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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
| x | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the fiscal year ended December 31, 2008
OR
| ¨ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission file number 000-31293
EQUINIX, INC.
(Exact name of registrant as specified in its charter)
| Delaware | 77-0487526 | |
| (State of incorporation) | (IRS Employer Identification No.) |
301 Velocity Way, Fifth Floor, Foster City, California 94404
(Address of principal executive offices, including ZIP code)
(650) 513-7000
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
| Title of each class |
Name of each exchange on which registered | |
| Common Stock, $0.001 | The NASDAQ Stock Market LLC |
Securities registered pursuant to Section 12(g) of the Act:
None
Indicate by check mark if the registrant is a well-known seasoned issuer as defined in Rule 405 of the Act. x Yes ¨ No
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. ¨ Yes x No
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. x Yes ¨ No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. x
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
| Large accelerated filer x | Accelerated filer ¨ | Non-accelerated filer ¨ | Smaller reporting company ¨ |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ¨ Yes x No
The aggregate market value of the voting and non-voting common stock held by non-affiliates computed by reference to the price at which the common stock was last sold as of the last business day of the registrant’s most recently completed second fiscal quarter was approximately $2.9 billion.
As of January 31, 2009, a total of 37,769,926 shares of the registrant’s common stock were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Part III—Portions of the registrant’s definitive proxy statement to be issued in conjunction with the registrant’s 2009 Annual Meeting of Stockholders, which is expected to be filed not later than 120 days after the registrant’s fiscal year ended December 31, 2008. Except as expressly incorporated by reference, the registrant’s proxy statement shall not be deemed to be a part of this report on Form 10-K.
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FORM 10-K
DECEMBER 31, 2008
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| ITEM 1. | BUSINESS |
The words “Equinix”, “we”, “our”, “ours”, “us” and the “Company” refer to Equinix, Inc. All statements in this discussion that are not historical are forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, including statements regarding Equinix’s “expectations”, “beliefs”, “hopes”, “intentions”, “strategies” or the like. Such statements are based on management’s current expectations and are subject to a number of factors and uncertainties that could cause actual results to differ materially from those described in the forward-looking statements. Equinix cautions investors that there can be no assurance that actual results or business conditions will not differ materially from those projected or suggested in such forward-looking statements as a result of various factors, including, but not limited to, the risk factors discussed in this Annual Report on Form 10-K. Equinix expressly disclaims any obligation or undertaking to release publicly any updates or revisions to any forward-looking statements contained herein to reflect any change in Equinix’s expectations with regard thereto or any change in events, conditions, or circumstances on which any such statements are based.
Overview
Equinix provides global data center services. Global enterprises, content providers, financial companies and network service providers rely upon Equinix’s insight and expertise to protect and connect their most valued information assets. We operate 42 International Business Exchange (IBX) data centers, or IBX centers, across 18 markets in North America, Europe and Asia-Pacific where customers directly interconnect with a network ecosystem of partners and customers. More than 300 network service providers offer access to more than 90% of the world’s Internet routes inside Equinix’s IBX centers. This access to Internet routes provides Equinix customers improved reliability and streamlined connectivity while significantly reducing costs by reaching a critical mass of networks within a centralized physical location.
As the world becomes increasingly more information-driven, businesses choose Equinix for the delivery of high levels of operational availability and the leading insight of Equinix’s expert staff. Based on our network-neutral model and the quality of our IBX centers, Equinix has established a critical mass of customers which continues to drive new and existing customer growth and bookings. A supply and demand imbalance in the data center market has contributed to Equinix’s revenue growth. In addition, as a result of a largely fixed cost model, any growth in revenue would likely drive incremental margins and increased operating cash flow; however, the costs of a new IBX center at initial opening has a negative effect on earnings until it generates sufficient revenues to cover these costs.
Equinix’s network-neutral business model also differentiates us in the market. Because we do not operate a network, Equinix is able to offer customers direct interconnection to an aggregation of bandwidth providers, including the world’s top carriers, Internet Service Providers (ISPs), broadband access networks (DSL/cable) and international carriers. AOL, at&t, British Telecom, Cable & Wireless, Comcast, Level 3, NTT, Qwest, SingTel, Sprint and Verizon Business are all currently located within our IBX centers. Access to such a wide variety of networks has attracted a variety of customers in various business sectors, including:
| • | Enterprise (Apple, Deloitte, IBM, McGraw-Hill) |
| • | Content Providers (eBay, Electronic Arts, Fox Interactive Media, Google, MSN, Sony) |
| • | Financial Companies (Bank of America, Chicago Mercantile Exchange, Dow Jones, NASDAQ OMX) |
Equinix services are primarily comprised of colocation, interconnection and managed IT infrastructure services.
| • | Colocation services include cabinets, power, operations space and storage space for customers’ colocation needs. |
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| • | Interconnection services include cross connects, as well as switch ports on the Equinix Exchange service. These services provide scalable and reliable connectivity that allows customers to exchange traffic directly with the service provider of their choice or directly with each other. |
| • | Managed IT infrastructure services allow customers to leverage Equinix’s significant telecommunications expertise, maximize the benefits of our IBX centers and optimize their infrastructure and resources. |
The market for Equinix’s services has historically been served by large telecommunications carriers which have bundled their telecommunications and managed services with their colocation offerings. Over the past several years, a number of these telecommunications carriers have eliminated or reduced their colocation footprint to focus on their core businesses. Additionally, many of the competitive providers have failed to scale their businesses and have been forced to exit the market. While some Equinix customers, such as AOL, Google and MSN, build and operate their own data centers for their large infrastructure deployments, these customers rely upon Equinix IBX centers for their critical interconnection relationships.
The need for large, wholesale outsourced data centers is also, more recently, being addressed by real estate investment trusts (REITs) that build large data centers to meet customers’ needs for standalone centers, a different customer segment than Equinix serves. However, with the diminished role of the telecommunications players in the market and the increasing cost and complexity of the power and cooling requirements of today’s data center equipment, there continues to be a supply and demand imbalance in the market. Demand continues to outpace supply as a result of the current credit contraction, which is creating a financial strain on many data center operators, limiting their ability to create new supply. Equinix continues to fund its own expansion program, while other data center operators slow or halt their data center builds altogether.
The supply and demand imbalance in the industry has, to date, created a favorable pricing environment for Equinix, as well as an opportunity to increase market share. Equinix has gained many customers that have outgrown their existing data centers or that have realized the benefits of a network-neutral model. Strategically, we will continue to look at attractive opportunities to grow market share and selectively expand our footprint and service offerings. We continue to leverage our global reach and depth to differentiate based upon our ability to support truly global customer requirements in all our markets.
Several factors are contributing to this growth, including:
| • | The continuing growth of consumer Internet traffic from new bandwidth-intensive services, such as video, VoIP, gaming, data-rich media and wireless services. |
| • | Significant increases in power and cooling requirements for today’s data center equipment. Servers have increased the overall level of power consumed and heat generation by over two times since 2000, and many legacy-built data centers are unable to accommodate these new power and cooling demands. |
| • | The growth of enterprise applications, such as Software as a Service (SaaS) and disaster recovery, and the potential of cloud computing technology services. |
| • | The growth of “proximity communities” that rely on immediate physical colocation with their strategic partners and customers, such as financial exchange ecosystems for electronic trading and settlement. |
| • | The high capital costs associated with building and maintaining “in-sourced” data centers creates an opportunity for capital savings by outsourcing. |
Industry Background
The Internet is a collection of numerous independent networks interconnected with each other to form a network of networks. Users on different networks are able to communicate with each other through interconnection services between these networks. For example, when a person sends an email to someone that
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uses a different provider for their connectivity (e.g., Comcast versus Earthlink), the email must pass from one network to the other in order to get to its final destination. Equinix provides the physical point at which that interconnection occurs.
In order to accommodate the rapid growth of Internet traffic, an organized approach for network interconnection was needed. The exchange of traffic between these networks became known as peering. Peering is when networks trade traffic at relatively equal amounts and set up agreements to trade traffic often at no charge to the other party. At first, government and non-profit organizations established places where these networks could exchange traffic, or peer, with each other—these points were known as network access points, or NAPs. Over time, many NAPs became a natural extension of carrier services and were run by such companies as MFS (now a part of Verizon Business), Sprint, Ameritech and Pacific Bell (both now known as at&t).
Ultimately, these NAPs were unable to scale with the growth of the Internet and the lack of “neutrality” by the carrier owners of these NAPs created a conflict of interest with the participants. This created a market need for network-neutral interconnection points that could accommodate the rapidly growing need to increase performance for enterprise and consumer users of the Internet, especially with the rise of important content providers such as AOL, Google, Microsoft, Yahoo! and others. In addition, the providers, as well as a growing number of enterprises, required a more secure and reliable solution for direct connection to a variety of telecommunications networks as the importance of their Internet operations continued to grow.
To accommodate Internet traffic growth, the largest of these networks left the NAPs and began trading traffic by placing private circuits between each other. Peering, which once occurred at the NAP locations, was moved to these private circuits. Over the years, these circuits became expensive to expand and could not be built fast enough to accommodate the growth in traffic. This led to a need by the large carriers to find a more efficient way to exchange network traffic or peer. Customers have chosen Equinix for peering because they are now able to peer with the networks they require within one location using simple direct connections. Their ability to peer across the room, instead of across a metro area, has increased the scalability of their operations while decreasing costs for some customers by upwards of 70%.
Equinix Value Proposition
More than 2,000 companies, including a diversified mix of content providers, financial companies, global enterprises and network service providers currently operate at Equinix. These companies derive specific value from the following elements of the Equinix service offering:
| • | Comprehensive global service offering: with 42 IBX centers in 18 markets in the U.S., Europe and Asia-Pacific, Equinix offers a consistent global service. |
| • | Premium centers: Equinix IBX centers feature advanced design, security, power and cooling elements to provide customers with industry-leading reliability. While others in the market have business models that include additional offerings, Equinix is focused on data center services as our core competency. |
| • | Dynamic ecosystem: Equinix’s network-neutral model has enabled us to attract a critical mass of networks that, in turn, attracts other businesses seeking to interconnect within a single location. This ecosystem model, versus connecting to multiple partners in disparate locations, reduces costs and increases performance for all. As Equinix grows and attracts an even more diversified base of customers, the value of Equinix’s IBX center offering increases. |
| • | Improved economics: Customers seeking to outsource their data center operations rather than build their own capital-intensive data centers enjoy significant capital cost savings in this credit-challenged economic environment. Customers also benefit from improved economics on account of the broad access to networks Equinix provides. Rather than purchasing costly local loops from multiple transit providers, customers can connect directly to over 300 networks inside Equinix’s IBX centers. |
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| • | Leading insight: With more than 10 years of industry experience, Equinix has a specialized staff of industry experts who helped build and shape the interconnection infrastructure of the Internet. This specialization and industry knowledge offer customers a unique consultative value and a competitive advantage. |
Our Strategy
Our objective is to expand our global leadership position as the premier data center operator for content providers, financial companies and global enterprises seeking protection and connection of their most valued information assets. Key components of our strategy include the following:
Continue to build upon our critical mass of network providers and content companies and grow our position within the enterprise and financial sectors. We have assembled a critical mass of premier network providers and content companies and have become one of the core hubs of the information-driven world. This critical mass is a key selling point for companies that want to connect with a diverse set of networks to provide the best connectivity to their end-customers and network companies that want to sell bandwidth to companies and interconnect with other networks in the most efficient manner available. Currently, we service over 300 unique networks, including all of the top tier networks, allowing our customers to directly interconnect with providers that serve more than 90% of global Internet routes. We have a growing mass of key players in the enterprise and financial sectors, such as Bank of America, The Gap, Gannett, IBM, Salesforce.com, Sony and others. We expect the success we have experienced in the content provider and financial segments to continue to drive our growth in 2009 and beyond.
Promote our IBX centers as the most reliable data centers in the industry. Data center reliability, power availability and network choice are the most important attributes considered by our customers when they are choosing a data center provider. Our IBX centers are next-generation data centers and offer customers advanced security, reliability and redundancy. Our security design in the U.S. IBX centers includes five levels of biometrics security to access customer cages. Our power infrastructure in the U.S. includes N+1 redundancy for all systems and has delivered 99.999% uptime over the period from January 1, 2002 through December 31, 2008. We provide access to over 300 different network providers. Our support staff, trained to aid customers with operational support, is available 24 hours a day, 365 days a year.
Leverage the network ecosystem. As networks, content providers and other enterprises locate in our IBX centers, it benefits their suppliers and business partners to do so as well to gain the full economic and performance benefits of direct interconnection. These partners, in turn, pull in their business partners, creating a “network effect” of customer adoption. Our interconnection services enable scalable, reliable and cost-effective interconnection and traffic exchange thus lowering overall cost and increasing flexibility. The ability to directly interconnect with a wide variety of companies is a key differentiator for us in the market.
Provide new products and services within our IBX centers. We plan to continue to offer additional products and services that are most valuable to our customers as they manage their Internet and network businesses and, specifically, as they attempt to effectively utilize multiple networks. Examples include our IBXLink services, which allow customers to easily move traffic between IBX centers located in the same metro area, or the Financial Exchange service, which allows direct interconnection with electronic financial exchanges, such as the Chicago Mercantile Exchange, NASDAQ and ICAP in markets such as Chicago, Frankfurt, London, New York and Paris.
Pursue continuous growth for our customers. We continue to evaluate expansion opportunities in select markets based on customer demand. We expect to open new IBX centers, or IBX center expansions, in nine of our 18 markets in 2009. These efforts, and excluding the capacity added from our recent entry into Europe, have more than doubled our sellable cabinet capacity since 2003.
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Our strategy is to continue to grow in select existing markets and possibly expand to additional markets where demand and financial return potential warrant. We expect to execute this expansion strategy in a cost-effective and prudent manner through a combination of acquiring existing data centers through lease or purchase, or building new IBX centers based on key criteria, such as demand and potential financial return, in each market.
Our Customers
Our customers include carriers and other bandwidth providers, content providers, financial companies and global enterprises. We offer each customer a choice of business partners and solutions based on their colocation, interconnection and managed IT service needs. As of December 31, 2008, we had 2,272 customers worldwide (2,757 including the recently acquired customers in the Netherlands).
Typical customers in our four key customer categories include the following:
| Enterprise |
Carriers/Networks |
Content Providers |
Financial Companies | |||
| Apple | at&t | AOL | AT Kearney | |||
| Autodesk | British Telecom | ebay | Bank of America | |||
| Bechtel | Cable & Wireless | Electronic Arts | Chicago Mercantile Exchange | |||
| CapGemini | Comcast | Fox Interactive Media | Commerzbank | |||
| Deloitte | Level 3 | Deutsche Boerse | ||||
| The Gap | NTT | MSN | Dow Jones | |||
| IBM | Sprint | News Corporation | Fidelity Investments | |||
| Salesforce.com | Verizon Business | Sony | NASDAQ OMX |
Customers typically sign renewable contracts of one or more years in length. No single customer accounted for 10% or greater of our revenues for the years ended December 31, 2008, 2007 or 2006.
Our Services
Our services are primarily comprised of colocation, interconnection and managed IT infrastructure services.
Colocation Services
Our IBX centers provide our customers with secure, reliable and fault-tolerant environments that are necessary for optimum Internet commerce interconnection. Our IBX centers include multiple layers of physical security, scalable cabinet space availability, on-site trained staff 24 hours per day, 365 days a year, dedicated areas for customer care and equipment staging, redundant AC/DC power systems and multiple other redundant and fault-tolerant infrastructure systems. Some specifications or services provided may differ in our Asia-Pacific and European locations in order to properly meet the local needs of customers in these markets.
Within our IBX centers, customers can place their equipment and interconnect with a choice of networks or other business partners. We also provide customized solutions for customers looking to package our IBX services as part of their complex solutions. Our colocation products and services include:
Cabinets. Our customers have several choices for colocating their networking, server and storage equipment. They can place the equipment in one of our shared or private cages or customize their space. In Europe, customers can purchase their own private “suite” which is walled off from the rest of the data center. As a customer’s colocation requirements increase, they can expand within their original cage (or suite) or upgrade into a cage that meets their expanded requirements. Customers buy the hardware they place in our IBX centers directly from their chosen vendors. Cabinets (or suites) are priced with an initial installation fee and an ongoing recurring monthly charge.
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Power. Power is an element of increasing importance in customers’ colocation decisions. We offer both AC and DC power circuits at various amperages and phases customized to a customer’s individual power requirements. Power is priced with an initial installation fee and an ongoing recurring monthly charge.
IBXflex. IBXflex allows customers to deploy mission-critical operations personnel and equipment on-site at our IBX centers. Because of the close proximity to their infrastructure within our IBX centers, IBXflex customers can offer a faster response and quicker troubleshooting solution than those available in traditional colocation facilities. This space can also be used as a secure disaster recovery point for customers’ business and operations personnel. This service is priced with an initial installation fee and an ongoing recurring monthly charge.
Interconnection Services
Our interconnection services enable scalable, reliable and cost-effective interconnection and traffic exchange between Equinix customers. These interconnection services are either on a one-to-one basis with direct cross connects or one-to-many through one of our Equinix Exchange services. In the peering community, we provide an important industry leadership role by acting as the relationship broker between parties who would like to interconnect within our IBX centers. Our staff holds significant positions in the leading industry groups such as the North American Network Operators’ Group, or NANOG, and the Internet Engineering Task Force, or IETF. Members of our staff have published industry-recognized white papers and strategy documents in the areas of peering and interconnection, many of which are used by other institutions worldwide in furthering the education and promotion of this important set of services. We will continue to develop additional services in the area of traffic exchange that will allow our customers to leverage the critical mass of networks now available in our IBX centers. Our current exchange services are comprised of the following:
Physical Cross-Connect/Direct Interconnections. Customers needing to directly and privately connect to another IBX center customer can do so through single or multi-mode fiber. These cross connections are the physical link between customers and can be implemented within 24 hours of request. Cross-connect services are priced with an initial installation fee and an ongoing monthly recurring charge.
Equinix Exchange. Customers may choose to connect to and peer through our Equinix Exchange via a central switching fabric rather than purchase a direct physical cross connection. With a connection to this switch, a customer can aggregate multiple interconnects over one physical connection with up to 10 gigabits of capacity instead of purchasing individual physical cross connects. The Exchange service is offered as a bundled service that includes a cabinet, power, cross connects and port charges. The service is priced by IBX center with an initial installation fee and an ongoing monthly recurring charge. Individual IBX center prices increase as the number of participants on the exchange service grows.
Equinix IBXLink. Customers who are located in one IBX center may need to interconnect with networks or other customers located in an adjacent or nearby IBX center in the same metro area. IBXLink allows customers to seamlessly interconnect between IBX centers at capacities up to an OC-192, or 10 gigabits per second level. IBXLink services are priced with an initial installation fee and an ongoing monthly recurring charge dependent on the capacity the customer purchases.
Internet Connectivity Services. Customers who are installing equipment in our IBX centers generally require IP connectivity or bandwidth services. Although many large customers prefer to contract directly with carriers, we offer customers the ability to contract for these services through us from any of the major bandwidth providers in that center. This service, which is provided in our Asia-Pacific region, is targeted to customers who require a single bill and a single point of support for their entire services contract through Equinix for their bandwidth needs. Internet connectivity services are priced with an initial installation fee and an ongoing monthly recurring charge based on the amount of bandwidth committed.
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Managed IT Infrastructure Services
With the continued growth in Internet use, networks, service providers, enterprises and content providers are challenged to deliver fast and reliable service, while lowering costs. With over 300 Internet Service Providers (ISPs) and carriers located in our IBX centers, we leverage the value of network choice with our set of multi-network management and other outsourced IT services.
Professional Services. Our IBX centers are staffed with Internet and telecommunications specialists who are on-site and/or available 24 hours a day, 365 days a year. These professionals are trained to perform installations of customer equipment and cabling. Professional services are custom-priced depending on customer requirements.
Smart Hands Services. Our customers can take advantage of our professional “Smart Hands” service, which gives customers access to our IBX center staff for a variety of tasks, when their own staff is not on site. These tasks may include equipment rebooting, power cycling, card swapping and performing emergency equipment replacement. Services are available on-demand or by customer contract and are priced on an hourly basis.
Equinix Direct. Equinix Direct is a managed multi-homing service that allows customers to easily provision and manage multiple network connections over a single interface. Customers can choose branded networks on a monthly basis with no minimums or long-term commitments. This service is priced with an initial installation fee and ongoing monthly recurring charges, depending on the bandwidth used by the customer.
Sales and Marketing
Sales. We use a direct sales force and channel marketing program to market our services to global enterprises, content providers, financial companies and network service providers. We organize our sales force by customer type as well as by establishing a sales presence in diverse geographic regions, which enables efficient servicing of the customer base from a network of regional offices. In addition to our worldwide headquarters located in Silicon Valley, we have established an Asia-Pacific regional headquarters in Hong Kong, and a European regional headquarters in London. Our U.S. sales offices are located in Boston, Chicago, Los Angeles, New York, Reston, Virginia and Silicon Valley. Our Asia-Pacific sales offices are located in Hong Kong, Singapore, Sydney and Tokyo. Our European sales offices are located in Amsterdam, Dusseldorf, Frankfurt, Geneva, London, Munich, Paris and Zurich.
Our sales team works closely with each customer to foster the natural network effect of our IBX model, resulting in access to a wider potential customer base via our existing customers. As a result of the IBX interconnection model, IBX center participants encourage their customers, suppliers and business partners to also locate in our IBX centers. These customers, suppliers and business partners, in turn, encourage their business partners to locate in our IBX centers resulting in additional customer growth. This network effect significantly reduces our new customer acquisition costs. In addition, large network providers or managed service providers may refer customers to Equinix as a part of their total customer solution.
Marketing. To support our sales effort and to actively promote our brand in the U.S., Asia-Pacific and Europe, we conduct comprehensive marketing programs. Our marketing strategies include an active public relations campaign and ongoing customer communications programs. Our marketing efforts are focused on major business and trade publications, online media outlets, industry events and sponsored activities. Our staff holds leadership positions in key networking organizations and we participate in a variety of Internet, computer and financial industry conferences, placing our officers and employees in keynote speaking engagements at these conferences. We also regularly measure customer satisfaction levels and host key customer forums to ensure customer needs are understood and incorporated in product and service planning efforts. From a brand perspective, we build recognition through sponsoring or leading industry technical forums and participating in Internet industry standard-setting bodies. We continue to develop and host industry educational forums focused on peering technologies and practices for ISPs and content providers.
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Our Competition
Our current and potential competition includes:
| • | Internet data centers operated by established communications carriers such as at&t, COLT, Level 3, NTT, Qwest, SAVVIS, SingTel and Verizon Business. Unlike the major network providers, who constructed data centers primarily to help sell bandwidth, we have aggregated multiple networks in centralized locations, designed to provide superior diversity, bandwidth, pricing and performance for our customers. Telecommunications companies’ data centers generally only provide one choice of carrier and target customers with high managed services needs as part of their pricing structures. Locating in our IBX centers provides access to top tier networks and allows customers to negotiate prices with a number of carriers, resulting in better economics and redundancy for our customers. Because telecom carriers are not network-neutral, we believe we have a competitive advantage over these carriers because access to their networks is also available in our IBX centers. |
| • | Network access points (NAPs) and/or network-neutral colocation providers such as Global Switch, Interxion, Switch and Data and TelecityGroup. NAPs, generally operated by carriers, are typically older facilities that often cannot scale with traffic growth. In contrast, we provide state-of-the-art, secure centers and geographic diversity with 24-hour support and a full range of network and content provider interconnection offerings along with certain other network-neutral colocation providers. Other network-neutral colocation providers lack the ability to serve key global markets. For example, Equinix is the only network-neutral colocation provider with a presence in all of the top 10 major financial markets in the world. |
| • | Vertically integrated website hosting, colocation and ISP companies such as at&t, SAVVIS, Verizon Business and Vericenter. Most managed service providers require that customers purchase their entire network and managed services directly from them. We are a network and service provider aggregator and allow customers the ability to contract directly with the networks and webhosting partners located in our IBX centers that are best-suited for their business. By locating in one of our IBX centers, hosting companies increase our value and business proposition by bringing in more partners and customers and thus enhancing the network effect in our IBX centers. |
| • | Real Estate Investment Trusts (REITs) such as Digital Realty Trust and DuPont Fabros. Some REITs have leased or started building data centers focused on meeting the outsourced data center needs of wholesale, or very large, customer deployments. These centers primarily provide space and power without additional services. These customers are not typically suited to the Equinix model as we focus on a large number of diverse customers on a per IBX center basis thereby creating a network effect for customers and maximizing the financial returns on a per site basis. |
| • | Private data centers operated by companies requiring significant colocation space such as AOL, Google and Microsoft. Certain companies require significant colocation space to run their Internet operations. Certain of these companies, with a large need for raw space, have opted to build their own private data centers in areas that are often less expensive than the network-rich metropolitan areas in which our IBX centers are located. While many of these companies maintain a presence in our IBX centers for interconnection purposes, the majority of their basic colocation needs are met by these private centers. Due to the large footprints required by these customers, they are not target customers of Equinix. |
Unlike other providers whose core businesses are bandwidth or managed services, we focus on neutral interconnection hubs for content providers, financial companies and global enterprises. As a result, we are free of the channel conflict common at other hosting/colocation companies. We compete based on the quality of our IBX centers, our ability to provide a one-stop solution in our U.S., European and Asia-Pacific locations, the performance and diversity of our network-neutral strategy and the economic benefits of the aggregation of top networks and Internet businesses under one roof. Specifically, we have established relationships with a number of leading hosting companies such as IBM (our largest customer) and others. We expect the industry to continue
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to benefit from several industry trends including the consolidation of supply in the colocation market, the need for contracting with multiple networks due to the uncertainty in the telecommunications market, customers’ increasing power requirements, enterprise customers’ growth in outsourcing and the continued growth of broadband.
Our Business Segment Financial Information
We currently operate in three reportable segments, comprised of our U.S., Europe and Asia-Pacific geographic regions. Information attributable to each of our reportable segments is set forth in Note 16 of Notes to Consolidated Financial Statements in Item 8 of this Annual Report on Form 10-K.
Employees
As of December 31, 2008, we had 1,115 employees. We had 646 employees based in the U.S., 279 employees based in Europe and 190 employees based in Asia-Pacific. Of those employees, 508 were in engineering and operations, 179 were in sales and marketing and 428 were in management, finance and administration.
Available Information
We were incorporated in Delaware in June 1998. We are required to file reports under the Securities Exchange Act of 1934, as amended, with the Securities and Exchange Commission. You may read and copy our materials on file with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington, DC 20549. You may obtain information regarding the SEC’s Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC also maintains an Internet website at http://www.sec.gov that contains reports, proxy and information statements and other information.
You may also obtain copies of our annual report on Form 10-K, our quarterly reports on Form 10-Q and our current reports on Form 8-K, and any amendments to such reports, free of charge by visiting the investor relations page on our website, www.equinix.com. These reports are available as soon as reasonably practical after we file them with the SEC. Information contained on our website is not part of this annual report on Form 10-K.
| ITEM 1A. | RISK FACTORS |
In addition to the other information contained in this report, the following risk factors should be considered carefully in evaluating our business and us:
Our substantial debt could adversely affect our cash flows and limit our flexibility to raise additional capital.
We have a significant amount of debt. As of December 31, 2008, our total indebtedness was approximately $1.2 billion, our stockholders’ equity was $892.7 million and our cash and investments totaled $307.9 million.
Our substantial amount of debt could have important consequences. For example, it could:
| • | require us to dedicate a substantial portion of our cash flow from operations to make payments on our debt, reducing the availability of our cash flow to fund future capital expenditures, working capital, execution of our expansion strategy and other general corporate requirements; |
| • | make it more difficult for us to satisfy our obligations under our various debt instruments; |
| • | increase our vulnerability to general adverse economic and industry conditions and adverse changes in governmental regulations; |
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| • | limit our flexibility in planning for, or reacting to, changes in our business and industry, which may place us at a competitive disadvantage compared with our competitors; |
| • | limit our ability to borrow additional funds, even when necessary to maintain adequate liquidity, which would also limit our ability to further expand our business; and |
| • | make us more vulnerable to increases in interest rates because of the variable interest rates on some of our borrowings to the extent we have not effectively hedged such variable rates. |
The occurrence of any of the foregoing factors could have a material adverse effect on our business, results of operations and financial condition. In addition, the performance of our stock price may trigger events that would require the write-off of a significant portion of our debt issuance costs related to our convertible debt, which may have a material adverse effect on our results of operations and financial condition.
In addition, of our total indebtedness as of December 31, 2008, $576.0 million was non-convertible senior debt (of which $251.7 million is with a single lender). Although these are committed facilities, virtually all of which are fully drawn or advanced for which we are amortizing debt repayments of either principal and/or interest only, and we are in full compliance with all covenants related to them effective December 31, 2008 (we amended certain provisions in connection with one of our financings related to certain financial covenants effective December 31, 2008), deteriorating market and liquidity conditions may give rise to issues which may impact the lenders’ ability to hold these debt commitments to their full term. Accordingly, these lenders of committed and drawn facilities may attempt to call this debt which would have a material adverse effect on our liquidity, even though no call provisions exist without being in default.
We may also need to refinance a portion of our outstanding debt as it matures. There is a risk that we may not be able to refinance existing debt or that the terms of any refinancing may not be as favorable as the terms of our existing debt. Furthermore, if prevailing interest rates or other factors at the time of refinancing result in higher interest rates upon refinancing, then the interest expense relating to that refinanced indebtedness would increase. These risks could adversely affect our financial condition, cash flows and results of operations.
If we are not able to generate sufficient operating cash flows or obtain external financing, our ability to fund incremental expansion plans may be limited.
Our capital expenditures, together with ongoing operating expenses and obligations to service our debt, will be a substantial drain on our cash flow and may decrease our cash balances. The capital markets are currently limited for external financing opportunities. Additional debt or equity financing, especially in the current credit-constrained climate, may not be available when needed or, if available, may not be available on satisfactory terms. Our inability to obtain needed debt and/or equity financing or to generate sufficient cash from operations may require us to prioritize projects or curtail capital expenditures which could adversely affect our results of operations.
The global financial crisis may have an impact on our business and financial condition in ways that we currently cannot predict.
The continued credit crisis and related turmoil in the global financial markets has had and may continue to have an impact on our business and our financial condition. For example, we are currently unable to access cash invested with the Reserve Primary Fund, a prime obligations money market fund that has suspended redemptions and is being liquidated. While the Company received periodic distributions from the Reserve in October and December of 2008, the Reserve continues to hold a portion of our investment balance. We had invested approximately $50.9 million in this fund, wrote-off $1.5 million and have received redemptions of approximately $40.2 million. The remaining balance still held at the Reserve had a fair value of approximately $9.2 million as of December 31, 2008. In February 2009, we received an additional distribution of $3.4 million from the Reserve. While we expect to receive substantially all of our remaining holdings in this fund within the next six
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months, we cannot predict when this will occur or the amount we will receive. Further, a number of litigation claims have been filed against the Reserve’s management which could potentially delay the timing and amount of the final distributions of the fund. If the litigation were to continue for an extended period of time it is possible that the Reserve management’s cost of defending these claims could also reduce the final amount of distribution to us. We do not believe that the current liquidity issues related to this fund will impact our ongoing business operations. However, if the current market conditions continue to deteriorate, we may suffer further losses on our investment portfolio, which could have a material adverse effect on our liquidity.
The global financial crisis could have a material adverse effect on our liquidity in other ways. Customer collections are our primary source of cash. While we believe we have a strong customer base and have experienced strong collections in the past, if the current market conditions continue to deteriorate some of our customers may begin to have difficulty paying us and we may experience increased churn in our customer base, including reductions in their commitments to us. For example, we have a number of large customers in the financial services sector which has been significantly impacted by the downturn. We may also be required to increase our allowance for doubtful accounts and our results would be negatively impacted. Our sales cycle could also be lengthened as customers slow spending, or delay decision-making, on our products and services, which could adversely affect our revenue growth. Finally, we could also experience pricing pressure as a result of economic conditions if our competitors lower prices and attempt to lure away our customers with lower cost solutions.
The credit crisis could also have an impact on our foreign exchange forward contract and interest rate swap hedging contracts if our counterparties are forced to file for bankruptcy or are otherwise unable to perform their obligations.
Finally, our ability to access the capital markets may be severely restricted at a time when we would like, or need, to do so, which could have an impact on our flexibility to pursue additional expansion opportunities and maintain our desired level of revenue growth in the future.
We are exposed to fluctuations in the market values of our portfolio investments and in interest rates; impairment of our investments could harm our results of operations.
We maintain an investment portfolio of various holdings, types and maturities, including money market funds and other short-term and long-term securities. These securities are classified as available-for-sale and, consequently, are recorded on our consolidated balance sheets at fair value with unrealized gains or losses as a separate component of accumulated other comprehensive income or loss. Our portfolio includes fixed income securities, the values of which are subject to market price volatility and changes in interest rates. If the market price declines, we may recognize in our statements of operations the decline in fair value of our investments below the cost basis when the decline is judged to be other-than-temporary. For information regarding the sensitivity of and risks associated with the market value of our portfolio and interest rates, refer to our discussion of our investment portfolio and interest rate risks in “Quantitative and Qualitative Disclosures About Market Risk” included in Part II, Item 7A of this Annual Report on Form 10-K.
Fluctuations in foreign currency exchange rates in the markets in which we operate internationally could harm our results of operations.
We may experience gains and losses resulting from fluctuations in foreign currency exchange rates. To date, the majority of our revenues and costs have been denominated in U.S. dollars; however, the majority of revenues and costs in our international operations have been denominated in foreign currencies. Where our prices are denominated in U.S. dollars, our sales could be adversely affected by declines in foreign currencies relative to the U.S. dollar, thereby making our products and services more expensive in local currencies. We are also exposed to risks resulting from fluctuations in foreign currency exchange rates in connection with our international expansions. To the extent we are paying contractors in foreign currencies, our expansions could cost more than
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anticipated from declines in the U.S dollar relative to foreign currencies. In addition, fluctuating foreign currency exchange rates have a direct impact on how our international results of operations translate into U.S. dollars.
Although we have in the past, and may decide in the future, to undertake foreign exchange hedging transactions to reduce foreign currency transaction exposure, we do not currently intend to eliminate all foreign currency transaction exposure. For example, while we hedge certain of our foreign currency assets and liabilities on our balance sheet, we do not hedge revenue. During fiscal 2007 and the first half of 2008, the U.S. dollar had been generally weaker relative to the currencies of the foreign countries in which we operate. This overall weakness of the U.S. dollar had a positive impact on our consolidated results of operations because the foreign denominations translated into more U.S. dollars. However, during the second half of 2008, the U.S. dollar strengthened relative to certain of the currencies of the foreign countries in which we operate. This significantly impacted our consolidated financial position and results of operations as amounts in foreign currencies are generally translating into less U.S. dollars. Further strengthening of the U.S. dollar would continue to have a significant impact on our consolidated financial position and results of operations including the amount of revenue that we report in future periods. For additional information on foreign currency risk, refer to our discussion of foreign currency risk in “Quantitative and Qualitative Disclosures About Market Risk” included in Part II, Item 7A of this Annual Report on Form 10-K.
Our products and services have a long sales cycle that may harm our revenues and operating results.
A customer’s decision to license cabinet space in one of our IBX centers and to purchase additional services typically involves a significant commitment of resources. In addition, some customers will be reluctant to commit to locating in our IBX centers until they are confident that the IBX center has adequate carrier connections. As a result, we have a long sales cycle. Furthermore, we may expend significant time and resources in pursuing a particular sale or customer that does not result in revenue.
The current economic downturn may further impact this long sales cycle by making it extremely difficult for customers to accurately forecast and plan future business activities. This could cause customers to slow spending, or delay decision-making, on our products and services, which would delay and lengthen our sales cycle.
Delays due to the length of our sales cycle may materially and adversely affect our revenues and operating results, which could harm our ability to meet our forecasts for a given quarter and cause volatility in our stock price.
We have incurred substantial losses in the past and may incur additional losses in the future.
As of December 31, 2008 our accumulated deficit was $427.1 million. Although we generated net income during 2008, our first full year of net income since our inception, we are also currently investing heavily in our future growth through the build-out of several additional IBX centers and IBX center expansions. As a result, we will incur higher depreciation and other operating expenses, as well as interest expense, that may negatively impact our ability to sustain profitability in future periods unless and until these new IBX centers generate enough revenue to exceed their operating costs and cover our additional overhead needed to scale our business for this anticipated growth. The current global financial crisis may also further add to our losses if we cannot generate sufficient revenue to offset the increased costs of our recently-opened IBX centers or IBX centers currently under construction. In addition, costs associated with the acquisition and integration of any acquired companies, as well as the additional interest expense associated with debt financing we have undertaken to fund our growth initiatives, may also negatively impact our ability to sustain profitability. Finally, given the competitive and evolving nature of the industry in which we operate, we may not be able to sustain or increase profitability on a quarterly or annual basis.
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We are continuing to invest in our expansion efforts but may not have sufficient customer demand in the future to realize expected returns on these investments.
We are considering the acquisition or lease of additional properties and the construction of new IBX centers beyond those expansion projects already announced. We will be required to commit substantial operational and financial resources to these IBX centers, generally 12 to 18 months in advance of securing customer contracts, and we may not have sufficient customer demand in those markets to support these centers once they are built. In addition, unanticipated technological changes could affect customer requirements for data centers and we may not have built such requirements into our new IBX centers. Either of these contingencies, if they were to occur, could make it difficult for us to realize expected or reasonable returns on these investments.
Our construction of additional new IBX centers could involve significant risks to our business.
In order to sustain our growth in certain of our existing and new markets, we must acquire suitable land with or without structures to build new IBX centers from the ground up. We call these “greenfield builds.” Greenfield builds are currently underway, or being contemplated, in several key markets. A greenfield build involves substantial planning and lead-time, much longer time to completion than an IBX retrofit of an existing data center, and significantly higher costs of construction, equipment and materials, which could have a negative impact on our returns. A greenfield build also requires us to carefully select and rely on the experience of one or more general contractors and associated subcontractors during the construction process. Should a general contractor or significant subcontractor experience financial or other problems during the construction process, we could experience significant delays, increased costs to complete the project and other negative impacts to our expected returns. Site selection is also a critical factor in our expansion plans, and there may not be suitable properties available in our markets with the necessary combination of high power capacity and fiber connectivity.
While we may prefer to locate new IBX centers adjacent to our existing locations, we may be limited by the inventory and location of suitable properties as well as by the need for adequate power and fiber to the site. In the event we decide to build new IBX centers separate from our existing IBX centers, we may provide services to interconnect these two centers. Should these services not provide the necessary reliability to sustain service, this could result in lower interconnection revenue and lower margins and could have a negative impact on customer retention over time.
Any failure of our physical infrastructure or services could lead to significant costs and disruptions that could reduce our revenue and harm our business reputation and financial results.
Our business depends on providing customers with highly reliable service. We must protect our customers’ IBX infrastructure and their equipment located in our IBX centers. We continue to acquire IBX centers not built by us. If we discover that these IBX centers and their infrastructure assets are not in the condition we expected when they were acquired, we may be required to incur substantial additional costs to repair or upgrade the centers. The services we provide in each of our IBX centers are subject to failure resulting from numerous factors, including:
| • | human error; |
| • | equipment failure; |
| • | physical or electronic security breaches; |
| • | fire, earthquake, flood, tornados and other natural disasters; |
| • | extreme temperatures; |
| • | water damage; |
| • | fiber cuts; |
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| • | power loss; |
| • | terrorist acts; |
| • | sabotage and vandalism; and |
| • | the failure of business partners who provide our resale products. |
Problems at one or more of our IBX centers, whether or not within our control, could result in service interruptions or significant equipment damage. We have service level commitment obligations to certain of our customers, including our significant customers. As a result, service interruptions or significant equipment damage in our IBX centers could result in difficulty maintaining service level commitments to these customers and potential claims related to such failures. Because our IBX centers are critical to many of our customers’ businesses, service interruptions or significant equipment damage in our IBX centers could also result in lost profits or other indirect or consequential damages to our customers. We cannot guarantee that a court would enforce any contractual limitations on our liability in the event that one of our customers brings a lawsuit against us as the result of a problem at one of our IBX centers.
We may incur significant liability to our customers in connection with a loss of power or our failure to meet other service level commitment obligations, or if we are held liable for a substantial damage award. In addition, any loss of service, equipment damage or inability to meet our service level commitment obligations could reduce the confidence of our customers and could consequently impair our ability to obtain and retain customers, which would adversely affect both our ability to generate revenues and our operating results.
Furthermore, we are dependent upon Internet service providers, telecommunications carriers and other website operators in the U.S., Asia-Pacific region, Europe and elsewhere, some of which have experienced significant system failures and electrical outages in the past. Users of our services may in the future experience difficulties due to system failures unrelated to our systems and services. If for any reason, these providers fail to provide the required services, our business, financial condition and results of operations could be materially and adversely impacted.
The market price of our stock may continue to be highly volatile, and the value of an investment in our common stock may decline.
Since January 1, 2008, the closing sale price of our common stock on the NASDAQ Global Select Market ranged from $35.14 to $100.75 per share. The market price of the shares of our common stock has been and may continue to be highly volatile. General economic and market conditions, and market conditions for telecommunications stocks in general, may affect the market price of our common stock.
Announcements by others or us may also have a significant impact on the market price of our common stock. These announcements may relate to:
| • | our operating results or forecasts; |
| • | new issuances of equity, debt or convertible debt by us; |
| • | developments in our relationships with corporate customers; |
| • | announcements by our customers or competitors; |
| • | changes in regulatory policy or interpretation; |
| • | governmental investigations; |
| • | changes in the ratings of our stock by securities analysts; |
| • | our purchase or development of real estate and/or additional IBX centers; |
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| • | acquisitions by us of complementary businesses; or |
| • | the operational performance of our IBX centers. |
The stock market has from time to time experienced extreme price and volume fluctuations, which have particularly affected the market prices for emerging telecommunications companies, and which have often been unrelated to their operating performance. These broad market fluctuations may adversely affect the market price of our common stock.
We expect our operating results to fluctuate.
We have experienced fluctuations in our results of operations on a quarterly and annual basis. The fluctuations in our operating results may cause the market price of our common stock to be volatile. We expect to experience significant fluctuations in our operating results in the foreseeable future due to a variety of factors, including, but not limited to:
| • | fluctuations of foreign currencies in the markets in which we operate; |
| • | the timing and magnitude of capital expenditures, financing or other expenses related to the acquisition, purchase or construction of additional IBX centers or the upgrade of existing IBX centers; |
| • | demand for space, power and services at our IBX centers; |
| • | changes in general economic conditions, such as the current economic downturn, and specific market conditions in the telecommunications and Internet industries, both of which may have an impact on our customer base; |
| • | costs associated with the write-off or exit of unimproved or underutilized property, or the reversal of prior exit costs due to a change in strategy; |
| • | charges to earnings resulting from past acquisitions due to, among other things, impairment of goodwill or intangible assets, reduction in the useful lives of intangible assets acquired, identification of additional assumed contingent liabilities or revised estimates to restructure an acquired company’s operations; |
| • | the duration of the sales cycle for our services; |
| • | restructuring charges or reversals of existing restructuring charges, which may be necessary due to revised sublease assumptions, changes in strategy or otherwise; |
| • | acquisitions or dispositions we may make; |
| • | the financial condition and credit risk of our customers; |
| • | the provision of customer discounts and credits; |
| • | the mix of current and proposed products and services and the gross margins associated with our products and services; |
| • | the timing required for new and future centers to open or become fully utilized; |
| • | competition in the markets in which we operate; |
| • | conditions related to international operations; |
| • | increasing repair and maintenance expenses in connection with aging IBX centers; |
| • | lack of available capacity in our existing IBX centers to generate new revenue or delays in opening up new or acquired IBX centers that delay our ability to generate new revenue in markets which have otherwise reached capacity; |
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| • | changes in rent expense as we amend our IBX center leases in connection with extending their lease terms when their initial lease term expiration dates approach; |
| • | the timing and magnitude of other operating expenses, including taxes, expenses related to the expansion of sales, marketing, operations and acquisitions, if any, of complementary businesses and assets; |
| • | the cost and availability of adequate public utilities, including power; |
| • | changes in employee stock-based compensation; |
| • | changes in income tax benefit or expense; and |
| • | changes in or new generally accepted accounting principles (GAAP) in the U.S. as periodically released by the Financial Accounting Standards Board (FASB). |
Any of the foregoing factors, or other factors discussed elsewhere in this report, could have a material adverse effect on our business, results of operations and financial condition. Although we have experienced growth in revenues in recent quarters, this growth rate is not necessarily indicative of future operating results. Prior to 2008, we had generated net losses every fiscal year since inception. It is possible that we may not be able to generate positive net income on a quarterly or annual basis in the future. In addition, a relatively large portion of our expenses are fixed in the short-term, particularly with respect to lease and personnel expenses, depreciation and amortization and interest expenses. Therefore, our results of operations are particularly sensitive to fluctuations in revenues. As such, comparisons to prior reporting periods should not be relied upon as indications of our future performance. In addition, our operating results in one or more future quarters may fail to meet the expectations of securities analysts or investors. If this occurs, we could experience an immediate and significant decline in the trading price of our stock.
We are exposed to potential risks from legislation requiring companies to evaluate controls under Section 404 of the Sarbanes-Oxley Act of 2002.
Although we received an unqualified opinion regarding the effectiveness of our internal controls over financial reporting as of December 31, 2008, in the course of our ongoing evaluation of our internal controls over financial reporting we have identified certain areas which we would like to improve and are in the process of evaluating and designing enhanced processes and controls to address these areas identified during our evaluation, none of which we believe constitutes a material change. However, we cannot be certain that our efforts will be effective or sufficient for us, or our independent registered public accounting firm, to issue unqualified reports in the future, especially as our business continues to grow and evolve.
Our ability to manage our operations and growth will require us to improve our operational, financial and management controls, as well as our internal reporting systems and controls. We may not be able to implement improvements to our internal reporting systems and controls in an efficient and timely manner and may discover deficiencies in existing systems and controls. Any such deficiencies could result in material misstatements in our consolidated financial statements.
If we cannot effectively manage our international operations, and successfully implement our international expansion plans, our revenues may not increase and our business and results of operations would be harmed.
For the years ended December 31, 2008, 2007 and 2006, we recognized 37%, 23% and 14%, respectively, of our revenues outside the U.S.
To date, the neutrality of our IBX centers and the variety of networks available to our customers has often been a competitive advantage for us. In certain of our acquired IBX centers in the Asia-Pacific region the limited
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number of carriers available reduces that advantage. As a result, we may need to adapt our key revenue-generating services and pricing to be competitive in those markets. In addition, we are currently undergoing expansions or evaluating expansion opportunities in Europe and in the Asia-Pacific region. Undertaking and managing expansions in foreign jurisdictions may present unanticipated challenges to us.
Our international operations are generally subject to a number of additional risks, including:
| • | the costs of customizing IBX centers in foreign countries; |
| • | protectionist laws and business practices favoring local competition; |
| • | greater difficulty or delay in accounts receivable collection; |
| • | difficulties in staffing and managing foreign operations, including negotiating with foreign labor unions or workers’ councils; |
| • | political and economic instability; |
| • | fluctuations in currency exchange rates; |
| • | difficulties in repatriating funds from certain countries; |
| • | our ability to obtain, transfer, or maintain licenses required by governmental entities with respect to our business; |
| • | compliance with the Foreign Corrupt Practices Act; and |
| • | compliance with evolving governmental regulation with which we have little experience. |
The increased use of high power density equipment may limit our ability to fully utilize our IBX centers.
Customers are increasing their use of high-density electrical power equipment, such as blade servers, in our IBX centers which has significantly increased the demand for power on a per cabinet basis. Because many of our IBX centers were built a number of years ago, the current demand for electrical power may exceed the designed electrical capacity in these centers. As electrical power, not space, is typically the limiting factor in our IBX centers, our ability to fully utilize those IBX centers may be limited. The availability of sufficient power may also pose a risk to the successful operation of our new IBX centers. The ability to increase the power capacity of an IBX center, should we decide to, is dependent on several factors including, but not limited to, the local utility’s ability to provide additional power; the length of time required to provide such power; and/or whether it is feasible to upgrade the electrical infrastructure of an IBX center to deliver additional power to customers. Although we are currently designing and building to a much higher power specification, there is a risk that demand will continue to increase and our IBX centers could become obsolete sooner than expected.
Acquisitions present many risks, and we may not realize the financial or strategic goals that were contemplated at the time of any transaction.
Over the last several years we have completed several acquisitions (including our acquisitions of IXEurope plc in 2007 and Virtu Secure Webservices B.V. in 2008) and we may make additional acquisitions in the future. These acquisitions may include acquisitions of businesses, products, services or technologies that we believe to be complementary, as well as acquisitions of new IBX centers or real estate for development of new IBX centers. We may pay for future acquisitions by using our existing cash resources (which may limit other potential uses of our cash), incurring additional debt (which may increase our interest expense, leverage and debt service requirements) and/or issuing shares (which may dilute our existing stockholders and have a negative effect on our earnings per share). Acquisitions expose us to several potential risks, including:
| • | the possible disruption of our ongoing business and diversion of management’s attention by acquisition, transition and integration activities; |
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| • | our potential inability to successfully pursue or realize some or all of the anticipated revenue opportunities associated with an acquisition, some of which would be anticipated in any purchase price; |
| • | the possibility that we may not be able to successfully integrate acquired businesses or achieve anticipated operating efficiencies or cost savings; |
| • | the possibility of customer dissatisfaction if we are unable to achieve levels of quality and stability on par with past practices; |
| • | the possibility that our customers may not accept either the existing equipment infrastructure or the “look-and-feel” of a new or different IBX center; |
| • | the possibility that additional capital expenditures may be required; |
| • | the possible loss or reduction in value of acquired businesses; |
| • | the possibility that carriers may find it cost-prohibitive or impractical to bring fiber and networks into a new IBX center; |
| • | the possibility of litigation or other claims in connection with or as a result of an acquisition, including claims from terminated employees, customers, former stockholders or other third parties; and |
| • | the possibility of pre-existing undisclosed liabilities, including but not limited to environmental or asbestos liability, for which insurance coverage may be insufficient or unavailable. |
The occurrence of any of these risks could have a material adverse effect on our business, results of operations, financial condition or cash flows.
We cannot assure you that the price for any future acquisitions of IBX centers will be similar to prior IBX center acquisitions. In fact, we expect acquisition costs, including capital expenditures required to build or render new IBX centers operational, to increase in the future. If our revenue does not keep pace with these potential acquisition and expansion costs, we may not be able to maintain our current or expected margins as we absorb these additional expenses. There is no assurance we would successfully overcome these risks or any other problems encountered with these acquisitions.
Our business could be harmed by prolonged electrical power outages or shortages, increased costs of energy or general lack of availability of electrical resources.
Our IBX centers are susceptible to regional costs of power, electrical power shortages, planned or unplanned power outages and limitations, especially internationally, on the availability of adequate power resources.
Power outages, such as those that occurred in California during 2001, the Northeast in 2003, and from the tornados on the U.S. east coast in 2004, could harm our customers and our business. We attempt to limit exposure to system downtime by using backup generators and power supplies; however, we may not be able to limit our exposure entirely even with these protections in place, as was the case with the power outages we experienced in our Chicago and Washington, D.C. metro area IBX centers in 2005 and London metro area IBX centers in 2007.
In addition, global fluctuations in the price of power can increase the cost of energy, and although contractual price increase clauses exist in the majority of our customer agreements, we may not always choose to pass these increased costs on to our customers.
In each of our markets, we rely on third parties to provide a sufficient amount of power for current and future customers. At the same time, power and cooling requirements are growing on a per unit basis. As a result, some customers are consuming an increasing amount of power per cabinet. We generally do not control the amount of electric power our customers draw from their installed circuits. This means that we could face power
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limitations in our centers. This could have a negative impact on the effective available capacity of a given center and limit our ability to grow our business, which could have a negative impact on our financial performance, operating results and cash flows.
We may also have difficulty obtaining sufficient power capacity for potential expansion sites in new or existing markets. We may experience significant delays and substantial increased costs demanded by the utilities to provide the level of electrical service required by our current IBX center designs.
We may be forced to take steps, and may be prevented from pursuing certain business opportunities, to ensure compliance with certain tax-related covenants agreed to by us.
We agreed to a covenant in connection with our combination with i-STT Pte Ltd and Pihana Pacific, Inc. in 2002 (which we refer to as the FIRPTA covenant) that we would use all commercially reasonable efforts to ensure that at all times from and after the closing of the combination none of our capital stock issued to STT Communications would constitute “United States real property interests” within the meaning of Section 897(c) of the Code. Under Section 897(c) of the Code, our capital stock issued to STT Communications would generally constitute “United States real property interests” at such point in time that the fair market value of the “United States real property interests” owned by us equals or exceeds 50% of the sum of the aggregate fair market values of (a) our “United States real property interests,” (b) our interests in real property located outside the United States and (c) any other assets held by us which are used or held for use in our trade or business. Currently, the fair market value of our “United States real property interests” is significantly below the 50% threshold. However, in order to ensure compliance with the FIRPTA covenant, we may be limited with respect to the business opportunities we may pursue, particularly if the business opportunities would increase the amounts of “United States real property interests” owned by us or decrease the amount of other assets owned by us. In addition, we may take proactive steps to avoid our capital stock being deemed a “United States real property interest,” including, but not limited to, (a) a sale-leaseback transaction with respect to some or all of our real property interests, or (b) the formation of a holding company organized under the laws of the Republic of Singapore which would issue shares of its capital stock in exchange for all of our outstanding stock (which would require the submission of that transaction to our stockholders for their approval and the consummation of that exchange). We will take these actions only if such actions are commercially reasonable for our stockholders and us. We have entered into an agreement with STT Communications and its affiliate pursuant to which we will no longer be bound by the FIRPTA covenant as of September 30, 2009. If we were to breach this covenant, we may be liable for damages to STT Communications.
Increases in property taxes could adversely affect our business, financial condition and results of operations.
Our IBX centers are subject to state and local real property taxes in the U.S. and certain of our foreign jurisdictions. The state and local real property taxes on our IBX centers may increase as property tax rates change and as the value of the properties are assessed or reassessed by taxing authorities. Many state and local governments are facing budget deficits, which may cause them to increase assessments or taxes. If property taxes increase, our business, financial condition and operating results could be adversely affected.
A small number of our stockholders has voting control over a substantial portion of our stock and has influence over matters requiring stockholder consent.
Several of our stockholders each hold voting control over greater than 10% of our outstanding common stock. In addition, these stockholders are not prohibited from buying shares of our stock in public or private transactions. As a result, each of these stockholders is able to exercise significant control over all matters requiring stockholder approval, including the election of directors and approval of significant corporate transactions, which could prevent or delay a third party from acquiring or merging with us.
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We have various mechanisms in place that may discourage takeover attempts.
Certain provisions of our certificate of incorporation and bylaws may discourage, delay or prevent a third party from acquiring control of us in a merger, acquisition or similar transaction that a stockholder may consider favorable. Such provisions include:
| • | authorization for the issuance of “blank check” preferred stock; |
| • | the prohibition of cumulative voting in the election of directors; |
| • | a super-majority voting requirement to effect business combinations or certain amendments to our certificate of incorporation and bylaws; |
| • | limits on the persons who may call special meetings of stockholders; |
| • | the prohibition of stockholder action by written consent; and |
| • | advance notice requirements for nominations to the Board or for proposing matters that can be acted on by stockholders at stockholder meetings. |
In addition, Section 203 of the Delaware General Corporation Law, which restricts certain business combinations with interested stockholders in certain situations, may also discourage, delay or prevent someone from acquiring or merging with us.
Environmental regulations may impose upon us new or unexpected costs.
We are subject to various environmental and health and safety laws and regulations, including those relating to the generation, storage, handling and disposal of hazardous substances and wastes. Certain of these laws and regulations also impose joint and several liability, without regard to fault, for investigation and cleanup costs on current and former owners and operators of real property and persons who have disposed of or released hazardous substances into the environment. Our operations involve the use of hazardous substances and materials such as petroleum fuel for emergency generators, as well as batteries, cleaning solutions and other materials. In addition, we lease, own or operate real property at which hazardous substances and regulated materials have been used in the past. At some of our locations, hazardous substances or regulated materials are known to be present in soil or groundwater and there may be additional unknown hazardous substances or regulated materials present at sites we own, operate or lease. At some of our locations, there are land use restrictions in place relating to earlier environmental cleanups that do not materially limit our use of the sites. To the extent any hazardous substances or any other substance or material must be cleaned up or removed from our property, we may be responsible under applicable laws, regulations or leases for the removal or cleanup of such substances or materials, the cost of which could be substantial.
In addition, we are subject to environmental, health and safety laws regulating air emissions, storm water management and other issues arising in our business. While these obligations do not normally impose material costs upon our operations, unexpected events, equipment malfunctions and human error, among other factors, can lead to violations of environmental laws, regulations or permits. Noncompliance with existing, or adoption of more stringent, environmental or health and safety laws and regulations or the discovery of previously unknown contamination could require us to incur costs or become the basis of new or increased liabilities that could be material.
Fossil fuel combustion creates greenhouse gas emissions that are linked to global climate change. Regulations to limit greenhouse gas emissions are in force in the European Union in an effort to prevent or reduce climate change. In the United States, federal proposals are expected to be introduced that would, if adopted, implement some form of regulation or taxation to reduce or mitigate greenhouse gas emissions. Several states within the United States have adopted laws intended to limit fossil fuel consumption and/or encourage renewable energy development for the same purpose. The proposals include a tax on carbon, a carbon
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“cap-and-trade” market, and/or other restrictions on carbon and greenhouse gas emissions. California’s Global Warming Solutions Act of 2006 established a statewide greenhouse gas emissions cap and will require mandatory emissions reporting. The area of greenhouse gas limitations and regulation is rapidly changing and will continue to change as additional legislation is considered and adopted, and regulations are finalized that implement existing law.
We do not anticipate being directly regulated by each of the potential or developing climate change-related laws and regulations, but the resulting controls on greenhouse gas emissions are likely to increase the costs of electricity or fossil fuels, and these cost increases could materially increase our costs of operation or limit the availability of electricity or emergency generator fuels. If laws reducing greenhouse gas emissions are passed or new regulations are implemented based on existing law, we may be required to modify our emergency power source systems, buildings or other infrastructure in order to comply, the cost of which could be substantial.
To the extent any of these environmental regulations impose new or unexpected costs, our business, results of operations or financial condition may be adversely affected.
We depend on a number of third parties to provide Internet connectivity to our IBX centers; if connectivity is interrupted or terminated, our operating results and cash flow could be materially and adversely affected.
The presence of diverse telecommunications carriers’ fiber networks in our IBX centers is critical to our ability to retain and attract new customers. We are not a telecommunications carrier, and as such we rely on third parties to provide our customers with carrier services. We believe that the availability of carrier capacity will directly affect our ability to achieve our projected results. We rely primarily on revenue opportunities from the telecommunications carriers’ customers to encourage them to invest the capital and operating resources required to connect from their centers to our IBX centers. Carriers will likely evaluate the revenue opportunity of an IBX center based on the assumption that the environment will be highly competitive. We cannot provide assurance that each and every carrier will elect to offer its services within our IBX centers or that once a carrier has decided to provide Internet connectivity to our IBX centers that it will continue to do so for any period of time. Further, many carriers are experiencing business difficulties or announcing consolidations. As a result, some carriers may be forced to downsize or terminate connectivity within our IBX centers, which could have an adverse effect on our operating results.
Our new IBX centers require construction and operation of a sophisticated redundant fiber network. The construction required to connect multiple carrier facilities to our IBX centers is complex and involves factors outside of our control, including regulatory processes and the availability of construction resources. If the establishment of highly diverse Internet connectivity to our IBX centers does not occur, is materially delayed or is discontinued, or is subject to failure, our operating results and cash flow will be adversely affected. Any hardware or fiber failures on this network may result in significant loss of connectivity to our new IBX center expansions. This could affect our ability to attract new customers to these IBX centers or retain existing customers.
We may be vulnerable to security breaches which could disrupt our operations and have a material adverse effect on our financial performance and operating results.
A party who is able to compromise the security measures on our networks or the security of our infrastructure could misappropriate either our proprietary information or the personal information of our customers, or cause interruptions or malfunctions in our operations. We may be required to expend significant capital and resources to protect against such threats or to alleviate problems caused by breaches in security. As techniques used to breach security change frequently, and are generally not recognized until launched against a target, we may not be able to implement security measures in a timely manner or, if and when implemented, whether these measures could be circumvented. Any breaches that may occur could expose us to increased risk
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of lawsuits, regulatory penalties, loss of existing or potential customers, harm to our reputation and increases in our security costs, which could have a material adverse effect on our financial performance and operating results.
A small number of customers account for a significant portion of our revenues, and the loss of any of these customers could significantly harm our business, financial condition and results of operations.
While no single customer accounted for 10% or more of our revenues for the years ended December 31, 2008, 2007 and 2006, our top 10 customers accounted for approximately 20%, 23% and 25%, respectively, of our revenues during these periods. We expect that a small percentage of our customers will continue to account for a significant portion of our revenues for the foreseeable future. We cannot guarantee that we will retain these customers or that they will maintain their commitments in our IBX centers at current levels. If we lose any of these key customers, or if any of them decide to reduce the level of their commitment to us, our business, financial condition and results of operations could be adversely affected.
We resell products and services of third parties that may require us to pay for such products and services even if our customers fail to pay us for them, which may have a negative impact on our operating results.
In order to provide resale services such as bandwidth, managed services and other network management services, we contract with third party service providers. These services require us to enter into fixed term contracts for services with third party suppliers of products and services. If we experience the loss of a customer who has purchased a resale product, we may remain obligated to continue to pay our suppliers for the term of the underlying contracts. The payment of these obligations without a corresponding payment from customers will reduce our financial resources and may have a material adverse effect on our operating and financial results and cash flows.
We have government customers, which subjects us to risks including early termination, audits, investigations, sanctions and penalties.
We derive some revenues from contracts with the U.S. government, state and local governments and their respective agencies. Some of these customers may terminate all or part of their contracts at any time, without cause.
There is increased pressure for governments and their agencies, both domestically and internationally, to reduce spending. Some of our federal government contracts are subject to the approval of appropriations being made by the U.S. Congress to fund the expenditures under these contracts. Similarly, some of our contracts at the state and local levels are subject to government funding authorizations.
Additionally, government contracts are generally subject to audits and investigations which could result in various civil and criminal penalties and administrative sanctions, including termination of contracts, refund of a portion of fees received, forfeiture of profits, suspension of payments, fines and suspensions or debarment from future government business.
We may not be able to compete successfully against current and future competitors.
Our IBX centers and other products and services must be able to differentiate themselves from those of other providers of space and services for telecommunications companies, webhosting companies and other colocation providers. In addition to competing with neutral colocation providers, we must compete with traditional colocation providers, including telecom companies, carriers, Internet service providers and webhosting facilities. Similarly, with respect to our other products and services, including managed services, bandwidth services and security services, we must compete with more established providers of similar services. Most of these companies have longer operating histories and significantly greater financial, technical, marketing and other resources than us.
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Because of their greater financial resources, some of our competitors have the ability to adopt aggressive pricing policies, especially if they have been able to restructure their debt or other obligations. As a result, in the future, we may suffer from pricing pressure that would adversely affect our ability to generate revenues and adversely affect our operating results. In addition, these competitors could offer colocation on neutral terms, and may start doing so in the same metropolitan areas in which we have IBX centers. Some of these competitors may also provide our target customers with additional benefits, including bundled communication services, and may do so in a manner that is more attractive to our potential customers than obtaining space in our IBX centers. If these competitors were able to adopt aggressive pricing policies together with offering colocation space, our ability to generate revenues may be materially and adversely affected.
We may also face competition from persons seeking to replicate our IBX center concept by building new IBX centers or converting existing IBX centers that some of our competitors are in the process of divesting. We may continue to see increased competition for data center space and customers from large REITS who also operate in our market. We may experience competition from our landlords, some of which are REITS, in this regard. Rather than leasing available space in our buildings to large single tenants, they may decide to convert the space instead to smaller square foot units designed for multi-tenant colocation use. Landlords/REITS may enjoy a cost effective advantage in providing services similar to those provided by our IBX centers, and in addition to the risk of losing customers to these parties this could also reduce the amount of space available to us for expansion in the future. Competitors may operate more successfully or form alliances to acquire significant market share. Furthermore, enterprises that have already invested substantial resources in outsourcing arrangements may be reluctant or slow to replace, limit or compete with their existing systems by becoming a customer. Customers may also decide it is cost effective for them to build out their own data centers which could have a negative impact on our results of operations. In addition, other companies may be able to attract the same potential customers that we are targeting. Once customers are located in competitors’ facilities, it may be extremely difficult to convince them to relocate to our IBX centers.
Because we depend on the retention of key employees, failure to maintain competitive compensation packages, including equity incentives, may be disruptive to our business.
Our success in retaining key employees and discouraging them from moving to a competitor is an important factor in our ability to remain competitive. As is common in our industry, our employees are typically compensated through grants of equity awards in addition to their regular salaries. In addition to granting equity awards to selected new hires, we periodically grant new equity awards to certain employees as an incentive to remain with us. To the extent we are unable to offer competitive compensation packages to our employees and adequately maintain equity incentives due to equity expensing or otherwise, and should employees decide to leave us, this may be disruptive to our business and may adversely affect our business, financial condition and results of operations.
Because we depend on the development and growth of a balanced customer base, failure to attract and retain this base of customers could harm our business and operating results.
Our ability to maximize revenues depends on our ability to develop and grow a balanced customer base, consisting of a variety of companies, including global enterprises, content providers, financial companies, and network service providers. The more balanced the customer base within each IBX center, the better we will be able to generate significant interconnection revenues, which in turn increases our overall revenues. Our ability to attract customers to our IBX centers will depend on a variety of factors, including the presence of multiple carriers, the mix of products and services offered by us, the overall mix of customers, the IBX center’s operating reliability and security and our ability to effectively market our services. However, some of our customers are, and are likely to continue to be, Internet companies that face many competitive pressures and that may not ultimately be successful. If these customers do not succeed, they will not continue to use the IBX centers which may be disruptive to our business. Finally, the current economic downturn may harm our ability to attract and retain customers if customers slow spending, or delay decision-making, on our products and services or if
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customers begin to have difficulty paying us and we experience increased churn in our customer base. Any of these factors may hinder the development and growth of a balanced customer base and adversely affect our business, financial condition and results of operations.
The failure to obtain favorable terms when we renew our IBX center leases could harm our business and results of operations.
While we own certain of our IBX centers, others are leased under long-term arrangements with lease terms expiring at various dates ranging from 2009 to 2027. These leased centers have all been subject to significant development by us in order to convert them from, in most cases, vacant buildings or warehouses into IBX centers. All of our IBX center leases have renewal options available to us. However, these renewal options provide for rent set at then-prevailing market rates. To the extent that then-prevailing market rates are higher than present rates, these higher costs may adversely impact our business and results of operations.
We are subject to securities class action and other litigation, which may harm our business and results of operations.
During the quarter ended September 30, 2001, putative shareholder class action lawsuits were filed against us, a number of our officers and directors, and several investment banks that were underwriters of our initial public offering. Similar complaints were filed against more than 300 other issuers, their officers and directors, and investment banks. The suits allege that the underwriter defendants agreed to allocate stock in our initial public offering to certain investors in exchange for excessive and undisclosed commissions and agreements by those investors to make additional purchases in the aftermarket at pre-determined prices. Plaintiffs allege that the prospectus for our initial public offering was false and misleading and in violation of the securities laws because it did not disclose these arrangements. A previously agreed upon settlement with the plaintiffs has been terminated. On August 14, 2007, the plaintiffs filed amended complaints in six cases selected as test, or “focus,” cases and moved for class certification on September 27, 2007. On October 10, 2008, at the request of Plaintiffs, Plaintiffs’ motion for class certification was withdrawn, without prejudice. The parties in the approximately 300 coordinated class actions, including Equinix, the underwriter defendants in the Equinix class action, and the plaintiffs in the Equinix class action, have reached an agreement in principle under which the insurers for the issuer defendants in the coordinated cases will make the settlement payment on behalf of the issuers, including Equinix. The settlement is subject to approval by the parties and is also subject to Court approval.
On August 22, 2008, a complaint was filed against Equinix, certain former officers and directors of Pihana Pacific, Inc. (“Pihana”), certain investors in Pihana, and others. The lawsuit was filed in the First Circuit Court of the State of Hawaii, and arises out of December 2002 agreements pursuant to which Equinix merged Pihana and i-STT (a subsidiary of Singapore Technologies Telemedia Pte Ltd) into the internet exchange services business of Equinix. Plaintiffs, who were allegedly holders of Pihana common stock, allege that their rights as shareholders were violated, and the transaction was effectuated improperly, by Pihana’s majority shareholders, officers and directors, with the alleged assistance of Equinix and others. Among other things, plaintiffs contend that they effectively had a right to block the transaction, that this supposed right was disregarded, and that they improperly received no consideration when the deal was completed. The complaint seeks to recover unspecified punitive damages, equitable relief, fees and costs, and compensatory damages in an amount that plaintiffs allegedly “believe may be all or a substantial portion of the approximately $725 million value of Equinix held by Defendants” (a group that includes more than 30 individuals and entities). An amended complaint, which adds new plaintiffs (other alleged holders of Pihana common stock), but is otherwise substantially similar to the original pleading, was filed on September 29, 2008 (the “Amended Complaint”). On October 13, 2008, a complaint was filed by another purported holder of Pihana common stock, naming the same defendants and asserting substantially similar allegations as the August 22, 2008 and September 29, 2008 pleadings. On December 12, 2008, the court entered a stipulated order, which consolidated the two actions under one case number and set January 22, 2009 as the last day for Defendants to move to dismiss or otherwise respond to the Amended Complaint, the operative complaint in this case. On January 22, 2009, motions to dismiss the Amended
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Complaint were filed by Equinix and other Defendants. The court has not yet ruled on any of the motions to dismiss. We believe that plaintiffs’ claims and alleged damages are without merit and we intend to defend the litigation vigorously.
Due to the inherent uncertainties of litigation, we cannot accurately predict the ultimate outcomes of the above matters or whether such outcomes would have a material impact on our business, results of operations, financial condition or cash flows.
We continue to participate in the defense of the above matters, which may increase our expenses and divert management’s attention and resources. In addition, we may, in the future, be subject to other litigation. For example, securities class action litigation has often been brought against a company following periods of volatility in the market price of its securities. Any adverse outcome in litigation could seriously harm our business, results of operations, financial condition or cash flows.
We may not be able to protect our intellectual property rights.
We cannot assure that the steps taken by us to protect our intellectual property rights will be adequate to deter misappropriation of proprietary information or that we will be able to detect unauthorized use and take appropriate steps to enforce our intellectual property rights. We also are subject to the risk of litigation alleging infringement of third-party intellectual property rights. Any such claims could require us to spend significant sums in litigation, pay damages, develop non-infringing intellectual property, or acquire licenses to the intellectual property that is the subject of the alleged infringement.
If the use of the Internet does not continue to grow, our revenues may not grow.
Acceptance and use of the Internet may not continue to develop at historical rates. Demand for Internet services and products are subject to a high level of uncertainty and are subject to significant pricing pressure. As a result, we cannot be certain that a viable market for our IBX centers will be sustained. If the market for our IBX centers grows more slowly than we currently anticipate, our revenues may not grow and our operating results could suffer.
Government regulation may adversely affect the use of the Internet and our business.
Various laws and governmental regulations governing Internet related services, related communications services and information technologies and electronic commerce remain largely unsettled, even in areas where there has been some legislative action. This is true both in the U.S. and the various foreign countries in which we operate. It may take years to determine whether and how existing laws, such as those governing intellectual property, privacy, libel, telecommunications services and taxation, apply to the Internet and to related services such as ours. We have limited experience with such international regulatory issues and substantial resources may be required to comply with regulations or bring any non-compliant business practices into compliance with such regulations. In addition, the development of the market for online commerce and the displacement of traditional telephony service by the Internet and related communications services may prompt an increased call for more stringent consumer protection laws or other regulation both in the U.S. and abroad that may impose additional burdens on companies conducting business online and their service providers. The compliance with, adoption or modification of, laws or regulations relating to the Internet, or interpretations of existing laws, could have a material adverse effect on our business, financial condition and results of operation.
Industry consolidation may have a negative impact on our business model.
The telecommunications industry is currently undergoing consolidation. As customers combine businesses, they may require less colocation space, and there may be fewer networks available to choose from. Given the competitive and evolving nature of this industry, further consolidation of our customers and/or our competitors
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may present a risk to our network-neutral business model and have a negative impact on our revenues. In addition, increased utilization levels industry-wide could lead to a reduced amount of attractive expansion opportunities available to us.
Terrorist activity throughout the world and military action to counter terrorism could adversely impact our business.
The September 11, 2001 terrorist attacks in the U.S., the ensuing declaration of war on terrorism and the continued threat of terrorist activity and other acts of war or hostility contribute to a climate of political and economic uncertainty. Due to existing or developing circumstances, we may need to incur additional costs in the future to provide enhanced security, which would have a material adverse effect on our business and results of operations. These circumstances may also adversely affect our ability to attract and retain customers, our ability to raise capital and the operation and maintenance of our IBX centers. We may not have adequate property and liability insurance to cover catastrophic events or attacks.
| ITEM 1B. | UNRESOLVED STAFF COMMENTS |
There is no disclosure to report pursuant to Item 1B.
| ITEM 2. | PROPERTIES |
Our executive offices are located in Foster City, California, and we also have sales offices in several cities throughout the United States. Our Asia-Pacific headquarters office is located in Hong Kong and we also have office space in Singapore; Tokyo, Japan; and Sydney, Australia, which is operated out of our IBX center there. Our European headquarters office is located in London, U.K. and our regional sales offices in Europe are based in our IBX centers in Europe. We have entered into leases for certain of our IBX centers in Dallas, Texas; Chicago, Illinois; Los Angeles, San Jose, Santa Clara and Sunnyvale, California; Newark and Secaucus, New Jersey; Hong Kong; Singapore; Sydney, Australia; Tokyo, Japan; London, U.K.; Paris, France; Frankfurt, Munich and Dusseldorf, Germany; Zurich and Geneva, Switzerland and Enschede, Zwolle and Amsterdam, Netherlands. We own certain of our IBX centers in Ashburn, Virginia; Chicago, Illinois; Los Angeles and San Jose, California and Frankfurt, Germany. We own campuses in Ashburn, Virginia and Frankfurt, Germany that house some of our IBX centers mentioned in the preceding sentence.
| ITEM 3. | LEGAL PROCEEDINGS |
On July 30, 2001 and August 8, 2001, putative shareholder class action lawsuits were filed against us, certain of our officers and directors (the “Individual Defendants”), and several investment banks that were underwriters of our initial public offering (the “Underwriter Defendants”). The cases were filed in the United States District Court for the Southern District of New York. Similar lawsuits were filed against approximately 300 other issuers and related parties. These lawsuits have been coordinated before a single judge. The purported class action alleges violations of Sections 11 and 15 of the Securities Act of 1933 and Sections 10(b), Rule 10b-5 and 20(a) of the Securities Exchange Act of 1934 against us and the Individual Defendants. The plaintiffs have since dismissed the Individual Defendants without prejudice. The suits allege that the Underwriter Defendants agreed to allocate stock in our initial public offering to certain investors in exchange for excessive and undisclosed commissions and agreements by those investors to make additional purchases in the aftermarket at pre-determined prices. The plaintiffs allege that the prospectus for our initial public offering was false and misleading and in violation of the securities laws because it did not disclose these arrangements. The action seeks damages in an unspecified amount. On February 19, 2003, the Court dismissed the Section 10(b) claim against us, but denied the motion to dismiss the Section 11 claim. On December 5, 2006, the Second Circuit vacated a decision by the district court granting class certification in six “focus” cases, which are intended to serve as test cases. Plaintiffs selected these six cases, which do not include Equinix. On April 6, 2007, the Second Circuit denied a petition for rehearing filed by plaintiffs, but noted that plaintiffs could ask the district court to certify
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more narrow classes than those that were rejected. On August 14, 2007, plaintiffs filed amended complaints in the six focus cases. On September 27, 2007, plaintiffs moved to certify a class in the six focus cases. On November 14, 2007, the issuers and the underwriters named as defendants in the six focus cases moved to dismiss the amended complaints against them. On March 26, 2008, the district court dismissed the Section 11 claims of those members of the putative classes in the focus cases who sold their securities for a price in excess of the initial offering price and those who purchased outside the previously certified class period. With respect to all other claims, the motions to dismiss were denied. On October 10, 2008, at the request of the plaintiffs, plaintiffs’ motion for class certification was withdrawn, without prejudice.
The parties in the approximately 300 coordinated class actions, including Equinix, the underwriter defendants in the Equinix class action, and the plaintiffs in the Equinix class action, have reached an agreement in principle under which the insurers for the issuer defendants in the coordinated cases will make the settlement payment on behalf of the issuers, including Equinix. The settlement is subject to approval by the parties and is also subject to Court Approval.
Due to the inherent uncertainties of litigation, we cannot accurately predict the ultimate outcome of the matter. We are unable at this time to determine whether the outcome of the litigation would have a material impact on our results of operations, financial condition or cash flows. We intend to continue to defend the action vigorously.
On August 22, 2008, a complaint was filed against Equinix, certain former officers and directors of Pihana Pacific, Inc. (“Pihana”), certain investors in Pihana, and others. The lawsuit was filed in the First Circuit Court of the State of Hawaii, and arises out of December 2002 agreements pursuant to which Equinix merged Pihana and i-STT (a subsidiary of Singapore Technologies Telemedia Pte Ltd) into the internet exchange services business of Equinix. Plaintiffs, who were allegedly holders of Pihana common stock, allege that their rights as shareholders were violated, and the transaction was effectuated improperly, by Pihana’s majority shareholders, officers and directors, with the alleged assistance of Equinix and others. Among other things, plaintiffs contend that they effectively had a right to block the transaction, that this supposed right was disregarded, and that they improperly received no consideration when the deal was completed. The complaint seeks to recover unspecified punitive damages, equitable relief, fees and costs, and compensatory damages in an amount that plaintiffs allegedly “believe may be all or a substantial portion of the approximately $725.0 million value of Equinix held by Defendants” (a group that includes more than 30 individuals and entities). An amended complaint, which adds new plaintiffs (other alleged holders of Pihana common stock) but is otherwise substantially similar to the original pleading, was filed on September 29, 2008 (the “Amended Complaint”). On October 13, 2008, a complaint was filed in a separate action by another purported holder of Pihana common stock, naming the same defendants and asserting substantially similar allegations as the August 22, 2008 and September 29, 2008 pleadings. On December 12, 2008, the court entered a stipulated order, which consolidated the two actions under one case number and set January 22, 2009 as the last day for Defendants to move to dismiss or otherwise respond to the Amended Complaint, the operative complaint in this case. On January 22, 2009, motions to dismiss the Amended Complaint were filed by Equinix and other Defendants. The court has not yet ruled on any of the motions to dismiss. We believe that plaintiffs’ claims and alleged damages are without merit and we intend to defend the litigation vigorously.
Due to the inherent uncertainties of litigation, we cannot accurately predict the ultimate outcome of the matter. We are unable at this time to determine whether the outcome of the litigation would have a material impact on our results of operations, financial condition or cash flows.
| ITEM 4. | SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS |
None during the fourth quarter of the fiscal year ended December 31, 2008.
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| ITEM 5. | MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES |
Our common stock is quoted on the NASDAQ Global Select Market under the symbol of “EQIX.” Our common stock began trading in August 2000. The following table sets forth on a per share basis the low and high closing prices of our common stock as reported by the NASDAQ Global Select Market during the last two years.
| Low | High | |||||
| Fiscal 2008: |
||||||
| Fourth Fiscal Quarter |
$ | 35.14 | $ | 67.59 | ||
| Third Fiscal Quarter |
65.71 | 93.84 | ||||
| Second Fiscal Quarter |
69.31 | 100.75 | ||||
| First Fiscal Quarter |
57.78 | 99.62 | ||||
| Fiscal 2007: |
||||||
| Fourth Fiscal Quarter |
$ | 90.91 | $ | 116.66 | ||
| Third Fiscal Quarter |
81.91 | 96.99 | ||||
| Second Fiscal Quarter |
78.21 | 91.47 | ||||
| First Fiscal Quarter |
75.38 | 90.00 | ||||
As of January 31, 2009, we had issued 37,769,926 shares of our common stock outstanding held by approximately 242 registered holders.
We have never declared or paid any cash dividends on our common stock and we do not anticipate paying cash dividends in the foreseeable future. We currently intend to retain our earnings, if any, for future growth. Future dividends on our common stock, if any, will be at the discretion of our Board of Directors and will depend on, among other things, our operations, capital requirements and surplus, general financial condition, contractual restrictions and such other factors that our Board of Directors may deem relevant.
During the year ended December 31, 2008, we did not issue or sell any securities on an unregistered basis.
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Stock Performance Graph
The graph set forth below compares the cumulative total stockholder return on Equinix’s common stock between December 31, 2003 and December 31, 2008 with the cumulative total return of (i) The NASDAQ Composite Index and (ii) The NASDAQ Telecommunications Index. This graph assumes the investment of $100.00 on December 31, 2003 in Equinix’s common stock, in The NASDAQ Composite Index, and in The NASDAQ Telecommunications Index, and assumes the reinvestment of dividends, if any.
Equinix cautions that the stock price performance shown in the graph below is not indicative of, nor intended to forecast, the potential future performance of Equinix’s common stock.
Notwithstanding anything to the contrary set forth in any of Equinix’s previous or future filings under the Securities Act of 1933, as amended, or Securities Exchange Act of 1934, as amended, that might incorporate this Form 10-K or future filings made by Equinix under those statutes, the Stock Performance Graph shall not be deemed filed with the Securities and Exchange Commission and shall not be deemed incorporated by reference into any of those prior filings or into any future filings made by Equinix under those statutes.
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| ITEM 6. | SELECTED FINANCIAL DATA |
The following consolidated statement of operations data for the five years ended December 31, 2008 and the consolidated balance sheet data as of December 31, 2008, 2007, 2006, 2005 and 2004 have been derived from our audited consolidated financial statements and the related notes. Our historical results are not necessarily indicative of the results to be expected for future periods. The following selected consolidated financial data for the three years ended December 31, 2008 and as of December 31, 2008 and 2007, should be read in conjunction with our audited consolidated financial statements and the related notes in Item 8 of this Annual Report on Form 10-K and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 7 of this Annual Report on Form 10-K. In addition, in September 2007, we completed our acquisition of IXEurope plc, a significant acquisition. For further information on this acquisition, refer to Note 2 of our Notes to Consolidated Financial Statements in Item 8 of this Annual Report on Form 10-K.
| Years ended December 31, | ||||||||||||||||||||
| 2008 | 2007 | 2006 | 2005 | 2004 | ||||||||||||||||
| (dollars in thousands, except per share data) | ||||||||||||||||||||
| Consolidated Statement of Operations Data: |
||||||||||||||||||||
| Revenues |
$ | 704,680 | $ | 419,442 | $ | 286,915 | $ | 221,057 | $ | 163,671 | ||||||||||
| Costs and operating expenses: |
||||||||||||||||||||
| Cost of revenues |
414,659 | 263,745 | 188,379 | 158,354 | 136,950 | |||||||||||||||
| Sales and marketing |
66,913 | 40,719 | 32,619 | 20,552 | 18,604 | |||||||||||||||
| General and administrative |
146,564 | 105,794 | 72,123 | 45,110 | 32,494 | |||||||||||||||
| Restructuring charges |
3,142 | 407 | 1,527 | 33,814 | 17,685 | |||||||||||||||
| Gains on asset sales |
— | (1,338 | ) | (9,647 | ) | — | — | |||||||||||||
| Total costs and operating expenses |
631,278 | 409,327 | 285,001 | 257,830 | 205,733 | |||||||||||||||
| Income (loss) from operations |
73,402 | 10,115 | 1,914 | (36,773 | ) | (42,062 | ) | |||||||||||||
| Interest income |
7,413 | 15,406 | 6,627 | 3,584 | 1,291 | |||||||||||||||
| Interest expense |
(55,041 | ) | (27,334 | ) | (14,630 | ) | (8,905 | ) | (11,572 | ) | ||||||||||
| Other income (expense) |
1,307 | 3,047 | (245 | ) | 25 | 76 | ||||||||||||||
| Loss on debt extinguishment and conversion |
— | (5,949 | ) | — | — | (16,211 | ) | |||||||||||||
| Income tax benefit (expense) |
104,457 | (473 | ) | (439 | ) | (543 | ) | (153 | ) | |||||||||||
| Cumulative effect of a change in accounting principle |
— | — | 376 | — | — | |||||||||||||||
| Net income (loss) |
$ | 131,538 | $ | (5,188 | ) | $ | (6,397 | ) | $ | (42,612 | ) | $ | (68,631 | ) | ||||||
| Earnings per share: |
||||||||||||||||||||
| Basic |
$ | 3.58 | $ | (0.16 | ) | $ | (0.22 | ) | $ | (1.78 | ) | $ | (3.87 | ) | ||||||
| Weighted average shares—basic |
36,774 | 32,136 | 28,551 | 23,956 | 17,719 | |||||||||||||||
| Diluted |
$ | 3.31 | $ | (0.16 | ) | $ | (0.22 | ) | $ | (1.78 | ) | $ | (3.87 | ) | ||||||
| Weighted average shares—diluted |
43,728 | 32,136 | 28,551 | 23,956 | 17,719 | |||||||||||||||
| Other Financial Data: |
||||||||||||||||||||
| Net cash provided by operating activities |
$ | 267,558 | $ | 120,020 | $ | 75,412 | $ | 67,595 | $ | 36,912 | ||||||||||
| Net cash used in investing activities |
(486,724 | ) | (1,054,725 | ) | (158,470 | ) | (108,722 | ) | (56,865 | ) | ||||||||||
| Net cash provided by financing activities |
143,690 | 1,145,013 | 46,107 | 134,611 | 19,239 | |||||||||||||||
| As of December 31, | |||||||||||||||
| 2008 | 2007 | 2006 | 2005 | 2004 | |||||||||||
| (dollars in thousands) | |||||||||||||||
| Consolidated Balance Sheet Data: |
|||||||||||||||
| Cash, cash equivalents and short-term and long-term investments |
$ | 307,945 | $ | 383,900 | $ | 156,481 | $ | 188,855 | $ | 108,092 | |||||
| Accounts receivable, net |
66,029 | 60,089 | 26,864 | 17,237 | 11,919 | ||||||||||
| Property, plant and equipment, net |
1,488,402 | 1,162,720 | 546,395 | 438,790 | 343,361 | ||||||||||
| Total assets |
2,448,266 | 2,181,868 | 771,832 | 680,997 | 501,798 | ||||||||||
| Capital lease and other financing obligations, excluding current portion |
133,031 | 93,604 | 92,722 | 94,653 | 34,529 | ||||||||||
| Mortgage and loans payable, excluding current portion |
386,446 | 313,915 | 96,746 | 58,841 | — | ||||||||||
| Convertible debt, excluding current portion |
645,986 | 678,236 | 86,250 | 86,250 | 122,074 | ||||||||||
| Total stockholders’ equity |
892,715 | 814,432 | 355,028 | 288,673 | 273,706 | ||||||||||
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| ITEM 7. | MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |
The following commentary should be read in conjunction with the financial statements and related notes contained elsewhere in this Annual Report on Form 10-K. The information in this discussion contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Such statements are based upon current expectations that involve risks and uncertainties. Any statements contained herein that are not statements of historical fact may be deemed to be forward-looking statements. For example, the words “believes,” “anticipates,” “plans,” “expects,” “intends” and similar expressions are intended to identify forward-looking statements. Our actual results and the timing of certain events may differ significantly from the results discussed in the forward-looking statements. Factors that might cause such a discrepancy include, but are not limited to, those discussed in “Liquidity and Capital Resources” and “Risk Factors” elsewhere in this Annual Report on Form 10-K. All forward-looking statements in this document are based on information available to us as of the date hereof and we assume no obligation to update any such forward-looking statements.
Our management’s discussion and analysis of financial condition and results of operations is intended to assist readers in understanding our financial information from our management’s perspective and is presented as follows:
| • | Overview |
| • | Results of Operations |
| • | Liquidity and Capital Resources |
| • | Contractual Obligations and Off-Balance-Sheet Arrangements |
| • | Critical Accounting Estimates |
| • | Recent Accounting Pronouncements |
Overview
Equinix provides network-neutral colocation, interconnection and managed services to global enterprises, content providers, financial companies and the world’s largest network service providers. As of December 31, 2008, we operated IBX centers in the Chicago, Dallas, Los Angeles, New York, Silicon Valley and Washington, D.C. metro areas in the United States, France, Germany, the Netherlands, Switzerland and the United Kingdom in the Europe region, and Australia, Hong Kong, Japan and Singapore in the Asia-Pacific region. We entered the European region in September 2007 through our acquisition of IXEurope Plc, or IXEurope, headquartered in London, U.K. We refer to this transaction as the IXEurope acquisition. We then acquired Virtu Secure Webservices B.V., or Virtu, based in the Netherlands to supplement our European operations in February 2008. We refer to this transaction as the Virtu acquisition.
Direct interconnection to our aggregation of networks, which serve more than 90% of the world’s Internet routes, allows our customers to increase performance while significantly reducing costs. Based on our network-neutral model and the quality of our IBX centers, we believe we have established a critical mass of customers. As more customers locate in our IBX centers, it benefits their suppliers and business partners to do so as well to gain the full economic and performance benefits of direct interconnection. These partners, in turn, pull in their business partners, creating a “network effect” of customer adoption. Our interconnection services enable scalable, reliable and cost-effective interconnection and traffic exchange thus lowering overall cost and increasing flexibility. Our focused business model is based on our critical mass of customers and the resulting network effect. This critical mass and the resulting network effect, combined with our strong financial position, continue to drive new customer growth and bookings.
Historically, our market has been served by large telecommunications carriers who have bundled their telecommunications products and services with their colocation offerings. Each of these colocation providers own and operate a network. We do not own or operate a network, yet have greater than 300 networks operating
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out of our IBX centers. As a result, we are able to offer our customers a substantial choice of networks given our network neutrality thereby allowing our customers to choose from numerous network service providers. We believe this is a distinct and sustainable competitive advantage.
On a consolidated basis our customer count increased to 2,272, excluding the impact of the Virtu acquisition, as of December 31, 2008 versus 1,881 as of December 31, 2007, an increase of 21%. Including the impact of the Virtu acquisition, our customer count was 2,757 as of December 31, 2008, an increase of 47%. Our utilization rate represents the percentage of our cabinet space billing versus net sellable cabinet space available taking into account power limitations. Excluding the impact of the IXEurope and the Virtu acquisitions, our utilization rate increased to 81% as of December 31, 2008 versus 73% as of December 31, 2007; however, further excluding the impact of our IBX center expansion projects that have opened during the last 12 months, our utilization rate would have been 85% as of December 31, 2008. Our utilization rate varies from market to market among our IBX centers across the U.S., Europe and Asia-Pacific. We continue to monitor the available capacity in each of our selected markets. To the extent we have limited capacity available in a given market it may limit our ability for growth in that market. We perform demand studies on an ongoing basis to determine if future expansion is warranted in a market. In addition, power and cooling requirements for most customers are growing on a per unit basis. As a result, customers are consuming an increasing amount of power per cabinet. Although we generally do not control the amount of power our customers draw from installed circuits, we have negotiated power consumption limitations with certain of our high power demand customers. This increased power consumption has driven the requirement to build out our new IBX centers to support power and cooling needs twice that of previous IBX centers. We could face power limitations in our centers even though we may have additional physical cabinet capacity available within a specific IBX center. This could have a negative impact on the available utilization capacity of a given center, which could have a negative impact on our ability to grow revenues, affecting our financial performance, operating results and cash flows.
Strategically, we will continue to look at attractive opportunities to grow our market share and selectively improve our footprint and service offerings. As was the case with our recent expansions and acquisitions, our expansion criteria will be dependent on a number of factors such as demand from new and existing customers, quality of the design, power capacity, access to networks, capacity availability in current market location, amount of incremental investment required by us in the targeted property, lead-time to break-even and in-place customers. Like our recent expansions and acquisitions, the right combination of these factors may be attractive to us. Dependent on the circumstances, these transactions may require additional capital expenditures funded by upfront cash payments or through long-term financing arrangements in order to bring these properties up to Equinix standards. Property expansion may be in the form of purchases of real property, long-term leasing arrangements or acquisitions. Future purchases, construction or acquisitions may be completed by us or with partners or potential customers to minimize the outlay of cash, which can be significant.
Our business is based on a recurring revenue model comprised of colocation, interconnection and managed infrastructure services. We consider these services recurring as our customers are generally billed on a fixed and recurring basis each month for the duration of their contract, which is generally one to three years in length. Our recurring revenues comprise greater than 90% of our total revenues. Over the past few years, greater than half of our then existing customers ordered new services in any given quarter representing greater than half of the new orders received in each quarter, contributing to our revenue growth.
Our non-recurring revenues are primarily comprised of installation services related to a customer’s initial deployment and professional services that we perform. These services are considered to be non-recurring as they are billed typically once and upon completion of the installation or professional services work performed. The majority of these non-recurring revenues are typically billed on the first invoice distributed to the customer in connection with their initial installation. As a percentage of total revenues, we expect non-recurring revenues to represent less than 10% of total revenues for the foreseeable future.
Our U.S. revenues are derived primarily from colocation and interconnection services while our Europe and Asia-Pacific revenues are derived primarily from colocation and managed infrastructure services.
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The largest cost components of our cost of revenues are depreciation, rental payments related to our leased IBX centers, utility costs, including electricity and bandwidth, IBX center employees’ salaries and benefits, including stock-based compensation, repairs and maintenance, supplies and equipment and security services. A substantial majority of our cost of revenues is fixed in nature and should not vary significantly from period to period, unless we expand our existing IBX centers or open new IBX centers. However, there are certain costs which are considered more variable in nature, including utilities and supplies that are directly related to growth in our existing and new customer base. We expect the cost of our utilities, specifically electricity, will increase in the future on a per-unit or fixed basis in addition to the variable increase related to the growth of consumption by the customer. In addition, the cost of electricity is generally higher in the summer months as compared to other times of the year.
Sales and marketing expenses consist primarily of compensation and related costs for sales and marketing personnel, including stock-based compensation, sales commissions, marketing programs, public relations, promotional materials and travel, as well as bad debt expense and amortization of customer contract intangible assets.
General and administrative expenses consist primarily of salaries and related expenses, including stock-based compensation, accounting, legal and other professional service fees, and other general corporate expenses such as our corporate headquarters office lease and some depreciation expense.
Due to our recurring revenue model and a cost structure which has a large base that is fixed in nature and generally does not grow in proportion to revenue growth, we expect our cost of revenues, sales and marketing expenses and general and administrative expenses to decline as a percentage of revenue over time, although we expect each of them to grow in absolute dollars in connection to our growth. This is evident in the trends noted below in our discussion on our results of operations. However, for cost of revenues, this trend may periodically be impacted when a large expansion project opens and before it starts generating any meaningful revenue.
Results of Operations
Our results of operations for the year ended December 31, 2008 include the operations of Virtu from February 5, 2008 to December 31, 2008. Our results of operations for the year ended December 31, 2007 include the operations of IXEurope from September 14, 2007 to December 31, 2007, but do not include the operations of Virtu.
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Years Ended December 31, 2008 and 2007
Revenues. Our revenues for the years ended December 31, 2008 and 2007 were generated from the following revenue classifications and geographic regions (dollars in thousands):
| Years ended December 31, | Change | |||||||||||||||||
| 2008 | % | 2007 | % | $ | % | |||||||||||||
| U.S: |
||||||||||||||||||
| Recurring revenues |
$ | 425,964 | 61 | % | $ | 311,776 | 74 | % | $ | 114,188 | 37 | % | ||||||
| Non-recurring revenues |
16,839 | 2 | % | 13,102 | 3 | % | 3,737 | 29 | % | |||||||||
| 442,803 | 63 | % | 324,878 | 77 | % | 117,925 | 36 | % | ||||||||||
| Europe: |
||||||||||||||||||
| Recurring revenues |
165,931 | 23 | % | 35,309 | 9 | % | 130,622 | 370 | % | |||||||||
| Non-recurring revenues |
11,571 | 2 | % | 2,181 | 0 | % | 9,390 | 431 | % | |||||||||
| 177,502 | 25 | % | 37,490 | 9 | % | 140,012 | 373 | % | ||||||||||
| Asia-Pacific: |
||||||||||||||||||
| Recurring revenues |
$ | 78,192 | 11 | % | $ | 52,571 | 13 | % | $ | 25,621 | 49 | % | ||||||
| Non-recurring revenues |
6,183 | 1 | % | 4,503 | 1 | % | 1,680 | 37 | % | |||||||||
| 84,375 | 12 | % | 57,074 | 14 | % | 27,301 | 48 | % | ||||||||||
| Total: |
||||||||||||||||||
| Recurring revenues |
670,087 | 95 | % | 399,656 | 95 | % | 270,431 | 68 | % | |||||||||
| Non-recurring revenues |
34,593 | 5 | % | 19,786 | 5 | % | 14,807 | 75 | % | |||||||||
| $ | 704,680 | 100 | % | $ | 419,442 | 100 | % | $ | 285,238 | 68 | % | |||||||
U.S. Revenues. The period over period growth in recurring revenues was primarily the result of an increase in orders from both our existing customers and new customers during the period as reflected in the growth in our customer count and utilization rate, as discussed above, in both our new and existing IBX centers, as well as selective price increases in each of our IBX markets. During the year ended December 31, 2008, we recorded $30.6 million of revenue generated from our newly-opened IBX centers or IBX center expansions in the Chicago, New York, Silicon Valley and Washington, D.C. metro areas. We expect that our U.S. revenues will continue to grow in future periods as a result of continued growth in these newly-opened IBX centers and additional expansions currently taking place in the Los Angeles and New York metro areas, both of which are expected to open during mid-2009.
Europe Revenues. Our revenues from the United Kingdom, the largest revenue contributor in the Europe region, represented approximately 38% and 37%, respectively, of the regional revenues for the years ended December 31, 2008 and 2007. Our Europe revenues have increased over the course of 2008 as this region has grown due to our expansion efforts and we expect our Europe revenues to continue to grow in future periods, as a result of our newly-opened IBX center expansions in the Amsterdam, Frankfurt, London and Paris metro areas and additional expansions currently taking place in the Amsterdam, Frankfurt, London and Paris metro areas, all of which are expected to open during the first half of 2009, with the exception of the current London expansion which is expected to open during the first half of 2010.
Asia-Pacific Revenues. Our revenues from Singapore, the largest revenue contributor in the Asia-Pacific region, represented approximately 36% and 35%, respectively, of the regional revenues for the years ended December 31, 2008 and 2007. As in the U.S., Asia-Pacific revenue growth was due to an increase in orders from both our existing customers and new customers during the period as reflected in the growth in our customer count and utilization rate, as discussed above, in both our new and existing IBX centers, as well as selective price increases in each of our IBX markets. During the year ended December 31, 2008, we recorded $12.5 million of revenue generated from our IBX center expansions in the Hong Kong, Singapore and Tokyo metro areas. We
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expect that our Asia-Pacific revenues will continue to grow in future periods as a result of continued growth in these newly-opened IBX center expansions and additional expansions currently taking place in the Sydney metro area, which is expected to open during the first half of 2009, and the Hong Kong and Singapore metro areas which are expected to open during the second half of 2009.
Cost of Revenues. Our cost of revenues for the years ended December 31, 2008 and 2007 were split among the following geographic regions (dollars in thousands):
| Years ended December 31, | Change | |||||||||||||||||
| 2008 | % | 2007 | % | $ | % | |||||||||||||
| U.S. |
$ | 238,443 | 57 | % | $ | 198,432 | 75 | % | $ | 40,011 | 20 | % | ||||||
| Europe |
122,658 | 30 | % | 30,245 | 12 | % | 92,413 | 306 | % | |||||||||
| Asia-Pacific |
53,558 | 13 | % | 35,068 | 13 | % | 18,490 | 53 | % | |||||||||
| Total |
$ | 414,659 | 100 | % | $ | 263,745 | 100 | % | $ | 150,914 | 57 | % | ||||||
| Years ended December 31, |
||||||
| 2008 | 2007 | |||||
| Cost of revenues as a percentage of revenues: |
||||||
| U.S. |
54 | % | 61 | % | ||
| Europe |
69 | % | 81 | % | ||
| Asia-Pacific |
63 | % | 61 | % | ||
| Total |
59 | % | 63 | % | ||
U.S. Cost of Revenues. U.S. cost of revenues for the years ended December 31, 2008 and 2007 included $91.8 million and $73.6 million, respectively, of depreciation expense. Growth in depreciation expense was due to our IBX center expansion activity. Excluding depreciation, the increase in U.S. cost of revenues was primarily due to overall growth related to our revenue growth and costs associated with our expansion projects, including (i) an increase of $15.7 million in utility costs as a result of increased customer installations, (ii) $6.0 million in higher compensation costs and (iii) an increase of $2.3 million in repair and maintenance costs, partially offset by a decrease of $3.0 million in rent and facility costs as a result of certain property acquisitions in 2007 and 2008. We anticipate that our U.S. cost of revenues will continue to increase in the foreseeable future to the extent that the occupancy levels in our U.S. IBX centers increase and as our newly-opened IBX centers or IBX center expansions commence operations more fully during 2009 and from our additional expansion activity currently taking place in the Los Angeles and New York metro areas. We expect U.S. cost of revenues to increase as we continue to grow our business.
Europe Cost of Revenues. Europe cost of revenues for the years ended December 31, 2008 and 2007 included $33.5 million and $7.6 million, respectively, of depreciation expense. Our Europe cost of revenues have increased over the course of 2008 as this region has grown due to our expansion efforts and we anticipate our Europe cost of revenues will continue to increase in future periods, as we sell out the available space in our existing data centers, as our newly-opened IBX centers or IBX center expansions commence operations more fully during 2009 and from our additional expansion activity currently taking place in the Amsterdam, Frankfurt, London and Paris metro areas. We expect Europe cost of revenues to increase as we continue to grow our business.
Asia-Pacific Cost of Revenues. Asia-Pacific cost of revenues for the years ended December 31, 2008 and 2007 included $17.6 million and $9.3 million, respectively, of depreciation expense. Growth in depreciation expense was due to our IBX center expansion activity. Excluding depreciation expense, the increase in Asia-Pacific cost of revenues was primarily the result of costs associated with our expansion projects and overall growth in connection with revenue growth, such as $4.2 million of higher utility costs arising from increased customer installations and revenues attributed to customer growth, as well as $2.5 million of additional rent
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expense associated with new leases in connection with our recently-opened IBX center expansions and with our additional expansion activity currently taking place in the Hong Kong, Singapore and Sydney metro areas. We expect Asia-Pacific cost of revenues to increase as we continue to grow our business.
Sales and Marketing Expenses. Our sales and marketing expenses for the years ended December 31, 2008 and 2007 were split among the following geographic regions (dollars in thousands):
| Years ended December 31, | Change | |||||||||||||||||
| 2008 | % | 2007 | % | $ | % | |||||||||||||
| U.S. |
$ | 38,219 | 57 | % | $ | 31,291 | 77 | % | $ | 6,928 | 22 | % | ||||||
| Europe |
19,331 | 29 | % | 2,987 | 7 | % | 16,344 | 547 | % | |||||||||
| Asia-Pacific |
9,363 | 14 | % | 6,441 | 16 | % | 2,922 | 45 | % | |||||||||
| Total |
$ | 66,913 | 100 | % | $ | 40,719 | 100 | % | $ | 26,194 | 64 | % | ||||||
| Years ended December 31, |
||||||
| 2008 | 2007 | |||||
| Sales and marketing expenses as a percentage of revenues: |
||||||
| U.S. |
9 | % | 10 | % | ||
| Europe |
11 | % | 8 | % | ||
| Asia-Pacific |
11 | % | 11 | % | ||
| Total |
9 | % | 10 | % | ||
U.S. Sales and Marketing Expenses. The increase in U.S. sales and marketing expenses was primarily due to an increase of $3.3 million in sales compensation costs as a result of revenue growth and $2.6 million of higher expenditures related to our branding initiatives. We expect U.S. sales and marketing expenses to increase as we continue to grow our business and invest further in various branding initiatives; however, as a percentage of revenues, we expect them to decrease.
Europe Sales and Marketing Expenses. Our Europe sales and marketing expenses for the years ended December 31, 2008 and 2007 included $6.0 million and $1.8 million of amortization expense related to customer contract intangible assets. Excluding amortization expense, our Europe sales and marketing expenses have grown over the course of 2008 as we grew this business and invested in various branding and integration initiatives. During the year ended December 31, 2008, we also recorded $1.3 million of bad debt expense in the Europe region due largely to integration of accounting policies in connection with internal control compliance initiatives. We expect Europe sales and marketing expenses to increase as we continue to grow our business; however, as a percentage of revenues, we expect them to decrease.
Asia-Pacific Sales and Marketing Expenses. The increase in Asia-Pacific sales and marketing expenses was primarily due to an increase in sales compensation over the prior period associated with the overall growth in this region and with expenditures related to our branding initiatives. We expect Asia-Pacific sales and marketing expenses to increase as we continue to grow our business; however, as a percentage of revenues, we expect them to decrease.
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General and Administrative Expenses. Our general and administrative expenses for the years ended December 31, 2008 and 2007 were split among the following geographic regions (dollars in thousands):
| Years ended December 31, | Change | |||||||||||||||||
| 2008 | % | 2007 | % | $ | % | |||||||||||||
| U.S. |
$ | 96,657 | 66 | % | $ | 83,215 | 79 | % | $ | 13,442 | 16 | % | ||||||
| Europe |
34,071 | 23 | % | 8,292 | 7 | % | 25,779 | 311 | % | |||||||||
| Asia-Pacific |
15,836 | 11 | % | 14,287 | 14 | % | 1,549 | 11 | % | |||||||||
| Total |
$ | 146,564 | 100 | % | $ | 105,794 | 100 | % | $ | 40,770 | 39 | % | ||||||
| Years ended December 31, |
||||||
| 2008 | 2007 | |||||
| General and administrative expenses as a percentage of revenues: |
||||||
| U.S. |
22 | % | 26 | % | ||
| Europe |
19 | % | 22 | % | ||
| Asia-Pacific |
19 | % | 25 | % | ||
| Total |
21 | % | 25 | % | ||
U.S. General and Administrative Expenses. The increase in U.S. general and administrative expenses was primarily due to (i) $7.9 million of higher compensation costs, including increases in general salary, bonuses and stock-based compensation, and headcount growth (259 U.S. general and administrative employees as of December 31, 2008 versus 220 as of December 31, 2007), (ii) an increase of $2.6 million in professional fees related to various consulting projects to support our growth and (iii) an increase in depreciation expense as a result of our continued investment in information technology systems to support our growth. Going forward, we expect U.S. general and administrative expenses to increase as we continue to scale our operations to support our growth; however, as a percentage of revenues, we expect them to decrease.
Europe General and Administrative Expenses. Our Europe general and administrative expenses for the years ended December 31, 2008 and 2007 included $7.8 million and $862,000, respectively, of stock-based compensation expense. Excluding stock-based compensation expense, our Europe general and administrative expenses have increased over the course of 2008 in connection with our growth and integration initiatives. We expect our Europe general and administrative expenses to increase in future periods as we continue to scale our operations to support our growth and in connection with various ongoing integration initiatives related to investments in systems and internal control compliance; however, as a percentage of revenues, we expect them to decrease.
Asia-Pacific General and Administrative Expenses. The increase in Asia-Pacific general and administrative expenses was primarily due to higher compensation costs, including general salary increases and bonuses. Going forward, we expect Asia-Pacific general and administrative expenses to increase as we continue to scale our operations to support our growth; however, as a percentage of revenues, we expect them to decrease.
Restructuring Charges. During the year ended December 31, 2008, we recorded a restructuring charge adjustment of $3.1 million from revised sublease assumptions on our two excess space leases in the Los Angeles and New York metro areas as a result of new information becoming available. During the year ended December 31, 2007, we recorded a restructuring charge adjustment of $407,000 from revised sublease assumptions for the excess space lease in the Los Angeles metro area as a result of new information becoming available. The original restructuring charge for these two leases was recorded in the fourth quarter of 2004 and totaled $17.7 million. We are contractually committed to these two excess space leases through 2015. In February 2009, we decided to utilize the space we previously abandoned in order to expand our original Los Angeles IBX center. Accordingly, we will reverse the restructuring reserve during the three months ended March 31, 2009 associated with the Los Angeles lease (see Note 17 of Notes to Consolidated Financial
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Statements in Item 8 of this Annual Report on Form 10-K). We estimate that this restructuring reserve reversal is approximately $5.7 million, which will be reflected in our financial statements for the three months ended March 31, 2009. Our excess space lease in the New York metro area will remain abandoned and continue to carry a restructuring charge.
Gains on Asset Sales. During the year ended December 31, 2007, we recorded a $1.3 million gain in connection with the sale of our Equinix mail service offering, which we sold for $1.7 million in gross cash proceeds. No gains on asset sales were recorded during the year ended December 31, 2008.
Interest Income. Interest income decreased to $7.4 million for the year ended December 31, 2008 from $15.4 million for the year ended December 31, 2007. Interest income decreased primarily due to lower yields on invested balances and lower average cash balances. The average yield for the year ended December 31, 2008 was 2.77% versus 5.08% for the year ended December 31, 2007. In addition, during the year ended December 31, 2008, we recorded realized losses from our investment portfolio, including a $1.5 million loss on one of our money market accounts as more fully described in Note 5 of Notes to Consolidated Financial Statements in Item 8 of this Annual Report on Form 10-K. We expect our interest income to decrease for the foreseeable future due primarily to lower yields on our investment portfolio and lower average cash balances.
Interest Expense. Interest expense increased to $55.0 million for the year ended December 31, 2008 from $27.3 million for the year ended December 31, 2007. The increase in interest expense was primarily due to new financings entered into during 2007 and 2008 consisting of (i) our $110.0 million Chicago IBX financing, which was drawn down during the construction period of the Chicago metro area IBX expansion project and which became fully drawn in March 2008, with an approximate interest rate of 4.19% per annum; (ii) our $250.0 million 2.50% convertible subordinated notes offering in March 2007; (iii) our approximately $91.0 million Asia-Pacific financing, of which approximately $63.2 million was drawn during 2008 and, which was fully drawn as of December 31, 2008, with an approximate blended interest rate of 3.69% per annum; (iv) our $396.0 million 3.00% convertible subordinated notes offering in September 2007; (v) our approximately $131.0 million European financing, of which approximately $72.7 million was drawn during 2008 leaving only approximately $2.9 million remaining available to draw, with an approximate blended interest rate of 4.39% per annum and (vi) our Netherlands financing of approximately $6.5 million, acquired as a result of the Virtu acquisition, with an approximate interest rate of 4.18% per annum. This increase was partially offset by the partial conversion of $13.1 million of our 2.50% convertible subordinated debentures in November 2008 that resulted in a decrease in interest expense. During the years ended December 31, 2008 and 2007, we capitalized $6.0 million and $7.7 million, respectively, of interest expense to construction in progress. Going forward, we expect to incur higher interest expense as we fully utilize or recognize the full impact of our existing financings to fund our expansion efforts and as we complete expansion efforts and cease to capitalize interest expense. In addition, commencing in 2009, interest expense will increase due to a new accounting pronouncement, FASB Staff Position No. APB 14-1, “Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion.” For further information, refer to “Recent Accounting Pronouncements” in Note 1 of Notes to Consolidated Financial Statements in Item 8 of this Annual Report on Form 10-K.
Other Income (Expense). For the year ended December 31, 2008, we recorded $1.3 million of other income, primarily attributable to foreign currency exchange gains during the year. For the year ended December 31, 2007, we recorded $3.0 million of other income, primarily due to foreign currency exchange gains including a foreign exchange gain of $1.5 million as a result of hedging a portion of the IXEurope acquisition purchase price with forward contracts.
Loss on Conversion and Extinguishment of Debt. In March 2007, we retired $54.0 million of our convertible subordinated debentures in exchange for approximately 1.4 million newly issued shares of our common stock. As a result, we recorded a $3.4 million loss on debt conversion in accordance with FASB No. 84, “Induced Conversions of Convertible Debt,” due to the inducement fee paid. In September 2007, a senior bridge loan was terminated unused and, as a result, we recorded a $2.5 million loss on debt extinguishment reflecting
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the immediate write-off of capitalized debt issuance costs to secure the senior bridge loan. As a result of these two events, during the year ended December 31, 2007 we recognized a total of $5.9 million of loss on debt conversion and extinguishment. During the year ended December 31, 2008, we did not record any loss on conversion or extinguishment of debt in our statements of operations.
Income Taxes. For the year ended December 31, 2008, we recorded $104.5 million of income tax benefits primarily due to recognition of deferred tax assets of $101.9 million and $6.1 million associated with our U.S. and Australian operations, respectively, partially offset by tax provisions from other jurisdictions. For the year ended December 31, 2007, we recorded $473,000 of income tax expense primarily attributable to our foreign operations. As of December 31, 2008, we had a total valuation allowance of $40.3 million against our deferred tax assets, which is attributable to certain of our foreign operations. Once we release this remaining valuation allowance, it will impact our results of operations in the periods such a determination is made. We have not paid any significant cash income taxes since inception and we do not expect to pay any significant cash income taxes during 2009. Going forward, primarily as a result of the recognition of our U.S. deferred tax assets, we will commence the recording of income tax expense at the expected effective blended tax rates.
As of December 31, 2008, we had total net deferred tax assets of $98.6 million consisting primarily of favorable temporary differences and net operating loss carryforwards, the majority of which are attributable to our U.S. operations. Approximately $195.0 million of future pretax earnings for financial reporting purposes would need to be generated to realize these favorable temporary differences associated with our U.S. operations. In addition, approximately $54.0 million of future taxable income would need to be generated in future years to realize these net operating loss carryforwards associated with our U.S. operations. We believe it is achievable based on our current level of pretax earnings and our profitability forecast for future years. Historically, the difference between the pretax earnings for financial reporting purposes and the taxable income for income tax purposes in our U.S. operations has primarily included temporary adjustments such as depreciation expense, stock-based compensation and capital lease expenses. The temporary differences either increase or decrease the pretax earnings for financial reporting purposes to arrive at the taxable income for income tax purposes. However, it is expected that these temporary differences will generally increase the taxable income in the foreseeable future. The majority of the net operating loss carryforwards for income tax purposes in our U.S. operations does not start to expire until 2023.
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Years Ended December 31, 2007 and 2006
Revenues. Our revenues for the years ended December 31, 2007 and 2006 were generated from the following revenue classifications and geographic regions (dollars in thousands):
| Years ended December 31, | Change | |||||||||||||||||
| 2007 | % | 2006 | % | $ | % | |||||||||||||
| U.S: |
||||||||||||||||||
| Recurring revenues |
$ | 311,776 | 74 | % | $ | 235,363 | 82 | % | $ | 76,413 | 32 | % | ||||||
| Non-recurring revenues |
13,102 | 3 | % | 10,703 | 4 | % | 2,399 | 22 | % | |||||||||
| 324,878 | 77 | % | 246,066 | 86 | % | 78,812 | 32 | % | ||||||||||
| Asia-Pacific: |
||||||||||||||||||
| Recurring revenues |
52,571 | 13 | % | 37,797 | 13 | % | 14,774 | 39 | % | |||||||||
| Non-recurring revenues |
4,503 | 1 | % | 3,052 | 1 | % | 1,451 | 48 | % | |||||||||
| 57,074 | 14 | % | 40,849 | 14 | % | 16,225 | 40 | % | ||||||||||
| Europe: |
||||||||||||||||||
| Recurring revenues |
35,309 | 9 | % | — | — | 35,309 | 100 | % | ||||||||||
| Non-recurring revenues |
2,181 | 0 | % | — | — | 2,181 | 100 | % | ||||||||||
| 37,490 | 9 | % | — | — | 37,490 | 100 | % | |||||||||||
| Total: |
||||||||||||||||||
| Recurring revenues |
399,656 | 95 | % | 273,160 | 95 | % | 126,496 | 46 | % | |||||||||
| Non-recurring revenues |
19,786 | 5 | % | 13,755 | 5 | % | 6,031 | 44 | % | |||||||||
| $ | 419,442 | 100 | % | $ | 286,915 | 100 | % | $ | 132,527 | 46 | % | |||||||
U.S. Revenues. The period over period growth in recurring revenues was primarily the result of an increase in orders from both our existing customers and new customers during the period as reflected in the growth in our customer count and utilization rate, as discussed above, in both our new and existing IBX centers, as well as selective price increases in each of our IBX markets. During the year ended December 31, 2007, we recorded $15.3 million of revenues generated from our newly-opened IBX centers in the Chicago, New York, and Washington, D.C. metro areas.
Asia-Pacific Revenues. Our revenues from Singapore, the largest revenue contributor in this region, represented approximately 35% and 39%, respectively, of the regional revenues for the years ended December 31, 2007 and 2006. As in the U.S., Asia-Pacific revenue growth was due to an increase in orders from both our existing customers and new customers during the period as reflected in the growth in our customer count and utilization rate, as discussed above, in both our new and existing IBX centers, as well as selective price increases in each of our IBX markets. During the year ended December 31, 2007, we recorded $1.7 million of revenues generated from our new IBX center in Tokyo, which we acquired in December 2006, and $1.2 million from our IBX center expansion in Singapore.
Europe Revenues. Our revenues from the United Kingdom, the largest revenue contributor in this region, represented approximately 37% of the regional revenues for the year ended December 31, 2007.
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Cost of Revenues. Our cost of revenues for the years ended December 31, 2007 and 2006 were split among the following geographic regions (dollars in thousands):
| Years ended December 31, | Change | |||||||||||||||||
| 2007 | % | 2006 | % | $ | % | |||||||||||||
| U.S. |
$ | 198,432 | 75 | % | $ | 165,413 | 88 | % | $ | 33,019 | 20 | % | ||||||
| Asia-Pacific |
35,068 | 13 | % | 22,966 | 11 | % | 12,102 | 53 | % | |||||||||
| Europe |
30,245 | 12 | % | — | — | 30,245 | 100 | % | ||||||||||
| Total |
$ | 263,745 | 100 | % | $ | 188,379 | 100 | % | $ | 75,366 | 40 | % | ||||||
| Years ended December 31, |
||||||
| 2007 | 2006 | |||||
| Cost of revenues as a percentage of revenues: |
||||||
| U.S. |
61 | % | 67 | % | ||
| Asia-Pacific |
61 | % | 56 | % | ||
| Europe |
81 | % | — | |||
| Total |
63 | % | 66 | % | ||
U.S. Cost of Revenues. U.S. cost of revenues for the years ended December 31, 2007 and 2006 included $73.6 million and $65.0 million, respectively, of depreciation expense. Growth in depreciation expense was due to our IBX center expansion activity. Excluding depreciation expense, the increase in U.S. cost of revenues was primarily due to overall growth related to our revenue growth and costs associated with our expansion projects, including (i) $6.0 million of higher compensation costs, (ii) $5.0 million of higher rent and facility costs as a result of IBX center expansion activity and (iii) an increase of $10.3 million in utility costs from increasing customer installations.
Asia-Pacific Cost of Revenues. Asia-Pacific cost of revenues for the years ended December 31, 2007 and 2006 included $9.3 million and $3.5 million, respectively, of depreciation expense. Growth in depreciation expense was due to our IBX center expansion activity. Excluding depreciation expense, the increase in Asia-Pacific cost of revenues was primarily the result of costs associated with our expansion projects and overall growth in connection with revenue growth, such as higher compensation costs, an increase in rent and facility costs and increasing utility and bandwidth costs in line with increasing customer installations and revenues attributed to customer growth.
Europe Cost of Revenues. Europe cost of revenues for the year ended December 31, 2007 included $7.6 million of depreciation expense.
Sales and Marketing Expenses. Our sales and marketing expenses for the years ended December 31, 2007 and 2006 were split among the following geographic regions (dollars in thousands):
| Years ended December 31, | Change | |||||||||||||||||
| 2007 | % | 2006 | % | $ | % | |||||||||||||
| U.S. |
$ | 31,291 | 77 | % | $ | 28,052 | 86 | % | $ | 3,239 | 12 | % | ||||||
| Asia-Pacific |
6,441 | 16 | % | 4,567 | 14 | % | 1,874 | 41 | % | |||||||||
| Europe |
2,987 | 7 | % | — | — | 2,987 | 100 | % | ||||||||||
| Total |
$ | 40,719 | 100 | % | $ | 32,619 | 100 | % | $ | 8,100 | 25 | % | ||||||
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| Years ended December 31, |
||||||
| 2007 | 2006 | |||||
| Sales and marketing expenses as a percentage of revenues: |
||||||
| U.S. |
10 | % | 11 | % | ||
| Asia-Pacific |
11 | % | 11 | % | ||
| Europe |
8 | % | — | |||
| Total |
10 | % | 11 | % | ||
U.S. Sales and Marketing Expenses. The increase in U.S. sales and marketing expenses was primarily due to increased sales compensation as a result of revenue growth, including increases in salaries, bonuses and stock-based compensation.
Asia-Pacific Sales and Marketing Expenses. The increase in Asia-Pacific sales and marketing expenses was primarily due to increased sales compensation as a result of revenue growth, including increases in salaries, bonuses and stock-based compensation.
Europe Sales and Marketing Expenses. Europe sales and marketing expenses during the year ended December 31, 2007 included $1.8 million of intangible asset amortization expense.
General and Administrative Expenses. Our general and administrative expenses for the years ended December 31, 2007 and 2006 were split among the following geographic regions (dollars in thousands):
| Years ended December 31, | Change | |||||||||||||||||
| 2007 | % | 2006 | % | $ | % | |||||||||||||
| U.S. |
$ | 83,215 | 79 | % | $ | 60,645 | 84 | % | $ | 22,570 | 37 | % | ||||||
| Asia-Pacific |
14,287 | 14 | % | 11,478 | 16 | % | 2,809 | 24 | % | |||||||||
| Europe |
8,292 | 7 | % | — | — | 8,292 | 100 | % | ||||||||||
| Total |
$ | 105,794 | 100 | % | $ | 72,123 | 100 | % | $ | 33,671 | 47 | % | ||||||
| Years ended December 31, |
||||||
| 2007 | 2006 | |||||
| General and administrative expenses as a percentage of revenues: |
||||||
| U.S. |
26 | % | 25 | % | ||
| Asia-Pacific |
25 | % | 28 | % | ||
| Europe |
22 | % | — | |||
| Total |
25 | % | 25 | % | ||
U.S. General and Administrative Expenses. The increase in U.S. general and administrative expenses was primarily due to $13.4 million of higher compensation costs, including increases in general salaries, bonuses and stock-based compensation and headcount growth (220 U.S. general and administrative employees as of December 31, 2007 versus 175 as of December 31, 2006), an increase of $3.8 million in depreciation expense as a result of our continued investment in information technology systems to support our growth and an increase in professional services due to an increase in various consulting projects in connection with our growth strategies.
Asia-Pacific General and Administrative Expenses. The increase in Asia-Pacific general and administrative expenses was primarily due to higher compensation costs, including increases in general salaries, bonuses and stock-based compensation.
Europe General and Administrative Expenses. Europe general and administrative expenses during the year ended December 31, 2007 included $1.1 million of stock-based compensation and depreciation expense.
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Restructuring Charges. During the year ended December 31, 2007, we recorded a restructuring charge adjustment of $407,000 as a result of revised sublease assumptions for our excess space lease in the Los Angeles metro area as a result of new information becoming available. During the year ended December 31, 2006, we recorded a restructuring charge adjustment of $1.5 million as a result of revised sublease assumptions on two of our excess space leases in the New York and Los Angeles metro areas as a result of new information becoming available. The original restructuring charge for these two leases was recorded in the fourth quarter of 2004 and totaled $17.7 million. We are contractually committed to these two leases through 2015.
Gains on Asset Sales. During the year ended December 31, 2007, we recorded a $1.3 million gain in connection with the sale of our Equinix mail service offering, which we sold for $1.7 million in gross cash proceeds. During the year ended December 31, 2006, we recorded a $9.6 million gain in connection with the sale of our Honolulu IBX center. We sold this IBX center for $9.8 million in gross cash proceeds.
Interest Income. Interest income increased to $15.4 million from $6.6 million for the years ended December 31, 2007 and 2006, respectively. Interest income increased due to higher invested balances during these periods, as well as higher yields on those balances due to increased interest rates. The average annualized yield for the year ended December 31, 2007 was 5.08% versus 4.53% for the year ended December 31, 2006.
Interest Expense. Interest expense increased to $27.3 million from $14.9 million for the years ended December 31, 2007 and 2006, respectively. The increase in interest expense was primarily due to new financings entered into during 2007 and 2006: (i) an additional financing of $40.0 million under the Ashburn campus mortgage payable during the three months ended December 31, 2006, which bears interest at 8.0% per annum, (ii) our $110.0 million Chicago IBX financing, which was drawn down during the construction period of the Chicago metro area IBX expansion project, of which $105.6 million was outstanding as of December 31, 2007 with an approximate interest rate of 8.375% per annum, (iii) our $250.0 million 2.50% convertible subordinated notes offering in March 2007, (iv) our approximately $40.0 million Asia-Pacific financing, of which approximately $25.9 million was outstanding as of December 31, 2007, with an approximate blended interest rate of 3.65% per annum, (v) our $396.0 million 3.00% convertible subordinated notes offering in September 2007 and (vi) our approximately $162.9 million European financing, of which $83.5 million was outstanding as of December 31, 2007 with an approximate blended interest rate of 7.74% per annum. This increase was partially offset by the $54.0 million partial conversion of our 2.50% convertible subordinated debentures in March 2007 that resulted in a decrease in interest expense. During the years ended December 31, 2007 and 2006, we capitalized $7.7 million and $1.6 million, respectively, of interest expense to construction in progress.
Other Income (Expense). For the year ended December 31, 2007, we recorded $3.0 million of other income, primarily consisting of a foreign exchange gain of $1.5 million as a result of hedging a portion of the IXEurope acquisition purchase price with forward contracts and a $621,000 foreign exchange gain related to the liquidation of a wholly-owned subsidiary in the Netherlands. As a result, this historical foreign exchange gain of $621,000, accumulated within other comprehensive income associated with this dormant subsidiary, was recognized in our results of operations. For the year ended December 31, 2006, we recorded $245,000 of other expense, which was primarily attributable to foreign currency losses during the period.
Loss on Conversion and Extinguishment of Debt. In March 2007, we retired $54.0 million of our convertible subordinated debentures in exchange for approximately 1.4 million newly issued shares of our common stock. As a result, we recorded a $3.4 million loss on debt conversion in accordance with FASB No. 84, “Induced Conversions of Convertible Debt,” due to the inducement fee paid. In September 2007, a senior bridge loan was terminated unused and, as a result, we recorded a $2.5 million loss on debt extinguishment reflecting the immediate write-off of capitalized debt issuance costs to secure the senior bridge loan. As a result of these two events, during the year ended December 31, 2007 we recognized a total of $5.9 million of loss on debt conversion and extinguishment. During the year ended December 31, 2006, we did not record any loss on conversion or extinguishment of debt in our statements of operations.
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Income Taxes. During 2007, we recorded $473,000 of income tax expense primarily attributable to our foreign operations. During 2006, we recorded $439,000 of income tax expense primarily representing U.S. alternative minimum tax and a net tax benefit from our operations in Singapore, which resulted from the release of the valuation allowance in that jurisdiction.
Cumulative Effect of a Change in Accounting Principle. As a result of our adoption of SFAS No. 123(R), “Share-Based Payment,” during the year ended December 31, 2006, we recorded a reduction of expense totaling $376,000, which is reflected as a cumulative effect of a change in accounting principle on our statement of operations for this period. This amount reflects the application of an estimated forfeiture rate to partially vested employee equity awards as of January 1, 2006 that we accounted for under APB 25, which was primarily for restricted stock awards to our executive officers that were granted during the three months ended March 31, 2005. During the year ended December 31, 2007 no cumulative effect of a change in accounting principle was recorded in our statement of operations.
Liquidity and Capital Resources
As of December 31, 2008, our total indebtedness was comprised of (i) convertible debt totaling $665.1 million from our convertible subordinated debentures, our 2.50% convertible subordinated notes and our 3.00% convertible subordinated notes and (ii) non-convertible debt and financing obligations totaling $576.0 million from our Washington D.C. metro area IBX capital lease, San Jose IBX equipment and fiber financing, Chicago IBX equipment financing, Los Angeles IBX financing, Paris metro area IBX capital lease, Ashburn campus mortgage payable, Chicago IBX financing, Asia-Pacific financing, European financing, Netherlands financing and other financing obligations.
We believe we have sufficient cash, coupled with anticipated cash generated from operating activities, to meet our operating requirements, including repayment of our current portion of debt due, and complete our publicly announced expansion projects for at least the next 12 months. As of December 31, 2008, we had $307.9 million of cash, cash equivalents and short-term and long-term investments. During the year ended December 31, 2008, we recorded an impairment loss of $1.5 million on our investment in the Reserve Primary Fund, which is referred to as the Reserve, as more fully described in Note 5 of Notes to Consolidated Financial Statements in Item 8 of this Annual Report on Form 10-K. If the current capital market conditions continue to deteriorate, we may suffer further losses on our investment portfolio, which could have a material adverse effect on our liquidity. Besides our investment portfolio and any financing activities we may pursue, customer collections are our primary source of cash. While we believe we have a well diversified customer base with no concentration of credit risk with any single customer, we have a number of large customers in the financial services sector. Further, while we believe we have a strong customer base and have experienced strong collections in the past, if the current market conditions continue to deteriorate our customers may have difficulty paying us, we may experience increased churn in our customer base, and there may be reductions in their commitments to us, all of which could have a material adverse effect on our liquidity.
As of December 31, 2008, we had a total of $2.9 million of additional liquidity available to us under the European financing for general working capital and expansion projects in France, Germany, Switzerland and the United Kingdom, which we believe we will utilize. In addition, in February 2009, we entered into a $25.0 million one-year revolving credit facility with Bank of America, which will be used to fund our working capital and will enable us to issue letters of credit under the Bank of America credit line (see Note 18 of Notes to Consolidated Financial Statements in Item 8 of this Annual Report on Form 10-K). We refer to this transaction as the $25.0 million Bank of America revolving credit line. Our indebtedness as of December 31, 2008, as noted above, consisted of $576.0 million of non-convertible senior debt, of which $251.7 million of this amount was held by a single lender. Although these are committed facilities, most of which are fully drawn or advanced for which we are amortizing debt repayments of either principal and/or interest only, and we are in full compliance with all covenants related to them effective December 31, 2008 (we amended certain provisions in connection with one of our financings related to certain financial covenants effective December 31, 2008), deteriorating market and liquidity conditions may give rise to issues which may impact the lenders’ ability to hold these debt commitments to their full term.
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While we believe we have sufficient liquidity and capital resources to meet our current operating requirements and to complete our publicly-announced IBX expansion plans, we may pursue additional expansion opportunities, primarily the build-out of new IBX centers, in certain of our existing markets which are at or near capacity within the next year. While we will be able to fund some of these expansion plans with our existing resources, additional financing, either debt or equity, may be required to pursue certain of these additional expansion plans. However, if current market conditions continue to persist, or deteriorate further, we may be unable to secure additional financing or any such additional financing may be available to us on unfavorable terms. An inability to pursue additional expansion opportunities will have a material adverse effect on our ability to maintain our desired level of revenue growth in future periods.
Sources and Uses of Cash
| Years ended December 31, | ||||||||||||
| 2008 | 2007 | 2006 | ||||||||||
| (in thousands) | ||||||||||||
| Net cash provided by operating activities |
$ | 267,558 | $ | 120,020 | $ | 75,412 | ||||||
| Net cash used in investing activities |
(478,040 | ) | (1,054,725 | ) | (158,470 | ) | ||||||
| Net cash provided by financing activities |
145,106 | 1,145,013 | 46,107 | |||||||||
Operating Activities
The increase in net cash provided by operating activities was primarily due to improved operating results as discussed above, strong collections of accounts receivable, management of vendor payments and growth in customer installations, which increases deferred installation revenue. We expect that we will continue to generate cash from our operating activities throughout 2009 and beyond.
Investing Activities
The significant increase in net cash used in investing activities during 2007 compared to 2008 and 2006 included (i) $541.8 million spent to acquire IXEurope, net of cash acquired, and (ii) $120.5 million spent to acquire real estate properties in San Jose and Los Angeles, California. Excluding these unique and significant events, the changes in our investing activities over the past three years is primarily related to our capital expenditure investment in property, plant and equipment for our IBX center expansion activity, which has increased each year during this three-year period. During the three years ended December 31, 2008, these capital expenditures were $471.1 million, $416.8 million and $162.3 million, respectively. We expect that our IBX expansion activity will decrease during 2009 as we carefully manage investing activities during the current turbulent economy.
Financing Activities
The significant increase in net cash provided by financing activities during 2007 compared to 2008 and 2006 included approximately $967.0 million of net proceeds raised in a common stock offering and two convertible debt offerings, the majority of which was used to fund the IXEurope acquisition and our IBX center expansion activities. Excluding this significant amount of fundraising in 2007, the changes in our financing activities primarily relate to the net proceeds from our mortgage and notes payable and credit line totaling $123.1 million, $147.5 million and $8.9 million, respectively, for the three years ended December 31, 2008. We expect that, unless we are successful in obtaining new financing, our financing activities will decrease in 2009. In February 2009, we entered into the $25.0 million Bank of America revolving credit line to fund our working capital and enable us to issue letters of credit.
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Debt Obligations—Convertible Debt
Convertible Subordinated Debentures. During February 2004, we sold $86.3 million in aggregate principal amount of 2.50% convertible subordinated debentures due 2024, convertible into 2.2 million shares of our common stock, to qualified institutional buyers. The interest on the convertible subordinated debentures is payable semi-annually every February 15th and August 15th, and commenced in August 2004. The convertible subordinated debentures are convertible into shares of our common stock. Each $1,000 principal amount of convertible subordinated debentures is convertible into 25.3165 shares of our common stock. This represents an initial conversion price of approximately $39.50 per share of common stock. In March 2007, we entered into agreements with the holders of $54.0 million of these convertible subordinated debentures to exchange an aggregate of 1.4 million newly issued shares of our common stock for such holders’ convertible subordinated debentures. The number of shares of common stock issued equals the amount issuable upon conversion of the convertible subordinated debentures in accordance with their original terms. In addition, each holder received cash consideration equal to accrued and unpaid interest through the redemption date totaling $110,000, as well as the present value of future interest due through February 15, 2009 and an incremental fee, totaling $3.4 million, as an inducement fee. In November 2008, certain holders of these convertible subordinated debentures converted $13.1 million principal amount of their convertible subordinated debentures into 331,644 newly issued shares of our common stock. As of December 31, 2008, a total of $19.2 million convertible subordinated debentures remained outstanding and were convertible into 484,813 shares of our common stock. Holders of the convertible subordinated debentures had the right to require us to purchase all or a portion of these remaining convertible subordinated debentures totaling $19.2 million on February 15, 2009; however, none of them did so. In addition, in December 2008, due to a combination of factors, including the fact that the small number of convertible subordinated debentures remaining outstanding has resulted in small and infrequent trades of the convertible subordinated debentures creating an illiquid market and the depressed price of our common stock during this period, the parity provision clause (see “Convertible Subordinated Debentures” in Note 8 of Notes to Consolidated Financial Statements in Item 8 of this Annual Report on Form 10-K) was triggered. As a result, as of December 31, 2008, holders of the convertible subordinated debentures have the right to convert their individual debentures into shares of our common stock at any time. Therefore, we have reclassified the remaining convertible subordinated debentures as a current liability as of December 31, 2008.
2.50% Convertible Subordinated Notes. In March 2007, we issued $250.0 million in aggregate principal amount of 2.50% convertible subordinated notes due 2012. The interest on the 2.50% convertible subordinated notes is payable semi-annually every April 15th and October 15th, and commenced in October 2007. The initial conversion rate is 8.9259 shares of common stock per $1,000 principal amount of convertible subordinated notes, subject to adjustment. This represents an initial conversion price of approximately $112.03 per share of common stock or 2.2 million shares of our common stock. Upon conversion, holders will receive, at our election, cash, shares of our common stock or a combination of cash and shares of our common stock.
Holders of the 2.50% convertible subordinated notes may convert their notes under certain defined circumstances, including during any fiscal quarter (and only during that fiscal quarter) ending after June 30, 2007, if the sale price of our common stock, for at least 20 trading days during the period of 30 consecutive trading days ending on the last trading day of the previous fiscal quarter, is greater than 130% of the conversion price per share of common stock on such last trading day, which was $145.64 per share as of December 31, 2008. In addition, holders of the 2.50% convertible subordinated notes may convert their individual notes at any time on or after March 15, 2012.
We may redeem all or a portion of the 2.50% convertible subordinated notes at any time after April 16, 2010 for cash but only if the closing sale price of our common stock for at least 20 of the 30 consecutive trading days immediately prior to the day we give notice of redemption is greater than 130% of the applicable conversion price per share of common stock on the date of the notice, which was $145.64 per share as of December 31, 2008. The redemption price will equal 100% of the principal amount of the convertible subordinated notes, plus accrued and unpaid interest, if any, to, but excluding, the date of redemption.
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Upon conversion, due to the conversion formulas associated with the 2.50% convertible subordinated notes, if our stock is trading at levels exceeding 130% of the conversion price per share of common stock, and if we elect to pay any portion of the consideration in cash, additional consideration beyond the $250.0 million of gross proceeds received would be required. However, in no event would the total number of shares issuable upon conversion of the 2.50% convertible subordinated notes exceed 11.6036 per $1,000 principal amount of convertible subordinated notes, subject to anti-dilution adjustments, or the equivalent of $86.18 per share of common stock or a total of 2.9 million shares of our common stock. As of December 31, 2008, the 2.50% convertible subordinated notes were convertible into 2.2 million shares of our common stock.
The 2.50% convertible subordinated notes fall under the scope of a new accounting pronouncement, FASB Staff Position No. APB 14-1, “Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion,” applicable to us commencing in 2009. For further information, refer to “Recent Accounting Pronouncements” in Note 1 of Notes to Consolidated Financial Statements in Item 8 of this Annual Report on Form 10-K.
3.00% Convertible Subordinated Notes. In September 2007, we issued $396.0 million aggregate principal amount of 3.00% Convertible Subordinated Notes due October 15, 2014. Interest is payable semi-annually on April 15 and October 15 of each year, and commenced in April 2008.
Holders of the 3.00% convertible subordinated notes may convert their notes at their option on any day up to and including the business day immediately preceding the maturity date into shares of our common stock. The base conversion rate is 7.436 shares of common stock per $1,000 principal amount of 3.00% convertible subordinated notes, subject to adjustment. This represents a base conversion price of approximately $134.48 per share of common stock. If, at the time of conversion, the applicable stock price of our common stock exceeds the base conversion price, the conversion rate will be determined pursuant to a formula resulting in the receipt of up to 4.4616 additional shares of common stock per $1,000 principal amount of the 3.00% convertible subordinated notes, subject to adjustment. However, in no event would the total number of shares issuable upon conversion of the 3.00% convertible subordinated notes exceed 11.8976 per $1,000 principal amount of 3.00% convertible subordinated notes, subject to anti-dilution adjustments, or the equivalent of $84.05 per share of our common stock or a total of 4.7 million shares of our common stock. As of December 31, 2008, the 3.00% convertible subordinated notes were convertible into 2.9 million shares of our common stock.
Debt Obligations—Non-Convertible Debt
Capital Lease and Other Financing Obligations
Washington D.C. Metro Area IBX Capital Lease. In April 2004, we entered into a long-term lease for a 95,000 square foot data center in the Washington, D.C. metro area. The center is adjacent to our existing Washington D.C. metro area IBX center. This lease, which includes the leasing of all of the IBX plant and machinery equipment located in the building, is a capital lease. We took possession of this property during the fourth quarter of 2004, and as a result, recorded property, plant and equipment assets, as well as a capital lease obligation, totaling $35.3 million. Payments under this lease will be made monthly through October 2019 at an effective interest rate of 8.50% per annum. As of December 31, 2008, principal of $31.5 million remained outstanding under this capital lease.
San Jose IBX Equipment and Fiber Financing. In December 2004, we entered into a long-term lease for a 103,000 square foot data center in San Jose, and at the same time entered into separate agreements to purchase the equipment located within this new IBX center and to interconnect all three of our Silicon Valley area IBX centers to each other through redundant dark fiber links. Under U.S. generally accepted accounting principles, these three separate agreements were considered to be a single arrangement. Furthermore, while the building component of this transaction is classified as a long-term operating lease, the equipment and fiber portions of the transaction were classified as financed assets. We took possession of this property during the first quarter of 2005, and as a result, recorded property, plant and equipment and prepaid fiber assets, as well as a financing
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obligation, totaling $18.7 million. Payments under this financing obligation will be made monthly through May 2020 at an effective interest rate of 8.50% per annum. As of December 31, 2008, principal of $14.2 million remained outstanding under this financing obligation.
Chicago IBX Equipment Financing. In July 2005, we entered into a long-term sublease for a 107,000 square foot data center in Chicago, and at the same time entered into a separate agreement to purchase the equipment located within this IBX center. Under U.S. generally accepted accounting principles, these two separate agreements were considered to be a single arrangement. Furthermore, while the building component of this transaction is classified as a long-term operating lease, the equipment portion of the transaction is classified as financed assets. We took possession of this property and title to the equipment assets in November 2005, and as a result, recorded IBX equipment assets, as well as a financing obligation, totaling $9.7 million at that time. Payments under this financing obligation will be made monthly through August 2015 at an effective interest rate of 7.50% per annum. As of December 31, 2008, principal of $6.9 million remained outstanding under this financing obligation.
Los Angeles IBX Financing. In September 2005, we purchased a 107,000 square foot data center in the Los Angeles metro area for $34.7 million, which we paid for in full with cash in September 2005. In October 2005, we entered into a purchase and sale agreement to sell this Los Angeles IBX for $38.7 million and to lease it back from the purchaser pursuant to a long-term lease, which closed in December 2005, and we received net proceeds from the sale of this property of $38.1 million. However, due to our continuing involvement concerning certain aspects of this property, the sale and leaseback of this property does not qualify as a sale-leaseback under U.S. generally accepted accounting principles, but rather is accounted for as a financing of the property. We refer to this portion of the transaction as the Los Angeles IBX financing. Pursuant to the Los Angeles IBX financing, we recorded a financing obligation liability totaling $38.1 million in December 2005. Payments under the Los Angeles IBX financing will be made monthly through December 2025 at an effective interest rate of 7.75% per annum. As of December 31, 2008, principal of $37.7 million remained outstanding under this financing obligation.
Paris Metro Area IBX Capital Lease. In September 2008, we entered into a long-term lease for 10,850 square meters of vacant space within a warehouse building in the Paris metro area. The center is adjacent to one of our existing Paris metro area IBX centers. This lease is a capital lease and commenced on October 1, 2008. We took possession of this property during the fourth quarter of 2008, and as a result, recorded property, plant and equipment assets, as well as a capital lease obligation, totaling $39.3 million. Monthly payments under this lease commencing in April 2009 will be made through September 2020 at an effective interest rate of 7.43% per annum. As of December 31, 2008, principal of $40.0 million remained outstanding under this capital lease.
Other Capital Lease and Financing Obligations. We have various other capital leases and financing obligations under which principal of $7.2 million remained outstanding as of December 31, 2008.
Mortgage and Loans Payable
Ashburn Campus Mortgage Payable. In December 2005, we completed the financing of our October 2005 purchase of the Ashburn campus property with a $60.0 million mortgage to be amortized over 20 years. Upon receipt of the $60.0 million of cash in December 2005, we recorded a $60.0 million mortgage payable. Payments under the Ashburn campus mortgage payable will be made monthly through January 2026 at an effective interest rate of 8.1% per annum. In December 2006, we obtained an additional financing of $40.0 million under the Ashburn campus mortgage payable, which increased the total amount financed under the Ashburn campus mortgage payable to $100.0 million, on the same terms as the initial mortgage payable. As of December 31, 2008, principal of $94.4 million remained outstanding under this mortgage payable.
Chicago IBX Financing. In February 2007, one of our wholly-owned subsidiaries obtained a loan of up to $110.0 million to finance up to 60% of the development and construction costs of the Chicago metro area IBX
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expansion project, which we refer to as the Chicago IBX financing. Funds were advanced at up to 60% of project costs incurred. As of December 31, 2008, we had received advances representing a final loan payable totaling $110.0 million. The loan payable has an initial maturity date of January 31, 2010, with options to extend for up to an additional two years, in one-year increments, upon satisfaction of certain extension conditions. The loan payable bears interest at a floating rate (one, three or six month LIBOR plus 2.75%) with interest payable monthly, which commenced in March 2007. As of December 31, 2008, the loan payable had an approximate interest rate of 4.19% per annum. The Chicago IBX financing has no specific financial covenants, contains a limited parent company guaranty and is collateralized by the assets of one of our Chicago IBX centers.
In May 2008, we entered into an interest rate swap agreement with one counterparty to hedge the interest payments on principal of $105.0 million of the Chicago IBX financing, which will mature in February 2011. Under the terms of the interest rate swap transaction, we receive interest payments based on rolling one-month LIBOR terms and pay interest at the fixed interest rate of 6.34% (swap rate of 3.59% plus borrowing margin of 2.75%).
Asia-Pacific Financing. In August 2007, two of our wholly-owned subsidiaries, located in Singapore and Tokyo, Japan, entered into an approximately $48.4 million multi-currency credit facility agreement (using the exchange rates as of December 31, 2008), which is comprised of 23.0 million Singapore dollars and 2.9 billion Japanese yen, respectively. In January 2008, the Asia-Pacific financing was amended to enable our subsidiary in Australia to borrow up to 32.0 million Australian dollars, or approximately $22.5 million (using the exchange rate as of December 31, 2008), under the same general terms, amending the Asia-Pacific financing into an approximately $70.9 million multi-currency credit facility agreement. In June 2008, the Asia-Pacific financing was further amended to enable our subsidiary in Hong Kong to borrow up to 156.0 million Hong Kong dollars, or approximately $20.1 million (using the exchange rate as of December 31, 2008), under the same general terms, amending the Asia-Pacific financing into an approximately $91.0 million multi-currency credit facility agreement. The Asia-Pacific financing has a four-year term that allows these four subsidiaries to borrow up to their credit limits during the first 12-month period with repayment to occur over the remaining three years in 12 equal quarterly installments. The Asia-Pacific financing bears interest at a floating rate (the relevant three-month local cost of funds), as applicable, plus 1.85%-2.50% depending on the ratio of our senior indebtedness to our earnings before interest, taxes, depreciation and amortization, or EBITDA, with interest payable quarterly. Loans payable under the Asia-Pacific financing have a final maturity date of June 2012. The Asia-Pacific financing may be used by these four subsidiaries to fund capital expenditures on leasehold improvements, equipment, and other installation costs related to expansion plans in Singapore, Tokyo, Sydney and Hong Kong. The Asia-Pacific financing is guaranteed by the parent company and is secured by the assets of these four subsidiaries, including a pledge of their shares, and has several financial covenants specific to our Asia-Pacific operations with which we must comply quarterly. As of December 31, 2008, we had fully drawn the Asia-Pacific financing and a total of $87.0 million was outstanding under the Asia-Pacific financing at an approximate blended interest rate of 3.69%. As of December 31, 2008, we were in compliance with all financial covenants in connection with the Asia-Pacific financing.
European Financing. In September 2007, as a result of the IXEurope acquisition, our wholly-owned subsidiary acquired a senior facilities agreement totaling approximately 82.0 million British pounds, or approximately $135.5 million (using the exchange rate as of December 31, 2008). The European financing is comprised of three facilities: (i) Facility A, which was available to draw upon through March 2008, provides for a term loan of up to approximately 40.0 million British pounds and bears a floating interest rate per annum of between 0.875% and 2.25% above LIBOR or EURIBOR; (ii) Facility B, which was available to draw upon through June 2010, provides for a term loan of up to approximately 40.0 million British pounds and bears a floating interest rate per annum of between 0.875% and 2.25% above LIBOR or EURIBOR and (iii) Facility C, which is available to draw upon through May 2014, provides for a revolving credit facility of up to approximately 2.0 million British pounds and bears a floating interest rate per annum of between 0.875% and 2.125% above LIBOR or EURIBOR. The European financing has a final maturity date of June 30, 2014 and interest is payable in periods of one, two, three or six months at our election. Facility A will be repaid in 13 semi-
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annual installments, which commenced June 30, 2008. Facility B will be repaid in nine semi-annual installments commencing June 30, 2010. Facility C will be repaid at the final maturity date. The European financing is available to fund our subsidiary’s current or future operations in Europe, including capital expenditures, for certain approved subsidiaries in Europe, and amounts can be drawn in British pounds, Euros or Swiss francs. The European financing is collateralized by certain of our assets in Europe and contains several financial covenants specific to our European operations with which we must comply quarterly. In January 2009, we amended certain provisions of the European financing related to certain financial covenants and acknowledgment of the appointment of an executive officer in Europe, which were effective December 31, 2008. As a result of this amendment, we are in compliance with all financial covenants in connection with the European financing.
Upon a written request from us at any time after December 31, 2007 and through the final maturity date, and upon approval by the lenders, an additional term loan of up to 15.0 million British pounds, or approximately $21.9 million, may be made available to us. The European financing requires us to hedge the floating interest rates inherent in the European financing (on just a portion of the total amounts outstanding). As of December 31, 2008, approximately $131.0 million was outstanding under the European financing at an approximate blended interest rate of 4.39% per annum as we had fully utilized Facility A and Facility B, leaving 2.0 million British pounds of Facility C, or approximately $2.9 million, available to borrow under the European financing.
In May 2008, we entered into three interest rate swap agreements and re-designated two older ineffective interest rate swap agreements with a total of two counterparties to hedge the interest payments on the equivalent principal of $101.0 million of the European financing, which will mature in August 2009 and May 2011. Under the terms of the interest rate swap transactions, we receive interest payments based on rolling one-month EURIBOR and LIBOR terms and pay fixed interest rates ranging from 5.97% to 8.16% (swap rates ranging from 3.72% to 5.91% plus borrowing margin).
Netherlands Financing. In February 2008, as a result of the Virtu acquisition, our wholly-owned subsidiary assumed senior credit facilities totaling approximately 5.5 million Euros, which are callable by the lender and bear interest at a floating rate (three month EURIBOR plus 1.25%). As of December 31, 2008, a total of 4.6 million Euros, or approximately $6.5 million, was outstanding under the Netherlands financing with an approximate blended interest rate of 4.18% per annum. The Netherlands financing is collateralized by substantially all of our operations in the Netherlands. The Netherlands financing contains several financial covenants specific to our operations in the Netherlands, which must be complied with on an annual basis. As of December 31, 2008, our wholly-owned subsidiary in the Netherlands was not in compliance with certain of the financial covenants; however, the lender agreed to waive such non-compliance while we renegotiate the entire Netherlands financing, which should be completed by April 2009. If we are unable to renegotiate the Netherlands financing by April 2009, the financial covenants in their original form will go back into effect. Although the Netherlands financing has a payment schedule with a final payment date in January 2016, as of December 31, 2008, we had reflected the total amount outstanding of $6.5 million under the Netherlands financing as a current liability within the current portion of mortgage and loans payable on the accompanying balance sheet as it is not currently a committed facility (it is callable by the lender).
Other Note Payable. The other note payable arises from a 2005 lease restructuring and is a non-interest bearing note with an imputed interest rate of 6.14% per annum. Payments under the other note payable, which originally totaled $20.0 million, are payable quarterly and will be payable through the fourth quarter of 2009. As of December 31, 2008, $9.7 million was outstanding under the other note payable.
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Contractual Obligations and Off-Balance-Sheet Arrrangements
We lease a majority of our IBX centers and certain equipment under non-cancelable lease agreements expiring through 2027. The following represents our contractual obligations as of December 31, 2008 (in thousands):
| 2009 | 2010 | 2011 | 2012 | 2013 | 2014 and thereafter |
Total | ||||||||||||||||
| Convertible debt (1) |
$ | 19,150 | $ | — | $ | — | $ | 250,000 | $ | $ | 395,986 | $ | 665,136 | |||||||||
| Chicago IBX financing (1) |
— | 109,991 | (5) | — | — | — | — | 109,991 | ||||||||||||||
| Asia-Pacific financing (1) |
25,121 | 30,348 | 26,312 | 5,228 | — | — | 87,009 | |||||||||||||||
| European financing (1) |
8,170 | 14,895 | 16,530 | 19,892 | 23,977 | 47,517 | 130,981 | |||||||||||||||
| Netherlands financing (1) |
6,485 | — | — | — | — | — | 6,485 | |||||||||||||||
| Interest (2) |
31,530 | 25,447 | 23,305 | 17,538 | 14,772 | 10,458 | 123,050 | |||||||||||||||
| Mortgage payable (3) |
10,164 | 10,164 | 10,164 | 10,165 | 10,165 | 123,338 | 174,160 | |||||||||||||||
| Other note payable (3) |
10,000 | — | — | — | — | — | 10,000 | |||||||||||||||
| Capital lease and other financing obligations (3) |
15,242 | 16,562 | 16,810 | 16,695 | 16,785 | 138,595 | 220,689 | |||||||||||||||
| Operating leases under accrued restructuring charges (3) |
4,779 | 4,871 | 5,024 | 5,296 | 5,397 | 8,346 | 33,713 | |||||||||||||||
| Operating leases (4) |
52,077 | 49,578 | 45,598 | 44,583 | 44,391 | 197,434 | 433,661 | |||||||||||||||
| Other contractual commitments (4) |
228,586 | 23,467 | 5,375 | 2,201 | 2,200 | 29,376 | 291,205 | |||||||||||||||
| $ | 411,304 | $ | 285,323 | $ | 149,118 | $ | 371,598 | $ | 117,687 | $ | 951,050 | $ | 2,286,080 | |||||||||
| (1) | Represents principal only. |
| (2) | Represents interest on convertible debt, Chicago IBX financing, Asia-Pacific financing, European financing and Netherlands financing based on their approximate interest rates as of December 31, 2008. |
| (3) | Represents principal and interest. |
| (4) | Represents off-balance sheet arrangements. Other contractual commitments are described below. |
| (5) | The loan payable under the Chicago IBX financing has an initial maturity date of January 31, 2010, with options to extend for up to an additional two years, in one-year increments, upon satisfaction of certain extension conditions. Given the current market climate, we intend to extend the maturity of the loan payable under the Chicago IBX financing. |
Primarily as a result of our various IBX expansion projects, as of December 31, 2008, we were contractually committed for $174.9 million of unaccrued capital expenditures, primarily for IBX equipment not yet delivered and labor not yet provided, in connection with the work necessary to open these IBX centers prior to making them available to customers for installation. This amount, which is expected to be paid during 2009 and 2010, is reflected in the table above as “other contractual commitments.”
We have other, non-capital purchase commitments in place as of December 31, 2008, such as commitments to purchase power in select locations, primarily in the U.S., Singapore and the United Kingdom, through 2009 and thereafter, and other open purchase orders, which contractually bind us for goods or services to be delivered or provided during 2009. Such other purchase commitments as of December 31, 2008, which total $80.0 million, are also reflected in the table above as “other contractual commitments.”
Additionally, in October 2008, we entered into an agreement for lease for a property located in the London metro area, which is currently being developed by the landlord. Upon completion of the property development, which is expected to occur in November 2009, we will enter into a lease for this property for 20 years. This commitment to lease, which totals approximately $36.3 million, is also reflected in the table above as “other contractual commitments.”
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In addition, although we are not contractually obligated to do so, we expect to incur additional capital expenditures beyond the $174.9 million contractually committed as of December 31, 2008 in our various IBX expansion projects during 2009 and thereafter of approximately $100.0 million to $150.0 million in order to complete the work needed to open these IBX centers. These non-contractual capital expenditures are not reflected in the table above.
Other Off-Balance-Sheet Arrangements
We have various guarantor arrangements with both our directors and officers and third parties, including customers, vendors and business partners (see “Guarantor Arrangements” in Note 14 of Notes to Consolidated Financial Statements in Item 8 of this Annual Report on Form 10-K). As of December 31, 2008, there were no liabilities recorded for these arrangements.
Critical Accounting Estimates
Our consolidated financial statements are prepared in accordance with generally accepted accounting principles in the United States (“GAAP”). The preparation of our financial statements requires management to make estimates and assumptions about future events that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an ongoing basis, management evaluates the accounting policies, assumptions, estimates and judgments to ensure that our consolidated financial statements are presented fairly and in accordance with GAAP. Management bases its assumptions, estimates and judgments on historical experience, current trends and various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. However, because future events and their effects cannot be determined with certainty, actual results may differ from these assumptions and estimates, and such differences could be material.
Our significant accounting policies are discussed in Note 1 of Notes to Consolidated Financial Statements in Item 8 of this Annual Report on Form 10-K. Management believes that the following critical accounting estimates, among others, are the most critical to aid in fully understanding and evaluating our consolidated financial statements, and they require significant judgments, resulting from the need to make estimates about the effect of matters that are inherently uncertain:
| • | Accounting for income taxes; |
| • | Accounting for impairment of goodwill; and |
| • | Accounting for property, plant and equipment. |
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| Description | Judgments and Uncertainties | Effect if Actual Results Differ
From Assumptions | ||
| Accounting for Income Taxes.
Deferred tax assets and liabilities are recognized based on the future tax consequences attributable to temporary differences that exist between the financial statement carrying value of assets and liabilities and their respective tax bases, and operating loss and tax credit carryforwards on a taxing jurisdiction basis. We measure deferred tax assets and liabilities using enacted tax rates that will apply in the years in which we expect the temporary differences to be recovered or paid.
SFAS No. 109, “Accounting for Income Taxes,” requires a reduction of the carrying amounts of deferred tax assets by recording a valuation allowance if, based on the available evidence, it is more likely than not (defined by SFAS No. 109 as a likelihood of more than 50 percent) such assets will not be realized. |
The valuation of deferred tax assets requires judgment in assessing the likely future tax consequences of events that have been recognized in our financial statements or tax returns. Our accounting for deferred tax consequences represents our best estimate of those future events.
In assessing the need for a valuation allowance, we consider both positive and negative evidence related to the likelihood of realization of the deferred tax assets. If, based on the weight of available evidence, it is more likely than not the deferred tax assets will not be realized, we record a valuation allowance. The weight given to the positive and negative evidence is commensurate with the extent to which the evidence may be objectively verified.
This assessment, which is completed on a taxing jurisdiction basis, takes into account a number of types of evidence, including the following: 1) the nature, frequency and severity of current and cumulative financial reporting losses, 2) sources of future taxable income and 3) tax planning strategies. |
As of December 31, 2008, we had total net deferred tax assets of $98.6 million. As of December 31, 2007, we had total net deferred tax liabilities of $19.6 million. As of December 31, 2008 and 2007, we had a total valuation allowance of $40.3 million and $163.1 million, respectively. In the fourth quarter of 2008, we decided to release our valuation allowances associated with our U.S. and Australian operations, which resulted in an income tax benefit of $101.9 million and $6.1 million, respectively, in our results of operations for this period.
We believe that both our U.S. and Australian operations have achieved a sufficient level of profitability and will sustain a sufficient level of profitability in 2009 and beyond to support the release of these valuation allowances based on current facts and circumstances. However, if our assumptions on the future performance of these regions prove not to be correct and these regions are not able to sustain a sufficient level of profitability to support the associated deferred tax assets on our balance sheet, we will have to impair our deferred tax assets through an additional valuation allowance, which would impact our financial position and results of operations in the period such a determination is made.
Our remaining valuation allowance as of December 31, 2008 relates to certain of our subsidiaries outside of the U.S. Once we release our remaining valuation allowance, it will have an impact to our financial position and results of operations in the periods such a determination is made. We will continue to assess the need for our valuation allowances, by country or location, in the future. |
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| Description | Judgments and Uncertainties | Effect if Actual Results Differ
From Assumptions | ||
| Accounting for Impairment of Goodwill
In accordance with SFAS No. 142, “Goodwill and Other Intangible Assets,” we perform goodwill impairment reviews annually, or whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable.
During the year ended December 31, 2008, we completed annual goodwill impairment reviews of both the Europe reporting unit and the Asia-Pacific reporting unit and concluded that there was no impairment as the fair value of both reporting units exceeded their carrying value. |
We use both the income and market approach in step one of our goodwill impairment reviews and weight the results of both equally. Under the income approach, we develop a five-year cash flow forecast and use our weighted-average cost of capital applicable to our reporting units as discount rates. This requires assumptions and estimates derived from a review of our actual and forecasted operating results, approved business plans, future economic conditions and other market data.
These assumptions require significant management judgment and are inherently subject to uncertainties. |
Future events, changing market conditions and any changes in key assumptions may result in an impairment charge. While we have never recorded an impairment charge against our goodwill to date, the development of adverse business conditions in our Asia-Pacific or European reporting units, such as higher than anticipated customer churn or significantly increased operating costs, or significant deterioration of our market comparables that we use in the market approach, could result in an impairment charge in future periods.
As of December 31, 2008, goodwill attributable to the Asia-Pacific reporting unit and the Europe reporting unit was $18.2 million and $325.0 million, respectively. Any potential impairment charge against our goodwill would not exceed the amounts recorded on our consolidated balance sheets. |
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| Description | Judgments and Uncertainties | Effect if Actual Results Differ
From Assumptions | ||
| Accounting for Property, Plant and Equipment
We have a substantial amount of property, plant and equipment recorded on our balance sheet. The vast majority of our property, plant and equipment represent the costs incurred to build out or acquire our IBX centers around the world. Our IBX centers are long-lived assets. The majority of our IBX centers are in properties that are leased. We depreciate our property, plant and equipment using the straight-line method over the estimated useful lives of the respective assets (subject to the term of the lease in the case of leased assets or leasehold improvements).
Accounting for property, plant and equipment involves a number of accounting issues including determining the appropriate period in which to depreciate such assets, making assessments for leased properties to determine whether they are capital or operating leases, capitalizing interest during periods of construction and assessing the initial asset retirement obligations required for certain leased properties that require us to return the leased properties back to their original condition at the time we decide to exit a leased property. |
While there are numerous judgments and uncertainties involved in accounting for property, plant and equipment that are significant, arriving at the estimated useful life of an asset requires the most critical judgment for us and changes to these estimates would have the most significant impact to our financial position and results of operations. In many cases, we arrived at these estimates during 1999 when we opened our first three IBX centers. When we lease a property for our IBX centers, we generally enter into long-term arrangements with initial lease terms of at least 8-10 years and with renewal options available to us. During the next several years, a number of leases for our IBX centers will start to come up for renewal. As we start approaching the ends of these initial lease terms, we will need to reassess the estimated useful lives of our property, plant and equipment. In addition, we may find that our estimates for the useful lives of non-leased assets may also need to be revised. |
As of December 31, 2008 and 2007, we had property, plant and equipment of $1.4 billion and $1.2 billion, respectively, and for the years ended December 31, 2008, 2007 and 2006, we recorded depreciation expense of $152.8 million, $97.9 million and $71.7 million, respectively.
A change in our estimated useful lives of our property, plant and equipment could have a significant impact to our results of operations. For example, in the U.S. alone, if we extended by five years the estimated remaining useful lives of just our leasehold improvements and IBX plant and machinery, the two largest sub-components of our property, plant and equipment, it would have resulted in approximately $22.6 million less of depreciation expense during 2008. This is presented simply as an example of how a change in an estimated useful life assumption could impact our results of operations. |
Recent Accounting Pronouncements
See “Recent Accounting Pronouncements” in Note 1 of Notes to Consolidated Financial Statements in Item 8 of this Annual Report on Form 10-K.
| ITEM 7A. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK |
Market Risk
The following discussion about market risk disclosures involves forward-looking statements. Actual results could differ materially from those projected in the forward-looking statements. We may be exposed to market risks related to impairments of our investment portfolio, changes in interest rates and foreign currency exchange rates and fluctuations in the prices of certain commodities, primarily electricity.
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We currently employ interest rate swaps and foreign currency forward exchange contracts for the purpose of hedging certain specifically-identified exposures. The use of these financial instruments is intended to mitigate some of the risks associated with either fluctuations in interest rates or currency exchange rates, but does not eliminate such risks. We do not use financial instruments for trading or speculative purposes.
Investment Portfolio Risk
All of our marketable securities are designated as available-for-sale and are therefore recorded at fair market value on our consolidated balance sheets with the unrealized gains or losses reported as a separate component of other comprehensive income or loss. We consider various factors in determining whether we should recognize an impairment charge for our securities, including the length of time and extent to which the fair value has been less than our cost basis and our intent and ability to hold the investment for a period of time sufficient to allow for any anticipated recovery in market value. As more fully described in Note 5 of Notes to Consolidated Financial Statements in Item 8 of this Annual Report on Form 10-K, in September 2008, we incurred a realized loss from our investment portfolio (consisting of a single money market account) totaling $1.5 million. If market conditions continue to deteriorate and liquidity constraints become even more pronounced, we could sustain more losses from our investment portfolio. As our securities mature, we have been increasing our holdings in U.S. government securities, such as Treasury bills and Treasury notes of a short-term duration and lower yield. As a result, we expect our interest income to decrease in future periods.
As of December 31, 2008, our investment portfolio of cash equivalents and marketable securities consisted of money market fund investments, commercial paper, corporate bonds, asset backed securities, certificates of deposit and U.S government and agency obligations. Excluding the U.S. government holdings which carry a lower risk and lower return in comparison to other securities in the portfolio, the remaining amount in our investment portfolio that could be more susceptible to market risk totaled $176.9 million.
Interest Rate Risk
Our exposure to market risk resulting from changes in interest rates relates primarily to our investment portfolio and variable-rate financings in place in the U.S., Europe and Asia-Pacific. The fair market value of our marketable securities could be adversely impacted due to a rise in interest rates, but we do not believe such impact would be material. Securities with longer maturities are subject to a greater interest rate risk than those with shorter maturities and as of December 31, 2008 our portfolio maturity was relatively short. If current interest rates were to increase or decrease by 10% from their position as of December 31, 2008, the fair market value of our investment portfolio could increase or decrease by approximately $93,000.
An immediate 10% increase or decrease in current interest rates from their position as of December 31, 2008 would not have a material impact on our debt obligations due to the fixed nature of the majority of our debt obligations. However, the interest expense associated with our Chicago IBX financing, Asia-Pacific financing, European financing and Netherlands financing, which bear interest at variable rates tied to local cost of funds or LIBOR/SIBOR/EURIBOR, could be affected. For every 100 basis point change in interest rates, our annual interest expense could increase or decrease by a total of approximately $3.3 million based on the total balance of our borrowings under the Chicago IBX financing, Asia-Pacific financing, European financing and Netherlands financing as of December 31, 2008. To mitigate the risk of fluctuations in floating rates, we utilize interest rate swaps (receive floating/pay fixed). As of December 31, 2008, we had entered into a total of six swap agreements with maturity dates of less than three years, comprised of five swap agreements for the European financing with an aggregate notional amount of 38.3 million British pounds and 32.3 million Euros, or approximately $101.0 million, and one swap agreement for the Chicago IBX financing with an aggregate notional amount of $105.0 million. Under the five swap agreements for the European financing, we pay fixed interest rates ranging from 5.97% to 8.16% (swap rates ranging from 3.72% to 5.91% plus borrowing margin) on the notional amount and the counterparty pays us rates of interest on the notional amount based on LIBOR/EURIBOR. Under the swap agreement for the Chicago IBX financing, we pay a fixed interest rate of 6.34% (swap rate of 3.59% plus
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borrowing margin of 2.75%) on the notional amount and the counterparty pays us rates of interest on the notional amount based on one-month LIBOR. The fair values or changes in fair value of these swaps are recorded on our consolidated balance sheets in accumulated other comprehensive income or loss.
The fair value of our long-term fixed interest rate debt is subject to interest rate risk. Generally, the fair value of fixed interest rate debt will increase as interest rates fall and decrease as interest rates rise. These interest rate changes may affect the fair value of the fixed interest rate debt but do not impact our earnings or cash flows. The fair value of our convertible subordinated debentures and convertible subordinated notes is based on quoted market prices. The following represents the estimated fair value of our convertible debt as of December 31, 2008 (in thousands):
| Carrying Value |
Fair Value | |||||
| Convertible subordinated debentures |
$ | 19,150 | $ | 19,290 | ||
| 2.50% convertible subordinated notes |
250,000 | 175,000 | ||||
| 3.00% convertible subordinated notes |
395,986 | 251,451 | ||||
We may enter into additional interest rate hedging agreements in the future to mitigate our exposure to interest rate risk.
Foreign Currency Risk
The majority of our revenue is denominated in U.S. dollars, generated mostly from customers in the U.S. However, approximately 37% of our revenues and 41% of our operating costs are attributable to the Europe and Asia-Pacific regions and a large portion of those revenues and costs are denominated in a currency other than the U.S. dollar, primarily the British pound, Euro, Swiss franc, Singapore dollar, Japanese yen and Hong Kong and Australian dollars. As a result, our operating results and cash flows are impacted by currency fluctuations relative to the U.S. dollar. To protect against certain reductions in value caused by changes in currency exchange rates, we have established a risk management program to offset some of the risk of carrying assets and liabilities denominated in foreign currency. As a result, we enter into foreign currency forward contracts to manage the risk associated with certain foreign currency-denominated assets and liabilities. Our risk management program reduces, but does not entirely eliminate, the impact of currency exchange rate movements and its impact to the statements of operations. As of December 31, 2008, the outstanding foreign currency forward contracts had maturities of one year or less.
For the foreseeable future, we anticipate that approximately 35-45% of our revenues and operating costs will continue to be generated and incurred outside of the U.S. in currencies other than the U.S. dollar. While we hedge certain of our balance sheet foreign currency assets and liabilities, we do not hedge revenue. During fiscal 2007 and the first half of 2008, the U.S. dollar had been generally weaker relative to the currencies of the foreign countries in which we operate. This overall weakness of the U.S. dollar had a positive impact on our consolidated results of operations because the foreign denominations translated into more U.S. dollars. However, during the last several months of 2008, the U.S. dollar strengthened relative to certain of the currencies of the foreign countries in which we operate. This has significantly impacted our consolidated financial position and results of operations as amounts in foreign currencies are generally translating into less U.S. dollars. To the extent the U.S. dollar strengthens further, this will continue to have a significant impact to our consolidated financial position and results of operations including the amount of revenue that we report in future periods. For example, while our European operations incurred revenue growth in local currencies during the fourth quarter of 2008, as compared to the third quarter of 2008, of approximately 11%, when translated to U.S. dollars, our European operations reported a quarter to quarter decline in revenues of 4%.
We may enter into additional hedging activities in the future to mitigate our exposure to foreign currency risk as our exposure to foreign currency risk continues to increase due to our growing foreign operations; however, we do not currently intend to eliminate all foreign currency transaction exposure.
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Commodity Price Risk
Certain operating costs incurred by us are subject to price fluctuations caused by the volatility of underlying commodity prices. The commodities most likely to have an impact on our results of operations in the event of price changes are electricity, supplies and equipment used in our IBX centers. We closely monitor the cost of electricity at all of our locations. We have entered into several power contracts to purchase power at fixed prices during 2009 and beyond in certain locations in the U.S., as well as Australia, Germany, Singapore and the United Kingdom.
In addition, as we are building new, “greenfield” IBX centers, we are subject to commodity price risk for building materials related to the construction of these IBX centers, such as steel and copper. In addition, the lead-time to procure certain pieces of equipment, such as generators, is substantial. Any delays in procuring the necessary pieces of equipment for the construction of our IBX centers could delay the anticipated openings of these new IBX centers and, as a result, increase the cost of these projects.
We do not currently employ forward contracts or other financial instruments to address commodity price risk other than the power contracts discussed above.
| ITEM 8. | FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA |
The financial statements and supplementary data required by this Item 8 are listed in Item 15(a)(1) and begin at page F-1 of this Annual Report on Form 10-K.
| ITEM 9. | CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE |
There is no disclosure to report pursuant to Item 9.
| ITEM 9A. | CONTROLS AND PROCEDURES |
Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures
Under the supervision and with the participation of our management, including our Chief Executive Officer and our Chief Financial Officer, we conducted an evaluation of our disclosure controls and procedures, as such term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Based on this evaluation, our Chief Executive Officer and our Chief Financial Officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this Annual Report on Form 10-K.
Management’s Report on Internal Control Over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f). Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.
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Based on our evaluation under the framework in Internal Control—Integrated Framework, our management concluded that our internal control over financial reporting was effective as of December 31, 2008. There were no significant changes in internal control over financial reporting during 2008 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
The effectiveness of our internal control over financial reporting as of December 31, 2008 has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, as stated in their report which is included herein on page F-1 of this Annual Report on Form 10-K.
Changes in Internal Control Over Financial Reporting
There has been no change in our internal controls over financial reporting during the fourth quarter of fiscal 2008 that has materially affected, or is reasonably likely to materially affect, our internal controls over financial reporting.
| ITEM 9B. | OTHER INFORMATION |
There is no disclosure to report pursuant to Item 9B.
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| ITEM 10. | DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE |
Information required by this item is incorporated by reference to the Equinix proxy statement for the 2009 Annual Meeting of Stockholders.
We have adopted a Code of Ethics applicable for the Chief Executive Officer and Senior Financial Officers and a Code of Business Conduct. This information is incorporated by reference to the Equinix proxy statement for the 2009 Annual Meeting of Stockholders and is also available on our website, www.equinix.com.
| ITEM 11. | EXECUTIVE COMPENSATION |
Information required by this item is incorporated by reference to the Equinix proxy statement for the 2009 Annual Meeting of Stockholders.
| ITEM 12. | SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS |
Information required by this item is incorporated by reference to the Equinix proxy statement for the 2009 Annual Meeting of Stockholders.
| ITEM 13. | CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE |
Information required by this item is incorporated by reference to the Equinix proxy statement for the 2009 Annual Meeting of Stockholders.
| ITEM 14. | PRINCIPAL ACCOUNTING FEES AND SERVICES |
Information required by this item is incorporated by reference to the Equinix proxy statement for the 2009 Annual Meeting of Stockholders.
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| ITEM 15. | EXHIBITS AND FINANCIAL STATEMENT SCHEDULES |
(a)(1) Financial Statements:
| F-1 | ||
| F-2 | ||
| F-3 | ||
| Consolidated Statements of Stockholders’ Equity and Other Comprehensive Income (Loss) |
F-4 | |
| F-5 | ||
| F-6 |
(a)(2) All schedules have been omitted because they are not applicable or the required information is shown in the financial statements or notes thereto.
(a)(3) Exhibits:
| Incorporated by Reference |
||||||||||
| Exhibit |
Exhibit Description |
Form |
Filing Date/ Period End |
Exhibit | Filed Herewith | |||||
| 2.1 |
Combination Agreement, dated as of October 2, 2002, by and among Equinix, Inc., Eagle Panther Acquisition Corp., Eagle Jaguar Acquisition Corp., i-STT Pte Ltd, STT Communications Ltd., Pihana Pacific, Inc. and Jane Dietze, as representative of the stockholders of Pihana Pacific, Inc. |
Def. Proxy 14A | 12/12/02 | |||||||
| 3.1 |
Amended and Restated Certificate of Incorporation of the Registrant, as amended to date. |
10-K/A | 12/31/02 | 3.1 | ||||||
| 3.2 |
Certificate of Designation of Series A and Series A-1 Convertible Preferred Stock. |
10-K/A | 12/31/02 | 3.3 | ||||||
| 3.3 |
Amended and Restated Bylaws of the Registrant. |
8-K | 12/22/08 | 3.2 | ||||||
| 4.1 |
Reference is made to Exhibits 3.1, 3.2 and 3.3. |
|||||||||
| 4.2 |
Indenture dated February 11, 2004 by and between Equinix, Inc. and U.S. Bank National Association, as trustee. |
10-Q | 3/31/04 | 10.99 | ||||||
| 4.3 |
Indenture dated March 30, 2007 by and between Equinix, Inc. and U.S. Bank National Association, as trustee. |
8-K | 3/30/07 | 4.4 | ||||||
| 4.4 |
Form of 2.50% Convertible Subordinated Note Due 2012 (see Exhibit 4.4). |
|||||||||
| 4.5 |
Indenture dated September 26, 2007 by and between Equinix, Inc. and U.S. Bank National Association, as trustee. |
8-K | 9/26/07 | 4.4 | ||||||
| 4.6 |
Form of 3.00% Convertible Subordinated Note Due 2014 (see Exhibit 4.6). |
|||||||||
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| Incorporated by Reference |
||||||||||
| Exhibit |
Exhibit Description |
Form |
Filing Date/ Period End |
Exhibit | Filed Herewith | |||||
| 10.1 |
Form of Indemnification Agreement between the Registrant and each of its officers and directors. |
S-4 (File No. 333-93749) | 12/29/99 | 10.5 | ||||||
| 10.2 |
2000 Equity Incentive Plan, as amended. |
10-K | 12/31/07 | 10.3 | ||||||
| 10.3 |
2000 Director Option Plan, as amended. |
10-K | 12/31/07 | 10.4 | ||||||
| 10.4 |
2001 Supplemental Stock Plan, as amended. |
10-K | 12/31/07 | 10.5 | ||||||
| 10.5+ |
Lease Agreement dated as of April 21, 2004 between Eden Ventures LLC and Equinix, Inc. |
10-Q | 6/30/04 | 10.103 | ||||||
| 10.6 |
Equinix, Inc. 2004 International Employee Stock Purchase Plan effective as of June 3, 2004. |
10-Q | 6/30/04 | 10.105 | ||||||
| 10.7 |
Equinix, Inc. Employee Stock Purchase Plan effective as of June 3, 2004. |
10-Q | 6/30/04 | 10.106 | ||||||
| 10.8 |
Form of Restricted Stock Agreement for Equinix’s executive officers under the Company’s 2000 Equity Incentive Plan. |
10-K | 12/31/05 | 10.115 | ||||||
| 10.9 |
Letter Agreement dated October 6, 2005 among Equinix, Inc., STT Communications Ltd. and I-STT Investments Pte. Ltd. |
8-K | 10/6/05 | 99.1 | ||||||
| 10.10 |
Lease Agreement dated December 21, 2005 between Equinix Operating Co., Inc. and iStar El Segundo, LLC and associated Guaranty of Equinix, Inc. |
10-K | 12/31/05 | 10.126 | ||||||
| 10.11+ |
Loan and Security Agreement and Note between Equinix RP II, LLC and SFT I, Inc. dated December 21, 2005 and associated Guaranty of Equinix, Inc. |
10-K | 12/31/05 | 10.127 | ||||||
| 10.12 |
Lease Agreement dated as of December 21, 2005 between Equinix RP II, LLC and Equinix, Inc. |
10-K | 12/31/05 | 10.128 | ||||||
| 10.13 |
First Omnibus Modification Agreement dated December 27, 2006 by and among SFT I, Inc. (“SFT I”), Equinix RP II, LLC (“RP II”) and Equinix, Inc. (“Equinix”), Amended and Restated Promissory Note dated December 27, 2006 by RP II in favor of SFT I and Reaffirmation of Guaranty dated December 27, 2006 by RP II and Equinix in favor of SFT I. |
10-K | 12/31/06 | 10.37 | ||||||
| 10.14 |
First Amendment to Deed of Lease dated December 27, 2006 by and between Equinix RP II, LLC and Equinix Operating Co., Inc. |
10-K | 12/31/06 | 10.38 | ||||||
| 10.15 |
Development Loan and Security Agreement dated February 2, 2007 by and between CHI 3, LLC and SFT I, Inc. and related Promissory Notes One through Four. |
10-Q | 3/31/07 | 10.37 | ||||||
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| Incorporated by Reference |
||||||||||
| Exhibit |
Exhibit Description |
Form |
Filing Date/ Period End |
Exhibit | Filed Herewith | |||||
| 10.16 |
Guaranty dated February 2, 2007 by and between Equinix, Inc. and SFT I, Inc. |
10-Q | 3/31/07 | 10.38 | ||||||
| 10.17 |
Completion and Payment Guaranty dated February 2, 2007 by and between Equinix, Inc. and SFT I, Inc. |
10-Q | 3/31/07 | 10.39 | ||||||
| 10.18 |
Master Lease dated February 2, 2007 by and between CHI 3, LLC and Equinix Operating Co., Inc. and associated Guaranty of Lease by Equinix, Inc. |
10-Q | 3/31/07 | 10.40 | ||||||
| 10.19 |
Form of Restricted Stock Agreements for Stephen M. Smith under the Equinix, Inc. 2000 Equity Incentive Plan. |
10-Q | 3/31/07 | 10.45 | ||||||
| 10.20 |
Facility Agreement dated August 31, 2007 by and among Equinix Singapore Pte. Ltd., Equinix Japan K.K., the Additional Borrowers (as defined therein), the Lenders (as defined therein), and ABN AMRO BANK N.V., and related Guarantee dated August 31, 2007 by Equinix, Inc. |
10-Q | 9/30/07 | 10.47 | ||||||
| 10.21 |
£82,000,000 Senior Facilities Agreement dated June 29, 2007 by and among IXEurope plc, CIT Bank Limited, as arranger, CIT Capital Finance (UK) Limited, as administrative agent and security trustee and the Lenders (as defined therein). |
10-Q | 9/30/07 | 10.49 | ||||||
| 10.22 |
Amendment and Accession Agreement, dated as of January 31, 2008, by and among Equinix Singapore Pte. Ltd., Equinix Japan K.K. and Equinix Australia Pty. Limited, as Borrowers, ABN AMRO Bank N.V., Singapore Branch, ABN AMRO Bank N.V., Japan Branch and ABN AMRO Australia Pty Limited, as Lenders and ABN AMRO Bank N.V., as Facility Agent, Arranger and Collateral Agent and related Amendment No. 1 to Guarantee by Equinix, Inc. |
10-K | 12/31/07 | 10.32 | ||||||
| 10.23 |
Form of Restricted Stock Unit Agreement for Equinix’s executive officers under the Company’s 2000 Equity Incentive Plan. |
10-K | 12/31/07 | 10.34 | ||||||
| 10.24 |
Equinix, Inc. Sub-Plan to the 2004 International Employee Stock Purchase Plan for Participants Located in the European Economic Area. |
10-Q | 3/31/08 | 10.32 | ||||||
| 10.25 |
Letter Agreement, dated April 22, 2008, by and between Eric Schwartz and Equinix, Inc. |
10-Q | 6/30/08 | 10.34 | ||||||
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| Incorporated by Reference |
||||||||||
| Exhibit |
Exhibit Description |
Form |
Filing Date/ Period End |
Exhibit | Filed Herewith | |||||
| 10.26 |
Letter Amendment, dated May 6, 2008, to £82,000,000 Senior Facilities Agreement dated June 29, 2007, by and among Equinix Group Limited, CIT Bank Limited, as arranger, CIT Capital Finance (UK) Limited, as administrative agent and security trustee and the Lenders (as defined therein). |
10-Q | 6/30/08 | 10.37 | ||||||
| 10.27 |
Second Amendment and Accession Agreement, dated as of June 6, 2008, by and among Equinix Singapore Pte. Ltd., Equinix Japan K.K., Equinix Australia Pty. Limited and Equinix Hong Kong Limited, as Borrowers, ABN AMRO Bank N.V. and Coöperatieve Centrale Raiffeisen-Boerenleenbank B.A., Hong Kong Branch, as Lenders and ABN AMRO Bank N.V., as Facility Agent, Arranger and Collateral Agent and related Amendment No. 2 to Guarantee by Equinix, Inc. |
10-Q | 6/30/08 | 10.38 | ||||||
| 10.28 |
Lease Agreement, dated September 30, 2008, by and between Equinix Paris SAS and Digital Realty (Paris 2) SCI, and related guarantee by Equinix, Inc. |
10-Q | 9/30/08 | 10.40 | ||||||
| 10.29 |
Agreement for Lease, dated October 21, 2008, by and between Equinix (London) Limited and Slough Trading Estate Limited, and related guarantee by Equinix, Inc. |
X | ||||||||
| 10.30 |
Letter of Approval & Consent, dated January 15, 2009, to £82,000,000 Senior Facilities Agreement dated June 29, 2007, by and among Equinix Group Limited, CIT Bank Limited, as arranger, CIT Capital Finance (UK) Limited, as administrative agent and security trustee and the Lenders (as defined therein). |
X | ||||||||
| 10.31 |
Severance Agreement by and between Stephen Smith and Equinix, Inc. dated December 18, 2008. |
X | ||||||||
| 10.32 |
Severance Agreement by and between Peter Van Camp and Equinix, Inc. dated December 10, 2008. |
X | ||||||||
| 10.33 |
Severance Agreement by and between Keith Taylor and Equinix, Inc. dated December 19, 2008. |
X | ||||||||
| 10.34 |
Severance Agreement by and between Peter Ferris and Equinix, Inc. dated December 17, 2008. |
X | ||||||||
| 10.35 |
Change in Control Severance Agreement by and between Eric Schwartz and Equinix, Inc. dated December 19, 2008. |
X | ||||||||
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| Incorporated by Reference |
||||||||||
| Exhibit |
Exhibit Description |
Form |
Filing Date/ Period End |
Exhibit | Filed Herewith | |||||
| 10.36 |
Change in Control Severance Agreement by and between Jarrett Appleby and Equinix, Inc. dated December 11, 2008. |
X | ||||||||
| 10.37 |
Offer Letter from Equinix, Inc. to Jarrett Appleby dated November 6, 2008. |
X | ||||||||
| 10.38 |
Restricted Stock Unit Agreement for Jarrett Appleby under the Equinix, Inc. 2000 Equity Incentive Plan. |
X | ||||||||
| 21.1 |
Subsidiaries of Equinix, Inc. |
X | ||||||||
| 23.1 |
Consent of PricewaterhouseCoopers LLP, Independent Registered Public Accounting Firm. |
X | ||||||||
| 31.1 |
Chief Executive Officer Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
X | ||||||||
| 31.2 |
Chief Financial Officer Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
X | ||||||||
| 32.1 |
Chief Executive Officer Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
X | ||||||||
| 32.2 |
Chief Financial Officer Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
X | ||||||||
| + | Confidential treatment has been requested for certain portions which are omitted in the copy of the exhibit electronically filed with the Securities and Exchange Commission. The omitted information has been filed separately with the Securities and Exchange Commission pursuant to Equinix’s application for confidential treatment. |
| (b) | Exhibits. |
See (a) (3) above.
| (c) | Financial Statement Schedule. |
See (a) (2) above.
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Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this Annual Report on Form 10-K to be signed on its behalf by the undersigned, thereunto duly authorized.
| EQUINIX, INC. (Registrant) | ||||||
| February 26, 2009 | By | /S/ STEPHEN M. SMITH | ||||
| Stephen M. Smith President and Chief Executive Officer | ||||||
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Stephen M. Smith or Keith D. Taylor, or either of them, each with the power of substitution, their attorney-in-fact, to sign any amendments to this Annual Report on Form 10-K (including post-effective amendments), and to file the same, with exhibits thereto and other documents in connection therewith, with the Securities and Exchange Commission, hereby ratifying and confirming all that each of said attorneys-in-fact, or their substitute or substitutes, may do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
| Signature |
Title |
Date | ||
| /S/ STEPHEN M. SMITH Stephen M. Smith |
President and Chief Executive Officer (Principal Executive Officer) |
February 26, 2009 | ||
| /S/ KEITH D. TAYLOR Keith D. Taylor |
Chief Financial Officer (Principal Financial and Accounting Officer) |
February 26, 2009 | ||
| /S/ PETER F. VAN CAMP Peter F. Van Camp |
Executive Chair |
February 26, 2009 | ||
| /S/ STEVEN T. CLONTZ Steven T. Clontz |
Director |
February 26, 2009 | ||
| /S/ STEVEN P. ENG Steven P. Eng |
Director | February 26, 2009 | ||
| /S/ GARY F. HROMADKO Gary F. Hromadko |
Director | February 26, 2009 | ||
| /S/ SCOTT G. KRIENS Scott G. Kriens |
Director | February 26, 2009 | ||
| /S/ IRVING F. LYONS, III Irving F. Lyons, III |
Director | February 26, 2009 | ||
| /S/ CHRISTOPHER B. PAISLEY Christopher B. Paisley |
Director | February 26, 2009 | ||
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| Exhibit |
Description of Document | |
| 10.29 | Agreement for Lease, dated October 21, 2008, by and between Equinix (London) Limited and Slough Trading Estate Limited, and related guarantee by Equinix, Inc. | |
| 10.30 | Letter of Approval & Consent, dated January 15, 2009, to £82,000,000 Senior Facilities Agreement dated June 29, 2007, by and among Equinix Group Limited, CIT Bank Limited, as arranger, CIT Capital Finance (UK) Limited, as administrative agent and security trustee and the Lenders (as defined therein). | |
| 10.31 | Severance Agreement by and between Stephen Smith and Equinix, Inc. dated December 18, 2008. | |
| 10.32 | Severance Agreement by and between Peter Van Camp and Equinix, Inc. dated December 10, 2008. | |
| 10.33 | Severance Agreement by and between Keith Taylor and Equinix, Inc. dated December 19, 2008. | |
| 10.34 | Severance Agreement by and between Peter Ferris and Equinix, Inc. dated December 17, 2008. | |
| 10.35 | Change in Control Severance Agreement by and between Eric Schwartz and Equinix, Inc. dated December 19, 2008. | |
| 10.36 | Change in Control Severance Agreement by and between Jarrett Appleby and Equinix, Inc. dated December 11, 2008. | |
| 10.37 | Offer Letter from Equinix, Inc. to Jarrett Appleby dated November 6, 2008. | |
| 10.38 | Restricted Stock Unit Agreement for Jarrett Appleby under the Equinix, Inc. 2000 Equity Incentive Plan. | |
| 21.1 | Subsidiaries of Equinix. | |
| 23.1 | Consent of PricewaterhouseCoopers LLP, Independent Registered Public Accounting Firm. | |
| 31.1 | Chief Executive Officer Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | |
| 31.2 | Chief Financial Officer Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | |
| 32.1 | Chief Executive Officer Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. | |
| 32.2 | Chief Financial Officer Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. | |
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Report of Independent Registered Public Accounting Firm
To the Board of Directors and
Stockholders of Equinix, Inc.:
In our opinion, the consolidated financial statements listed in the index appearing under Item 15(a)(1) present fairly, in all material respects, the financial position of Equinix, Inc. (the “Company”) and its subsidiaries at December 31, 2008 and 2007, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2008 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2008 based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company’s management is responsible for these financial statements, for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in Management’s Report on Internal Control Over Financial Reporting appearing under Item 9A. Our responsibility is to express opinions on these financial statements and on the Company’s internal control over financial reporting based on our integrated audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
As discussed in Note 1 to the consolidated financial statements, Equinix, Inc. adopted Financial Accounting Standards Board Interpretation No. 48, Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109 in 2007 and Statement of Financial Accounting Standards No. 157, Fair Value Measurements in 2008.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ PricewaterhouseCoopers LLP
San Jose, CA
February 25, 2009
F-1
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EQUINIX, INC.
(in thousands, except share and per share data)
| December 31, | ||||||||
| 2008 | 2007 | |||||||
| Assets | ||||||||
| Current assets: |
||||||||
| Cash and cash equivalents |
$ | 220,207 | $ | 290,633 | ||||
| Short-term investments |
42,112 | 63,301 | ||||||
| Accounts receivable, net of allowance for doubtful accounts of $2,037 and $446 |
66,029 | 60,089 | ||||||
| Current portion of deferred tax assets, net |
35,936 | — | ||||||
| Other current assets |
15,227 | 12,738 | ||||||
| Total current assets |
379,511 | 426,761 | ||||||
| Long-term investments |
45,626 | 29,966 | ||||||
| Property, plant and equipment, net |
1,488,402 | 1,162,720 | ||||||
| Goodwill |
342,829 | 442,926 | ||||||
| Intangible assets, net |
50,918 | 67,207 | ||||||
| Deferred tax assets, net |
82,066 | 6,404 | ||||||
| Other assets |
58,914 | 45,884 | ||||||
| Total assets |
$ | 2,448,266 | $ | 2,181,868 | ||||
| Liabilities and Stockholders’ Equity | ||||||||
| Current liabilities: |
||||||||
| Accounts payable and accrued expenses |
$ | 74,317 | $ | 65,096 | ||||
| Accrued property, plant and equipment |
89,518 | 76,504 | ||||||
| Current portion of capital lease and other financing obligations |
4,499 | 3,808 | ||||||
| Current portion of mortgage and loans payable |
52,054 | 16,581 | ||||||
| Current portion of convertible debt |
19,150 | — | ||||||
| Other current liabilities |
50,455 | 29,473 | ||||||
| Total current liabilities |
289,993 | 191,462 | ||||||
| Capital lease and other financing obligations, less current portion |
133,031 | 93,604 | ||||||
| Mortgage and loans payable, less current portion |
386,446 | 313,915 | ||||||
| Convertible debt |
645,986 | 678,236 | ||||||
| Other liabilities |
100,095 | 90,219 | ||||||
| Total liabilities |
1,555,551 | 1,367,436 | ||||||
| Commitments and contingencies (Note 14) |
||||||||
| Stockholders’ equity: |
||||||||
| Preferred stock, $0.001 par value per share; 100,000,000 shares authorized in 2008 and 2007; zero shares issued and outstanding in 2008 and 2007 |
— | — | ||||||
| Common stock, $0.001 par value per share; 300,000,000 shares authorized in 2008 and 2007; 37,745,366 and 36,561,238 shares issued and outstanding in 2008 and 2007 |
38 | 37 | ||||||
| Additional paid-in capital |
1,472,571 | 1,376,915 | ||||||
| Accumulated other comprehensive income (loss) |
(152,800 | ) | (3,888 | ) | ||||
| Accumulated deficit |
(427,094 | ) | (558,632 | ) | ||||
| Total stockholders’ equity |
892,715 | 814,432 | ||||||
| Total liabilities and stockholders’ equity |
$ | 2,448,266 | $ | 2,181,868 | ||||
See accompanying notes to consolidated financial statements.
F-2
Table of Contents
EQUINIX, INC.
Consolidated Statements of Operations
(in thousands, except per share data)
| Years ended December 31, | ||||||||||||
| 2008 | 2007 | 2006 | ||||||||||
| Revenues |
$ | 704,680 | $ | 419,442 | $ | 286,915 | ||||||
| Costs and operating expenses: |
||||||||||||
| Cost of revenues |
414,659 | 263,745 | 188,379 | |||||||||
| Sales and marketing |
66,913 | 40,719 | 32,619 | |||||||||
| General and administrative |
146,564 | 105,794 | 72,123 | |||||||||
| Restructuring charges |
3,142 | 407 | 1,527 | |||||||||
| Gains on asset sales |
— | (1,338 | ) | (9,647 | ) | |||||||
| Total costs and operating expenses |
631,278 | 409,327 | 285,001 | |||||||||
| Income from operations |
73,402 | 10,115 | 1,914 | |||||||||
| Interest income |
7,413 | 15,406 | 6,627 | |||||||||
| Interest expense |
(55,041 | ) | (27,334 | ) | (14,630 | ) | ||||||
| Other income (expense) |
1,307 | 3,047 | (245 | ) | ||||||||
| Loss on debt extinguishment and conversion |
— | (5,949 | ) | — | ||||||||
| Income (loss) before income taxes and cumulative effect of a change in accounting principle |
27,081 | (4,715 | ) | (6,334 | ) | |||||||
| Income tax benefit (expense) |
104,457 | (473 | ) | (439 | ) | |||||||
| Net income (loss) before cumulative effect of a change in accounting principle |
131,538 | (5,188 | ) | (6,773 | ) | |||||||
| Cumulative effect of a change in accounting principle for stock-based compensation (net of tax of $0) |
— | — | 376 | |||||||||
| Net income (loss) |
$ | 131,538 | $ | (5,188 | ) | $ | (6,397 | ) | ||||
| Basic earnings per share: |
||||||||||||
| Basic earnings per share before cumulative effect of a change in accounting principle |
$ | 3.58 | $ | (0.16 | ) | $ | (0.23 | ) | ||||
| Cumulative effect of a change in accounting principle, net of tax of $0 |
— | — | 0.01 | |||||||||
| Basic earnings per share |
$ | 3.58 | $ | (0.16 | ) | $ | (0.22 | ) | ||||
| Weighted average shares |
36,774 | 32,136 | 28,551 | |||||||||
| Diluted earnings per share: |
||||||||||||
| Diluted earnings per share before cumulative effect of a change in accounting principle |
$ | 3.31 | $ | (0.16 | ) | $ | (0.23 | ) | ||||
| Cumulative effect of a change in accounting principle, net of tax of $0 |
— | — | 0.01 | |||||||||
| Diluted earnings per share |
$ | 3.31 | $ | (0.16 | ) | $ | (0.22 | ) | ||||
| Weighted average shares |
43,728 | 32,136 | 28,551 | |||||||||
See accompanying notes to consolidated financial statements.
F-3
Table of Contents
EQUINIX, INC.
Consolidated Statements of Stockholders’ Equity and Other Comprehensive Income (Loss)
For the Three Years Ended December 31, 2008
(in thousands, except share data )
| Common stock | Additional paid-in capital |
Deferred stock-based compensation |
Accumulated other comprehensive income (loss) |
Accumulated deficit |
Total stockholders’ equity |
||||||||||||||||||||
| Shares | Amount | ||||||||||||||||||||||||
| Balances as of December 31, 2005 |
27,444,566 | $ | 27 | $ | 839,497 | $ | (4,930 | ) | $ | 1,126 | $ | (547,047 | ) | $ | 288,673 | ||||||||||
| Issuance of common stock upon exercise of common stock options and vesting of restricted stock |
1,937,010 | 2 | 34,922 | — | — | — | 34,924 | ||||||||||||||||||
| Issuance of stock upon exercise of stock warrants |
26 | — | — | — | — | — | — | ||||||||||||||||||
| Issuance of common stock under employee stock purchase plans |
135,325 | — | 3,912 | — | — | — | 3,912 | ||||||||||||||||||
| Settlement of stock price guarantee |
— | — | 9 | — | — | — | 9 | ||||||||||||||||||
| Tax benefit from employee stock plans |
— | — | 727 | — | — | — | 727 | ||||||||||||||||||
| Cumulative effect adjustment upon adoption of FAS123(R) |
— | — | (5,306 | ) | 4,930 | — | — | (376 | ) | ||||||||||||||||
| Stock-based compensation, net of estimated forfeitures |
— | — | 30,812 | — | — | — | 30,812 | ||||||||||||||||||
| Comprehensive income (loss): |
|||||||||||||||||||||||||
| Net loss |
— | — | — | — | — | (6,397 | ) | (6,397 | ) | ||||||||||||||||
| Foreign currency translation gain |
— | — | — | — | 2,408 | — | 2,408 | ||||||||||||||||||
| Unrealized gain on investments, net of tax of $0 |
— | — | — | — | 336 | — | 336 | ||||||||||||||||||
| Net comprehensive income (loss) |
— | — | — | — | 2,744 | (6,397 | ) | (3,653 | ) | ||||||||||||||||
| Balances as of December 31, 2006 |
29,516,927 | 29 | 904,573 | — | 3,870 | (553,444 | ) | 355,028 | |||||||||||||||||
| Issuance of common stock upon follow-on offering |
4,211,939 | 4 | 339,904 | — | — | — | 339,908 | ||||||||||||||||||
| Issuance of common stock upon exercise of common stock options and vesting of restricted stock |
1,336,049 | 2 | 31,583 | — | — | — | 31,585 | ||||||||||||||||||
| Issuance of common stock upon conversion of convertible subordinated debentures |
1,367,090 | 2 | 53,227 | — | — | — | 53,229 | ||||||||||||||||||
| Issuance of common stock under employee stock purchase plans |
120,787 | — | 4,771 | — | — | — | 4,771 | ||||||||||||||||||
| Issuance of stock upon exercise of stock warrants |
8,446 | — | — | — | — | — | — | ||||||||||||||||||
| Stock-based compensation, net of estimated forfeitures |
— | — | 42,857 | — | — | — | 42,857 | ||||||||||||||||||
| Comprehensive income (loss): |
|||||||||||||||||||||||||
| Net loss |
— | — | — | — | — | (5,188 | ) | (5,188 | ) | ||||||||||||||||
| Foreign currency translation loss |
— | — | — | — | (8,069 | ) | — | (8,069 | ) | ||||||||||||||||
| Unrealized gain on investments, net of tax of $0 |
— | — | — | — | 311 | — | 311 | ||||||||||||||||||
| Net comprehensive loss |
— | — | — | — | (7,758 | ) | (5,188 | ) | (12,946 | ) | |||||||||||||||
| Balances as of December 31, 2007 |
36,561,238 | 37 | 1,376,915 | — | (3,888 | ) | (558,632 | ) | 814,432 | ||||||||||||||||
| Issuance of common stock upon exercise of common stock options and vesting of restricted stock |
733,130 | 1 | 19,914 | — | — | — | 19,915 | ||||||||||||||||||
| Issuance of common stock under employee stock purchase plans |
119,354 | — | 6,315 | — | — | — | 6,315 | ||||||||||||||||||
| Issuance of common stock upon conversion of convertible subordinated debentures |
331,644 | — | 13,072 | — | — | — | 13,072 | ||||||||||||||||||
| Tax benefit from employee stock plans |
— | — | 696 | — | — | — | 696 | ||||||||||||||||||
| Stock-based compensation, net of estimated forfeitures |
— | — | 55,659 | — | — | — | 55,659 | ||||||||||||||||||
| Comprehensive income (loss): |
|||||||||||||||||||||||||
| Net income |
— | — | — | — | — | 131,538 | 131,538 | ||||||||||||||||||
| Foreign currency translation loss |
— | — | — | — | (142,140 | ) | — | (142,140 | ) | ||||||||||||||||
| Unrealized loss on interest rate swaps, net of tax of $4,660 |
— | — | — | — | (6,350 | ) | — | (6,350 | ) | ||||||||||||||||
| Unrealized loss on investments, net of tax of $169 |
— | — | — | — | (422 | ) | — | (422 | ) | ||||||||||||||||
| Net comprehensive loss |
— | — | — | — | (148,912 | ) | 131,538 | (17,374 | ) | ||||||||||||||||
| Balances as of December 31, 2008 |
37,745,366 | $ | 38 | $ | 1,472,571 | $ | — | $ | (152,800 | ) | $ | (427,094 | ) | $ | 892,715 | ||||||||||
See accompanying notes to consolidated financial statements.
F-4
Table of Contents
EQUINIX, INC.
Consolidated Statements of Cash Flows
(in thousands)
| Years ended December 31, | ||||||||||||
| 2008 | 2007 | 2006 | ||||||||||
| Cash flows from operating activities: |
||||||||||||
| Net income (loss) |
$ | 131,538 | $ | (5,188 | ) | $ | (6,397 | ) | ||||
| Adjustments to reconcile net income (loss) to net cash provided by operating activities: |
||||||||||||
| Depreciation |
152,297 | 97,887 | 71,737 | |||||||||
| Stock-based compensation |
55,085 | 42,731 | 30,767 | |||||||||
| Restructuring charges |
3,142 | 407 | 1,527 | |||||||||
| Amortization of intangible assets |
6,610 | 2,193 | 781 | |||||||||
| Accretion of asset retirement obligation & accrued restructuring charges |
1,682 | 3,136 | 3,554 | |||||||||
| Amortization of debt issuance costs |
4,887 | 3,227 | 880 | |||||||||
| Allowance for doubtful accounts |
1,582 | 94 | 39 | |||||||||
| Cumulative effect of a change in accounting principle |
— | — | (376 | ) | ||||||||
| Gains on asset sales |
— | (1,338 | ) | (9,647 | ) | |||||||
| Gain on foreign currency hedge |
— | (1,494 | ) | — | ||||||||
| Other items |
968 | (1,087 | ) | (205 | ) | |||||||
| Changes in operating assets and liabilities: |
||||||||||||
| Accounts receivable |
(9,152 | ) | (17,997 | ) | (9,666 | ) | ||||||
| Deferred tax assets, net |
(111,067 | ) | (5,995 | ) | (337 | ) | ||||||
| Other assets |
(7,137 | ) | 12,460 | (2,937 | ) | |||||||
| Accounts payable and accrued expenses |
9,937 | (6,682 | ) | 4,756 | ||||||||
| Accrued restructuring charges |
(2,763 | ) | (13,669 | ) | (12,804 | ) | ||||||
| Other liabilities |
29,949 | 11,335 | 3,740 | |||||||||
| Net cash provided by operating activities |
267,558 | 120,020 | 75,412 | |||||||||
| Cash flows from investing activities: |
||||||||||||
| Purchases of investments |
(240,556 | ) | (114,322 | ) | (88,422 | ) | ||||||
| Sales of investments |
131,631 | 16,000 | 2,969 | |||||||||
| Maturities of investments |
114,361 | 80,221 | 81,948 | |||||||||
| Purchase of Los Angeles IBX property |
— | (49,059 | ) | — | ||||||||
| Purchase of Chicago IBX property |
— | — | (9,766 | ) | ||||||||
| Purchase of San Jose IBX property |
— | (71,471 | ) | — | ||||||||
| Purchase of IXEurope, net of cash acquired |
— | (541,792 | ) | — | ||||||||
| Purchase of Virtu, net of cash acquired |
(23,241 | ) | — | — | ||||||||
| Purchases of other property, plant and equipment |
(471,128 | ) | (416,811 | ) | (162,291 | ) | ||||||
| Accrued property, plant and equipment |
24,096 | 39,975 | 7,554 | |||||||||
| Proceeds from asset sales |
— | 1,657 | 9,530 | |||||||||
| Purchase of restricted cash |
(14,234 | ) | (598 | ) | — | |||||||
| Release of restricted cash |
1,031 | — | — | |||||||||
| Other investing activities |
— | 1,475 | 8 | |||||||||
| Net cash used in investing activities |
(478,040 | ) | (1,054,725 | ) | (158,470 | ) | ||||||
| Cash flows from financing activities: |
||||||||||||
| Proceeds from employee equity awards |
26,230 | 36,356 | 38,836 | |||||||||
| Proceeds from issuance of common stock |
— | 339,908 | — | |||||||||
| Proceeds from borrowings under credit line |
— | — | 40,000 | |||||||||
| Proceeds from mortgage payable and loans payable |
142,373 | 149,606 | 40,000 | |||||||||
| Proceeds from convertible debt |
— | 645,986 | — | |||||||||
| Repayment of borrowings from credit line |
— | — | (70,000 | ) | ||||||||
| Repayment of capital leases and other financing obligations |
(3,832 | ) | (2,406 | ) | (1,506 | ) | ||||||
| Repayment of mortgage and notes payable |
(19,296 | ) | (2,150 | ) | (1,104 | ) | ||||||
| Debt issuance costs |
(948 | ) | (22,287 | ) | (811 | ) | ||||||
| Other financing activities |
579 | — | 692 | |||||||||
| Net cash provided by financing activities |
145,106 | 1,145,013 | 46,107 | |||||||||
| Effect of foreign currency exchange rates on cash and cash equivalents |
(5,050 | ) | (2,238 | ) | 247 | |||||||
| Net increase (decrease) in cash and cash equivalents |
(70,426 | ) | 208,070 | (36,704 | ) | |||||||
| Cash and cash equivalents at beginning of year |
290,633 | 82,563 | 119,267 | |||||||||
| Cash and cash equivalents at end of year |
$ | 220,207 | $ | 290,633 | $ | 82,563 | ||||||
| Supplemental disclosure of cash flow information: |
||||||||||||
| Cash paid for taxes |
$ | 98 | $ | 242 | $ | 545 | ||||||
| Cash paid for interest |
$ | 53,373 | $ | 26,900 | $ | 13,344 | ||||||
See accompanying notes to consolidated financial statements.
F-5
Table of Contents
EQUINIX, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Nature of Business and Summary of Significant Accounting Policies
Nature of Business
Equinix, Inc. (“Equinix” or the “Company”) was incorporated in Delaware on June 22, 1998. Equinix provides global data center services. Global enterprises, content providers, financial companies and network service providers rely upon Equinix’s insight and expertise to protect and connect their most valued information assets. The Company operates 42 International Business Exchange (“IBX”) data centers, or IBX centers, across 18 markets in North America, Europe and Asia-Pacific where customers directly interconnect with a network ecosystem of partners and customers. More than 300 network service providers offer access to more than 90% of the world’s Internet routes inside the Company’s IBX centers. This access to Internet routes provides Equinix customers improved reliability and streamlined connectivity while significantly reducing costs by reaching a critical mass of networks within a centralized physical location.
Basis of Presentation, Consolidation and Foreign Currency
The accompanying consolidated financial statements include the accounts of Equinix and its subsidiaries, including the operations of IXEurope plc (“IXEurope”) from September 14, 2007 and Virtu Secure Webservices B.V. (“Virtu”) from February 5, 2008 (see Note 2). All significant intercompany accounts and transactions have been eliminated in consolidation.
Foreign exchange gains or losses resulting from foreign currency transactions, including intercompany foreign currency transactions, that are anticipated to be repaid within the foreseeable future, are reported within other income (expense) on the Company’s accompanying statements of operations. For additional information on the impact of foreign currencies to the Company’s consolidated financial statements, see “Comprehensive Income (Loss)” below.
Reclassification
Certain amounts in the accompanying consolidated financial statements have been reclassified to conform to the consolidated financial statement presentation as of and for the year ended December 31, 2008.
Use of Estimates
The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the U.S. requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates.
Cash, Cash Equivalents and Short-Term and Long-Term Investments
The Company considers all highly liquid instruments with an original maturity from the date of purchase of three months or less to be cash equivalents. Cash equivalents consist of money market mutual funds, commercial paper and certificates of deposit with financial institutions with maturities up to 90 days. Short-term investments generally consist of certificates of deposits and commercial paper with original maturities of between 90 days and one year and highly liquid debt securities of corporations, agencies of the U.S. government and the U.S. government. Long-term investments generally consist of debt securities of corporations, agencies of the U.S. government and the U.S. government with maturities greater than one year. Short-term and long-term
F-6
Table of Contents
EQUINIX, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
investments are classified as “available-for-sale” and are carried at fair value based on quoted market prices with unrealized gains and losses reported in stockholders’ equity as a component of other comprehensive income. The cost of securities sold is based on the specific identification method. The Company reviews its investment portfolio at least quarterly to determine if any securities may be other-than-temporarily impaired due to increased credit risk, changes in industry or sector of a certain instrument or ratings downgrades.
Financial Instruments and Concentration of Credit Risk
Financial instruments which potentially subject the Company to concentrations of credit risk consist of cash, cash equivalents and short-term and long-term investments, to the extent outstanding balances exceed federal insurance limits, and accounts receivable. Risks associated with cash, cash equivalents and short-term and long-term investments are mitigated by the Company’s investment policy, which limits the Company’s investing to only those marketable securities rated at least A-1/P-1 and A-/A3, as determined by independent credit rating agencies.
A significant portion of the Company’s customer base is comprised of businesses throughout the U.S. However, a portion of the Company’s revenues are derived from the Company’s Europe and Asia-Pacific operations. For the year ended December 31, 2008 the Company’s revenues were split approximately 63% in the U.S., 25% in Europe and 12% in Asia-Pacific. For the year ended December 31, 2007 the Company’s revenues were split approximately 77% in the U.S., 9% in Europe and 14% in Asia-Pacific. For the year ended December 31, 2006 the Company’s revenues were split approximately 86% in the U.S. and 14% in Asia-Pacific. No single customer accounted for greater than 10% of accounts receivables or revenues as of or for the years ended December 31, 2008, 2007 and 2006.
As of December 31, 2008 the Company had outstanding commitments of $251,725,000 due to one lender. These commitments are associated with real estate financing obligations in connection with the Other Note Payable (see Note 9), the Los Angeles IBX Financing (see Note 10), the Mortgage Payable (see Note 9) and the Chicago IBX Financing (see Note 9).
Property, Plant and Equipment
Property, plant and equipment are stated at the Company’s original cost or relative fair value for acquired property, plant and equipment. Depreciation is computed using the straight-line method over the estimated useful lives of the respective assets, generally two to five years for non-IBX center equipment and furniture and fixtures and two to 13 years for IBX center equipment. Leasehold improvements and assets acquired under capital leases are amortized over the shorter of the lease term or the estimated useful life of the asset or improvement, which is generally 10 to 15 years for the leasehold improvements, unless they are considered integral equipment, in which case they are amortized over the lease term. Buildings owned by the Company are depreciated over the estimated useful life of the building, which is generally 40 to 50 years. Site improvements are improvements to owned property versus leasehold improvements, which are improvements to leased property. Site improvements are depreciated using the straight-line method over the estimated useful life of the respective asset, generally 10 to 15 years. Pursuant to EITF Issue 05-6, “Determining the Amortization Period for Leasehold Improvements Purchased after Lease Inception or Acquired in a Business Combination”, (i) leasehold improvements acquired in a business combination are amortized over the shorter of the useful life of the assets or a term that includes required lease periods and renewals that are deemed to be reasonably assured at the date of acquisition and (ii) leasehold improvements that are placed into service significantly after and not contemplated at or near the beginning of the lease term are amortized over the shorter of the useful life of the assets or a term that includes required lease periods and renewals that are deemed to be reasonably assured at the date the leasehold improvements are purchased.
F-7
Table of Contents
EQUINIX, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
Construction in Progress
Construction in progress includes direct and indirect expenditures for the construction and expansion of IBX centers and is stated at original cost. The Company has contracted out substantially all of the construction and expansion efforts of its IBX centers to independent contractors under construction contracts. Construction in progress includes certain costs incurred under a construction contract including project management services, engineering and schematic design services, design development, construction services and other construction-related fees and services. In addition, the Company has capitalized certain interest costs during the construction phase. Once an IBX center or expansion project becomes operational, these capitalized costs are allocated to certain property, plant and equipment categories and are depreciated over the estimated useful life of the underlying assets.
Interest incurred is capitalized in accordance with SFAS No. 34, “Capitalization of Interest Costs.” The following table sets forth total interest cost incurred and total interest cost capitalized during the year ended December 31 (in thousands):
| 2008 | 2007 | 2006 | |||||||
| Interest expense |
$ | 55,041 | $ | 27,334 | $ | 14,630 | |||
| Interest capitalized |
6,030 | 7,705 | 1,575 | ||||||
| Interest charges incurred |
$ | 61,071 | $ | 35,039 | $ | 16,205 | |||
Asset Retirement Costs
The fair value of a liability for an asset retirement obligation is recognized in the period in which it is incurred if a reasonable estimate of fair value can be made. The associated retirement costs are capitalized and included as part of the carrying value of the long-lived asset and amortized over the useful life of the asset. Subsequent to the initial measurement, the Company accretes the liability in relation to the asset retirement obligations over time and the accretion expense is recorded as a cost of revenue. The Company’s asset retirement obligations are primarily related to its IBX centers, of which the majority are leased under long-term arrangements, and, in certain cases, are required to be returned to the landlords in their original condition. All of the Company’s IBX center leases have been subject to significant development by the Company in order to convert them from, in most cases, vacant buildings or warehouses into IBX centers. The majority of the Company IBX centers’ initial lease terms expire at various dates ranging from 2009 to 2027 and all of them enable the Company to extend the lease terms.
The following table summarizes the activity of the Company’s asset retirement obligation liability (in thousands):
| Asset retirement obligations as of December 31, 2005 |
$ | 3,649 | ||
| Additions |
— | |||
| Reductions |
(200 | ) | ||
| Accretion expense |
536 | |||
| Impact of foreign currency exchange |
— | |||
| Asset retirement obligations as of December 31, 2006 |
3,985 | |||
| Additions |
4,294 | |||
| Reductions |
(166 | ) | ||
| Accretion expense |
646 | |||
| Impact of foreign currency exchange |
— | |||
| Asset retirement obligations as of December 31, 2007 |
8,759 | |||
| Additions |
2,865 | |||
| Reductions |
— | |||
| Accretion expense |
890 | |||
| Impact of foreign currency exchange |
(250 | ) | ||
| Asset retirement obligations as of December 31, 2008 |
$ | 12,264 | ||
F-8
Table of Contents
EQUINIX, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
Goodwill and Other Intangible Assets
Equinix currently operates in three reportable segments, which are also the Company’s reporting units for the purposes of SFAS No. 142, “Goodwill and Other Intangible Assets” (“SFAS 142), which consist of the Company’s geographic operations in 1) the United States, 2) Europe and 3) Asia-Pacific. As of December 31, 2008 and 2007, the Company had goodwill attributable to both the Europe and Asia-Pacific reporting units. The Company performed its annual impairment review of the Europe reporting unit in the third quarter of 2008 and the Asia-Pacific reporting unit in the fourth quarter of 2008. The Company concluded that its goodwill attributed to the Company’s Europe and Asia-Pacific reporting units was not impaired as the fair value of its Europe and Asia-Pacific reporting units exceeded the carrying value of these reporting units, including goodwill. The recent market declines have not had an impact on this determination. The primary methods used to determine the fair values for SFAS 142 impairment purposes were the discounted cash flow and market methods. The assumptions supporting the discounted cash flow method, including the discount rate, which was assumed to be 9.5% for the Europe reporting unit and 13.0% for the Asia-Pacific reporting unit, were determined using the Company’s best estimates as of the date of the impairment reviews. The Asia-Pacific reporting unit uses a higher discount rate due to it smaller size and lack of a direct public company comparable, which currently exists for the Company’s Europe reporting unit. Impairment assessments inherently involve judgment as to assumptions about expected future cash flows and the impact of market conditions on those assumptions. Future events and changing market conditions may impact the Company’s assumptions as to prices, costs, growth rates or other factors that may result in changes in the Company’s estimates of future cash flows. Although the Company believes the assumptions it used in testing for impairment are reasonable, significant changes in any one of the Company’s assumptions could produce a significantly different result.
As of December 31, 2008 and 2007, the Company’s only significant intangible assets still subject to amortization consisted of customer contracts and leases, both of which are being amortized on a straightline basis. Customer contracts are amortized over 11 years and leases are amortized over the life of the leases.
For further information on goodwill and other intangible assets, see Note 5 below.
Derivatives and Hedging Activities
The Company follows SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended (“SFAS 133”), which requires the Company to recognize all derivatives on the consolidated balance sheet at fair value. The accounting for changes in the value of a derivative depends on whether the contract is for trading purposes or has been designated and qualifies for hedge accounting. In order to qualify for hedge accounting, a derivative must be considered highly effective at reducing the risk associated with the exposure being hedged. In order for a derivative to be designated as a hedge, there must be documentation of the risk management objective and strategy, including identification of the hedging instrument, the hedged item and the risk exposure, and how effectiveness is to be assessed prospectively and retrospectively.
To assess effectiveness, the Company uses a regression analysis. The extent to which a hedging instrument has been and is expected to continue to be effective at achieving offsetting changes in cash flows is assessed and documented at least quarterly. Any ineffectiveness is reported in current-period earnings. If it is determined that a derivative is not highly effective at hedging the designated exposure, hedge accounting is discontinued. For qualifying cash flow hedges, the effective portion of the change in the fair value of the derivative is recorded in other comprehensive income (loss) and recognized in the consolidated statements of operations when the hedged cash flows affect earnings. The ineffective portions of cash flow hedges are immediately recognized in earnings. If the hedge relationship is terminated, then the change in fair value of the derivative recorded in other comprehensive income (loss) is recognized in earnings when the cash flows that were hedged occur, consistent
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Table of Contents
EQUINIX, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
with the original hedge strategy. For hedge relationships discontinued because the forecasted transaction is not expected to occur according to the original strategy, any related derivative amounts recorded in other comprehensive income (loss) are immediately recognized in earnings. The Company does not use derivatives for speculative or trading purposes.
For further information on derivatives and hedging activities, see Note 6 below.
Fair Value of Financial Instruments
The carrying value amounts of many of the Company’s financial instruments, including cash and cash equivalents, short-term and long-term investments, accounts receivable, accounts payable and accrued expenses and accrued property, plant and equipment approximate their fair value due primarily to the short-term maturity of the related instruments. The fair value of the Company’s convertible debt (see Note 8), which is traded in the market, is based on quoted market prices. The fair value of the Company’s mortgage and loans payable (see Note 9), which are not traded in the market, is estimated by considering the Company’s credit rating, current rates available to the Company for debt of the same remaining maturities and the terms of the debt.
The following table sets forth the estimated fair values of the Company’s convertible debt and mortgage and loans payable as of December 31(in thousands):
| 2008 | 2007 | |||||||||||
| Carrying Value |
Fair Value | Carrying Value |
Fair Value | |||||||||
| Convertible Debt: |
||||||||||||
| Convertible subordinated debentures |
$ | 19,150 | $ | 19,290 | $ | 32,250 | $ | 83,747 | ||||
| 2.50% convertible subordinated notes |
250,000 | 175,000 | 250,000 | 284,333 | ||||||||
| 3.00% convertible subordinated notes |
395,986 | 251,451 | 395,986 | 487,205 | ||||||||
| $ | 665,136 | $ | 445,741 | $ | 678,236 | $ | 855,285 | |||||
| Mortgage and Loans Payable: |
||||||||||||
| Mortgage payable |
$ | 94,362 | $ | 80,221 | $ | 96,746 | $ | 111,724 | ||||
| Chicago IBX financing |
109,991 | 103,184 | 105,612 | 112,453 | ||||||||
| Asia-Pacific financing |
87,009 | 77,382 | 25,933 | 20,381 | ||||||||
| European financing |
130,981 | 96,853 | 83,544 | 62,871 | ||||||||
| Other note payable |
9,672 | 9,672 | 18,661 | 18,661 | ||||||||
| Netherlands financing |
6,485 | 6,485 | — | — | ||||||||
| $ | 438,500 | $ | 373,797 | $ | 330,496 | $ | 326,090 | |||||
Fair Value Measurements
Effective January 1, 2008, the Company adopted the provisions of SFAS No. 157, “Fair Value Measurements” (“SFAS 157”), as amended. SFAS 157 defines fair value as “the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date,” or the “exit price.” Accordingly, an entity must now determine the fair value of an asset or liability based on the assumptions that market participants would use in pricing the asset or liability, not those of the reporting entity itself. Additionally, SFAS 157 establishes a fair value hierarchy, which gives precedence to fair value measurements, calculated using observable inputs to those using unobservable inputs. SFAS No. 157 requires entities to disclose financial instruments measured at fair value according to the
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EQUINIX, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
hierarchy in each reporting period after implementation. As allowed under SFAS 157, the Company elected to defer certain provisions of SFAS 157 to fiscal years beginning after November 15, 2008 for nonrecurring, nonfinancial instruments shown at fair value. The Company did not elect to adopt fair value accounting for any assets and liabilities allowed by SFAS No. 159, “Fair Value Option for Financial Assets and Liabilities” (“SFAS 159”).
For further information on fair value measurements, see Note 7 below.
Impairment of Long-Lived Assets
The Company reviews its long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by comparing the carrying amount of an asset to estimated undiscounted future net cash flows expected to be generated by the asset. If the carrying amount of the asset exceeds its estimated future cash flows, an impairment charge is recognized by the amount by which the carrying amount of the asset exceeds the fair value of the asset.
Revenue Recognition
Equinix derives more than 90% of its revenues from recurring revenue streams, consisting primarily of (1) colocation services, such as the licensing of cabinet space and power; (2) interconnection services, such as cross connects and Equinix Exchange ports; (3) managed infrastructure services, such as Equinix Direct and bandwidth and (4) other services consisting of rent. The remainder of the Company’s revenues are from non-recurring revenue streams, such as from the recognized portion of deferred installation revenues, professional services, contract settlements and equipment sales. Revenues from recurring revenue streams are generally billed monthly and recognized ratably over the term of the contract, generally one to three years for IBX center space customers. Non-recurring installation fees, although generally paid in a lump sum upon installation, are deferred and recognized ratably over the longer of the term of the related contract or expected life of the installation. Professional service fees are recognized in the period in which the services were provided and represent the culmination of a separate earnings process as long as they meet the criteria for separate recognition under EITF No. 00-21, “Revenue Arrangements with Multiple Deliverables.” Revenue from bandwidth and equipment sales is recognized on a gross basis in accordance with EITF No. 99-19, “Recording Revenue as a Principal versus Net as an Agent”, primarily because the Company acts as the principal in the transaction, takes title to products and services and bears inventory and credit risk. To the extent the Company does not meet the criteria for recognizing bandwidth and equipment services as gross revenue, the Company records the revenue on a net basis. Revenue from contract settlements, when a customer wishes to terminate their contract early, is generally recognized on a cash basis, when no remaining performance obligations exist, to the extent that the revenue has not previously been recognized.
The Company occasionally guarantees certain service levels, such as uptime, as outlined in individual customer contracts. To the extent that these service levels are not achieved, the Company reduces revenue for any credits given to the customer as a result. The Company generally has the ability to determine such service level credits prior to the associated revenue being recognized, and historically, these credits have generally not been significant. There were no significant service level credits issued during the years ended December 31, 2008, 2007 and 2006.
Revenue is recognized only when the service has been provided and when there is persuasive evidence of an arrangement, the fee is fixed or determinable and collection of the receivable is reasonably assured. It is
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EQUINIX, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
customary business practice to obtain