Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2010

OR

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from              to             

Commission File Number 000-31293

 

 

EQUINIX, INC.

(Exact name of registrant as specified in its charter)

 

 

 

Delaware   77-0487526
(State of incorporation)   (I.R.S. Employer Identification No.)

301 Velocity Way, Fifth Floor, Foster City, California 94404

(Address of principal executive offices, including ZIP code)

(650) 513-7000

(Registrant’s telephone number, including area code)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports)    Yes  x    No  ¨   and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer   x    Accelerated filer   ¨
Non-accelerated filer   ¨    Smaller reporting company   ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

The number of shares outstanding of the registrant’s Common Stock as of September 30, 2010 was 45,994,363.

 

 

 


Table of Contents

 

EQUINIX, INC.

INDEX

 

     Page
No.
 
Part I - Financial Information   

Item 1.

 

Condensed Consolidated Financial Statements (unaudited):

  
 

Condensed Consolidated Balance Sheets as of September 30, 2010 and December 31, 2009

     3   
 

Condensed Consolidated Statements of Operations for the Three and Nine Months Ended September 30, 2010 and 2009

     4   
 

Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2010 and 2009

     5   
 

Notes to Condensed Consolidated Financial Statements

     6   

Item 2.

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

     33   

Item 3.

 

Quantitative and Qualitative Disclosures About Market Risk

     55   

Item 4.

 

Controls and Procedures

     55   
Part II - Other Information   

Item 1.

 

Legal Proceedings

     57   

Item 1A.

 

Risk Factors

     58   

Item 2.

 

Unregistered Sales of Equity Securities and Use of Proceeds

     74   

Item 3.

 

Defaults Upon Senior Securities

     74   

Item 4.

 

Removed and Reserved

     74   

Item 5.

 

Other Information

     74   

Item 6.

 

Exhibits

     75   

Signatures

     81   

Index to Exhibits

     82   

 

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PART I - FINANCIAL INFORMATION

 

Item 1. Condensed Consolidated Financial Statements

EQUINIX, INC.

Condensed Consolidated Balance Sheets

(in thousands)

 

     September 30,
2010
    December 31,
2009
 
     (unaudited)  
Assets     

Current assets:

    

Cash and cash equivalents

   $ 389,149      $ 346,056   

Short-term investments

     322,979        248,508   

Accounts receivable, net

     115,616        64,767   

Other current assets

     64,067        68,556   
                

Total current assets

     891,811        727,887   

Long-term investments

     3,223        9,803   

Property, plant and equipment, net

     2,582,890        1,808,115   

Goodwill

     778,258        381,050   

Intangible assets, net

     155,601        51,015   

Other assets

     69,108        60,280   
                

Total assets

   $ 4,480,891      $ 3,038,150   
                
Liabilities and Stockholders’ Equity     

Current liabilities:

    

Accounts payable and accrued expenses

   $ 134,091      $ 99,053   

Accrued property, plant and equipment

     97,012        109,876   

Current portion of capital lease and other financing obligations

     7,624        6,452   

Current portion of mortgage and loans payable

     22,480        58,912   

Other current liabilities

     49,818        41,166   
                

Total current liabilities

     311,025        315,459   

Capital lease and other financing obligations, less current portion

     261,929        154,577   

Mortgage and loans payable, less current portion

     179,027        371,322   

Senior notes

     750,000        —     

Convertible debt

     910,495        893,706   

Other liabilities

     214,442        120,603   
                

Total liabilities

     2,626,918        1,855,667   
                

Commitments and contingencies (Note 9)

    

Stockholders’ equity:

    

Common stock

     46        39   

Additional paid-in capital

     2,320,107        1,665,662   

Accumulated other comprehensive loss

     (103,321     (97,238

Accumulated deficit

     (362,859     (385,980
                

Total stockholders’ equity

     1,853,973        1,182,483   
                

Total liabilities and stockholders’ equity

   $ 4,480,891      $ 3,038,150   
                

See accompanying notes to condensed consolidated financial statements

 

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EQUINIX, INC.

Condensed Consolidated Statements of Operations

(in thousands, except per share data)

 

     Three months ended
September 30,
    Nine months ended
September 30,
 
     2010     2009     2010     2009  
     (unaudited)  

Revenues

   $ 330,347      $ 227,558      $ 875,090      $ 639,957   
                                

Costs and operating expenses:

        

Cost of revenues

     185,476        126,007        481,108        356,346   

Sales and marketing

     31,205        15,543        79,586        46,315   

General and administrative

     58,640        39,071        155,961        111,677   

Restructuring charges

     1,886        —          6,243        (6,053

Acquisition costs

     1,114        1,379        11,957        1,379   
                                

Total costs and operating expenses

     278,321        182,000        734,855        509,664   
                                

Income from operations

     52,026        45,558        140,235        130,293   

Interest income

     310        353        1,307        1,949   

Interest expense

     (38,363     (22,256     (101,653     (51,619

Other-than-temporary impairment recovery (loss) on investments

     206        —          3,626        (2,687

Loss on debt extinguishment and interest rate swaps, net

     —          —          (4,831     —     

Other income

     1,654        2,484        193        3,675   
                                

Income before income taxes

     15,833        26,139        38,877        81,611   

Income tax expense

     (4,637     (7,327     (15,756     (29,902
                                

Net income

   $ 11,196      $ 18,812      $ 23,121      $ 51,709   
                                

Earnings per share:

        

Basic earnings per share

   $ 0.24      $ 0.49      $ 0.54      $ 1.35   
                                

Weighted-average shares

     45,745        38,787        42,961        38,270   
                                

Diluted earnings per share

   $ 0.24      $ 0.47      $ 0.52      $ 1.32   
                                

Weighted-average shares

     46,735        39,887        44,082        39,305   
                                

See accompanying notes to condensed consolidated financial statements

 

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EQUINIX, INC.

Condensed Consolidated Statements of Cash Flows

(in thousands)

 

     Nine months ended
September 30,
 
     2010     2009  
     (unaudited)  

Cash flows from operating activities:

    

Net income

   $ 23,121      $ 51,709   

Adjustments to reconcile net income to net cash provided by operating activities:

    

Depreciation

     175,359        126,958   

Stock-based compensation

     50,020        39,030   

Restructuring charges

     6,243        (6,053

Amortization of intangible assets

     9,378        4,100   

Amortization of debt issuance costs and debt discounts

     19,403        12,210   

Accretion of asset retirement obligation and accrued restructuring charges

     2,501        1,046   

Loss on debt extinguishment and interest rate swaps, net

     4,831        —     

Other items

     2,357        3,464   

Changes in operating assets and liabilities:

    

Accounts receivable

     (38,486     (23

Other assets

     12,717        12,898   

Accounts payable and accrued expenses

     16,047        27,638   

Other liabilities

     (13,510     5   
                

Net cash provided by operating activities

     269,981        272,982   
                

Cash flows from investing activities:

    

Purchases of investments

     (599,845     (309,666

Sales of investments

     24,778        24,697   

Maturities of investments

     506,811        26,387   

Purchase of Switch and Data, net of cash acquired

     (113,289     —     

Purchase of Upminster, net of cash acquired

     —          (28,176

Purchases of property, plant and equipment

     (436,046     (267,802

Purchase of restricted cash

     (1,160     (895

Release of restricted cash

     244        12,882   

Other investing activities

     —          79   
                

Net cash used in investing activities

     (618,507     (542,494
                

Cash flows from financing activities:

    

Proceeds from employee equity awards

     36,179        23,050   

Proceeds from senior notes

     750,000        —     

Proceeds from convertible debt

     —          373,750   

Proceeds from loans payable

     115,811        28,679   

Repayment of capital lease and other financing obligations

     (14,114     (3,765

Repayment of mortgage and loans payable

     (469,077     (34,525

Capped call costs

     —          (49,664

Debt issuance costs

     (23,124     (8,210

Other financing obligations

     —          (2,795
                

Net cash provided by financing activities

     395,675        326,520   
                

Effect of foreign currency exchange rates on cash and cash equivalents

     (4,056     5,932   
                

Net increase in cash and cash equivalents

     43,093        62,940   

Cash and cash equivalents at beginning of period

     346,056        220,207   
                

Cash and cash equivalents at end of period

   $ 389,149      $ 283,147   
                

Supplemental cash flow information:

    

Cash paid for taxes

   $ 3,129      $ 5,829   
                

Cash paid for interest

   $ 70,772      $ 36,016   
                

See accompanying notes to condensed consolidated financial statements

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1. Basis of Presentation and Significant Accounting Policies

Basis of Presentation

The accompanying unaudited condensed consolidated financial statements have been prepared by Equinix, Inc. (“Equinix” or the “Company”) and reflect all adjustments, consisting only of normal recurring adjustments, which in the opinion of management are necessary to fairly state the financial position and the results of operations for the interim periods presented. The condensed consolidated balance sheet data at December 31, 2009 has been derived from audited consolidated financial statements at that date. The consolidated financial statements have been prepared in accordance with the regulations of the Securities and Exchange Commission (“SEC”), but omit certain information and footnote disclosure necessary to present the statements in accordance with generally accepted accounting principles in the United States of America. For further information, refer to the Consolidated Financial Statements and Notes thereto included in Equinix’s Form 10-K as filed with the SEC on February 22, 2010. Results for the interim periods are not necessarily indicative of results for the entire fiscal year.

On April 30, 2010, the Company completed its acquisition of Switch & Data Facilities Company, Inc. (“Switch and Data”), a publicly-held company headquartered in Tampa, Florida (the “Switch and Data Acquisition”) (see Note 2).

In May 2010, an indirect, wholly-owned subsidiary of the Company entered into a lease for a building for the Company’s new headquarters, which is located at One Lagoon Drive, Redwood City, California (the “Headquarters Lease”). The Company took possession of this property in July 2010. The Headquarters Lease was accounted for as a capital lease and has an initial term of ten years with two five-year renewal options. In July 2010, in connection with the Headquarters Lease, the Company recorded a building asset and a corresponding financing obligation liability totaling $21,300,000. The Company plans to move to its new headquarters in November 2010.

Basis of Presentation and Consolidation

The accompanying condensed consolidated financial statements include the accounts of Equinix and its subsidiaries, including the operations of Switch and Data from the date of acquisition (see Note 2). All significant intercompany accounts and transactions have been eliminated in consolidation.

Reclassifications

Certain amounts in the accompanying condensed consolidated financial statements have been reclassified to conform to the consolidated financial statement presentation as of and for the three and nine months ended September 30, 2010.

Goodwill and Other Intangible Assets

The Company has three reportable segments comprised of the 1) North America, 2) Europe and 3) Asia-Pacific geographic regions. As of September 30, 2010, the Company had goodwill attributable to its North America reporting unit, Europe reporting unit and Asia-Pacific reporting unit (see “Goodwill and Other Intangibles” in Note 4). The Company will test the goodwill attributable to the North American reporting unit for impairment annually as of November 30th, commencing on November 30, 2010 (see Note 2). The Company has historically tested the goodwill attributable to the Europe and Asia-Pacific reporting units annually as of August 31st and December 31st, respectively. In the second quarter of 2010, the Company changed its method of applying the accounting principle related to annual goodwill impairment testing by conforming the testing of goodwill for all three reporting units to November 30th of each year, commencing November 30, 2010. As of September 30, 2010, the Company performed its annual impairment review of the Europe reporting unit as prescribed in the accounting standard related to goodwill impairment tests and concluded that its goodwill attributed to the Company’s Europe reporting unit was not impaired as the fair value of its Europe reporting unit exceeded the carrying value of this reporting unit, including goodwill. In order to determine the fair value of the Company’s reporting units, the Company utilizes the discounted

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

cash flow and market methods. The Company has consistently utilized both methods in its goodwill impairment tests and weights both results equally. The Company uses both methods in its goodwill impairment tests as it believes both methods, in conjunction with each other, provide a reasonable estimate of the determination of fair value of the reporting unit – the discounted cash flow method being specific to anticipated future results of the reporting unit and the market method, which is based on the Company’s market sector including its competitors. The assumptions supporting the discounted cash flow method, including the discount rate, which was assumed to be 10.0%, were determined using the Company’s best estimates as of the date of the impairment review. The Company has performed various sensitivity analyses on certain of the assumptions used in the discounted cash flow method, such as forecasted revenues and discount rate, and notes that no reasonably possible changes would reduce the fair value of the reporting unit to such a level that would cause an impairment charge. The Company will perform another review of the Europe reporting unit as of November 30, 2010, the same date that will be used for the annual goodwill impairment tests for the North America and Asia-Pacific reporting units.

Impairment assessments inherently involve judgment as to assumptions about expected future cash flows and the impact of market conditions on those assumptions. Future events and changing market conditions may impact the Company’s assumptions as to prices, costs, growth rates or other factors that may result in changes in the Company’s estimates of future cash flows. Although the Company believes the assumptions it used in testing for impairment are reasonable, significant changes in any one of the Company’s assumptions could produce a significantly different result. Indicators of potential impairment that might lead the Company to perform interim goodwill impairment assessments include significant and unforeseen customer losses, a significant adverse change in legal factors or in the business climate, a significant adverse action or assessment by a regulator, a significant stock price decline or unanticipated competition.

For further information on goodwill and other intangible assets, see Note 4 below.

Earnings per Share

The following table sets forth the computation of basic and diluted earnings per share for the periods presented (in thousands, except per share amounts):

 

     Three months ended
September 30,
     Nine months ended
September 30,
 
     2010      2009      2010      2009  

Numerator:

           

Numerator for basic earnings per share

   $ 11,196       $ 18,812       $ 23,121       $ 51,709   
                                   

Effect of assumed conversion of convertible debt:

           

Interest expense, net of tax

     —           —           —           23   
                                   

Numerator for diluted earnings per share

   $ 11,196       $ 18,812       $ 23,121       $ 51,732   
                                   

Denominator:

           

Weighted-average shares

     45,745         38,787         42,961         38,270   
                                   

Effect of dilutive securities:

           

Convertible subordinated debentures

     —           —           —           282   

Employee equity awards

     990         1,100         1,121         753   
                                   

Total dilutive potential shares

     990         1,100         1,121         1,035   
                                   

Denominator for diluted earnings per share

     46,735         39,887         44,082         39,305   
                                   

Earnings per share:

           

Basic

   $ 0.24       $ 0.49       $ 0.54       $ 1.35   
                                   

Diluted

   $ 0.24       $ 0.47       $ 0.52       $ 1.32   
                                   

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

The following table sets forth weighted-average outstanding potential shares of common stock that are not included in the diluted earnings per share calculation above because to do so would be anti-dilutive for the periods indicated (in thousands):

 

     Three months ended
September 30,
     Nine months  ended
September 30,
 
     2010      2009      2010      2009  

Shares reserved for conversion of 2.50% convertible subordinated notes

     2,232         2,232         2,232         2,232   

Shares reserved for conversion of 3.00% convertible subordinated notes

     2,945         2,945         2,945         2,945   

Shares reserved for conversion of 4.75% convertible subordinated notes

     4,433         4,433         4,433         1,851   

Common stock warrants

     —           1         —           1   

Common stock related to employee equity awards

     510         1,023         798         1,506   
                                   
     10,120         10,634         10,408         8,535   
                                   

Fair Value of Financial Instruments

The following table sets forth the estimated fair values of the Company’s mortgage and loans payable, senior notes and convertible debt as of (in thousands):

 

     September 30, 2010      December 31, 2009  
     Carrying
Value
     Fair Value      Carrying
Value
     Fair Value  

Mortgage and Loans Payable:

           

Mortgage payable

   $ 89,663       $ 92,301       $ 91,756       $ 83,406   

Chicago IBX financing

     —           —           109,991         109,700   

Asia-Pacific financing

     —           —           64,559         60,827   

New Asia-Pacific financing

     111,844         114,062         —           —     

European financing

     —           —           130,058         111,375   

Netherlands financing

     —           —           9,311         7,941   

Singapore financing

     —           —           24,559         21,739   
                                   
   $ 201,507       $ 206,363       $ 430,234       $ 394,988   
                                   

Senior Notes:

           

Senior notes

   $ 750,000       $ 801,228       $ —         $ —     
                                   

Convertible Debt:

           

2.50% convertible subordinated notes

   $ 231,276       $ 245,469       $ 222,943       $ 228,935   

3.00% convertible subordinated notes

     395,986         437,881         395,986         461,324   

4.75% convertible subordinated notes

     283,233         353,815         274,777         307,248   
                                   
   $ 910,495       $ 1,037,165       $ 893,706       $ 997,507   
                                   

Income Taxes

The Company’s effective tax rates were 40.5% and 36.6% for the nine months ended September 30, 2010 and 2009, respectively. The increase in the effective tax rate for the nine months ended September 30, 2010 as compared to the nine months ended September 30, 2009 was primarily due to an increase in foreign losses, which did not benefit the Company’s effective tax rate.

The Company’s unrecognized tax benefits increased by approximately $12,932,000 during the nine months ended September 30, 2010 due to the Switch and Data Acquisition. These unrecognized tax benefits served to reduce the deferred tax assets acquired from the Switch and Data Acquisition.

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Interest Charges

The following table sets forth total interest costs incurred and total interest costs capitalized for the periods presented (in thousands):

 

     Three months ended
September 30,
     Nine months ended
September 30,
 
     2010      2009      2010      2009  

Interest expense

   $ 38,363       $ 22,256       $ 101,653       $ 51,619   

Interest capitalized

     2,010         2,628         8,746         10,397   
                                   

Interest charges incurred

   $ 40,373       $ 24,884       $ 110,399       $ 62,016   
                                   

Stock-Based Compensation

In February and March 2010, the Compensation Committee and the Stock Award Committee of the Board of Directors approved the issuance of an aggregate of 597,063 shares of restricted stock units to certain employees, including executive officers, pursuant to the 2000 Equity Incentive Plan as part of the Company’s annual refresh program. All awards are subject to vesting provisions. All such equity awards described in this paragraph had a total fair value as of the dates of grant of $60,226,000, which is expected to be amortized over a weighted-average period of 2.56 years.

In April 2010, as a result of the Switch and Data Acquisition, the Company issued 476,943 options to purchase the Company’s common shares and 98,509 restricted stock units of the Company’ common shares to Switch and Data employees in exchange for their outstanding options to purchase shares of and restricted stock units of Switch and Data (see Note 2). An aggregate fair value of approximately $35,395,000 was attributed to these equity awards, of which $16,508,000 was included as part of the consideration of the Switch and Data Acquisition and the remaining $18,887,000 is expected to be amortized over a weighted-average period of 2.14 years.

The following table presents, by operating expense category, the Company’s stock-based compensation expense recognized in the Company’s condensed consolidated statement of operations (in thousands):

 

     Three months ended
September 30,
     Nine months ended
September 30,
 
     2010     2009      2010     2009  

Cost of revenues

   $ 1,619      $ 1,887       $ 4,957      $ 4,439   

Sales and marketing

     3,627        2,681         10,316        7,699   

General and administrative

     11,704        9,465         34,747        26,892   

Restructuring charges

     (3 )(1)      —           1,488 (1)      —     
                                 
   $ 16,947      $ 14,033       $ 51,508      $ 39,030   
                                 

 

  (1) See “Switch and Data Restructuring Charge” in Note 12.

Recent Accounting Pronouncements

In October 2009, the FASB issued Accounting Standards Update No. 2009-13 (“ASU 2009-13”), which addresses the accounting for multiple-deliverable arrangements to enable vendors to account for products or services (deliverables) separately rather than as a combined unit. ASU 2009-13 is effective prospectively for revenue arrangements entered into or materially modified beginning in fiscal years on or after June 15, 2010. Early adoption is permitted. The Company is currently evaluating the impact that the adoption of this standard will have on its condensed consolidated financial statements, if any.

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

In January 2010, the FASB issued Accounting Standards Update No. 2010-06 (“ASU 2010-06”), which amends the use of fair value measures and the related disclosures. ASU 2010-06 requires new disclosures for transfers in and out of Level 1 and Level 2 fair value measurements, which is effective for interim and annual periods beginning after December 15, 2009. ASU 2010-06 also requires disclosure of activity in Level 3 fair value measurements on a gross basis, which is effective for fiscal years beginning after December 15, 2010. The Company adopted ASU 2010-06 during the three months ended March 31, 2010 with respect to the new disclosures for transfers in and out of Level 1 and Level 2 fair value measurements, and its adoption did not have any significant impact on the Company’s condensed consolidated financial statements. The Company is currently evaluating the impact that the disclosure of activity in Level 3 fair value measurements will have on its consolidated financial statements, if any.

2. Switch and Data Acquisition

On April 30, 2010 (the “Acquisition Date”), the Company acquired 100% of the issued and outstanding share capital of Switch and Data, a publicly-held company headquartered in Tampa, Florida. Switch and Data operated 34 data centers in the U.S. and Canada. The combined company operates under the Equinix name. There were no historical transactions between Equinix and Switch and Data.

The Company included Switch and Data’s results of operations from May 1, 2010 and estimated the fair value of assets acquired and liabilities assumed in its condensed consolidated balance sheets beginning April 30, 2010. The Company incurred acquisition costs of $250,000 and $11,094,000, respectively, for the three and nine months ended September 30, 2010 related to the Switch and Data Acquisition which were included in the condensed consolidated statements of operations.

Additionally, as a result of the Switch and Data Acquistion, the Company incurred a restructuring charge of $4,905,000 during the nine months ended September 30, 2010 (see Note 12).

Fair Value of Consideration Transferred

Under the final terms of the Switch and Data Acquisition, each stock-electing share received 0.19409 shares of Equinix common stock, each cash-electing share received $19.06 in cash, and each non-electing share received 0.11321688 shares of Equinix common stock and $7.94189104 in cash, in each case subject to the terms of the merger agreement. Additionally, the Company assumed Switch and Data’s outstanding employee equity awards. The following table presents the fair value of consideration transferred to acquire Switch and Data at the Acquisition Date (in thousands):

 

Cash (1)

   $ 134,007   

Common stock (2)

     549,389   

Switch and Data employee equity awards (3)

     16,508   
        

Total

   $ 699,904   
        

 

  (1) Represents payment for approximately 20% of Switch and Data’s total common stock outstanding as of the Acquisition Date.
  (2) Fair value of 5,458,413 shares of the Company’s common stock issued in exchange for approximately 80% of Switch and Data’s total common stock outstanding as of the Acquisition Date. The value of the Company’s common stock issued was determined based on the Company’s closing share price on the Acquisition Date, or $100.65 per share.
  (3) Represents fair value attributed to vested shares of Switch and Data employee equity awards which the Company assumed. The Company issued 476,943 options to purchase the Company’s common stock and 98,509 restricted stock units of the Company’s common stock to Switch and Data employees with an aggregate fair value of $35,395,000 in exchange for their options to purchase shares of and restricted stock units of Switch and Data (see Note 1, “Stock-Based Compensation”).

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

Purchase Price Allocation

The Switch and Data Acquisition was accounted for using the acquisition method of accounting in accordance with the accounting standard for business combinations. Under the acquisition method of accounting, the total purchase price was allocated to Switch and Data’s net tangible and intangible assets based upon their fair value as of the Acquisition Date. Based upon the purchase price and the valuation of Switch and Data, the purchase price allocation was as follows (in thousands):

 

Cash and cash equivalents

   $ 20,718   

Accounts receivable

     12,763   

Other current assets

     2,125   

Property, plant and equipment

     464,640   

Goodwill

     407,383   

Intangible asset – customer contracts

     98,920   

Intangible asset – favorable leases

     13,680   

Intangible asset – other

     3,370   

Other assets

     1,471   
        

Total assets acquired

     1,025,070   

Accounts payable and accrued expenses

     (24,512

Accrued property, plant and equipment

     (10,363

Current portion of capital leases

     (10,402

Current portion of loan payable

     (138,938

Other current liabilities

     (12,157

Capital leases, less current portion

     (38,998

Unfavorable leases

     (2,580

Deferred tax liability

     (66,422

Other liabilities

     (20,794
        

Net assets acquired

   $ 699,904   
        

The following table presents certain information on the acquired identifiable intangible assets (dollars in thousands):

 

Intangible assets

   Fair value     Estimated
useful lives
(years)
   Weighted-
average
estimated
useful lives
(years)
 

Customer contracts

   $ 98,920      11      11   

Favorable leases

     13,680      3 – 16      8.6   

Other

     3,370      0 – 10      4.9   

Unfavorable leases

     (2,580   3 – 15      8.3   

The fair value of customer contracts was estimated by applying an income approach. The fair value was determined by calculating the present value of estimated future operating cash flows generated from exisiting customers less costs to realize the revenue. The Company applied a discount rate of approximately 14%, which reflects the nature of the asset, to the estimated future operating cash flows. Other significant assumptions used to estimate the fair value of the customer contracts include projected revenue growth, customer attrition rates, sales and marketing expenses and operating margins. The fair values of favorable and unfavorable leases were estimated by applying an income approach. The fair value was determined by calculating the difference between the discounted cash flows over the remaining term of each lease using contractual lease rates and market lease rates. The Company applied a discount rate ranging from 8.25% to 11.5% depending on the type, location and duration of each lease. Another significant assumption used in estimating the fair values of the favorable and unfavorable leases was the market lease rates. The fair value of the other acquired identifiable intangible assets were estimated by applying an income or cost approach as appropriate. The fair value measurements were based on significant inputs that are not observable in the market and thus represent Level 3 measurements as defined in the accounting standard for fair value measurements.

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

The Company determined the fair value of the term loan and revolving credit facility assumed in the Switch and Data Acquisition by estimating Switch and Data’s debt rating and reviewed market data with a similar debt rating and other characteristics of the debt, including the maturity date and security type. The Company determined that the book value of $138,938,000 approximated the fair value as of the Acquisition Date.

The Company determined the fair value of the two property capital lease liabilities assumed in the Switch and Data Acquisition of $40,425,000 by calculating the present value of future cash flows using a discount rate of approximately 8.6%, which was equal to the average yield of industrial bonds with similar remaining terms as the leases. The Company determined that the fair value of the equipment capital lease liability assumed in the Switch and Data Acquisition was equal to the fair value of the underlying assets of $9,155,000 as of the Acquisition Date because the lease contained a bargain purchase option and the title of the leased property is expected to be transferred to the Company at the end of the lease term. A total of $407,383,000 has been allocated to goodwill. Goodwill represents the excess of the purchase price over the fair value of the net tangible and intangible assets acquired. Goodwill is attributable to the workforce of Switch and Data and the significant synergies expected to arise after the Switch and Data Acquisition. Goodwill is not expected to be deductible for tax purposes. Goodwill will not be amortized and will be tested for impairment at least annually. Goodwill recorded as a result of the Switch and Data Acquisition is attributable to the Company’s North American reportable segment (see Note 11) and reporting unit (see Note 4). The Company intends to test goodwill attributable to the North American reporting unit annually as of November 30th, commencing with November 30, 2010.

For additional information on the Switch and Data debt assumed, refer to Note 8.

The Company continues to evaluate certain assets and liabilities related to the Switch and Data Acquisition. Additional information, which existed as of the Acquisition Date but was unknown to the Company at that time, may become known to the Company during the remainder of the measurement period, a period not to exceed 12 months from the Acquisition Date. Changes to the assets and liabilities recorded may result in a corresponding adjustment to goodwill.

Unaudited Pro Forma Combined Condensed Consolidated Statements of Operations

The consolidated financial statements of the Company include the operations of Switch and Data from May 1, 2010 through September 30, 2010 for the nine months ended September 30, 2010. The following table sets forth the results of operations of Switch and Data which were included in the Company’s consolidated financial statements (in thousands):

 

     Three
months
ended
     Nine
months
ended
 
     September 30, 2010  

Revenues

   $ 57,474       $ 95,066   

Net income (loss)

     1,165         (4,962

The following unaudited pro forma combined consolidated financial information has been prepared to give effect to the Switch and Data Acquisition by the Company using the acquisition method of accounting and the Company’s repayment of Switch and Data’s outstanding debt and equipment capital lease (Note 8). The unaudited pro forma combined consolidated financial information reflect certain adjustments related to the Switch and Data Acquisition, such as additional depreciation and amortization expense on assets acquired from Switch and Data. These pro forma statements were prepared as if the Switch and Data Acquistion and the repayment of Switch and Data’s outstanding debt and equipment capital lease had been completed as of the beginning of each period presented.

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

The unaudited pro forma combined consolidated financial information is presented for illustrative purposes only and is not necessarily indicative of the results of operations that would have actually been reported had the acquisition occurred on January 1, 2010 and 2009, nor is it necessarily indicative of the future results of operations of the combined company.

The following table sets forth the unaudited pro forma consolidated combined results of operations (in thousands, except per share data):

 

     Three months ended
September 30,
     Nine months ended
September 30,
 
     2010      2009      2010      2009  

Revenues

   $ 330,347       $ 281,078       $ 951,045       $ 789,970   

Net income

     11,346         20,625         33,246         47,893   

Earnings per share:

           

Basic earnings per share

     0.25         0.47         0.73         1.10   

Diluted earnings per share

     0.24         0.45         0.71         1.07   

3. IBX Acquisitions and Expansions

Amsterdam IBX Expansion Project

In April 2010, an indirect, wholly-owned subsidiary of the Company amended its existing lease agreements for its two adjacent Amsterdam properties. One of these properties is the Company’s existing Amsterdam IBX data center and the Company is now developing the second property to become its second Amsterdam IBX data center (the “Amsterdam IBX Expansion Project”). The Company’s development plans involve modifying the two building structures to connect the two adjacent buildings into a single campus. The two Amsterdam properties were previously accounted for as operating leases. Pursuant to the accounting standards for lessee’s involvement in asset construction and for leasing transactions involving special-purpose entities, the Company is now considered the owner of the two leased buildings during the construction phase due to the structural building work that the Company is now undertaking, while the underlying land is considered an operating lease. As a result, the Company recorded a building asset and a related financing obligation liability (the “Amsterdam IBX Building Financing”) totaling approximately $11,288,000 (using the exchange rate as of September 30, 2010).

Sydney 3 IBX Expansion Project

In June 2010, an indirect, wholly-owned subsidiary of the Company entered into a lease for a building that the Company and the landlord will both jointly develop to meet the Company’s needs and which the Company will ultimately convert into its third IBX data center in Sydney, Australia (the “Sydney 3 IBX Expansion Project” and the “Sydney 3 Lease”). The Sydney 3 Lease has a term of 15 years and a total cumulative rent obligation of approximately $28,172,000 (using the exchange rate as of September 30, 2010) commencing September 2010. The landlord began modifying the building structure to the Company’s specifications in June 2010. Pursuant to the accounting standards for lessee’s involvement in asset construction and for leasing transactions involving special-purpose entities, the Company is now considered the owner of the building during the construction phase due to the structural building work that the landlord is now undertaking on the Company’s behalf. As a result, the Company will be recording a building asset during the construction period and a related financing liability (the “Sydney 3 IBX Building Financing”), while the underlying land will be considered an operating lease. The building is expected to be completed during the first half of 2011. In connection with the Sydney 3 IBX Building Financing, the Company recorded a building asset and a corresponding financing obligation liability totaling approximately $9,068,000 (using the exchange rate as of September 30, 2010), representing the fair value of the existing building structure and the estimated percentage-of-completion of the building as of September 30, 2010.

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

Paris 3 IBX Lease Amendment

In April 2010, an indirect, wholly-owned subsidiary of the Company amended an existing lease for the Company’s Paris 3 IBX data center (the “Paris 3 IBX Lease”) to take on additional space effective July 2010 (the “Paris 3 IBX Lease Amendment”), which the Company will use to expand its Paris 3 IBX data center. The Paris 3 IBX Lease Amendment has the same lease end date as the Paris 3 IBX Lease, which is through September 2020, and a total cumulative rent obligation of approximately $67,315,000 (using the exchange rate as of September 30, 2010). The Paris 3 IBX Lease was accounted for as a capital lease; however, due to structural work that was made to the property related to the new space, which the Company obtained in July 2010, pursuant to the accounting standards for lessee’s involvement in asset construction and for leasing transactions involving special-purpose entities, the Company is now considered the owner of the property. As a result, the Company removed both the capital lease asset, which had a net book value totaling $35,149,000, and capital lease obligation totaling $37,706,000 in July 2010 and replaced them with a building asset totaling $56,370,000 and a related financing obligation liability (the “Paris 3 IBX Building Financing”) totaling $58,927,000 (using the exchange rate as of September 30, 2010).

4. Balance Sheet Components

Cash, Cash Equivalents and Short-Term and Long-Term Investments

Cash, cash equivalents and short-term and long-term investments consisted of the following as of (in thousands):

 

     September 30, 2010  
     Amortized
Cost
    Gross
Unrealized
Gains
    Gross
Unrealized
Losses
    Fair Value  

U.S. government and agency obligations

   $ 562,500      $ 77      $ (3   $ 562,574   

Cash and money markets

     147,186        —          —          147,186   

Corporate bonds

     3,448        34        —          3,482   

Asset-backed securities

     2,033        77        (1     2,109   
                                

Total available-for-sale securities

     715,167        188        (4     715,351   

Less amounts classified as cash and cash equivalents

     (389,150     (2     3        (389,149
                                

Total securities classified as investments

     326,017        186        (1     326,202   

Less amounts classified as short-term investments

     (322,923     (56     —          (322,979
                                

Total long-term investments

   $ 3,094      $ 130      $ (1   $ 3,223   
                                

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

Cash, cash equivalents and short-term and long-term investments consisted of the following as of (in thousands):

 

     December 31, 2009  
     Amortized
Cost
    Gross
Unrealized
Gains
    Gross
Unrealized
Losses
    Fair Value  

U.S. government and agency obligations

   $ 437,764      $ 162      $ (3   $ 437,923   

Cash and money markets

     147,059        —          —          147,059   

Corporate bonds

     12,400        203        —          12,603   

Asset-backed securities

     5,543        134        (4     5,673   

Other securities

     1,108        1        —          1,109   
                                

Total available-for-sale securities

     603,874        500        (7     604,367   

Less amounts classified as cash and cash equivalents

     (346,059     —          3        (346,056
                                

Total securities classified as investments

     257,815        500        (4     258,311   

Less amounts classified as short-term investments

     (248,300     (208     —          (248,508
                                

Total long-term investments

   $ 9,515      $ 292      $ (4   $ 9,803   
                                

As of September 30, 2010 and December 31, 2009, cash equivalents included investments which were readily convertible to cash and had original maturity dates of 90 days or less. The maturities of securities classified as short-term investments were one year or less as of September 30, 2010 and December 31, 2009. The maturities of securities classified as long-term investments were greater than one year and less than three years as of September 30, 2010 and December 31, 2009.

In January 2010 and July 2010, the Company received additional distributions of $3,420,000 and $206,000, respectively, from its investment in the Reserve Primary Fund (the “Reserve”), a money market fund that suffered a decline in its Net Asset Value (“NAV”) of below $1 per share when the Reserve valued its exposure to investments held in Lehman Brothers Holdings, Inc. (“Lehman Brothers”) at zero. The Reserve held investments in commercial paper and short-term notes issued by Lehman Brothers, which filed for Chapter 11 bankruptcy protection in September 2008. During the years ended December 31, 2008 and 2009, the Company recorded other-than-temporary impairment losses on the Reserve. The Company also received distributions of its outstanding funds held by the Reserve during the years ended December 31, 2008 and 2009. As of December 31, 2009, the Company had no amounts remaining outstanding on its consolidated balance sheet for the Reserve. As a result, during the three months ended March 31, 2010 and September 30, 2010, the Company recorded a recovery of other-than-temporary impairment loss, which is included in the Company’s condensed consolidated statement of operations. During the nine months ended September 30, 2009, the Company recorded an other-than-temporary impairment loss of $2,687,000 in connection with its investment in the Reserve, which is included in the Company’s condensed consolidated statement of operations.

As of September 30, 2010, the Company’s net unrealized gains (losses) on its available-for-sale securities were comprised of the following (in thousands):

 

     Unrealized
gains
     Unrealized
losses
    Net  unrealized
gains/(losses)
 

Cash and cash equivalents

   $ 2       $ (3   $ (1

Short-term investments

     56         —          56   

Long-term investments

     130         (1     129   
                         
   $ 188       $ (4   $ 184   
                         

While certain marketable securities carry unrealized losses, the Company expects that it will receive both principal and interest according to the stated terms of each of the securities and that the decline in market value is primarily due to changes in the interest rate environment from the time the securities were purchased as compared to interest rates at September 30, 2010.

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

The following table summarizes the fair value and gross unrealized losses related to 7 available-for-sale securities with an aggregate cost basis of $170,443,000, aggregated by type of investment and length of time that individual securities have been in a continuous unrealized loss position, as of September 30, 2010 (in thousands):

 

     Securities in a loss
position for less than 12
months
    Securities in a loss
position for 12 months
or more
 
     Fair value      Gross
unrealized
losses
    Fair value      Gross
unrealized
losses
 

U.S. government and agency obligations

   $ 169,985       $ (3   $ —         $ —     

Asset-backed securities

     —           —          454         (1
                                  
   $ 169,985       $ (3   $ 454       $ (1
                                  

While the Company does not believe it holds investments that are other-than-temporarily impaired and believes that the Company’s investments will mature at par, as of September 30, 2010, the Company believes that its investments are subject to the currently adverse market conditions. If market conditions were to deteriorate further, the Company could sustain other-than-temporary impairments to its investment portfolio which could result in additional realized losses being recorded or securities markets could become inactive which could affect the liquidity of the Company’s investments. As securities mature, the Company has reinvested the proceeds in U.S. government securities, such as Treasury bills and Treasury notes, of a short-term duration and lower yield in order to meet its near term liquidity and capital expenditure requirements. As a result, the Company expects to recognize lower interest income in future periods.

Accounts Receivable

Accounts receivables, net, consisted of the following (in thousands):

 

     September 30,
2010
    December 31,
2009
 

Accounts receivable

   $ 206,180      $ 126,122   

Unearned revenue

     (87,186     (59,635

Allowance for doubtful accounts

     (3,378     (1,720
                
   $ 115,616      $ 64,767   
                

Trade accounts receivable are recorded at the invoiced amount and generally do not bear interest. The Company generally invoices its customers at the end of a calendar month for services to be provided the following month, although this practice varies in the Company’s Europe region. Accordingly, unearned revenue consists of pre-billing for services that have not yet been provided, but which have been billed to customers in advance in accordance with the terms of their contract.

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

Other Current Assets

Other current assets consisted of the following (in thousands):

 

     September 30,
2010
     December 31,
2009
 

Deferred tax assets, net

   $ 38,794       $ 46,822   

Prepaid expenses

     17,798         10,277   

Taxes receivable

     3,502         7,081   

Other receivables

     880         2,083   

Foreign currency forward contract receivable

     517         498   

Other current assets

     2,576         1,795   
                 
   $ 64,067       $ 68,556   
                 

Property, Plant and Equipment

Property, plant and equipment consisted of the following (in thousands):

 

     September 30,
2010
    December 31,
2009
 

IBX plant and machinery

   $ 1,415,423      $ 925,360   

Leasehold improvements

     936,442        552,548   

Buildings

     318,377        277,247   

IBX equipment

     222,943        175,030   

Site improvements

     245,526        231,437   

Computer equipment and software

     109,320        85,472   

Land

     83,572        84,681   

Furniture and fixtures

     13,864        11,428   

Construction in progress

     190,451        243,129   
                
     3,535,918        2,586,332   

Less accumulated depreciation

     (953,028     (778,217
                
   $ 2,582,890      $ 1,808,115   
                

Leasehold improvements, IBX plant and machinery, computer equipment and software and buildings recorded under capital leases aggregated $134,897,000 and $87,138,000 at September 30, 2010 and December 31, 2009, respectively. Amortization on the assets recorded under capital leases is included in depreciation expense and accumulated depreciation on such assets totaled $30,783,000 and $14,644,000 as of September 30, 2010 and 2009, respectively.

The Company’s planned capital expenditures during the remainder of 2010 and thereafter in connection with recently acquired IBX properties and expansion efforts are substantial. For further information, refer to “Other Purchase Commitments” in Note 9.

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

Goodwill and Other Intangible Assets

Goodwill and other intangible assets, net, consisted of the following (in thousands):

 

     September 30,
2010
    December 31,
2009
 

Goodwill:

    

North America

   $ 407,383      $ —     

Europe

     351,145        362,569   

Asia-Pacific

     19,730        18,481   
                
     778,258        381,050   
                

Other intangibles:

    

Intangible asset – customer contracts

     157,396        60,499   

Intangible asset – favorable leases

     18,163        4,690   

Intangible asset – others

     3,480        111   
                
     179,039        65,301   

Accumulated amortization

     (23,438     (14,286
                
     155,601        51,015   
                
   $ 933,859      $ 432,065   
                

Changes in the carrying amount of goodwill by geographic regions are as follows (in thousands):

 

     North
America
     Europe     Asia-
Pacific
     Total  

Balance at December 31, 2009

   $ —         $ 362,569      $ 18,481       $ 381,050   

Switch and Data acquisition (see Note 2)

     407,383         —          —           407,383   

Impact of foreign currency exchange

     —           (11,424     1,249         (10,175
                                  

Balance at September 30, 2010

   $ 407,383       $ 351,145      $ 19,730       $ 778,258   
                                  

The Company’s goodwill and intangible assets in Europe, denominated in British pounds and Euros, goodwill in Asia-Pacific, denominated in Singapore dollars, and certain intangible assets in North America, denominated in Canadian dollars, are subject to foreign currency fluctuations. The Company’s foreign currency translation gains and losses, including goodwill and other intangibles, are a component of other comprehensive income and loss.

For the three and nine months ended September 30, 2010, the Company recorded amortization expense of $4,357,000 and $9,378,000, respectively, associated with its other intangible assets. For the three and nine months ended September 30, 2009, the Company recorded amortization expense of $1,454,000 and $4,100,000, respectively, associated with its other intangible assets.

Changes in the gross book value of intangible assets by geographic regions are as follows (in thousands):

 

     North
America
    Europe     Asia-
Pacific
     Total  

Intangible assets, gross at December 31, 2009

   $ 2,293      $ 63,008      $ —         $ 65,301   

Switch and Data acquisition (see Note 2)

     115,970        —          —           115,970   

Impact of foreign currency exchange

     (180     (2,052     —           (2,232
                                 

Intangible assets, gross at September 30, 2010

   $ 118,083      $ 60,956      $ —         $ 179,039   
                                 

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

The Company’s estimated future amortization expense related to these intangibles is as follows (in thousands):

 

Year ending:

  

2010 (three months remaining)

   $ 4,334   

2011

     16,798   

2012

     16,647   

2013

     16,601   

2014

     16,352   

2015 and thereafter

     84,869   
        

Total

   $ 155,601   
        

Other Assets

Other assets consisted of the following (in thousands):

 

     September 30,
2010
     December 31,
2009
 

Debt issuance costs, net

   $ 36,708       $ 19,762   

Deposits

     21,604         28,032   

Restricted cash

     3,937         3,021   

Prepaid expenses, non-current

     3,057         3,247   

Deferred tax assets, non-current

     2,408         5,171   

Other assets, non-current

     1,394         1,047   
                 
   $ 69,108       $ 60,280   
                 

Accounts Payable and Accrued Expenses

Accounts payable and accrued expenses consisted of the following (in thousands):

 

     September 30,
2010
     December 31,
2009
 

Accounts payable

   $ 11,646       $ 14,874   

Accrued compensation and benefits

     42,954         35,809   

Accrued taxes

     20,729         14,508   

Accrued interest

     20,522         6,235   

Accrued utilities and security

     18,854         13,526   

Accrued acquisition costs

     5,053         —     

Accrued professional fees

     4,695         4,657   

Accrued other

     9,638         9,444   
                 
   $ 134,091       $ 99,053   
                 

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

Other Current Liabilities

Other current liabilities consisted of the following (in thousands):

 

     September 30,
2010
     December 31,
2009
 

Deferred installation revenue

   $ 29,883       $ 26,319   

Customer deposits

     11,002         8,406   

Accrued restructuring charges

     4,013         2,043   

Deferred recurring revenue

     2,652         2,689   

Deferred tax liabilities

     814         814   

Deferred rent

     470         403   

Other current liabilities

     984         492   
                 
   $ 49,818       $ 41,166   
                 

Other Liabilities

Other liabilities consisted of the following (in thousands):

 

     September 30,
2010
     December 31,
2009
 

Deferred tax liabilities, non-current

   $ 91,121       $ 25,937   

Asset retirement obligations

     46,651         17,710   

Deferred rent, non-current

     41,093         34,288   

Deferred installation revenue, non-current

     20,296         18,228   

Customer deposits, non-current

     5,130         5,813   

Deferred recurring revenue, non-current

     5,028         5,160   

Interest rate swap payable, non-current

     —           8,496   

Accrued restructuring charges, non-current

     3,954         3,876   

Other liabilities

     1,169         1,095   
                 
   $ 214,442       $ 120,603   
                 

The increase in deferred tax liabilities, non-current was primarily due to a $66,422,000 deferred tax liability recorded in connection with the Switch and Data Acquisition (see Note 2).

The following table summarizes the activity of the Company’s asset retirement obligation liability (in thousands):

 

Asset retirement obligations as of December 31, 2009

   $ 17,710   

Additions (1)

     26,405   

Accretion expense

     2,301   

Impact of foreign currency exchange

     235   
        

Asset retirement obligations as of September 30, 2010

   $ 46,651   
        

 

  (1) Includes $20,262,000 assumed in connection with the Switch and Data Acquisition.

The Company currently leases the majority of its IBX data centers and certain equipment under non-cancelable operating lease agreements expiring through 2030. The IBX data center lease agreements typically provide for base rental rates that increase at defined intervals during the term of the lease. In addition, the Company has negotiated rent expense abatement periods to better match the phased build-out of its centers. The Company accounts for such abatements and increasing base rentals using the straight-line method over the life of the lease. The difference between the straight-line expense and the cash payment is recorded as deferred rent.

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

5. Fair Value Measurements

The Company’s financial assets and liabilities measured at fair value on a recurring basis at September 30, 2010 were as follows (in thousands):

 

     Fair value at
September 30,
2010
     Fair value measurement using  
            Level 1      Level 2      Level 3  

Assets:

           

U.S. Government and Agency obligations

   $ 562,574       $ —         $ 562,574       $ —     

Cash and money markets

     147,186         147,186         —           —     

Corporate bonds

     3,482         —           3,482         —     

Asset-backed securities

     2,109         —           2,109         —     

Derivative assets (1)

     517         —           517         —     
                                   
   $ 715,868       $ 147,186       $ 568,682       $ —     
                                   

 

  (1) Included in the consolidated balance sheets within other current assets.

The Company’s investments in money market funds, which are classified within Level 1 of the fair value hierarchy, are valued using quoted prices for identical instruments in active markets. The Company’s investments in U.S. government and agency securities, corporate bonds and asset-back securities are classified within Level 2 of the fair value hierarchy. Level 2 investments are valued based upon published clearing prices for similar securities with recent trades.

For foreign currency derivatives, the Company’s approach is to use forward contract and option valuation models employing market observable inputs, such as spot currency rates, time value and option volatilities with adjustments made to these values utilizing the credit default swap rates of our foreign exchange trading counterparties. Although the Company has determined that the majority of the inputs used to value its derivatives fall within Level 2 of the fair value hierarchy, the credit risk valuation adjustments associated with its derivatives utilize Level 3 inputs, such as estimates of current credit spreads to evaluate the likelihood of default by itself and its counterparties. However, as of September 30, 2010, the Company had assessed the significance of the impact of the credit risk valuation adjustments on the overall valuation of its derivative positions and had determined that the credit risk valuation adjustments were not significant to the overall valuation of its derivatives. Therefore, they are categorized as Level 2.

During the nine months ended September 30, 2010, the Company did not have any nonfinancial assets or liabilities measured at fair value on a recurring basis.

6. Derivatives and Hedging Activities

The Company uses foreign currency forward contracts to manage the foreign exchange risk associated with certain foreign currency-denominated assets and liabilities. As a result of foreign currency fluctuations, the U.S. dollar equivalent values of the foreign currency-denominated assets and liabilities change. Foreign currency forward contracts represent agreements to exchange the currency of one country for the currency of another country at an agreed-upon price on an agreed-upon settlement date.

The Company has not designated the foreign currency forward contracts as hedging instruments under the accounting standard for derivatives and hedging. Gains and losses on these contracts are included in other income (expense), net, along with those foreign currency gains and losses of the related foreign currency-denominated assets and liabilities associated with these foreign currency forward contracts. The Company entered into various foreign currency forward contracts during the nine months ended September 30, 2010 and 2009. As of September 30, 2010, the Company had gross assets totaling $2,257,000 and gross liabilities totaling $1,740,000 representing the fair values of these foreign currency forward contracts.

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

The Company recorded its foreign currency forward contracts, net, by counter party, within other current assets. The following table sets forth the Company’s net gain (loss), which is reflected in other income (expense) on the accompanying condensed consolidated statement of operations, in connection with its foreign currency forward contracts (in thousands):

 

     Three months ended
September 30,
    Nine months ended
September 30,
 
     2010     2009     2010      2009  

Net gain (loss)

   $ (1,677   $ (820   $ 19       $ (1,156

During the nine months ended September 30, 2010, the Company terminated its outstanding interest rate swap instruments (see Note 8). As of September 30, 2010, there were no outstanding interest rate swap instruments.

7. Related Party Transactions

The Company has several significant stockholders and other related parties that are also customers and/or vendors. The Company’s activity of related party transactions was as follows (in thousands):

 

     Three months ended
September 30,
     Nine months ended
September 30,
 
     2010      2009      2010      2009  

Revenues

   $ 5,758       $ 5,654       $ 16,792       $ 17,308   

Costs and services

     1,840         489         2,649         788   

 

     September 30,
2010
     September 30,
2009
 

Accounts receivable

   $ 4,397       $ 3,070   

Accounts payable

     246         43   

8. Debt Facilities and Other Financing Obligations

Senior Notes

In February 2010, the Company issued $750,000,000 aggregate principal amount of 8.125% Senior Notes due March 1, 2018 (the “Senior Notes”). Interest is payable semi-annually on March 1 and September 1 of each year, commencing on September 1, 2010.

The Senior Notes are governed by an Indenture dated March 3, 2010 between the Company, as issuer, and U.S. Bank National Association, as trustee (the “Senior Notes Indenture”). The Senior Notes Indenture contains covenants that limit the Company’s ability and the ability of its subsidiaries to, among other things:

 

   

incur additional debt;

 

   

pay dividends or make other restricted payments;

 

   

purchase, redeem or retire capital stock or subordinated debt;

 

   

make asset sales;

 

   

enter into transactions with affiliates;

 

   

incur liens;

 

   

enter into sale-leaseback transactions;

 

   

provide subsidiary guarantees;

 

   

make investments; and

 

   

merge or consolidate with any other person.

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

Each of these restrictions has a number of important qualifications and exceptions. The Senior Notes are unsecured and rank equal in right of payment to the Company’s existing or future senior debt and senior in right of payment to the Company’s existing and future subordinated debt. The Senior Notes will be effectively junior to any of the Company’s existing and future secured indebtedness and any indebtedness of its subsidiaries.

At any time prior to March 1, 2013, the Company may on any one or more occasions redeem up to 35% of the aggregate principal amount of the Senior Notes outstanding under the Senior Notes Indenture, at a redemption price equal to 108.125% of the principal amount of the Senior Notes to be redeemed, plus accrued and unpaid interest to, but not including, the redemption date, with the net cash proceeds of one or more equity offerings, provided that (i) at least 65% of the aggregate principal amount of the Senior Notes issued under the Senior Notes Indenture remains outstanding immediately after the occurrence of such redemption and (ii) the redemption must occur within 90 days of the date of the closing of such equity offerings. On or after March 1, 2014, the Company may redeem all or a part of the Senior Notes, on any one or more occasions, at the redemption prices set forth below plus accrued and unpaid interest thereon, if any, up to, but not including, the applicable redemption date, if redeemed during the one-year period beginning on March 1 of the years indicated below:

 

     Redemption price of
the  Senior Notes
 

2014

     104.0625

2015

     102.0313

2016 and thereafter

     100.0000

In addition, at any time prior to March 1, 2014, the Company may also redeem all or a part of the Senior Notes at a redemption price equal to 100% of the principal amount of the Senior Notes redeemed plus applicable premium (the “Applicable Premium”) and accrued and unpaid interest, if any, to, but not including, the date of redemption (the “Redemption Date”). The Applicable Premium means the greater of:

 

   

1.0% of the principal amount of the Senior Notes; and

 

   

the excess of: (a) the present value at such redemption date of (i) the redemption price of the Senior Notes at March 1, 2014 as shown in the above table, plus (ii) all required interest payments due on the Senior Notes through March 1, 2014 (excluding accrued but unpaid interest, if any, to, but not including the redemption date), computed using a discount rate equal to the yield to maturity of the United States Treasury securities with a constant maturity most nearly equal to the period from the redemption date to March 1, 2014, plus 0.50%; over (b) the principal amount of the Senior Notes.

Upon a change in control, the Company will be required to make an offer to purchase each holder’s Senior Notes at a purchase price equal to 101% of the principal amount thereof plus accrued and unpaid interest to the date of purchase.

Debt issuance costs related to the Senior Notes, net of amortization, were $13,504,000 as of September 30, 2010.

New Asia-Pacific Financing

In May 2010, five wholly-owned subsidiaries of the Company, located in Australia, Hong Kong, Japan and Singapore, completed a new multi-currency credit facility agreement for approximately $217,701,000 (the “New Asia-Pacific Financing”), comprising 79,153,000 Australian dollars, 370,433,000 Hong Kong dollars, 99,434,000 Singapore dollars and 1,513,400,000 Japanese yen. The New Asia-Pacific Financing replaced the Company’s existing Asia-Pacific Financing and Singapore Financing. The New Asia-Pacific Financing has a five-year term with semi-annual principal payments and quarterly debt service and consists of two tranches: (i) Tranche A totaling approximately $88,532,000 was available for immediate drawing upon satisfaction of certain conditions precedent and was used to refinance the existing Asia-Pacific

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Financing and Singapore Financing and (ii) Tranche B totaling approximately $129,169,000 is available for drawing in Australian, Hong Kong and Singapore dollars only for up to 24 months following the effective date of the New Asia-Pacific Financing. The New Asia Pacific Financing bears an interest rate of 3.50% above the local borrowing rates for the first 12 months and interest rates between 2.50%-3.50% above the local borrowing rates thereafter, depending on the leverage ratio within these five subsidiaries of the Company. The New Asia-Pacific Financing contains financial covenants with which the Company and its five subsidiaries must comply quarterly. The New Asia-Pacific Financing is guaranteed by the parent, Equinix, Inc., and is secured by certain of the Company’s five subsidiaries’ assets and share pledges. During the nine months ended September 30, 2010, the Company’s five subsidiaries used part of the proceeds from the partially-drawn down Tranche A and Tranche B under the New Asia-Pacific Financing for the prepayment and termination of the existing Asia-Pacific Financing and the Singapore Financing. As of September 30, 2010, the Company’s five subsidiaries had fully utilized Tranche A and utilized approximately $33,936,000 of Tranche B under the New Asia-Pacific Financing. The loans payable under the New Asia-Pacific Financing have a final maturity date of March 2015. As of September 30, 2010, the Company and its five subsidiaries were in compliance with all financial covenants in connection with the New Asia-Pacific Financing. As of September 30, 2010, $111,844,000 was outstanding under the New Asia-Pacific Financing at an approximate blended interest rate of 4.58% per annum.

Debt issuance costs associated with the New Asia-Pacific Financing, net of amortization, were $8,286,000 as of September 30, 2010. Debt issuance costs associated with the previously-existing Asia-Pacific Financing and the Singapore Financing were written-off and recorded as losses on debt extinguishment (refer to ““Loss on Debt Extinguishment and Interest Rate Swaps, Net” below).

Chicago IBX Financing

In March 2010, the Company prepaid and terminated the Chicago IBX Financing, of which principal of $109,991,000 was outstanding as of December 31, 2009. The Chicago IBX Financing was prepaid to the lender for an amount equal to 95.909% of the then outstanding principal balance outstanding, plus accrued and unpaid interest, resulting in a gain of $4,460,000. On the same date, the Company paid and terminated the interest rate swap associated with the Chicago IBX Financing totaling $3,160,000. For additional information, refer to “Loss on Debt Extinguishment and Interest Rate Swaps, Net” below.

European Financing

In April 2010, the Company prepaid and terminated the European Financing at par for a total payment of approximately $121,748,000 plus accrued and unpaid interest. On the same date, the Company terminated three interest rate swaps associated with the European Financing and paid a total of $4,272,000 to terminate these interest rate swaps. For additional information, refer to “Loss on Debt Extinguishment and Interest Rate Swaps, Net” below.

Netherlands Financing

In June 2010, the Company prepaid and terminated the Netherlands Financing at par for a total payment of approximately $7,965,000 plus accrued and unpaid interest.

Switch and Data Debt

In May 2010, the Company prepaid and terminated at par a term loan and revolving credit facility assumed in connection with the Switch and Data Acquisition for a total payment of $138,938,000 plus accrued and unpaid interest. On the same date, the Company terminated the associated interest rate swap acquired related to this credit facility for a total payment of $9,789,000. For additional information, refer to “Loss on Debt Extinguishment and Interest Rate Swaps, Net” below.

In May 2010, the Company prepaid and terminated an equipment capital lease assumed in connection with the Switch and Data Acquisition for a total payment of $9,191,000, resulting in a loss of $36,000. For additional information, refer to “Loss on Debt Extinguishment and Interest Rate Swaps, Net” below.

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

In April 2010, the Company assumed two other capital leases in connection with the Switch and Data Acquisition related to two properties in North Bergen, New Jersey (the “New Jersey Capital Lease”) and Sunnyvale, California (the “Sunnyvale Capital Lease”). The Company assumed a capital lease obligation for the New Jersey Capital Lease totaling $24,660,000 with monthly payments due through July 2023 at an effective interest rate of 8.6% per annum. The Company assumed a capital lease obligation for the Sunnyvale Capital Lease totaling $15,585,000 with monthly payments due through July 2022 at an effective interest rate of 8.6% per annum.

Bank of America Revolving Credit Line

In February 2010, the Company amended the Bank of America Revolving Credit Line and extended the maturity date to February 11, 2011. In addition, the Bank of America Revolving Credit Line was amended to permit the Company to fund the cash payment portion of the pending acquisition of Switch and Data and to repay or retire its outstanding loan obligations upon the closing of the Switch and Data Acquisition. The Bank of America Revolving Credit Line will be used primarily to fund the Company’s working capital and to enable the Company to issue letters of credit. The effect of issuing letters of credit under the Bank of America Revolving Credit Line reduces the amount available for borrowing under the Bank of America Revolving Credit Line. The Company may borrow, repay and reborrow under the Bank of America Revolving Credit Line at either the prime rate or at a borrowing margin of 2.75% over one, three or six month LIBOR, subject to a minimum borrowing cost of 3.00%. The Bank of America Revolving Credit Line contains three financial covenants, which the Company must comply with quarterly, consisting of a tangible net worth ratio, a debt service ratio and a senior leverage ratio and is collateralized by the Company’s domestic accounts receivable balances. As of September 30, 2010, the Company was in compliance with all financial covenants in connection with the Bank of America Revolving Credit Line. The Bank of America Revolving Credit Line is available for renewal subject to mutual agreement by both parties. As of September 30, 2010, the Company had issued 14 irrevocable letters of credit totaling $18,333,000 under the Bank of America Revolving Credit Line. As a result, the amount available to borrow was $6,667,000 as of September 30, 2010.

Loss on Debt Extinguishment and Interest Rate Swaps, Net

Loss on debt extinguishment and interest rate swaps, net for the nine months ended September 30, 2010 consisted of the following (in thousands):

 

Principal discount on the Chicago IBX financing

   $ 4,460   

Principal premium on the Switch and Data equipment capital lease

     (36

Write-off of unamortized debt issuance costs:

  

Chicago IBX financing

     (474

Asia-Pacific financing

     (720

Singapore financing

     (502
        

Subtotal – gain on debt extinguishment

     2,728   
        

Termination of interest rate swaps:

  

Chicago IBX financing interest rate swap

     (3,160

European financing interest rate swaps

     (4,272

Switch and Data interest rate swap

     (83

Interest rate swap termination fees

     (44
        

Subtotal – loss on interest rate swaps

     (7,559
        

Loss on debt extinguishment and interest rate swaps, net

   $ (4,831
        

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

Maturities

Combined aggregate maturities for the Company’s various debt facilities and other financing obligations as of September 30, 2010 were as follows (in thousands):

 

     Convertible
debt (1)
    Senior
notes (1)
     Mortgage
and loans
payable  (1)
    Capital lease
and other
financing
obligations (2)
    Total  

2010 (three months remaining)

   $ —        $ —         $ 733      $ 6,781      $ 7,514   

2011

     —          —           22,541        29,195        51,736   

2012

     250,000        —           26,851        29,752        306,603   

2013

     —          —           32,749        30,359        63,108   

2014

     395,986        —           30,078        31,107        457,171   

2015 and thereafter

     373,750        750,000         88,555        287,833        1,500,138   
                                         
     1,019,736        750,000         201,507        415,027        2,386,270   

Less amount representing interest

     —          —           —          (227,770     (227,770

Less amount representing debt discount

     (109,241     —           —          —          (109,241

Less estimated building costs

     —          —           —          (4,906     (4,906

Plus amount representing residual property value

     —          —           —          87,202        87,202   
                                         
     910,495        750,000         201,507        269,553        2,131,555   

Less current portion of principal

     —          —           (22,480     (7,624     (30,104
                                         
   $ 910,495      $ 750,000       $ 179,027      $ 261,929      $ 2,101,451   
                                         

 

(1) Represents principal only.
(2) Represents principal and interest in accordance with minimum lease payments.

9. Commitments and Contingencies

Legal Matters

IPO Litigation

On July 30, 2001 and August 8, 2001, putative shareholder class action lawsuits were filed against the Company, certain of its officers and directors (the “Individual Defendants”), and several investment banks that were underwriters of our initial public offering (the “Underwriter Defendants”). The cases were filed in the United States District Court for the Southern District of New York. Similar lawsuits were filed against approximately 300 other issuers and related parties. These lawsuits have been coordinated before a single judge. The purported class action alleges violations of Sections 11 and 15 of the Securities Act of 1933 and Sections 10(b), Rule 10b-5 and 20(a) of the Securities Exchange Act of 1934 against the Company and the Individual Defendants. The plaintiffs have since dismissed the Individual Defendants without prejudice. The suits allege that the Underwriter Defendants agreed to allocate stock in our initial public offering to certain investors in exchange for excessive and undisclosed commissions and agreements by those investors to make additional purchases in the aftermarket at pre-determined prices. The plaintiffs allege that the prospectus for the Company’s initial public offering was false and misleading and in violation of the securities laws because it did not disclose these arrangements. The action seeks damages in an unspecified amount. On February 19, 2003, the court dismissed the Section 10(b) claim against the Company, but denied the motion to dismiss the Section 11 claim.

The parties in the approximately 300 coordinated cases, including the parties in the Equinix case, reached a settlement. It provides for releases of existing claims and claims that could have been asserted relating to the conduct alleged to be wrongful from the class of investors participating in the settlement. The insurers for the issuer defendants in the coordinated cases will make the settlement payment on behalf of

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

the issuers, including Equinix. On October 6, 2009, the Court granted final approval to the settlement. Six notices of appeal and one petition seeking permission to appeal were filed. Two objectors to the settlement have filed briefs in support of their appeals. The remaining objectors have withdrawn their appeals with prejudice.

Due to the inherent uncertainties of litigation, the Company cannot accurately predict the ultimate outcome of the matter. The Company is unable at this time to determine whether the outcome of the litigation would have a material impact on its results of operations, financial condition or cash flows.

Pihana Litigation

On August 22, 2008, a complaint was filed against Equinix, certain former officers and directors of Pihana Pacific, Inc. (“Pihana”), certain investors in Pihana, and others. The lawsuit was filed in the First Circuit Court of the State of Hawaii, and arises out of December 2002 agreements pursuant to which Equinix merged Pihana and i-STT (a subsidiary of Singapore Technologies Telemedia Pte Ltd) into the internet exchange services business of Equinix. Plaintiffs, who were allegedly holders of Pihana common stock, allege that their rights as shareholders were violated, and the transaction was effectuated improperly, by Pihana’s majority shareholders, officers and directors, with the alleged assistance of Equinix and others. Among other things, plaintiffs contend that they effectively had a right to block the transaction, that this supposed right was disregarded, and that they improperly received no consideration when the deal was completed. The complaint seeks to recover unspecified punitive damages, equitable relief, fees and costs, and compensatory damages in an amount that plaintiffs allegedly “believe may be all or a substantial portion of the approximately $725,000,000 value of Equinix held by Defendants” (a group that includes more than 30 individuals and entities). An amended complaint, which adds new plaintiffs (other alleged holders of Pihana common stock) but is otherwise substantially similar to the original pleading, was filed on September 29, 2008 (the “Amended Complaint”). On October 13, 2008, a complaint was filed in a separate action by another purported holder of Pihana common stock, naming the same defendants and asserting substantially similar allegations as the August 22, 2008 and September 29, 2008 pleadings. On December 12, 2008, the court entered a stipulated order, which consolidated the two actions under one case number and set January 22, 2009 as the last day for Defendants to move to dismiss or otherwise respond to the Amended Complaint, the operative complaint in this case. On January 22, 2009, motions to dismiss the Amended Complaint were filed by Equinix and other Defendants. On April 24, 2009, plaintiffs filed a Second Amended Complaint (“SAC”) to correct the naming of certain parties. The SAC is otherwise substantively identical to the Amended Complaint, and all motions to dismiss the Amended Complaint have been treated as responsive to the SAC. On September 1, 2009, the Court heard Defendants’ motions to dismiss the SAC and ruled at the hearing that all claims against all Defendants are time-barred. The Court also considered whether there were further independent grounds for dismissing the claims, and supplemental briefing was submitted with respect to claims against one defendant and plaintiffs’ renewed request for further leave to amend. On March 23, 2010, the Court entered final Orders granting the motions to dismiss as to all Defendants and issued a minute Order denying plaintiffs’ renewed request for further leave to amend. On May 21, 2010, plaintiffs filed a Notice of Appeal, and plaintiffs’ appeal is currently pending before the Hawaii Supreme Court. The Company believes that plaintiffs’ claims and alleged damages are without merit and it intends to continue to defend the litigation vigorously.

Due to the inherent uncertainties of litigation, the Company cannot accurately predict the ultimate outcome of the matter. The Company is unable at this time to determine whether the outcome of the litigation would have a material impact on its results of operations, financial condition or cash flows.

Switch and Data Litigation

In the fourth quarter of 2009, three purported stockholder class action lawsuits were filed against the Company in connection with its proposed merger with Switch and Data. The first, filed October 27, 2009 in the Delaware Chancery Court, names Equinix, Sundance Acquisition Corporation, Switch and Data, and the members of Switch and Data’s board of directors as defendants. The lawsuit alleges that the Switch and Data directors breached their fiduciary duties to Switch and Data’s stockholders in connection with the proposed merger, and that Equinix aided and abetted these alleged breaches. The second complaint, filed October 30, 2009 in Florida state court, raises similar claims against the same defendants. The third

 

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

complaint, filed on December 7, 2009 in the United States District Court for the Middle District of Florida, likewise raises similar claims but did not name Sundance Acquisition Corporation as a defendant. Both the second and third complaints included claims alleging that Switch and Data had failed to disclose material information concerning the merger to stockholders.

On January 19, 2010, counsel for parties in all three lawsuits entered into a memorandum of understanding in which they agreed upon the terms of a settlement of all three lawsuits. Notice of the settlement was published and distributed to all record shareholders included in the Settlement Class. No objections to the settlement were filed. On August 9, 2010, the Florida state court granted final approval to the proposed settlement. Under the terms of the agreement, plaintiffs’ counsel received attorneys’ fees and costs in an aggregate amount of $900,000. Approximately 70 percent of these fees were paid by Switch and Data’s insurance carrier; Equinix paid the remainder. Following the Florida State Court’s final approval of the settlement, orders were entered in all three cases dismissing the actions with prejudice.

529 Bryant Litigation

On September 10, 2010, a lawsuit was filed in the Superior Court of California in Santa Clara County by 529 Bryant Street Partners LLC against the Company’s wholly-owned subsidiaries Switch & Data CA Nine LLC (“Tenant”) and Switch & Data Facilities Company, Inc. (“Guarantor”). The lawsuit alleges that Tenant breached certain non-monetary obligations under its lease (the “Lease”) of the Company’s data center located at 529 Bryant Street in Palo Alto, California (the “Premises”) and seeks monetary damages, specific performance of those non-monetary obligations and ejectment of Tenant from the Premises. The lawsuit also alleges that Guarantor has breached its obligations under its guaranty of the Lease. The Company is currently in discussions with plaintiff to reach a mutually agreeable settlement, but intends to defend the lawsuit vigorously.

Due to the inherent uncertainties of litigation, the Company cannot accurately predict the ultimate outcome of the matter. The Company is unable at this time to determine whether the outcome of the litigation would have a material impact on its results of operations, financial condition or cash flows.

Litigation Summary

The Company believes that while an unfavorable outcome to these litigations is reasonably possible, a range of potential loss cannot be determined at this time with the exception of the Switch and Data and 529 Bryant litigation. As a result, the Company had not accrued for any amounts in connection with these legal matters as of September 30, 2010 with the exception of the 529 Bryant litigation. The Company and its officers and directors intend to continue to defend the actions vigorously.

Other Purchase Commitments

Primarily as a result of the Company’s various IBX expansion projects, as of September 30, 2010, the Company was contractually committed for $61,180,000 of unaccrued capital expenditures, primarily for IBX equipment not yet delivered and labor not yet provided, in connection with the work necessary to open these IBX centers and make them available to customers for installation. In addition, the Company had numerous other, non-capital purchase commitments in place as of September 30, 2010, such as commitments to purchase power in select locations through the remainder of 2010 and thereafter, and other open purchase orders for goods or services to be delivered or provided during the remainder of 2010 and thereafter. Such other miscellaneous purchase commitments totaled $128,989,000 as of September 30, 2010.

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

10. Other Comprehensive Income and Loss

The components of other comprehensive income (loss) are as follows (in thousands):

 

     Three months ended
September 30,
    Nine months ended
September 30,
 
     2010     2009     2010     2009  

Net income

   $ 11,196      $ 18,812      $ 23,121      $ 51,709   

Unrealized gain (loss) on available for sale securities, net of tax of $1, $56, $123 and $462, respectively

     (3     78        (185     635   

Unrealized gain on interest rate swaps, net of tax of $0, $161, $3,469 and $532, respectively

     —          221        4,933        660   

Foreign currency translation gain (loss)

     61,292        (5,665     (10,831     52,618   
                                

Comprehensive income

   $ 72,485      $ 13,446      $ 17,038      $ 105,622   
                                

Changes in foreign currencies, particularly the British pound and Euro, can have a significant impact to the Company’s consolidated balance sheets (as evidenced above in the Company’s foreign currency translation gain or loss), as well as its consolidated results of operations, as amounts in foreign currencies are generally translating into more U.S. dollars when the U.S. dollar weakens or less U.S. dollars when the U.S. dollar strengthens. During the three months ended September 30, 2010, the U.S. dollar weakened against certain of the currencies of the foreign countries in which the Company operates. This has significantly impacted the Company’s condensed consolidated balance sheets (as evidenced in the Company’s foreign currency translation gain in this period), as well as its condensed consolidated statements of operations as amounts denominated in foreign currencies are generally translating into more U.S. dollars. To the extent that the U.S. dollar weakens or strengthens in future periods, this will continue to impact the Company’s consolidated financial statements including the amount of revenue that the Company reports in future periods.

11. Segment Information

During the three months ended June 30, 2010, the Company changed its reportable segments as a result of the addition of Switch and Data’s Canadian operations in connection with the Switch and Data Acquisition. The Company’s prior U.S. segment was re-designated as the North America segment. The change in reportable segments did not impact the Company’s prior periods’ segment disclosures. While the Company has a single line of business, which is the design, build-out and operation of IBX data centers, it has determined that it has three reportable segments comprised of its North America, Europe and Asia-Pacific geographic regions. The Company’s chief operating decision-maker evaluates performance, makes operating decisions and allocates resources based on the Company’s revenue and adjusted EBITDA performance both on a consolidated basis and based on these three geographic regions.

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

The Company provides the following segment disclosures as follows (in thousands):

 

     Three months ended
September 30,
    Nine months ended
September 30,
 
     2010      2009     2010     2009  

Total revenues:

         

North America

   $ 215,325       $ 136,334      $ 555,527 (1)    $ 390,974   

Europe

     72,794         60,806        203,042        163,662   

Asia-Pacific

     42,228         30,418        116,521        85,321   
                                 
   $ 330,347       $ 227,558      $ 875,090      $ 639,957   
                                 

Total depreciation and amortization:

         

North America

   $ 50,414       $ 25,473      $ 120,822 (1)    $ 78,317   

Europe

     15,232         13,471        43,186        34,239   

Asia-Pacific

     7,652         5,547        20,729        18,502   
                                 
   $ 73,298       $ 44,491      $ 184,737      $ 131,058   
                                 

Income from operations:

         

North America

   $ 31,921       $ 31,571      $ 84,051 (1)    $ 94,260   

Europe

     10,258         7,095        26,251        20,408   

Asia-Pacific

     9,847         6,892        29,933        15,625   
                                 
   $ 52,026       $ 45,558      $ 140,235      $ 130,293   
                                 

Capital expenditures:

         

North America

   $ 75,508       $ 32,865      $ 372,555 (1)(2)    $ 103,216   

Europe

     33,447         68,109 (3)      111,672        114,623 (3) 

Asia-Pacific

     34,986         15,857        65,108        50,777   
                                 
   $ 143,941       $ 116,831      $ 549,335      $ 268,616   
                                 

 

  (1) Includes the operations of Switch and Data from May 1, 2010 through September 30, 2010.
  (2) Includes the purchase price for the Switch and Data Acquisition, net of cash acquired, which totaled $113,289,000.
  (3) Includes the purchase price for the Upminster Acquisition, net of cash acquired, which totaled $28,176,000.

The Company’s long-lived assets are located in the following geographic areas as of (in thousands):

 

     September 30,
2010
     December 31,
2009
 

North America

   $ 1,756,070       $ 1,130,637   

Europe

     579,672         493,492   

Asia-Pacific

     247,148         183,986   
                 
   $ 2,582,890       $ 1,808,115   
                 

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

Revenue information on a services basis is as follows (in thousands):

 

     Three months ended
September 30,
     Nine months ended
September 30,
 
     2010      2009      2010      2009  

Colocation

   $ 257,295       $ 181,967       $ 690,974       $ 509,492   

Interconnection

     48,837         27,235         119,011         78,566   

Managed infrastructure

     7,805         7,020         22,400         21,528   

Rental

     790         295         1,695         798   
                                   

Recurring revenues

     314,727         216,517         834,080         610,384   

Non-recurring revenues

     15,620         11,041         41,010         29,573   
                                   
   $ 330,347       $ 227,558       $ 875,090       $ 639,957   
                                   

No single customer accounted for 10% or greater of the Company’s revenues for the three and nine months ended September 30, 2010 and 2009. No single customer accounted for 10% or greater of the Company’s gross accounts receivable as of September 30, 2010 and December 31, 2009.

12. Restructuring Charges

Switch and Data Restructuring Charge

During the nine months ended September 30, 2010, the Company recorded a restructuring charge related to one-time termination benefits, primarily comprised of severance, attributed to certain Switch and Data employees as presented below (in thousands):

 

Severance-related expenses (1)(2)

   $ 4,905   

Cash payments

     (1,721

Non-cash payments (2)

     (1,488
        

Accrued restructuring charge as of September 30, 2010 (3)

   $ 1,696   
        

 

  (1) Included in the condensed consolidated statements of operations as a restructuring charge.
  (2) Includes a stock-based compensation charge incurred as a result of modifying equity awards for one of the former Switch and Data executives to accelerate vesting.
  (3) Included within other current liabilities.

As of September 30, 2010, the Company’s remaining accrued restructuring charge associated with the Switch and Data Acquisition is expected to be paid out during the remainder of 2010. The Company anticipates that it will incur additional restructuring charges in connection with the Switch and Data Acquisition related to one-time termination benefits during the remainder of 2010 and the first four months of 2011.

2004 Restructuring Charge

During the nine months ended September 30, 2009, the Company recorded an additional restructuring charge of $1,338,000 as a result of revised sublease assumptions on its excess space lease in the New York metro area.

 

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EQUINIX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

A summary of the activity in the 2004 accrued restructuring charge from December 31, 2009 to September 30, 2010 is outlined as follows (in thousands):

 

     Accrued
restructuring
charge as of
December 31,
2009
    Restructuring
charge
     Accretion
expense
     Cash
payments
    Accrued
restructuring
charge as of
September 30,
2010
 

Estimated lease exit costs

   $ 5,919      $ 1,338       $ 200       $ (1,186   $ 6,271   
                                          
     5,919      $ 1,338       $ 200       $ (1,186     6,271   
                              

Less current portion

     (2,043             (2,317
                        
   $ 3,876              $ 3,954   
                        

As the Company currently has no plans to enter into a lease termination with the landlord associated with the excess space lease in the New York metro area, the Company has reflected its accrued restructuring liability as both a current and non-current liability. The Company reports accrued restructuring charges within other current liabilities and other liabilities on the accompanying consolidated balance sheets as of September 30, 2010 and December 31, 2009. The Company is contractually committed to this excess space lease through 2015.

 

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Item 2.

MANAGEMENT’S DISCUSSION AND ANALYSIS

OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The information in this discussion contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Such statements are based upon current expectations that involve risks and uncertainties. Any statements contained herein that are not statements of historical fact may be deemed to be forward-looking statements. For example, the words “believes,” “anticipates,” “plans,” “expects,” “intends” and similar expressions are intended to identify forward-looking statements. Our actual results and the timing of certain events may differ significantly from the results discussed in the forward-looking statements. Factors that might cause such a discrepancy include, but are not limited to, those discussed in “Liquidity and Capital Resources” below and “Risk Factors” in Item 1A of Part II of this Quarterly Report on Form 10-Q. All forward-looking statements in this document are based on information available to us as of the date of this Report and we assume no obligation to update any such forward-looking statements.

Our management’s discussion and analysis of financial condition and results of operations is intended to assist readers in understanding our financial information from our management’s perspective and is presented as follows:

 

   

Overview

 

   

Results of Operations

 

   

Non-GAAP Financial Measures

 

   

Liquidity and Capital Resources

 

   

Contractual Obligations and Off-Balance-Sheet Arrangements

 

   

Critical Accounting Policies and Estimates

 

   

Recent Accounting Pronouncements

In February 2010, we issued $750.0 million aggregate principal amount of 8.125% senior notes due March 1, 2018 which we refer to as the senior notes offering.

On April 30, 2010, as more fully described in Note 2 of Notes to Condensed Consolidated Financial Statements in Item 1 of this Quarterly Report on Form 10-Q, we completed the acquisition of Switch & Data Facilities Company, Inc., referred to as Switch and Data, a publicly-held company headquartered in Tampa, Florida. We refer to this transaction as the Switch and Data acquisition. Switch and Data operated 34 data centers in the U.S. and Canada. The combined company operates under the Equinix name.

In May 2010, our indirect, wholly-owned subsidiary entered into a lease for a building for our new headquarters, which is located at One Lagoon Drive, Redwood City, California. We plan to move to our new headquarters in November 2010.

Overview

Equinix provides global data center services that protect and connect the world’s most valued information assets. Global enterprises, financial services companies, and content and network service providers rely upon Equinix’s leading insight and our 90 data centers in 35 markets around the world for the safeguarding of their critical IT equipment and the ability to directly connect to the networks that enable today’s information-driven economy. Equinix offers the following data center services: premium data center colocation, interconnection and exchange services, and outsourced IT infrastructure services. As of September 30, 2010, we operated or had partner IBX data centers in the Atlanta, Boston, Buffalo, Chicago, Cleveland, Dallas, Denver, Detroit, Indianapolis, Los Angeles, Miami, Nashville, New York, Philadelphia, Phoenix, Pittsburgh, Seattle, Silicon Valley, St. Louis, Tampa, Toronto and Washington, D.C. metro areas in North America; France, Germany, the Netherlands, Switzerland and the United Kingdom in Europe; and Australia, Hong Kong, Japan, Shanghai and Singapore in Asia-Pacific.

 

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We leverage our global data centers in 35 markets around the world as a global service delivery platform which serves more than 90% of the world’s Internet routes and allows our customers to increase information and application delivery performance while significantly reducing costs. Based on our global delivery platform and the quality of our IBX data centers, we believe we have established a critical mass of customers. As more customers locate in our IBX data centers, it benefits their suppliers and business partners to colocate as well in order to gain the full economic and performance benefits of our services. These partners, in turn, pull in their business partners, creating a “marketplace” for their services. Our global delivery platform enables scalable, reliable and cost-effective colocation, interconnection and traffic exchange thus lowering overall cost and increasing flexibility. Our focused business model is based on our critical mass of customers and the resulting “marketplace” effect. This global delivery platform, combined with our strong financial position, continues to drive new customer growth and bookings as we drive scale into our global business.

Historically, our market has been served by large telecommunications carriers who have bundled their telecommunications products and services with their colocation offerings. The data center services market landscape has evolved to include cloud computing/utility providers, application hosting providers and systems integrators, managed infrastructure hosting providers and colocation providers with over 350 companies providing data center services in the United States alone. Each of these data center services providers can bundle various colocation, interconnection and network services, and outsourced IT infrastructure services. We are able to offer our customers a global platform that supports global reach to 11 countries, proven operational reliability, improved application performance and network choice, and a highly scalable set of services.

Our customer count increased to 4,151 as of September 30, 2010 versus 2,966 as of September 30, 2009, an increase of 40%. This significant increase was primarily due to the Switch and Data acquisition in April 2010. Our utilization rate represents the percentage of our cabinet space billing versus net sellable cabinet space available taking into account power limitations. Excluding the impact of the Switch and Data acquisition, our utilization rate decreased to 74% as of September 30, 2010 versus approximately 81% as of September 30, 2009; however, excluding the impact of our IBX data center expansion projects that have opened during the last 12 months, our utilization rate would have increased to approximately 84% as of September 30, 2010. Including the impact of the Switch and Data acquisition, our utilization rate was 73% as of September 30, 2010. Our utilization rate varies from market to market among our IBX data centers across our North America, Europe and Asia-Pacific regions. We continue to monitor the available capacity in each of our selected markets. To the extent we have limited capacity available in a given market it may limit our ability for growth in that market. We perform demand studies on an ongoing basis to determine if future expansion is warranted in a market. In addition, power and cooling requirements for most customers are growing on a per unit basis. As a result, customers are consuming an increasing amount of power per cabinet. Although we generally do not control the amount of power our customers draw from installed circuits, we have negotiated power consumption limitations with certain of our high power demand customers. This increased power consumption has driven the requirement to build out our new IBX data centers to support power and cooling needs twice that of previous IBX data centers. We could face power limitations in our centers even though we may have additional physical cabinet capacity available within a specific IBX data center. This could have a negative impact on the available utilization capacity of a given center, which could have a negative impact on our ability to grow revenues, affecting our financial performance, operating results and cash flows.

Strategically, we will continue to look at attractive opportunities to grow our market share and selectively improve our footprint and service offerings. As was the case with our recent expansions and acquisitions, our expansion criteria will be dependent on a number of factors such as demand from new and existing customers, quality of the design, power capacity, access to networks, capacity availability in the current market location, amount of incremental investment required by us in the targeted property, lead-time to break-even and in-place customers. Like our recent expansions and acquisitions, the right combination of these factors may be attractive to us. Depending on the circumstances, these transactions may require additional capital expenditures funded by upfront cash payments or through long-term financing arrangements, in order to bring these properties up to Equinix standards. Property expansion may be in the form of purchases of real property, long-term leasing arrangements or acquisitions. Future purchases, construction or acquisitions may be completed by us or with partners or potential customers to minimize the outlay of cash, which can be significant.

 

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Our business is based on a recurring revenue model comprised of colocation, interconnection and managed infrastructure services. We consider these services recurring as our customers are generally billed on a fixed and recurring basis each month for the duration of their contract, which is generally one to three years in length. Our recurring revenues have comprised more than 90% of our total revenues during the past three years and during the past three years, in any given quarter, greater than half of our monthly recurring revenue bookings came from existing customers, contributing to our revenue growth.

Our non-recurring revenues are primarily comprised of installation services related to a customer’s initial deployment and professional services that we perform. These services are considered to be non-recurring as they are billed typically once and upon completion of the installation or professional services work performed. The majority of these non-recurring revenues are typically billed on the first invoice distributed to the customer in connection with their initial installation. However, revenues from installation services are deferred and recognized ratably over the longer of the term of the related contract or expected life of the services. As a percentage of total revenues, we expect non-recurring revenues to represent less than 10% of total revenues for the foreseeable future.

Our North America revenues are derived primarily from colocation and interconnection services while our Europe and Asia-Pacific revenues are derived primarily from colocation and managed infrastructure services.

The largest components of our cost of revenues are depreciation, rental payments related to our leased IBX data centers, utility costs, including electricity and bandwidth, IBX data center employees’ salaries and benefits, including stock-based compensation, repairs and maintenance, supplies and equipment and security services. A substantial majority of our cost of revenues is fixed in nature and should not vary significantly from period to period, unless we expand our existing IBX data centers or open or acquire new IBX data centers. However, there are certain costs which are considered more variable in nature, including utilities and supplies, that are directly related to growth in our existing and new customer base. We expect the cost of our utilities, specifically electricity, will increase in the future on a per-unit or fixed basis in addition to the variable increase related to the growth in consumption by the customer. In addition, the cost of electricity is generally higher in the summer months as compared to other times of the year. To the extent we incur increased utility costs, such increased costs could materially impact our financial condition, results of operations and cash flows. Furthermore, to the extent we incur increased electricity costs as a result of either climate change policies or the physical effects of climate change, such increased costs could materially impact our financial condition, results of operations and cash flows.

Sales and marketing expenses consist primarily of compensation and related costs for sales and marketing personnel, including stock-based compensation, sales commissions, marketing programs, public relations, promotional materials and travel, as well as bad debt expense and amortization of customer contract intangible assets.

General and administrative expenses consist primarily of salaries and related expenses, including stock-based compensation, accounting, legal and other professional service fees, and other general corporate expenses such as our corporate regional headquarters office leases and some depreciation expense.

Due to our recurring revenue model, and a cost structure which has a large base that is fixed in nature and generally does not grow in proportion to revenue growth, we expect our cost of revenues, sales and marketing expenses and general and administrative expenses to decline as a percentage of revenue over time, although we expect each of them to grow in absolute dollars in connection with our growth. This is evident in the trends noted below in our discussion on our results of operations. However, for cost of revenues, this trend may periodically be impacted when a large expansion project opens or is

 

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acquired and before it starts generating any meaningful revenue. Furthermore, in relation to cost of revenues, we note that the North America region has a lower cost of revenues as a percentage of revenue than either Europe or Asia-Pacific. This is due to both the increased scale and maturity of the North America region compared to either Europe or Asia-Pacific, as well as a higher cost structure outside of North America, particularly in Europe. While we expect all three regions to continue to see lower cost of revenues as a percentage of revenues in future periods, we expect the trend of North America having the lowest cost of revenues as a percentage of revenue and Europe having the highest to continue. As a result, to the extent that revenue growth outside North America grows in greater proportion than revenue growth in North America, our overall cost of revenues as a percentage of revenues may increase slightly in future periods. Sales and marketing expenses and general and administrative expenses may also periodically increase as a percentage of revenue as we continue to scale our operations to support our growth.

Results of Operations

Our results of operations for the nine months ended September 30, 2010 include the operations of Switch and Data from May 1, 2010.

Three Months Ended September 30, 2010 and 2009

Revenues. Our revenues for the three months ended September 30, 2010 and 2009 were generated from the following revenue classifications and geographic regions (dollars in thousands):

 

     Three months ended September 30,     Change  
     2010        %     2009        %     $        %  

North America:

                     

Recurring revenues

   $ 208,096           63   $ 131,164           58   $ 76,932           59

Non-recurring revenues

     7,229           2     5,170           2     2,059           40
                                                   
     215,325           65     136,334           60     78,991           58
                                                   

Europe:

                     

Recurring revenues

     66,279           20     56,316           25     9,963           18

Non-recurring revenues

     6,515           2     4,490           2     2,025           45
                                                   
     72,794           22     60,806           27     11,988           20
                                                   

Asia-Pacific:

                     

Recurring revenues

     40,352           12     29,037           12     11,315           39

Non-recurring revenues

     1,876           1     1,381           1     495           36
                                                   
     42,228           13     30,418           13     11,810           39
                                                   

Total:

                     

Recurring revenues

     314,727           95     216,517           95     98,210           45

Non-recurring revenues

     15,620           5     11,041           5     4,579           41
                                                   
   $ 330,347           100   $ 227,558           100   $ 102,789           45
                                                   

North America Revenues. The increase in North America revenues was primarily due to the impact of the Switch and Data acquisition, which resulted in $57.5 million of additional revenue for the three months ended September 30, 2010. The following table presents our North America revenues excluding the impact of the Switch and Data acquisition (dollars in thousands):

 

     Three months ended
September 30,
     Change  
     2010      2009      $      %  

North America:

           

Recurring revenues

   $ 151,781       $ 131,164       $ 20,617         16

Non-recurring revenues

     6,070         5,170         900         17
                             
   $ 157,851         136,334       $ 21,517         16
                             

 

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Excluding the impact of the Switch and Data acquisition, the period over period growth in recurring revenues was primarily the result of an increase in orders from both our existing customers and new customers during the period as reflected in the growth in our customer count and utilization rate, as discussed above, in both our new and existing IBX data centers. Additionally, during the three months ended September 30, 2010, we recorded $10.2 million of revenue generated from our recently-opened IBX data centers or IBX data center expansions in the Chicago, Los Angeles, New York and Washington, D.C. metro areas.

We expect that our North America revenues, including those of the acquired Switch and Data operations, will continue to grow in future periods as a result of continued growth in the recently-opened IBX data centers or IBX data center expansions and additional expansions currently taking place in the Atlanta, Dallas and Silicon Valley metro areas, which are expected to open during the remainder of 2010 and first quarter of 2011. Our estimates of future revenue growth take account of expected reductions in recurring revenues attributed to customer churn or changes or amendments to customers’ contracts.

Europe Revenues. During the three months ended September 30, 2010, our revenues from Germany, the largest revenue contributor in the Europe region for the period, represented approximately 36% of the regional revenues. During the three months ended September 30, 2009, our revenues from the United Kingdom, the largest revenue contributor in the Europe region for the period, represented approximately 36% of the regional revenues. Our Europe revenue growth was due to an increase in orders from both our existing customers and new customers during the period as reflected in the growth in our customer count and utilization rate, as discussed above, in both our new and existing IBX data centers. During the three months ended September 30, 2010, we recorded approximately $6.3 million of revenue from our recently-opened IBX data centers or IBX data center expansions in the Amsterdam, Dusseldorf, Frankfurt, London, Munich, Paris and Zurich metro areas. We expect that our Europe revenues will continue to grow in future periods as a result of continued growth in recently-opened IBX data centers or IBX data center expansions and additional expansions currently taking place in the Amsterdam, Frankfurt and Paris metro areas, which are expected to open during the remainder of 2010. Our estimates of future revenue growth take account of expected reductions in recurring revenues attributed to customer churn or changes or amendments to customers’ contracts.

Asia-Pacific Revenues. Our revenues from Singapore, the largest revenue contributor in the Asia-Pacific region, represented approximately 38% and 37%, respectively, of the regional revenues for the three months ended September 30, 2010 and 2009. Our Asia-Pacific revenue growth was due to an increase in orders from both our existing customers and new customers during the period as reflected in the growth in our customer count and utilization rate, as discussed above, in both our new and existing IBX data centers. During the three months ended September 30, 2010, we recorded approximately $2.3 million of revenue generated from our IBX center expansions in the Hong Kong and Singapore metro areas. We expect that our Asia-Pacific revenues will continue to grow in future periods as a result of continued growth in these recently-opened IBX center expansions and additional expansions currently taking place in the Hong Kong, Singapore, Sydney and Tokyo metro areas which are expected to open during the remainder of 2010 and throughout 2011. Our estimates of future revenue growth take account of expected reductions in recurring revenues attributed to customer churn or changes or amendments to customers’ contracts.

Cost of Revenues. Our cost of revenues for the three months ended September 30, 2010 and 2009 were split among the following geographic regions (dollars in thousands):

 

     Three months ended September 30,     Change  
     2010      %     2009      %     $      %  

North America

   $ 118,572         64   $ 69,223         55   $ 49,349         71

Europe

     43,722         24     40,358         32     3,364         8

Asia-Pacific

     23,182         12     16,426         13     6,756         41
                                             

Total

   $ 185,476         100   $ 126,007         100   $ 59,469         47
                                             

 

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     Three months ended
September 30,
 
     2010     2009  

Cost of revenues as a percentage of revenues:

    

North America

     55     51

Europe

     60     66

Asia-Pacific

     55     54

Total

     56     55

North America Cost of Revenues. The increase in our North America cost of revenues was primarily due to the impact of the Switch and Data acquisition, which resulted in $42.2 million of additional cost of revenues for the three months ended September 30, 2010. Our North America cost of revenues for the three months ended September 30, 2010 and 2009 included $44.1 million and $24.4 million, respectively, of depreciation expense, including $16.0 million of depreciation expense from the impact of the Switch and Data acquisition for the three months ended September 30, 2010.

Excluding the impact of the Switch and Data acquisition, our North America cost of revenues during the three months ended September 30, 2010 was $76.4 million, which represents an increase of 10% from the three months ended September 30, 2009. This increase was primarily due to $3.7 million of higher depreciation expense as a result of our IBX center expansion activity. Excluding depreciation, the increase was primarily due to overall growth related to our revenue growth and costs associated with our expansion projects, such as $1.6 million of higher rent and facility costs and $1.0 million of utility costs arising from increased customer installations and revenues attributed to customer growth. We expect North America cost of revenues to increase as we continue to grow our business.

Europe Cost of Revenues. Europe cost of revenues for the three months ended September 30, 2010 and 2009 included $13.7 million and $11.8 million, respectively, of depreciation expense. Growth in depreciation expense was primarily due to our IBX center expansion activity. Excluding depreciation expense, the increase in Europe cost of revenues was primarily the result of costs associated with our expansion projects and overall growth in costs to support our revenue growth, including higher repair and maintenance costs and utility costs. We expect Europe cost of revenues to increase as we continue to grow our business.

Asia-Pacific Cost of Revenues. Asia-Pacific cost of revenues for the three months ended September 30, 2010 and 2009 included $7.4 million and $5.3 million, respectively, of depreciation expense. Growth in depreciation expense was primarily due to our IBX center expansion activity. Excluding depreciation expense, the increase in Asia-Pacific cost of revenues was primarily the result of costs associated with our expansion projects and overall growth in costs to support our revenue growth, such as an increase of $2.0 million in utility costs arising from increased customer installations and revenues attributed to customer growth, an increase of $1.0 million in rent and facility costs and higher repair and maintenance costs. We expect Asia-Pacific cost of revenues to increase as we continue to grow our business.

Sales and Marketing Expenses. Our sales and marketing expenses for the three months ended September 30, 2010 and 2009 were split among the following geographic regions (dollars in thousands):

 

     Three months ended September 30,     Change  
     2010      %     2009      %     $      %  

North America

   $ 21,251         68   $ 8,833         57   $ 12,418         141

Europe

     6,253         20     4,094         26     2,159         53

Asia-Pacific

     3,701         12     2,616         17     1,085         41
                                             

Total

   $ 31,205         100   $ 15,543         100   $ 15,662         101
                                             

 

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     Three months ended
September 30,
 
     2010     2009  

Sales and marketing expenses as a percentage of revenues:

    

North America

     10     6

Europe

     9     7

Asia-Pacific

     9     9

Total

     9     7

North America Sales and Marketing Expenses. The increase in our North America sales and marketing expenses was primarily due to the impact of the Switch and Data acquisition, which resulted in $6.6 million of additional sales and marketing expenses, including $2.0 million of amortization expense for customer contracts for the three months ended September 30, 2010.

Excluding the impact of the Switch and Data acquisition, our North America sales and marketing expenses during the three months ended September 30, 2010 were $14.7 million, which represents an increase of 66% from the three months ended September 30, 2009. This increase was primarily due to $4.0 million of higher compensation costs, including sales compensation, general salaries, bonuses, stock-based compensation expense and headcount growth (144 North America sales and marketing employees as of September 30, 2010 versus 108 as of September 30, 2009).

We have decided to invest further in our North America sales and marketing initiatives in 2010 and we anticipate this increased investment will continue over the next several years, including anticipated headcount growth and new product innovation efforts and, as a result, our North America sales and marketing expenses as a percentage of revenues have increased and are expected to continue to increase. In the long-term, we generally expect North America sales and marketing expenses to increase as we continue to grow our business and invest further in various branding initiatives; however, as a percentage of revenues, we generally expect them to decrease.

Europe Sales and Marketing Expenses. The increase in our Europe sales and marketing expenses was primarily due to $1.1 million of higher compensation costs, including sales compensation, general salaries, bonuses, stock-based compensation expense and headcount growth (75 Europe sales and marketing employees as of September 30, 2010 versus 55 as of September 30, 2009). We intend to invest further in our Europe sales and marketing initiatives over the next several years, including anticipated headcount growth and new product innovation efforts and, as a result, we expect our Europe sales and marketing expenses as a percentage of revenues to increase accordingly. In the long-term, we generally expect Europe sales and marketing expenses to increase as we continue to grow our business and invest further in various branding initiatives; however, as a percentage of revenues, we generally expect them to decrease.

Asia-Pacific Sales and Marketing Expenses. The increase in our Asia-Pacific sales and marketing expenses was primarily due to higher compensation costs, including sales compensation, general salaries, bonuses, stock-based compensation expense and headcount growth (56 Asia-Pacific sales and marketing employees as of September 30, 2010 versus 42 as of September 30, 2009). We intend to invest further in our Asia-Pacific sales and marketing initiatives over the next several years, including anticipated headcount growth and new product innovation efforts and, as a result, we expect our Asia-Pacific sales and marketing expenses as a percentage of revenues to increase accordingly. In the long-term, we generally expect Asia-Pacific sales and marketing expenses to increase as we continue to grow our business and invest further in various branding initiatives; however, as a percentage of revenues, we generally expect them to decrease.

 

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General and Administrative Expenses. Our general and administrative expenses for the three months ended September 30, 2010 and 2009 were split among the following geographic regions (dollars in thousands):

 

     Three months ended September 30,     Change  
     2010      %     2009      %     $      %  

North America

   $ 41,346         71   $ 26,387         68   $ 14,959         57

Europe

     11,796         20     8,200         21     3,596         44

Asia-Pacific

     5,498         9     4,484         11     1,014         23
                                             

Total

   $ 58,640         100   $ 39,071         100   $ 19,569         50
                                             

 

     Three months ended
September 30,
 
     2010     2009  

General and administrative expenses as a percentage of revenues:

    

North America

     19     19

Europe

     16     13

Asia-Pacific

     13     15

Total

     18     17

North America General and Administrative Expenses. The increase in our North America general and administrative expenses was primarily due to the impact of the Switch and Data acquisition, which resulted in $6.8 million of additional general and administrative expenses for the three months ended September 30, 2010.

Excluding the impact of the Switch and Data acquisition, our North America general and administrative expenses during the three months ended September 30, 2010 were $34.6 million, which represents an increase of 31% from the three months ended September 30, 2009. The increase in our North America general and administrative expenses was primarily due to $5.0 million of higher compensation costs, including general salaries, bonuses, stock-based compensation and headcount growth (367 North America general and administrative employees as of September 30, 2010 versus 295 as of September 30, 2009) and $1.4 million of higher depreciation expense as a result of our ongoing efforts to support our growth, such as investment in systems.

Going forward, although we are carefully monitoring our spending given the current economic environment, we expect North America general and administrative expenses to increase as we continue to scale our operations to support our growth; however, as a percentage of revenues, we generally expect them to decrease.

Europe General and Administrative Expenses. The increase in our Europe general and administrative expenses was primarily due to $1.9 million of higher compensation costs, including general salaries, bonuses, stock-based compensation and headcount growth (154 Europe general and administrative employees as of September 30, 2010 versus 105 as of September 30, 2009). During 2010, we have been investing in our Europe general and administrative functions, which has included taking on additional office space to accommodate the headcount growth, as a result of our ongoing efforts to scale this region effectively for growth. Going forward, although we are carefully monitoring our spending given the current economic environment, we expect our Europe general and administrative expenses to increase in future periods as we continue to scale our operations to support our growth; however, as a percentage of revenues, we generally expect them to decrease.

Asia-Pacific General and Administrative Expenses. The increase in our Asia-Pacific general and administrative expenses was primarily due to higher compensation costs, including general salaries, bonuses, stock-based compensation and headcount growth (120 Asia-Pacific general and administrative employees as of September 30, 2010 versus 105 as of September 30, 2009). Going forward, although we

 

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are carefully monitoring our spending given the current economic environment, we expect Asia-Pacific general and administrative expenses to increase as we continue to scale our operations to support our growth; however, as a percentage of revenues, we generally expect them to decrease.

Restructuring Charges. During the three months ended September 30, 2010, we recorded restructuring charges totaling $1.9 million comprising $532,000 related to one-time termination benefits attributed to certain Switch and Data employees and $1.4 million related to revised sublease assumptions on our excess space lease in the New York metro area. For additional information, see “Restructuring Charges” in Note 12 of Notes to Condensed Consolidated Financial Statements in Item 1 of this Quarterly Report on Form 10-Q. We anticipate that we will incur additional restructuring charges in connection with the Switch and Data acquisition related to one-time termination benefits during the remainder of 2010 and the first four months of 2011. During the three months ended September 30, 2009, no restructuring charge was recorded. Our restructuring charges all relate to our North America geographic region.

Acquisition Costs. During the three months ended September 30, 2010, we recorded acquisition costs totaling $1.1 million primarily attributed to our Europe region. During the three months ended September 30, 2009, we recorded acquisition costs totaling $1.4 million, primarily related to the Upminster acquisition. We do not expect to incur significant additional acquisition costs related to the Switch and Data acquisition.

Interest Income. Interest income decreased to $310,000 for the three months ended September 30, 2010 from $353,000 for the three months ended September 30, 2009. Interest income decreased primarily due to lower yields on invested balances. The average yield for the three months ended September 30, 2010 was 0.17% versus 0.36% for the three months ended September 30, 2009. We expect our interest income to remain at these low levels for the foreseeable future due to the impact of a lower interest rate environment, a portfolio more weighted towards short-term U.S. treasuries and from the utilization of cash to finance our expansion activities.

Interest Expense. Interest expense increased to $38.4 million for the three months ended September 30, 2010 from $22.3 million for the three months ended September 30, 2009. This increase in interest expense was primarily due to additional financings entered into during 2009 and 2010 consisting of our $750.0 million 8.125% senior notes offering in February 2010 and our new Asia-Pacific financing in May 2010, of which $111.8 million was outstanding as of September 30, 2010 with an approximate blended interest rate of 4.58% per annum, which replaced both our previously-existing Asia-Pacific and Singapore financings. This increase was partially offset by our repayment of the Chicago IBX financing in March 2010, the European financing in April 2010 and the Netherlands financing in June 2010. During the three months ended September 30, 2010 and 2009, we capitalized $2.0 million and $2.6 million, respectively, of interest expense to construction in progress. Going forward, we expect to incur higher interest expense as we recognize the full impact of our $750.0 million 8.125% senior notes and our new Asia-Pacific financing, although this has been partially offset by repayment of debt, such as the European financing and capitalized interest, which we expect to increase during the remainder of 2010 as we intend to embark on more expansion projects. We may also incur additional indebtedness to support our growth, resulting in further interest expense.

Other-Than-Temporary Impairment Recovery (Loss) On Investments. During the three months ended September 30, 2010, we recorded a $206,000 other-than-temporary impairment recovery on investments due to an additional distribution from one of our money market accounts as more fully described in Note 4 of Notes to Condensed Consolidated Financial Statements in Item 1 of this Quarterly Report on Form 10-Q. During the three months ended September 30, 2009, we did not record any other-than-temporary impairment recoveries or losses.

Other Income (Expense). For the three months ended September 30, 2010 and 2009, we recorded $1.7 million and $2.5 million of other income, respectively, primarily due to foreign currency exchange gains during the periods.

 

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Income Taxes. For the three months ended September 30, 2010 and 2009, we recorded $4.6 million and $7.3 million of income tax expenses, respectively. Our effective tax rates were 29.3% and 28.0% for the three months ended September 30, 2010 and 2009, respectively. We expect cash income taxes during the remainder of 2010 to increase. The cash taxes for 2010 are primarily for the California state income tax and foreign income taxes, while cash taxes for 2009 were primarily for the U.S. Alternative Minimum Tax, the California state income tax and foreign income taxes.

Nine Months Ended September 30, 2010 and 2009

Revenues. Our revenues for the nine months ended September 30, 2010 and 2009 were generated from the following revenue classifications and geographic regions (dollars in thousands):

 

     Nine months ended September 30,     Change  
     2010      %     2009      %     $      %  

North America:

               

Recurring revenues

   $ 536,307         61   $ 376,376         59   $ 159,931         42

Non-recurring revenues

     19,220         2     14,598         2     4,622         32
                                             
     555,527         63     390,974         61     164,553         42
                                             

Europe:

               

Recurring revenues

     186,388         21     152,699         24     33,689         22

Non-recurring revenues

     16,654         2     10,963         2     5,691         52
                                             
     203,042         23     163,662         26     39,380         24
                                             

Asia-Pacific:

               

Recurring revenues

     111,385         13     81,309         12     30,076         37

Non-recurring revenues

     5,136         1     4,012         1     1,124         28
                                             
     116,521         14     85,321         13     31,200         37
                                             

Total:

               

Recurring revenues

     834,080         95     610,384         95     223,696         37

Non-recurring revenues

     41,010         5     29,573         5     11,437         39
                                             
   $ 875,090         100   $ 639,957         100   $ 235,133         37
                                             

North America Revenues. The increase in North America revenues was primarily due to the impact of the Switch and Data acquisition, which resulted in $95.1 million of additional revenue for the nine months ended September 30, 2010. The following table presents our North America revenues excluding the impact of the Switch and Data acquisition (dollars in thousands):

 

     Nine months ended
September 30,
     Change  
     2010      2009      $      %  

North America:

           

Recurring revenues

   $ 443,073       $ 376,376       $ 66,697         18

Non-recurring revenues

     17,388         14,598         2,790         19
                             
   $ 460,461       $ 390,974       $ 69,487         18
                             

Excluding the impact of the Switch and Data acquisition, the period over period growth in recurring revenues was primarily the result of an increase in orders from both our existing customers and new customers during the period as reflected in the growth in our customer count and utilization rate, as discussed above, in both our new and existing IBX data centers. Additionally, during the nine months ended September 30, 2010, we recorded $27.6 million of revenue generated from our recently-opened IBX data centers or IBX data center expansions in the Chicago, Los Angeles, New York and Washington, D.C. metro areas.

We expect that our North America revenues, including those of the acquired Switch and Data operations, will continue to grow in future periods as a result of continued growth in the recently-opened IBX data centers or IBX data center expansions and additional expansions currently taking place in the

 

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Atlanta, Dallas and Silicon Valley metro areas, which are expected to open during the remainder of 2010 and the first quarter of 2011. Our estimates of future revenue growth take account of expected reductions in recurring revenues attributed to customer churn or changes or amendments to customers’ contracts.

Europe Revenues. During the nine months ended September 30, 2010, our revenues from Germany, the largest revenue contributor in the Europe region for the period, represented approximately 36% of the regional revenues. During the nine months ended September 30, 2009, our revenues from the United Kingdom, the largest revenue contributor in the Europe region for the period, represented approximately 37% of the regional revenues. Our Europe revenue growth was due to an increase in orders from both our existing customers and new customers during the period as reflected in the growth in our customer count and utilization rate, as discussed above, in both our new and existing IBX data centers. During the nine months ended September 30, 2010, we recorded approximately $11.7 million of revenue from our recently-opened IBX data centers or IBX data center expansions in the Amsterdam, Dusseldorf, Frankfurt, London, Munich, Paris and Zurich metro areas. We expect that our Europe revenues will continue to grow in future periods as a result of continued growth in recently-opened IBX data centers or IBX data center expansions and additional expansions currently taking place in the Amsterdam, Frankfurt and Paris metro areas, which are expected to open during the remainder of 2010. Our estimates of future revenue growth take account of expected reductions in recurring revenues attributed to customer churn or changes or amendments to customers’ contracts.

Asia-Pacific Revenues. Our revenues from Singapore, the largest revenue contributor in the Asia-Pacific region, represented approximately 37% and 36%, respectively, of the regional revenues for the nine months ended September 30, 2010 and 2009. Our Asia-Pacific revenue growth was due to an increase in orders from both our existing customers and new customers during the period as reflected in the growth in our customer count and utilization rate, as discussed above, in both our new and existing IBX data centers. During the nine months ended September 30, 2010, we recorded approximately $4.5 million of revenue generated from our IBX center expansions in the Hong Kong and Singapore metro areas. We expect that our Asia-Pacific revenues will continue to grow in future periods as a result of continued growth in these recently-opened IBX center expansions and additional expansions currently taking place in the Hong Kong, Singapore, Sydney and Tokyo metro areas which are expected to open during the remainder of 2010 and throughout 2011. Our estimates of future revenue growth take account of expected reductions in recurring revenues attributed to customer churn or changes or amendments to customers’ contracts.

Cost of Revenues. Our cost of revenues for the nine months ended September 30, 2010 and 2009 were split among the following geographic regions (dollars in thousands):

 

     Nine months ended September 30,     Change  
     2010      %     2009      %     $      %  

North America

   $ 291,061         60   $ 199,701         56   $ 91,360         46

Europe

     127,232         27     106,798         30     20,434         19

Asia-Pacific

     62,815         13     49,847         14     12,968         26
                                             

Total

   $ 481,108         100   $ 356,346         100   $ 124,762         35
                                             

 

     Nine months ended
September 30,
 
     2010     2009  

Cost of revenues as a percentage of revenues:

    

North America

     52     51

Europe

     63     65

Asia-Pacific

     54     58

Total

     55     56

 

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North America Cost of Revenues. The increase in our North America cost of revenues was primarily due to the impact of the Switch and Data acquisition, which resulted in $69.4 million of additional cost of revenues for the nine months ended September 30, 2010. Our North America cost of revenues for the nine months ended September 30, 2010 and 2009 included $107.5 million and $73.9 million, respectively, of depreciation expense, including $25.6 million of depreciation expense from the impact of the Switch and Data acquisition for the nine months ended September 30, 2010.

Excluding the impact of the Switch and Data acquisition, our North America cost of revenues during the nine months ended September 30, 2010 was $221.7 million, which represents an increase of 11% from the nine months ended September 30, 2009. This increase was primarily due to $8.0 million of higher depreciation expense resulting from our IBX center expansion activity. Excluding depreciation, the increase was primarily due to overall growth related to our revenue growth and costs associated with our expansion projects, including (i) an increase of $5.8 million in rent and facility costs, (ii) an increase of $2.6 million in utility costs as a result of increased customer installations and (iii) $1.2 million of higher compensation costs, including general salaries, bonuses, stock-based compensation and headcount growth (330 North America employees as of September 30, 2010 versus 302 as of September 30, 2009). We expect North America cost of revenues to increase as we continue to grow our business.

Europe Cost of Revenues. Europe cost of revenues for the nine months ended September 30, 2010 and 2009 included $38.8 million and $29.5 million, respectively, of depreciation expense. Growth in depreciation expense was primarily due to our IBX center expansion activity. Excluding depreciation expense, the increase in Europe cost of revenues was primarily the result of costs associated with our expansion projects and overall growth in costs to support our revenue growth, such as (i) an increase of $3.2 million of utility costs arising from increased customer installations and revenues attributed to customer growth, (ii) $1.9 million of higher compensation expense, including general salaries, bonuses, stock-based compensation and headcount growth (230 Europe employees as of September 30, 2010 versus 174 as of September 30, 2009), (iii) $1.7 million of higher rent and facility costs, (iv) $1.5 million of higher repair and maintenance costs and (v) $1.2 million of higher professional services related to our various consulting projects to support our growth in Europe. We expect Europe cost of revenues to increase as we continue to grow our business.

Asia-Pacific Cost of Revenues. Asia-Pacific cost of revenues for the nine months ended September 30, 2010 and 2009 included $20.1 million and $18.0 million, respectively, of depreciation expense. Growth in depreciation expense was primarily due to our IBX center expansion activity. Excluding depreciation expense, the increase in Asia-Pacific cost of revenues was primarily the result of costs associated with our expansion projects and overall growth in costs to support our revenue growth, such as (i) $3.9 million of higher utility costs, (ii) an increase of $2.5 million of rent and facility costs, (iii) $1.5 million of higher compensation expense, including general salaries, bonuses, stock-based compensation and headcount growth (99 Asia-Pacific employees as of September 30, 2010 versus 82 as of September 30, 2009) and (iv) $1.1 of higher repair and maintenance costs. We expect Asia-Pacific cost of revenues to increase as we continue to grow our business.

Sales and Marketing Expenses. Our sales and marketing expenses for the nine months ended September 30, 2010 and 2009 were split among the following geographic regions (dollars in thousands):

 

     Nine months ended September 30,     Change  
     2010      %     2009      %     $      %  

North America

   $ 52,709         66   $ 26,297         57   $ 26,412         100

Europe

     17,159         22     12,756         28     4,403         35

Asia-Pacific

     9,718         12     7,262         15     2,456         34
                                             

Total

   $ 79,586         100   $ 46,315         100   $ 33,271         72
                                             

 

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     Nine months ended
September 30,
 
     2010     2009  

Sales and marketing expenses as a percentage of revenues:

    

North America

     9     7

Europe

     8     8

Asia-Pacific

     8     9

Total

     9     7

North America Sales and Marketing Expenses. The increase in our North America sales and marketing expenses was primarily due to the impact of the Switch and Data acquisition, which resulted in $11.9 million of additional sales and marketing expenses including $3.7 million of amortization expense for customer contracts for the nine months ended September 30, 2010.

Excluding the impact of the Switch and Data acquisition, our North America sales and marketing expenses during the nine months ended September 30, 2010 were $40.8 million, which represents an increase of 55% from the nine months ended September 30, 2009. This increase was primarily due to $10.1 million of higher compensation costs, including sales compensation, general salaries, bonuses, stock-based compensation expense and headcount growth (144 North America sales and marketing employees as of September 30, 2010 versus 108 as of September 30, 2009).

We have decided to invest further in our North America sales and marketing initiatives in 2010 and we anticipate this increased investment will continue over the next several years, including anticipated headcount growth and new product innovation efforts and, as a result, our North America sales and marketing expenses as a percentage of revenues have increased and are expected to continue to increase. In the long-term, we generally expect North America sales and marketing expenses to increase as we continue to grow our business and invest further in various branding initiatives; however, as a percentage of revenues, we generally expect them to decrease.

Europe Sales and Marketing Expenses. The increase in our Europe sales and marketing expenses was primarily due to $2.7 million of higher compensation costs, including sales compensation, general salaries, bonuses, stock-based compensation expense and headcount growth (75 Europe sales and marketing employees as of September 30, 2010 versus 55 as of September 30, 2009). We intend to invest further in our Europe sales and marketing initiatives over the next several years, including anticipated headcount growth and new product innovation efforts and, as a result, we expect our Europe sales and marketing expenses as a percentage of revenues to increase accordingly. In the long-term, we generally expect Europe sales and marketing expenses to increase as we continue to grow our business and invest further in various branding initiatives; however, as a percentage of revenues, we generally expect them to decrease.

Asia-Pacific Sales and Marketing Expenses. The increase in our Asia-Pacific sales and marketing expenses was primarily due to $1.6 million of higher compensation costs, including sales compensation, general salaries, bonuses, stock-based compensation expense and headcount growth (56 Asia-Pacific sales and marketing employees as of September 30, 2010 versus 42 as of September 30, 2009); however, our Asia-Pacific sales and marketing expenses for the nine months ended September 30, 2010 included the benefit of a $680,000 accrual reversal associated with adjusting the estimated costs of an annual sales recognition program which is an out-of-period adjustment. This $680,000 out-of-period adjustment represents the correction of errors attributable to the year ended December 31, 2009, which we have concluded was not material to any previously-reported historical annual or quarterly period for the year ended December 31, 2009. We intend to invest further in our Asia-Pacific sales and marketing initiatives over the next several years, including anticipated headcount growth and new product innovation efforts and, as a result, we expect our Asia-Pacific sales and marketing expenses as a percentage of revenues to increase accordingly. In the long-term, we generally expect Asia-Pacific sales and marketing expenses to increase as we continue to grow our business and invest further in various branding initiatives; however, as a percentage of revenues, we generally expect them to decrease.

 

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General and Administrative Expenses. Our general and administrative expenses for the nine months ended September 30, 2010 and 2009 were split among the following geographic regions (dollars in thousands):

 

     Nine months ended September 30,     Change  
     2010      %     2009      %     $      %  

North America

   $ 110,271         71   $ 76,449         69   $ 33,822         44

Europe

     31,635         20     22,641         20     8,994         40

Asia-Pacific

     14,055         9     12,587         11     1,468         12
                                             

Total

   $ 155,961         100   $ 111,677         100   $ 44,284         40
                                             

 

     Nine months ended
September 30,
 
     2010     2009  

General and administrative expenses as a percentage of revenues:

    

North America

     20     20

Europe

     16     14

Asia-Pacific

     12     15

Total

     18     17

North America General and Administrative Expenses. The increase in our North America general and administrative expenses was primarily due to the impact of the Switch and Data acquisition, which resulted in $13.3 million of additional general and administrative expenses for the nine months ended September 30, 2010.

Excluding the impact of the Switch and Data acquisition, our North America general and administrative expenses during the nine months ended September 30, 2010 was $97.0 million, which represents an increase of 27% from the nine months ended September 30, 2009. This increase in our North America general and administrative expenses was primarily due to (i) $15.1 million of higher compensation costs, including general salaries, bonuses, stock-based compensation and headcount growth (367 North America general and administrative employees as of September 30, 2010 versus 295 as of September 30, 2009), (ii) an increase of $1.3 million in professional services related to various consulting projects and (iii) and $1.1 million of higher depreciation expense as a result of our ongoing efforts to support our growth, such as investment in systems.

Going forward, although we are carefully monitoring our spending given the current economic environment, we expect North America general and administrative expenses to increase as we continue to scale our operations to support our growth; however, as a percentage of revenues, we generally expect them to decrease.

Europe General and Administrative Expenses. The increase in our Europe general and administrative expenses was primarily due to $5.4 million of higher compensation costs, including general salaries, bonuses, stock-based compensation and headcount growth (154 Europe general and administrative employees as of September 30, 2010 versus 105 as of September 30, 2009) and $1.6 million of higher professional services related to various consulting projects to support our growth. During 2010, we have been investing in our Europe general and administrative functions, which has included taking on additional office space to accommodate the headcount growth, as a result of our ongoing efforts to scale this region effectively for growth. Going forward, although we are carefully monitoring our spending given the current economic environment, we expect our Europe general and administrative expenses to increase in future periods as we continue to scale our operations to support our growth; however, as a percentage of revenues, we generally expect them to decrease.

 

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Asia-Pacific General and Administrative Expenses. The increase in our Asia-Pacific general and administrative expenses was primarily due to $1.3 million of higher compensation costs, including general salaries, bonuses, stock-based compensation and headcount growth (120 Asia-Pacific general and administrative employees as of September 30, 2010 versus 105 as of September 30, 2009). Going forward, although we are carefully monitoring our spending given the current economic environment, we expect Asia-Pacific general and administrative expenses to increase as we continue to scale our operations to support our growth; however, as a percentage of revenues, we generally expect them to decrease.

Restructuring Charges. During the nine months ended September 30, 2010, we recorded restructuring charges totaling $6.2 million comprising $4.9 million related to one-time termination benefits attributed to certain Switch and Data employees and $1.3 million related to revised sublease assumptions on our excess space lease in the New York metro area. For additional information, see “Restructuring Charges” in Note 12 of Notes to Condensed Consolidated Financial Statements in Item 1 of this Quarterly Report on Form 10-Q. We anticipate that we will incur additional restructuring charges in connection with the Switch and Data acquisition related to one-time termination benefits during the remainder of 2010 and the first four months of 2011. During the nine months ended September 30, 2009, we recorded reductions of restructuring charges totaling $6.1 million, primarily due to a reversal of a restructuring charge accrual of $5.8 million for our excess space in the Los Angeles metro area as a result of our decision to utilize this space to expand our original Los Angeles IBX center. Our excess space lease in the New York metro area remains abandoned and continues to carry a restructuring charge. Our restructuring charges all relate to our North America geographic region.

Acquisition Costs. During the nine months ended September 30, 2010, we recorded acquisition costs totaling $12.0 million primarily related to the Switch and Data acquisition. During the nine months ended September 30, 2009, we recorded acquisition costs totaling $1.4 million, primarily related to the Upminster acquisition. We do not expect to incur significant additional acquisition costs related to the Switch and Data acquisition.

Interest Income. Interest income decreased to $1.3 million for the nine months ended September 30, 2010 from $1.9 million for the nine months ended September 30, 2009. Interest income decreased primarily due to lower yields on invested balances. The average yield for the nine months ended September 30, 2010 was 0.19% versus 0.64% for the nine months ended September 30, 2009. We expect our interest income to remain at these low levels for the foreseeable future due to the impact of a lower interest rate environment, a portfolio more weighted towards short-term U.S. treasuries, and from the utilization of cash to finance our expansion activities.

Interest Expense. Interest expense increased to $101.7 million for the nine months ended September 30, 2010 from $51.6 million for the nine months ended September 30, 2009. This increase in interest expense was primarily due to additional financings entered into during 2009 and 2010 consisting of (i) our $750.0 million 8.125% senior notes offering in February 2010, (ii) our $373.8 million 4.75% convertible subordinated notes offering in June 2009 and (iii) our new Asia-Pacific financing in April 2010, of which $111.8 million was outstanding as of September 30, 2010 with an approximate interest rate of 4.58% per annum, which replaced both our previously-existing Asia-Pacific and Singapore financings. This increase was partially offset by our repayment of the Chicago IBX financing in March 2010, the European financing in April 2010 and the Netherlands financing in June 2010. During the nine months ended September 30, 2010 and 2009, we capitalized $8.7 million and $10.4 million, respectively, of interest expense to construction in progress. Going forward, we expect to incur higher interest expense as we recognize the full impact of our $750.0 million 8.125% senior notes and our new Asia-Pacific financing, although this has been partially offset by repayment of debt, such as the European financing and capitalized interest, which we expect to increase during the remainder of 2010 as we intend to embark on more expansion projects. We may also incur additional indebtedness to support our growth, resulting in further interest expense.

 

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Other-Than-Temporary Impairment Recovery (Loss) On Investments. During the nine months ended September 30, 2010, we recorded a $3.6 million other-than-temporary impairment recovery on investments due to additional distributions from one of our money market accounts as more fully described in Note 4 of Notes to Condensed Consolidated Financial Statements in Item 1 of this Quarterly Report on Form 10-Q. During the nine months ended September 30, 2009, we recorded a $2.7 million other-than-temporary impairment loss on this same market account.

Loss on debt extinguishment and interest rate swaps, net. During the nine months ended September 30, 2010, we recorded a $4.8 million loss on debt extinguishment and interest rate swaps, net. See “Loss on Debt Extinguishment and Interest Rate Swaps, Net” in Note 8 of Notes to Condensed Consolidated Financial Statements in Item 1 of this Quarterly Report on Form 10-Q. We did not record any loss on debt extinguishment and interest rate swaps, net, during the nine months ended September 30, 2009.

Other Income (Expense). For the nine months ended September 30, 2010 and 2009, we recorded $193,000 and $3.7 million of other income, respectively, primarily due to foreign currency exchange gains during the periods.

Income Taxes. For the nine months ended September 30, 2010 and 2009, we recorded $15.8 million and $29.9 million of income tax expenses, respectively. Our effective tax rates were 40.5% and 36.6% for the nine months ended September 30, 2010 and 2009, respectively. The increase in the effective tax rate for the nine months ended September 30, 2010 as compared to the nine months ended September 30, 2009 was due primarily to an increase in foreign losses which did not benefit the Company’s effective tax rate. We expect cash income taxes during the remainder of 2010 to increase. The cash taxes for 2010 are primarily for the California state income tax and foreign income taxes, while cash taxes for 2009 were primarily for the U.S. Alternative Minimum Tax, the California state income tax and foreign income taxes.

Non-GAAP Financial Measures

We provide all information required in accordance with generally accepted accounting principles (GAAP), but we believe that evaluating our ongoing operating results may be difficult if limited to reviewing only GAAP financial measures. Accordingly, we use non-GAAP financial measures, primarily adjusted EBITDA, to evaluate our operations. In presenting adjusted EBITDA, we exclude certain items that we believe are not good indicators of our current or future operating performance. These items are depreciation, amortization, accretion of asset retirement obligations and accrued restructuring charges, stock-based compensation, restructuring charges and acquisition costs. Legislative and regulatory requirements encourage the use of and emphasis on GAAP financial metrics and require companies to explain why non-GAAP financial metrics are relevant to management and investors. We exclude these items in order for our lenders, investors, and industry analysts, who review and report on us, to better evaluate our operating performance and cash spending levels relative to our industry sector and competitors.

For example, we exclude depreciation expense as these charges primarily relate to the initial construction costs of our IBX data centers and do not reflect our current or future cash spending levels to support our business. Our IBX data centers are long-lived assets, and have an economic life greater than 10 years. The construction costs of our IBX data centers do not recur and future capital expenditures remain minor relative to our initial investment. This is a trend we expect to continue. In addition, depreciation is also based on the estimated useful lives of our IBX data centers. These estimates could vary from actual performance of the asset, are based on historical costs incurred to build out our IBX data centers, and are not indicative of current or expected future capital expenditures. Therefore, we exclude depreciation from our operating results when evaluating our operations.

In addition, in presenting the non-GAAP financial measures, we exclude amortization expense related to certain intangible assets, as it represents a cost that may not recur and is not a good indicator of our current or future operating performance. We exclude accretion expense, both as it relates to asset retirement obligations as well as accrued restructuring charge liabilities, as these expenses represent costs which we believe are not meaningful in evaluating our current operations. We exclude non-cash

 

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stock-based compensation expense as it represents expense attributed to equity awards that have no current or future cash obligations. As such, we, and many investors and analysts, exclude this stock-based compensation expense when assessing the cash generating performance of our operations. We also exclude restructuring charges from our non-GAAP financial measures. The restructuring charges relate to our decisions to exit leases for excess space adjacent to several of our IBX data centers, which we did not intend to build out, or our decision to reverse such restructuring charges or severance charges related to the Switch and Data acquisition. Finally, we also exclude acquisition costs from our non-GAAP financial measures. The acquisition costs relate to costs we incur in connection with business combinations. Management believes such items as restructuring charges and acquisition costs are non-core transactions; however, these types of costs will or may occur in future periods.

Our management does not itself, nor does it suggest that investors should, consider such non-GAAP financial measures in isolation from, or as a substitute for, financial information prepared in accordance with GAAP. However, we have presented such non-GAAP financial measures to provide investors with an additional tool to evaluate our operating results in a manner that focuses on what management believes to be our core, ongoing business operations. We believe that the inclusion of this non-GAAP financial measure provides consistency and comparability with past reports and provides a better understanding of the overall performance of the business and its ability to perform in subsequent periods. We believe that if we did not provide such non-GAAP financial information, investors would not have all the necessary data to analyze Equinix effectively.

Investors should note, however, that the non-GAAP financial measures used by us may not be the same non-GAAP financial measures, and may not be calculated in the same manner, as that of other companies. In addition, whenever we use non-GAAP financial measures, we provide a reconciliation of the non-GAAP financial measure to the most closely applicable GAAP financial measure. Investors are encouraged to review the related GAAP financial measures and the reconciliation of these non-GAAP financial measures to their most directly comparable GAAP financial measure.

We define adjusted EBITDA as income or loss from operations plus depreciation, amortization, accretion, stock-based compensation expense, restructuring charges and acquisition costs as presented below (dollars in thousands):

 

     Three months ended
September 30,
     Nine months ended
September 30,
 
     2010      2009      2010      2009  

Income from operations

   $ 52,026       $ 45,558       $ 140,235       $ 130,293   

Depreciation, amortization and accretion expense

     74,485         45,066         187,433         132,299   

Stock-based compensation expense

     16,950         14,033         50,020         39,030   

Restructuring charges

     1,886         —           6,243         (6,053

Acquisitions costs

     1,114         1,379         11,957         1,379   
                                   

Adjusted EBITDA

   $ 146,461       $ 106,036       $ 395,888       $ 296,948   
                                   

 

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The geographic split of our adjusted EBITDA is presented below (dollars in thousands):

 

     Three months ended
September 30,
     Nine months ended
September 30,