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Recurring Revenue Business Model Could Drive EQIX’s Profitability

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Recurring business model

Equinix’s (EQIX) business comprises interconnection, colocation, and managed IT infrastructure services, based on the recurring revenue model. Customers are charged fixed rates on a recurring basis throughout the term of their contracts. The company’s recurring revenues account for ~94.0% of its total revenues.

Under the recurring business model, the majority of costs are fixed. So, every unit growth in revenues results in lower expenses as a percentage of total revenues for Equinix. Higher revenues along with lower costs could expand its profitability, which is reflected in its adjusted EBITDA performance over the past several quarters.

Analysts are optimistic that this trend could continue and boost Equinix’s second-quarter adjusted EBITDA. Equinix projects adjusted EBITDA for the third quarter of $579.0 million–$589.0 million, which depict a YoY growth in the range of 13.8%–15.7%.

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Rising interest rates remain concerns

Rising interest rates may remain a drag on Equinix’s bottom-line results. Notably, an improving economy, a stable job market, and impressive consumer sentiment are pushing inflation rates higher. To keep it at a controllable level, the Federal Reserve has been increasing interest rates from time to time. In the first half of the year, the central bank has raised interest rates twice by 25 basis points each and has hinted at two more hikes in the second half.

At the end of the first quarter, Equinix had total debt outstanding of $11.2 billion, which exposes it to interest rate risk. To remain on the growth trajectory, the company has been continuously acquiring and developing new projects, for which it has to depend on external borrowings. 

For 2018, the company expects to incur non-recurring capital expenditures of $1.8 billion–$1.9 billion and recurring capex of $203 million–$213 million.

The company’s investment plans are expected to increase its debt burden, resulting in higher interest expenses. In the first quarter, Equinix registered a 13% YoY jump in interest expenses.

There is another risk associated with rising interest rates that may negatively impact REITs. Investors may find risk-free higher yield bonds more attractive than regular dividend paying REITs, which may pull down their prices. REITs such as Simon Property (SPG), Crown Castle International (CCI), and Realty Income (O) have lost 1.8%, 1.7%, and 3.5%, respectively, year-to-date.

Equinix makes up 4.6% of the Invesco Wilshire U.S. REIT ETF (WRI).

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