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Executives

J. Cooney - Chief Executive Officer, President and Director

George Kilguss - Chief Financial Officer, Principal Accounting Officer and Vice President

Andrew McBath - Director of Investor Relations

Analysts

Gray Powell - Wells Fargo Securities, LLC

Mark Kelleher - Dougherty & Company LLC

Robert Dezego - SunTrust Robinson Humphrey, Inc.

Jonathan Atkin - RBC Capital Markets, LLC

Clayton Moran - The Benchmark Company, LLC

Internap Network Services (INAP) Q2 2011 Earnings Call July 28, 2011 5:00 PM ET

Operator

Good day, ladies and gentlemen, and welcome to Internap's Second Quarter 2011 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host today, Drew McBath, Director, Investor Relations. Please begin.

Andrew McBath

Thanks, Sean. Good afternoon, and thank you for joining us today. I'm joined by Eric Cooney, our President and Chief Executive Officer; and George Kilguss, our Chief Financial Officer. Following prepared remarks, we will open up the call for your questions.

We will reference slides today in our conference call. These slides are available in the presentation section of Internap's Investor Services website. Non-GAAP reconciliations in our supplemental data sheet, which includes additional operational and financial metrics, are available under the Financial Information Quarterly Results section of our Investor Services site.

Today's call contains forward-looking statements, including expectations regarding our future financial performance and long-term profitable growth; our belief in our business strategy, including expected results from investing in data centers and the overall value proposition of our IP services business; expectations regarding new and expanded markets; the timing for bringing new data centers online and savings in incremental operating costs; expectations regarding the features and benefits of our solutions, including our cloud services and the timing for bringing new solutions and features to market and expected levels of capital expenditures.

Because these statements are not guarantees of future performance and involve risks and uncertainties, important factors could cause our actual results to differ materially from those in the forward-looking statements. We discuss these factors in our filings with the Securities and Exchange Commission. We undertake no obligation to amend, update or clarify these statements. In addition to reviewing second quarter 2011 results, we will also discuss recent developments.

Now let me turn the call over to Eric Cooney.

J. Cooney

Thank you, Drew, and good afternoon, everyone. We appreciate you joining us for our second quarter 2011 earnings presentation.

Beginning on Slide 3, we are very pleased to deliver what we said we would in terms of sequential revenue growth for the company inclusive of both the IP and Data Center business units. Specifically, revenue in the quarter totaled $60.4 million, up $1 million sequentially and roughly flat year-over-year. In addition to driving sequential topline growth in both business units, we generated the largest quarter-over-quarter increase since the third quarter of 2008. In terms of segment profit, we continue to see the year-over-year benefits of the data center partner churn program we completed in 4Q of 2010. Segment profit improved on a year-over-year basis as did segment margin, rising 2% and 110 basis points respectively. Compared with the first quarter of 2011, both segment margin and segment profit decreased due to seasonal cost at our growing data center footprints. On Slide 4, you can see the positive trend in our recent EBITDA performance. This quarter, adjusted EBITDA totalled $10.3 million, increasing 12% compared with 1Q and 4% over the second quarter of 2010. This year-over-year increase in EBITDA was attributable to improvement in Data Center Services segment margin. Better cash operating expense cost control and the elimination of $0.6 million in executive severance helped drive this sequential increase. We were able to achieve these cost controls while generally maintaining our commitment to and investment levels in critical engineering, customer support and sales functions. It is also worthwhile to note that these results reflect our work to build better profitability and consistency into our business model. We have now had 7 consecutive quarters above $9 million in EBITDA, and the second quarter of 2011 marked only the third time in the company's history where quarterly EBITDA totaled more than $10 million. Clearly, a track record of consistent profitable growth is central to the long-term success of the company, and we are pleased with the trend in EBITDA growth we have delivered since early 2009. I'll cover segment results on Slide 5. In Data Center Services, revenue increased quarter-over-quarter and year-over-year. Second quarter 2011 represents our first clean sequential growth comparison in this segment since the third quarter of 2009. As you will recall, this was the quarter we began our data center partner churn program designed to proactively churn low-margin revenue at a number of partner data centers. Data Center revenue for the quarter totaled $32.5 million, an increase of 0.9 million sequentially and $1.3 million year over year. Segment profit in Data Center Services was up 12% year-over-year, and segment margin increased 260 basis points over the same period. The year-over-year improvements were due to the elimination of low-margin partner revenue and an increased proportion of higher margin hosting customers and collocation customers purchasing our services within the Internap's company-controlled data centers. Compared with the first quarter of 2011, Data Center segment profit and margin declined primarily due to higher seasonal costs. As the weather cools, power usage tends to decline and relative costs come down. Our IP Services segment generated quarter-over-quarter revenue growth for the first time in almost 3 years. Although the top line increase was modest, we were pleased to see the continued evidence of improvement in this segment. Compared with the first quarter of 2011, IP revenue increased 0.2%. Year-over-year IP revenue decreased 5%. Segment margins in the IP Services business remain in their historical range in the low 60s. Second quarter IP segment margin was 61.2%, a decrease sequentially of 110 basis points and an increase year-over-year of 30 basis points. I'll speak in a moment, but we expect our IP Services business to remain a key element of our overall value proposition insofar as network performance and availability continue to be strong differentiators for the sale of Internap's Data Center Services products. Yesterday, we announced that we are expanding our data center presence in Atlanta, the details of which are outlined in Slide 6.

Phase 1 of the expansion will include approximately 12,000 net sellable square feet and is expected to be online in the third quarter of 2012. When fully deployed, the expansion space will include approximately 31,000 net sellable square feet. Like our other premium data centers, the Atlanta expansion will maintain N+1 redundancy across all power cooling and connectivity infrastructure and will feature high density, green-friendly design to economically support long-term customer growth with capacity for up to 12-kilowatt power drop per cabinet.

Several considerations informed our decision to select this Atlanta facility for our next expansion. First, the Atlanta Metro has a high concentration of Fortune 1,000 companies looking to outsource their IT infrastructure. Second, we have seen strong demand in this market, such that we are nearing capacity in our existing data center footprint. Third, the expansion location itself is also very compelling with ready access to reliable power on Atlanta's highly stable downtown power grid and superb connectivity options, including 10 carriers and local access providers available in the meet-me room. Finally, as we are expanding an existing facility, we can avoid incremental operating costs such as a staff, leasing, connectivity and maintenance costs that we would otherwise incur in developing a new location. We are excited about the continuing successful development of our company-controlled data center footprint driven by solid business demands.

On Slide 7, you can see the recently completed data center expansion as well as the near-term anticipated expansions. Also you can see the positive trend in the quarterly occupancy since the beginning of 2010. From the first quarter of 2010 to the second quarter of 2011, we deployed 37,000 net sellable square feet. Over the same time frame adjusted for proactive churn, we added 19,000 square feet of occupancy. The simple message is that we are having success both deploying incremental data center capacity as well as selling into our existing capacity. Looking ahead, our Dallas, Los Angeles and Atlanta data center expansions will add almost 30% more selling capacity to our company-controlled footprint by the third quarter of 2012. Along with the collocation and managed hosting services we currently sell in our data centers, we expect to deploy an enterprise cloud service later in the third quarter of 2011. On Slide 8, you can see a high level architectural diagram of the enterprise cloud solution we are bringing to market. Designed to provide a unique level of flexibility and future proofing for the discerning enterprise customer, our cloud service will offer multiple deployment options tailored to meet the needs of our customer base.

We will deliver a spectrum of both public and private cloud solutions based on customers' priorities for customization, security, scale and cost. Further, our design offers the enterprise customer flexibility such that as their IT requirements change, they will be able to move seamlessly across the full spectrum of cloud solutions, thereby future proofing their investment decision. Over the past 2.5 years, we've spent a lot of time understanding how we differentiate ourselves from our competition, and how we can widen the gap. On Slide 9, you can see the 3 areas where we believe we are committed to provide our customers a better overall experience relative to other service providers. The first area is best performance to the end user. With enterprises increasingly relying on the Internet to deliver complex applications and content to their customers, decisions around outsourcing IT infrastructure services often hinge on the ability of the service provider to deliver a high quality end user experience. Our patented performance IP, XIP application acceleration and our content delivery network technologies combine to allow us to deliver an unmatched performance element to our IT infrastructure services platform. By ensuring the best performance to the end user, we can significantly improve the likelihood that our customers' applications are rapidly adopted and their content fully consumed.

The second differentiator we are articulating is our ability to provide IT platform flexibility for our customers. From collocation to managed hosting to our new cloud service, Internap is building one of broadest most flexible IT platforms in the industry. This flexibility becomes increasingly important for the enterprise CIO or CTO supporting the myriad applications and use cases that business demands. The third area is our best-in-class customer support. Almost without exception, customers cite Internap's after-sale technical service and support as among the best in the industry. In addition to operating redundant network operation centers, our NOCs are staffed by highly trained network engineers, not simply ticket takers in remote call centers.

Uniquely, we back up our promise to be best in class with a 100% service level agreement, with proactive customer alerts and proactive sales credits. On Slide 10, I want to take the opportunity to highlight a key customer win we announced earlier today. YouSendIt provides a software as a service based digital file transfer solution to more than 20 million enterprise users worldwide. In 2008, YouSendIt selected Internap for our performance IP solutions. They needed a robust, high-performing connectivity to efficiently deliver extremely large amounts of data from millions of their customers. In 2009 and again in 2010, they expanded their IP relationship with us as their connectivity needs grew. Also in 2010, YouSendIt switched their managed hosting service to Internap based on our flexibility, breadth of offering and technical support. Today, we announced a further expansion of our relationship as we have engineered a storage solution for YouSendIt's newly announced enhanced cloud collaboration service. YouSendIt is a great example of a successful, high-tech enterprise customer who leverages their own in-house IT expertise to select an outsourcing partner best suited to meet their business demands for performance availability and support. YouSendIt follows an increasingly familiar pattern as a Internap expands our service offerings and moves upmarket in terms of the scale and complexity of our solutions. Now I'll ask George to take you through some additional financial and operational detail.

George Kilguss

Thanks, Eric. And good afternoon, everyone. Beginning on Slide 11, I'll cover our income statement comparisons for the quarter. Total revenue increased sequentially by $1 million, the largest sequential improvement in almost 3 years with both IP and Data Center business units contributing to the increase. When compared with the second quarter of 2010, revenue was down slightly by about $100,000. This decrease was attributable to lower IP service revenue for year-ago levels. Quarter-over-quarter, segment profit declined by $500,000 due to increased seasonal power and planned maintenance cost in our Data Center business. Segment cost also increased modestly during the quarter in IP Services, which impacted a sequential segment profit comparison. IP service margins however remained within historical ranges when compared with previous quarters. Total segment profit improved to $600,000 compared with the second quarter of 2010 due to the data center profitability program we implemented in 2009 and concluded in the fourth quarter of 2010.

Cash operating expense totaled $19.6 million, increasing $200,000 year-over-year and decreasing $1.6 million sequentially. Approximately $600,000 of its sequential decrease was due to executive severance cost incurred in the first quarter that did not impact our second quarter OpEx. Better cost control particularly in the G&A, as well as some nonrecurring items drove the rest of this sequential decline. The modest year-over-year increase came despite the fact that we added 30 employees since the second quarter of 2010. Adjusted EBITDA improved 4% compared with the second quarter of 2010 and 12% quarter-over-quarter to $10.3 million. Higher segment profit drove year-over-year improvement, while lower operating expense helped grow adjusted EBITDA sequentially. Adjusted EBITDA margin this period was 17%, an increase of 60 basis points compared to the second quarter of 2010 and 150 basis points sequentially. As Eric mentioned, adjusted EBITDA has been tracking at a consistently higher level since early last year, which we believe is vital to our long-term success and another sign that our efforts to build a more profitable base are having the desired effect. Our GAAP net loss in the quarter was $2.6 million, which included a noncash restructuring cost of $1.3 million. These noncash costs are primarily related to an increase in our estimate of the time needed to sublease unoccupied nonoperating real estate related lease holds. Normalized net loss, which excludes the impact of this restructuring adjustment, stock-based compensation and certain other items management considers nonrecurring totaled $0.3 million or 1% -- $0.01 per share. A summary of our cash flow and balance sheet is outlined on Slide 12. Adjusted EBITDA roughly funded our capital expenditures in the period. Second quarter CapEx totaled $10.5 million, down compared with the first quarter. We expect the capital spend to increase in the third and fourth quarter to 2011 as our data center expansions in Dallas and Los Angeles begin to ramp.

We are making good progress in driving towards the expected opening dates in both the first and second quarters of 2012, respectively. Both of these builds are in markets where we have not had a company-controlled presence, but have seen good success selling collocation at partner data centers. We are eager to open our own company-controlled facilities to address prospects and existing customer needs in these underserved metro markets. Cash and cash equivalents totaled more than $40 million at the end of the second quarter, a decrease of around $6 million quarter-over-quarter as working capital was the use of cash in 2Q.

Funded debt totaled $19 million, remaining flat compared with the prior quarter. Our capital lease balance at the end of the second quarter was also flat compared with the total at March 31, 2010. Subsequent to our June quarter end, we took possession of our Los Angeles data center facility and accordingly, increased our capital lease obligations by $8 million in the current month of July. We continue to maintain flexible financial position with a liability to equity ratio at 55% at the end of the quarter. Day sales outstanding was 27 days in the first quarter, in line with our DSO balances in both the prior and comparable periods.

On Slide 13, we'll take a closer look at our segment results. Data Center Services generated the largest sequential revenue increase in almost 2 years. Revenue in this segment totaled $32.5 million, improving $1.3 million year-over-year and $0.9 million sequentially. Data Center segment profit improved 12% year-over-year driven by higher revenue, lower partner data center cost and a better mix of higher margin company-controlled collocation and managed hosting revenue. Segment profit decreased 2% sequentially because of higher seasonal power and planned maintenance costs. Data center segment margin continue to increase measurably over the prior-year period, rising 260 basis points. Data center churn reached its lowest levels since 2007. In the second quarter, it totaled 1% compared with 3.6% in the first quarter of 2010 and 1.1% in the first quarter.

Our proactive churn program complete -- with our proactive churn program complete, our sales team focused on selling core managed hosting and collocation at company-controlled facilities. We expect a continued improvement in this business segment. In the IP Services segment, second quarter revenue was $27.9 million, down from $29.3 million in the same period in 2010 and modestly up compared with the first quarter of 2011. IP segment profit decreased to 4% over second quarter of 2010 and 2% sequentially. The year-over-year segment profit decline was attributable to lower revenue. However, higher network cost drove the quarter-over-quarter reduction.

IP segment churn in the quarter increased over historical lows we saw in the fourth quarter of 2010 and first quarter of 2011. This increase was due to a combination of contracts renewed at lower price points and customer terminations in the quarter.

Despite the higher churn, we drove sequential IP revenue growth for the first time since 2008. The IP Services business complements our collocation, managed hosting and soon, cloud services. Our connectivity solutions, including performance IP, Web application, acceleration and our content delivery network help win IP infrastructure deals as they drive quantifiable improvements in performance and availability that we can demonstrate to our customers and prospects.

I'll finish my prepared comments on Slide 14. In the middle of 2009, we made a strategic decision to focus on what I would call Internap-produced services. Since then, we have significantly increased our investments in engineering to develop and deploy new services and have expanded our data center capacity, which serves as a platform for these services.

Over the past 5 quarters, we've increased our net sellable square feet capacity in company-controlled facilities by 32%. Over the same time frame, we've also deployed a number of new services, including XIP and cloud storage, and we are filling our development pipeline with enhancements and additions to our portfolio of high-performance IT infrastructure services. Despite these significant investments, our debt to EBITDA and debt to capital ratios are well below that of our Data Center and IP peer group. With a superior balance sheet and flexibility to access additional capital, we can better weather macroeconomic storms and advantage of opportunities that drive shareholder value.

Now let me turn the call back to Eric for his closing remarks before we take your questions.

J. Cooney

To sum up on Slide 15, we were very pleased to return to sequential revenue growth in 2Q on what we believe is now a platform to support stronger, more profitable long-term growth. In addition to growing revenue and delivering solid quarterly EBITDA, we accelerated data center occupancy growth, continued our operating cost discipline, and are expanding our competitive differentiation with compelling new product launches.

Looking into the rest of 2011 and 2012, our focus is on maintaining top line profitable growth. With more than 40,000 square feet coming online in Dallas, Los Angeles and Atlanta over the next several quarters, as well as our third quarter launch of the differentiated cloud service, we believe we are well positioned to successfully execute for our shareholders. Now, we'd be happy to open up and take your questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Robert Dezego with SunTrust Robinson Humphrey.

Robert Dezego - SunTrust Robinson Humphrey, Inc.

Good job on getting the IP back to positive territory. So along those lines, do you expect this growth to kind of accelerate, as we go through the rest of the year? Or is it really going to have to wait until you get a lot of this new capacity on -- just trying to get a sense of where we think IP can maybe start to grow in the next several quarters?

J. Cooney

Without providing any explicit guidance, we're being very cautious about -- even soft guidance as it relates to IP. Specifically, you can see even in Q2, we delivered -- while positive revenue growth, very modest positive revenue growth. So I think from our perspective, we're sailing pretty close to the wind, with regard to IP services revenue, and you would be correct to detect a note of caution in our "soft guidance" as we look forward with that IP business unit.

Robert Dezego - SunTrust Robinson Humphrey, Inc.

If I could follow up, you had said last quarter, you talked about a lot of the trends that you have seen in the business that allow you to be comfortable that it was going to grow, have you seen any change in those kind of leading indicators on the IP business as you go on to the next couple of quarters?

J. Cooney

No.

Robert Dezego - SunTrust Robinson Humphrey, Inc.

Okay, and if I -- just a quick follow up here, can you talk about the square footage partner versus company-owned and maybe the revenue breakdown? Just -- now that we're kind of through all that proactive churn, it might be helpful for us to see kind of how the normalized trends look for both businesses?

George Kilguss

Sure, Robert. This George Kilguss. So our total net sellable square foot at the end of the second quarter was 203,000, of which 141,000 was company-controlled and 62,000 was partner.

Robert Dezego - SunTrust Robinson Humphrey, Inc.

And on the revenue breakdown?

George Kilguss

So obviously on the data center side, our total revenue was $32.5 million for the quarter and roughly 55% of that revenue was from our company-controlled facilities.

Robert Dezego - SunTrust Robinson Humphrey, Inc.

Okay, great. And I'll ask one more question, and I'll pass on to everybody else here. So the margins being a little bit down in the quarter, was there anything on pricing at all in the quarter that was driving those margins? Or is this really all about some of the additional cost that you set on the IP side? And how should we think about margins in this business, have you seen a sequential decline in this quarter? Do we think we're getting sort of stabilized in that low 60s? Or is there -- how do you think about margins for the rest of the year?

J. Cooney

With regard to the IP services business, we are expecting to be able to maintain in the low 60% range for the segment margins. No reason to expect that to change in the foreseeable future.

Robert Dezego - SunTrust Robinson Humphrey, Inc.

And was there any change in the pricing that might have led to some of those margins -- the margin decline or was there any change in the pricing in the quarter that you saw?

J. Cooney

No, I think the macro conditions are essentially the same meaning, we're certainly continue under pricing pressure, but there certainly hasn't been a change in that, at least over the past couple of years.

Operator

Our next question comes from Jonathan Atkin with Royal Bank of Canada.

Jonathan Atkin - RBC Capital Markets, LLC

Yes, I had a question about the sequential margin decline on data centers, and you talked about seasonal impacts, and if you could flesh that out a little bit for more detail, and if those same factors that led to the 2Q margins would also affect 3Q if it's weather or what not? And then, as we look at Dallas, Los Angeles, Atlanta, where you've got a kind of a staggard setting with openings coming up within the next period of time, what -- how do we think about the OpEx drag, either in terms of margin points or amounts of OpEx expense that would hit in association with those projects?

J. Cooney

I'll take a first stab and then maybe George can expand if there's more detail. With regard to the data center segment margins, the short version is, we did see an increase in our cost of sale in the data center business unit in second quarter, in large part attributable to "seasonal power cost" essentially the higher temperatures we're seeing in many parts of the country drove the cooling cost up a bit. And we also had some plant maintenance activities that contributed to some of our incremental costs during the second quarter. Does that answer your question on the COGS?

Jonathan Atkin - RBC Capital Markets, LLC

Yes. So as we think about 3Q, then there would be kind of a similar -- similar trend?

J. Cooney

I -- well, it depends on what you mean by a similar trend. Yes, an expectation for those seasonal power costs to essentially remain. The difference this year is that those really high temperatures occurred in the second quarter, whereas typically, we see those in the third quarter. So at this point, we expect normal "seasonal power cost" in the third quarter, which would lead you to believe a continuation of what we saw in the second quarter.

Jonathan Atkin - RBC Capital Markets, LLC

And there was plant maintenance on a similar level of magnitude in terms of the impacts or not?

J. Cooney

One more time, Jonathan?

Jonathan Atkin - RBC Capital Markets, LLC

You talked about extra expenses related to maintenance activity, is that going to also occur in the third and fourth quarter or was that mainly a second quarter impact?

J. Cooney

It was primarily a second quarter impact.

Jonathan Atkin - RBC Capital Markets, LLC

And then on the OpEx drag and timing rather -- magnitude and timing of the OpEx drag associated with Dallas, Los Angeles, Atlanta if you could maybe provide a little bit of guidance for a second there?

J. Cooney

So the timing, again, on those data center openings is first quarter, second quarter, third quarter of 2012, respectively. So what you would expect is, typically one quarter in advance, we would be fully staffed in those facilities. So fourth quarter this year would be the first quarter with any OpEx impact associated with the first one, Dallas. And I think in materiality terms, it would be relatively small to our total quarterly OpEx. I mean, you're typically talking on the order of 7 to 10 staff to man those data centers. And then keep in mind for Atlanta, that's an expansion of an existing data center, so there is no incremental staff cost associated with that opening.

Operator

Our next question comes from Gary Powell with Wells Fargo.

Gray Powell - Wells Fargo Securities, LLC

I just had a couple. And just to follow up on the first question, I'm sorry, did you say that company-controlled data center revenue was 55% of total data center revenue? I just want to make sure I have that correct.

J. Cooney

That's correct.

Gray Powell - Wells Fargo Securities, LLC

Okay. And then can you just -- so if I just kind of do some very rough math, I have data center revenue growing 2.9% sequentially, which is a little bit better than 11%, if I annualize the number. Should I think about third-party revenue being flat to slightly down sequentially, which means that company-controlled revenue is actually growing north of 20% on an annualized basis?

J. Cooney

Yes, is the short answer and to help you a little bit there, what we've said with regard to our partner data center revenue is, obviously we're not investing to -- focused on growing that revenue. So flat to perhaps slightly declining is in fact an appropriate assumption. The only other point to make with regard to your projections on or the implied projections on company-controlled revenue is, keep in mind that also included in that is our managed hosting revenue. And what I would say is, in aggregate our company-controlled and managed hosting revenue, we've previously stated, we expect to grow at or above market based on the trends we've delivered to date.

Gray Powell - Wells Fargo Securities, LLC

Got it. That's very helpful. Okay, and then -- so as just sort of a follow up, just doing the rough math on the build plans that you've announced, you're going to be expanding your company-controlled footprint by about 30% by the third quarter of 2012, should we think about revenue on the company-controlled side further accelerating as we go into next year?

J. Cooney

I wouldn't want to be explicit on projections. I think my earlier statement about, we're challenging ourselves and really holding ourselves accountable to achieve at or above market growth rates in the company-controlled and managed hosting business is about as far as we'd like to go.

Gray Powell - Wells Fargo Securities, LLC

Fair enough. And then just to backup one bigger picture question, can you just talk about how your managed hosting and cloud offering is evolving? What type of customers are you seeing the most success with and then just who do you think your closest peer is on this side of the business?

J. Cooney

Well, how is the product evolving? Again, we haven't actually launched the complete cloud offering yet. So our customer base is obviously limited at this stage. We're really just doing our pipeline funnel development. But in general terms, for our entire data center service offering: colo, managed hosting and cloud, what we are seeing is a -- and focused on delivering is what we would describe as a move upmarket, in terms of that enterprise customer. And to be clear, what we mean by upmarket, that's not a reference to the -- necessarily the size of the customer, but rather a reference to the size of the customers' expected outsourced IT spend, and we are focused on targeting enterprise customers with increasingly higher willingness or ability to outsource IT spend. So we're talking about moving from $5,000 to $10,000 to $20,000 to $50,000 and above in typical monthly outsourced IT spend.

Operator

Our next question comes from Mark Kelleher of Dougherty & Company.

Mark Kelleher - Dougherty & Company LLC

Is there any insight you can give us into the CapEx expectations for Q3 and Q4?

George Kilguss

So, Mark. This is George. As well as you would expect, we spent about $23 million through the first half of the year. Our previous guidance and current guidance on CapEx is between $75 million and $85 million, and we would expect to continue to fall from that range with the first year. So most of the CapEx is weighted toward the second half of the year, associated with the build that we have outlined in Dallas and Los Angeles and so you should see our CapEx accelerate in the second and the third and the fourth quarter.

Mark Kelleher - Dougherty & Company LLC

So, given the balance sheet, we should expect some new debt instruments over the next couple of quarters?

George Kilguss

Well, I would say a couple of things. If you look at the current bank facility that we have in place today, we have a second $20 million term loan tranche, which you should expect us to use to help fund some of that CapEx. We also have a $40 million revolver. Also we have on the revolver is about $4 million or $5 million of letters of credit. So I have $35 million capacity there, and then obviously, we have $40 million of cash in the balance sheet. So we have sufficient funds to fund our CapEx plan. But yes, you should expect us to see -- to utilize some of those debt facilities in the coming quarters.

Mark Kelleher - Dougherty & Company LLC

Okay. And then just one additional question, there's some chatter out in a trade magazine this week about a change to your reseller program, do you want to make any comments on that?

J. Cooney

Sure, this is Eric. I'll comment. I think it's exactly that -- chatter, and I would now suggest that everybody check the sources for that information because there's a lot of rumor and innuendo with some questionable agendas behind the authors. The facts are actually really pretty straightforward. Fact #1, Internap is in fact very committed to our channel agent partner program. And beginning in early 2011, we actually made a commitment to increase our investment and focus on that channel partner program. The chatter, as you phrase it, is really derived from a change that we made to our agent agreement program, specifically with regard to an evergreen clause, and I think the best way to describe that is, what Internap is interested in is putting in place an agent program where we pay commissions tied to results. What we're not interested in doing is paying agents or partners a comfortable annuity for services rendered many years ago, and that is essentially what the evergreen clause is, is a comfortable annuity for services rendered many years ago. And to go, let's say, perhaps the last level of detail there, when we looked at our commission spend in 2010 compared to the bookings derived from that agent program, there was clearly a very big disconnect. We had a significant number of agents or partners that actually didn't bring us any or contribute to any incremental bookings during 2010, but yet were still receiving significant commission payments. And clearly from our perspective, that was a disconnect. So again to summarize, very committed to our channel agent partner program and committed to pay for performance, and that's the way we expect to run the program going forward.

Mark Kelleher - Dougherty & Company LLC

Positive effects on operating margins because of that?

J. Cooney

Nothing material.

Operator

Our next question comes from Clay Moran with Benchmark Capital.

Clayton Moran - The Benchmark Company, LLC

Thanks, that's Benchmark Company. Three quick questions really. In Atlanta, can you disclose the cost of Phase 1, and then the cost of the entire project? Second, also wondering if the headcount ramp is complete. And lastly, can you tell us the growth rate for managed hosting in the second quarter?

J. Cooney

So on the cost for Atlanta Phase 1, we've talked about $14 million for the first phase. In terms of the headcount ramp being completed, are you referring to the headcount tied to the data center expansions?

Clayton Moran - The Benchmark Company, LLC

No, last quarter, we had talked about a headcount ramp related to sales and general expansion and wondering if that's complete now.

J. Cooney

With regard to sales, yes, we've completed the ramp in our sales organization. We ended the quarter with 435 employees on staff. We do expect that to generally trend up through the remaining -- through the second half of 2011, in part tied to data center expansion. I mentioned some field operation staff. We also continue to make investments in our engineering development organization and in our service delivery and support organization. Not massive changes, but generally an upward trend based on recruiting in those areas.

Clayton Moran - The Benchmark Company, LLC

Okay. And can you comment on the -- about the growth in managed hosting?

J. Cooney

We really don't breakout the managed hosting. You may have heard one of the previous callers did some quick napkin math that suggested the combination of our company-controlled data center and managed hosting business grew quarter-over-quarter just about or just over 20%, and I wouldn't argue with that analysis.

Operator

[Operator Instructions] I'm not showing any questions in the queue. I'd like to turn it over to Drew McBath for closing comments.

Andrew McBath

Thank you very much for joining us today. We look forward to visiting with you again in the next 3 months for our third quarter conference call. Thanks again.

Operator

Thank you. Ladies and gentlemen, thank you for your participating in today's conference. This does conclude the conference. You may now disconnect. Good day.

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