Cogent Communications Holdings, Inc. — Q3 2015 Form 10-Q
Reporting period: Three and nine months ended September 30, 2015; unaudited. Cogent provides high-speed Internet access and IP communications services, primarily to business and communications-service-provider customers across North America, Europe and Asia.
Financial performance and position
| Metric | Q3 2015 | Q3 2014 | First nine months 2015 | First nine months 2014 |
|---|---|---|---|---|
| Service revenue | $103.0 million | $95.7 million | $299.1 million | $283.3 million |
| Operating income | $15.5 million | $13.6 million | $36.8 million | $40.8 million |
| Net income (loss) | $3.2 million | $(0.2) million | $2.4 million | $1.1 million |
| Operating margin | 15.1% | 14.2% | 12.3% | 14.4% |
| Operating cash flow | Not reported by quarter in this filing | $61.8 million | $55.1 million | |
| Capital expenditures | Not reported by quarter in this filing | $30.6 million | $47.0 million |
Operating margins are calculated from reported operating income and revenue. Q3 interest expense declined 21.0% to $10.0 million; nine-month interest expense declined 17.9% to $31.0 million. Nine-month results included a $10.1 million debt-extinguishment loss and $11.6 million of gains on capital-lease terminations. Cash and equivalents were $207.3 million at September 30, 2015, down from $287.8 million at year-end 2014. Total indebtedness was $596.4 million, including $130.9 million of capital-lease obligations; the company reported $250 million of secured notes and $200 million of unsecured notes.
Changes versus comparable periods
- Q3 revenue increased 7.7%; nine-month revenue increased 5.6%. Management said foreign-exchange effects reduced revenue by approximately $4.3 million for Q3 and $13.4 million year to date.
- Q3 on-net and off-net revenue grew 5.7% and 13.8%, respectively. Nine-month growth was 3.7% and 11.5%. Connections rose 12.5% on-net and 21.1% off-net year over year, while corresponding ARPU fell 6.0% and 5.6% in Q3.
- Pricing pressure persisted: average price per megabit for the installed base fell 18.7% in Q3 and 19.7% for the first nine months. Net-centric revenue declined while corporate-customer revenue grew.
- Nine-month operating income fell despite revenue growth, reflecting higher operating expenses, lower equipment-transaction gains and the debt-extinguishment loss; lower interest expense and lease-termination gains partly offset these items.
- In February–March 2015, Cogent issued $250 million of 5.375% secured notes due 2022 and redeemed $240 million of 8.375% secured notes due 2018, recording a $10.1 million loss. The refinancing contributed to lower interest expense.
Outlook, risks and notable items
- Management said cash on hand and operating cash generation should cover working capital, capital spending, debt service and planned shareholder returns for the next 12 months if the business plan is achieved. It cautioned that acquisitions or other unplanned cash needs could require new financing, which may not be available on acceptable terms.
- The company plans to expand its network and add on-net buildings, while noting that pricing declines, customer growth, traffic growth and the economics of network expansion affect revenue and profitability. Foreign-exchange movements, competition, peering arrangements, third-party fiber dependence, network disruptions, regulation and customer concentration are among the stated risks. Management noted that European operations continue to incur losses until sufficient scale is achieved.
- Debt indentures restrict dividends, stock repurchases and other payments. The company’s consolidated leverage ratio was above 4.25, limiting additional permitted distributions beyond specified baskets. On November 2, 2015, after quarter-end, the board suspended the $12 million quarterly minimum under its Capital Program and approved a regular $0.35-per-share quarterly dividend, estimated at $15.6 million.
- At September 30, approximately $47.8 million remained under the stock-buyback authorization, which runs through December 31, 2016. The company repurchased $39.4 million of shares and paid $50.3 million in dividends during the first nine months.
- Management reported disclosure controls were effective and no material change in internal control over financial reporting during the quarter. A California wage-and-hour case remained pending; the filing also disclosed reasonably possible losses of up to $2.4 million above accruals for certain leased-circuit and dark-fiber matters.
Key facts for investors to verify
- Whether customer and connection growth can offset ongoing ARPU and per-megabit price declines, particularly in net-centric services.
- How foreign exchange, European operating losses and network-expansion costs affect future margins and cash generation.
- Debt-service needs, capital-lease obligations and indenture restrictions on dividends and buybacks, including the effect of leverage-covenant thresholds.
- The final costs and accounting outcomes for lease terminations, litigation and other contingencies, and whether the announced dividend remains sustainable.