Thomas Morton - President Gabe Nacht - Chief Financial Officer Matthew Heinz - VP of Investor Relations

Good day, and welcome to the Switch Inc., Third Quarter 2019 Earnings Conference Call. All participants will be in a listen-only mode. [Operator Instructions]. Please note, this event is being recorded. I would now like to turn the conference over to Matthew Heinz, VP of Investor Relations. Please go ahead.

Thank you, operator. Good afternoon, and welcome to Switch's third quarter 2019 conference call. On the call today are Thomas Morton, Switch's President and Gabe Nacht, Switch's CFO. Today's call may include forward-looking statements, including references to expectations, projections or other characterizations of future events or market conditions. Actual results may differ materially from those expressed in our forward-looking statements, which are subject to certain risks, uncertainties and assumptions. Our statements are made as of today, and we assume no obligation to update our disclosures. We describe some of these risks in our SEC filings, specifically our Form 10-K, particularly in the section entitled Risk Factors. In addition, today's call includes a discussion of non-GAAP financial measures, which should not be considered in isolation from or as a substitute for financial information prepared in accordance with GAAP. Please refer to today's press release and supplemental package for further information, including a reconciliation of non-GAAP measures. Our third quarter 2019 press release has been furnished to the SEC as part of our Form 8-K and is available on our Investor website at investors.Switch.com. I will now turn the call over Switch's President, Thomas Morton.

Thank you, Matt, and good afternoon everyone. Thank you for joining us today. Switch continued its solid business momentum in the third quarter of 2019, achieving year-over-year revenue growth of more than 14%, our highest growth rates since Q4 of 2017. Our strong revenue growth in the third quarter was driven by favorable conversion of our booked, not billed backlog, increased co-location demand from new and existing customers and improving growth trends in telecom revenue, which grew by 13% compared to the year ago quarter. Due to the stronger than forecasted third quarter revenue performance and continued strength in our sales pipeline, we are once again increasing 2019 guidance as detailed in our earnings press release and our investor presentation. Gabe will speak to the specific changes and drivers of our guidance increase later in today's call. Moreover, we have been pleased with the ongoing ecosystem development at our Citadel and Pyramid Campus locations, which now combined represent 12% of consolidated revenue as of Q3, 2019, up from 8% in the prior year quarter. For the nine months ending September 30, these two PRIMES have accounted for nearly half of our incremental revenue growth and almost two thirds of our incremental EBITDA growth compared to the same period in 2018, driven by a combination of new logo signings and strong incremental demand from our existing customers. We are pleased to inform you that we now have over 100 customers participating in our Citadel ecosystem. When speaking to investors we are occasionally asked about Switch’s ability to replicate the success of our Las Vegas Campus at our newer PRIME location. Given the sheer scale of the Core Campus, which is now in its 11th year of operation, it can be difficult to fully appreciate the progress we've achieved in our Citadel…

Thanks Thomas. Today I'm going to review our financial results for the third quarter of 2019 and discuss our outlook for the remainder of 2019. In the third quarter of 2019 we achieved quarterly revenue of $117.6 million, an increase of $14.8 million or 14.4% compared to the third quarter of 2018. This is primarily attributable to a $12.6 million increase in colocation revenue. 48% of the year-over-year revenue growth in Q3, 2019 resulted from new customers who initiated service during the past 12 months, while 52% of the revenue growth came from customers who have been with Switch longer than one year. More than 95% of our revenue in the quarter was recurring in nature consisting primarily of colocation and telecom services, which include cross connects, broadband and external point-to-point connectivity. Co-location revenue for the third quarter of 2019 was $95.1 million compared to $82.4 million reported in Q3 of 2018, an increase of 15%. Telecom revenue in Q3 of 2019 was $20.9 million, increasing 13% compared to $18.5 million in the same period in 2018. Other revenue including professional services accounted for $1.6 million in Q3, 2019 compared to $1.8 million for the same period in 2018. Switch has become a strategic partner to over 950 customers and we added 19 new logo's in Q3 of 2019. As of September 30, 2019 Switch had over 15,000 billing cabinet equivalent, generating over $2,300 per cabinet equivalent in monthly recurring revenue. We had more than 6,000 billing cross connects as of September 30, and cross connects accounted for approximately 3.7% of total revenue in Q3 of 2019 compared to 3.6% in the year ago period. Now turning to bookings. During Q3 we executed 622 contracts comprising more than 16 megawatts, with total contract value of $115 million, and annualized revenue…

In conclusion, we firmly believe that Switch is well aligned with industry dynamics and favorably positioned to accelerate enterprise migration into a hybrid cloud environment. We continue to execute on our pipeline of large, enterprise, retail colocation opportunities which remain robust. We look forward to announcing these transactions in due course. We would once again like to take this opportunity on behalf of our management team to thank our employees, customers, partners and our shareholders for their continued support of Switch. We would now like to open the line for questions.

Thank you. [Operator Instructions] And the first question will come from Ari Klein with BMO Capital Markets. Please go ahead.

Thank you. Maybe could you expand a little bit on the net new bookings performance? How broad base was it across your campuses and then maybe with all the new sales additions, should we start to see contribution from new customers step-up from here.

Sure. Thanks Ari, this is Gabe. In this last third quarter we actually signed an awful lot of renewals with our existing customers and some of our larger existing customers, and if you see the net new bookings number, it was not quite as strong as we’ve typically seen in the past. And as you know, our business is not one that runs on 90 day cycles. So whether the quarter ends on a specific date relative to a customer signing, it’s not something that we really track or managed to. It just so happens that post quarter end we've signed a number of additional customer contracts, most of which are incremental revenue. Since the third quarter ended, we've already signed over $74 million of total contract value, which represents nearly $13 million of incremental annualized revenue. So where you see the net new bookings number, that's just a factor of timing. We’re very comfortable with our sales pipeline and our sales velocity, and the direction that the campus locations are going. And in fact, you ask about the adoption across our campuses. Part of what drove the number in revenue in Q3, the growth in revenue in Q3 was an expansion faster than expected on ramps for two of our larger Las Vegas customers and faster than expanded ramps in The Citadel Campus. And post Q3 we’ve signed our first to customers in Atlanta which is exciting for us, and we'll be talking more about that in the Q4 call.

Ari, thank you, that was a great question. This is Thomas. We also wanted to give you an answer your question regarding the sales pipeline of new sales team and part of the contribution post Q3 came from that sales team, including some of the bookings in Atlanta. So they have hit the ground, they are running and they are closing business.

Great! And then just on the renewal activity in the quarter, it’s obviously quite a bit. Were most of those contracts that were scheduled to expire and then maybe can you talk to lease expirations in 2020 compared to 2019?

Some of those contracts were scheduled to expire, and were typical renewals, others were in the in the later stages of those contracts and we advanced renewed and extended, along with an expansion in several of those renewals. And as far as our pipeline for 2020, our typical contracts are about four years in length, so one can expect that a quarter of the contracts will be up for renewal in any given year.

Great, thank you for the color.

The next question comes from John Petersen with Jefferies; please go ahead. Go ahead John, perhaps your line is muted on your end.

Sorry about that. There a delay in The Keep Campus, it looks like you got pushed back by a quarter. I think you mentioned a little bit about it in your prepared remarks. So maybe, I guess is it construction delays or is it just when the customers want their leases to commence. How should we think about that?

Yeah, this is Thomas. Thank you very much John; it’s a great question. The answer is that The Keep Campus is continuing on schedule. It takes some time once the building is open for customers to move in and billing to commence. So when we talk about the timing of revenue from The Keep Campus, we factor in those realities, but the campus itself is progressing very well and we look forward to an on-time opening and letting customers begin their move in, and their extension of their facilities over to our campus.

Okay and then just one more, the EBITDA margins look a little lower this quarter than what we've seen in recent quarters. Haven't had enough time to dive into the model here, but I mean is some of that related to some of the new sales people you brought online and the extra G&A there or are there other factors impacting the margin here in the near term.

Sure John, this is Gabe. Some of it is indeed related to SG&A, because you know we have added a new sales team this year and as they are getting their pipelines up to fruition and we're seeing the closing on some of those sales pipelines post quarter, we are carrying the full G&A expense. But if you go back historically, the third quarter is typically our lowest margin quarter and it's primarily due to power cost. While we hedge about 80% of our power load, up 20% does float and power costs do increase in the summertime, in addition to usage increasing during the summer, because we're simply having to cool hotter air. So that’s the primary factor that drives the EBITDA margin variance in Q3, but we did have some higher SG&A expense and we also made a contribution to a program that Switch has been supporting for years. There was a $0.5 million contribution that all hit in Q3 and you are seeing the effect of that.

Yeah, so we have been very good in supporting our community and making sure that we support education and children, and we plan to continue that. Occasionally those donations come up and hit in a particular quarter as this one did, but we believe it's very important that we do our part to support our communities that we exist it, so we made a contribution in that regard.

Okay, alright great, things for that background.

The next question comes from James Breen with William Blair. Please go ahead.

Thanks for taking the questions. Just one in terms – there are a couple of questions. In terms of your customer base and the growth coming from, are you seeing customers buying growing in all your facilities, like single customers growing in all the facilities. And then secondly, just on Atlanta, you know any update there in terms of how you feeling about the opening, any sort of soft signings around that would be great. Thanks.

Yeah Jim, this is Gabe. As far as our multi-campus customers, we are seeing a continued expansion across the board. We now have 117 customers that locate with us in more than one campus, and if you look across our entire revenue base, 28% of our revenue is coming from customers that come from more than one campus, that house their gear in more than one campus. So we are tremendously excited about that, and it's proving the model that we expected to prove out, that customers want to deploy in multiple locations, because they either have their primary deployment in Las Vegas, with a redundant deployment in Reno or they want to expand their Westward deployment, Eastward into our Grand Rapids Campus and we are very excited about Atlanta. You talked about soft signings. Well, we actually had hard signing and we've signed customers in it and it will deploy in the early part of next year, and we have an ongoing pipeline of discussions with additional customers for that market. So we are very bullish on it.

Yeah James, this is Thomas. Yeah, we believe that Atlanta is on scheduled to have the building ready for our customers to load in and they will start to load in on time. We’ll have revenue commencing from that facility in the first quarter and we believe that we will begin and continue to sign more customers. We have signed initial customers and we know that the facility is going to be a success. So we are signing additional customers currently and we have a strong pipeline for that facility and that market in general.

Great, thank you.

The next question comes from Erik Rasmussen with Stifel. Please go ahead.

Yeah guys, just maybe coming back to Atlantic again, sorry, but you mentioned signing some customer contracts subsequent to the quarter. Can you talk about the types of customers or maybe, would you consider one of these an anchor sort of tenant or is it maybe sort of color on the types of customers so for that you've been signing?

Well that, you know we’ve talked about signing our first two enterprise colocation customers and they are enterprise customers, and we’ll provide additional color on Atlanta in the following call.

Erik, there is as you know some restriction from our customers about what we can announce and when we can announce it, and so as soon as they authorized us to make an announcements of the particular site of their deployment, we will do so. But we wanted to make sure that you, the market was aware of the signings even though they were post quarter, so that you knew that they – we are gaining momentum and actually locking in signed contracts for customers in that area.

Great! And maybe just can you talk about that sort of the dynamics driving you know the accelerated pace, you know revenue growth that you're seeing I guess in Citadel and the Pyramid campus?

Yeah, the primary driver has been just additional faster demand from some of our larger enterprise customers. We signed a number of deals earlier in the year that had ramps built into them, with the expected time lines and we found that some of those customers, including customers like eBay, FedEx and others have been hitting those ramp numbers faster than they initially expected, and so that's been driving the acceleration of revenue growth, particularly sequential revenue growth and it's also driving our expansion of CapEx. If you notice our CapEx number is higher than expected, and all for the right reasons. We always talk about the fact that Switch builds just in time and we build based on customer demand, and we've got strong customer demand, so we've been building a lot of peace gifts [ph] and we've been adding cooling and infrastructure to our facilities to accommodate that increased customer demand.

So you often hear us talk about the fact that 60%, maybe 70% of our revenue growth comes from existing customers and in Q3, 48% of our revenue growth came from new customers and only 52% came from existing customers. So we're continuing to expand logos and expand upon the platform of growth for our campuses.

Thank you.

The next question comes from Frank Louthan with Raymond James. Please go ahead.

Great, thanks. Just sorry if I missed this earlier, but the pipeline from Atlanta, what is sort of the mix of that from existing versus new customers and are the sales coming primarily from some of the new commission sales people. And then will anything start moving in or being installed in that campus in ‘19 or would all be in ’20 when it starts the billing? Thanks.

So, I’ll answer the third part of that question, first. This is Thomas. Great three part question. The first is that people – the campus will be opened at the end of this year, beginning of next year. So they will start loading in 2020 or when the campus is ready for people to start loading into. Secondly, they are new logos that are going into that campus. We are talking with existing customers, but the new customers are new logos. And thirdly, they are generated in part by existing sales teams and in part by the new sales team. So the new sales team, have closed people that are going into Atlanta as new logos.

Okay, great. Thank you very much.

The next question comes from Richard Choe with JP Morgan. Please go ahead.

Great! I just wanted to follow-up a little bit. I guess you had mentioned in your prepared remarks that the backlog is going to add $1.5 million in revenue sequentially. But as we saw in the third quarter, there is a faster move in that you’ve mention. What kind of level of variability in terms of upside could we see by people moving in faster? Maybe you could tell us what the third quarter expectation was versus the actual sequential growth, and then I have a quick follow-up on Atlanta.

Well, I think our third quarter expectations were in-line with our previous guidance, and we've exceeded that quite nicely and so we're upping our guidance, somewhere in the $10 million range, because we expect that growth to continue sequentially. So does that answer your question Richard?

Yeah. No, that's good. And then in terms of Atlanta, is there much more CapEx left and how should we think about as you mentioned the just in time with people moving in. How should we think about CapEx kind of going forward and is there going to be any ramp in OpEx? Also is that kind of – will that be baked in in the fourth quarter or will that ramp in to the first quarter?

Richard, there is always going to be CapEx expenditures in our Prime and that's a good thing, because if we are spending CapEx, it means that we're increasing the amount of infrastructure that's available for our customers and if we are increasing the amount of infrastructure for our customers, it’s because those customers are growing, so that's a good thing. As to CapEx when – in particular for this campus, when you first start doing a Prime, there is a front loaded amount of CapEx. That front loaded CapEx is to set the facility to bring in the initial water or the initial power or the initial telecom fiber, etcetera, and once that initial infrastructures is put in place, the supplemental infrastructure that's required to accommodate customer growth is incrementally smaller and we've seen some tail-down on Atlanta and we will see some tail down in 2020, and I'll turn to Gabe for specific numbers on that.

Yeah, as you can look at our guidance number, we've raised the midpoint CapEx guidance by about $20 million and that really is not related to Atlanta. Atlanta continues on pace and there will be CapEx in Atlanta in the fourth quarter, but that was expected. The increase in CapEx and the guidance is primarily related to faster expansion of the Citadel and the Core Campus, and that's really what's driving that number. As we move into 2020, of course we haven't provided any guidance for 2020 yet, but as we put our campus into service, a lot of the expenses that are capitalized during the construction phase do ship to operating expenses and we'll talk more about that as we present 2020 guidance.

Great! Thank you.

[Operator Instructions]. The next question will come from Michael Rollins with Citi Investment Research. Please go ahead.

Hi, thanks and good evening. A couple of questions; first, one of the selling points that you talked about before with your customers is the opportunity to be close to some of the clouds and enable that hybrid connectivity. Can you share some examples of maybe what you're seeing from the customer base as cloud adoption is continuing in the marketplace, and how you see this hybrid cloud architecture evolving within your data centers? And then the second question is whether or not you're evaluating new markets to expand into; whether it's in the U.S. or internationally and how you're thinking about going from the current four markets around the country and possibly looking to go maybe where there is customer demand from customers that you're currently serving. Thanks.

Mike, thank you, and good to hear your voice. As to being close to the clouds as you may recall, Google is right next to us in Atlanta. Google has also located a facility up in Reno, Nevada and then they are building a facility near us in Las Vegas, Nevada. So we have proximity with those and we've announced some relationships with Google with respect to fiber interconnects on those campuses, so we have a good connection there. We also have Amazon on ramp deployment in each of our campuses and then as Amazon starts to launch Amazon Outpost, we expect to see those deployments on our campuses as well. So we have good affiliations with the various clouds, and we expect that to continue. As to new markets, we are really focused on building our digital cities and the gravitas of those digital cities bringing in an increasing number of customers, an increasing number of cloud providers, and an increasing number of telecommunications providers as they all work and collaborate with each other in those digital ecosystems. So we think that those are becoming self-proliferating and we're really focused on building out those four PRIMES and making them successful.

And a couple of things to add to that. If you recall last quarter, we did talk about signing a major cloud customer, we didn't announce the name here in our Las Vegas campus, and the interesting thing about that signing is it’s the first time that one of the major cloud providers is putting an entire availability zone, which means they are a tri-redundant availability zone with one provider in one location. The reason that they were able to do that is because they are locating in three different sectors within our campus, and they view each one of our sectors as a Tier 5 platinum standalone data center. And so they believe if the redundancy and the resiliency is sufficient for them to locate an entire availability zone in one location. Now that’s tremendously exciting and is really a very different model for any of the clouds. With regard to international, Mike you know we do have an international joint venture that does have a facility up and running in Milan, Italy and Amazon has taken half of that facility and we also have a facility in Thailand. At this point we're not looking to expand internationally. We're focused on the four PRIMES. The one differentiator between Switch and some of the other peers in our industry is that if you look at the land that we have at each of our Prime Campus locations, we have enough runway to last five to 10 years on these four PRIME Campuses without needing to acquire any more additional land. So we are not constrained in any way, shape or form and believe that campus ecosystem model is a key differentiator for switch and is the strategy that we want to pursue.

Thanks.

Thank you.

Ladies and gentlemen, this concludes our question-and-answer session and thus concludes today's call. We thank you for attending Switch, Inc. third quarter 2019 earnings conference call. At this time you may now disconnect your lines. Take care.