Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

Internap Network Services (NASDAQ:INAP)

Q4 2011 Earnings Call

February 23, 2012 5:00 pm ET

Executives

Andrew McBath - Director of Investor Relations

J. Eric Cooney - Chief Executive Officer, President and Director

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

Analysts

Clayton F. Moran - The Benchmark Company, LLC, Research Division

Mark Kelleher - Dougherty & Company LLC, Research Division

Christopher M. Larsen - Piper Jaffray Companies, Research Division

Colby Synesael - Cowen and Company, LLC, Research Division

Gray Powell - Wells Fargo Securities, LLC, Research Division

Operator

Good day, ladies and gentlemen, and welcome to the Internap Fourth Quarter 2011 Earnings Conference Call. [Operator Instructions] As a reminder, today's conference is being recorded for replay purposes. I would now like to turn the conference over to your host for today, Mr. Drew McBath, Director of Investor Relations. Sir, you may begin.

Andrew McBath

Thanks, Mary. Good afternoon, and thank you for listening in 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 in our conference call today. These slides are available in the presentation section of Internap's Investor Services website. Non-GAAP reconciliation 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 performance and long-term profitable growth including returns on capital. Our belief and our business strategy, including the benefits to be achieved from investing in our higher-margin company-controlled co-location and managed hosting businesses; timing for bringing new data centers online and installing customers; expectations regarding the progress, timing and ultimate success of integrating Voxel into our business, including its impact on our financials and launch of new offerings; expectations regarding levels of capital expenditures and expected levels of future churn.

Because these statements are not guarantees of future performance and involves 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 the fourth quarter and full year 2011 results, we will also discuss recent developments.

Now let me turn the call over to Eric Cooney.

J. Eric Cooney

Thanks, Drew, and good afternoon, everyone. We are very pleased to be here this afternoon to present our fourth quarter and full year 2011 financial results.

I'll start the discussion with the summary of our results before George takes you through our financial results in detail. From there, I'll briefly wrap up our prepared remarks, and then we'll take your questions.

Beginning on Slide 3, you will see we delivered total revenue for the quarter of $62.8 million, representing our third consecutive quarter of sequential revenue growth and an improvement of 5% over fourth quarter 2010. Solid growth in the data center services business, including the company-controlled co-location and managed hosting product lines, underpins the fourth quarter results. The successful strategic shift to company-controlled co-location and increasing emphasis on our cloud/hosting business also continues to have a positive impact on the company's operating leverage. Segment profit and segment margin reached record levels for the second consecutive quarter. In fact, both measures in the fourth quarter and all of 2011 were the highest they've been since Internap's founding in 1996. An increasing proportion of our data center services revenue is generated within our own facilities, which has helped drive both margin gains and absolute profit increases.

In the fourth quarter, segment profit was $32.9 million, an increase of 12% year-over-year and 5% quarter-over-quarter. Segment margin was 52.4%, an increase of more than 330 basis points compared with the prior year's period and 200 basis points sequentially.

On Slide 4, you can see a similar positive trend in our adjusted EBITDA results. As with segment profit, adjusted EBITDA reached its highest point in the history of the company for both the fourth quarter and the full year 2011. Fourth quarter adjusted EBITDA was $12.6 million, up 23% year-over-year and 12% sequentially. Adjusted EBITDA margin increased 300 basis points over the fourth quarter of 2010 and 190 basis points quarter-over-quarter. The improvement in fourth quarter adjusted EBITDA was driven entirely by increased segment profit. Fourth quarter cash operating expense increased 6% year-over-year in the quarter to $20.3 million, in line with the 6% or 25% increase in headcount we experienced over the same period. We are certainly pleased with this 3-year trend of profitable growth as further validation for the strategic plan.

Turning to Slide 5. Fourth quarter data center services revenue increased to $35.3 million. Year-over-year, data center services revenue increased 11% compared with the fourth quarter of 2010 and 4% sequentially, as managed hosting and core co-location showed solid growth. We continued our focus on improving the profitability of the data center services unit and seeing those efforts reflected in the results. The reduced emphasis on partner data centers and the investment in sales of our company-controlled co-location facilities, as well as sales of hosting and cloud solutions, all contribute to the 24% increase in data center segment profit and 445-basis-point increase in segment margin as compared with fourth quarter of 2010.

IP services revenue declined modestly in the fourth quarter and approximately 4% on a year-over-year basis. A combination of market price declines along with a couple of substantial contract renewals during the fourth quarter offset continued traffic growth. Despite the moderate decline in IP revenue this quarter, segment profit and segment margins in this business unit increased sequentially and year-over-year to 64.5%, as the ongoing efforts to consolidate network footprint and negotiate IP transit costs continue to yield cost reductions.

The 3 main technologies deployed within our IP network: IP route optimization, XIP application acceleration and our content delivery network, provide an increasingly important element of differentiation for our cloud/hosting and colocation services. As enterprises move to outsource their IP infrastructure, the network, and in particular, the availability and performance of the network, can mean the difference between success and failure of that outsourcing initiative. We continue to leverage our unique combination of network technologies to the benefit of our data center services target market.

On Slide 6, we're providing a recap of our full year 2011 revenue and profitability. On multiple fronts, we have delivered solid progress in our mission to become a leading global supplier of IT infrastructure services to the enterprise. We returned the company to full year revenue growth in 2011 after declining 5% year-over-year in 2010. As you recall, we completed a proactive churn initiative in the fourth quarter of 2010 that improved profitability and sharpened our focus on services sold in core company-controlled data centers. Segment profit growth improved to 6% year-over-year, doubling 2010's annual growth. Data center services segment margin for the year improved 20% year-over-year, more than offsetting a 2% decline in segment profit and IP services. Segment margin also improved substantially during 2011, rising 300 basis points year-over-year. The direct result of our 2010 proactive churn program and the continued emphasis on selling high-valued cloud/hosting and co-location services in our data centers.

At the same time that we've made progress on revenue and segment profit growth, we've also carefully managed our cash operating expenses. Year-over-year, this metric increased 4% despite significant investments in engineering, customer support and marketing. As a result of these efforts, we've generated the second consecutive year of double-digit annual adjusted EBITDA growth and solid adjusted EBITDA margin expansion. Year-over-year, adjusted EBITDA grew 11% to $43.4 million. Adjusted EBITDA margin improved 170 basis points to 17.7%.

On Slide 7, I'd like to reflect on the directed change in our business mix over the past few years. Looking back to the first quarter of 2008, 58% of our revenue was derived from IP services. Data center services, by contrast, comprised only 42% of total revenue at the time. Our data center products were limited to co-location and very basic managed servers. Today, those percentages are almost exactly flipped, with data center services making up approximately 60% of our revenue mix. In addition to co-location and enterprise managed hosting, we have since brought to market private cloud, public cloud and robust dedicated hosting service from Voxel. A key reason for the mix shift is related to our decision to invest in and support our managed hosting business. As you will recall, we disclosed last year that hosting grew 35% year-over-year. In 2011, we almost doubled that annual increase, driving more than 60% top line improvement compared with 2010. Having more revenue derived from these growing markets, obviously, has positive implications for Internap's long-term prospects.

On Slide 8, we provided an update on our recent data center expansion initiatives. Our Dallas facility was opened in the fourth quarter of 2011 ahead of schedule and is now in ongoing operation with 18,000 net sellable square feet available in the first phase. The initial customers have been installed, and we have a growing pipeline of opportunities. We believe this Dallas data center is one of the most technologically advanced, environmentally-friendly data centers in the Southwest, with initial evidence coming from the Green Globe certification you may have seen we announced earlier this week. Our Los Angeles data center is being similarly designed and constructed, the first phase of which we expect to be online in the third quarter of 2012. We pushed out our opening date from the second quarter to the third quarter largely due to delays in obtaining certain construction permits. Nonetheless, we are confident this will be a compelling facility when we open for first customer installations in the third quarter of 2012 and are looking forward to the exciting addition to our data center portfolio. The Atlanta expansion is on schedule to open in the third quarter of 2012 as well. When complete, this data center will have the high-power density and redundancy characteristics of both Dallas and Los Angeles. With 40% of our company-controlled data center footprint deployed within the last 3 years, we believe the shiny new affect, combined with the cutting-edge design, represents an attractive selling point for our co-location hosting and cloud services relative to other service providers.

On Slide 9, we thought it would be informative to highlight a recent customer deployment and a solution Internap is providing. Scholastic, the world's largest publisher and distributor of children's books, needed infrastructure support as they shifted from a traditional software licensing business to a Software-as-a-Service model. Previously, Scholastic's customers were required to support their own physical infrastructure in order to use Scholastic's education and training software. In 2011, Scholastic selected Internap to deploy a private cloud platform across multiple locations to transition their legacy licensing model online. Our work on the front end to provide specialized design and support, as well as high-performance infrastructure, helped us secure this deal. Scholastic can now offer their customers greater ease of use by providing instant online access to their education programs and learning materials. Since the initial implementation last year, Scholastic has continued to grow its private cloud infrastructure with Internap and recently added capabilities to support the faster recovery.

Now let's move on to Slide 10, where we'll provide an update on the Voxel acquisition. As you can imagine, we are keen to maintain our momentum in the hosting business, and in keeping with this strategy, we completed the acquisition of Voxel on December 30. Voxel is a provider of scalable hosting and cloud services for the enterprise customer. To recap, we acquired Voxel for 3 main reasons: first, to improve the breadth and functionality of the hosting services we offer today; second, to expand our addressable market by adding capabilities and services built for early-stage IT infrastructure customers; and third, to enhance our geographic footprint. We are making steady progress incorporating Voxel services, technologies and knowledge into Internap's overall organization. Joint branding work and sales force integration and automation is in process. We completed initial cross-selling training for both sales organizations in January and are already seeing early interest from Internap's existing enterprise customer base for Voxel's dedicated hosting and hybrid cloud services.

eXelate is an early example of the type of cross-selling opportunity we are expecting. eXelate is an advertising data analytics company and existing Internet co-location and IP customer who recently added Voxel's dedicated hosting as a natural augment to their co-location environment. The dedicated hosting solution allows them to quickly scale their infrastructure without the capital commitments required to grow via a traditional co-location. Internap didn't previously offer the fundamental [ph] services that eXelate's engineering team required, and the Voxel offering enabled us to expand with our customers' IT infrastructure needs.

Initial operational integration is also well underway. For example, MIRO, our route optimization technology, is expected to be deployed and operational across the Voxel platform by the end of the first quarter. This upgrade will provide Voxel hosting and cloud customers the best performance to the end-user differentiation existing Internap customers currently enjoy. The combined technology and product roadmaps are also being finalized and will soon move to implementation mode. In essence, we're working diligently to maximize the best assets from both companies rather than undertaking an effort to assimilate an acquired asset. Voxel excels at the user experience, rapid provisioning and hybridization. Internap has built an extraordinary enterprise customer support organization and excels at delivering high-performance IT co-location, hosting and networking solutions. Together, we intend to bring these collective benefits to our customers and create the "1+1=3" value that made the Voxel acquisition so exciting for us.

Now I'd like to provide additional clarity on Voxel's impact on our near-term financials. As we disclosed on the call detailing the acquisition in early January, Voxel generated approximately $3.5 million in revenue and $550,000 of EBITDA in the fourth quarter of 2011. We also indicated that Voxel's full year 2011 revenue would be up approximately 25% relative to full year 2010. Thus, you can see that Voxel would be initially dilutive to our EBITDA margin. However, we expect that during 2012, Voxel will become accretive to our quarterly EBITDA margin. Given the December 30 acquisition date, the Voxel operating results are not consolidated with our fourth quarter 2011 results, although Voxel will be included for the full first quarter 2012. Finally, we did incur certain transaction costs associated with the Voxel acquisition during fourth quarter 2011, and there are additional incremental costs that will be incurred in our first quarter 2012 results for various integration-related activities.

Now let me hand the call over to George for a more detailed review of our financial performance.

George E. Kilguss

Thank you, Eric, and thank you, everyone, for joining us this afternoon.

I'll start on Slide 11 by taking you through our full year and fourth quarter income statement results. For the year ended December 31, 2011, revenue totaled $245 million, essentially level relative to 2010. Annual segment profit, however, increased 6% to $124 million in 2011. Total segment margin for the year was 51%, an increase of 300 basis points over 2010.

In the fourth quarter of 2011, revenue increased 1.3% sequentially and 5% compared with the fourth quarter of 2010. Both sequential and year-over-year results improvement was driven by our data center services segment. Total quarterly segment profit increased 12% year-over-year to $33 million, a record high for the company. Total segment margin for the quarter was also at historic high in 2011, expanding 330 basis points to 52.4%. Segment profit and segment margin growth was driven by an increase in data center services revenue and a larger mix of revenue from company-controlled co-location and hosting.

Cash operating expense for the full year increased 4%, totaling $81 million. In the fourth quarter of 2011, cash OpEx grew 6% year-over-year but remained relatively flat versus the previous quarter. Cash operating expense to revenue was 32% in Q4, in line with comparable quarters. Our full year cash operating expense to revenue ratio increased year-over-year, primarily as the result of increased headcount and transaction costs associated with the purchase of Voxel.

Annual adjusted EBITDA grew 11% compared with 2010 to $43.4 million. Fourth quarter adjusted EBITDA increased 23% year-over-year and 12% over third quarter 2011.

We make this point frequently, but I want to emphasize the operating leverage we are building into the business. In 2011, we added a little bit more than $0.5 million in revenue to our top line. Over the same period, we increased our segment profit by $7.6 million. As our revenue growth accelerates in 2012, we believe we will benefit from the foundation we built and the inherent improvement that comes with selling a greater proportion of higher-margin services into the data center services base.

GAAP net loss in 2011 was $1.7 million compared with the net loss of $3.6 million in 2010. In the fourth quarter, GAAP net income was $4.2 million. The increase in GAAP net income was driven by a $6.1 million partial release of our deferred tax asset, which was triggered by our acquisition of Voxel. Normalized net loss, which excludes the impact of stock-based compensation, deferred tax benefits and items management consider as non-recurring, was $1 million in 2011, a decrease of $3.4 million versus the normalized income we generated in 2010.

Cash flow and balance sheet summaries are shown on Slide 12. In 2011, capital expenditures totaled $68.6 million and exceeded EBITDA by approximately $25 million. The majority of the 2011 spend went to our data center infrastructure, allowing us to expand our higher-margin company-controlled footprint, essentially replacing capacity loss as part of our proactive partner data center churn program. We believe these investments will generate strong returns on capital in the coming years.

At year end, cash and cash equivalents totaled $30 million. Funded debt increased by $40 million versus the previous quarter, as we fully drew the term loan portion of our amended credit facility to fund the Voxel acquisition and continue to execute our data center expansions. With the total debt position of $99 million, our debt to last quarter annualized EBITDA ratio was 2x, well below the average of our data center peers. With approximately $50 million of debt capacity under our new credit agreement and $30 million of cash in our balance sheet, we continue to have substantial flexibility to scale our operations by investing in positive net present value opportunities. We added $46 million to total assets in the fourth quarter. The majority of the increase was related to the Voxel acquisition, which included approximately $20 million of goodwill. Days sales outstanding remained stable at 27 days in the fourth quarter.

On Slide 13, I'll cover our segment results in more detail. Data center services revenue totaled $35.3 million in the quarter, an increase of $3.6 million year-over-year and $1.2 million sequentially. Core company-controlled co-location and managed hosting services revenue in the quarter made up approximately 63% of total data center revenue. Revenue growth in core data center services accelerated in the period, driving the 11.3% year-over-year and 3.5% quarter-over-quarter improvements. The changing mix in revenue generated at lower-margin partner data centers to higher-value company-controlled facilities and managed hosting services also helped drive strong profitability growth. Absolute segment profit in data center services improved 24% year-over-year and 11% sequentially. Data center segment margin increased 440 basis points compared with the fourth quarter of 2010 and 290 basis points over the third quarter of 2011.

In our IP services segment, revenue totaled $27.5 million, down from $28.2 million a year ago and $27.9 million in the prior quarter. Lower network costs, however, allowed both IP segment profit and IP segment margin to improve year-over-year and sequentially in the fourth quarter. Our operations team has done a great job of reducing our network's power consumption in physical footprint within our 77 points of presence around the world.

As we mentioned on the third quarter earnings call, total revenue churn was expected to increase in the fourth quarter, as several large customer contracts came up for renewal. Data center revenue churn increased to 1.6% compared with 0.8% in the third quarter of 2011. Likewise, IP churn rose 1.9% versus 1.3% in the previous quarter. Despite the increase, total churn across data center services and IP services was 1.7%, which was lower than the 2% discussed last quarter, as departing customers and renewing contracts at lower rates materialized slower than planned. We expect the remainder of this churn to push into the first quarter, resulting in elevated levels again in Q1. In the second quarter, we expect total company churn to return to historic levels.

On Slide 14, you can see the occupied square footage trends in our company-controlled and partner data centers. Over the last 2 years, we had increased the company-controlled occupancy from 73,000 to 92,000 square feet while decreasing our exposure to low-margin partner occupancy from 75,000 down to 51,000 square feet. The shift towards higher-margin Internap-operated data centers is a key driver of the record annual and quarterly profitability we are reporting today.

A critical element of the company's transformation is the ability to access the credit markets at attractive terms. Towards the end of the quarter, we amended our credit agreement to increase our borrowing capacity by $40 million, bringing our total bank facility to $119 million. A summary of the amendment can be found on Slide 15. The total facility is comprised of a revolver of $60 million and a term loan of $59 million. Cost of funds under the amendment is LIBOR plus 350 basis points, only a modest 25-basis-points increase over previous terms. Our ability to increase our volume capacity at favorable rates speaks to the operational progress that we're making in driving sustained profitable growth. The transaction also provides the flexibility to aggressively invest in key growth initiatives.

On Slide 16, I detailed our forecasted capital expenditure plan. In 2012, we currently expect to spend between $60 million and $70 million, of which between $8 million and $12 million is allocated to maintaining the existing asset base. Of the $52 million to $58 million of expansion CapEx, $40 million to $44 million is tied to previously announced data center expansions, with $12 million to $14 million tied to success-based cloud and hosting infrastructure. Approximately 85% of our 2012 plan is either capital deployed for future growth or success-based capital tied to customer installation requests. This flexibility enables us to adapt to changes in macro and industry trends.

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

J. Eric Cooney

Thanks, George. Summing things up on Slide 17. We are very pleased with the strong finish to 2011 reflected in our fourth quarter results. During 2011, the company achieved some financial firsts as we reported the highest annual and quarterly levels of segment profit, segment margin, adjusted EBITDA and adjusted EBITDA margin in more than 15 years. 2011 also marked the return to full year revenue growth for the company, with sequential quarterly growth achieved during each of the last 3 quarters.

Operationally, we further expanded our company-controlled data center footprint with the addition of 25,000 net sellable square feet in our Boston and Dallas markets. Strategically, we successfully identified and closed on the very-exciting, highly complementary acquisition of Voxel in the enterprise hosting/cloud segment.

As we look forward into 2012, we remain confident in our strategy to deliver long-term profitable growth for the business. You should expect to see us open the Los Angeles and Atlanta data center expansions, launch innovative new infrastructures at service offerings, and accelerate our hosting/cloud business with the addition of Voxel assets. 2012 will be about integration, innovation and execution.

And now I'd like to open up the call for your questions. Operator?

Question-and-Answer Session

Operator

[Operator Instructions] And the first question comes from Clay Moran from the Benchmark Company.

Clayton F. Moran - The Benchmark Company, LLC, Research Division

A couple of questions, Eric. Could you just share with us your investment priorities at this point? You clearly have some data center expansion underway, but just thinking sort of beyond Voxel and beyond this expansion, what are the priorities going forward? And then secondly, how should we look at the non-controlled data center space at this point? Will you sort of wind that down as lease terms expire or how will you approach that? And how much time is left on those terms?

J. Eric Cooney

Sure. So in terms of our investment priorities, I think the best way to describe that is success-based is the top of the priority list. Specifically going forward, we'll, of course, be prioritizing our capital investments in the data center services segment. That could mean co-location or that could mean hosting or that could mean cloud infrastructure. I think if you take a look at our current utilization in the company-controlled facilities and then consider the expansions we already have announced and in progress for 2012, I think it's fairly clear that we have, let's say, plenty of utilization, plenty of space to sell into for the near to midterm. So when I say success-based, that's exactly what I mean, and that success-based is probably more likely to come in the hosting and cloud infrastructure investments in the near to midterm. And as you heard George point out with regard to our 2012 CapEx plan, we have about $12 million to $14 million of success-based capital available during 2012. In terms of our -- your second question, our plan or thinking around the non-controlled or partner data center business, the short version there is we expect to retain that business. We're not specifically focused on growing that. We only expand that partner business on a very opportunistic case-by-case basis tied to the individual profitability of specific customer opportunities, but it's not an area of focus for the business. And again, for the partner revenue that we currently have under contract and in our revenue mix, we've made conscious decisions that the profitability levels tied to those contracts are acceptable, and we're not endeavoring or planning to proactively churn those customers, so we would expect and work hard to retain or maintain that installed base. And George, do you want to comment on the typical contract length?

George E. Kilguss

Sure. Well, company-wide, we are averaging about 28 months for our customer contracts, and some, obviously, go longer to 3 to 5 years. Some are -- probably the shortest contracts we have are one year. We have very few cases which we have shorter than that think, but on average, about 28 months currently.

Clayton F. Moran - The Benchmark Company, LLC, Research Division

Okay. If I could follow up on each of those. Just wondering on the hosting and cloud side, post Voxel, do you have sort of what you need in terms of capabilities or is there potential to enhance through acquisitions going forward? And on the non-controlled data center side, I actually meant your -- the contract that Internap has with the partnered -- the partner data center, how long do you have left as a customer on that side of the contract?

J. Eric Cooney

So your first question regarding Voxel, and do we have what we need? In terms of our business model as an IT infrastructure services provider, yes, we have what we need. We don't have any large technology or gaps in our product portfolio. That being said, you can certainly expect us to be working diligently in terms of internal product development, product innovation, but those would be largely -- exactly that, internally developed product offerings. So we will always consider acquisitions, but that's not, let's say, on our agenda at this point. And as I mentioned, we don't have any specific gaps we need to fill in our product portfolio.

George E. Kilguss

And Clay, on the length for partner data center leases, I mean, it really varies across the partner footprint. We clearly have options to renew those leases should we choose to do so. The facilities where we have flexibility to get some of that capacity back were clearly matching the customers' contract with the data center, so we clearly are in control. Those data centers are able to extend those if we want to do that, and really we're just servicing our customers in those facilities to the extent that those facilities have capacity to do so. To the extent those partner facilities reach capacity, we would then obviously try to sell the incremental demand into our company-controlled data centers at that point in time.

Operator

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

Mark Kelleher - Dougherty & Company LLC, Research Division

I was just wondering if you could talk a little bit about the cloud success in the quarter, both the OpenStack and the VMware-based. How is that doing in the quarter? And maybe continue that on to how long it'll take to get Voxel integrated into the OpenStack platform?

J. Eric Cooney

Sure. We tried to provide some color with some customer announcements today, both Scholastic and eXelate, just to give, let's say, some indication of where we are and some momentum with our hosting and cloud business. What I would say about, let's say, the Internap organic cloud, the OpenStack and the VCE-based clouds we launched prior to the Voxel acquisition, obviously, we brought those products to market late in 2011, and while we're building both the opportunity pipeline and the bookings and revenue from those, they're starting from, obviously, a very small base, so small numbers. We're happy with what we're seeing so far, but a lot of room to go before they're making significant material impacts to the total company revenue. With regard to Voxel and the integration, we tried to provide a little bit of color in terms of the first steps of integration. There are certainly some low-hanging fruit. We gave the example of essentially deploying our MIRO technology across the Voxel platform, such that the Voxel customers can benefit from the route-optimized network performance benefits. Beyond that, we're in process with our engineering development roadmaps, specifically, prioritizing product initiatives across both the Voxel platform and the Internap cloud. So work in progress in terms of the development roadmap.

Mark Kelleher - Dougherty & Company LLC, Research Division

All right. And if I can ask just one more question. Can you just give us a little insight into the selling success in Dallas? Looks like you've got 18,000 square feet, and you increased your square feet that you're selling by 1,000, so it looks like you've got a nice bit of capacity there. How's the sell-through going there?

J. Eric Cooney

Yes, we held our open house in Dallas. December 15, I think, was the exact date of the open house, so it was obviously opened relatively late in the quarter and just a couple of months ago now. We had well over a couple hundred people, a couple hundred registrants for that open house. And since that time, we've had some pretty nice momentum, again, in terms of opportunity funnel and pipeline. Given the feedback we've had from those customers thus far, we think we're going to do quite well with that Dallas facility. It's really a first-class, world-class data center property.

Operator

Our next question comes from Chris Larsen from Piper Jaffray.

Christopher M. Larsen - Piper Jaffray Companies, Research Division

I wonder if you could talk a little bit about the -- you'd mentioned some additional expenses that you incurred in the fourth quarter, and then maybe sort of give us a sense for how large that was. You've obviously seemed to have beaten consensus expectations even with incurring those expenses. And then what the magnitude might be as we roll into the first quarter as you integrate that. And then secondly, you talked a little bit about the continued churn in the first quarter. Was that a case of not all the churn that you had anticipated in the fourth quarter came off or there is just a little bit more there? And maybe give us a sense for the magnitude of that as we model the first quarter out.

J. Eric Cooney

Sure. So the transaction costs we referred to in fourth quarter were typical acquisition transaction costs, legal fees, third-party consulting, advisory fees, et cetera. We actually detailed those in our 10-K filing, and the number was approximately $600,000. That was included in our Q4 financial results. With regard to Q1 costs associated with the Voxel acquisition, more came to what you think of as typical integration costs, so expenses with the joint sales, cross-training activities, extra teeny activities, some extra accountants, audit fees. And those costs, while we've obviously not finished the quarter and detail them yet, we're expecting those costs to be in the few hundreds of thousands of dollar range. And the churn figures, we had indicated last quarter that we expected our 4Q results to have churn levels roundabout 2% for total company. You can see churn actually came in a bit lower than that, at about 1.7%, and yes, that was primarily due to customers who had given us notification they were going to be churning for their own operational reasons being required to delay the actual move or the actual turndown of the circuits. And the result of that is we're actually expecting our churn to be -- relative to Q4, we'll see a similar -- actually, slightly higher churn rate in the first quarter of 2012 relative to Q4 of 2011.

George E. Kilguss

Hey, Chris, this is George Kilguss. Just to give you a little other color on the expenses in Q4. If you've been following us for a while, you know that when we moved to Georgia a number of years ago. We benefited from a Georgia headquarter tax credit, and that typically comes when we apply for it in the fourth quarter, to clear vines in the first quarter. This year, for us, the state of Georgia actually was very responsive and they approved our Georgia headquarter tax credit early, and we had about a $400,000 benefit. That really helped to offset a lot of those transaction costs in the fourth quarter. So I just don't want you to think that we will have a pick-up from the -- or benefit from not having the transaction costs in the fourth quarter. We did have a slight benefit of about $400,000 that offset expenses in Q4.

Christopher M. Larsen - Piper Jaffray Companies, Research Division

And that $400,000, George, that shows up below the EBITDA line, though, is that correct?

George E. Kilguss

No, it doesn't. It gets flow-through operating expenses. It's really an offset to payroll taxes.

Christopher M. Larsen - Piper Jaffray Companies, Research Division

Oh, okay, okay. So the net of those 2, as you bore about another $200,000 in additional, say, expenses, ballpark in the fourth quarter.

George E. Kilguss

Correct, ballpark.

Operator

Our next question comes from Colby Synesael from Cowen and Company.

Colby Synesael - Cowen and Company, LLC, Research Division

Just a few questions. First off, on your CDN business, I was wondering if you can give us an update on some of the product advancements or what's being done from an R&D perspective to continue to innovate with that product. It seems like some of the other CDN vendors, all admittedly [ph] that a lot of those I'm referring to are their core business, but it seems like doing a lot of focus on improving in understanding the traditional CDN. I'm curious if you're doing anything like that as well. And then my second question has to do with leverage. Obviously, you are below from the peers that you've indicated I think at 2x. Curious what you actually think is the optimal leverage for the company, and how important it is to you to potentially take advantage of the market we're at today and raise additional funds even if you have no intention of necessarily using them right away.

J. Eric Cooney

So with regard to CDN, probably the last significant product enhancement we announced was the live mobile product tier towards the end of 2011. We've not announced any new developments of these major initiatives since that time, but you would be incorrect to assume that we don't have a significant team of development engineers obviously moving that platform forward. The only caveat I would put on that is really just to reflect your comment, Colby, that CDN is not our core business per se in the same way that some of the competitors you're probably thinking of invest and develop that. Our core business is really the data center infrastructure services, and we're developing our CDN and our IP platform really as enhancements or natural augments to our data center services business. In terms of the leverage, I'll let George comment in detail, but from my standpoint, we're certainly comfortable with the leverage the business currently has, and we're also comfortable with our decisions and CapEx investments that we've undertaken in 2011 and the guidance we've given for 2012. We have a fully funded plan, so I don't have a need to go to the capital market and secure additional funding. And based on that, I don't have a near-term intention to do so. George, do you want to?

George E. Kilguss

Yes, Colby, I would just echo those thoughts. We don't have a target leverage ratio that we're trying to hit. We clearly believe in the pecking order hypothesis, i.e., cheapest capital first, highest cost of capital last, and so we clearly are demonstrating that. We subscribe to that as we're securing funds at LIBOR plus 350. As Eric said, our business plan is fully funded today, and so we don't have any intention of raising capital in the near term. Again, we always want to look at our business plan and make sure that we have enough funds to build it out. But I think with the mix of the business that we have, the data center and the hosting and the cloud, I think we'll be more efficient with our capital going forward, as those businesses have different levels of capital intensity.

Operator

[Operator Instructions] And our next question comes from Gray Powell from Wells Fargo.

Gray Powell - Wells Fargo Securities, LLC, Research Division

Just had a couple. Can you just talk about the pricing environment on the data center side of the business? And I've realized there's some noise in the revenue line item because it includes managed hosting, but revenue per square foot looks like it was up about 5.5% year-over-year, which we thought was pretty impressive. So I'm just trying to figure out what the key drivers are there.

J. Eric Cooney

So pricing environment, from our standpoint, stable to positive. I think the translation on that being, as you know, the co-location, our data center services market in aggregate, we believe there's a supply-demand imbalance, and that creates an underpinning price increase environment. So we typically see a couple of percentage points, 2 to 3 percentage points per year increase in the colo market prices in aggregate across all markets. There's obviously some variability within geographic markets. In terms of the revenue per square foot, you're right, we are seeing our average revenue per user per month increasing. Recognize also the data services business unit is, of course, co-location, but it also includes our hosting and the cloud business. And on a revenue-per-square-foot basis, we're driving much higher revenues from the hosting and cloud business. Also as we indicated in the presentation, the hosting and cloud business is growing at a very healthy rate. We indicated more than 60% year-over-year growth, 2011 versus 2010. So if you assume that's growing a bit faster than our co-location business, that's another part of the driver for the increase in revenue per square foot, as hosting and cloud becomes a more meaningful proportion of the revenue. We would expect that to continue.

Gray Powell - Wells Fargo Securities, LLC, Research Division

Got it. That makes sense. And I think -- forgive me if you guys answered this already, but I believe you said that revenue at Voxel grew roughly 25% in 2011. Can you tell us what was the year-over-year growth rate in Q4? I'm just trying to get a sense as to directionally, how we should think about growth on that asset trending in 2012.

J. Eric Cooney

Without answering your question, I'll tell you, take the 25% year-over-year growth rate and reverse engineer a quarterly growth rate and use that for your models, that should get you in the church, so to speak.

Operator

I show no further questions at this time.

Andrew McBath

Thanks, everybody, for joining us. We will talk to you in, I guess, a couple of months now for our first quarter 2012 earnings call. Thanks so much.

Operator

Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program. You may all disconnect at this time.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Internap Network Services' CEO Discusses Q4 2011 Results - Earnings Call Transcript
This Transcript
All Transcripts