Cogent Communications Holdings Inc (CCOI) 2007 Q2 法說會逐字稿

Thank you all and good morning. Welcome to our second quarter 2007 earnings conference call. I'm Dave Schaeffer, Cogent's Chief Executive Officer. With me on today's call is Tad Weed, our Chief Financial Officer.

We are pleased with the results of our previous quarter, in particular our sales representatives achieving unit productivity per full-time equivalent of 5.8 sales per rep per month over the quarter, adding over 1200 on-net customer connections to our network in the quarter. We significantly strengthened our balance sheet in the quarter with our June 2007 sale of $200 million of a convertible debt offering with a 1% current pay, and we immediately used $15 million of those proceeds to buy back stock concurrent with that transaction.

We also repaid our $10.2 million of outstanding 7.5% convertible notes that were due in June 2007 that we acquired from [Allied Riser]. These transactions added $135 million of net cash to our balance sheet. We significantly increased our footprint by adding 30 buildings to our network and increasing our data center space by 15% by acquiring leases and leasehold improvements for six previously built data centers where we added 38,000 square feet of data center space in major markets through this acquisition at no cost by just acquiring the lease obligations.

Again, I want to personally thank the entire Cogent team for their efforts and recognize the efforts of our sales organization in exceeding their productivity goals throughout the quarter. Throughout this discussion as in the past, we will continue to focus on the results and impact of our on on-net business, which is Cogent's growth business. We will also highlight several operational statistics that we believe demonstrate our increasing market share, expanding scale and tremendous operating leverage of our on-net business. I will review certain operational highlights and also outline expansion plans and opportunities as well as our target for sales force growth in 2008. Tad will provide additional details for our financial performance. Tad will also walk through our expectations for third quarter 2007 and update and reaffirm expectations for fiscal 2007. Following our remarks, we will open the floor for questions and answers. Now I would like to turn it over to Tad to read our Safe Harbor language.

Thank you, Dave, and good morning everyone. The Safe Harbor language. This second quarter of 2007 earnings report and this earnings conference call discuss Cogent's business outlook and contain forward-looking statements within the meaning of Section 27-A and 21-E of the Securities Act. The forward-looking statements are based upon our current [intent], belief and expectations. These forward-looking statements and all other statements (inaudible) be made on this call that are not historical fact are subject to a number of risks and uncertainties and actual results may differ materially. Please refer to our SEC filings for more information on the factors that could cause actual results to differ.

You should also be aware that Cogent's expectations do not reflect the potential impact of mergers, acquisitions, other business combinations or financing transactions that may be completed after today. Cogent undertakes no obligation to release publicly any revision to any forward-looking statement made today or otherwise up or supplement statements made on this call. Also during the call, if we use any non-GAAP financial measures as defined by SEC and Regulation G, you'll find these reconciled to the GAAP measurement in our earnings release and on our web site at cogentco.com.

Now I will turn the call back over to Dave.

Thanks, Tad. Hopefully, you have had a chance to review our earnings press release. As within previous quarters, the press release includes a number of historical quarterly metrics. These metrics will be added to our web site. Hopefully you find these metrics informative and helpful in understanding the financial results and the trends in our operations. As always, if you have any suggestions for further metrics to be added or refined, please let us know.

Our second quarter 2007 revenue of $45.1 million was within the range of our guidance of between 45 and $46 million. Our EBITDA as adjusted of $11.1 million was also within the range of our guidance of between 11 and $12 million.

Our earnings per share of a loss of $0.19 was better than the range of our guidance, which was between a loss of $0.20 and $0.25 per share. We continue to be very pleased with the growth of our on-net business, in particular the unit number of on-net connections.

Our continuing investment in our sales and marketing efforts as well as our network expansions are leading us to increasing on-net connections and on-net revenues. Net additions of on-net customer connections increased 14.1% Q1 2007 to Q2 2007. This growth was greater than the 10.1% that we had experienced in the previous quarter sequentially from Q4 2006 to Q1 2007. Our on-net revenue grew 6.5% Q1 2007 to Q2 2007. Despite the increase in the number of customer connection additions and the exceeding of our goals for our sales force productivity, revenue growth in our on-net business was down from the 10.6% sequential growth that we experienced Q4 2006 to Q1 2007 and less than our targeted on-net revenue growth of 9 to 10%.

A reduction in our on-net ARPU was directly impacted by two primary factors. First, our recently higher sales representatives tended to close a number of smaller on-net connection sales than did our more tenured and long serving the reps. Secondly, we extended our average contract term throughout the quarter by more than 25%. Just to remind you, we do provide discounts for longer-term contracts. Those contracts that are one year in length receive a 10% discount, and those that are two year or longer receive a 20% discount. These longer contracts did impact our ARPU.

Total revenue for Q2 2007 was $45.1 million. This represented a 3.4% increase over the first quarter where revenue was $43.6 million and a 24.8% increase over second quarter 2006 revenue of $36.2 million. Traffic on our network grew sequentially Q1 to Q2 at approximately 9%, and from Q2 2006 to Q2 2007 grew by approximately 95%.

Our on-net revenue and on-net customer connections continued to exhibit strong growth. On-net revenues grew by $2.1 million sequentially, or 6.5%. On-net revenues grew year-over-year Q2 2006 to Q2 2007 by $10.2 million, or slightly over 40% -- 40.4%. On-net revenues continued to increase as a percentage of our total revenue, growing from 76% of our revenue in Q1 2007 to 78.2% of our revenue in Q2 2007.

Over 80% of our new sales are on-net services. On-net customer connections grew by 14.1% sequentially from 8565 at the end of Q1 2007 to 9773 at the end of Q2 2007. Revenues from our off-net business declined 6.2% for the quarter, and non-core revenues, which we no longer sell, declined by approximately 6.5%.

Cogent's pricing policy remains unchanged and we believe strongly that we remain the industry price leader. The pricing of our most widely sold product, which is a 100 Mbps Internet connection for $1000 a month on a month-to-month contract, is $10 per month. As I mentioned earlier, we do provide discounts for longer-term contracts and we saw in the quarter our average contract length increase by almost 25%. As I mentioned earlier, our on-net customer connections are a result of both smaller sales and longer contracts.

We also offer new on-net customers a guarantee that we will undercut any competitor's price for a comparable service on a per-megabit basis by 50%. Again, we have not seen virtually any potential customers present us with invoices that required us to implement this discounting policy.

On-net ARPU was approximately $1283 for Q2 2007 versus $1352 for Q1, a decline of approximately 5.1%. While this was greater than the 0.5% decline that we experienced Q4 2006 to Q1 2007, this was due almost entirely to the mix of customer connections sold as well as the contract term length that I mentioned earlier. Off-net ARPU was essentially unchanged Q1 2007 to Q2 2007 at approximately $810. Total on-net churn for combined corporate and NetCentric customers remained the same in Q2 2007 as it did in Q1 2007 at approximately 2%. Off-net churn increased from approximately 3% in Q1 2007 to approximately 6% in Q2 2007.

EBITDA as adjusted was $11.1 million for Q2 2007, representing approximately a 10% increase in EBITDA from the $10.1 million as adjusted that we reported in Q1 2007. Our EBITDA and [EBITDAR] margins continued to expand as well as our gross margin expands from the increase in our on-net business. Our EBITDA margin expanded by 150 basis points, going from 23.1% in Q1 2007 to 24.5% in Q2 2007.

Our gross margin increased by 70 basis points for the quarter, going from 51.8% in Q1 2007 to 52.5% in Q2 2007. Our direct incremental on-net margins gross remain at approximately 100% and our direct incremental EBITDA margins for our on-net business remain at approximately 95%.

We continued to expand our network by adding additional buildings. We expect that pace to continue throughout the remainder of 2007. Our target is to add 100 buildings over the course of the year. We added 30 buildings in the second quarter and have added 52 buildings in the first half of the year. We increased our Cogent-owned data center space by 15%, adding six new Cogent data centers with over 38,000 square feet of raised floor space. We now operate a total of 34 data centers with over 290,000 square feet of data center space. These six new data centers are located in Atlanta, Chicago, Dallas, Los Angeles, Miami and downtown Washington D.C. These data centers include leasehold improvements put in place by the previous owner at a cost of over $60 million. We obtained these data centers for no cash or equity consideration, but rather only assumed the remaining lease obligations on these facilities, and they are being added to the Cogent network.

On Q1 2007 call, we indicated that we had secured additional fiber extending our network in Italy from Milan to Rome, in the Nordics from Stockholm to Oslo, and in the U.S. from Los Angeles to Los Vegas. Since then, we have also secured additional fiber on our network, expanding our network in the Czech Republic into Prague, into Slovakia, going to Bratislava and into Hungary going into Budapest. Here in the United States, we have also extended our network, securing fiber and lighting the route between Chicago and Milwaukee, and from San Antonio, Texas, to McAllen, which is the major Gateway into Mexico and Latin America. We have also added metropolitan fiber in a number of markets throughout North America where our network had previously passed through. We have added on-net connectivity and metro fiber in Charlotte, North Carolina and in Salt Lake City.

We have expanded our backbone capacity by lighting additional wavelengths on the network by over 50% in the first half of the year. Our goal is to expand that capacity in 2007 by nearly 100%. We're also evaluating several other fiber expansion routes, both in North America and in Europe, and we will be in a position to talk about those on our next call.

Now I would like to turn it over to Tad where he will give you some additional color on our 2007 Q2 results as well as our expectations for Q3 and an update and reaffirmation of our guidance for full year 2007.

Thank you, David, good morning to everyone. I would also like to thank and congratulate our entire Cogent team for their hard work and performance this quarter.

On our loss per share, our loss per basic and diluted common share was a loss of $0.19 for the second quarter, and this was identical to the loss per share of $0.19 for the first quarter. The reduced net loss was offset by fewer shares outstanding, equating to the same loss per share sequentially. Our loss per share, basic and diluted common share, was $0.01 better than our range of guidance of a loss between $0.20 and $0.25 for the quarter. As of June 30, 2007, we had 48.3 million common shares outstanding, and that is a decrease from the 49 million shares outstanding at the end of March. The shares decrease from the net impact of purchasing the 1.8 million shares for $50 million in June 2007, and during the quarter, we granted 1 million shares to the vast majority of our employees. All Cogent employees that were hired prior to January 1, 2007 received their restricted stock grant in the second quarter of 2007.

Our non-cash equity based comp expense, which includes the impact of Statement 123-R, increased our second quarter loss by about $2.5 million, or about $0.05 a share. Our guidance for this amount was 2.5 to $3 million for the second quarter.

Foreign currency -- the Euro to dollar conversion rate positively impacted our Q1 to Q2 comparable revenues by about $200,000. As a reminder, approximately 22% of our revenues are in Europe and about 8% are in Canada.

On capital expenditures, as we mentioned on our prior call, we accelerated our rate of adding buildings to the network, and as a result as expected, discretionary capital expenditures increased from the first quarter to the second quarter. Capital expenditures were $9.5 million for the second quarter, an increase from $7.6 million for the first quarter. We added 30 buildings to the network versus 22 in the prior quarter. On cash and debt in our balance sheet, as of June 30, our cash and equivalents totaled $181.8 million, and all of this is invested in money market funds.

We closed our $200 million 1% senior convertible debt offering in June 2007. The cash proceeds from that transaction was $195.5 million as the notes were sold at a 2.2% discount. As Dave mentioned, we used $10.6 million of the proceeds to repay the principal and accrued interest on our Allied Riser 7.5% notes on their due date, which was June 15, 2007, and we used the $50 million of proceeds to purchase 1.8 million shares, though the net proceeds after the new debt and the repayment of debt and the stock buyback was about $135 million.

Capital lease IRU obligations are about $88 million at June 30 and $6.8 million of that amount is a current liability. These lease obligations are paid over a remaining weighted average life of approximately 12 years.

Due to the outstanding collection efforts of our worldwide finance team, days sales outstanding, or DSO, for worldwide accounts receivable was 32 days at June 30, and that is an improvement from 37 days at March 31, 2007. That is a considerable improvement in DSO and it is better than our targeted DSO of 40. Our worldwide finance team should be congratulated and recognized for their efforts in collections.

On operating cash flow, positive cash flow from operations was $10.3 million for the quarter compared to $13.6 million for the first quarter. The increase in EBITDA and the improvement in AR collections was more than offset by a reduction to our accounts payable attributed to just the timing of payments.

Our third quarter 2007 guidance, which is included in the press release, is as follows. We're providing this guidance based upon our current and expected run rate of our business and the planned increase in sales and marketing programs and network expansion projects. We expect for third quarter 2007 revenue to be 46.5 to $47.5 million. In the components of that revenue, we expect on-net revenue to grow quarter to quarter of approximately 7 to 9%. We expect off-net revenue to decline from between 5 and 10%. We expect non-core revenues to decline by approximately 10 to 15%.

We expect continued gross margin expansion and our gross margin percentage to continue to expand by approximately 100 basis points. We expect EBITDA as adjusted to grow to between 11.5 and $12 million for the quarter. We expect our EBITDA margin to continue to expand by about approximately 100 basis points.

We expect selling, general and administrative expenses -- this amount excludes the non-cash equity-based comp expense, which if we look at our 10-Q is classified as SG&A, but is disclosed parenthetically so you can remove that amount for the analysis. We expect SG&A excluding that non-cash equity based comp expense to be between 28 and 29% of our third quarter revenues. We expect the total non-cash equity-based comp expense to be between 3 and $4 million for the quarter. We expect depreciation and amortization to be between 17.5 and $18.5 million for the quarter. We expect net interest expense -- and we're providing this for the first time, guidance on net interest due to the issuance of the notes, and this includes the 1% interest on the $200 million notes, the amortization of the associated discount and fees on the notes, and also the offset of the estimated interest income that was earned on our cash to balances -- we estimate that interest rate to be approximately 5%. The net for this is that we expect net interest expense to be approximately $500,000 for the third quarter of 2007.

As a result, we expect our net loss per share to be between a loss of $0.18 and $0.23 for the quarter. That loss per share assumes 48 million weighted average shares outstanding.

On our 2007 guidance, we are reiterating the following 2007 guidance previously provided and reaffirming. Our total revenue is expected to be between 180 and $190 million for the year. [From] the components of that revenue, we continue to expect on that revenue growth to be between 35 and 40%. We expect off-net revenue to decline between 7.5 to 10% and we expect non-core revenues to decline between 25 and 30%. We anticipate our gross margin percentage expanding from the mid to high 50% percentile. We expect EBITDA as adjusted to grow to between 45 and $50 million. We expect SG&A to be between 30 and 32% of revenues. We expect non-cash equity-based comp expense to be between 11.5 and $12 million. And as provided on the last call, we expect 2007 capital expenditures to be approximately $28 million.

As a reminder here, we do experience quarterly seasonality in capital expenditures. Typically, our first quarter and fourth quarter capital expenditures are typically less than the second and third quarter CapEx.

We are updating and providing the following 2007 guidance. We are narrowing and reducing the expected range of depreciation and amortization to now be between 68 and $70 million, and the previous range was 70 to $75 million. We expect net interest expense to be approximately 4 to $5 million for the year. And again, this is new guidance provided due to the issuance of the notes.

We are reducing and narrowing the expected range of our loss per share for the year to now be between a loss of $0.65 and $0.85. That is revised from the previous estimate of a loss of $0.70 to $1.00 per share. Net EPS estimate assumes 48 million weighted average shares outstanding for the year and does reflect the impact of the stock repurchase in June 2007.

As a reminder, the potential shares that may be issued under the 1% notes are not included in the denominator for EPS due to a loss per share since they would be anti-dilutive.

I will now turn the call back over to Dave.

Thanks, Tad. We continue to expand our footprint. We added 30 buildings to the network in the quarter. We've added 52 buildings over the first half of the year and are absolutely on pace to meet or exceed our goal of 100 additional buildings in 2007. As of June 30, 2007 we had a total of 1159 on-net buildings. We have added over 30 in the quarter and we have over 30 in progress that we are working on today. We do have over 0.5 billion square feet of multi-tenant office space connected to the network, as well as over 270 carrier-neutral data centers.

Sales force productivity -- as of today, we have 147 quota-bearing reps. We are on track to meet our goal of 180 reps by year end. This equates to 128 full-time equivalents under our ramping protocol. We began Q2 2007 with 129 reps and ended the quarter with 143 reps. These are gross reps. We began Q2 2007 with 127 full-time equivalents and ended the quarter slightly down at 122.

During last quarter, we revised our method of dividing our sales territories and increased the number of territories. As a result, we promoted a number of quota-bearing reps into sales management positions. This temporarily reduced the number of our quota-bearing reps, but we believe these changes have laid the foundation for future growth and we're seeing that in the benefit of the productivity that we have experienced in the most recent quarter at 5.8 units per full-time equivalent per month. During the quarter, many of our recently hired reps met or exceed their goals but were starting their careers by selling to smaller organizations. This did result in a lower incremental ARPU for the quarter. Our sales force productivity target remains at five units per full-time equivalent per month, and again, we have exceeded it and actually met an all-time high in this most recent quarter.

We continue to be very disciplined about monitoring the productivity of our reps and do consistently remove those reps from the organization who do not meet their productivity goals. We continue to be comfortable with our 2007 revenue plan and unit growth plan, as well as the various components of that growth. Our business remains entirely focused on the Internet and we are a direct recipient of the growth trends in the Internet.

In 2008, we expect to continue to expand our sales force. Throughout the remainder of this year, we will expand the sales force from the 147 reps to our 180 goal. In 2008, we expect to add 50 additional sales reps, taking our total sales rep count to 230 reps by the end of the year. As I have gone around to a number of markets and spent time with sales representatives, I have repeatedly heard that there are no shortage of opportunities, and in fact, as we look through our target universe, our sales force is still touching only about a third of the potential opportunities in our market. So we have ample room to add additional sales representatives.

Our network scale continues to grow as well. We added both long-haul fiber and metro fiber to our network through additional IRUs. We have over 9950 metro miles of fiber, and we have over 26,000 route miles of inner-city fiber, as represented by those additional expansion markets that I had outlined earlier.

Our network interconnectivity continues to expand. Today, we are connected to over 2200 other networks throughout the world. Approximately 360 of these networks are settlement-free peering partners, and over 1840 networks are Cogent customers buying connectivity from us. We believe our network has substantial scale and capacity to accommodate future growth. We are currently utilizing approximately 20% of the lit capacity in our network, and we do measure our capacity at four discrete points in our network, both at edge router point capacity, metro transport capacity, core routing capacity, and then finally, long-haul capacity.

Traffic continues to increase on our network. Our net revenues, our growth business continues to grow and increase as a percentage of our total revenues. We are expanding our gross margin and EBITDA margins, demonstrating the operating leverage of our business. We have increased our revenue per employee to an all-time high of greater than $460,000 per employee in Q2 2007 on an annualized basis, up from $450,000 in Q1. That is substantially better than most of our competitors.

We continue to increase our footprint and evaluate the highest traffic opportunities for us to add as additional expansion points to our network. We are on track to increase the number of buildings or exceed the 100-building goal that we set out. We have strengthened our balance sheet, where by adding additional liquidity, and yet not increasing our true net debt. We have less than $20 million of true net debt. We anticipate no further activity in the capital markets. Our business plan is fully funded, the Company is generating free cash, and we have over $180 million of capital in the bank liquid available for our expansion needs, and also for the benefit of our shareholders. The cash flow that we are generating at an increasing pace is going directly to our equity holders as we have a minimal amount of GAAP.

We continue to plan to invest in our sales and marketing efforts. We're adding 50 additional reps in 2008 and we will continue to remain disciplined about keeping our reps productive, increasing our on-net revenues.

With that, I'd like to open up it for questions, and Tad and I are here to answer any questions from the floor.

(OPERATOR INSTRUCTIONS) Scott Goldman, Bear Stearns.

Just a couple of questions. One, going back to the on-net ARPU, you talked a bit about the recently hired reps and closing lower ARPU sales. You look at your guidance, your guidance is 7 to 9% sequential growth in the third quarter. Typically, you've guided to 9 to 10%. As you ramp up the sales force throughout the latter half of the year and now with the 50 you're going to add next year, what gives you comfort that you can return to that 9 to 10% sequential growth? Is it that these new sales reps now are going to continue to add the lower ARPU types of sales going forward and we should be readjusting our expectations going forward?

Second question quickly on the data center side. You added six data centers. Not a business you have tended to focus on significantly, the Cogent-owned data centers. I think your utilization tends to be below 50%. Just wanted to get your thoughts on what the drivers were there for wanting to add those six additional data centers.

Sure, Scott. First of all, in terms of rep productivity, we have seen the average tenure of our sales force actually decline by about 10% when we look at the longevity of those individuals. That has come about both through the promotion of individuals and the acceleration of our hiring program. We feel very comfortable that we will be able to return to that 9 to 10% sequential on-net revenue growth at some point in the future. This next upcoming quarter, we have guided to 7 to 9%, which is a little bit better than what we had done in Q1 to Q2 as these reps become more seasoned.

We also have seen this I think positive trend in customers signing up for longer contracts, which has had some diminutive impact on ARPU. But we feel very hardened by the activity level and the sales funnels that these reps are building, and the 5.8 unit sales with approximately 86% of closed business being on-net business in the quarter better than the 80% that we have been guiding, gives us a great deal of comfort that as the reps begin to mature and we get back to our average tenure of rep, that they will have the confidence in the funnels to be closing some larger orders. So we think this is part of the rebuilding effort that we started last quarter, that it has laid the foundation. You've seen part of that benefit in the unit productivity growth and you will see I think an increasing benefit and actual revenue growth as those reps start to sell some larger orders in the upcoming quarters.

To your data center question, quite honestly, this was somewhat opportunistic. Cogent continues to be presented a number of MA opportunities. We have been very disciplined about what we will spend for those opportunities. When we were presented this opportunity from a company that we had actually looked at previously and were out-bid on, and then the Company that acquired those assets could not utilize them effectively, they came back to us and offered them to us basically by just having us absorb the operating expenses going forward.

Now these centers were virtually empty, and what we're going to do is repurpose them for our IP services. Our motivations were a couple fold. One, acquiring $60 million worth of assets for free. Secondly, we have seen a number of data center operators actually rejecting business as their centers in some of these markets are full, and we wanted to provide customers a location where they could house their equipment and still take advantage of Cogent's network. Our data center occupancy does remain under 50%, probably closer to 40%, across the board. These centers reflect some new centers in cities that we did not previously have footprints and give us the ability to I think help other customers. But this does not represent a change in strategic focus for the Company. But rather, we view the data centers as an amenity to help us sell additional bandwidth. Rack and power represents only about 3.5% of our revenue and still remains not a significant portion of our aggregate revenue.

So you don't intend to ratchet up the sales efforts for these new data centers, or just kind of business as usual, just like you did the other data centers?

I think we will ratchet up the effort, particularly since a couple of these centers are located in markets where a number of carrier-neutral operators are out of power or space. And we've actually had customers come to us and had to delay expansion of their server infrastructure simply because they could not get any rack or power from their current colo provider. So we will use these centers to hopefully accelerate some of our traffic growth and also solve problems for some of our existing and future customers.

Thomas Watts, Cowen & Company.

Congratulations on bringing the numbers. Could you give us some sense of how sales force productivity changes over the course of time of a salesperson's tenure? You mentioned the average of five units. And are we going to start to see sales force tenure rising at some point so we could see that productivity coming up?

Tom, nothing would make us happier then to have tenure continue to rise and never have to ask reps to leave the Company. We remain very disciplined about enforcing productivity goals on the sales force. So to remind everyone, a rep has three months to ramp to full-time equivalency. Once they have reached full-time equivalency, they must maintain 75% of their quota on a three-month trailing rolling average. The reps are divided into three tiers, depending on the target market that they focus, and all of their quotas are set around five units of sod, installed business per month per rep. Now five remains our goal. The fact that we have actually substantially exceeded that in this quarter at 5.8 was very positive and I think is a direct result of the activity level of the sales force. What we have seen though, as new reps are hired, they build their funnel, and they tend to be more comfortable with smaller opportunities. The more tenured reps either moved into more senior sales roles where they then have larger quotas and focus on larger opportunities, or even those that remain focused at the lower end tend to get more comfortable in going after bigger opportunities. So I would expect you would see that increase. And, as I stated earlier, the average tenure in our sales force decreased by about 10% across the board. So if we just looked at the number of months of service on the entire sales organization, we hope that goes up.

In order to help, what we have done is implemented more sales engineering, so we have over double the number of sales engineers that we have in the Company. We also have increased the amount of remedial and supplemental training efforts that we have for the sales force. So we're constantly working on trying to reduce sales force churn, but it still remains high at about 4.5% of the sales force. And it does result as a direct consequence of our kind of enforcing the 75% productivity rule.

So to directly answer your question, we hope we keep the 5.8 up. Five is our goal, and I think you will see it trend towards that 5, but we also hope that the ARPU goes up to get us back to the 9 to 10% sequential growth that we believe we can do consistently.

Also, could you just comment on the lengthening of the contracts? Is this a lot more than you've seen in the past? And what do you think is happening in the marketplace that's causing customers to choose longer contracts?

This is actually a significant departure from previous trends. As I said, we have seen that average contract length expand by almost 25%. I would attribute it to two primary reasons.

First and foremost, I think customer confidence in Cogent and our longevity. The strength of our balance sheet, the fact that we are producing cash is giving customers a great deal of confidence that Cogent is here to stay, and therefore, they are comfortable in entering into long-term contracts.

I think, secondly, there has been much talk among our competitors of either slowing their rate of price decline or in fact raising prices, and many of our competitors have continued to suffer losses in their IP revenue, even in light of raising prices. And many customers I think are anxious to lock in Cogent's prices, fearing that we may raise prices. That is not our intention at this point in time, but the perception that prices may go up has worked to our benefit.

As one point, this is Tad, two-year contracts, for example, doubled, and are now about 10% of new contracts signed, and that's twice the rate that it was previous to the current rate.

Okay, thank you very much.

Tim Horan, CIBC World Markets.

Two broad questions. One, could you talk a little bit about what percentage of your revenues are coming from more network-based or web-based customers versus more business-focused customers than where that was a year ago? Second, I just wanted to talk about the overall network, if you could go through the first one first.

Sure. NetCentric revenue represents 56% of revenue, corporate revenue is 44%. That is up a little bit from the previous quarter, where it was 55/45. If you looked a year ago, it was about 50-50. So by revenue, we have seen a shift. By unit number of customers, it has remained about constant where about two-thirds of our customers are corporate, about one-third are NetCentric and the traffic mix also has remained constant over the year where about 95% of our traffic comes from the NetCentric businesses. These could either be access networks or content companies, and about 5% of our network traffic comes from our corporate customer base.

I was just a little surprised that ARPUs aren't up with the NetCentric kind of growing, and their volumes seem to be growing quite nicely, up in that 100% range. Any thoughts on that?

Yes. While we have seen tremendous growth in many existing NetCentric customers, and therefore, an increase in their ARPU, as we have added sales people, we have been able to work much deeper inside of the carrier neutrals going after many more startups, many more smaller Web-centric companies. So not necessarily focusing on the household names that you may be aware of today, like the MySpaces or PhotoBuckets or YouTubes of the world, but probably the next generation companies. And there are literally thousands of Web 2.0 businesses that use Cogent, most of which you have never heard of. And many of these businesses start with very small bandwidth commitments, generally 10 or 15 Mb to get started. So it's very different than going after a 50 or 60 gigabit opportunity and trying to shift it from another provider. So we are laying the foundation for a large number of small customers, a few of which will grow explosively, some of which will ultimately disappear. But with more salespeople, we're able to focus on a lot more accounts. You saw that in the huge increase in unit volume that we experienced, and that more than offset kind of the bigger connections from the more established players.

Yes, that's helpful. I did not realize they were down to 10 to 15 Mb. That's helpful. And then on the network, do you have any issues in trying to get dark fiber out there? And, could you just update us on an average cross-section, how many wavelengths right now and how many you can go to over time? Thanks.

Sure. We have the fiber footprint that we are comfortable with. We continue to purchase fiber and expand into new markets that we have previously not served. Our long-haul fiber comes from 11 different suppliers. Our metropolitan fiber comes from 58 different suppliers. So we have a total of 69 different underlying IRU providers. There are no markets in which we are experiencing the inability to acquire fiber if we wish to enter that market. There may be some small markets in which there is little or no demand that we don't wish to go to, in which fiber securing maybe difficult. But for any market that Cogent has targeted, we have found multiple providers of that fiber either in the long-haul extensions or in metro range. We're operating 224 rings on that 9550 fiber miles that we operate in the metro footprint.

To cross-sectional capacity, in North America, we have lit anywhere from eight to 16 10-gig wavelengths. We have plans by the end of the year to take some of those cross-sections up to 20 wavelengths. In Europe, we have lit anywhere from generally eight to 12 10-gig wavelengths. We have plans on some of those routes to go to 16 wavelengths by year end. That is a reflection of this 100% increase in lit capacity that we expect over the course of the year. So that will be by more wavelengths, as well as additional route miles that we have secured.

To the limit of our capacity, the technology that we have deployed is capable of 160 wavelengths by year end. Our maximum on any cross-section will be 20, so we can increase by a factor of eight. Then, each of the wavelengths, we could elect to add additional capacity per wavelength, moving from 10-gigabit transponders to 40. We have seen no need to do that, and quite honestly, do not have 40-gig interface cards in stock that have a significant amount of 10-gig interfaces in stock in our routers and think that is the most effective way for us to expand the network.

Thank you.

James Breen, Thomas Weisel Partners.

Just a couple of questions. One, on the connections this quarter, obviously at 1200-plus, you're about 50% above where historically you have been adding connections. Can you talk about, in reference to Tim's question, the breakdown of the net adds? Last quarter of the 800, how many were corporate versus NetCentric? And then this quarter as that goes to 1200 what that breakdown looks like. And even within that corporate group, how many of those are the lower end data center customers -- or in the NetCentric -- lower end data center customers versus some of your high end? Then just in terms of the currency impact which you hit a little bit, with 22% of your revenues coming from Europe, can you talk about if there was an absolute currency impact there to the EBITDA revenue line negatively during the quarter? Thanks.

Tad, do you want to the currency one?

Sure. On the currency one, the Euro to dollar rate, the dollar fell on a quarter over quarter basis. As I mentioned, the impact on revenues was about $200,000. So if you take the exact euros and translate it based upon the first quarter versus the second quarter, that was kind of the net impact. That's how we calculate that. On the EBITDA front, it's less than that, but Europe is about 20% of the revenues. It's also about 22% of the EBITDA. So you have an impact there, an improvement, but not to the same extent as the revenues just because of the dollar amounts or the euro amounts.

Okay, great. And just on the breakdown of the customers?

I will take that one. Our breakdown by unit number of customers remains about two-thirds corporate and one-third NetCentric. The NetCentric customers though, we have been tending to focus on smaller and smaller NetCentric customers. And we have seen a number of kind of 10 and 20-meg type NetCentric customers which would have relatively low ARPU, a few hundred dollars a month. These are smaller e-commerce sits and Web 2.0 business models, and the idea there is that, over time, trying to follow up on Tim's point, a number of them are growing to become the next YouTube. But our view is, we're not smart enough to pick those winners out. And if you look at virtually all of the high bandwidth using providers today, they either use Cogent today as their primary provider or have some Cogent in their network. So this trend to kind of lower ARPU is probably going to continue as we add salespeople and they go out and go after just more and more opportunities.

If you look at our data center footprint, there's about 54,000 Web-centric opportunities in that data center footprint, and we have probably only about 4500 or 5000 today as Cogent customers. So there's a lot more opportunities for the sales force to call on. And a lot of them are going to be smaller. So that's why we need both more reps and we have to keep that productivity level up. But I think as the reps do build their funnels, they logically focus on the bigger opportunities because their quotas are sent in dollars, not in units.

And I guess that why I was a bit surprised with the guidance in terms of the sequential revenue growth given the 50% uptick in the on-net connections. And I understand that there's pressure there on the ARPU side, but should you return to normal or to a more normalized 9 or 10% as some of these customers grow?

I think the answer is yes, Jim. I will be honest. As we've looked out to the next quarter, we just wanted to be a bit conservative at the 7 to 9%, but we do think long-term, that 9 to 10% is where we're going to be headed.

Great, thank you.

Jim, as you look at the new business for the quarter, it's pretty much the same as the prior quarter with respect to mix, with about 50-50 unit mix corporate NetCentric, and it's about 70/30 NetCentric corporate on the MRC side.

Nick Netchvolodoff, Lehman Brothers.

Thanks again for giving all of these detailed comments on these questions. Could you comment on the credit profile on some of these lower end customers and how you are handling that potential problem? And did you mention traffic growth annual and sequential?

I'll take the traffic one first, and I'm going to hand the credit one on to Tad. We did. Sequential traffic growth was 9% quarter-over-quarter. Annual growth Q2 2006 to Q2 2007 was approximately 95%. The 9% was below what we have historically been experiencing on a sequential basis. But just to remind you that generally in second quarter because schools go out and we have now over 500 university and college customers, we generally see a drop-off in their traffic. So we feel very comfortable that kind of the Internet growth remains in the kind of 70-75% range and our annual traffic growth remains in the 100% range, demonstrating our gain in market share. I will now let Tad touch on the credit worthiness of our customer base.

I know it's early for you on the West Coast there. We have not changed our policy on credit check. In the fact, all NetCentric net accounts irrespective of size are checked. If we have what we view as an issue with credit check, a deposit is required. I think as I pointed out, the days sales and accounts receivable has continued to improve, and it's from 37 at the end of March to 32 at the end of June, just demonstrating that customers are paying their bills and the credit policies and procedures that we have in place are working. As we expand into Eastern Europe, we'll continue to evaluate that to see if revisions are necessary. And I look at cash every single day worldwide, the collections from customers and the trends from all of our subsidiaries, and I am not seeing any reason to change what we have been doing. But it's something that we look at literally on a daily basis.

Another quick question on those 1300 or so customers that buy connectivity from Cogent. What percent of your revenue are they?

The 1840 customers.

1840, yes.

1840 companies that -- basically multi-home, meaning they operate their own network and buy connectivity from Cogent. They are the majority of our -- or about half of our NetCentric customer base. So that would represent about 35% of our -- 30% of our revenue, somewhere in that range, since total NetCentric revenue is about 56% of revenue. And those that operate their own networks tend to be a little bit larger than the average NetCentric. So probably somewhere around 35% of total revenue.

Okay, great. One other question about offering a two-year discount is that you're so much cheaper already. And given how low your churn is, what are sort of the other benefits you see from offering that additional discount to get a two-year contract?

First of all, that policy has been in place since we started selling service now almost 5.5 years ago. So it remains unchanged. These are not new policies. It is very heartening to us that more customers are taking us up on the longer contracts, which is a vote of confidence in Cogent. I think there's no particular requirement for us to lock them in. That is why we feel so comfortable in offering every customer up front a month-to-month contract because we feel we need to prove ourselves every month to the customer. But by offering the discount, it does lower our sales cost slightly and it does provide a little bit of buffering in case there is any kind of unexpected activity in the market. But I don't think it's anything that is critical to Cogent's success, but rather just a continuation of what we have done in the past.

Okay, great guys.

Jurgan Usman, Wachovia Securities.

First of all, can you give me the churn figures for your on-net and your off-net segments?

Sure. On-net churn, and this includes both corporate and NetCentric, were about 2%. And in off-net, it was approximately 6%.

6%. So that is actually an increase in the off-net churn?

Net churn was about 3% last quarter, so we did see an uptick in off-net churn, which contributed to the acceleration in the off-net decline. I cannot tell you that I could point that to any one particular item. That's just -- that's not necessarily -- where our benefit lies in the Cogent network is in the off-net side, and the churn did increase quarter-over-quarter on the off-net side. Beyond that, churn remains stable at 2%.

Given that you probably already have eight to nine months of results in the books, I was just wondering, can you maybe narrow guidance a little bit there?

We've reaffirmed the guidance. We gave a fairly narrow range for the third quarter. It does not seem prudent to us at this time to really modify our guidance, other than what we did on the call so far.

Okay. Next one is -- did you mention anything on the number of buildings that you plan to connect for 2008? Is it going to be roughly in line with the 100 buildings that you plan to connect this year?

We did not mention a 2008 building expansion or route expansion plan. I would expect that the building count will be approximately the same. We will continue to evaluate that. We remain with at least 250 to 300 legitimate targets in our sites of buildings that we do want to add, and we feel comfortable with the capital guidance that we've given for this year. And we think that, as long as we maintain kind of the same capital range, which we expect next year, that 100 buildings is the right number. We didn't put a hard number out there, but I think 100 seems to be the right target.

Alright. Could you give me an update on your largest customer again?

Our largest customer has grown to represent approximately 3% of our traffic and remains as it was last quarter (inaudible).

Okay, thanks a lot. And then finally last question. I guess in terms of let's say trying to find out more about the Internet traffic growth, I know that I think you probably plan to mention something about the number of pending ports that you have in your network installed. I was just wondering if -- can you give me maybe a little bit more statistics out that?

Sure. We have just under 1000, about 980, 10-gig ports installed in the network. Roughly 79% of those ports are inward-facing, meaning they connect parts of the network, and about 21% are externally-facing; i.e., customer-facing ports. We have seen an increase in those 10-gig ports of about a third this year already, so about a 33% increase. We do have substantial additional capacity in the network where we can add additional ports. But as with much network equipment, there is a carrying cost of placing it in the field as opposed to keeping it in the warehouse. So we tend to be judicious about putting those additional ports in as they increase our power consumption at the sites at which they are installed.

Just one final question. Last week or a couple of weeks ago, one of your competitors said that their traffic was growing about 100%, representing basically an acceleration from 80% that they experienced last year. It looks like I guess on the surface there, your traffic normally was growing more than 100%, but this quarter, it was 95%. Can you maybe explain -- obviously, you don't see any slowdown there in your traffic growth. But why the lower traffic figure?

Sure. Without mentioning a name, I think I know the specific competitor you're talking about. And while they had historically always given their sequential traffic growth, they actually declined to give that several quarters ago and have not given it. They actually experienced a sequential decline in their IP revenue. So, I am always maybe a bit skeptical of how they are measuring their traffic. We have asked a number of other providers in the industry to try to establish a common measurement statistic that we can all report on, and most others have declined to participate in that.

And then, finally, I can call you, in terms of our exchange in traffic with that particular competitor, we have not seen that level of traffic growth. Now we have a kind of singular view to their traffic and they may just say that they only have so much traffic coming to the Cogent network. But our traffic with all of our other interconnection agreements continues to increase at a much more healthy range.

And then finally, as I mentioned earlier, Jurgan, there has always been some seasonality to traffic, particularly for us as such a huge portion of our business comes from the university and educational segment.

Alright, thank you.

Michael Bowen, [Rhombus] Capital.

Dave, I guess my question for you is this. When I'm going through the revenue guidance here, if I take your on-net revenues and extrapolate out the top end of the range at 9%, I think you get about $148 million, and that implies you have to do about at least 32, $33 million, just to get to the low end of the range for your total revenue guidance of 180 to 190. So I guess my question to you is, how confident are you that you're basically going to be able to hockey-stick the fourth quarter to make that 180 to 190? Because right now, even at the top end of your third quarter guidance and the bottom and of the 9 to 10% original guidance, you're barely getting there, unless the off-net revenue actually goes up quite a bit.

I think if you take the historical trends, both in on-net and off-net, as we had said, we saw an uptick in off-net churn in the most recent quarter, but that was a bit of an anomaly from the past three quarters, and probably expect that to return more to the average. And then if you look at our on-net revenue, I think just a continued progression of even the 7 to 9% gets us well within the range that we have guided for full year without anything that resembles a hockey stick. I think if you just took that range, just multiplied it out, you will get to your numbers.

Jonathan Schildkraut, Jeffries & Co.

Dave, you know an important part of the basis on Cogent from an investor or an analyst perspective has been what we viewed as limited repricing risk in the face of downward pressure on a number of your competitors. In the quarter, you mentioned that contract terms were extended by 25%, and that does indicate that there is actually a fair amount of repricing risk in the overall story. So maybe you could give us some more color around where the average contract term is now and a sense as to how many customers or what percent of customers are on one- or two-year contracts relative to the month-to-month. So as we look out over time, if we make an assumption that an increasing number of your customers do move to longer-term contracts, we can quantify the downward pressure on pricing.

Sure Jonathan. First of all, in terms of our price per megabit, it does remain consonant in the market. And our term discounts, which are 10% for a one-year contract; i.e., going from $10 a megabit to $9, and then $8 a megabit on a two-year or longer contract, those prices remain constant.

Secondly, with regard to our competitors, we have had and continue to have a standard standing offer in the market that if any customer presents us an invoice from a comparable network operator; i.e., someone who has global connectivity at a price point, we will undercut that by 50%. I can tell you, because those come directly to me, I saw a grand total of one of those last quarter, and it was for a very high profile, although relatively low traffic customer in which one of our competitors put a price on the table in order to get a press release. With regard to contract term and length, I will let Tad take that since he has the detail.

It's a very good question, and we were pleased with this, but we made sure we did some additional analysis behind the contract term, and this is what we found, comparing the installed base through '06 and then what happened in the first half of '07 through June 30. And month-to-month, it went from about 40% to about 20%. So it declined by about half. One-year contracts went from about 50% -- and these are units -- to about 70%. And then as I mentioned earlier, two-year contracts in fact doubled from about 5% to 10%. So in all fronts, the contract term has lengthened.

Which again we view as a positive because it's really an indication on the part of customers that they are becoming increasingly comfortable with Cogent and do not really view the price discount that we give as having any significant impact on our margin since these are on-net services with 100% gross margin.

Thank you very much.

We have no further questions at this time.

Well, we thank you all very much for your questions and your participation. As always, Tad, myself will make ourselves available and I think we have some conference presentations coming up in the short future. So again, thank you all very much.

Once again, that does conclude today's call. We appreciate your participation. You may disconnect at this time.