Cogent Communications Holdings, Inc. — Q3 2016 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2016. Unaudited consolidated results. Cogent provides facilities-based Internet access and IP communications services, principally to business and bandwidth-intensive customers in North America and Europe.
Financial performance
| Metric | Q3 2016 | Q3 2015 | First nine months 2016 | First nine months 2015 |
|---|---|---|---|---|
| Service revenue | $113.1 million | $103.0 million | $331.3 million | $299.1 million |
| Operating income | $16.1 million | $15.5 million | $49.2 million | $36.8 million |
| Net income | $3.5 million | $3.2 million | $11.0 million | $2.4 million |
| Diluted EPS | $0.08 | $0.07 | $0.25 | $0.05 |
| Operating margin | 14.2% | 15.1% | 14.9% | 12.3% |
Revenue grew 9.7% in Q3 and 10.8% year to date. Nine-month operating income included $7.1 million of equipment-exchange gains in 2016; the 2015 comparison included $11.6 million of capital-lease termination gains and a $10.1 million debt-extinguishment loss. These items affect comparability.
Cash flow, liquidity and debt
- For the first nine months, operating cash flow was $74.1 million, capital expenditures were $38.0 million, and cash flow after those expenditures was $36.0 million. Cash declined $55.4 million to $148.2 million, principally reflecting $50.0 million of dividends and other financing outflows.
- At September 30, current assets were $202.3 million and current liabilities were $62.0 million. Total indebtedness was reported as $582.3 million, including $140.4 million of capital lease obligations. Cash was $148.2 million; stockholders’ deficit was $40.5 million.
- Outstanding notes included $250 million of 5.375% senior secured notes due 2022 and $189.2 million of 5.625% senior unsecured notes due 2021. The company repurchased $10.8 million face amount of the 2021 notes and repaid $17.1 million of installment-agreement principal during 2016.
- Dividends paid in the first nine months totaled $50.0 million. After quarter-end, the board approved a $0.40-per-share Q4 dividend, estimated at $16.9 million. The company reported $46.1 million remaining under its stock buyback authorization.
Operating changes and management commentary
- Q3 on-net and off-net revenue increased 9.0% and 11.9%, respectively. Connections grew 17.8% on-net and 19.7% off-net; on-net and off-net ARPU fell 7.2% and 7.1%. Installed-base price per megabit declined 18.4%.
- Management attributed growth to customer additions and network expansion, while noting that lower per-unit pricing and declining ARPU could constrain revenue growth and profitability. Network operating costs rose 8.1% in Q3, and SG&A rose 10.0%, including costs supporting expansion and sales efforts.
- Cogent operated in one segment and reported 2,334 on-net buildings and 51 company-controlled data centers. Management said European operations continued to incur losses pending sufficient scale.
- Management believed cash on hand and operating cash generation would cover working capital, capital expenditures, debt service, dividends and other requirements for the next 12 months, assuming execution of its business plan. No specific earnings or revenue guidance was provided.
Risks, contingencies and other items
- Risks cited include competition and price declines, customer retention and traffic growth, reliance on third-party fiber and Cisco equipment, network disruptions, foreign exchange, regulation, and litigation.
- One California sales-employee wage case remained; the company disputed the claims. Separately, leased-circuit positions could result in up to $2.3 million of loss in excess of amounts accrued. Management did not expect other ordinary-course legal matters to materially affect results, while noting outcomes are uncertain.
- The company was evaluating upcoming lease and revenue-recognition accounting standards; it had not determined the financial impact of either standard.
Important facts for investors to verify
- Whether customer and revenue growth can offset falling ARPU and per-megabit pricing, particularly as network and expansion costs rise.
- Cash generation and capital spending needs relative to debt, lease obligations, dividends and repurchases; dividend and buyback capacity is subject to indenture and other restrictions.
- Potential exposure from the California employee case and leased-circuit claims, including the stated amount above accrued losses.
- The buyback authorization’s end date: the filing refers to December 31, 2016 in some sections and December 31, 2017 in another.
- The effects of adopting the new lease and revenue-recognition standards.