Good morning, and welcome to the Cogent Communications Holders Second Quarter 2020 Earnings Conference Call. As a reminder, this conference call is being recorded. And it will be available for replay at www.cogentco.com. A transcript of this conference call will be posted on the same website when it becomes available. I would now like to turn the call over to Mr. Dave Schaeffer, Chairman and Chief Executive Officer of Cogent Communications Holdings.

Thank you, and good morning to everyone. Welcome to our second quarter 2020 earnings conference call. I'm Dave Schaeffer, Cogent's CEO. And with me on this morning's call is Sean Wallace, our Chief Financial Officer. We continue to be optimistic about the underlying strength in our business, the growing importance and breadth of our network, and most importantly, the increasing profitability of our operations. We remain confident in our outlook for 2020 and beyond even with the continuing impact and uncertainty due to the COVID-19 pandemic. On a constant currency basis, we achieved sequential quarterly revenue growth of 0.2% and year-over-year revenue growth for the second quarter of 5.1% on a constant currency basis. A reduction in universal service fees, excise taxes and the rate associated with them this quarter reduced our sequential quarterly revenues by $450,000. On a constant currency basis and adjusting for the impact of this change in USF rate, our sequentially quarterly revenue growth would have been 0.5%. We continue to take advantage of the operating leverage in our network. We managed also to moderate our SG&A expense growth. Our network scale helped our quarterly gross margins reach yet another company record of 62%. This margin was sequentially 150 basis points higher and 220 basis points higher than a year-over-year number for the quarter ending in June 2020. Our EBITDA margin at 37.8% also improved, and was sequentially 200 basis points higher and 290 basis points higher on a year-over-year basis. Our cash flow from operations grew sequentially by 45%. Our customer performance and metrics continue to be strong in spite of the impact of COVID-19. Customer churn, bad debt and days sales outstanding all performed within historical norms and our cash collections in the month of June were an all-time record. We believe that these…

Thank you, David, and good morning, everybody. This earnings conference call includes forward-looking statements. These forward-looking statements are based on our current intent, beliefs and expectations. These forward-looking statements and all other statements that may be made on this call that are not historical facts are subject to a number of risks and uncertainties, and actual results may differ materially. Please refer to our SEC filings for more information on the factors that could cause actual results to differ. Cogent undertakes no obligation to update or revise our forward-looking statements, if we use non-GAAP financial measures during this call, you will find these reconciled to the GAAP measurement in our earnings release, which is posted on our website at www.cogentco.com. A few words on the COVID-19 update. Like many other companies, Cogent continues to be impacted by the COVID-19 pandemic and the accompanying responses by governments around the world. Our entire workforce continues to work remotely. I want to thank the entire Cogent workforce and in particular, our IT department, for their hard work during these challenging times. I also want to thank our field engineers and other employees who continue to work on the front lines, installing new customers and maintaining and upgrading our network so that we can continue to serve our customers. During the second quarter of 2020, the impact of the COVID-19 pandemic on Cogent was somewhat limited. We did experience a decrease in our sales productivity, particularly in sales to corporate customers. Traffic on our network continues to grow at an accelerated rate compared to our historical growth rates. However, the traffic growth rate for the quarter was slower than the traffic growth rate at the end of the first quarter. The ultimate impact of the pandemic on Cogent is unknown as a significant amount…

Hey, thanks, Sean. Hopefully, you've had a chance to review our earnings press release. Our press release includes a number of historical quarterly metrics that help investors understand trends in our business. Our corporate business, which represents 69% of our revenues this quarter, grew on a year-over-year basis by 5.1% from the second quarter of 2019. And our NetCentric business, which has been underperforming compared to our long-term historical averages, resumed accelerated growth and grew 3.6% from the second quarter of 2019. For the quarter, our corporate business grew sequentially 1%, and our NetCentric business was essentially flat. A reduction in universal service fund tax rates, again, negatively impacted our corporate revenues, both on a sequential and year-over-year basis. The USF tax rate changes quarterly, and we cannot predict the future impact of USF rates and changes on our revenue. Volatility in foreign exchange primarily impacts our NetCentric business. On a constant currency basis, our NetCentric business grew 5.1% from the second quarter of 2019. And on a sequential basis from the first quarter of 2020, our NetCentric business on a constant currency basis grew 0.50%. Our long-term EBITDA margin expansion guidance is an annual improvement of 200 basis points. Our multiyear constant currency long-term revenue growth targets are 10%, our revenue and EBITDA guidance are meant to be multiyear and not intended to be specific quarterly or even annual guidance. Now Sean will give you some additional color on our operating results for the quarter. And then I'll return to give you some additional network color.

Thanks, Dave. Let's talk about corporate and net centric revenue and customer connections. We analyze our revenues based upon network type, off-net, off-net and noncore, and we also analyze our revenues based upon customer type. We classify all of our customers in two types: NetCentric customers and corporate customers. Our corporate customers buy bandwidth from us in large multi-tenant office buildings as well as carrier-neutral data centers. Our NetCentric customers buy significant amounts of bandwidth from us in carrier-neutral data centers. Let's talk about revenue and customer connections by customer type. Revenue from our corporate customers for the quarter grew sequentially by 0.1% to $97.0 million and grew year-over-year by 5.1%. We believe that the slowdown in the growth rate of our corporate connections was impacted by the continuing concerns raised by the COVID-19. While we continue to have significant dialogue with our existing and potential customers, some customers are delaying buying decisions due to economic uncertainty. We had 48,305 customer connections - corporate customer connections on our network at quarter end, which is a decline of 0.4% versus the first quarter and an increase of 1.4% over the second quarter of 2019. In addition to the impact of COVID-19, our corporate revenue and connections were adversely affected by the lower USF tax rate, lower off-net local loop pricing and the reduction of VPN sales. Due to the pandemic, certain corporate customers are reducing their aggregate number of locations. Quarterly revenue from our NetCentric customers was flat at $44.0 million and increased by 3.6% year-over-year. We had 39,807 NetCentric customer connections on our network at quarter end, an increase of 9.3% over the second quarter. Our NetCentric revenue growth experiences significantly more volatility than our corporate revenues due to the impact of foreign exchange, larger customer size and other seasonal…

Thanks, Sean. I'd like to highlight a few of our operational strengths concerning our network, our customer base and our sales force. The size and scope and scale of our network continues to grow. We recently added Johannesburg, South Africa to the Cogent network just last week. This means that Cogent has a physical presence in 47 countries globally. We believe this will further increase our position as a leading provider of Internet connectivity in the African continent, an increasingly important market that is growing rapidly. We're selling Internet connectivity in multiple locations across Asia, Latin America, and we're beginning to see meaningful growth in these markets. Internet traffic is growing faster outside of the United States than within the United States, and we are positioned to benefit from that growth. In North America, we have 962 million square feet of multi-tenant office space directly attached to the Cogent network with full distribution in those buildings. We operate 54 Cogent data centers with a total raised floor footprint of 606,000 square feet. And we're operating those facilities at approximately 32% utilization. Our network consists of over 36,400 fiber miles in metro markets and 58,000 route miles of intercity fiber. We continue to be focused on developing our level of interconnection, and Cogent remains the most interconnected network in the world. Today, we connect to over 7130 networks directly compared to 6762 connected networks at the same time last year. This collection of telephone companies, Internet service providers, cable companies, mobile operators and other carriers give us access to the vast majority of the world's broadband subscribers and mobile phone users. This large collection of eyeballs positions Cogent as the go-to network for new Internet applications. We saw an increased level of traffic as streaming continues to grow, and consumers continue…

[Operator Instructions] And our first question comes from Sami Badri of Credit Suisse.

This is George on for Sami actually. So I guess in light of some of your previous commentary, now that you intend to increase the quarterly dividend by $0.025 next quarter. Should we expect that to be your target going forward?

So George, Board deliberated very carefully and decided that our growth in free cash flow was accelerating and at a $0.02 sequential rate just because of the arithmetic of our dividend getting larger the growth rate in our dividend was decelerating. So the decision was made even in light of economic volatility to increase that rate of growth to $0.025. The Board will evaluate that each and every quarter. But we did take this seriously and believe that this is an appropriate rate of growth in returning cash flow to shareholders.

Got it. Okay. And could you provide a little bit more color on the impact of COVID on corporate customer sales? I just want to understand if the issue is something that might improve despite the ongoing COVID issues.

Yes. So there have really been three impacts because of COVID. The first is the need for greater bandwidth at your major location. Most of our customers have the majority of their workforce working remotely. They are running ad-hoc VPNs as people tunnel into those office locations. We have seen a significant acceleration in 1-gigabit sales, both to new customers whereas Sean mentioned, for three quarters in a row, more new sales were gigabit than 100 meg, i.e., 10x the bandwidth and higher ARPUs. And then secondly, existing customers have increasingly been increasing their connections. These are positive for us. The second trend is a negative trend. Roughly half of our corporate customers take a second product, a virtual private network to connect offices running either SD-WAN or VPLS over that connection. Because many of our customers have shuttered their remote locations, those offices sit empty, and there's no need for VPN concentration in those offices, we've seen a reduction in the sale of our VPN services. Now there is still a very large base of MPLS-based VPNs that will be replaced and will migrate to these lower cost, more flexible technologies. But I think in this environment, we are selling less VPNs than we did six months ago. We think that is a temporary trend, not a permanent change as we think, overtime, these remote offices will be reopened and a BPLs or SD-WAN solution will be a far better solution than the MPLs that many of these companies have in place today. And then finally, corporate customers are like all consumers. They're concerned about their health, their longevity, their viability. And because of these concerns, we have seen sales cycles elongate. It's not that we're not talking to customers. We're actually having more customer conversations, more opportunities than we ever have, partially because we have more salespeople, partially because the customers are willing to engage as they realize how important this service is. But we also have seen a higher level of caution on the part of customers to make new BI decisions. So we have seen our sales cycles lengthen. We think that is a transitory phenomenon. And we think that the greater number of salespeople, coupled with the greater number of conversations that those people are having with potential customers will result in accelerating sales.

Got it. That's helpful. And I guess just one quick follow-up. So in reference to the lengthening sales cycles, so what drove that new customer contracts average price per megabit up quarter-over-quarter? Is that something that's replicable? Or I guess what happened there?

Yes. So I think there are two things that are driving on net customer connection costs up. On the corporate side, we're selling far more gigabit than 100-megabit connections, which are typically a couple of hundred dollars more per connection. That is pulling ARPU off. And then on the NetCentric, on net ARPUs, they're going up because customers are taking more 100-gig interfaces than 10-gig interfaces. But once they take that interface, they do pay on a usage basis, and we did see an increase in usage. A lot of it from some very large customers but the fact that our new NetCentric sales on a per megabit basis increased is a strong indication on the widening of our customer base and the sale to a lot of smaller NetCentric customers, some of which are experiencing very rapid growth.

Our next question comes from Colby Synesael of Cowen.

I wanted to focus first off on the commentary on IRUs and the one contract, I think, in particular, that you mentioned you renewed. Did I hear you correctly that, that benefited your COGS, and I guess, consequently, gross profit in EBITDA? Can you remind me what that number was? And then is that an indication of others like that, that we should expect over the next few quarters? I mean, when you think about the - how old Cogent is as a company and the term of these IRUs being 15 to 20 years and kind of where we are. Over the next few years, should we start to see more of these? And what do you think that the net impact is as it relates to both leverage and I guess, times, like we may have seen this quarter? And then secondly, just wanted to go back to that question on commercial, I think, Sean, in your prepared remarks, you mentioned a variety of different risks. One of them was risk of large commercial buildings and people perhaps not using those as much. And then obviously, we saw that in this particular quarter, you saw a reduction in some of your VPN type services. I appreciate what you just said, Dave, as it relates to trying to fix that with just adding to the sales force. But is that also a trend that you are concerned about or one where we could start to see that become a bigger risk perhaps over the next few quarters?

Okay. Three or four questions here, Colby. I'm going to start, and Sean will help me out on some of these finance questions, but let's start with the IRUs. So the IRUs used to be classified as capital leases. Under the new accounting pronouncements, they are now reclassified as finance leases. As part of that reclassification, new IRUs would take the operation and maintenance expense and treat that as a finance lease the same way as would the underlying fiber. In the case of this one large intercity agreement, we were able to renew it at no charge. So the renewal of the underlying IRU was a unique decision by us. It was unilaterally by us to take another 5 years, and we have one more 5-year option at no cost available to us in the future. But because we made a decision to do that, we now are incurring 5 years of operation and maintenance expense on that. That five years ended up creating a capital lease or finance lease obligation and - of about $34 million - and a reduction of about $1.2 million in COGS that were in the quarter. I'm going to let Sean take a little more on kind of future IRUs and a little more color on the account?

Yes. Let's just - let's go through the numbers. For the quarter, our O&M and co-location cash expense of $1.2 million, it moved from the COGS line down below the line as it became sort of an interest expense versus an operating expense. Going forward, we will benefit $1.8 million per quarter going forward. That $34 million, which you talk about, that is the net present value of those payments on a monthly basis, O&M of $600,000 for the next 5 years discounted at around 5%. We have a portfolio of thousands of circuits that we have put together over the last 20-years as we built this network. We will consistently have a portfolio of them come out, where we don't believe we have any particular part of our network that is coming due at any particular time. We have hundreds - well over 250 dark fiber and circuit providers that we can turn to. So this is just part of a normal BAU and we expect that we will - we not only renewed this five year, but we'll renew this one at the next - at the end of the 5 years coming up as well. And again, this was a - sorry, Dave, this was a noncash. There was no change. We didn't have to pay anything up. It's just a simple movement of that from the cost of goods sold line to the low line.

Yes. And as Sean said, those 256 providers have over 2,500 unique agreements with Cogent, all with different terms. We've commented that our average remaining life of these agreements is about 17 years. As particular agreements mature, they are then subject to this new accounting treatment that is different than it was previously, whereas GAAP required us to treat the capital leases only for the fiber and the maintenances and expense. Now it's all treated as a finance lease. Now to your question about VPN services and sales efficacy and building occupancy, I think there are kind of three different questions there. Let's start with VPNs. In the intermediate term, companies will need less office-to-office connectivity, as many branch offices are completely vacant. They will still need some VPN connectivity from headquarters offices to data centers. There is a large base of VPNs that are deployed over MPLS. As those MPLS contracts mature, those customers are going to migrate to these lower cost, more modern, more flexible technologies of SD-WAN and VPLS. So, we will be a beneficiary, but it's something that's not top of mind to customers at this point. What is important to corporate customers is making sure that where their work from home VPNs aggregate, that port is large enough to support all of those concurrent work-from-home users. And that's why we're selling so many more 1-gigabit connections. Now for our sales force, we had a plan to grow our sales force 7% to 10% this year. We're on track to do that. We're actually right at the high end of that range. We're doing a very good job of pivoting on hiring salespeople and training those people remotely. We had already developed a very full set of online training tools that people were using in the…

Yes. And Colby, let me just add 1 thing. We don't have perfect visibility as to what's going to happen with that. What we do know and what we're tracking very closely is our bad debt expense, our churn, our day sales outstanding and our cash collections, which are all within historical norms, and in fact, June was a record month for cash collection. So in spite of all the uncertainty, it's very clear that our customers view their locations as they're still going to be there. And maybe just - most importantly for us is that having Internet connectivity is a very important part of their doing business.

Our next question comes from Michael Rollins of Citi.

I was curious if you could unpack a bit more in the corporate market how you're seeing the opportunity to upgrade to those higher 1 gig speeds penetration, the incremental revenues you're able to get from those customers and how you see that evolving as you look forward based on the sales data that you have? And then secondly, just taking a step back to the capital allocation discussion, can you frame maybe a little bit more just how the Board is thinking about the cash position on the balance sheet today? And I recognize that the Board makes these decisions. But if you could share any maybe observations or insights that drove the Board's decision this quarter on the dividend?

Yes. Let me start with the 1-gig trend. For on-net locations, for the past three quarters, we have seen more gigabit sales than Fast Ethernet. In fact, that trend accelerated materially in mid-March and continues, where today, the majority - a significant majority of new sales - approximately 85% of sales - are on gig interfaces. Secondly, we've been able to go back to the existing base. And for those locations that are their main location where their work from home employees are tunneling into, there's been a great deal of receptivity to increasing those locations, size of port from 100 meg to gig, and that's the reason why our ARPUs have actually gone up. Now for the branch offices, which tend to be a mix of on-net and off-net, there has been much less interest in either buying new locations or upgrading those locations. So, we've not seen a pickup in port sizes off net. And in fact, we've seen our off-net revenues decline. 40% of our corporate revenues are off-net, 20% of our corporate connections are off net. And those branch office locations are a result of us delivering superior service at the on-net location and then the customer looking for that similar service in those locations. They're just not as interested that in this environment. With that said, there are some customers who do have more expensive MPLS networks to those remote locations. And even though those locations may temporarily not be using a lot of bandwidth, as those contracts for sure, we are able to sell some of those connections. I'm going to switch now to your capital allocation question. And I would say the debate at our last Board meeting and this Board meeting was probably more vigorous than it's been in past, in large…

I just think it's from a relatively new member of the management team, I think one of the things that Cogent has - and you heard it in Dave's remarks - is that there is a real strong discipline of evaluating where you're going to put the money either into the business or back to shareholders. And there is great discipline around that. And that allocation of capital, the conclusion came based on particularly the strong EBITDA growth in the last quarter made a pretty - although difficult decision - the right decision to increase the dividend.

Our next question comes from Frank Louthan of Raymond James.

So, I wanted to unpack a little bit. Can you give us a little bit of an idea of sort of the amount of new sales that come from VPNs and so forth, and have you - and to what extent have you had the corporate customers downgrade service and so forth. And then, I guess, lastly, you're talking about the sales cycle elongating. When do you think that sort of normalizes out? Do we see another couple of quarters of weakness on the sales side before that starts to catch up? Or how long do you think it'll be before we see that sort of get a new baseline?

All right. So, I'm going to take the middle question first. We have seen very few downgrades. I'm not going to say we've seen none. There's always some churn. And in fact, our churn numbers declined sequentially and year-over-year. Customers are taking larger connections. So it's not like we're losing connections or losing customers. Did we lose some corporate customers? Sure. We serve multi-tenant office buildings, basically skyscrapers. The average building has 51 opportunities. Usually three or four of those opportunities are located on the first floor of those buildings, and they tend to be retail establishments. They can be bank branches, they can be food establishments. And some of those have turned off service, and we're definitely not selling to that market. If you just walk down any street in any major city, you see very little retail activity. Now the good news is there's probably 40 office businesses sitting on top of those retail businesses. Those 45-or-so office businesses have thousands of employees at home that need to get to - able to work from home and get into their corporate network. So, we're seeing an uptick in gigabit sales. So, all-in-all, we think that our corporate on-net business is very durable, and we continue to see growth in demand. Now with respect to VPNs as a specific product. roughly half of our corporate customers take both products. We have seen a material deceleration in customers taking a second port for VPNs. I can't tell you when they're going to reopen those branch offices. I just don't have that visibility. What I do have visibility to is how many conversations we're having with the roughly 75% of the businesses in those buildings that are not Cogent customers, the receptivity and the amount of time from initiation of discussions to order and we feel pretty comfortable that our corporate sales are going to continue to perform, primarily driven by DIA. And overtime, the VPN product will actually accelerate simply because the alternative, if you need a private network, is so unpalatable. MPLS is rigid, it's expensive and it provides virtually no monitoring capabilities, all of which our services deliver a significant benefit to. And then in terms of when will sales cycles return to normal? That's hard to say. I mean, buyers are humans. They have psyche, and they see the news. And when you have 1,000 people a day dying, people are nervous.

Yes, I would just give you some anecdotal stories about what the sales force is telling us. I think the question - well has there been a fundamental change in our value proposition. And I think the answer is - what we're hearing from the sales force is they are spending time with the IT people. It's taking longer, but we are winning the decision-making folks who are looking at technology and the service we're delivering. Where we are having challenges on getting the decision made when it goes up to the CFO in larger organizations, and they're just deciding that they want to slow down the cost increase in their business, and this is just one of the things that they're deleting off the list. So we remain a very, very important business with fast speeds, superior reliability, fast installation, but we're in an environment where people are having an abundance of caution.

Our next question is from Nick Del Deo of Moffitt Nathanson.

First, did the voluntary bit rate reduction - some of the big OTT and content players introduced in Europe - have much of an effect on your traffic or revenue growth in and will Q3 be affected the other way as those start to roll off?

So it was impactful. All of the companies that had agreed to those voluntary reductions are Cogent customers. And most of the European access networks are also Cogent customers. So with a lower bit per second rate as a result of lower frame count, we did see a slower growth rate in traffic from some of those European customers on both sides. It's a little hard to tell what the reversal of that is going to look like in Q3. Quite honestly, we don't ask our customers on a regular basis what they're doing in terms of their resolution quality. I think most of them are still adhering to those strategies. But I think the key trend is we saw a material shift in a very short period of time in cord cutting and cord shaving and the displacement of linear video with over-the-top. We're not going back. The question is, how long will it take for the over-the-top players to return to a bit of an arms race where resolution quality as well as quality of content is one of the tools they use to win subscribers. We haven't seen that return yet, but we think that will.

Okay. That's helpful. And maybe turning back to the dividend. Sort of big picture, do you think you can sustain a low-teens annual growth rate in the dividend over a multiyear period, absent an acceleration in revenue growth from current levels? Or I guess saying it differently, is the current dividend trajectory kind of predicated on improving revenue growth? Or do you think there's a cushion there that you could sustain that pace even if growth underperforms?

Look, we think we continue to maintain our long-term outlook on a three to five-year basis that we'll have double-digit growth in the top line that will have improvement of 100 basis points on the network, 100 basis points on SGA to get 200 basis points in EBITDA. I think as we look out, as we think about the numbers, we think about that, even with the moderation in growth, we think we have a lot of levers to pull in the business. We are scaling the network. We think we're - have an ability to continue to improve the cost of goods sold line. We think we have opportunities on the SG&A line to continue to improve the margin and you also - if you look at CapEx over the past decade, it's moderated as a percent of revenue, and it continues to go down generically over time. So we've looked at the numbers, we've looked at our opportunities to invest that capital, and we think the best use of that capital is to increase the dividend, and we will revisit this the next quarter based on the performance.

Yes. And I think the Board did have us stress test that in a variety of growth scenarios that are more pessimistic than our long-term outlook and worse than our historical averages. I think secondly, we looked at a world where GDP was down 33% year-over-year and Cogent was up 5% year-over-year top line growth. And as Sean pointed out, we had the operating leverage. We also arithmetically have two big cushions, one being the $417 million of cash, which is far more than we need to operate the business. And then secondly, the rapid expansion in our borrowing capacity due to the fact that we are under-levered. So even with more moderate growth, we can do quite well in growing our returns of capital. And as I've said repeatedly, I go to the Board and if I saw inorganic opportunities that I was convinced would produce better returns, I would ask for the allocation of capital to that. And we have looked at literally hundreds of potential transactions. And as Sean said, the highest and best use is to give the money to the shareholders.

Our next question is from Walter Piecyk of LightShed.

Dave, when you guys talk about corporate connections - the customer subscriber connections - I assume that if there's a guy that has a central office and a branch office that the connection at the branch offices is that reduction. Do I have that description of what a corporate connection or customer means?

Yes. So a customer can buy two products from us. They can buy a connection for Internet access or a connection for VPN. If they're buying both same location, they're buying two connections.

Got you. Okay. I understood. So you described this as the connections, the VPNs, so when we're looking at that subscriber, the connection loss during the second quarter, is it entirely remote locations? Or have you lost any core offices? And do you see that as a risk in the second half of the year given the fact that the economy is getting crushed right now.

So, I commented on, we did lose some retail customers. We had very small retail exposure, but it's not that we have zero. If you go to any of the buildings that we're in - you can go to our website and see what buildings we're in - you walk down the street. You see there's usually some -

It's not retail, Dave. I just went back to my rework last week to pick up some monitors, and there's no retail companies there. And most of the people had moved out of the floor that we were on. So it's not just a retail risk that the economy has in terms of people vacating their office space?

So, we do sell reworks at probably over 100 locations.

I was using that as a representative, not to say re work specifically, but just representative of the fact that it's not just a retail cable modem type of risk that there's obviously corporations moving out of their offices?

And we have not seen an uptick in corporate churn. We have not lost any significant corporate customer because they have gone out of business and shuttered their main location. Maybe - I can't predict whether people three years from now will be back in offices.

Yes, I'm not talking about 3 years from now. I'm just on a - in the near term. So for example, on May 12, when you were speaking at Market's Conference, you said, there's a lot of moving parts here, but I think corporate business will return to growth similar to historical averages in Q2, which I think in most people's minds is a double-digit growth rate. Obviously, you came in far below that during the quarter. That was halfway during the quarter, did all of these remote office disconnections occur in the last 45-days of the quarter?

So our corporate growth rate was about half of our historic average. It was a combination of less VPN sales and historically average disconnects. We did not see an uptick in churn or disconnects. And it did not...

-- why did you say on May 12, then, that you thought that you would return to growth similar to historical averages?

Well, for a couple of reasons. One, we had a historically average number of salespeople. We looked at their sales funnels. And if you go back to May 12, you saw most local governments were lifting their shelter-in-place orders and an expectation that we would be in a much lower infection rate and many fewer states would effectively be in the condition they're in. I have no visibility to predicting the virus' transmission rate and the infection rate. I do believe that our corporate customers will continue to buy, and the three quarters of the businesses and the buildings that we have on net that don't buy from Cogent are as likely to continue to buy from us in the future as they have been in the past.

Our next question is from Brandon Nispel of KeyBanc Capital Markets.

Great. I have one question and one follow-up. Dave, I was hoping you could talk about demand from some of your larger media customers. Are you seeing these customers - and are you continuing to have active discussions with them where you're seeing them really building out their own capabilities in terms of content distribution? Second, for Sean, can you help us understand what percentage of your IRUs are accounted for as a finance versus capital lease? And how should we think about this changing the gross margins going forward? And really does it warrant a disclosure from you guys similar to your gain on asset sales as these happen so we can compare the models on an apples-to-apples basis?

Yes. So let me - I'll take the over-the-top piece of it. We are seeing and continue to see many new over-the-top applications being launched. Two, virtually all of those applications are Cogent customers because we have more access networks connected to us in more locations than anyone in the world, and we provide that connectivity at the lowest price rate. With that said, most of the new applications do not have the technical acumen to build their own distribution networks for the scale that they are trying to achieve initially. So, many of them use CDNs as their intermediate distribution method. Those CDNs are also Cogent customers. But as they build out their own infrastructure, they will increasingly in-source, meaning they will have their own CDN, and they will become direct purchasers of bandwidth. So we typically see as an application matures, a greater percentage of their business comes directly to their transit providers and through the intermediaries like AWS or hosting companies or CDNS. I'm going to let Sean now take the capital lease question.

Thanks, Dave. So for the quarter, our cost of goods sold went down by $1.2 million as a result of reclassification, and this went from being an operating lease to a finance lease, and the finance lease used to be called a capitalized lease. So it is going, if you will, below the line, and going forward, that will reduce our cost of goods sold by $1.8 million a quarter. Those are cash payments for O&M and co-location services. If you try to - and I'll confirm this number - but if you try to look at the difference between our capital or finance leases as a percentage of leases versus operating lease, about 95% are capital or finance leases and 5% are operating lease. Does that answer your question?

Our next question is from Bora Lee of RBC Capital Markets.

So just switching to international, you've been adding markets over the last year or so. Can you just talk a bit more about your international expansion strategy? And perhaps relatedly, there was an increase in CapEx this quarter. Just wondering if that was a onetime increase related to the Johannesburg launch. And should we in the long-term, basically expect CapEx to return to that much trajectory?

So, first of all, I'll start with the downward structuring, you should expect our CapEx as a percentage of revenue and in absolute terms to continue to decline. Two, we continue to evaluate markets around the world. Most international markets that we are not in have one of two reasons we're not there, either a very hostile regulatory environment or a lack of aggregate demand. We do have additional markets on our radar to expand, and our country count will go up. Traffic growth is substantially faster outside of the U.S. than inside of the U.S. Now, in last quarter, Q1, we actually had a significant uptick in a capital lease expenditure. It was a cash expenditure for dark fiber internationally. Some of the CapEx is now for equipment to light that fiber. The Johannesburg expansion was not that material. What was much more material was our terrestrial expansion in Latin America. So we have purchased and lit long-haul fiber in Brazil, and we are substantially expanding our Mexican network. We did also expand into Bogata, Colombia last quarter. We continue to evaluate additional markets, but many of the countries just don't have a regulatory structure that welcomes a foreign ownership of an open Internet and our kind of two immutable criteria are: one, we're not going to go into JVs or partnerships, we need to be the complete owner; and two, we will not succumb to censorship or restrictions on the Internet. We are a major provider of Internet connectivity in Turkey and in China actually, but we do that outside of China. We have a significant presence in Hong Kong, for example. We have been closely monitoring the changes in the security law in Hong Kong. To date, it has not negatively impacted our ability to sell to Chinese customers. But going forward, we will continue to evaluate other markets where we can win customers.

Great. And just for a quick follow-up. Last quarter, you mentioned there were difficulties accessing corporate buildings for installations. Can you just give an update on how that's been going during second quarter relative to first quarter? And if you - and if the orders are still staying in the pipeline and they're just getting pushed out based on timing?

Yes. I think the building access issues have basically gone away. Out of 2,854 buildings there may be a half a dozen globally data center and/or multi-tenant buildings where there are still challenges, we've done a pretty good job of clearing out the backlog. Our provisioning times are about what they were pre-pandemic on-net. They are still elongated off-net because we are dependent on that off-net provider. But in general, we've done a pretty good job of getting things installed.

Our next question is from Phil Cusick of JPMorgan.

I wanted to follow-up first on Sean's comments on DSOs. Is that 22 days sustainable? Or could that be improved as fewer people pay by check?

It may improve somewhat by paying by check. But at the end of the day, I think we're trying to be - our target is actually around 25. So we're actually - we're well below our target. I think the reason why we repeated that - I wanted to show that is, this is the best - these statistics, bad debt churn, days sales outstanding are the best things to tell you about the reliability and strength of our customer base, and it all is within historical norms. And we're pleased with where we are right now.

Yes, it sounds like yes, everybody is, for the most part, current. And then, Dave, thinking about that IRU renewal, as we see fiber construction from a number of telcos and a big effort from Verizon, I'm curious what you see in the pace of buildings being lit up by other carriers, either the first connection or maybe second or third? And what that could mean for your own pace of on-net buildings and maybe cost reduction on leases from here?

So, there's two parts to the answer to that question, Phil. First of all, for our own fiber, we continue to buy from more diverse sources. We ended the quarter at 256 different suppliers. We keep identifying new constructors in markets around the world that we have never done business with. We do buy some dark fiber from incumbents, but generally, not a lot. Most of it is from alternate providers, whether it be small cell constructors or just competitive carriers. And we think that will continue. The second thing is that for our 90 different off-net vendors in North America, we have seen a significant uptick in the number of buildings that they have built fiber into. That number is over 2 million buildings that we can buy fiber or buy lit services that they have built-in that are delivered on fiber. The third point is maybe the most significant. We have contractual commitments from multiple providers to build into near-net buildings that they pre-identified if we secure an order. So we have nearly another two million buildings that have been identified with our 90 different suppliers as near-net. They are guaranteeing to build in at a fixed price at pricing identical on a monthly recurring basis that - to their on-net buildings. And they're guaranteeing to do that within 120 days. That is longer than our typical off-net guarantee of 90 days from our vendors, but it does show that there is a huge push by both cable companies and telcos to expand their footprint, which gives us a bigger off-net footprint. So both in our on-net footprint, we continue to find new suppliers and can get into virtually every building we want to go after. And to Sean's comment about capital allocation, we have capital. We can build in thousands more buildings if we choose, but we have concluded that they don't generate a good enough return. So for that reason, we're comfortable in using these off-net solutions in those more marginal buildings. And the fact that we've nearly doubled the addressable market really shows: one, how many buildings there are still to serve. Two, how aggressive the providers are in wanting to build; and I think the third number - while I'm not trying to speak ill with my suppliers - how they're deploying capital at rates of return that are suboptimal. I'm more than happy to buy services from someone who deploys capital at a rate of return below their cost of capital. Our Board would fire me if I did that.

Phil, I would just add to the point, we added two multi-tenant buildings this quarter, and I spent time with the real estate team. We have a pretty sophisticated algorithm that looks at a number of customers that are available, the distance of that building and really looks at the ROI, it's very disciplined on how we're going to do it or not. And the benefit is if we have fewer MTOBs that's going to bring our CapEx numbers down over time. But we still have a lot of penetration to go in our existing portfolio of the close to 1,800 buildings we have on that.

And for NetCentric, we continue to see data center proliferation and added nearly 30 carrier neutral data centers last quarter, and it looks like we'll add a similar number this quarter.

Which are less expensive to get into because they're designed to bring in multiple carriers. So they're easier, faster, cheaper to get into that.

They usually have content already out to a manhole.

Do you see any changes to the positive - just to take the other side for a second - do you see any changes to the positive in the return on capital on some of those construction efforts either in terms of more potential tenants or what tenants are willing to pay for those companies that are deploying capital for fiber?

Let me put it this way. Past is prologue, and this is an industry that has destroyed capital for 20-plus years. There's actually a heightened level of competition driven by the pandemic, cheap access to capital and new applications such as pure broadband businesses and backhaul businesses. With heightened competition and low-cost of capital, I think returns on capital on telecom are declining, and they were all running negative. I know that was not what people wanted to hear.

It's not surprising though.

From a historical perspective, 20 years ago, we - a lot of the investment was on competitive CLEC, which we're going after customers - small, medium-sized customers selling voice and data services. It's now a construction bench where we see dozens and dozens of fiber operators building fiber around cities, and we have a large sophisticated sales force. We have our own tenants in our own buildings. And those, hopefully, 4 million buildings we're going to have only increases the number of locations we can service and gets us into the ability to go not just to small and medium-sized businesses, but larger customers who've got more locations. It's a big opportunity for us.

And we have no further questions at this time. I would now like to turn the call back to Mr. Dave Schaeffer.

I just want to thank everyone. I hope everyone stays well in these challenging times. And again, thanks for your questions and support. Take care, and we'll talk soon. Bye-bye.

Ladies and gentlemen, this concludes today's conference call. Thank you for participating, and you may now disconnect.