Digital Realty Trust Inc (DLR) 2016 Q1 法說會逐字稿

Good afternoon and Welcome to the Digital Realty first quarter 2016 earnings conference call.

(Operator Instructions)

Please note this event is being recorded.

I would now like to turn the conference over to John Stewart, Senior Vice President, Investor Relations.

Please go ahead.

Thank you, Amy.

The speakers on today's call will be CEO Bill Stein and CFO Andy Power, Chief Investment Officer Scott Peterson, Chief Operating Officer Jarrett Appleby and SVP Sales and Marketing, Matt Miszewski, are also on the call and will be available for Q&A.

Management may make forward-looking statements related to future financial and other results including 2016 guidance and the underlying assumptions.

Forward-looking statements are based on current expectations, forecasts and assumptions that involve risks and uncertainties that could cause actual results to differ materially.

For further discussion of the risks and uncertainties related to our business, see our 2015 10-K and subsequent filings with the SEC.

This call will contain non-GAAP financial information.

Explanations and reconciliations to net income are included in the supplemental package furnished to the SEC and available on our website.

Management's prepared remarks will be followed by a Q&A session.

Questions will be strictly limited to one plus a follow-up if you have additional questions please feel free to jump back into the queue.

I would now like to turn the call over to Bill Stein.

Thank you, John.

Good afternoon.

Thank you all for joining us.

We had another very productive first-quarter, characterized by solid execution against our strategic plan.

In particular, we deliberately advanced our global footprint during the quarter, the second of the four guiding principles that we laid out on our Investor Day last October and shown here on page 2 of our earnings presentation.

I'm very pleased to announce that we signed a multi-megawatt hangar lease with a hyperscale cloud service provider in Osaka, totally pre-leasing phase 1 for our first project in Japan.

We broke ground earlier this month and delivery is scheduled for the fourth quarter of next year.

We also announced that we have established a foothold in Germany with the acquisition of a land parcel in Frankfurt.

We have begun the local entitlement process and we expect to be in a position to break ground later this year and deliver our first week in the second half of next year subject to market demand.

As you may recall, Germany and Japan have been our top two target markets and we are very pleased that our progress during the first quarter, particularly in a manner that is consistent with our overarching objective of delivering superior risk-adjusted returns.

We also delivered solid current financial results.

Andy will take you through the details in his prepared remarks, but the outperformance during the first quarter reflects consistent execution of the fourth objective here on page 2, achieving operating efficiencies to accelerate growth in both cash flow and value per share.

As we have explained, we have made a conscious decision not to go up the stack or compete with our customers or offer managed services.

Nor do we intend to directly market to the broader array of enterprise customers and incur the overhead associated with building out the massive sales force necessary to target corporate enterprise directly.

We aim instead to enable our partners to service enterprise customers upon the real estate foundation that we provide.

Our partners and alliances program continue to build momentum during the first quarter adding SunGard availability services as a global partner.

We are very excited about this partnership as it highlights our strategy of targeting enterprise via our partners by combining our best in class infrastructure with our partners' best in class services.

We are in discussions with several other parties about joining our partners and alliances program and we have added more resources to the team to support the growth of the program.

In terms of capital recycling, during the first quarter we closed on the previously announced sale of the former Solyndra facility in Fremont, California to a core real estate institutional investor for $37.5 million, or $108 per square foot at a 7.2% cap rate on our 2016 contractual cash NOI.

We are still under contract on the national four-property data center portfolio that we mentioned on our last earnings call and at our Investor Day.

Due diligence is underway and we expect to close within the next several months.

Let's now turn to market fundamentals.

As you can see, from the charts on page 3, current construction activity, represented by the green bars is most prevalent in Chicago, Dallas, and northern Virginia.

Given the sector's recent history, any uptick in supply bears watching carefully.

However, absolute levels of supply should also be considered in context which we provide here on page 4.

First of all, current construction pipelines are generally concentrated in top tier national markets with high visibility on demand and pre-leasing levels are healthy.

In addition, market vacancy rates within these markets are in the single digits.

In our own portfolios in the same markets are likewise North of 90% leased.

These markets have also been characterized by robust levels of leasing activity.

In each case, the level of 2015 absorption represents a multiple of 2 to 3 times the level of current supply.

Within the context of our own portfolio, we have delivered 38 megawatts of new product into these three markets over the last 12 months, and our deliveries were over 94% leased on average.

We would expect a similar level of leasing on our current crop of development projects upon delivery.

Now let's turn to the macro environment on page 5. Global economic growth has stabilized somewhat over the last 90 days, although the rate of growth still remains subdued.

Growth of total IT spending is likewise lackluster.

As I said before, data center demand is not directly linked to job growth, household formation, or the price of oil, and even the growth of total IT spending paints an incomplete picture.

We have the good fortune to be levered to a subset of secular demand drivers that are both somewhat independent from, and growing much faster than, the broader economy as well as the broader IT industry.

Current industry trends are very favorable to our core strategy.

Rather than spending more, CIOs - Chief Information Officers - are looking to stretch their IT dollar further.

Narrowing the focus to core competencies is the order of the day, and outsourcing of corporate IT function is being embraced as the more efficient model.

The rapid growth of cloud adoption is a reflection of these same trends.

IDC estimates that by 2018, 65% of companies' IT assets are expected to be located off-site in co-location hosting and cloud data centers while one third of IT staff are expected to be employees of third-party service providers.

Similarly, IDC predicts that more than 80% of enterprise IT organizations will commit to hybrid cloud architectures by 2017.

These hybrid architectures require a co-location presence as well as close proximity to multiple clouds.

Along with our partners, we provide the trusted real estate foundation for these deployments.

The major cloud service providers are rapidly building out their compute node footprint to meet this demand.

With our global foundation of data center solutions, we are uniquely positioned to support this rapid growth, as we are one of the very few providers with the ability to meet these large scale requirements on a global basis.

Now, I would like to turn the call over to Andy to take you through our financial results.

Thank you, Bill.

Let's begin with an update on Telx, here on page 7.

Telx generated $92 million in revenue during the first quarter, representing 10% growth year-over-year.

Revenues remain split roughly 50-50 between co-location and interconnection.

From its existing 20 locations and prior to expense synergies, Telx generated $38 million of cash EBITDA during the first quarter.

Telx continues to perform at or slightly better than planned on all fronts.

We remain on track to meet or exceed our underwriting targets.

Over the past 90 days, the Telx team has been focused on a few key areas within the business.

First, is our customers, where we continue to grow and expand our key communities and verticals within our Internet gateways.

Second is cash flow.

We have been focused on the development of a commercial management team to drive additional revenue.

Third is systems.

We are in the process of integrating systems between the two organizations which will include a combined customer portal.

With respect to expanding our customer base and nurturing our co-location ecosystem, we have emphasized the continued development of target verticals and communities.

During the first quarter, Telx added 35 new logos, a 30% uptick from the number of new logos added during the prior quarter.

In addition to our focus on cloud service providers, we continue to see growth within our Internet gateways in areas such as content, wireless and mobility services, undersea cable systems, and many other verticals that drive connectivity growth.

We have been successful in enhancing the appeal of our facilities by attracting numerous undersea cable systems.

We announced the FASTER and Aquacomms cable systems last year, and we plan to announce the signing of an additional undersea cable system within the new next few weeks.

We expect these efforts to continue to drive interconnection growth and offer our customer base continued diversity and global connectivity options from within our facilities.

With regard to the commercial management team, we have been very focused on revenue optimization to ensure accurate and timely billing and collection for space, power and connectivity within our facilities.

This team has increased its focus on pursuing contractual annual rate increases from our co-location customers while within their term, and we're working to consolidate licensee contractual agreements across our data center platforms.

With respect to systems, we identified our target IT architecture during the first quarter, and we are working quickly to consolidate these platforms.

But we want to make sure that we deliver a seamless customer experience before introducing additional complexity to our systems landscape.

We're making solid headway, and we expect this effort to continue at a top priority for the next few quarters.

Finally, we recognize that our customer portal is one of the top drivers for improving customer satisfaction to our over 1,600 customers.

Telx introduced a world-class portal over four years ago to improve service capabilities to drive revenue as well as functionality along customers to easily discover and connect to each other.

We believe the self-service storefront capabilities in the system marketplace will help retain existing customers while growing the installed base with new entrants, seeking the benefit from this developing ecosystem.

We hope many of you will be able to attend Marketplace Live in New York City on September 22, where we plan to unveil several new additions and upgrades to the portal.

In summary, while integration is still underway, we remain pleased with the progress and the performance to date.

Let's turn to our leasing activity on page 8. We signed new leases totaling $39 million of annualized GAAP rent during the first quarter, including a $6 million contribution from Telx for space and power.

In addition, Telx contributed $8 million of annualized interconnection revenue bookings during the first quarter.

Social, mobile, analytics, cloud, and content accounted for approximately 80% of our leases signed during the quarter.

Over 90% was repeat business with existing customers.

The combined organization added a total of 41 new logos during the quarter.

The weighted average lag between signings and commencements was eight months, driven primarily by the pre-lease Bill alluded to on our first project in Japan.

We broke ground earlier this month and delivery is scheduled for next fall.

Excluding the new build in Osaka, the lag between signing and commencement was five months, in line with our customary activity.

As shown on page 9, the backlog of leases signed but not yet commenced - now stands at $90 million, the bulk of which is expected to commence this year.

I would also like to point out here on page 9, that in response to feedback from analysts and investors, we have provided a bridge to reconcile the prior quarter backlog to the $90 million current backlog.

Turning to renewal leasing activity on page 10, we signed a little over $50 million of lease renewals during the first quarter, in addition to new leases signed.

The average cash pre-leasing spread was up 2% with a positive cash mark to market on turnkey and colocation renewals, weighed down a bit by a modest cash rent rolldown or a relatively small sample size of PBB renewals during the first quarter.

As mentioned in previous calls, we do still have several remaining above market scale leases, notably in Phoenix and in pockets of our East Coast portfolio.

We expect a couple of those to hit during the second quarter which will likely result in a cash rent roll down during the second quarter.

We expect to see positive cash re-leasing spreads in the second half of the year, and for the full-year we still expect to be roughly flat on a cash basis and up in the high single digits on a GAAP basis.

In general, we expect to see continued improvement in the mark to market across our portfolio, driven by modest market rent growth and the steady progress we have made cycling through peak vintage lease expirations.

Turning to our financial results on page 11, we reported 1Q 2016 core FFO per share of $1.42, $0.07 ahead of consensus estimates.

Several of the initiatives we outlined at our Investor Day designed to drive additional cash flow from our properties and leverage our scale to achieving operating efficiencies are beginning to bear fruit.

The upside during the first quarter was driven by operating outperformance as well as interest savings.

Specifically, $0.01 was due to outperformance from the Digital Realty portfolio, another $0.01 was due to Telx outperformance during the quarter, $0.02 were due lower than expected overhead.

And lastly, interest expense was $0.03 lighter than expected, due primarily to the timing and the pricing achieved on the term loan in January and the Eurobond in April.

AFFO per-share was likewise well ahead of plan, partially driven by the BFE FFO line along with further reductions of straightline rental revenue.

Recurring CapEx was also down significantly, although this largely flux seasonally lighter CapEx spending, and we do expect recurring CapEx to pick up over the course of the year.

As you may have seen from the press release, we raised our core FFO per share guidance from $5.45 to $5.60 to arrange a $5.55 to $5.65.

We raised the projected EBITDA margin by 50 basis points, again reflecting the benefit of the operating efficiencies we have been able to achieve.

This is reflected on the G&A line as well as the property level, and we raise both ends of the range for our 2016 same capital cash and allotted growth guidance by 100 basis points from 0% to 3%, to 1% to 4%, or roughly 2% to 5% on a constant currency basis.

Finally, interest rates on the term loan as well as the Eurobond both came in tighter than expected, and we have revised our financial assumptions to reflect the actual capital raised to date.

The forecast does still include a potential $300 million to $400 million bond offering later this year.

FX represented roughly 100 basis points to 150 basis point drag on the year-over-year growth in our reported results, from the top to bottom line as shown here on page 12.

Although foreign currency headwinds are abating somewhat, the UK represents our largest concentration outside the US.

The dollar is currently strong compared to the 2015 average [zloty] exchange rate, and our 2016 outlook contemplates a continued drag of similar magnitude for the remainder of the year.

I would like to remind you that we manage currency risk by issuing locally denominated debt to act as a natural hedge, so only our net assets within a given region are exposed to currency risk from an economic perspective.

I would also like to point out that we completed our inaugural Eurobond offering in early April.

We raised EUR600 million, further enhanced our natural hedge and reducing our non-US dollar denominated net asset exposure to less than 10%.

Finally, I would like to point out that while our global footprint exposes us to currency translation exposure, it also enables us to satisfy data center requirements of strategic customers around the world, which we believe represents a key competitive advantage.

In terms of our first-quarter operating performance same capital occupancy slipped 10 basis points sequentially.

Same capital cash NOI was up 4.3% year-over-year on a constant currency basis - same cash NOI would have been up approximately 5%.

I would also like to remind everyone that our 2016 same-store presentation is somewhat theoretical since we have elected to report same capital results for 2016 as if our leases with Telx were still in place.

Given that Telx was previously a customer in 11 of our properties, most of which are Internet gateways that comprised a huge chunk of our stabilized portfolio.

Let's turn to the balance sheet on page 13.

As previously announced, we closed on the refinancing of our global [celion] unsecured credit facility in January.

In the process, we were able to tighten pricing by 10 basis points, extend the maturity date by more than two years, and upsize the terminal facilities by $550 million including $300 million of seven year paper.

As you can see from the chart on page 13, the refinancing effectively clears the left-hand side of the maturity schedule.

We have just under $300 million, or less than 5% of total debt coming due before 2020.

Subsequent to the end of the quarter we price our inaugural $600 million Eurobond offering at a 2.625% coupon in early April.

Just to be clear, since it may not have been for everyone, 2.625% was the all-in pricing not just the spread.

We were fortunate to price within one basis point of the all-time low in the benchmark eight year mid-swaps rate and needless to say, we were pleased with the execution.

We presented the Pro Forma impact of the Eurobond issuance here on page 14 of the presentation, and as you can see the eight year term fit perfectly in the one open slot in our debt maturity ladder in 2024.

Proceeds were used to refinance and turnout volumes on the line of credit, and the current balance on the line is less than $100 million with over $1.9 billion of availability.

Floating rate debt now represents less than 10% of total debt outstanding.

In addition, as you can see from the co-op box on the left-hand side of the chart, the weighted average debt maturity is now 6.8 years.

Two full years longer than the weighted average maturity as of the end of 1Q 2015.

Terming out over $1 billion of long-term debt does have a dilutive earnings impact, but we believe locking in long-term fixed-rate financing from a new source of institutional capital writers is proven financial management.

Consistent with our financial strategy, we are maintaining our balance sheet well-positioned for new investment opportunities.

This concludes our prepared remarks and now will be pleased to take your questions.

Amy, would you please begin the Q&A session?

(Operator Instructions)

First question, Jordan Sadler, KeyBanc Capital.

Thank you.

Good afternoon.

First question was regarding the hyperscale cloud lease, I guess you announced one that sounds like it will commence sometime later next year in Osaka.

But just curious overall the trend has been for pretty significant leasing across the board amongst your peers.

You had an above average quarter relative to the last couple.

But this not -- we haven't really seen a spike in overall leasing volume from you, yet you do have some availability and obviously a sizable global footprint.

Can you talk about what you're seeing on a hyperscale cloud requirements side if there is more to do there, or what have you?

Hey Jordan, it is Matt, and thank you for the question.

With regard to the quarter, of course, my team -- my global team is very pleased with our most recent quarter coming in around $40 million as you mentioned.

Not to mention the welcome revenue contribution of $8 million coming from our interconnection business.

It is important to remember when we talk about the current leasing environment out in the industry that we are not really new to this hyperscale cloud game.

In fact, while we talked in the opening remarks about the one deal that was an anchor in Osaka we have done more deals in Q1 with hyperscale cloud providers as well.

We have been addressing this demand for more than a few years now, successfully and during that time period as well as Q1.

We captured multiple multi-megawatt requirements from various, not just one, but various, hyperscale cloud service providers around the world.

And from our perspective, these requirements may be a little less conspicuous in our quarterly leasing results, given the diverse nature of what had become a consistent $30 million to $40 million contribution of quarterly leasing activity.

For instance, this quarter, Jordan, about 30% of our signings came from the top three cloud service providers.

About an additional 20% came from targeted cloud providers outside of those top three.

And that a bit more than 30% came from our diversified stack of social, mobile, analytic, cloud, and content accounts.

It is important we keep in mind that in addition to our quarterly wins here in the US, that we are also successfully landing requirements in our target global markets.

Not simply in Japan but in London as well, which tend to be comparatively bluer oceans where our publicly traded domestic data center REIT peers may not have a dominant presence.

The final piece of my response would be that my team, as you know, remains intently committed to strong leasing fundamentals that is beneficial to shareholders while we keep our eye on driving this growing hyperscale demand.

Okay that is helpful.

As a follow-up, in terms of capital, I see leverage picking up to 5.3 times net to EBITDA, and at the same time we've seen some of your smaller peers cap the equity market, given some of the performance in stocks and the strong fundamentals in your sector.

How are you thinking about equity here?

Hey Jordan, it's Andy.

So the pickup was 5.2 to 5.3, but I think I got the gist of your question.

So our funding strategy for the year remains the same, the base case is to fund our development with our retained capital proceeds from our asset sales in our debt raises, which are largely finished now.

With that funding strategy, we see our leverage throughout each and every quarter of the year between that targeted 5 to 5.5 times net debt to EBITDA, so right at our target levels.

In addition, right now we have a less than $1 million in the revolver.

Now if the facts change, and if we see an opportunistic investment opportunity, we will certainly look to issue equity, similar as we've done in the past.

Jonathan Atkin at RBC.

Yes, I was interested in Japan and Germany and what you are doing staffing-wise?

Whether it is sales operations, or other?

You have obviously been leasing in the one market and developing in the other.

Thank you, Jonathan, for the question.

With regard to both Japan and Frankfurt, as you know, we have got an EMEIA team as well as an Asia-Pacific team.

In Asia-Pacific, as we announced last quarter, we brought on a new managing director in Ted Higase, to be able to help us make sure we hit that market extremely well.

His background in Japan will coincidentally, or maybe not so coincidentally, help us out a great deal in making sure that the Asia-Pacific sales team has a head start in being able to hit the demand in Japan.

Similarly in Europe, Wendy Will is our managing director for the EMEIA team, and has the ability to help that team hit new markets including the new markets that we see in Germany.

We have a sufficient staff and leadership in place in EMEIA from a sales and sales operations perspective to be able to hit the demand quickly.

And we have been monitoring the demand pipeline for Germany for quite some time and we have a significant buildup pipeline that we are ready to clear.

On the topic of Germany, I think there was a big German bank that was in your top 20 customer list that I don't see that this time around, so I was wondering, given that situation, the more broadly represented commentary on [Sherman] and the customers that are coming in on the top 20 list.

Sure, John this is Andy, so that change in the customer list, you saw a German bank disappear and you saw HV Enterprises gain some exposure in our top customer list.

So essentially that institution transferred over to HP and is essentially outsourcing via that route.

Next question is from Colby Syneseal at Cowen and Company.

Great, thank you.

If I am reading your disclosures properly, looks like about $7 million of the leasing tied to take TKF was tied to power enhancements.

I was hoping you could talk about that a little bit, maybe what markets?

And if you had to do anything from an investment perspective to enable that?

Are those types of opportunities pretty prevalent in the business?

I also have a fairly high-level question, maybe more of an educational one for everyone on the call.

Can you remind us what is happening with the Chicago change later this year, and what, if any impact you could see that having on DLR as a stock?

Thank you.

Great question.

There was a good deal of leasing, in particular in one of our markets in the central region, one of our great campuses in Chicago.

Where it was -- we will call it power enhancements but basically driving additional density into the floor space that is already taken by an individual customer.

We think these are fantastic wins for us from an economic perspective.

They are fantastic for us from a power perspective -- they're very good for us even from a relationship with the utilities we do business with.

It increases the utilization of the power that is committed by those individual utilities.

We do see density plays continue to play out throughout our portfolio where we can increase the stickiness of those individual customers in our facilities by bringing them additional power.

It is also a great signal that our customers are doing well.

In this case, this customer is doing extremely well, and is taking power at a rate that we did not anticipate, but it actually ended up pending helping a great deal.

On the second question, and by far no one in this room is an expert on that topic.

But essentially, we sub-segment on financial exchanges is cutting somewhat out of the shadows of being grouped with other financial service companies such as big banks, and will be a stand-alone component of the indexes.

There has been a lot of research reports out, and market chatter with the thesis being that there will additional focused attention, and we hope capital inflow is into REITs in general and especially into Digital Realty stock.

Next question is from Vincent Chao at Deutsche Bank.

This one is a follow-up on the pricing question.

If you take out the $7 million power expansion, it still seems like the base rents are going up a little bit here per square footage.

Just curious if there's anything to read into that?

Or is it just quarter to quarter fluctuations?

Or it does seem like the last few quarters we've seen a steady increase here?

Hello Vincent.

It's Andy -- I think you're just seeing -- from the power usage maybe inflating it a little bit.

I do not think we seen any rent spikes in any particular market.

We think our rents are still running healthy and support our development yields on the 10.5% to 12.5%.

We see rents on a comparable basis kind of thing, flat to having very modest increases right now.

Okay.

Thank you for that.

Another question on the pipeline, the development pipeline, I think its ended to [lectiville] pipeline just under $1 billion as of the end of the quarter.

Where do you think that will stabilize out?

Will this go to $1.5 billion at some point, or is there some limit on how much you would grow that to?

And on the yields that you will showing on the page, they seem like they are down from last quarter Just curious if you had commentary on that?

Sure.

The guidance yields are up 10.5% to 12.5%, it's really just a function of when you bring on new projects, how leased they are and if the initial yields are a little lower, it depends on the market, but all in all we see the yields still with our bogey.

In terms of total size of the pipeline, we have not seen anything right now that is going to have a massive shift or increase in our pipeline, we still have a consistent amount of annual spend.

The one point I would clarify though is, while we have $540 million of remaining spend for these projects, some of this is preleased, over half of it actually, and some is speculative.

We are actually only contractually committed to finish roughly $380 million of that, so if the music did stop and there was oversupply delivered to any market, that would represent 0.3 terms of debt to EBITDA.

So the balance sheet leverage is still being checked.

As I mentioned before we have $1.9 billion of availability on a revolver, so no crisis would ensue.

Next question comes from John Peterson at Jefferies.

Oh great, thank you.

I just wanted to follow up on the hyperscale lease that you guys signed.

I'm curious what these conversations are like with these cloud guys.

Obviously you and your peers have been signing a lot of leases.

I'm curious when you sit down in meetings with them, are they -- is there so much demand that they are just scrambling to try to get as much space as they can?

Or are these more strategic expansions, and they are just trying to get into new markets and the business will grow into it?

Just trying to get a sense of what it is, is it one big wave?

Or whether this is to meet the current demand out there and its going to continue.

I think it is a little bit of a combination of both of those.

It depends on which one of the hyperscale providers we are talking to, and how far along they are in their planned execution and then what type of visibility they have into their own demand.

That really is a little bit different obviously from cloud service provider to cloud service provider.

A number of them have had advance plans and this meets with their advanced planning.

A number of them have seen a radical shift in terms of the demand coming to them.

And so in their hot markets, which happen to line up with some of our hot markets, they want to occupy as much space and power as they can because they know that they will burn through it and utilize it.

So it really does depend.

I would say about half and half amongst the cloud providers in terms of current large amounts of deployments that they are going through to hit their current set of demand.

But also to make sure that they understand they can cover demand that they historically might have missed because they did not have inventory in market.

In my follow-up, in terms of the decisions they are making to lease space rather than build it themselves, obviously some of these guys like Amazon and Microsoft have the scale to do it themselves, and they do.

Is the reason that they are doing more leasing just because they need the space and you already have entitled space, so its just easier?

Or is there a strategic reason that they would want to be in a third party leased facility?

There's a few of them, and you can see that a number of these folks have actually done some of the builds themselves in the past.

I would say part of that past activity was because of slow changes to the multitenant data center environment to adjust to their needs.

I think over the past six months they have been satisfied that multitenant data center providers like us have the ability to hit their needs and their capital is better spent focusing on the strategic imperatives that they have in front of them.

So while they may have hit a gap with their own builds, they all have sort of come to the realization that leasing is something that they need to not just explore, but execute on.

Jarrett?

Just to build on the architecture trends, we talked multi-cloud and hybrid cloud, it is really important for these cloud service providers to have co-location and interconnection on the campus as well.

So I think that this is a trend that you are seeing, a value proposition that we can, that they land their compute engine and support the cloud.

But then enterprises and partners can deliver private clouding connectivity right next door.

That is a great value prop.

Next question is from Richard Cho at JPMorgan.

Great -- following up on that question, now that you have signed an anchor tenant in Japan, how should we think about the lease up rate going forward?

And along with that, in Germany, do you need an anchor tenant?

Or is demand strong enough where you can kind of move ahead, and the sales force is there, and everything is kind of set there demand-wise to move ahead with that one?

Hi, this is Scott.

Good questions on that.

In Japan, that represents Phase I, that is 100% pre-leased with that anchor tenant.

So future development there would be subject to additional market demand.

In Germany, we want to develop in conjunction with market demand, although there is a pretty strong demonstrated pipeline of demand in that market.

So I think we would feel a little more comfortable pushing forward a little more aggressively there.

I guess as a follow-up, there wasn't much leasing activity in Europe -- is that mainly due to a lack of inventory in the region?

Yes.

So, as you know there is a different set of demand drivers inside that European market, and you sort of nailed it on the head.

In the places where we see the most amount of demand, we found ourselves out of enough inventory to satisfy that demand.

So in particular in Amsterdam and in London, where we are currently swinging shovels or swinging hammers or a combination of both -- I don't know that you should swing a shovel, but it depends on what you're doing I guess.

But, we are satisfying that problem in Amsterdam.

Same thing in Frankfurt, where we did have demonstrated demand but obviously didn't have a presence there as well.

Next question is from Matthew Heinz at Stifel.

Thank you, good afternoon.

Just wanted to revisit the leasing results again.

Trying to figure out if you view the current run rate of about 70 megawatt to 80 megawatt is annually translating to an acceptable level of organic growth in the scale business?

Or if maybe there is an elevated tightening of your underwriting standards that we should think about?

So, in terms of the leasing results, what we do every year, and as part of the process of making sure that we understand what our commitments are for the year, we have a very specific leasing plan that we publish and work to.

And we are pretty satisfied with the leasing plan that we have in front of us right now.

We're pretty satisfied that we can hit the goals that we've set up both internally and the goals we set externally.

And Matt, this is Andy speaking, so the underwriting and returns piece of the equation really mostly applies to bringing on new supply, where we have to go by land are built from the ground up.

We have a giant portfolio with pockets of vacancy throughout different markets, where it is not whether the deal makes the underwriting hurdle, it's about marketing, finding demand and landing in the location.

The underwriting is not always the governor for whether a lease lands or not.

Okay thanks.

Then as a follow-up can you give us some color on the 100 basis-point increase in guidance for same capital NOI, is that being partially driven by the G&A improvement?

And how does that reconcile against the pre-stabilized, lower pre-stabilize yield, is that factored in at all?

Sure.

So those are probably separate parts of our P&L, so same-store capital, pull NOI, it's not going to pick up new development contributions.

The reason for same-store or RDF increased optimism in the same store, drove in the results in the first quarter and what we have seen going into the second quarter.

That's both on the top line and the bottom line.

You mentioned the bottom line is on an [analog] basis it is better operations at the property level.

So I think you can look through our P&L, especially in the same-store side of it, most of our expenses were flat or potentially down in some category.

So we're running the properties more efficiently.

On the top line, we did have some mark to market outcomes that were a little bit better than we planned, which is driving some of the increase in the same-store cash NOI growth.

Next question is from Manny Korchman at Citi.

Hi, thank you.

If we switch back to the Japan lease for a second, if we think about the timing there, were they are not going to be occupying until essentially early 2018 at this point, judging by your development schedule.

How do they think about the capacity that they need and can we balance that against your comments about not building spec there?

Do you think you could amplify the amount of leasing you could do if you had product there, given a lack of inventory.

Yes, hey Manny.

Just to clarify, I think the Japan lease will commence in late 2017.

But its a good question in terms of the demand that we are seeing, not just for that particular -- and I assume your question applies to more than just the Japan deal, and applies across the board with these types of deals that we're seeing.

How to the customers think about what their takes will be in how do we respond to those?

We have got a really good process in place to understand the production capabilities that we have, and how those production capabilities match up to what our customers really need.

I will talk about what our customers need and I will turn this over to Jarrett to talk about the production side and the production capabilities that we have.

In terms of the way our customers look at this, they still look at this as having a foot in each of these markets, and each of these buildings, in each of these facilities.

That usually comes in the shape of at least one, what we used to call pod, but one scale oriented pod, sometimes two scale oriented pods that they need in short order.

One is generally the size they need upfront.

And then they need to have visibility so that they are not going to outgrow their need to not been outgrow the Colo needs that they know their customers are going to need in the hybrid cloud environment.

And I will have Jarrett answer the rest of the question.

Manny, to build on that we talked about the new agile product that we're rolling out globally.

Once -- we really designed two options, the power dense option that you are starting to see in the base option that is the agility for my client once we have the shell up we can then deliver pods as Matt was talking about every 3 months to 4 months.

It gives us a lot more agility as we see demand in that market.

I think when you pair that you can sell into a market and meet different customer needs on that timeline.

Maybe this is a question for Andy, if I look at slide 11 of the deck, I guess that is a walk coming over from consensus to the actual.

Two questions related to that -- if you were make that leftmost column not consensus, but where your expectations were -- would the steps be the same so you outperform your own expectations as well?

And then secondly how much of this was the timing shift and how much of it is going to impact the rest of the year and one time in 1Q?

Sure Manny, this is Andy.

I think that is your third question but I will give you a pass today because I like you so much.

So the 135 was roughly around our internal projections that we were right in line.

These step functions kind of mirror what our internal results look like.

I would say most of these are flow through to the rest of the year, so Digital Realty NOI and Telx EBITDA G&A, there may be some timing elements to it, part of that is non-comp related travel consulting, things like that.

So if people exceed budgets in subsequent quarters, they are essentially using a budget they did not use in the first quarter.

The lower interest expense, that is a product of two things, the timing of when we did our capital raises and actually our execution on the capital raises.

The one thing I would caveat, it is not as simple as just taking the far right bar and times it by four to get our full-year number.

We do have some items that will reduce that full year number and offset our increases in revenue.

One of those is that portfolio of data centers that we have on our contract to sell, hopefully next month or so, that will obviously be diluted out of the gate, so 120 million of assets that are income producing.

The second item is we basically had the revolver balance at $600 million to $700 million for most of the quarter and then did a $600 million Eurobond.

Subsequent to quarter end, and that was a fixed-rate piece of paper.

Which is obviously good for the balance sheet, locks in long dated FX hedge debt but is not as low as a floating-rate revolver debt.

Next question is from Jefferson Schildkraut, from Evercore ISI.

Just call me Jeff.

Thank you for taking the questions.

I guess I asked almost the same question last quarter but I'm still very interested to really understand about the progress that we keep getting another quarter under the belt of having both Telx and also the large campus data centers and the interplay there.

Particularly in driving the cloud enterprise ecosystem.

So I would love to get a little perspective on how that is coming along?

I guess as a sub-question there, Jarrett gives some good color in an earlier response about why the hyperscale guys are interested in your assets given the ability to drive that connectivity there as well.

I would be interested on the opposite side to hear about the enterprises coming in to connect with the scale cloud guys.

You did call out the $7.5 million of incremental interconnection fee that you are able to book off of Telx this quarter.

It would be good to get some perspective.

I don't know what it was in the fourth quarter or what it might have looked like a year ago, but is this a number that was an acceleration, in line, etc?

Thank you.

Hey Jefferson, this is Andy.

I'll take the first part of that and then I'll open up to the team to answer.

The Telx upgrade integration, what you call it -- we are making very good progress.

As you can see from the numbers in the investor presentation, we are on track and potentially exceeding our expectations from our initial underwriting.

As previously mentioned on a prior call, about our investor committee approving a Telx expansion on the [Rashton] campus.

We have now started presale activity and we should have the doors open there, come September.

You can expect some additional new market expansions to unfold throughout the remainder of the year.

On the West Coast, we have been fortunate enough to sign a subsea cable, which we think will enhance our Telx -- the attractiveness of our Telx footprint, and our entire footprint in that market.

We're also looking at expanding our footprint in Atlanta where we've been very successful at 56 Marietta.

So far so good as it relates to Telx.

Not to jump around but from an interconnection revenue line item we are tracking year-over-year on just that revenue component North of 10%, I think it is close to 11% and then quarter-over-quarter, I think it is about 2% just for interconnection revenue.

And I will turn it over to the team to answer your middle question.

Hey Jeff, Jonathan, Amy -- whatever your name is today -- really quick on the first part of your question, hopefully to give you a little color on what Andy said and some pretty concrete examples of where we see the combination really coming together quite impressively.

We have been to a number of events where we bring both teams together to address customers.

I would say it started very actively with PTC and we have ITW coming up, and we've been at a number of events in between.

What is interesting is the reaction from our customers has been absolutely fantastic.

Not only have they thanked us for coming together, for giving them in essence one throat to choke for all of their scale colo-crossconnect and other service needs.

We have seen a number of them actually start to change their own individual organization structure to come to us in the same way that we are now coming to them all in one.

So we have seen, I have now seen, this last week, the fourth large cloud service provider make a decision to consolidate their network folks with their data center folks to make sure that they are coming to market the right way.

I am not claiming credit if that is because of what we did, but I am letting you know that it is landing pretty well, that Telx and large campus together.

Let me get to the heart of what I think Andy turned it over to me for, which is why hyperscale is coming into Digital Realty in particular with our set of assets.

There are a couple that Jarrett has talked about individually.

One is we get hyperscale, we have been doing hyperscale before somebody truly turned it hyperscale.

We have been doing large deployments and we figured out how to make a fairly profitable business out of it from the beginning.

These folks are comfortable that we know what we are doing and that we have got the size and scale, no pun intended -- to have a good counterparty on the other side of the transaction for their large compute node need.

They also know that their customers need more than simply the ability to provide cloud services through one data center, five data centers throughout the world.

They also need to have co-location availability so that those folks have the ability to land what they cannot put in the public cloud, cannot maybe put into a private cloud but have to put into their enterprise class data center, and then they need connectivity to bring them all together.

We just came from a client advisory board, and several of them came to us and said -- we love the idea that we can now get this at one organization.

They are looking for ease, they're looking to take the complexity out of the IT transactions that they have in front of them, and we are able to act as that vehicle that takes the complexity away.

I would say the future -- we've had future oriented conversations about where they are taking the business into the future with their platform as a service offering.

They are very interested in being involved with the company that has now 1,600 customers, many of them IT service providers, many of them providing the service component they are putting together into the applications of delivering it to the future and they want to be able to offer that to their end customers.

Digital is uniquely situated to be able to provide that value proposition where nobody else can.

Next question is from Ross Nussbaum at UBS.

Hey, good afternoon.

I am looking at your top 10 roster and I compared it to where you were in the fourth quarter, and you obviously did write a bit of leasing with your top 20 tenants between the level threes in the AT&Ts and Verizons, et cetera.

I guess I'm curious what percentage of your leasing is existing customers versus new ones at this point?

I can tell you this that from the first quarter and the first quarter results from existing are upwards of 93% coming from our existing client base.

Okay that is helpful.

The second question comes on the development pipeline, page 34 of your supplemental.

The development yield on the current pipeline is 10.3%, last quarter it was 11.2%, and I recognize part of that decline, I am guessing, is you have Osaka in there for the first time.

I assume that is a lower yield, just given interest rates in Japan.

You are willing to develop at a lower yield I would be looking for you to (a) confirm that -- but (b) when I look at the development yields in the US and Europe, those also came down a little bit?

I'm curious for some commentary on the development yields?

And the last part of the development question -- the costs went up $10 million on Singapore, and you delayed it a quarter -- if you'd comment on that one?

Hey Ross, this is Andy.

You are right, the main driver is Osaka bringing down the yield.

The other element I would say is if you bridge between the last quarter and this quarter, I think we highlighted in one of our slides, we did deliver I believe 13.2 megawatts across Dallas, Chicago, northern Virginia.

That was pretty well leased at an attractive yield and we rolled on some of the last phases of our northern Virginia project before we have to move to our next land and some other new phases in Chicago and Dallas which obviously are less well leased.

We include our underwriting estimate in this table until leasing actually comes in.

We typically outperform our underwriting.

When we hit the leasing you will potentially see these yields go up.

The other question was a Singapore timing and costs -- maybe FX rates could be a driver, I think we're at budget or under budget there and now we have a ribbon-cutting ceremony in May or June.

Ribbon-cutting is the first week of June for Singapore.

We did stage it that we had marketing efforts over there but is the second quarter and it is still scheduled for June.

My guess is FX didn't on the cost side but I will follow up just to check.

Next question is from Jordan Sadler, KeyBanc Capital.

Thank you.

I was just hoping to follow up on the Telx run rate on the EBITDA.

I am looking at the number from the deck and the run rate basis it seems like you guys are running a bit ahead, maybe 5% ahead, of the $148 million.

Could you maybe walk us through some of the puts and takes of how we should be thinking about how EBITDA flows from Telx during the year?

Sure Jordan.

As a reminder the top row was our initial underwriting when we announced the transaction back in the middle of July, the key and repeated number $148 million-plus of cash EBITDA.

We are ahead of planned for just the first quarter.

Some of that was on the expense side that may have been a little seasonal and timing related.

The timing for the annual SKO, or Sales Kickoff marketing and sales initiatives around the event actually moved, last year was in the first quarter, we actually pulled it forward and did in December of this past year.

So, again, this is probably not something we can adjust annualized to get the run rate.

We are ramping into additional resources on the sales and marketing front there.

But all in all we're making good progress on the revenue and EBITDA line item, and we feel like we are on track to meet or exceed our underwriting estimates.

Okay.

Then separately, just in the partners and alliances program, can you maybe just give us a sense of how you are confident in that program and the potential of that program?

Or what gives you confidence -- should I say -- as opposed to the other routes of sort of bolstering or building out the sales platform like some of your competitors have?

Thank you, Jordan.

First of all, Bill and Andy will not let me build out the sales force to address that potential demand, and I am happily compliant with not building it out.

Just to be clear, it clearly is a differentiator between us and other folks in this industry.

So, it was not that we did not have some trepidation in making the decision to address a large segment of the potential revenue in what amounts to an entirely different way for us is a company.

So that was not without personal risk on my side but also a little bit of risk on our side but it's a great question.

How do we feel confident that it is going to?

Two main components make me feel confident in the first -- it always starts with our customers.

I think during the last earnings call we had just come from a meeting with one of our top five customers and the reception from us having a conversation with those sea level folks, and talking to them about not competing with them and asking for their support and signing up for the partnership program and being actively involved in helping us past lead back and forth and being two partners gives me a great deal of confidence.

Then secondly, nothing brings confidence like pipeline, especially in my particular world.

So the guys this year said in the first quarter have already generated $40.1 million in pipeline insight PNA to date.

Now, obviously we do not close all of that pipeline, and we are starting small and learning and make sure we get it right.

And we're growing the program as we did before, added another program to the reseller partnership program and this particular quarter we will continue doing that with some of our key partners moving forward.

But nothing gives me peace of mind like having $40 million in pipe in a brand-new program.

Next question is from Jonathan Atkin at RBC capital.

Just on Telx, when you made the announcement, you talked about some of the underutilized capacity there on the West Coast.

It looks like you made some progress in Seattle, if I am reading the portfolio detail correctly, but less so in Santa Clara?

More generally, can you comment on where you are seeing success, more versus last in the acquired assets?

The other question I wanted to ask is on recurring CapEx, and I think Andy mentioned it's going to pick up in the latter part of the year -- what is driving that?

Thank you.

Hey Jonathan, its Andy.

We're seeing increases in our utilization across the board I would say from a utilization stand point we are track with our plan moving into the 70s now.

I didn't mention we have some wins, the sign we mentioned for the undersea cable has not flow-through utilization just yet.

It will probably be something that's more attractive to draw customers to that location.

I know we see a lot of demand pointed at our Telx location in Santa Clara and we continue to see tremendous success, be it Cermak, or 56 Marietta in Atlanta, or the New York City Trifecta.

So I cannot tell you one asset has pulled far ahead in terms of percent change from the others, so it's been fairly broad-based.

Your second question, was about the CapEx, I think it is really just timing related.

As you can see, from our AFFO reconciliation, that if you take the last three line items before AFFO, they sell less than $26 million of recurring CapEx and commissioned compensation for the quarter.

If you multiply that by four that is just $100 million of recurring CapEx.

And we confirmed our guidance table with North of $145 million for the full year.

I think it is just a function of timing.

I did not want anybody to think that the lower number could be truly run rated throughout the rest of the year.

Jonathan, to give you a little more color on the West Coast activity, we have really integrated the efforts of the West Coast team.

We have had historically a digital with the West Coast team, especially in the business solution side with the Telx group.

And a number of properties we've looked at end up having enough contiguous space to be attractive to the digital traditional sales methodology.

Now the challenge with that is that Telx sales methodology has a tighter turn, quick return, and a faster rate of adoption.

The larger deals that we see going up against the Santa Clara facility, as well as the Seattle facility, as well as the Portland facility that we have simply larger deals take a little longer for us to close.

But the cooperation is working exactly as planned.

Thank you.

This concludes our question-and-answer session.

I would like to turn the call back over to Bill Stein for closing remarks.

Thank you, Amy.

I would like to wrap up our call today by recapping our first-quarter highlights, as outlined here on page 15.

First, we made significant progress towards extending our global footprint to our top two target markets with the acquisition of a land parcel in Frankfurt and the signing of an anchor lease on our first project in Japan.

We also made headway toward our strategic objective of achieving operating efficiencies to drive accelerating growth in cash flow per share.

We delivered first-quarter results well ahead of our own forecast and $0.07 ahead of consensus.

We raised guidance by $0.075 at the midpoint on the strength of the [beat] in the first quarter.

And finally, we further strengthened our balance sheet with the success of refinancing of our global credit facilities in January, and the completion of our inaugural Eurobond offering in early April.

In conclusion, I would like to say thank you to the entire Digital Realty team, whose hard work and dedication is directly responsible for this consistent execution against our strategic plan.

Thank you all for joining us.

We look forward to seeing many of you at Mayread in June.

The conference has now concluded.

Thank you for attending today's presentation.

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