CyrusOne Inc.
Q1 2019 Earnings Call Transcript

Published: 2 May 2019

[Operator:]

Good morning and welcome to the CyrusOne First Quarter Earnings Call. All participants will be in a listen-only mode. After today's presentation, there will be an opportunity to ask question. Please also note today's event is being recorded. I'd like to turn the conference call over to Mr. Michael Schafer. Sir, please go ahead.

[Michael Schafer:]

Thank you, Nancy. Good morning, everyone, and welcome to CyrusOne's first quarter 2019 earnings call. Today, I'm joined by Gary Wojtaszek, President and CEO; and Diane Morefield, CFO. Before we begin, I would like to remind you that our fourth quarter earnings release along with the first quarter financial tables are available on the Investor Relations section of our website at cyrusone.com. I would also like to remind you that comments made on today's call and some of the responses to your questions deal with forward-looking statements related to CyrusOne and are subject to risks and uncertainties. Factors that may cause our actual results to differ from expectations are detailed in the Company's filings with the SEC, which you may access on the SEC's website or on cyrusone.com. We undertake no obligation to revise these statements following the date of this conference call except as required by law. In addition, some of the Company's remarks this morning contain non-GAAP financial measures. You can find reconciliations of those measures to the most comparable GAAP measures in the earnings release, which is posted on the Investors section of the Company's website. I would now like to turn the call over to our President and CEO, Gary Wojtaszek.

[Gary Wojtaszek:]

Thanks, Schafer, and welcome to CyrusOne's first quarter earnings call. We put up another great quarter with strong operational and financial performance and have undertaken a number of initiatives over the past 18 months to position the Company for long-term per share growth in 2020 and beyond as company ramps into the capital investments we've made. Slide 4 summarizes the highlights for the quarter. We signed leases totaling $27 million of annualized GAAP revenue including $8 million across our European locations. And as of the end of the quarter, we had revenue backlog of almost $40 million. We delivered close to 40 megawatts of capacity in the quarter and more than 80 megawatts under construction across the U.S. and Europe to support the leases we have signed and deals in the late stage sales funnels. We continue to maintain a very strong balance sheet and as a result of recent actions, we have taken our increasing our normalized FFO per share guidance by $0.20, which is a 6% increase on the previous guidance we shared. Additionally, based on our current outlook, we have eliminated the need for any additional equity financing. Moving to Slide 5, the $27 million in annualized revenue signed during the first quarter was at an average price of $146 per kw, up 18% compared to the prior fourth quarter average. The scale of our leasing relative to the size of our business remains significant and we continue to take outsized market share as we generate higher bookings relative to the size of our company which is a phenomenon that we have seen for the past several years.

[Diane Morefield:]

Thanks, Gary, good morning, everyone. As Gary mentioned, we had another great quarter and the steps we have taken in the early part of this year, set us up well for the rest of 2019. Turning to Slide 11, we continue to post strong financial results, with revenue and adjusted EBITDA, growing 14% and 13% respectively. Know that last year's first quarter results have been adjusted to reflect our metrics as if we had adopted the new lease accounting standards as of January 1, 2018 in order to present a more relevant year-over-year comparisons. Also, we receive 5 million in lease termination fees in the first quarter of last year further adjusting to exclude the one-time impact of those lease term fees implies first quarter year-over-year revenue growth of 17% and adjusted EBITDA growth of 19%. Churn was slightly elevated in the first quarter compared to our prior four quarter average, consistent with what we had anticipated and had noted on our last quarter's call. In particularly, there were footprint reductions associated with an energy customer and the telecom concern that no longer needed the space given their current business requirements, resulting in a significant contribution to determine for the quarter. These events were anticipated in our original guidance and we continue to expect full year churn to be in the range of 5% to 7%. The churn will be weighted more to the first half of the year and as you recall, this range is blow our historical annual guidance range of 6% to 8%. Moving to Slides 12, NOI grew 13% on an adjusted basis in line with revenue growth, and again excluding the lease term fees I mentioned earlier, would have grown 18% year over year. The adjusted EBITDA margin was down slightly compared to the first quarter of 2018, driven by higher pass-through meter power reimbursements as a percentage of revenue, which results in zero margin contributions and also release term fees as I discussed. Normalized FFO growth was in line with adjusted EBITDA growth, wine flow normalized FFO per share was down slightly, as a result of the equity issues to fund our growth and manage on average. As the chart at the bottom of the slide shows, the net impact of the adjustments to normalize FFO was slightly negative in the quarter when calculating AFFO. As the reminder, the positive net impact of the adjustments in the prior two quarters was primarily driven by cash received from large installations associated with a few customer deployments and those quarters. Turning the Slide 13, we continue to have a very balanced revenue distribute distribution across our markets, which include all of the top U.S. markets as well as the two very important European locations of London and Frankfurt. Our European expansion will further enhance the geographic diversification of the portfolio. CSF percentage was flat year over year, even with a 21% increase in capacity. During the quarter we closed on a small facility in South Bend and this closure will generate cost savings are approximately $300,000 on an annual basis. The impact of this change our portfolio is reflected in our first quarter churn. Moving to Slide 14, our own data centers constitutes vast majority of our portfolio. The percentage just shown on the slides have increased significantly over the last few years, driven by a significant level of organic development that represents our core business model. We anticipate that these percentages will continue to remain very high over time as we build more wholly on data centers. Turning to slide 15, or development pipeline reflect activity across domestic markets, many of which are power diversification projects, with no associated space under construction, as long as our continued international expansion. In total, we have 190,000 locations square feet and 82 megawatts under construction. The pipeline is 24% preleased on the CSF basis, but we anticipate that by the time this capacity is actually brought online, that percentage will be significantly higher as we are building rates support deals in early stage sales. As you can see on the Slide 16, we continue to maintain a very strong balance sheet and credit profile. Growth asset value now exceeds $7 billion. Our weighted average remaining debt was more than five years with no debt maturities until 2023, and we remain fully unsecured, with available recording of nearly $1.6 billion. Pro forma net that's rejected even five times at the end of the quarter, including the proceeds from the ACM and GDS sale and after adjusting to exclude the impacts of the adoption of the new lease accounting standards, which is consistent with our presentation of this metric and prior period, and equity represents nearly 70% of our capital structure Our weighted average interest rate on our debt is just over 4%. And we have strategically how hedge or euro exposure by synthetically converting $270 million outstanding on a revolving credit facility into more attractively priced euro denominated debt, resulting in a nearly 300 basis point decrease in the interest rate. We will likely term out our euro denominated revolver barring in the fixed rate market bond later this year to manage our liquidity in accordance with their policy of maintaining significant capacity on our lines and increasing our fixed to floating interest rate ratio. We raised approximately 250 million for the ATM program in the quarter to manage our leverage at quarter end, as net debt to adjusted EBITDA would have been over six times had we not issued equity. As Gary discussed, we're also able to opportunistically monetize a portion of our GDS investment in April, and as a result of these actions, we have eliminated the need for additional equity for the rest of the year based on our current outlook. Subsequent to the end of the quarter, we paid down 200 million of the 1 billion term loan, maturing in March 2023. In addition to reducing interest expense, this creates a more balanced fixed floating rate mix and reduces our concentration of debt maturing in 2023. Turning to Slide 17, we had a revenue backlog of nearly 40 million as of the end of the quarter with approximately 60% expected to commence by the end of the second quarter. combined with the full year impact of leases that commenced in the latter part of 2018 to significantly de-risk our growth this year. Moving to Slide 18, we are reaffirming revenue and adjusted EBITDA guidance for the year. The guidance midpoint reflects year-over-year increases of 19 and 18% respectively with the adjusted EBITDA growth rate based on the pro forma 2018 results adjusted for the new lease accounting standard. These growth rates are among the highest across all REITs. As Gary mentioned, we're increasing the guidance range for normalized FFO per share by $0.20 at the midpoint adjusting it to 3.30 to 3.40 per share up from 3.10 to 3.20 previously. The new midpoint represents a 4% increase over pro forma 2018 normalized FFO per share adjusted for the lease accounting standard. The increase in guidance is driven by several factors. we had not contemplated the GDS share sale or the execution of the euro swap in our initial guidance. And the combination of these items accounts for nearly $0.15 of the increase. The balance of the increase is driven by lower interest expense as a result of a lower interest rate outlook compared to our original assumption as well as the timing and level of capital spent. We have decreased and tightened the guidance range for capital expenditures as we anticipate that a portion of the spent we had originally assumed would occur this year will now likely occur in 2020. In closing, our business continues to perform well. Our European expansion efforts are producing very good early results. The underlying fundamentals for data center demand remain strong. And we are well-positioned with capacity across all our two market. In addition, we have fully covered our equity requirement for the year and have ample liquidity to fund our development pipeline. Following up on Gary's comments, as we begin to think about 2020, we can fund approximately 750 million in capital next year with no additional equity issuance. This will result in strong growth next year funded through our free cash flow and debt while maintaining our targeted leverage range. We thank you for participating on the call and we are now happy to open the call to questions. Operator, please open the line.

[Operator:]

Thank you. We will now begin the question-and-answer session. The first question comes from Frank Louthan from Raymond James. Please go ahead.

[Frank Louthan:]

Talk to us a little bit about the level of network investment that your customers are making into your facilities? What's that trend been over the last 6 months or so? Have you seen that growing? How should we think about that?

[Gary Wojtaszek:]

There's been no noticeable change in terms of the level of network deployments. I mean, typically, you don't really think of us as kind of an interconnection focused company, but we continue to put up really strong results in that area. I think that's really more, as a result of the size and scale of our facilities than thinking of us more as like an interconnection play. But we grew this quarter that line of business at 16% and its $45 million business and now that's growing really well. But I wouldn't say that there's any noticeable change in terms of the amount of networking deployment in there. That said, I mean Megaport continues to do really well and continues to outperform selling lots of customers additional capacity and they basically open up opportunities for us that we may not otherwise have without them.

[Frank Louthan:]

So on that what sort of driving that that uptake this quarter. I mentioned what are some of the solutions customers are trying to drive with the cross connects are buying from you?

[Gary Wojtaszek:]

I mean, it's just related to the size of the business overall. I mean, what you see is continued growth in customer acquisition, and as you get more customers, they just naturally draw more interconnection. Our average number of cross connects for customers about 20 now, which is up 6 or 7 times full from like when we first started reporting this and 13 or 14. They're connecting to other networking providers in there and starting to connect more and more to customers in particular through Megaport.

[Operator:]

The next question comes from Robert Gutman from Guggenheim Securities. Please go ahead.

[Robert Gutman:]

Can you break out the split of the 27 million leasing between the hyperscale and colocation in the quarter? And secondly, can you talk a little bit about the CapEx reduction and reconcile back to the development table?

[Gary Wojtaszek:]

Sure, I'll hit the -- so, the mix was 60%, hyperscale 40%, enterprise and that 60% is consistent with the average bookings over the last 3 years. So, it has not really changed too much. With regard to the overall reduction in capital, we cut that back around 7% at the midpoint, that's basically just projects that we think are going to get pushed out later in the year until 2020.

[Diane Morefield:]

Yes, if you look at Page 23 of the supplemental in the first part, first of all, we always talk about CapEx in terms of cash spend because we're focused on what we actually asked to fund in the calendar year. And on the spent to date on the development pipeline, it's about 117 million. And in total, the finish it out is about 600 million to 700 million. What we've actually spent in total in the first quarter was about 300 million. So, when you add all that together, that's where you get to the high-end of about 1 billion.

[Operator:]

The next question comes from Simon Flannery from Morgan Stanley. Please go ahead.

[Simon Flannery:]

Gary, I think you said the funnel was up 85% year over year. Just give us a little bit more clarity on, what -- what you're seeing in the marketplace? How the competitive environment is? And what's the timeline for bringing that to actual leasing? Is it as kind of a near term or more of a 6 or 12 month type funnel?

[Gary Wojtaszek:]

Sure. So, we've seen a continued progression in the size of our funnel over the last several, several quarters. So, we're up at 85% this quarter versus last year of the same quarter, but 20% of that increase is purely attributable to the additional funnel that we're building in, in Europe. We give out these the funnel commentary just for general directional purposes. I mean, that's a really strong funnel increase and we've seen continued increase in that funnel over the last couple of years. The only we actually saw decline in the funnel was, after the second quarter blowout leasing last year into the third, it came down and then we started rebuilding it again. So, the funnel is as strong as it's ever been. It's up about 10% sequentially as well, and, filled with a bunch of new customers in Europe. I think that's really a good indication of the broad secular underlying demands in the industry. I talked a little bit in my commentary about Amazon's business being up 40%., Microsoft's Azure platform over 70%, Google up 17% across the Company, overall, just really good, strong indication that, you know, that these -- those businesses, which are about 40% of our business right now continue to put up really big numbers. And we expect that the secular trends that we've been seeing for a decade are going to continue to go forward. And so, we're involved in a number of different deals. But as I mentioned on last quarter's call, we were seeing reluctance for companies to close. So if you look at, at the bookings that we have this quarter, we feel really good about that. That's down from where we were, over the last four quarter average, but we had guided to that. This year, we saw a noticeable pullback last year. And so, we revised our outlook this year to be I think, fairly conservative from a bookings perspective. That said, any of these deals that we're tracking could turn and you can get these windfall profits. We try to position ourselves from a capital perspective to basically have adequate inventory and all the key markets that we're in, in particular, Europe as we're building out that platform. So, we're positioning ourselves to win. We think that the broad secular demand backdrop is there, and that when customers do start buying again, aggressively, we're going to continue to take our outside share of the market. That said when I also provide a color on the call is that, we've spent Basically 18 months now building out an international platform, essentially, organically. That is a really difficult thing to do. It's difficult just operationally to execute that. But also, I think as a lot of folks have recognized, from a financial perspective, the burden that you put on your FFO per share is also challenging, but we did that because we feel really confident about the drivers. We also recognized now that we have all these upfront investments that we made, that we expect are going to continue to drive really nice yield progression increases, similar to the chart I just shared on our Phoenix development. So, we think at the current rate, we could spend about $700 million $750million of capital, building out all of the existing platform, and that's going to provide really nice for sure growth as we increase our utilization of those facilities.

[Robert Gutman:]

Great. And anything on the competitive environment, pricing on new deals, on releasing?

[Gary Wojtaszek:]

Yes, it's more of the same. Our churn this period was up 2% that was within our guidance range. We took down our guidance churn estimate this year from 5% to 7% and that was included and that's also related to partially the revenue shortfall versus consensus estimates just because that churn was more front end loaded, but it's more of the same. I mean, you know some of the deals are pricing up, some are pricing out for anything that is associated with any pricing reduction or any customers leaving in aggregate that is all reflected in our churn metric that we report. I think we're probably reporting the most conservative churn metric in the industry because it relates to anything that reduces revenue in place existing revenue whether its price compression, volume reduction or absolute customer leaving entirely. Those are still I think on par with what everyone else is experiencing in the industry.

[Operator:]

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

[Richard Choe:]

I wanted to ask the European timings were strong and you've talked in the past about the 20 million kind of being the bogey. With your -- is there a new bogey? And then knowing that, it could be somewhat volatile, but also wanting to get a sense on how you feel Europe is ramping. Or are we at a good run rate? Or is there more to kind of be developed?

[Gary Wojtaszek:]

Europe is coming together really nice, I think what you saw this quarter is recognition of the efforts that we have been making there. So in spite of really strong bookings there $8 million, our aggregate funnel increased 85% year-over-year and 20% of that was related to Europe. So even in spite of having the biggest bookings quarter in Europe in this quarter, we still managed to increase the size of that funnel quite substantially. So, we have a lot of interest from a number of companies, mostly hyperscalers, but also enterprises. Tesh has done a really nice job hiring a bunch of key individuals, building out the sales team in Europe, and we expect that's going to continue to do well.

[Richard Choe:]

And then just quick follow up. The backlog has started to commence and excluding the churn, I think we can see some nice growth going forward. But in terms of the funding and debt levels and equity raises, it seems like you had a good organic run rate. Does it make sense to think that the funding is kind of going to be there now versus kind of calling it a little short before?

[Gary Wojtaszek:]

Well, absolutely. We are -- our equity needs are done and what we're also, we're trying to communicate is that we have strategically made a decision to build out an international platform over the last 18 months. We are there now, right. So, we have expanded into, initially in Asia with GDS, we did our acquisition of Zenium last year who have a number of investments undergoing in organic developments in Europe. In the fourth quarter last year, we partnered up with ODATA and helping to launch the Latin American franchise. When we made all these investments, you are investing a significant amount of upfront capital to build out that platform and you know that requires a lot of capital that you're not being paid for as you lease these out. And the point in showing that Phoenix development table us to show that, all of these investments that we're doing, we're currently have 5 on your way, are all dilutive in the short-term. But as we continue to grow those campuses and facilities, the yield progression increases really nicely. We are showing in Phoenix we're making 15% development yields on a $500 million investment. The reason for that is to basically share what we're seeing in our business. And so if you use that as a proxy for all the investments that we've been making, we're building out the platform internationally. You should see really nice yield progression on all those facilities which would translate into really nice FFO per share progression. And also I was trying to lose in this is that since we made so much significant capital investment, building out all of these new locations, you should expect that our capital investment needs go forward or not going to be nearly as high as they have been over the last 2 years. And given the sale scale of the Company will be about a $1 billion run rate Company. That generate substantial amount of internal cash flow generation, which would basically enable us to self fund all of our capital needs over the foreseeable future and not require any additional equity. So at that $750 million of capital investment, annually, we would not need any additional equity financing at all. That will translate into nice increases and/or FFO per share as we grow into all the investments that we've made over the last 18 months.

[Operator:]

The next question comes from Colby Synesael from Cowen & Company. Please go ahead.

[Colby Synesael:]

Just want to stick with the financial requirements. So, are you implying that you expect CapEx to be around 750 million next year?

[Gary Wojtaszek:]

Yes.

[Colby Synesael:]

Yes, okay.

[Gary Wojtaszek:]

And I think on that Colby, I mean to be more pointed is. That is a really nice level of organic capital investment. From a REIT perspective, that's probably one of the highest organic capital investments and what I'm saying is that at the scale of the Company now. That's all self funded.

[Colby Synesael:]

Okay, so, 750, next year. And then just, I guess, the just as precise with the ATM, are you saying that you are not intending to use the ATM for the remainder 2019?

[Gary Wojtaszek:]

We're done.

[Colby Synesael:]

Okay. And then…

[Diane Morefield:]

Based on our plan, no more equity.

[Colby Synesael:]

I just want to hear it in print. And then, lastly, as it relates to ODATA. And then, as it relates to ODATA, you've mentioned, your ownership stake I think had increased. I think that my understanding was, if you -- as you give referrals to ODATA and those ultimately translating into leases. You're paid effectively through increasing your ownership stake. Am I correct, that's how it works? And I guess, can you give us an update on where that stands today based on the success that they've had?

[Gary Wojtaszek:]

Yes, we're still at the same level. They're continuing to do really well. We're helping them build their funnel up and we expect that from our ownership to go up a little bit, but that's not going to be material to our investment requirements at all.

[Operator:]

Our next question comes from Jon Atkin from RBC. Please go ahead.

[Jon Atkin:]

A couple of questions, the Phoenix slide kind of prompted me to ask about good year and just other markets in that general vicinity. A lot of interest on both the self-built side among and as well as among third party developers and how do you see that impacting your current operations? Does it validate the market? Do you see it as maybe you're representing potential competition for the threat? And then turning to Europe, just interested Frankfurt and London, which do you see is the more competitive markets for scale deals? And in which markets from a supply perspective, which is the more competitive market? And then which markets are you seeing are expecting to see more demand for data center capacity? Thank you.

[Gary Wojtaszek:]

Sure. Yes, so look, I mean, we basically kind of created an oasis in the desert there. So, we went in 2012 and launched our, our operation in Phoenix and everyone at the time was saying. What are you doing? That's so crazy, blah, blah, blah, same thing and the feedback referred when we went to Virginia, and everywhere else, frankly. What you see now as we got $0.5 billion and they're generating 15% return and that is one of the largest datacenter markets in the country. I think the reflection that you see, a bunch of our competitors and also customers looking at buying capacity and land there. It's just a reflection of, of all the great work that we've done to highlight just how great Arizona is from a data center perspective. We've got really great tax rates. It's a low risk environment from an environmental perspective. Power rates are really low. That said, I would say, look, it's easy to buy land, right. I mean, land out there isn't particularly expensive. And it's one thing when you buy land to, to make that type of level of investment, versus the capital required to go build out and put the real dollars in the ground building out you're fitted out facility. So, so I think in general, I think if that market develops and more customers moving, hopefully that becomes the Northern Virginia of the West Coast. And more and more companies will be there. And hopefully all of us will do well together. With regard to the European markets, both Frankfurt and London are both really, really hot markets. I actually to be honest, it was Amsterdam and Dublin. But of the two, Frankfurt right now is the biggest and most hottest market with the least amount of capacity available for folks.

[Jon Atkin:]

And then lastly, just on potential future M&A, the flavor for the types of opportunities that you would consider whether it's tuck-in, new markets, domestic, international, any kind of broad thoughts is to kind of how you think about that?

[Gary Wojtaszek:]

Yes, I think what you're seeing over the last 18 months was really kind of recognition from us that you know, M&A was not easily to do, right. There were many platforms out there, we thought that going organic, and the like the way we have made the most sense for us. Clearly a challenge because it takes a while before you can get, a presence in these markets and clearly there's a lot of headwinds financially, trying to bring your investors along in this, but we're there, right. And so, we have a really nice platform right now in Europe, and we've made a lot of startup investments. And we expect our fair share results are going to reflect that over time as we as we go into them. So from an M&A perspective, we're not really focused on doing any other M&A, we're just focused on, selling out the capacity that we currently put in the ground.

[Operator:]

Our next question comes from Nick Del Deo from MoffettNathanson. Please go ahead.

[Nick Del Deo:]

First to drill down a bit more on the CapEx deferral, was that really that the data center construction or land acquisitions? And was it in the U.S. or Europe that are like more or Phase 1 builds or subsequent fit out? Any other color you can give?

[Diane Morefield:]

It’s really just more timing. We have found in Europe that the build out timeline is a little lengthier than the U.S., so a lot of it's just the timing of when the dollars will go out. And we have, there're other than the land that we have announced that we already purchased which is San Antonio and Santa Clara, we don't really have any other land targeted at that point and as you recall last year, we acquired like 200 million of land. So last year was a huge land year to start building out inventory across Europe and some of the other U.S. markets, particularly Santa Clara and Northern Virginia, so a significant reduction in land acquisition is also part of the reduction in CapEx.

[Nick Del Deo:]

Okay, got it and then on the interconnection front what do view as a reasonable upper bound for the number of cross connects per customer or the number of cross connects per customer per location. And what does the split look like between cross connects going to traditional networks, versus providers, versus SDN providers? You've talked about SDN providers going really quickly, but I'm interested in the absolute numbers.

[Gary Wojtaszek:]

Yes, so you know, I don't know I mean I would never expect us to get up to the same level of penetration or cross connects per customer as your traditional interconnection plays like an Equinix, but I think what we've seen is the number of cross connects per customer increase significantly up fivefold from when we were first reporting on this a couple of years ago. So you know, I -- there, we've not seen any recognition for it to slow down. I think just as more and more of your, the digital economy goes digital, right, and more and more information gets generated on the Internet, shared on the Internet. It just creates more demand on customers to buy more cross connects. With regard to the vast majority of our business, it is traditional you know networking providers. My points on the SDN providers, we've seen significant growth up a couple of 100% each quarter, year-over-year but that's still relatively small in terms of our overall market, I don’t know specifically on that I would guess it’s probably no more than 10% overall in our cross connects but it's growing really nicely and we don't see any signs of that slowing down.

[Nick Del Deo:]

Maybe a different way to ask, what's the typical number of networks you have per data center today, at least not per enterprise or any of the data center.

[Gary Wojtaszek:]

You know it ranges probably at the low end from about some of the smaller facilities for maybe four carriers to the higher end some of our other more connected facilities probably are pushing up to 50 or 60.

[Operator:]

The next question comes from Aryeh Klein from BMO Capital Markets. Please go ahead.

[Aryeh Klein:]

So, as relates to the plan for 750 million in CapEx spending in 2020, was that something you're always expecting to do or is that, there's something recently changed in the market that prompted you to lower the spending plan?

[Gary Wojtaszek:]

No, we've never given guidance beyond a year, right. And what we have all -- what we've always been saying over the last 18 months is, is two things. One is, well, actually even further beyond that. I have always from inception of when we went public, we have always talked about that this is a global industry. And that ultimately if you want to be a relevant helpful supplier to your customers, you have to have a global presence. So, we always believe that from a strategic perspective that this is a global industry. Two years ago, right about now, I had talked about that we are going to make an effort to go build out that international platform. We have spent the time over there looking at different M&A alternatives to hopefully accelerate that, but none of those things were coming to fruition. Some of the prices that folks want, it was much too big, and yet here we are in a position where we think strategically, it's really important. We have customer conversations that validate the need for us to go internationally, and then we just beat the bullet and decided to go build out, build out that platform organically. We recognized that there was a lot of upfront capital to go build out that cap, that platform. We will also recognize that from a real estate perspective, going organic, like we did is not the traditional way and you're penalized for that. And we also recognize that from a real estate perspective, going international is also unheard of. There's only roughly about a half a dozen REITs that are -- that generate a $1 billion in revenue and are also international. So, we're really verified the air there, but we do believe that the secular drivers are really intact and we're pursuing that. The scale back in terms of our CapEx performance kind is really just reflective of all the lessons we've made. And what we think we can -- we can deliver and keep customers happy and still maintain really nice rates of growth particularly on our FFO per sure.

[Aryeh Klein:]

And then just, in the presentation you mentioned that a large percentage of deals contain escalators. What about the deals that don't have them? What kind of determines that? And what types of deals are those? And can you do anything to add escalators to this?

[Gary Wojtaszek:]

Yes, yes, these are really short-term deals. I mean, if you looked at the number of deals we did this quarter, like over 80% had escalators in it with an average uptick of a 2.8%. The other ones that don't are really short-term deals that were added onto existing contracts. So they're really short in nature. Like some of the cross connects they don't have escalators on them at all, but we price up cross connects every year.

[Operator:]

Our next question comes from Eric Luebchow from Wells Fargo. Please go ahead.

[Eric Luebchow:]

Gary, you talked about last year that you thought the really high leasing you saw in Northern Virginia probably wasn't sustainable. And it seems like industry-wide volumes are down in that market year-over-year, at least in the first quarter. So curious on what type of hyperscale interest you're seeing in other U.S. markets? And what are some of that demand that was in Northern Virginia last year could shift it to other markets? And then on the development Santa Clara, I didn't see it in your development table. Just curious, how that's progressing? When you expect to open it? And when you could expect to see some pre-leasing in that market?

[Gary Wojtaszek:]

Sure. Look, as I mentioned, our funnel is up 85% year-over-year and 65, if you exclude Europe. So that funnel is broad based, it's a lot of it is in Virginia, but it's also in the other key markets around the country as well. So, I wouldn't read anything more through in terms of the strength of the, of the Northern Virginia market other than kind of just typical buying patterns of these big cloud companies that they go up and down. I think, if you were, if you were seeing sustained decreases slow down and the aggregate rates of growth for these big cloud companies that would be probably more challenging and more concerning for us. And we don't see that we see them just kind of natural gyrations. We expect that's going to pop around. We are seeing demand from, big customers across pretty much all of our markets, East Coast, Central and West as well as in Europe now as well as we spend that platform. What was your other question?

[Diane Morefield:]

Santa Clara. So, Santa Clara is still in finalizing design and permitting stage, but not on the development table, yet, that will come on later in the year with the first capacity be in a 20, late 2020 delivery.

[Gary Wojtaszek:]

Yes, we're scraping ground there now. So, we're -- we knocked down the original building and kind of just getting the land ready for construction.

[Operator:]

Our next question comes from Michael Funk from Bank of America. Please go ahead.

[Michael Funk:]

Hey guys, thank you for taking the questions. A couple quick ones I please could. Back to the Europe commentary, obviously, the moving over there trying to preposition to win some of the hyper scale business. Maybe just your thoughts and commentary on, how you are positioned to win some of the Microsoft business, Microsoft commenting that they, I mean, please you put substantial capacity overseas and you know how you think that your lineup for that?

[Gary Wojtaszek:]

I think, we're lined up really well, not just for Microsoft, but for all of the customers. I mean, we have built a really nice franchise with strong customer relationships across all the various cloud players. But, we're not just a cloud company, I mean, this quarter 40% of our bookings were in the enterprise space that's consistent with our three year trends. And I think that really just highlights the strength of our franchise that we can drive really strong enterprise sales as well as cloud sales. But I think, we're positioned really well with all the companies that are all putting up big numbers, and I expect continued growth. I think Amy was probably more, open about, you know, the investments that she was planning to do to kind of reaccelerate the growth in Microsoft's cloud, but I don't think that's any different than what everyone else is looking at as well. The reality it is only 15% of enterprise business is outsourced today to the cloud. So, the big fat part of the adoption curve is still in front of us. So, I'd expect that everyone's going to put up, consistently put up really nice growth rates for the next couple years.

[Michael Funk:]

And the one clarification, if I could. I didn't hear you mentioned it earlier, but the $750 million in CapEx development spending in 2020. What was the implied cost per megawatt that you had that you baked into that?

[Gary Wojtaszek:]

It's going to be low. It depends on where the demand materializes. But after your first part of your build out is done, your incremental megawatt cost is roughly $5 million or so.

[Michael Funk:]

Are you still seeing an upward pressure on build cost as well? Or is that pretty consistent with the trend during 2018?

[Gary Wojtaszek:]

Yes, that hasn't really changed much at all, actually labor -- one of the tightest markets in the U.S. was in Virginia with labor and that's kind of a while back now.

[Operator:]

The next question comes from Matthew Niknam from Deutsche Bank. Please go ahead.

[Matthew Niknam:]

Just two, if I could. One, on the backlog and how that sort of rolls into 2Q, I think it's about 24 million on Slide 17. If you could just help us think about whether it's frontend loaded or backend loaded to get a better sense of the cadence and how that rolled through? And then secondly on leverage, as we think about the 750 in CapEx next year, we think about the ability to self fund. Any updates you can provide in terms of leverage and comfort zone where you'd like to be there?

[Diane Morefield:]

Okay, the first one the 24 million backlog that we say comes online in the second quarter, I mean we just always guide to assume midyear, sorry mid quarter, you know it's hard to say exactly when it's all coming in so mid quarter's just a pretty safe way to model it. Regarding, I think your question was on leverage, clearly with all the activity we did in the first quarter we brought down leverage really basically to low 5s. And if you adjust it for that our EBITDA one up -- I am sorry, EBITDA one down because the new lease standard that would really be like straight 5 times. So, we've already built the cushion to build leverage over the balance of the year. And when we say you know the 750 going in to say 2020 that is, that's because of EBITDA growth quarter over quarter and as time goes on and then still solving in that mid 5 times leverage range.

[Gary Wojtaszek:]

So basically what we're saying is at that level of capital investment we're going to be able to sustain a really nice growthy business, never need any additional equity to fund it and also be within the credit ratings guidelines to become investment grade.

[Operator:]

The next question comes from Sami Badri from Credit Suisse. Please go ahead.

[Sami Badri:]

My question is more to do with LATAM and specifically your relationship with ODATA, and just maybe, does ODATA give you some insight on the type of returns on invested capital yield that you're generating or they're generating specifically in LATAM? And is that more comparable to the North America markets or the European markets? Just so we can begin to understand that region as it begins to develop, as you everyone is now entering. So any color on that would be very great?

[Gary Wojtaszek:]

Sure, we do, we do have insight in that. They generate really nice yields probably stronger than the U.S. market.

[Sami Badri:]

Got it. Okay. And then, is there going to be any kind of hiring required by CyrusOne side, when it comes to scaling up or developing that business? Or, is it just solely relying on ODATA in the partnership and no real additional OpEx coming on?

[Gary Wojtaszek:]

Sure. Yes. It's just ODATA and they're basically, they are the big financial partner in that is Patria, which is a really well established private equity firm out of Brazil. So, our whole focus in terms of how do -- if your goal is ultimately to build out of an international platform and you have limited amount of capital, how do you do so in the most capital-efficient way. And that was the original foray that we did with William and then -- and GDS gave us access to China. That's gone really well. We have a really strong relationship with them. We tried replicating the same thing in Latin America with Ricardo and the team there. And this is a way for us to kind of develop our franchise in those areas, develop real relationships with partners over there, where we can help leverage our customer relationships. And then in Europe, where we felt very comfortable putting in direct capital investment, building out that platform on our own, felt like the right thing to do. So, I think we're pretty much -- we're pretty much, where we wanted to be, when we started this, -- at least when I started talking about, actually on this call two years ago.

[Sami Badri:]

And then, a question for Diane regarding the normalized FFO guidance, how it increased by $0.20? You commented on the $0.15 portion regarding the European financing dynamics and GDS capital recycling. But you also made a comment regarding the $0.05 to do with the investment grade rating and lower interest rate expense. Now as we think about the business and financing in 2020, 2021, should we also be considering a little bit of a step down as well in some of your interest rate costs, like your marginal rates just because you may potentially be either reissuing or rolling the debt and just giving us more color how we should be thinking about this longer term as you guys go through this transition?

[Diane Morefield:]

Yes. So, as it pertains to this year, again we had not contemplated the cross currency swap that was probably worth about $0.06 per share. And then the GDS was a direct substitute for issuing equity. So, it was over 3 million shares that we would have contemplated issuing that we did not because of the $200 million in GDS sales. And then the balance of the interest rate savings was going into the year, probably not unlike a lot of other public companies. Originally, we thought LIBOR risk is going to probably pump a couple times with the Fed. It wasn't really into -- going into this year. Everybody thought rates were going to have at least two bumps and we are pretty much following the LIBOR curve in our own projection. And now we -- it appears that it's flat. So, we've taken out those bumps. So, it was more just a reforecast of what we think actual rates will be over the course of the year, which are lower than what we had planned, as well as some differed timing and when CapEx is funded.

[Gary Wojtaszek:]

So, with regard to your question for next year, yes, I think what we've just shown here is that, we are on that investment grade path. We have shown a willingness to basically ensure that we're going to keep our balance sheet really strong and we just showed some creative ways to recycle some of that capital. I think it's appropriate to assume that our -- the interest rates are going to go down, as the scale of our business increases and we become investment grade.

[Diane Morefield:]

Yes, investment grade probably is the interest rate savings of 75 to 100 basis points. So, as we would go out to the long-term bond market, once we get to investment grade, you can assume that the kind of savings will have on our marginal new fixed rate debt, and our revolver pricing margin goes down automatically, when we get to investment grade as well.

[Operator:]

The next question comes from Nate Crossett from Berenberg. Please go ahead.

[Nate Crossett:]

On GDS and the Chinese hyperscale deals, you guys have been getting. I was just curious to know, how much of the 25 megawatts that you signed, since you made an investment are in Europe versus the U.S. and maybe just some color on what some markets the Chinese seem to be targeting in the near term?

[Gary Wojtaszek:]

Yes. That's all in the U.S., we're talking to them about Europe now and also in Latin America as well. So, in U.S. markets, they are in typically deployed in a three major hyperscale markets in the U.S. with Northern Virginia being the most popular followed by Santa Clara.

[Nate Crossett:]

Okay. And then are, all those deals being sourced through GDS, because I'm just trying to get a sense of your advantage with the Chinese versus say other providers?

[Gary Wojtaszek:]

Well, initially, I mean, all the relationships and contract -- contacts and introductions and all that have been through GDS. And now we've got great relationships with those customers and are working with them everywhere. And similarly, we introduced GDS to all of our customers and put them in touch and try to do the same -- same things as they've done for us. We do for them. So, like when I am -- like so last week I was meeting with a bunch of our customers on the West Coast, the conversations that I was having with them was talking about all the capacity and locations that we can offer them, as well as what we can do for them in China and Latin America with Ricardo and William as partners.

[Operator:]

The next question comes from Jon Petersen from Jefferies. Please go ahead.

[Jon Petersen:]

Thanks. Just one question. So, over the last few years, if you look at the tax treatment of your dividends, you know, it looks like your taxable income is very low. It's not zero in some of these years. So, it does seem like you have any pressure to increase the dividend. So, against that backdrop, I was just curious with all the talk of CapEx needs in organic growth, how you think about growing the dividend over the next couple of years? Will it grow in line with AFFO per share, or will you hold some back, so you can reinvest in the business?

[Diane Morefield:]

Well, you're right. The nature of our dividend ever since I've been here has been all return of capital. So, we don't have any pressure to increase the dividend. I think we were pretty clear on our earnings call in February, to say we weren't increasing it at the beginning of the year, given, again we don't need to increase it from a REIT tax perspective. And given the guidance on CapEx, we'd rather retain it for our own capital funding. Ultimately, the dividend is a Board's decision and the Board reviews a quarterly. Yes, over time we certainly envision increasing the dividend again, just didn't want to do it early this year. But yes, as AFFO and cash flow grows, I think you could assume we will increase the dividend in the future.

[Operator:]

The next question comes from Jordan Sadler from KeyBanc. Please go ahead.

[Jordan Sadler:]

Thank you and good morning. Can you just dig in on the financing going forward Diane? Can you offer up the retained cash flow expectation for this year after the dividend?

[Diane Morefield:]

I don't have, it's off the top my head. You could probably model that it's a couple $100 million. I don't have an exact number.

[Jordan Sadler:]

Couple of $100 million, well, I think…

[Diane Morefield:]

Then again over time that will -- that will grow.

[Jordan Sadler:]

Well, I guess I'm looking at your FFO of $3.35 is the starting point. And that's, call it, -- and then you have a dividend of $1.84, I get to a $1.50 per share times 110.

[Gary Wojtaszek:]

Right.

[Jordan Sadler:]

That's pretty much -- is that a decent proxy?

[Gary Wojtaszek:]

No, our operating cash flow, when you net out all that stuff is, is between $200 million and $250 million and scaling at roughly 20% a year.

[Jordan Sadler:]

Okay. I mean I could, maybe we walk through that later. So, -- and the idea here is to basically just lever the retained cash flow to support the growth going forward?

[Gary Wojtaszek:]

Supplement by internal cash flow generation, yes.

[Jordan Sadler:]

Okay. And no joint venture or asset sales contemplated going forward?

[Gary Wojtaszek:]

I mean that's always something you have as dry powder in there. But at that level of capital investment, you don't need it and then you're weighing that relative to the complexity of kind of complicating your capital structure further. But those are always -- those are always available to you.

[Jordan Sadler:]

Okay. And then the floating rate debt, Diane you were running through the calculus on savings once you hit investment grade, what's the total floating rate debt pro forma, as a percent of total debt pro forma of the swap?

[Gary Wojtaszek:]

It's in the decks, Jordan.

[Diane Morefield:]

Yes.

[Gary Wojtaszek:]

It's 45, 55 roughly.

[Diane Morefield:]

Yes. And we are generally comfortable managing in the 50/50 fixed to floating particularly before we get to investment grade, because we don't want to fix a bunch of that long-term and put it in like 5 and 7 and 10-year maturity buckets. If we're going to be able to get a more attractive fixed rate, once we get to investment grade. So, you would see us build the fixed rate bucket, once we get to investment grade, because we can just fix it at a much lower fixed interest rate. But just generally, we've been in the 50/50 range and that we're very comfortable there at this point.

[Gary Wojtaszek:]

Yes, I think the other thing to consider is part of that, Jordan is like, if you look across the entire REIT universe, we are probably over-equitized. So, if you look at 70% of our capital structure being equity and you consider that relative to the 50/50 fixed floating rate leverage or debt composition the diluted to. You think that we have probably a higher proportion of fixed than most of the other folks in the industry, and given just how well the secular trends in the data center space versus some of the other real estate asset classes. We think we're in a really stable and strong position there.

[Jordan Sadler:]

They might be fair. Although I think most investors probably would focus on developers within their REIT universe, as opposed to the entire REIT universe, because you guys have a substantial development pipeline and that's viewed a little bit differently versus you guys do zero development.

[Gary Wojtaszek:]

Great, thanks, Jordan. Well, thanks. Thanks everyone. We appreciate you dialing in to today's call and don't hesitate to reach out and we'll see you in a couple weeks at NAREIT. Have a great week.

[Diane Morefield:]

Bye.

[Operator:]

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect. Have a good day.