent in 2012 related to our fiber project was $6.7 million and is reflected in the form of a $2 million fiber loan and $4.7 million in capital lease obligations on our balance sheet. You can find additional details in note 9 of our upcoming 10-K.

Recall that the current non-cash CapEx for the obligations we've taken on as a result of acquiring these fiber assets, our actual cash payments for these obligations will be evenly spread over the next 5 years, which is a much more attractive cash flow option for our business. As we go through 2013, we expect to have an additional $5 million to $8 million in cash CapEx spend related to our fiber project. This amount is included in our current cash CapEx guidance. We also expect to take on additional capital lease obligations as we light buildings.

In summary, the total cost of this project remains unchanged. Also unchanged is the mix between cash and non-cash CapEx as well as the schedule of payments relating to our non-cash CapEx obligations. Lastly, as you analyze our business for the out years, remember, we have these leases in place for 20 years with some possessing transfer of ownership rights while others have renewal options at the end of the 20 years.

Next, I'll discuss our cash position and borrowings. Turning to our cash position, our cash balance at December 31 was approximately $31 million, an increase from $24 million last quarter. In addition to the increase in our cash position from our free cash flow, we also benefited from a reduction in working capital as evidenced by strong collections in the quarter. We currently have $2 million outstanding on our term loan, which is our loan we are currently using to pay one of our fiber partners. This is unchanged from last quarter. We expect to begin payments on this loan over a 3.5 year period beginning in late 2014. We have no borrowings outstanding under our $75 million revolving credit facility. We also have $6.3 million in outstanding capital lease obligations.

Next, I'd like to discuss free cash flow. Free cash flow, defined as adjusted EBITDA less our cash capital expenditures, was $4.3 million in Q4, which compares with $7.7 million last quarter. The sequential decrease was in line with our expectations due to lower sequential revenue and an increase in SG&A, which was partially offset by lower CapEx.

To summarize, we believe that the company is in a healthy cash position with a strong balance sheet that gives us a solid platform from which to pursue our strategic evolution.

Lastly, I'd like to update our guidance. Based on our current assumptions for churn, sales rep productivity, the current macroenvironment and other key drivers of our business and barring any material changes to these key drivers, we offer the following guidance for 2013: We expect revenue to be $475 million to $485 million. Adjusted EBITDA is expected to be between $75 million and $82 million. The driver behind the year-over-year change in EBITDA for 2013 is our carrying a fully staffed sales force that is ramping in productivity versus last year when we were retooling our sales force and we're operating at below normal headcount levels. Said another way, our adjusted EBITDA levels in 2012 were temporarily higher given our sales headcount levels, while we expect our 2013 adjusted EBITDA levels to be lower due to a full staff that is ramping its productivity levels. To put some additional context around our adjusted EBITDA levels for 2013, at the midpoint of our guidance range, this would deliver a 16.4% margin. This is right in line with the level we generated 2 years ago on a similar revenue base despite our not being at full sales productivity currently and the fact that we've been managing through a transformational change to our business model.

I believe this is important to point out as it underscores the execution of our management team and business managers throughout the entire organization. In future years, we plan to see revenue and EBITDA growing at higher levels again. Cash CapEx is expected to be $60 million to $65 million this year, and free cash flow is expected to be $15 million to $20 million.

While we do not provide specific quarterly guidance, I'd like to put some additional color around our annual guidance in relation to how we expect to see the year unfold. We expect year-over-year revenue trends to improve in the second half of the year with mid-single-digit growth as we exit 2013. With respect to cash CapEx, we would expect to see it essentially evenly spread between the first half and the second half of the year, slightly more of the spend coming in the first half. The opportunity presented by the convergence of network and cloud is significant. Following our current period of transition, we expect to see major and sustainable gains in revenue, profitability and cash flow.

With that, I'd like to turn the call back to Jim for some closing thoughts.

James F. Geiger

Thanks, Bob. We've made a lot of progress over the past 12 months evolving our business to include cloud services. And this is reflected in the growth of our 2.0 revenue and customers as well as the growth in our pipeline. We now have a full suite of technology and communication services available for small and midsized businesses that we believe is unique and unmatched in the market today. The evolution has generated a lot of excitement internally, many people stopping me to tell me that it feels a lot like the old days. We're excited about our competitive position in the market and we believe this positions us to return to meaningful top line growth over the coming years.

Before getting into Q&A, I'd like to thank our investors and encourage those on the sidelines to take a harder look at the value we're creating in an exciting industry segment.

And at this time, I'll turn the call over to the operator for questions. Operator?

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from the line of Barry McCarver from Stephens Inc.

Barry McCarver - Stephens Inc., Research Division

Jim, in the past quarters, you've talked a little bit about sort of your outlook for the sales pipeline on the new products. I'm wondering if you just could give us a little more color on what do you think demand looks like right now inside the current customer base? And obviously also, new customers? And then, just secondly in terms of sales productivity and metrics there, are we fully done on retooling the sales force and when do you think would be appropriate quarter during the year to maybe start handing down some productivity metrics for us?

James F. Geiger

Yes. Demand is high, Barry. The funnels, I think we spoke about the number of opportunities we have above $5,000, that is significantly increased. And the funnel that we have in our cloud offerings -- I'll say this, the unit sales of our TotalCloud Phone System doubled in the fourth quarter. The backlog that we have for our TotalCloud Data Center is significant. I hesitate to give you a number, but it's a very significant backlog of opportunities relative to the size business that it is today. Managed cloud and hosting had a 15.8% growth year-over-year in the fourth quarter. We expect on current trends that that's going to have a fourfold increase, Q4, year-over-year in '13. So all of those metrics are trending well and giving us a lot of optimism.

And what I'll say about rep productivity, it's kind of simple. When our reps sell cloud, they win. About 1/3 of our salespeople that sold cloud in the fourth quarter, their average productivity was above that 50% uplift that we had hoped to have by midyear or over $1,600 a month per rep. When we have a competitive advantage, we win. And we're taking those learnings, Barry, and more than green shoots, it's over 1/3 of our sales organization. And we're applying those sales processes and best practices across all of them, number one. Number two, we just launched a cloud offering, it's called our Cloud Advantage offering, which is going to help all of our sales reps, not just the folks that normally specialize in the 2.0 services, but the numbers of salespeople beneath them in our -- what was more of our traditional selling channel. It's going to equip them to sell cloud as well. And we think that it offers us a pretty unique position. There aren't a lot of sales organizations that are out knocking on small business and midsized business doors and selling cloud bundles.

So having said all of that, lots of opportunity, lots of optimism. But, Barry, we're probably going to see another quarter of flat productivity as we readjust and retool. I'll give you just one other fact. The folks in our channel, in our 2.0 channel, the new channels that we built, as you might suspect, stick around longer. So it's a much more stable selling organization and by a significant margin to our traditional, younger communications -- more communications-oriented staff.

Barry McCarver - Stephens Inc., Research Division

That's actually very helpful. A couple of questions for Bob. I guess first off, if we look at Network, Voice and Data revenue, as it relates to your guidance, are you anticipating that ramping up the new sales force and just having more bodies out there, is that going to stem the decline in that revenue line item a little bit as we move throughout the year?

And then my second question was just, you had some prepared comments regarding EBITDA margins throughout the year that I just couldn't write them down fast enough, could you go over those real quick?

J. Robert Fugate

Yes, sure. So the first question is the Network, Voice and Data part of our revenue, is that going to -- are we going to stem the decline there? And I think the answer is yes, but not in the next quarter. So I don't want to be pinpointing a particular timing on that. But it's important to note that 2.0 revenue is resident in both the reported segment -- not segments, but portions of our revenue. So we report Managed Hosting and Cloud, most of that is what we call 2.0. Network, Voice and Data has a 2.0 component to it, as well. So as we grow the higher bandwidth sales, that will increase that portion of the Network, Voice and Data part of our revenue over time. And certainly, that momentum is growing. The 2.0 part of our business was 10% of our revenue at the end of the year. It's been consistently growing. We expect that to accelerate. So as we move through the year, I think you'll see that an overall inflection point in revenue and specifically in the 2 components we report.

The second part was just to talk about what we said on EBITDA for the quarters. And generally speaking, I just stated in the prepared remarks that you should see a slight improvement in EBITDA margin from Q4 going forward into this year. And then generally consistent, somewhat stable EBITDA margins for most of the quarters of 2013. Perhaps a slight improvement as you get toward the end of the year. But generally, not a lot of change there expected.

Operator

Our next question comes from the line of Brett Feldman from Deutsche Bank.

Brett Feldman - Deutsche Bank AG, Research Division

Just a sort of follow-up on that last point you were making. You talked about how you think your revenue will trend over the course of the year in terms of getting to sequential growth and then getting to year-over-year growth. If your EBITDA margin is expected to be reasonably stable, is it correct to assume that the trajectory in EBITDA would basically follow the trajectory in revenue?

J. Robert Fugate

I would say that the -- no, actually, we're expecting revenue to grow in advance of EBITDA. I think that EBITDA will be relatively stable throughout the year. By the end of the year, starting to move upward. Revenue will be a little bit in advance of that starting to pick up. So we're looking for an inflection in revenue before that -- before something similar happens on the EBITDA line.

Brett Feldman - Deutsche Bank AG, Research Division

Okay. And then, you had the announcement about sort of some of the off-net relationships you've put in place. I was hoping maybe to just get a recap here in terms of thinking about how you're going to bringing your network out to all of your customers as you continue to implement 2.0. I mean, what's the ultimate goal in terms of the number of your customers that would be connected via the fiber that you're putting in yourself? How much of it would be off-net fiber and then is there a going to be a stub portion that's going to have to rely on the some of the traditional connections you've made use of in the past?

James F. Geiger

Yes, Brett. I would say this. We set a big, hairy, audacious goal of having half of our revenue on Metro Ethernet, whether that was delivered by Ethernet-over-copper or fiber by the end of this year. That was an internal goal. We're going to fall short of that, but not much, maybe in the 40% range. So a pretty substantial movement to Metro Ethernet, both our fiber, our partner's fiber and our Ethernet-over-copper as well as our partner's Ethernet-over-copper. So parsing it more than that, I'm sorry, we'd have to get back to you with that information. But we have -- we're really happy with the relationships and capabilities that we've worked on for the past year to get to about 190,000 -- our reach for Metro Ethernet is in the neighborhood of 190,000 buildings, which is a very material percentage of the multi-tenant buildings in our 14 markets.

Brett Feldman - Deutsche Bank AG, Research Division

And can you give us any color on just who some of your off-net partners are, or maybe just qualitatively, even if you can't give their names, like in general, how are you able to secure some of this activity?

James F. Geiger

Well, I think we've talked about, or at least people -- we've talked about who our fiber partners are. And -- but I think that it wouldn't be difficult for you to try and figure out who has a big fiber footprint in each of these markets, who have big Metro Ethernet -- Ethernet-over-copper footprints. But really, this business is a business of interdependency, and we generally don't talk about our underlying carriers when we use somebody externally.

Operator

Our next question comes from the line of George Sutton from Craig-Hallum.

George F. Sutton - Craig-Hallum Capital Group LLC, Research Division

Jim, a quarter ago, we talked about some of the signposts for your 2.0 success and I think at that time, you had mentioned, really happy about the quality of the people we've hired and the number of proposals that we have seen above $5,000 a month, which I think was 165, shows that there's interesting demand opportunity. If we were to update that answer today, what would the updates be?

James F. Geiger

I would say the sort of signposts that I think about, George, first of all, the internal capability of delivering these products. We have the 2.0 products that we need to be successful today. We have the network that we believe is essential. One of the things I don't think maybe we highlighted enough on this call, I know we have in other calls. What we're doing is moving enterprise applications. We're not selling per se to web-centric applications. We think that the opportunity really exists. Over 80% of business applications -- enterprise applications are still housed on servers that are on premise. And we think the next wave of opportunity is going to be in taking those into the cloud. So we're very focused on that, and have built our products and capabilities around that. And that's why we believe the intersection of network and cloud, secure network and cloud is where we need to be because we have to control that experience. So the reach of our network for Metro Ethernet, which we think is table stakes for hosting cloud services, the products themselves, the people that are building those and running those systems internally, and the people that are selling those. We have a full complement of staff, we have a full complement of salespeople. As I mentioned, about 1/3 of them in the fourth quarter sold cloud, and when they did, they averaged significantly higher than our average and at our goal -- above our goal actually. The fiber buildings, we'll have 1,000 lit by the end of the year. Truthfully, I expected us to be a little bit further ahead than where we are. We're finding that the long pole in the tent isn't the network construction or anything to do with the operational aspects of that build, but with just getting building access agreements. The agreement to build riser cable in those buildings. But we're being very successful when we're doing that. We have, as I said, by the end of this month, we'll have 200 buildings lit. The first 78 buildings that we focused on, that were lit and we were focused on, by the end of this month, in the next few days, we'll have an average of 3.6 customers in those 78 buildings, those first batch of lit buildings that we focused on. So that's going along well. The percentage of 2.0 revenue, we hoped it would be 10% by the end of the year. It was. 25% by the end of this year. It likely will fall just a little short of that, but we're still working on plans to help us get to 25% of our revenue to be 2.0 revenue. And I'd say the only thing, George, that we're still working on and it's behind our expectation is the productivity overall, average productivity of our sales organization. But we think that our new cloud bundles will help that.

George F. Sutton - Craig-Hallum Capital Group LLC, Research Division

Right. And then actually on the cloud bundles, just so I'm clear, on the Cloud Advantage side, when you have a traditional customer being approached by a salesperson relative to that Cloud Advantage offering, how is it used for that traditional customer? I understand how it would be used for a potential cloud customer.

James F. Geiger

Yes. Essentially, George, the difference is leading with cloud with all of our sales channels. The conversation is about leading with cloud. And you'd be surprised, maybe you wouldn't, at how interested people are at learning how they can take advantage of the efficiency of the cloud.

George F. Sutton - Craig-Hallum Capital Group LLC, Research Division

I would not be surprised by that. Lastly, relative to your $5,000 and greater customer opportunities. You mentioned a 10% win rate. I'm not familiar with what your win rate goals would be there. So can you just walk us through that?

James F. Geiger

We -- our goal would be to get it better. We're focused on how do we bring those larger opportunities home. I think the quote from last quarter's call was we had 41 customers that were greater than $5,000. And so, we really didn't play in that marketplace. And we are increasingly successful and we hope to continue to make ourselves a little bit more successful there. So 10%, we're never happy, but it's up from 0 a couple of quarters ago.

Operator

Our next question comes from the line of Frank Louthan from Raymond James.

Frank G. Louthan - Raymond James & Associates, Inc., Research Division

Of the 190,000 buildings that you mentioned, how many of those -- how much of that includes existing customer locations? And what are the margins when you sell to a customer on those buildings versus what they are currently in your base?

James F. Geiger

Yes. Frank, I will try and work my way toward -- we had 22% of our base on our own Ethernet-over-copper. We have another 3,000-plus customers that will be in the 1,000 buildings that we light on our own fiber. So call that 1/3 of our base, probably -- I'm sorry, it probably builds to about 1/3 of our base we could reach with these new Metro Ethernet capabilities.

Frank G. Louthan - Raymond James & Associates, Inc., Research Division

Okay. And on -- are the margins with these new carriers that you got to be able to sell through, are they better than existing base? Or the same, or how should we think about that?

James F. Geiger

Well, where the margins are comparable or better, we make the conversion and on existing revenues, I would say it would depend on what the customer is buying for new installations. And I'm going to clarify, Frank. I was wrong about the -- about 65% of our base we could reach with those 190,000 buildings. Sorry, I had it just wrong, my math was off.

J. Robert Fugate

You were referring to just the ones where we have our own fiber and our own Ethernet-over-copper with your initial statement, then when you add in third parties, it takes us up to 65%.

James F. Geiger

Correct.

Frank G. Louthan - Raymond James & Associates, Inc., Research Division

Got it. And looking at your churn, what's the single largest driver of those customers that you're seeing churn off? And at what point do you think that part of your base is kind of flushed out and we start to see the churn come back down a bit as the 2.0 customers become more of the norm?

James F. Geiger

Yes. Frank, we're doing our level best to save every single customer. And I would tell you that likely, the number one reason we're losing customers is they're at the lower end of our customer spectrum and they're focused on price. So we talk about the difference of our base. It's really a tale of 2 different small and medium-sized businesses: Ones that use technology and technology is important to their ongoing business and the others that really may never become a 2.0 candidate. And so we refer to those, as you may recall, as tech-dependent and non-tech-dependent, more communication-centric. About half of the business customers that we have today are tech-dependent. And they're a significant source and prospect for us for our new strategies and our new service offerings. And we are doing a great job of converting them. There's going to be a falloff at the lower end of our customer base of people that are more price focused, more duress, financial duress, and we're using the best techniques we can to upgrade them where we can. And I would tell you that Bob mentioned that the churn will probably be flat next quarter. And we can only hope for marginal improvements in that throughout this year.

Operator

Our next question comes from the line of Michael Rollins from Citi Investment Research.

Michael Rollins - Citigroup Inc, Research Division

Really 2. Just the first one was I've got your progress scorecard from one of your investor presentations during the fourth quarter. I was just wondering if you can just help me fill in the blanks to make sure I have the right numbers for the last 3 boxes: the fiber lit buildings versus order, the Cbeyond 2.0 sales reps and the percent increase in the overall monthly revenue productivity per rep. The other thing I wanted to just ask you is if you could give us a little bit more color of what -- when you're talking about the cloud products and the strength in ARPU, can you talk a little bit more about where you're seeing the most success in terms of products? Is it the TotalCloud Phone System, is it the upgraded network, is it cloud compute and storage? If you can you give us a little bit more color on maybe, some of the more popular products that are driving the strength in the ARPU?

James F. Geiger

Sure. Lit buildings, 200 by the end of the month, by the end of this week. Out of the 1,000 that we anticipate by the end of the year. 2.0 revenue at the -- in December, average 9.5% for the quarter, fourth quarter, 10% at the end of the year, which met our goal. We had a full complement of sales reps, the 2.0 sales reps at the end of the year. So met the goal that we established there for ourselves.

Michael Rollins - Citigroup Inc, Research Division

The 125-person goal?

James F. Geiger

Correct, correct. We had in fourth quarter, we had a 0% increase in our average productivity. What we talked about was having by the end of the second quarter a 50% increase. So we've got our work cut out for us there. We mentioned it'll be flat again this year -- I'm sorry, this quarter. And so we can hope for marginal improvements in the second quarter. So the focus that we have today is in getting cloud products into the hands of all of our sales reps, not just necessarily the 2.0 sales reps. And as far as traction, we're getting traction across our cloud complement. Our existing customers are representing, I think, the easiest and best opportunity that we have for Metro Ethernet, 10 megabits higher. I think about 70% of the upgraded network is occurring there, and it's probably just the opposite in our cloud products. We have about -- most traction that we're getting, about probably equal amount, 2/3 to 70% of our cloud prospects and sales are coming from new customers. And it's pretty evenly distributed across our TotalCloud Phone System as well as our TotalCloud Data Center. And I think I mentioned earlier that, that growth rate of 15.8% year-over-year will probably increase on a comparable level at the end of this year by fourfold.

Operator

Our next question comes from the line of James Breen from William Blair.

James D. Breen - William Blair & Company L.L.C., Research Division

Can you just give us a little bit of color on sort of the sales force, sort of what your ultimate goals are in terms of building that out, in terms of -- it seems like right now, it's a little bit specialized where you have a cloud group and a non-cloud group. And then, additionally, with respect to your existing customer base on the voice and data side. Can you talk about sort of upgrades in general? And how many people you're getting to switch over either as a percentage of new sales or of the base?

James F. Geiger

Sure. Our goal currently, as I mentioned, on our Cloud Advantage is to get cloud in the hands of all of our sales reps because what we're finding is we have a unique competitive offering. There aren't a lot of people knocking on doors and consultatively selling cloud services into small and midsized businesses. Our new sales organization is focused on the larger, more technology dependent of the small to midsized business and our lower rung of that sales organization is focused on a notch below that. It's a unique space to occupy. We're doing something different, we're not calling on web-facing application companies. We certainly get our share of those. But most of our focus is on taking the enterprise applications that small businesses use to run their business and moving them into the cloud. As well as any premise-based equipment, their phone system, their cloud, their servers, moving those capabilities into our cloud data centers. So our new Cloud Advantage, we think will spread that success and capability down across all of our sales. My overall goal would be that we have more of our new channels over time and so that -- we call them SAEs or CSMs, that over time, there'd be a blurring of lines between the different capabilities and it would really be related to tenure. Probably still have a smaller farm team that feeds those more capable sales channels. And we sold 1,600 2.0 customers, incremental 2.0 customers in 2012.

J. Robert Fugate

Conversions from existing customers.

James F. Geiger

Those were the conversions.

Operator

Our next question comes from the line of Donna Jaegers from D.A. Davidson.

Donna Jaegers - D.A. Davidson & Co., Research Division

Just 2. Jim, can you talk a little bit more about how you develop sales leads? Because just going around cold calling, knocking on small company doors may not be the most effective way. So do you have something more fine-tuned then? And then also, can you refresh us on how many of your data centers -- that you're running the cloud services out of? Is it just still primarily the Louisville data center?

James F. Geiger

The answer to that is yes. We'll be opening our second data center sometime in the second quarter. And we do, do a different level of targeting. Most of our focus today is building-centric, Donna. So we have buildings that we target that we know that we can get network advantage to, and that have in them prospects that meet the profile of technology dependent. So we are changing and using a little more sophistication. But I would say the one main difference is that we're much more building-centric focused.

Donna Jaegers - D.A. Davidson & Co., Research Division

Okay. And then just one quick follow-up. On the cloud data center, are you getting -- say, like a customer of yours in LA would see a lot of latency by hauling their applications to Louisville and back. Are you getting that pushback at all from your customers?

James F. Geiger

We aren't, Donna, because mostly what we're doing is selling a combination of network and cloud services. So we're able to make certain that the quality of service is within the tolerances of the application and the expectation of the customer. But there is no question. We'll be continuing to build out our second data center sometime -- it will be ready sometime in the second quarter. And over time, as volume and opportunity permit, we'll likely have another data center.

Donna Jaegers - D.A. Davidson & Co., Research Division

And then on new data center plans, those would be mostly leased spaces that you would just put up your cloud in? Or are you thinking of buying?

James F. Geiger

Yes. At this point, our focus is on leased data centers. It's a very mature market and I would say a buyer's market.

Operator

[Operator Instructions] This does conclude the question-and-answer session of today's program. I'd like to hand the program back for any further remarks.

James F. Geiger

Thank you, operator. And I thank you, call participants, for your interest and investment in Cbeyond. We'll continue to earn your trust. Thank you.

Operator

Thank you, ladies and gentlemen, for your participation in today's conference. This does conclude the program. You may now disconnect. Good day.

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