Cencora, Inc. (COR) Q4 2016 Earnings Report, Transcript and Summary

Greetings and welcome to CoreSite Realty’s Fourth Quarter 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions]. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Greer Aviv. Thank you. You may begin.

Thank you. And thank you everyone for joining us today for our fourth quarter 2016 earnings conference call. I’m joined here today by Paul Szurek, our President and CEO; Steve Smith, our Senior Vice President, Sales and Marketing; and Jeff Finnin, our Chief Financial Officer. Before we begin, I would like to remind everyone that our remarks on today’s call include forward-looking statements within the meaning of applicable securities laws, including statements regarding projections, plans, or future expectations. These forward-looking statements reflect current views and expectations, which are based on currently available information and management’s judgment. We assume no obligation to update these forward-looking statements and we can give no assurance that the expectations will be obtained. Actual results may differ materially from those described in the forward-looking statements and may be affected by a variety of risks and uncertainties, including those set forth in our SEC filings. Also, on this conference call, we will refer to certain non-GAAP financial measures such as funds from operations. Reconciliations of these non-GAAP financial measures are available in the supplemental information that is part of the full earnings release, which can be accessed on the Investor Relations pages of our website at coresite.com. And now, I’ll turn the call over to Paul.

Good morning and thank you for taking the time to join us today. I’m glad to be here to share our fourth quarter financial and operational results with you as well as some highlights regarding our full-year 2016 performance. We finished the year strongly reporting record levels of fourth quarter revenues, FFO per share and cash flow while continuing to grow, expand and improve across the organization. We also executed well on our strategic priorities in Q4 completing the development of our largest multi-tenant data center, acquiring extensive capacity for future growth and attracting numerous key customers to our data center communities. Compared to Q4 2015, we reported 33% growth in FFO per share driven by 22% growth in revenue and 27% growth in adjusted EBITDA. Since CoreSite’s IPO in 2010, we have been on a journey to profitably expand and deepen our footprint in the essential data center markets we serve across the nation. We believe that this strategy and its execution, has enabled us to create sustainable value for our customers and shareholders. With that in mind, I want to share some highlights of our performance since our IPO. Based on Q4 annualized amounts, we have nearly tripled total operating revenues to a run rate of approximately $440 million exiting 2016. Both FFO per share and adjusted EBITDA have increased at a compound annual rate of 27% while our adjusted EBITDA margin has expanded nearly 1,600 basis points from 37% to 53%. We have increased our dividend annually and the current level reflects a compound annual growth rate of 35%. We have also increased the size of our operating data center portfolio at a 12% compound annual growth rate almost all of which has been organic growth. And we ended 2016 with almost 1,100 customers compared to approximately 630 at the end of 2010. We have been able to achieve these results due to our unwavering focus on the execution of our business strategy based on the needs of our customers and our financial discipline. An important piece of our strategy has been to deepen our presence in existing markets, to increase our operational scale and strengthen our competitive positioning within these markets. Our data center campuses are thoughtfully located and designed to provide the greatest possible appeal to and flexibility for our diverse customer base. CoreSite’s eight markets are centers of population density, business activity and economic health and currently comprised 20% of the U.S. population and 27% of U.S. GDP. We believe these markets contain a large and diverse pool of customer prospects which require access to network dense data center facilities, to support their performance sensitive applications and to interconnect securely and reliably with their business partners. Additionally, our markets contain a large and generally growing list of enterprises with increasing data center demands and increasing sophistication about outsourcing their IT architecture. Our industry is fortunate to be exposed to very strong underlying demand trends which we believe should sustain double-digit growth for a number of years. Our full-year 2016 performance demonstrates consistent execution and efficient go-to-market strategy and the robust customer communities we have built across our platform as evidenced by the strong sales results for the year with 579 new and expansion leases executed totaling $49 million in annualized GAAP rent, a 6% increase over 2015. In addition, we commenced a record 443,000 square feet of data center space in 2016 due in part to better than expected leasing performance at SV7. This translates to $59 million in annualized GAAP rent commenced during the year, a 37% year-over-year increase. We continue to see consistent demand across our markets from customers requiring high-performance, low-latency co-location solutions which, is well distributed across each of our key verticals of network providers, cloud service providers and enterprises. Supply and demand seemed generally in balance on the wholesale side in most of our markets. However, we are mindful of reports of increased appetite from privately funded developers. As it relates to our largest markets, we’re seeing steady demand and a consistent balance with supply in Los Angeles. In the Bay area, capacity across the market remains relatively lean while demand remains quite healthy, with pricing remaining firm. At the end of the fourth quarter, we had approximately 80,000 unoccupied square feet available across the Silicon Valley market, and we continue to explore opportunities for expansion in this market. Regarding Northern Virginia and DC, we continue to see robust demand particularly from the enterprise vertical. Although supply appears to be increasing, the current environment remains well balanced and our leasing pipeline is healthy. We’re looking forward to commencing construction on our Reston campus expansion this year. Lastly, we have seen some positive momentum in the New York, New Jersey market with an increase in the pace of leasing in Q4. Demand continues to be concentrated among smaller customer requirements with very good traction among enterprises and more specifically the financial services industry. While the sales cycle remains somewhat extended relative to other markets, we’re optimistic about the recent moment and our funnel. In summary, 2016 was another solid year of growth and investment as we continue to enhance our platform and customer experience. We remain focused on executing this business model which has served our customers and shareholders well. As you will hear from Jeff later in the call, we continue to expect solid growth this year and are optimistic about the opportunities ahead of us. With that, I will turn the call over to Steve.

Thanks Paul. I will begin by reviewing our overall new and expansion sales activities during the fourth quarter, and then I discuss in more detail our vertical and geographic results. Our Q4 new and expansion sales totaled $7.4 million in annualized GAAP rent comprised of 35,000 net rentable square feet at an average GAAP rate of $212 per square foot. These results completed a record sales year of $49 million in annualized GAAP rents signed in new and expansion leases, comprised of 246,000 square feet at a weighted average GAAP rental rate of $198 per square foot. Regarding the composition of our new and expansion leasing by deployment size, leased signed of 5,000 square feet or less totaled $5.8 million in annualized GAAP rent and accounted for 126 of the 127 transactions signed in Q4. During the fourth quarter we signed one lease greater than 5,000 square feet, which was an expansion of the existing multi-site customer. For the full year, we signed 579 new and expansion leases, a record level and an increase of 10% compared to 2015. As we continue to refine our efforts to attract performances that require us to our data centers, we also continue to enhance the already thriving customer communities across our footprint. And therefore, our attractiveness to cloud, network and other service providers will collectively benefit from this diverse customer base. Further to that point, we had another successful quarter attracting new logos to our four largest data center campuses, where 91% of our new logos in Q4 distributed across these markets. As it relates to our vertical distribution, 64% of our new logos were in the enterprise vertical. This group of new enterprise customers includes a cutting edge technology company, specializing and designing and developing high-performance electric vehicles for large international law firm, a leading accounting and management consulting firm and the largest graduate school of education in the United States. The net of customer churn, we added 30 net new logos in Q4 and 83 net new logos in 2016. Beyond our new and expansion leasing, our renewal activity in Q4 resulted in renewals totaling approximately 52,000 square feet at an annualized GAAP rate of $183 per square foot. Our renewal pricing reflects mark-to-market growth of 2.9% on a cash basis and 5.5% on a GAAP basis. For the full-year, our cash rent growth is 3.9% in-line with the mid-point of our guidance. Churn in the fourth quarter was 1.9% which included approximately 135 basis points of churn related to the previously announced multi-site customer that vacated certain elements of these deployments across our platform. For the full-year, churn was 7.8% and in-line with our guidance. Turning to interconnection performance, Q4 interconnection revenue increased 16% over the prior year fourth quarter. For the full-year, interconnection revenue is up 20% year-over-year, slightly ahead of the high-end of guidance. Q4, total interconnection volume growth of 11.6% was comprised of 16% growth in fiber cross-connects and 11% growth in logical interconnection services, which includes CoreSite Open Cloud Exchange and our Any2 Exchange for Internet peering. Before diving into our vertical performance, I wanted to point out that in Q4 and moving forward, we have simplified how we report on our vertical classifications. As such, we will now report on only three verticals, network, cloud and enterprise. Visual content providers, system integrators and managed service providers remain under the enterprise umbrella but will no longer be independently broken out. With respect to our vertical mix, during Q4, network and cloud customers accounted for 34% of annualized GAAP rents signed. Within our cloud vertical, we had strong positive activity correlating to a number of new logos, including multi-site public on-ramps with a leading cloud provider that signed with us in two markets. In addition, during the quarter, we signed expansions with software driven cloud networking solutions provider and additional public cloud on-ramp in Los Angeles and a hosted global cloud provider of business applications. In the network vertical, we continue to see expansions with existing customers as well as new logos joining the thriving carrier community. Notably, we recently announced the CoreSite’s Los Angeles campus would be the North American access point for the CUS Transpacific Cable System which should begin operating in Q2 2017. This will be sixth sub-sea cable to offer direct access from our Los Angeles campus, augmenting the importance of CoreSite’s data center platform and providing transpacific connectivity to the Indonesian and Asian markets. As it relates to our enterprise vertical, we continue to see good momentum with this vertical accounting for 66% of annualized GAAP rent. Specifically in Q4, we signed a sizeable expansion of a large global financial services organization as well as a new mobile content customer that moved from its existing third party data center in Los Angeles to support the launch of a new product. In addition, we signed leases with a leading interactive entertainment company, a large international bank and an international ad exchange. From a geographic perspective, our strongest markets in terms of annualized GAAP rents signed in new and expansion leases during Q4 were Silicon Valley, Los Angeles and Northern Virginia DC, collectively representing nearly 80% of annualized GAAP rents signed in the quarter. Demand remains very consistent in our Los Angeles market, with a good pace of leasing amongst small to mid-size customer requirements. Related, we continue to see a healthy amount of leasing at our LA2 facility. In Q4, signings of that facility accounted for 66% of annualized GAAP rents signed in Los Angeles markets, as many customers are seeking to cost effective option in that market that will allow them to scale their deployments while still easily accessing the strong distributor networks made of LA1. In terms of verticals, enterprise was the strongest in this market, followed by network and cloud. Stabilized occupancy in the Los Angeles campus was 92.6% at the end of Q4, up 250 basis points compared to Q3 while pre-stabilized occupancy increased to 24.3% from 15.6% last quarter. Leasing on the Bay Area continues to be dynamic, where lease is executed across all of our multi-tenant data centers in this market, and especially strong demand for our new facility at SV7. As you know, we saw strong pre-leasing at SV7 during construction and opened the facility at 62% leased. Including incremental leasing in Q4, we ended the quarter at 75% leased. Stabilized occupancy across the Silicon Valley market increased 110 basis points to 96.7%.In terms of verticals, Q4 lease executions in this market were weighted towards cloud deployments followed by enterprise deployments. Northern Virginia DC, transaction volume remains healthy with good demand among smaller and mid-size requirements. Enterprise demand remained strong with these customers accounting for 50% of our new logos signed in the Northern Virginia DC market. Stabilized occupancy across the market now stands at 96.1%, a decrease of 10 basis points on a sequential basis. We have been successful, in fact filling two thirds of the space with churned out view one in the Q3 and remain optimistic about our ability to re-lease the remainder of that space at favorable economics. 2016 was a strong year for leasing activity at CoreSite. We will continue to focus on driving increased diversity across our footprint and work to deliver value and addressing the growing needs of our customers. With that, I’ll turn the call over to Jeff.

Thanks, Steve, and hello everyone. My remarks today will begin with a review of our Q4 financial results followed by an updated of our development CapEx and our leverage and liquidity capacity. I will then conclude my remarks with an overview of our 2017 guidance. Q4 financial results resulted in total operating revenues of $110.5 million, a 9.1% increase on a sequential quarter basis and a 21.5% increase over the prior year period. Q4 operating revenue consisted of $91.8 million in rental and power revenue from data center space, up 10.6% on a sequential quarter basis and 22.9% year-over-year. Interconnection services revenue contributed $14 million to operating revenues in Q4, an increase of 4.6% on a sequential quarter basis and 16.3% year-over-year. And tenant reimbursement and other revenues were $2.1 million. Office and light industrial revenue was $2.6 million, which includes revenue associated with our recently closed acquisition of the light industrial office park in Reston Virginia. Q4 FFO was $1.06 per diluted share in unit, an increase of 17.8% on a sequential quarter basis and 32.5% increase year-over-year. Adjusted EBITDA of $16.6 million increased 16.3% on a sequential quarter basis and 27.1% over the same quarter last year. Our adjusted EBITDA margin expanded 240 basis points year-over-year in the fourth quarter to a record level of 54.9% and expanded 200 basis points to 53% for the full-year 2016. Related, for the full-year, our revenue flow-through to adjusted EBITDA and FFO was 63% and 61% respectively. As it relates to our reported AFFO results in the quarter, we had a significant increase in straight-line rent which was $5.4 million in Q4. This increase relates to contractual rent relief adjustments resulting from the modestly delayed delivery of SV7. We expect straight-line rent to return to normalized levels in the first quarter. Sales and marketing expenses in the fourth quarter totaled $4.3 million or 3.9% of total operating revenues. For the full-year sales and marketing expenses correlated to 4.4% of total operating revenues, 40 basis points below the 2015 level as we continue to focus on increasing efficiency and productivity across the sales and marketing organization. General and administrative expenses were $8.4 million in Q4 correlating to 7.6% of total operating revenues. For the full-year, G&A expenses correlated to 8.8% of total operating revenues, a decrease of 150 basis points compared to 2015 and slightly below our guidance. Regarding our same-store metrics, Q4 same-store turnkey data center occupancy increased 140 basis points to 90% from 88.6% in the fourth quarter of 2015. Additionally, same-store monthly recurring revenue per cabinet equivalent increased 7.5% year-over-year and 0.7% sequentially to $1,529. Similar to what we saw last quarter, on a per unit basis growth in our interconnection and power revenues are driving the solid year-over-year increase in MRR per cab-E. In Q4, we completed construction of SV7 and placed into service 227,000 net rentable square feet across three floors. Two of the three floors are 100% leased and occupied and therefore are reflected on our stabilized operating portfolio. The third floor consisting of 77,000 square feet is reflected in our pre-stabilized pool and is 26% occupied. As we have discussed previously, we define stabilization as the earlier to occur of 85% occupancy or 24 months after we place an asset into service. Lastly, we commenced 189,000 net rentable square feet of new and expansion leases at an annualized GAAP rent of $185 per square foot which represents $34.9 million of annualized GAAP rent. This record level of commencements reflects the previously discussed backlog of leases at SV7, which account for approximately 80% of the annualized GAAP rent commenced in Q4. We ended the fourth quarter with our stabilized data center occupancy at 94.5% an increase of 80 basis points compared to the third quarter, and an increase of 200 basis points compared to the fourth quarter of 2015. Turning now to backlog. Projected annualized GAAP rent from signed but not yet commenced leases was $5.7 million as of December 31, 2016, or $15 million on a cash basis. We expect almost the entire GAAP backlog to commence during the first quarter. Turning to our development activity, we had a total of 27,000 square feet of turnkey data center capacity under construction as of December 31, 2016, with expansion projects in Los Angeles, Denver and Boston. As of the end of the fourth quarter, we have spent $7.7 million of the estimated $22.3 million required to complete the expansions. As shown on Page 21 of the supplemental, the percentage of interest capitalized in Q4 was 11%, and for the full-year it was 24.6% in line with our guidance. For 2017, we expect a percent of interest capitalized to be in the range of 10% to 15% reflecting the lower level of development relative to increases in interest expense. Turning to our balance sheet. As of December 31, 2016, our ratio of net principal debt to Q4 annualized adjusted EBITDA was 2.8 times including preferred stock, the ratio was 3.3 times, in line with the Q3 level and still below our stated target ratio of approximately 4 times. Including preferred stock, the year-end level correlates to incremental debt capacity of approximately $165 million at December 31 based upon Q4 annualized adjusted EBITDA. As you can see from our guidance, for capital expenditures in the supplemental, we expect to deploy capital of $257 million in 2017 with $220 million associated with data center expansion projects. As a result, we expect to add incremental debt financing during the first half of 2017 to increase liquidity and extend term on existing debt drawn on our credit facility. Timing, pricing and the type of debt are dependent on market conditions and we’ve targeted a total issuance amount of $150 million to $250 million which will be used to pay down our credit facility and fund development, with the intent of maintaining a healthy balance between our fixed and variable price debt. This anticipated debt issuance is included in our guidance, which I will discuss in more detail later. As it relates to our dividend, during the fourth quarter we announced an increase in our dividend to $0.80 per share on a quarterly basis or $3.20 per share on an annual basis. This correlates to a 51% increase over the prior year dividend rate and is in line with our AFFO growth of 46% in 2016. We modestly increased our dividend payout ratio to 74% of FFO based on the mid-point of our 2017 guidance. We believe this aligns us with the best performing REITs historically and reflects our cumulative growth in cash flow, scale and operating effectiveness since our IPO. Now in closing, I would like to address guidance for 2017. I will remind you that our guidance reflects our current view of supply and demand dynamics in our market as well as the health of the broader economy. We do not factor any changes in our portfolio resulting from acquisitions, dispositions, or capital markets activity other than what we have discussed today. As detailed on Page 23 of our Q4 earnings supplemental, our guidance for 2017 is as follows. Total operating revenue is estimated to be $470 million to $480 million. Based on the mid-point of guidance, this implies 18.6% year-over-year revenue growth. As it relates to interconnection revenue growth, we expect the 2017 growth rate to be between 13% and 16% which at the lower end is generally in line with overall projected volume growth. General and administrative expenses are estimated to be $37 million to $39 million or approximately 8% of total operating revenue. This correlates to a 7% increase in G&A expenses over 2016, reflecting our ongoing focus on increasing productivity and efficiency across the organization. Adjusted EBITDA is estimated to be $253 million to $258 million, this correlates to 20% year-over-year growth based on the mid-point of the range and adjusted EBITDA margin of approximately 53.8% and revenue flow-through to adjusted EBITDA of approximately 58%. FFO per share in OP unit is estimated to be $4.25 to $4.35. This implies 16% year-over-year FFO growth based on the mid-point of the range and the $3.71 per share we reported in 2016. As a reminder, the FFO per share guidance includes the debt financing that we expect to complete in the first half of the year. In addition, due to the expected timing and amount of the financing, we expect FFO per share results to be fairly balanced in the first and second halves of the year. And therefore, FFO growth to be weighted towards the first half of the year. This is due to the anticipated incremental interest expense resulting from higher priced fixed debt as compared to current variable price debt. We also anticipate this to result in a decreased revenue flow-through to FFO, which we estimate at approximately 40% based on the mid-point of 2017 FFO guidance. The significant drivers of this guidance are as follows. Estimated annual churn rate of 6% to 8% for 2017, keep in mind, that we expect an elevated level of churn in the second quarter of 2017 due to the final portion of rent associated with the original full-building customer at SV3. The amount is equal to $4.2 million in annualized rent or an incremental 180 basis points of churn. Cash rent growth on our data center renewals is estimated to be 2% to 4% for the full year. We expect cash rent growth to be weighted towards the second half of the year due to expected renewals of strategic deployments resulting in lower mark-to-market rent increases in the first half of the year. Total capital expenditures are expected to be $243 million to $271 million. The components are comprised of data center expansion cost, estimated to be $212 million to $228 million, this includes the expansion capital related to the first phase of the Reston campus expansion, the previously mentioned expansion projects in Los Angeles, Denver and Boston as well as incremental turnkey data center expansions across the portfolio as needed based on demand. Non-recurring investments are estimated to be $14 million to $18 million and include amounts related to investments in our IT architecture, facilities upgrades and other capital expenditures. Recurring capital expenditures are estimated to be $13 million to $17 million, and tenant improvements are estimated to be $4 million to $8 million. Now, we’d like to open the call to questions. Operator?

[Operator Instructions]. Our first question comes from the line of Jordan Sadler with KeyBanc Capital Markets. Please proceed with your question.

Thank you, and good morning. Can you elaborate a little bit on I guess, Paul, your opening remarks you talked about strength you’re starting to see in financial services. But it sounded like the lead time was not exactly short. I’m just trying to get a sense of how that may have changed sequentially if these are new requirements that have popped up? And if lead times are consistent or if you’re saying that there is lengthening out?

Thanks for giving an opportunity to clarify. I don’t think and we’re specifically talking about the New York market. I don’t think that there has been any change in the lead times relates to these financial services types of deployments. They just continue to be longer than lead times for typical lease negotiations. I think what we’re seeing is consistent with what we’re seeing in other segments of the enterprise vertical which is an increased interest in outsourcing elements of the IT architectures for these organizations, specifically to improve cost performance and to provide more efficient access to cloud services. Steve, would you add anything to that?

No, I think exactly Paul. I think the one thing that I would add is that we have seen a bit of an uptick as far as overall interest from the financial services community. And the New York area obviously there is a large density of those types of customers there. And I think that they are getting more sophisticated and really reaching a critical point in their internal architecture that is having them look to alternatives, part of that is cloud, part of that is outsourcing to co-location providers and really segmenting how they divide that architecture across different co-location facilities in its own right, whether it’s high frequency trading or internal IT requirements, but we’re seeing a lot more I guess a measured amount of more interest from that sector.

Okay, that’s helpful. And then, I had a question regarding sort of expansion - capital expansion opportunity. I heard obviously of the $212 million to $228 million Jeff that you touched on, you’ve, got Reston campus expansion and some others in there. But I also figured based on prior discussions that you guys would continue to look to for opportunities in some of your core markets to court for, including Chicago, Santa Clara, as you’re running out of capacity in those? Can you maybe talk about the progress there or the plans?

Yes, let me just touch on what leads, what’s on our balance sheet and then Paul can touch on a little bit more broad in terms of where we’re looking to add incremental capacity. But in general, we’re looking at various components of our portfolio in terms of where we need to add incremental capacity. We don’t have a lot of it put into development as we ended the year and largely because of the amount of development we had being finalized and finishing up in Q4. Having said that, I think when you look across the portfolio beyond what we’ve talked about with Denver, Boston, and LA, in construction we’ve also mentioned the Reston campus. And there are a couple other markets that we’re closely looking at based on our visibility in terms of the sales funnel. And we’ll continue to evaluate those options and then ultimately put things into construction as we see fit. Beyond that maybe Paul can comment on just more broadly what we’re looking at in terms of other markets based on the need for just added capacity.

Jordan, I touched on this in my comments. We’re looking at additional capacity in the other big four markets. We’ve got Northern Virginia taken care of pretty well. Historically we follow the discipline of not announcing anything until we actually have a specific contract or similar development to announce. I think generally you can that we’re always making progress but we’ll announce it when we have something firm.

Jordan, the only other thing I was going to add just to give you some numbers, just a quantification standpoint. Our estimate for what we think we might spend in Reston for 2017, it’s about $100 million, that’s largely going to be dependent on when we take that under full construction. But that gives you some idea about where we’re thinking in terms of heading into the year.

That’s helpful. And then lastly if I may, just a point of clarification on the straight-line rent number in the quarter. So, was that an abatement that was given for the delay and can you quantify the amount of the abatement and then sequentially I guess we’d get the change from that?

Yes, Jordan, you’re correct. The increase in that straight-line rent, on average in any given quarter our straight-line rent amounts usually somewhere between $1 million to $2 million. So you can take the delta of that mid-point of that number and you can see that the overall increase was about $4 million. And that was largely attributed to the delay in delivering SV7 and an abatement that we gave as a result of that delay.

Okay. Thank you.

Thank you. Our next question comes from Colby Synesael with Cowen. Please proceed with your question.

Okay, thank you. You mentioned you were going to, you’re intending to raise $150 million to $250 million in debt. I’m just curious what interest rate you assumed in the guidance that you’ve provided today. Obviously I think your revolver is something just above 2%, it’s going to be something higher than that. Anyway, to kind of frame out how we should think about that potential rate to kind of work into our model? And then secondly, when I look at your EBITDA guidance margin the 53.8%, excuse me - that’s up about 80 basis points I think versus the last two years it’s been up roughly 200 basis points. I’m just trying to get a sense, if there are any of the items that go into that that could be changing in terms of how you’re thinking about that. Is it sales or marketing or maybe we’ll see a bump relative to percentage of revenue? Is it something perhaps in the property of rent, just any color that helps us back into the slowdown in the contribution margin? Thanks.

Yes, Colby, let me address to your first question as it relates to interest rates. Today if you look at our pricing on our revolving credit facility we’re paying about 230 basis points on our debt. Based upon the debt we placed last year and based on where market sit today, I think largely we will expect to pay about 250 basis points higher than 230, call it somewhere around 475, 480 if you went with a pure fixed price instrument. I’d give a term somewhere around 7 or 8 eight years for that level of pricing. As it relates to the second question, as it relates to our EBITDA margins, I think if you look at over the last couple of years, I do think looking at a 12-year period of time in terms of what improvement we’re making in our EBITDA margins is a good way to look at it. We increase those spread by about 200 basis points, ‘16 over ‘15 and we’re guiding to about 80 basis points increase in ‘17 over ‘16. We’re trying to continue to manage as I mentioned in our comments around our expense growth and that’s something that Paul, Steve and I and the entire management work closely around just to manage and continue to scale the business. And hopefully we can outperform but that is largely driven by continuing to manage our expense growth and leverage as much as profitability as we can to the bottom line.

As it relates to sales and marketing in particular, any reason to think that, as a percentage of revenue, that might be different in 2017 versus 2016?

No, I think we’ve typically guided to right around 4% of revenue and I think that’s fairly consistent with where we think we’ll end up in 2017 as well.

Great. Thank you.

You bet.

Thank you. And our next question comes from the line of Jonathan Schildkraut with Guggenheim Securities. Please proceed with your question.

Great. Thanks for taking the questions this afternoon. So I just wanted to ask a couple on the enterprise side. Paul, Steve, you guys were talking about the strength there, and even in one of the earlier questions you came, sort of referenced back to that. And I just wanted to understand the dynamic of what these enterprises are doing inside your data center. And I guess it would be helpful maybe to layer in sort of two, sort of ideas as you go through that. One is when I look at the interconnect growth projection for the year, it’s actually slower than your top line growth projection for the year, so implies a mild reduction as a percent of revenue coming from interconnect. And I guess that would have sort of been intuitively the opposite of what I’d expect in accelerating enterprise cloud adoption scenario. And then secondly, you guys added PacketFabric to, I think, 11 of your data centers in the quarter, and I’m just wondering about how that helps in terms of driving that enterprise demand over time? Thanks.

Sure, hi Jonathan, this is Steve. I’ll start off and then let Paul fill in some color there. I guess, the first thing relative to the cross-connect growth and the pacing versus top-line, part of that I think is attributable to some of the larger leases that we closed over time. And as you look at the size of those leases and relative cross-connects that connect those spaces it gets a bit diluted there. So, I think that’s part of the driver. Overall, as far as the enterprise is concerned, we do see them, it’s connecting more and more to networks and clouds. And how they do that is a bit variable, whether they do it through physical cross connects or through Oracle cloud exchange and some of the other types of services that are available there. But overall I would say that that’s the primary contributor there, just the mix of leasing that we’ve seen over time. As you look at some of the other providers that have come into the building, you mentioned PacketFabric, we have a couple of others in the form of Megaport and a few others as well as some of the larger carriers that provide similar type of SDN services. Overall, we feel like that’s a positive thing for our customer base, it gives them better connectivity options. And frankly, we’ll attract more customers and more cloud and content providers to want to come to our data centers. So, on balance, yes, there may-be some interconnection services that use that SDN type of offering in order to connect to multiple other services whether its cloud or other networks. But on balance we feel like it’s overall a positive thing for us.

Awesome. If I could ask just one more follow-up. I was just wondering what the impact from the Reston acquisition was to the top line in the fourth quarter and whether we should think about that revenue as we look into ‘17 sort of going away as you guys re-purpose the asset for data center space and maybe away from office? Thanks.

Jonathan, as it relates to the fourth quarter, just based on the timing on which we acquire that, you can see on the property table. The annualized rent associated with that particular development at 12/31 is $4 million, we closed it mid-November. So the top-line growth was about $600,000. Important, as you look at your models going forward, there is a certain element of that particular rent that will be terminating at March 31, it’s about $800,000. I mean, that’s going to be terminating so that we can commence development on the first phase of that particular development.

Awesome. Thanks, Jeff.

Hi Jonathan, this is Paul. You did raise a couple of questions in your research note a day or two ago that, if you don’t mind I thought I’d clarify so that you can go away from this call with that answered.

Thank you.

You quoted Jones Lang LaSalle report about One Wilshire. And I can only surmise that that report related to the landlord’s ability to develop and lease new data center space in the building and provide conduit and fiber to our meet-me room. I do want to make sure that you’re aware however that once the fiber gets to our meet-me room, we have the ability to economically benefit from any connection by charging fees for cross-connects. More precisely, in order to access the meet-me, room ecosystem, the landlord’s tenants must enter into a separate agreement with CoreSite governing our provision of, meet-me room services to that tenant. We also have the ability to protect ourselves against any free riding or other behavior that would be detrimental to the value we created in that interconnection node in the meet-me room. And furthermore we also have right to first offer on much of the space, in fact probably most of the space that the landlord could potentially develop to supply additional power and cooling. I just want to finish the same, we have a great relationship with both the owner and the management company at One Wilshire. We worked together really well over the years to create an outstanding data center ecosystem there. And we feel very good about our ability to continue to enjoy the mutual benefits of that relationship while providing a very valuable co-location and interconnection platform for our customers there. And I hope that kind of covers all the questions you had on that subject?

Thanks a lot, Paul. That’s super helpful. I didn’t think I could ask four questions, so that was really good.

I think Jeff’s kind of already covered the question you raised with the dividend. REITs have historically financed expansion opportunities with outside financing. The tax structure we have requires us and investor expectations encourage us to dividend out as much as we safely can, what is defined as kind of true operating cash flow. And I know people take different measures. But we kind of look at something we call cash available for distribution to common equity which is basically AFFO minus non-recurring capital expenditures. We have raised our dividend payout ratio to kind of catch up with the growth in our performance over the years. But we still retain a cash cushion between that measure of operating cash flow and what our dividend is. So, technically we will not be borrowing to pay the dividend as you questioned in your report. I know that there are different ways that different analysts look at it, I just wanted to clarify the math.

Thanks, Paul.

Thank you. Our next question comes from the line of Jonathan Atkin with RBC Capital Markets. Please proceed with your question.

Thank you. So, a couple of quick ones. I wanted to find out about your interconnect growth expectations for 2017, and of that growth, if you can describe how much in your guidance is predicated on bilateral fiber cross-connects versus exchange port type connections - the logical connections, kind of the composition of that or how much each of those accelerates. And then related to that, on Slide 14 the MRR per cabinet - I wondered if you could provide a little bit more detail. You have a little bit in the script, but maybe quantify how much of the growth that you saw in 4Q was from interconnect versus tower versus escalator? Thanks.

Hello Jonathan, let me see if I can hit both of those for you. As it relates to the interconnection business, if you just look at full-year ‘16 over ‘15, I think Steve commented on his script that our overall volume growth was just shy of 12% for the full-year. And as I said in my script, our guidance is somewhere between 13% to 16% of overall revenue but we’d expect volume to be on the lower end of that. So, just call it an implied volume growth of about 13%. As it relates to fiber versus other, fiber generated overall increases in ‘16 over ‘15 of 16.4%. And we would expect that number to be fairly consistent as we go into ‘17 as well. So maybe give up just a little bit but overall we would expect it to be right around that 16% maybe just north of 16%. As it relates to your second question on the MRR per cab-E. If you look at the overall year-over-year growth of 7.5% and the components, the overall increase from an, interconnect and power is really what drove the increases. And my recollection is on interconnection that year-over-year growth is about 11%, maybe just slightly ahead of 11%. And the power increases were about 9%. And then the remainder was the rent component.

Okay. And then interested, you talk a lot about enterprise, and I’m interested in the indirect channel and the contribution of that to your new leasing, because you have a lot of retail big prototype leases. And how much of that funnel is coming from indirect, and is that changing at all?

Yes, I can probably take that for you, this is Steve. From an overall transaction perspective, it ranges anywhere from about 13% to about 20% as far as the overall indirect channel and the amount of contributions they bring to us. So that’s remained fairly consistent over time and we haven’t seen a dramatic change in that over the 12 months I would say.

Okay. And then finally, of your incremental leases, how much involve metered power versus circuit-based? I’m assuming it’s mostly the latter, but just wanted to make sure I’m, understanding that correctly.

Hi, Jon, I apologize, I was writing something can you repeat what the question was?

Right. So, the incremental leases that you saw during the quarter, how much of that involved - I’m asking about the power pricing model, right? So how much of the incremental leasing is involving metered power versus circuit-based power?

Yes, I’m sorry, I got you. I would say overall a majority of the leases will contain a breaker powered model and less than majority would be on a metered basis. To give you some idea, if you look at just our overall power revenue we’ve been anywhere between 55% and 60% of our power revenue is earned on a breaker basis. And therefore the remaining portion is earned on a metered basis. And that is consistent with where we ended 2016 as well.

Thank you.

Thank you. Our next question comes from the line of Matt Heinz with Stifel. Please proceed with your question.

Thanks. Good afternoon. Just wanted to hit on a couple of the guidance items. I think Jonathan hit a little bit on this with the Reston question. But how much of the incremental of $75 million of implied revenue growth is attributable to existing rents on the Reston campus? It sounds like you’re terminating some of that OLI revenue in the first quarter, but if you could just provide kind of the magnitude of rents on the existing leases that’s in the guidance.

Yes, I think it’s about, we got like I said it was an annualized amount of $4 million resulting from that new campus. And that will be in place through $3.31 million and then it will drop down to $3.2 million for the last nine months ballpark.

Okay. That’s perfect. Thanks. And then any color you could provide on leasing assumptions that are baked into the revenue in terms of volumes you’re expecting relative to last year and the mix of leasing by deal size?

Great question Matt. I think as Paul alluded to and I think Steve might have alluded to this a little bit as it relates to our commencements for 2016. We had the largest amount of commencements we’ve had as an organization, I think that total $59 million ballpark for the full year of 2016, which as you know, largely led to the 50% cash growth ‘16 over ‘15. I think if you look at where we have been historically and if you look at over the last 4 to 5 years, taking out a couple of large wholesale deals that we’ve done over that period of time, I would say on average, our lease commencements in any given has averaged over that 4-year period, about $26 million in total. We believe we can exceed that in 2017. And we’re estimating somewhere around $30 million of annualized commencements for rent in 2017 to give you an idea.

That’s awesome. Thank you. And then just as a follow-up on the - your relationship with the switch fabric, kind of cloud fabric providers, I’m just wondering kind of what’s the economic relationship there? Are you charging them rent or do you see them as a magnet that is bringing in, is helping to bring in incremental customers? And you talked about the value proposition of how you see that as being net accretive of to your business, but with a lot of those cloud providers already in the buildings and on many of your campuses, I’m just wondering why isn’t that a solution that you can provide directly for your customers, and where does a Megaport kind of fit into that equation?

So, I guess, I can kind of start with - answer that question and then I’ll let Paul or Jeff kind of fill-in there. Overall as far as the likes of SDN providers in our buildings and the value that they bring there, I guess first question I guess is, relatively economic relationship we have there. I don’t think I can really get into too much detail there other than just letting you know that’s similar to other providers and carriers that are in our facilities. And we’re continuing to evolve that relationship. But it’s very important to us to maintain the strategy that we’ve had going forward which is really to provide a carrier neutral type of facility that provides our customers choice and flexibility as to how they interconnect to other networks as well as other cloud providers. And we look at those SDN providers as an extension of that. As to the value that they provide in our data centers, while we do have many of our direct on-ramps from many of the big cloud providers made up in our data centers feel like that brings significant value and differentiation in the marketplace. Having other connectivity options, we feel like it also benefits not only in providing access to those clouds and other networks but from campus to campus and just to other facilities around the world. So, it really just gives them more choice and more flexibility. And we feel like that’s a positive thing in just providing them more attractive options for those customers.

I would only add to what Steve said, reiterate our strategy of having ecosystems that provide all the options, all the business partners, all the various ways of interconnecting and getting around the world that our customers might conceivably need that openness has benefited us strategically. And we believe it will continue to do so going forward.

Okay. Thank you very much.

Thank you.

Thank you. Our next question comes from the line of Frank Louthan with Raymond James. Please proceed with your question.

Great. Thank you. Some of your peers have discussed some business opportunities they continue to see in Europe and potentially there. What is your thinking as far as outside of the U.S. or see geographical needs, and at what point do you think that becomes more of a necessity for you?

To the extent we’re involved in international activities already, we’ve seen a large number of non-U.S. companies coming into our data centers. We do have a small percentage of our customers that like our platform, like our service levels and agreements and have asked us to look outside the U.S. But they also have a very cost conscious approach to it. So, we tried to address that with a curetted referral program and we continue to evolve and improve that. And that seems to be going well and seems to have an opportunity for improvement going forward. Perhaps more importantly we’re seeing an increasing volume of our customers who are going global via cloud or content providers or similar companies that are in our data centers that already have a global platform. And so we focus tremendously on making sure that they have the facilities and business partners they need in our data centers to go global, do that methodology.

Okay. Great. Thank you. And then just quick follow-up. You mentioned the enterprise demand. When you’re looking at your pipeline, any particular verticals that you’re seeing more or less activity that we would expect if we look a year from now on this call that might have expanded as far as your exposure to any particular industries?

Hi Frank, this is Steve, I’ll try to answer that for you. Just to kind of piggy-back on what Paul had just mentioned regarding whether it’s international expansion, or even domestic expansion. I think what we’re seeing is that customers are getting more and more sophisticated on how they evaluate and select a data center provider. And as such, as long as they’re looking for a deployment in our markets, we feel like we stand a very competitive opportunity to win that business and not being in more markets where even international business seems to be slowing us down winning those deployments. So just to give you a little bit of color there. Relative to industries and vertical strength across the board, I would say it’s very market-driven. As you look at industries that are most interested in New York are very different than they might be in LA versus the Bay Area versus even Virginia. So, we try to take a very pointed approach to ensure that we have a geographical focus into those markets trying to ensure that our data center as well as our operating there resonates well with the key industries that happen to be present there. And we continue to refine those efforts. But it’s just different from market to market.

Got it. Okay. Thank you very much.

Thank you. Our next question comes from the line of Michael Rollins with Citi. Please proceed with your question.

Hi, good morning, and thanks. A couple if I could. First, as you’re looking at the development activity particularly in the newer campuses like Reston, how are you thinking about the interest to push in another strategic anchor tenant versus just building around the communities that you already have in the market? And then secondly, just from an M&A context, with the activity that’s been in the marketplace globally over the last year, are there any new thoughts in terms of what your aspirations are to participate in M&A to accelerate scale or accelerate the strategy, either as a buyer or a seller? Thanks.

Thanks. Let me try to address those. The first question, I think as you saw both our VA2 expansion and our SV7 expansion, we have moved to a model of pre-leasing of new developments and new construction. And our preference for that type of pre-leasing is to find and sign out strategic anchors for those new developments, it’s worked very well in both of those cases. And we expect to continue to follow that model going forward including for the Reston expansion. As it relates to M&A, we believe we have a business model and a platform that has consistently delivered opportunities for attractive organic growth. And that’s how we design the company. And I think that’s consistent with how most studies have companies have guided for the best long-term shareholder value. I think this approach also enables us to provide more value to our customers because we deploy our capital where there are, growth and expansion needs are consistent with the scale that we have. Having said that we recognize that there are occasionally opportunities when M&A or other inorganic growth avenues can be very attractive. So, we study the vast majority of the opportunities that are out there with an open mind. We’re trying to discover opportunities to accelerate our ability to deliver value to customers and shareholders. Any transaction however would have to make sense strategically, culturally and mathematically, meaning, it would be good for our customers and would most likely be accretive to share value on a risk adjusted basis. I think I’ve kind of just restated what we’ve said at every quarterly call for the last couple of years. So I don’t think that indicates any real change in our approach. But I did want to make sure the philosophy behind it was well understood. And assure you that we don’t, we do look at this stuff and if good opportunities out there, we wouldn’t be averse to taking advantage of it.

Is, there any expectations that with some of the activity to date that that might help or hurt your sales funnel and ability to close deals?

Nothing that we have seen so far appears to be any threat to our sales funnel or our ability to close deals. Please remember we are focused our scale and our strength in these eight very strong markets. And we provide a fairly unique value proposition as well as kind of the hybrid flexibility for customers that need to scale in those markets. And we don’t see that changing with the M&A activity we’ve seen out there.

Thanks very much.

Thank you. Our next question comes from the line of Lukas Hartwich with Green Street. Please proceed with your question.

My first question relates to the same-property results. I’m just looking at sequential MRR and occupancy growth, and it looked like it slowed down a little bit from the recent pace. And I’m just curious, is that noise, or are you running into a ceiling, particularly on the occupancy side of things, or what’s going on there?

Hi Lukas, it’s Jeff. I would say that I don’t think we see anything that would prohibit us from continuing to lease up our same-store to beyond the 90% that we’re at today. There is nothing that physically limits us, the space is still there power and cooling capabilities are still there. So, there is nothing there that limits us from an infrastructure standpoint to continue to increase that leasing. As it relates to the overall growth on call it MRR per cab-E basis, you can see that overall based on the same-store pool we had an effect for 2016, produced very good results, increasing call it, 6% to 8% on average year-over-year. I think as you look forward, we would expect that MRR per cab-E growth to moderate a little bit just based upon the type of sales activity we had in the previous 12 months. But still healthy somewhere between 5% to 7% year-over-year, growth as we look forward just to give you some idea where we think it’s headed.

That’s really helpful. And then secondly, the development funding, the roughly $200 million there, is that going to come from additional debt issuance or how do you plan on funding that development?

Yes, it’s just right in line with our prepared remarks. We’ve had about $165 million of debt capacity today and about $150 million of liquidity as we sit here at year-end. And so, obviously it will fund the development needed in the near term but we’re going to have to term-out some level of our credit facility. And we’ve guided to $150 million to $250 million of additional debt sometime here in the first half of 2017.

Right. So there’s like roughly a $200 million balance in the line right now. So the future debt issuance, I was thinking, was terming out that, and then you would add an additional $200 million. So is it basically there will still be I guess, yearend 2017 there will be a $200 million roughly balance on the line?

Yes, ballpark just depending upon the pace of development. And you could see our CapEx that would give you some idea about where we would end up, that’s correct.

Great. Thanks a lot, guys.

Thank you. Your next question comes from the line of Jon Petersen with Jefferies. Please proceed with your question.

Great. Thanks. A lot of people asked about M&A and your acquisition appetite. But I’m just kind of curious, whether it’s big deals or whether it’s just growing organically, your thoughts on being in Tier 2 markets versus Tier 1 markets. I think you’re generally kind of in the major markets. You are in Denver and Boston, you’ve had success there, and those are probably characterized as Tier 2 markets. How do you guys think about those markets within your portfolio and your appetite to further expand into other markets similar to like Denver and Boston?

I don’t know that I can add much to what I said earlier. The size of the market is important because of the scale that you can achieve. And also the resilience that you have going forward via diversity of customer base and kind of how tech reliant and data reliant the economy in a particular market is. Boston and Denver are both very strong tech and data economies. And because of their proximity to headquarters, in one case and our northeastern operations in the other case, we’re able to have a chief scale about the sales and the operating organizations in those markets. And we expect good growth in them in the future. Probably as important we were able to enter those markets at very attractive price points and begin the scale accordingly. So, when you think about scale and data dependence in the economy and the ability to have economies of scale in a market, Tier 2 markets are just harder to make the numbers work. And as you go down in the tiers, it gets progressively harder.

Okay, all right. Thank you.

I would just add Jon is, if you look at our strategy around really the three pillars of enterprise, cloud and network, having a heavy density of all three of those factors is important. And as Paul mentioned in Denver and Boston, those are hi-tech centric and fast growing markets already. So, we see good growth there. But also interconnection is critical too and Denver specifically being the intersection of fiber back-bone that crisscrosses the country speaks to that well as far as the attractiveness to cloud and network providers providing services here as well as Boston. So, they’re a bit unique in that regard.

Okay. And I don’t think I’ve heard you guys talk about this, but your recurring CapEx mid-point is $15 million this year. That’s more than double what it was in 2016 or kind of higher than it’s ever been. What’s the driver for that in 2017?

Yes, Jon this is Jeff. It’s one of those areas where we just believe as the number of kilowatts that we have in our portfolio increase, it is going to drive an increased level of recurring CapEx, that’s just the expectation that we have. And that’s kind of how we manage and model it. But it’s slowly driven on the number of kilowatts we have deployed out through our portfolio. When you look at how much of those kilowatts commenced during 2016, we’re just expecting to have some recurring CapEx increase over prior years.

Okay. And then just one more. I think you guys talked about this, but I just want to make sure I understand it. So, last quarter on the call you talked about how there would be 125 basis points of churn in the fourth quarter. I think in your prepared remarks you talked about how there would be some in early 2017. I’m trying to figure out, did the 125 basis points you talked about last quarter - did that actually occur this quarter? Is it part of the 1.9%, or did it get pushed to next year?

It did occur and Steve alluded to it in his prepared remarks. We actually ended up having a total on that particular customer of 135 basis points. So just slightly higher than what we had anticipated. But that did actually occur in Q4. So absent that customer, actually churn results were fairly good in Q4 when you look at our long-term average to somewhere between 1% to 2%. The other component that you’re probably referring to and I alluded to, it some elevated churn in Q2, which is about an incremental 180 basis points which is the last component of our original customer at SV3 that will burn off. And that is about $4.2 million of annualized rent that will terminate in the second quarter of ‘17.

And that’s not new churn. We preannounced that churn in other calls.

Yes.

Right, okay. Got it. All right, thank you, guys. Appreciate it.

You bet.

Thank you. Our last question is a follow-up from Jordan Sadler with KeyBanc Capital Markets. Please proceed with your question.

Hi Jordan, we can’t hear you. If you’re talking you might check your mute button.

Sorry about that. I tried to queue out. But while I’m here, you guys mentioned, I think, $30 million of commencements are basically what’s budgeted into the guidance for next year. Is that the right number?

That’s accurate.

And so I guess the right way to think about that from a modeling perspective is a ratable commencement schedule throughout the year with that 40% flow-through that you guys mentioned to FFO?

Yes, I think that’s fair Jordan. The only real visibility we have as we sit here today, as we mentioned. When we look at our backlog, GAAP backlog of $5 million at the end of the year, and we expect substantially all of that to commence in the first half - the first quarter of the year. So, then everything else would commence subsequent to that.

Okay. I guess the one I was curious about the delta between the cash and the GAAP this quarter. It seems pretty significant. The cash is an extra $10 million. And then separately I thought it was a little bit striking, $35 million of commencements this quarter alone, and for the full year next year you’re modeling $30 million in commencements. I know SV7 was a huge part of that. You don’t have another one of those in the till. But I guess the question really is, is there another CSP out there potentially that you’re not baking into the number but certainly could hit this year?

Yes, I think the number, the decrease in the number, just look back at our backlog and just go back to where we started 2016. And as we migrated through the year those backlog numbers were very substantial and that’s largely due to the fact of the preleasing that occurred at SV7 and some of our other developments and as Paul alluded to earlier. As we sit here today, you just look at what we have under development. We just don’t have enormous amount of space under development right now. We’re obviously planning things as it relates to Reston and as Paul and Steve both, alluded to we would look to try and drive some anchor customer there to help kick-start the cash flow soon upon completion of that construction. So, I just think as we sit here today I can’t give you that golden, we’re looking forward but we hope to find it somewhere as we migrate through the year and we’ll see how we operate here.

Jordan I’m glad you asked that question because it’s probably worth reminding everybody. I know that it’s real important the way most of you look at companies and do your job. And we, as we see reporting we all have to report quarter-by-quarter. And in those results are important. But this business doesn’t really run on a quarter-to-quarter cycle. I mean the transaction engine does and that stays pretty consistent from quarter-to-quarter and it’s generally been on an upward trend for the last three years. But other parts of the business, the hybrid part of our business where we take on larger deployments is lumpy and also less predictable. So as you look at the business going forward, I think Jeff’s given you the best guidance we can give. And we continue to believe that there will be good opportunities that may enable us to outperform. But we can’t predict those.

That’s helpful. Thank you.

Thanks Jordan.

Ladies and gentlemen that does conclude our question-and-answer session. At this time I will now turn the floor back to Mr. Paul Szurek for closing comments.

First I’d like to thank all of you for your interest in the company and participating in this call. And we appreciate it very much. Steve and Jeff and I would like to thank our colleague for a great 2016 and congratulate them on an excellent year. We’re looking forward to the rest of 2017. We have many opportunities and a lot of work ahead of us. And again, thank you for your interest. And have a great rest of your day.

Ladies and gentlemen, this does conclude today’s teleconference. You may disconnect your lines at this time. Have a wonderful day.