Wednesday, June 30, 2010

Will Telx Produce Better Margins than Equinix?

by David Gross

Collocation provider Telx (TELX), which filed an S-1 earlier this year but has yet to issue shares to the public, is often compared to industry leader Equinix (EQIX).   However, there is a major difference financially and operationally in that Telx leases every one of its facilities, except for Atlanta, while Equinix owns or has capital leases on most of its locations.   Of Telx's 15 facilities,
10 are leased from Digital Realty (DLR).

Telx has essentially narrowed down Equinix's business strategy by unloading the building ownership, and focusing on just the neutral interconnections and collocations.   This is an interesting development because Equinix was often thought to be a tightly focused company, shunning the hosting services that everyone else offered when it launched in the late 90s.   I remember touring the company's first IBX facility, DC1, in Northern Virginia in 2000 with a group of Internet Service Providers, and many thought Equinix was crazy for not offering traditional hosting.  Nonetheless, Equinix knew what it was doing, and has outlived virtually all of the ISPs who were selling hosting back then.

Telx's focus is paying off, too.   In spite of being about eight times smaller than Equinix in terms of revenue, its margins are comparable, and balance sheet ratios stronger due to its lease arrangements.   While the following table does not incorporate Switch and Data, whom Equinix acquired in May, Equinix was five times larger than Switch and Data at the time of the merger, so the ratios will not change dramatically once they report as a combined company.

Quarterly Revenue (000s) $248,000 $29,000
Operating Margins 19% 13%
Revenue Per Employee $678,000 $655,000
L-T Debt/Annualized Revenue 2.06 1.02
Y/Y Revenue Growth 25% 36%
Revenue/PP and E 0.53 1.51

On the operational side, the productivity numbers for Telx are fairly strong.   Equinix was the same size in 2003 as Telx is now, when it reported $117 million in annual sales.   At the time, Equinix was doing less than $300,000 of revenue per employee.
The balance sheet numbers are even stronger, with fewer fixed assets and therefore less financing needed to expand, Telx is already posting much stronger asset utilization and lower debt-to-revenue numbers than Equinix.
Telx is helped a bit by being able to book its contracts with Digital Realty as operating leases.   It has 20 year leases with the data center REIT that contain 20 year renewal options.   Equinix meanwhile booked 15 years of payments on a Washington, DC area expansion facility as a capital lease.  Nonetheless, while the accounting treatment might distort things slightly, it reflects Telx's business strategy of leasing, not owning facilities like Equinix does.  And as long as Telx keeps this focus, it should be able to survive against a much larger competitor, just as Equinix did against its larger competitors 10 years ago.

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