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tw telecom inc. (NASDAQ:TWTC)

Deutsche Bank's DbAccess 21st Annual Media and Telecom Conference

March 05, 2013 9:30 am ET

Executives

Mark A. Peters - Chief Financial Officer and Executive Vice President

Larissa L. Herda - Chairman, Chief Executive Officer and President

Analysts

Brett Feldman - Deutsche Bank AG, Research Division

Brett Feldman - Deutsche Bank AG, Research Division

All right, everybody. If you'll take your seat, we're going to go ahead and get started here with our first session of the morning. I'm very happy to welcome back to the conference TW Telecom. We have the management team up here. With me on stage, we have Larissa Herda, who is the Chairman and CEO of the company; along with Mark Peters, the CFO; and Michael Rouleau, who runs Business Development and Strategy. This is going to be the normal Q&A format. We definitely want to give you guys a chance to ask some questions so we will save time. At the end of that, just please raise your hands so they could bring the microphone over to you.

Question-and-Answer Session

Brett Feldman - Deutsche Bank AG, Research Division

Larissa, Mark, Mike, thanks for being back here. I think the first question -- I want to talk about what you guys are doing to sustain the growth that you have been able to generate consistently over the years. The Intelligent Network product set is a big part of this. You launched 2 phases of it last year, you have more coming up. Can you just recap what it is you're trying to deliver to your product with your customers? What are they asking for and what is the Intelligent Network product suite accomplishing for them and how does it create growth?

Mark A. Peters

Most of the -- before I jump into that, if I can go to the legal stuff?

Brett Feldman - Deutsche Bank AG, Research Division

Go ahead. Sure.

Mark A. Peters

Before we start, I want to direct your attention to the Safe Harbor up on the screen. Information on this webcast contains statements about expected future plans and expectations that are forward-looking and are subject to risks and uncertainties. Discussions of factors that may cause our results to differ materially from our expectations is included on the slide and all of our SEC filings. Thank you.

Larissa L. Herda

So thanks for having us here today. Great question. What we've done with our Intelligent Network is we're -- and it's really the overall Constellation platform. It's all around the concept of being easier to do business with, make it faster and easier for customers to interact with us. What we have found through the many years that we do -- that we've been dealing with our customers is they absolutely cannot stand the typical telco ordering process. And so we looked at our fiber infrastructure and we looked at the way customers are buying and we looked at -- especially a lot of the data center connectivity that they're looking for. And what customers are looking for is on-demand services. They're -- as consumers, we're used to buying on-demand services, use your iPhone, your iPad, you get that app right away, boom, it's there. You want your book, you download it, it's right there. And so business customers -- they've been playing around and doing some things with cloud services, but there's so many applications that they need over a secure infrastructure, a dedicated infrastructure. They really would like to have it more instantaneous. And so we thought we have all this fiber into all these buildings. We're in over 400-plus data centers around the country, we have access to thousands -- literally thousands of applications in those data centers and the probability is very high that most of the customers in our buildings, in our fiber base buildings want some of those apps, and they want them over a dedicated secure network. And so we thought, "Why do we need to just conform with the traditional telco ordering model, where you got to get an order form, you got to do this, you got to wait 45 days when we have all this capacity sitting there at all these locations?" When we provide a service to our customers with a 10 Meg circuit, there's a piece of equipment sitting in that building that has tremendous excess capacity in it that we can open up to that customer. And that was the concept behind Dynamic Capacity to start where we said to the customers, "If you buy these services from us between this location and that location, you can ramp-up that capacity within 12 seconds without any downtime up to 3x." If you have a 10 Meg circuit from Columbus to Miami, you can -- within 12 seconds, you can go online, you can access that capacity, increase that up to 30 Meg and you pay for it by the hour. And that is a service that obviously you're not going to use all month long because you would have been better off buying a long-term contract. But for a lot of different applications needs, for disaster recovery applications, for new applications that you're bringing online where the customer really doesn't know how much capacity they need, this gives them enormous flexibility. So instantaneous connections, dynamic -- being flexible with customers is really, really key, and giving them the option to have visibility into these and to what's actually happening with their network so that they can make these decisions, because customers really don't know what they need 6 months from now or sometimes 3 months from now, where they're putting something on their network and new applications, they don't know how much capacity they're going to need. So this changes the conversation that we're having with customers. We've become a much more strategic part of the conversation. To us, it's about not being a commodity and not commoditizing our business, but being a value-add strategic element and that's actually, that's what's happening with our customers, which leads us to our growth initiatives and why we're increasing the size of our sales force. If you look at our gross sales last year, we had record sales. They just weren't record enough in order for us to install enough to overcome the standard fairly low churn that we have to continue to accelerate our growth. So as we looked at the way our business is evolving and the -- all from the products that we're -- that are evolving, the innovation that we're doing and the types of customers who we're selling to have also been changing. We believe of that we needed to have more salespeople selling in new categories within our -- or categories that we have like national enterprise. Enterprise customers, a lot of the bigger customers are very interested in what we have to say. They've never had that kind of flexibility that we're willing to provide them and it's -- we're getting visibility into much higher levels of those organizations. So we're increasing the number of sales people we have there. We've made a lot traction in federal, we're increasing salespeople we have there. At the data center space, as we sell to the various different data centers, we needed different type of salesperson, and we've been hiring them by the way. But someone who can work with the data centers to help us create these machine-to-machine interfaces so that our services can be ordered seamlessly and turned up seamlessly and that takes a different type of sales force. So incrementally around the country we're putting bodies at a number of different places. And for us in order to get back to accelerating our growth, it's really a numbers game in terms of the number of salespeople we have. You have x number of salespeople who have this much production, which -- by the way, our production, we're very pleased with it. We just don't have enough salespeople to get -- today. It's not enough to just have record sales. You to have to have big record sales to make sure that you're accelerating your revenue. So that's what we're doing.

Brett Feldman - Deutsche Bank AG, Research Division

Great. So if I think about sort of the 2 things you -- we talked about here, you have new products and then you have a bigger sales force. So as you think about using, leveraging both of those to drive growth, how much of it is a focus on increasing your share taking, because you really just grow historically by taking share from the incumbents? How much of it is also simply being able to sell more to customers that you already do business with? Is there something -- is it mixed evenly or is it like -- or is there's something -- it's a little bit more concentrated right now in terms of what you're thinking you can get done.

Larissa L. Herda

Well, when you have new products, you usually go to your existing customers because they're the easiest sell. And if there's one thing the salespeople do is they try to sell the things they can sell the fastest. And so yes, when you have new products, that obviously is where they go. But we're constantly adding new customers, so you can see our new customer adds. I mean, we're constantly adding new customers, we're constantly adding new building. It is a combination of both things. We find, for instance, in the national enterprise group, there's -- we sell to -- the last stat that we gave which has been a while, around 40% of the Fortune 1000 buy from us. We're a niche provider. But once you sell to one of them, you're kind of -- that's one customer. You're not adding customers there, but boy, they are gift that keeps giving. So in that case, you're selling a lot to existing customers. But when you're in the middle of the market, kind of that unfortunate 5000 that we like to refer to, that's really our sweet spot. You're constantly adding more of those customers all the time. So really it's a combination of both things. But I would say the path of least resistance for new products is often to go back to your existing customers to go, "Hey, look what we got for you now." So that's not an unusual dynamic to see.

Brett Feldman - Deutsche Bank AG, Research Division

And what about buildings you're already in because starting about 2 years ago, you really ramped up the number of new buildings you were connecting to on a quarterly basis. It pretty much doubled. And so we've seen that your addressable market of under-penetrated buildings would be pretty high right now. Are these new products something you can bring into these buildings pretty quickly because you already have an infrastructure?

Larissa L. Herda

Absolutely. We have a really nice mix of the majority of our revenues. Somewhere around 70% of our revenue today is 100% on our own fiber network, has no type 2 component to it. That is a phenomenal metric. It is what drives our margins and our cash flow. So adding buildings to the network is the gift that keeps giving and a very critical part of our growth and adding density in our market is very critical. So you're going to continue to see that. The salespeople get paid more for selling on -- into the buildings. But most of what we sell are multi-city deals. So we may go into an existing building and see a customer who wants to buy something from us, but all their needs are not going to be just in that building. So you're going to be adding buildings. You're kind of always -- it's always a mix of those things. From a competitive positioning standpoint, in order for us to win, our probability of winning a deal is so much greater when we have most of the revenue on our own network. That is our best competitive position and that doesn't mean that's what salespeople always focus on selling, by the way. They try to sell what they think they can sell that they're hopeful to sell, and we're always trying to get them back to -- keep in mind folks, you're not going to win that and your win ratio goes down. So by having more buildings on the network and by just continually forcing them to sell in the network, it increases your win ratio. And that's really the key, because we've been plenty of proposals out there, we just have to continue to win more, then they have to always be the right proposals where we have a competitive strength.

Brett Feldman - Deutsche Bank AG, Research Division

And so if you haven't been winning as many as you think you should, is it -- do you think it's mostly a function of you need more salespeople out there to close these deals or do you think you just need to finish some of the investments in your products to make sure that your product is the winning product in front of the customer?

Larissa L. Herda

It's never just one thing. It's many things. So let's take the second part of your question, your assumption there on -- you need on the product side. If you don't innovate in this business, you die. You have to constantly innovate. If you don't innovate, you become more of a commodity. We've always taken the position of being a value provider, and that's worked very well for us. Our customers have told us they're willing to pay more for us because we're better. We're more flexible, we're easier to do business with, we work with them. That doesn't happen in a lot of carriers. But we do have some products that we need to tweak. Managed services, our converged managed services products were a huge growth driver for us in the 2011 timeframe and then we kind of pivoted a bit to really focus on where the Intelligent Network was going. And I would say, our growth has still been good in managed services but not as good. And so this year, we're going to be coming out with some tweaks to those products that we'll talk about later in the year that will, we believe, will get us back to winning some deals. We probably should have won last year that we didn't. So yes, there's some refinements to some of those products. The new products like Dynamic Capacity are absolutely changing the conversation and giving us. The idea there was to open more doors, sell more deals and that's what's happening. Because if the customer has a choice between 3 providers that are -- that they can buy 10 Meg service from all 3 of them and we're telling them, "Yes, customer, but for just a few dollars an hour, when you use it, you can go up to 30 Meg anytime you want within seconds." It's hard for them to ignore that. And so that provides -- that changes us from being just a commodity pipe into something much more strategic.

Brett Feldman - Deutsche Bank AG, Research Division

Okay. So if I think about some of the color you provided on the call, you talked about the investments you make in the sales force, you talked about how you still have some of these new products that you're planning on launching this year to kind of round out what you've been talking about in terms of Intelligent Network and Constellation. I know that you never stop. There's never an end point. But you probably have your eyes on a target that you want to get so you can kind of sustainably have bookings at a higher level for a period of time. What is that point? Is it by the third quarter, by the end of the year, by really next year? How do we think about getting to the point where the sales force is kind of executing the way you want and the product set is out there in a changed way?

Larissa L. Herda

Well, rather than give you a timeframe, which is you know we generally don't do unless we're right on top of them, let tell you what it takes to do some of these things. So when you hire salespeople, we started increasing our sales force on a -- we've increased by 6%, but most of those heads all came in December, where we added people all throughout the year, because of churn in your sales force, but the incremental increase came at the very end of the year. A salesperson that comes in December and starts -- basically, they get trained in, say January and February, and goes out -- and starts selling, going out to customers. If they get a deal in the, say the second quarter, then -- and that deal requires construction, so now the deal gets installed, let's say in the third or fourth quarter, they haven't produced much revenue for the year. And that's just the nature of the business. There's some of the come with relationships already, we love those people, but there just aren't enough of them and realistically, that doesn't happen all the time, and they takes a lot of training and we're changing the face of some of our sales force. Some people are coming to us with enormous IT capability or they understand applications, but they really don't know telecom. But we need those types of people. We can teach them telecom, but it's a different type of the salesperson. So we're not going to get a lot of productivity out of the sales force that we're hiring this year, but it sets up very well for 2014. And products, I mean, if you think about product development in our business, nothing comes -- nothing's -- there aren't really any hockey stick in this business. But the good news is that if you look at the nice, smooth revenue increase that we've had over many years, it's a really nice consistent performance. I mean, that's -- if there's a theme for our business, it's consistency, we have grown for 8 years, every single quarter for 8 years, including during the recession. So you're right, your comment at the beginning is we know how to grow. We know how to grow revenue and we know how to do it organically very, very well. And so for us, what we're doing is returning a number of different dials in the business like you said. A little bit on the product, a little bit on legacy products, improving those, a little bit on innovation, a little bit on increasing salespeople in different parts of the business. It's not like one part is getting all the salespeople, some were local where we're under-penetrated, some are in our in-directs that we are very successful and we want a little lift there. Some are in national enterprise, we want a little lift there. And you get a little lift in a lot of different places from what you do and eventually, that brings you the bigger lift in the business.

Brett Feldman - Deutsche Bank AG, Research Division

And so if I think about all the comments you just made and we sort of apply it to the framework we use for modeling your business, and I think about some of the comments you made on the call as well, you're making a big upfront investment in salespeople. You're bringing a lot of people in. They have recently -- and coming early in the year. So early in the year, presumably we're seeing an uplift in some of the spending on SG&A. That happens during a period of time when you typically see other expenses inflate, right? So the seasonality might be a little bit more enhanced in terms of the step down in margin at the start of the year. And to your point, it takes time for people to get ramped. And so when we think about the bookings last year, bookings grew, they were strong. They didn't grow as quickly as your revenue grew. And so presumably, there's going to be a little deceleration in the reported revenue early in the year as well. What you're setting yourself up for, if I heard this correctly, is to -- as you exit this year, you started to get more operating leverage around margin and probably an improved rate of growth on revenue if it all comes together. Is that kind of the goal?

Larissa L. Herda

That was a very good summary.

Mark A. Peters

You got it.

Brett Feldman - Deutsche Bank AG, Research Division

Okay. And if I just think about the revenue mix now, it does seem that there is at least a little tailwind baked in. Data and Internet revenues are now the majority of your revenues. They're over 50%. And I think I you said this on the call that over 1/2 of that is Ethernet and VPN, correct? It's the biggest component of that. I think it's...

Mark A. Peters

Data and Internet is our strategic services [indiscernible].

Brett Feldman - Deutsche Bank AG, Research Division

Strategic services, okay, which is growing faster. So in other words, your business is growing 7%, your data, half of it's growing 15%.

Larissa L. Herda

15%, right.

Brett Feldman - Deutsche Bank AG, Research Division

And then the single biggest component of that is growing even faster?

Mark A. Peters

Yes, right.

Brett Feldman - Deutsche Bank AG, Research Division

Okay, got it. And are these the categories where a lot of your new products are going to be flowing there?

Larissa L. Herda

Right there.

Brett Feldman - Deutsche Bank AG, Research Division

So there is -- if you execute on this, all those numbers should continue to migrating your favor as we move towards the end of this year. That's kind of what you're gunning for.

Larissa L. Herda

That's the plan.

Brett Feldman - Deutsche Bank AG, Research Division

I just want to make sure I understand...

Larissa L. Herda

You got it.

Brett Feldman - Deutsche Bank AG, Research Division

I appreciate the color.

Larissa L. Herda

That was very -- that was...

Brett Feldman - Deutsche Bank AG, Research Division

I know we went into a lot of detail.

Larissa L. Herda

Actually, you're the one giving the color. It's good.

Brett Feldman - Deutsche Bank AG, Research Division

All right. So then, let's shift gears a little bit and talk about -- everybody's here -- we're talking [indiscernible] industry consolidation. You guys have gone a while since doing an acquisition, so we'll start off with that. It seems that you feel pretty comfortable with your ability to self funds the investments you need to create the products and capabilities to remain competitive. Is there anything you see out there that you think could be helpful that you would want to buy? And I'm not saying you have to say this company, but maybe from a capability standpoint, are there certain types of assets or applications or even just sales teams that you think would be helpful. Or are you reasonably comfortable with your go-alone strategy right now?

Larissa L. Herda

Well, our view on consolidation and M&A in terms of making acquisitions has really never changed. We're -- we've always been opportunistic. We always look at a lot of different things. We look at everything from fiber-based players to kind of -- you made a statement about capabilities. We're obviously not an acquisition-hungry company. We've made 2 big ones, 3 total in 16 years. And they were all deals that were hard to pass up from both an asset standpoint and price. So we're price-sensitive because generally, whatever we buy, we have to fix. And so you have to make some investment in it, so you want to make sure that you're going to get a good return on that investment. And I think we've got amazing set of assets. We're in almost every major city with fiber, there's just a few that we're not in, but we don't have to be in certain cities. We have enough scale to have credibility with some of the biggest corporations in the world. For us, the key strategy for us is to continue to add density in our market, which means adding buildings. And very few providers out there who have fiber assets have many buildings on their networks. So they're not going to bring us buildings. We generally don't like buying customer bases. We've also found in our industry that there's theories around buying customers, enrolling them onto your network that fundamentally don't work. So from -- we're good at growing organically. We also have all of our resources focused on it, a lot on innovation and automation. We think that by accomplishing these things, we're going to see that much further ahead than anybody else in our industry and that's going to make us very special. Because when we can create dynamic connections with -- combined with our current Dynamic Capacity product, that gives enterprise customers the ability to access really any data center in the country that they want to get to, to grab the applications instantaneously over a secure infrastructure, that's powerful. And if that's all we end up doing with the Constellation network, that's very powerful, because there's enormous amount of capacity that are not just going to these locations today, but that are going there tomorrow, that we will be in the center of.

Brett Feldman - Deutsche Bank AG, Research Division

And what about data center assets, meaning space and power or the applications, the cloud applications that run through data centers? Do you feel you need to own or operate those types of assets?

Larissa L. Herda

No. No. In fact, we like being in Switzerland. I've met with some of the largest data center companies in the country and they love the idea that we are not in there competing with them. And they love the idea of bringing us into their customer relationship because they're not threatened by us. We're a true partner. We're really Switzerland for them. And we're -- that's not our expertise. One thing that's made us very successful as a business is we know who we are, we know the assets that we have, we'd leverage those assets, we've built this amazing fiber infrastructure into more buildings than any other nonincumbent carrier in the world -- in the country and we can leverage it differently than anybody else can. So we just don't -- we don't feel compelled to get in the real estate business and to get it into a hosting business. Customers want the best-of-breed we find. They don't want to be locked into one carrier for a network service provider for things. There will always be new applications they want to get to. We could never possibly keep up with that, so why try? Why not enable that infrastructure, enable that cloud infrastructure? That's what we're really good at, that's what we focus on and that's where we're going to generate our returns.

Brett Feldman - Deutsche Bank AG, Research Division

Okay. So I'll slip this around at the harder question then which is that there's some speculation that perhaps you might have been for sale. And I know it's a hard thing for you to comment on, so here's how I'll try to ask the question. It's -- I think it's easy to see what you bring to some of the companies who may be interested in acquiring you. You have a great fiber asset, you have a great sales team, you have a good customer base, so I get that. If you were to think about combining with a much larger company, and I'm assuming in this scenario that you would probably get some equity in this company, so you got to think about the future, what would you expect that asset to bring to you? I mean, what do you think would enhance TW's business as opposed to TW enhancing their business? Is there a certain degree of scale? Is there a whole different type of product set, maybe it's cable or wireless? I mean, I'm just curious about how you think about what could really be a game changer in terms of putting yourself into a much bigger organization.

Larissa L. Herda

So we're very fortunate in that we've always built this business for the long term. I think it's the reason why we're one of the last companies out there, but it's also why we have such strong financials. We generate so much cash. We're in such a good position. And that we also have been able to make very long-term decisions with things like our product portfolio that put us in a very, very unique position in the industry with capabilities nobody has, and I question whether others can almost ever do it on the scale that we're doing it. So we're very well positioned to continue our organic growth for a long time. You said earlier, we're a share taker. We are really good at taking share. For us to be able to have grown 4.5% during the recession, where every other competitor in the space was declining at least 10%, just goes to prove that we can grow in absolutely any environment. So for us, it's always just the challenge of how do we just keep on growing and accelerating that growth. So nice position to be in. We don't have a for-sale sign on the company. I think that's important to recognize. With that said, we're a public company and we're $1.5 billion in revenue going up against companies with -- that are substantially larger. And although we manage to get our piece of the pie and we believe we can continue to do so, we're also building and we've built an amazing platform that if it had more scale associated with it, more infrastructure, more network, more everything, we think it would be very valuable to our shareholders. So from our perspective, we have our plan, we know that we have our view of the value that we can create with our -- for our shareholders. But if somebody comes along and it's the right opportunity and they're going to trump value that we think that we can create and get rid of the risk, then it's certainly going to be something that we're going to seriously take a look at and that's our responsibility to our shareholders.

Brett Feldman - Deutsche Bank AG, Research Division

Okay. I'll ask if there's any questions in the audience. If you do, please raise your hand and just wait a moment. We're going to bring over the microphone for the benefit of the webcast. All right. We have a shy crowd today. So I have a couple of questions here for Mark. Your cash balance is pretty comfortable right now. You have nearly $1 billion of cash on the balance sheet. You do have some converged, you also have an authorized share repurchase program, you're going to increase CapEx a little bit this year. Can you think about how you're going to manage the cash position on the cash flow of the company right now?

Mark A. Peters

You bet, and thanks for asking. As we look at our capital allocation and our growth initiatives, we've been growing -- generating cash flow for 22 consecutive quarters. So we're generating cash for our growth initiatives, and that's -- so the excess cash that we have accumulated and we actually raised -- and we entered to that market last October I think that was and raised $480 million to address the convert and/or the stock buyback program. About 1.5 years ago, we announced the $300 million stock buyback program with the intention to return cash to shareholders in that fashion. Now we've done less than 10% of that program over the last year. We're kind of taking an opportunistic approach to it, and so we've only done about $22 million to that program. But as you see us progress throughout the year, you'll see us be more deliberate in that stock buyback program. And then also, using that cash, after April, the convert becomes callable. So we're -- anytime after that, we have the opportunity to call the convert, too. So you're not going to see us sitting here next year with $1 billion cash in our balance sheet. The intention is to put that to work and return it to shareholders in that fashion.

Brett Feldman - Deutsche Bank AG, Research Division

It does seem like...

Larissa L. Herda

It's not an either-or. We can invest our business, we can do our share buyback, we deal with convert. We're in a very good position and we're generating a lot of cash.

Brett Feldman - Deutsche Bank AG, Research Division

I guess the call-in to convert probably the next big decision you're going to have make and it probably makes it a little easier for you that point at the time to decide, do you want to deal with the convert right now or is there a potentially different use of cash? Is that from a timing standpoint?

Mark A. Peters

It's more timing. I would look at it more timing. So it's not -- the cash is there to use for those 2 purposes, quite honestly, because we can put the money to work. We're generating the cash for growth initiatives, we'll be doing those, the cash in the balance sheet that we can use that for the stock buyback and the convert.

Brett Feldman - Deutsche Bank AG, Research Division

You continue to carry a lot less leverage than most of your peers. I guess, that your capital structure looks a lot more like AT&T and Verizon and maybe some of the growthier telecom assets. Have you given any concern [ph]...

Larissa L. Herda

Are there really growthier telecom assets?

Brett Feldman - Deutsche Bank AG, Research Division

Attempted to be growthier telecom assets?

Larissa L. Herda

That are not -- that are organically growthier telecom assets, but yes.

Brett Feldman - Deutsche Bank AG, Research Division

You've done this for a long time. This has been pretty much the way you've run the business. Do you -- how often do you revisit that and think to yourself, perhaps it would make sense to take advantage of the low rate environment right now, really build up that cash position and do something more meaningful for your shareholders?

Mark A. Peters

Well, if we look at our balance sheet, we believe it's really a strategic asset. As you mentioned, AT&T, we're competing against the Fortune 50 companies and we have to demonstrate to them we're going against them, competing against them with these large corporations that we're a very stable company, that we're going to be here for the long term. So we're selling strategic services to them that we're going to install, that are going to be there for 5 years, 10 years. We have to be there and they have to be comfortable we're going be there. So it's a really strategic asset for us to have a conservative balance sheet. Now on a net basis, right now, we're at 1.4x. By doing stuff we just talked about, the share buyback and addressing the convert, the net leverage will go up. So we're comfortable taking it up to a degree, but we want to make sure we maintain that really flexible and conservative balance sheet.

Larissa L. Herda

Well, if you think -- what we did during the recession was completely different than any company in our sector. We kept our CapEx spending high because it was mostly geared towards the innovation that we have today and success base, which is generally around 80% and we were getting plenty of deals, good returns, good credit customers. So if we hadn't had the strong balance sheet that we had, we would have had sort of retrenched like a lot of other companies that -- who had too much debt. And as a result of that, we grew both years, the recession, we accelerated our growth coming out of the recession, whereas no one in our space has been able to do that. So having that strategic flexibility, that Mark just talked about, is very important to us.

Brett Feldman - Deutsche Bank AG, Research Division

All right. I think we actually have a question in the audience.

Unknown Analyst

I have a question I forgot to ask you yesterday. With the explosion of new products, have a very rich pipeline in that context, are you able to price these products in a way that they would accrete our margins as they begin to make an impact on your P&L?

Larissa L. Herda

It's a good question, Arthur. I think that the -- if you look at some of the products like Dynamic Capacity, it's all on-net today and probably for the foreseeable future. We don't have people in the order processing. It happens instantaneous at least, so there's -- you don't have any of that activity going on. So it's almost all basically margin. The capital has been spent for those services, so it's a very high margin service. The concept behind dynamic connections -- now we've put a lot -- over the years, we've put a lot of investment in the infrastructure to make sure that we have the capacity at the data centers to be able to just quickly turn up services, so a lot of that capital has been spent. The customer is -- you have a new customer, you're going to put capital in there, right, and -- but it's generally another on-net type service though. Again, very high margin services, so yes. Now on the other hand, our managed services portfolio when we sell those services, when you sell to a customer, you -- they want you to integrate everything for them. There are locations you can serve with fiber, as well as your off-net location. And so the more we sell of those services, there's obviously type 2 expense that we take on for those services. But as we found over the years, it still -- we still stay at about 70% fully on net revenue. So they -- some of it balances about, maybe some of the higher-margin services may balance out, some of them more services that may have more type 2 on them, so we seem to be balanced -- that has been balancing out. But the new products are very high-margin services.

Brett Feldman - Deutsche Bank AG, Research Division

I think we have one question in the back.

Unknown Analyst

[indiscernible] the spin, I'd like to ask because there's some discussion about converting assets like yours into an MLP REIT reformat? I know you have a big NOL, it doesn't make sense.

Larissa L. Herda

I'm sorry, what?

Unknown Analyst

Real estate investment trust, similar to what Lamar [ph] is doing or a lot of these companies are doing within the cap rates that you're getting as an MLP. How far long are you in asking our tax dynamics along those lines? And were the assets of companies like yours qualify?

Mark A. Peters

I can't answer that question specifically. But you're right. We have between $800 million and $900 million federal NOLs, so we're using that today. I don't know that -- if the nature of our business lends itself to that characteristic, so I just can't answer that directly for you today.

Unknown Analyst

Yes, because we've heard some [indiscernible] trying to figure that out as well.

Brett Feldman - Deutsche Bank AG, Research Division

And I think we actually have run almost out of our time. So guys, thank you very much for being here today.

Larissa L. Herda

Okay. Thank you all for your time.

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