Cogent Communications Holdings, Inc. — Q2 2015 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2015; unaudited. Cogent is a facilities-based provider of Internet access and IP communications services, principally to business and bandwidth-intensive customers in North America, Europe, and Japan.
Key financial results
Amounts are in millions except per-share data and operating metrics.
| Metric | Q2 2015 | Q2 2014 | Six months 2015 | Six months 2014 |
|---|---|---|---|---|
| Service revenue | $98.8 | $94.6 | $196.0 | $187.6 |
| Operating income | $10.8 | $14.3 | $21.3 | $27.2 |
| Net income (loss) | $0.8 | $1.2 | $(0.7) | $1.3 |
| Operating cash flow | Not separately reported | Not separately reported | $38.4 | $39.0 |
| Capital expenditures | Not separately reported | Not separately reported | $23.8 | $31.6 |
| Cash and equivalents, period end | — | $224.5 | $349.8 |
- Q2 revenue grew 4.4%; operating income fell 24.5%. Operating margin was approximately 10.9%, versus 15.1% a year earlier. Net income was $0.02 per diluted share versus $0.03.
- Six-month revenue grew 4.5%, while operating income declined about 21.7%. The company reported a $0.02 per-share loss, compared with $0.03 earnings per share in the prior period.
- Six-month operating cash flow was slightly lower year over year. After capital expenditures, operating cash flow less property and equipment purchases was approximately $14.7 million, versus $7.4 million in the comparable 2014 period.
- Cash declined $63.3 million in the first half. Financing cash use included $35.0 million of dividends, $27.2 million of share repurchases, capital-lease payments, and redemption of old notes, partly offset by proceeds from new notes.
Revenue, costs, and operating trends
- Q2 on-net revenue rose 2.3% to $72.0 million and off-net revenue rose 11.2% to $26.5 million; non-core revenue fell 24.8% to $0.3 million. Corporate-customer revenue increased 15.3%, while net-centric revenue decreased 7.5%.
- On-net connections increased 12.3% and off-net connections 20.0% year over year, but average revenue per unit fell 8.9% and 7.9%, respectively. Average price per megabit declined 20.4%. Management attributed pressure to pricing discounts, lower net-centric pricing, customer mix, and foreign exchange.
- Q2 network operations expense rose 7.1% and SG&A rose 10.7%; depreciation and amortization was nearly flat. Expense increases reflected network expansion, off-net service costs, sales and support staffing, and higher equity compensation.
- Foreign exchange reduced Q2 revenue by approximately $4.8 million and first-half revenue by approximately $9.1 million. On a constant-currency basis, reported revenue growth would have been higher.
Liquidity, debt, and capital allocation
- At June 30, cash was $224.5 million and total indebtedness, net of discount, was $584.0 million, including $128.7 million of capital-lease obligations. The filing does not provide a clear current ratio or a single stated net-debt figure.
- In February–March 2015, Cogent issued $250 million of 5.375% senior secured notes due 2022 and redeemed $240 million of 8.375% secured notes due 2018. The redemption generated a $10.1 million extinguishment loss. The company also had $200 million of 5.625% unsecured notes due 2021.
- First-half results included a $10.1 million gain from terminating certain Spanish IRU capital leases, alongside the $10.1 million debt-extinguishment loss. The Spanish lease termination included an estimated $8.1 million liability.
- Dividends paid in the first half were $35.0 million; the Q2 declared dividend was $0.42 per share. The board subsequently approved a $0.34-per-share Q3 dividend. The board also added $50 million to the buyback authorization and extended it through December 31, 2016; approximately $10 million remained available at June 30.
- Management said cash on hand and operating cash generation should cover working capital, capital expenditures, debt service, dividends, and other needs for the next 12 months if the business plan is achieved. Additional funding could be needed for acquisitions or significant unplanned requirements.
Outlook, risks, and other developments
- No specific revenue, earnings, or cash-flow guidance was provided. Management emphasized network expansion and customer growth, while noting that declining Internet access prices may constrain revenue growth and profitability if traffic growth does not offset pricing declines.
- Key risks cited include foreign-exchange movements, competition and pricing pressure, customer retention and concentration, peering arrangements, dependence on Cisco equipment and third-party fiber, network disruptions, regulation, and execution in newer markets. Management noted European operations remain loss-making until they achieve sufficient scale.
- Under a vendor purchase agreement, the company committed to $28.9 million of network equipment purchases over 18 months, with $19.5 million remaining at June 30. An installment arrangement allowed up to $25 million of equipment purchases; $5.6 million of notes had been incurred by quarter-end.
- Potential additional losses on leased-circuit and dark-fiber obligations were estimated at up to $2.3 million beyond amounts accrued. A sales-employee classification dispute had been narrowed to a remaining California case; the company contests the claims. A separate bylaw lawsuit was settled, with court approval and an attorneys’ fee award on July 30, 2015.
- The company reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether customer and connection growth can offset continued declines in ARPU and price per megabit, especially for net-centric services.
- The sustainability of operating cash generation relative to network investment, debt service, dividends, and repurchases.
- Debt covenant headroom and refinancing exposure, including the secured and unsecured note terms and capital-lease obligations.
- The final costs and accounting effects of the Spanish lease termination, equipment purchase commitments, and legal matters.
- How much reported revenue and profitability are affected by foreign exchange, and whether European operations progress toward scale.