Item 1A. Risk Factors.
Investing in our Class A common stock involves a high degree of risk. You should carefully consider the risks and uncertainties described below, together with all of the other information included in this Form 10-K, including “ Management’s Discussion and Analysis of the Financial Condition and Results of Operations ” and the consolidated financial statements and the related notes. We cannot assure you that any of the events discussed below will not occur. Our business, financial condition and results of operations could be materially and adversely affected by any of these risks or uncertainties. In that case, the trading price of our Class A common stock could decline, and you may lose all or part of your investment. All forward-looking statements made by us or on our behalf are qualified by the risks described below.
Summary of Risk Factors
We are subject to a number of risks, including risks that may prevent us from achieving our business objectives or that may adversely affect our business, financial condition, results of operations and prospects. The following is a summary of the principal risk factors described in this section:
Risks Related to Our Operations
• A slowdown in the demand for data center resources and other market and economic conditions.
• Inability to manage our growth.
• Operating results may fluctuate.
• Ability to license the space in our existing data centers.
• Long selling and implementation cycle for our services requiring significant time and resource commitments prior to recognizing revenue.
• Increased power costs and limited availability of power resources.
• Significance of revenue from data centers located in one location.
• Delays in the expansion of existing data centers or the construction of new data centers.
• Ability to compete effectively against our current and future competitors.
• A catastrophic event or a prolonged disruption in excess of our insurance coverage.
• Early termination or non-renewal of our existing licenses/leases and agreements.
• Loss of key personnel.
• Inability to attract and retain qualified and skilled employees.
• Failure of our joint ventures, strategic collaborations and other similar arrangements.
• Difficulties in identifying, consummating and integrating recent and future acquisitions, alliances or joint ventures.
• Suitability of our properties for other uses.
Risks Related to Our Customer Base
• Continued investment in expansion efforts without sufficient customer demand.
• A significant portion of our revenue is highly dependent on a limited number of customers.
• Our customer contract commitments are subject to reduction and potential cancellation.
• Our customers or potential customers may design or develop their own data centers.
• Our churn rate may increase, or we may be unable to achieve high contract renewal rates.
• Failure to attract new customers for our services or to grow revenue from existing customers.
• Future consolidation and competition in our customers’ industries.
• Risk of early termination, audits, investigations, sanctions or penalties in connection with our government customers.
Risks Related to Technology and Intellectual Property
• Any failure in the critical systems of the data center facilities we operate or services we provide.
• Failure to protect our current and future proprietary intellectual property rights.
• Large-scale malfunctions in the proper and efficient functioning of computer and data-processing systems.
• Security breaches, including cyber security breaches, could disrupt our operations.
• Misappropriation of our or our customers’ proprietary intellectual property or confidential information.
• Migration from colocation data centers to the public cloud.
• Inherently risky investments in new offerings and technologies.
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• Inability to adapt to evolving technologies and customer demands.
• Dependence on third parties to provide internet, telecommunication and fiber optic network connectivity to our customers.
Risks Related to Our Liquidity and Indebtedness
• Our capacity to generate capital may be insufficient to meet our anticipated capital requirements.
• Our outstanding indebtedness may limit our operational and financial flexibility.
• Ability to generate sufficient cash flow to meet our debt service and working capital requirements.
• Changes in the method of determining or replacing the London Interbank Offered Rate.
Risks Related to Legal, Governmental Regulation and Tax Matters
• Unanticipated changes in the tax rates and policies of the states in which we operate.
• Environmental problems are possible and can be costly.
• Future domestic or international legislation and regulation concerning networking, data privacy or other aspects of Internet business.
• Costs of complying with regulations.
• Fluctuations in our tax obligations and effective tax rate and realization of our deferred tax assets.
• Possibility of being deemed to be an investment company subject to the Investment Company Act of 1940.
Risks Related to Our Organizational Structure
• Our dependence on distributions from Switch, Ltd. to pay our taxes and expenses, including payments under the Tax Receivable Agreement (“TRA”).
• Required cash payments to the Members under the TRA in respect of certain tax benefits.
• Our organizational structure, including the TRA, confers certain benefits upon the Members that will not benefit holders of Class A common stock to the same extent as it will benefit the Members.
• In certain cases, payments under the TRA to the Members may be accelerated or significantly exceed the actual benefits we realize in respect of the tax attributes subject to the TRA.
• We will not be reimbursed for any payments made to the Members under the TRA in the event that any tax benefits are disallowed.
Risks Related to Our Proposed REIT Conversion
• Ability to successfully complete the REIT conversion.
• Failure to realize anticipated benefits to stockholders.
• Ability to qualify for and maintain REIT status.
• Unanticipated changes in legislation or regulation concerning REITs.
• Compliance with REIT qualification requirements may limit our flexibility or cause us to forego otherwise attractive opportunities.
• Conversion costs may require us to restructure or issue debt or raise equity.
• Costs associated with implementing the REIT conversion and maintaining REIT status.
• Restrictive loan covenants could prevent us from satisfying REIT distribution requirements.
• Lack of experience operating as a REIT.
Risks Related to Ownership of Our Class A Common Stock
• The right of Members to have their Common Units redeemed or exchanged into Class A common stock.
• Failure to sustain an active trading market for our Class A common stock.
• Failure of our performance in any given period to meet the guidance that we provide to the public.
• Securities analysts’ publication of, or failure to publish, research or reports about our business.
• Anti-takeover provisions in our organizational documents and Nevada law.
• Our articles of incorporation designate a specific Nevada court as the exclusive forum for certain litigation that may be initiated by our stockholders, which could limit our stockholders’ abilities to obtain a favorable judicial forum for disputes with us or our directors, officers or employees.
• Future issuances of shares of preferred stock, which could impede our acquisition by another company or otherwise adversely affect holders of our Class A common stock.
• Future class-action securities litigation.
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• Substantial future sales of our Class A common stock, including such stock received upon redemption or exchange of Common Units, or the perception in the public markets that such sales may occur.
• Costs as a result of being a public company and the administration of our complex organizational structure.
• Failure to maintain an effective system of internal control over financial reporting.
• Ability to pay dividends on our Class A common stock is subject to the discretion of our board of directors and our debt agreements as well as future agreements.
General Risks
• Uncertainty about the economic environment.
• Impact of epidemics, pandemics or other outbreaks, including the COVID-19 pandemic.
Risks Related to Our Operations
A slowdown in the demand for data center resources and other market and economic conditions could have a material adverse effect on us.
Adverse developments in the data center market or in the industries in which our customers operate could lead to a decrease in the demand for data center resources, which could have a material adverse effect on us. We face risks including:
• a decline in the technology industry, such as a decrease in the use of mobile or web-based commerce, business layoffs or downsizing, relocation of businesses, increased costs of complying with existing or new government regulations and other factors;
• a slowdown in the growth of the internet generally as a medium for commerce and communication;
• a downturn in the market for data center space generally, which could be caused by an oversupply of or reduced demand for data center space;
• any transition by our customers of data center storage from third-party providers like us to customer-owned and operated facilities;
• the rapid development of new technologies or the adoption of new industry standards that render our or our customers’ current products and services obsolete or unmarketable and, in the case of our customers, that contribute to a downturn in their businesses, increasing the likelihood of a default under their service agreements or that they become insolvent;
• the migration from colocation data centers to the public cloud; and
• technological advancements that result in less data center space being required.
To the extent that any of these or other adverse conditions occurs, they are likely to impact market demand and pricing for our services.
Additionally, we and our customers are affected by general business, economic and geopolitical conditions in the United States and globally. These conditions include short-term and long-term interest rates, inflationary pressures, supply chain issues, money supply, tax and trade policies, political issues, legislative and regulatory changes, fluctuations in both debt and equity capital markets and broad trends in industry and finance, all of which are beyond our control. Macroeconomic conditions that affect the economy and the economic outlook of the United States and the rest of the world could adversely affect our customers and vendors, which could adversely affect our results of operations and financial condition.
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Any inability to manage our growth could disrupt our business and reduce our profitability.
Our annual revenue grew from $462.3 million in 2019 to $592.0 million in 2021. As we continue to grow, significant demands may be placed on our management and our administrative, operational and financial systems. Continued expansion increases the challenges we face in:
• managing a large and growing customer base;
• obtaining suitable land to build new data centers;
• establishing new operations at additional data centers and maintaining efficient use of the data center facilities we operate;
• integrating operations from acquisitions;
• expanding our service portfolio to cover a wider range of services;
• creating and capitalizing on economies of scale;
• obtaining additional capital to meet our future capital needs;
• recruiting, training and retaining a sufficient number of skilled technical, sales and management personnel;
• maintaining effective oversight over personnel and multiple data center locations;
• coordinating work among sites and project teams; and
• developing and improving our internal systems, particularly for managing our continually expanding business operations.
If we fail to manage the growth of our operations effectively, our businesses and prospects may be materially and adversely affected.
Our operating results may fluctuate.
We have experienced fluctuations in our results of operations on a quarterly and annual basis. The fluctuations in our operating results may cause the market price of our Class A common stock to be volatile. We may experience significant fluctuations in our operating results in the foreseeable future due to a variety of factors, including:
• the timing and magnitude of depreciation and interest expense or other expenses related to the acquisition, purchase or construction of additional data centers or the upgrade of existing data centers;
• demand for space, power and services at our data centers;
• changes in general economic conditions, such as an economic downturn, or specific market conditions in the telecommunications and internet industries, both of which may have an impact on our customer base;
• the duration of the sales cycle for our business offerings;
• the timing and logistics required for customer implementation of new programs such as our hybrid cloud solution;
• acquisitions or dispositions we may make or be a part of;
• the financial condition and credit risk of our customers;
• the provision of customer discounts and credits;
• the mix of current and proposed products and offerings and the gross margins associated with our products and offerings;
• the timing required for new and future data centers to open or become fully utilized;
• competition in the markets in which we operate;
• conditions related to international operations;
• increasing repair and maintenance expenses in connection with our data centers;
• lack of available capacity in our existing data centers to generate new revenue or delays in opening new or acquired data centers that delay our ability to generate new revenue in markets which have otherwise reached capacity;
• the timing and magnitude of other operating expenses, including taxes, expenses related to the expansion of sales, marketing, operations and acquisitions, if any, of complementary businesses and assets;
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• the cost and availability of adequate public utilities, including power;
• changes in employee stock-based compensation;
• overall inflation and inflationary pressures, such as those the market is currently experiencing, which may increase costs for materials, supplies, and services;
• disruptions and inefficiencies in the supply chain;
• increasing interest expense due to any increases in interest rates and/or potential additional debt financings;
• changes in our tax planning strategies or failure to realize anticipated benefits from such strategies;
• changes in income tax benefit or expense; and
• changes in or new accounting principles generally accepted in the United States (“GAAP”) as periodically released by the Financial Accounting Standards Board.
Any of the foregoing factors, or other factors discussed elsewhere in this report, could have a material adverse effect on our business, results of operations and financial condition. Although we have experienced recent revenue growth, this growth rate is not necessarily indicative of future operating results. We may not be able to generate net income on a quarterly or annual basis in the future. In addition, a relatively large portion of our expenses is fixed in the short term, particularly with respect to lease and personnel expenses, depreciation and amortization and interest expenses. Therefore, our results of operations are particularly sensitive to fluctuations in revenue. As such, comparisons to prior reporting periods should not be relied upon as indications of our future performance, and our results of operations for any quarter may not be indicative of the results that may be achieved for a full fiscal year. In addition, our operating results in one or more reporting periods may fail to meet the expectations of securities analysts or investors.
Our success depends on our ability to license the space in our existing data centers. The failure to license the space in our data centers may harm our growth prospects, future business, financial condition and results of operations.
Our growth depends on our ability to license the space in our existing data centers. We may not be able to attract customers for the space in our data centers for a number of reasons, including if we:
• fail to provide competitive pricing terms;
• provide space that is deemed by existing and potential customers to be inferior to those of our competitors, based on factors, including available power, preferred design features, security considerations, location and connectivity; or
• are unable to provide services that our existing and potential customers desire.
If we are unable to license available space on a timely basis or at favorable pricing terms, it could have a material adverse effect on our business, results of operations and growth prospects.
We face risks associated with having a long selling and implementation cycle for our services that requires us to make significant time and resource commitments prior to recognizing revenue for those services.
We often have a long selling cycle for our largest transactions, which can range from a few months to up to a year or more. This can require our customers and us to invest significant capital, human resources and time prior to receiving any revenue. A customer’s decision to utilize our colocation services or our other services often involves time-consuming contract negotiations and substantial due diligence on the part of the customer regarding the adequacy of our infrastructure and attractiveness of our resources and services. Macroeconomic conditions, including economic and market downturns, may further impact this long sales cycle by making it difficult for customers to accurately forecast and plan future business activities. This could cause customers to slow spending or delay decision-making on our products and services, which would delay and lengthen our sales cycle. Furthermore, we may expend significant time and resources in pursuing a particular sale or customer, and we do not recognize revenue for our services until we provide the services under the terms of the applicable contract. Our efforts in pursuing a particular sale or customer may not be successful, and we may not always have sufficient capital on hand to satisfy our working capital needs between the date on which we sign an agreement with a new customer and when we first receive revenue for services delivered to the customer. If our efforts in pursuing sales and customers are unsuccessful, or our cash on hand is insufficient to cover our working capital needs over the course of our long selling cycle, our financial condition could be negatively affected.
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Increased power costs and limited availability of power resources may adversely affect our results of operations.
We are a large consumer of power. The cost of power accounts for a significant portion of our cost of revenue. We require power supply to provide many services we offer, such as powering and cooling our customers’ servers and network equipment and operating critical data center plant and equipment infrastructure.
The amount of power our customers require may increase as they adopt new technologies, such as virtualization of hardware resources. As a result, the average amount of power used per server may increase, which in turn would increase power consumption required to cool the data center facilities. Pursuant to our service agreements, we provide our customers with a committed level of power supply availability. Historically, our energy costs have been seasonal, with increased costs primarily in the summer months that have affected our results of operations. Additionally, we have also committed to operating our data centers with 100% clean and renewable energy. While we are currently able to obtain 100% clean and renewable energy at costs that we believe are reasonable, a significant increase in the cost of clean and renewable energy or a decrease in its availability could have materially adverse consequences. These consequences could include placing us at a cost disadvantage if we are forced to increase our fees for providing, or damaging our brand and reputation if we are unable to provide, 100% clean and renewable energy. Although we aim to improve the energy efficiency of the data center facilities that we operate, there can be no assurance such data center facilities will be able to deliver sufficient power to meet the growing needs of our customers. Moreover, we may not be able to address those customers’ needs with 100% clean and renewable energy. We may lose customers or our customers may reduce the services purchased from us due to increased power costs and limited availability of power resources, including clean and renewable power resources, or we may incur costs for data center space which we cannot utilize, which would reduce our revenue and have a material and adverse effect on our cost of revenue and results of operations.
We attempt to manage our power resources and limit exposure to system downtime due to power outages from the electric grid by having redundant power feeds from the grid and by using backup generators and battery power. However, these protections may not limit our exposure to power shortages or outages entirely. Any system downtime resulting from insufficient power resources or power outages could damage our reputation and lead us to lose current and potential customers, which would harm our financial condition and results of operations.
We generate significant revenue from data centers located in one location and a significant disruption to this location could materially and adversely affect our operations.
We generate significant revenue from data centers located at The Core Campus in Las Vegas, and a significant disruption to this location could materially and adversely affect our operations. While The Pyramid Campus in Grand Rapids and The Citadel Campus near Reno opened in 2016, The Keep Campus in Atlanta opened during the first quarter of 2020, and The Rock Campus was launched in the second quarter of 2021 with the acquisition of Data Foundry, all four locations are in development and will require additional capital investment to reach full build out and the revenue contribution from these locations is relatively small in comparison to The Core Campus in Las Vegas. Our data centers located in Las Vegas comprised 66.2% of our revenue during the year ended December 31, 2021. The occurrence of a catastrophic event, or a prolonged disruption in this region could materially and adversely affect our operations.
Delays in the expansion of existing data centers or the construction of new data centers could involve significant risks to our business.
In order to meet customer demand and the continued growth of our business, we need to expand existing data centers or obtain suitable land to build new data centers. Expansion of existing data centers and construction of new data centers are currently underway or being contemplated, and such expansion and construction requires us to carefully select and rely on the experience of one or more designers, general contractors and subcontractors during the design and construction process. If a designer or contractor experiences financial or other problems during the design or construction process, we could experience significant delays and incur increased costs to complete the projects, resulting in negative impacts on our results of operations.
In addition, we need to work closely with the local power suppliers, and sometimes local governments, where we propose to locate our data centers. Delays in actions that require the assistance of such third parties, or delays in receiving required permits and approvals from such parties, may also affect the speed with which we complete data center projects or result in their not being completed at all. For example, we have experienced such delays in receiving approvals and permits due to the COVID-19 pandemic, resulting in construction delays. If delays continue, we may not be able to manage the growth of our operations effectively and our business may be materially and adversely affected.
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If we experience significant delays due to weather or supply of power required to support the data center expansion or new construction, either during the design or construction phases, the progress of the data center expansion and construction could deviate from our original plans, which could cause material and negative effects to our revenue growth, profitability and results of operations.
We may not be able to compete effectively against our current and future competitors.
We offer a broad range of data center services and, as a result, we may compete with a wide range of data center service providers for some or all of the services we offer. We face competition from numerous developers, owners and operators in the data center industry, including cloud and managed service providers and REITs, some of which own or lease properties similar to ours, or may do so in the future, in the same submarkets in which our properties are located. In 2018, we introduced our new hybrid cloud solution to our existing customers; however, these customers may choose other cloud offerings and move workloads to cloud providers, which may reduce the services our customers obtain from us. Our current and future competitors may vary by size and service offerings and geographic presence.
Competition is primarily centered on reputation and track record, quality and availability of data center space, quality of service, technical expertise, security, reliability, functionality, breadth and depth of services offered, geographic coverage, scale, financial strength and price. Some of our current and future competitors may have greater brand recognition, longer operating histories, stronger marketing, technical and financial resources and access to greater and less expensive power than we do. In addition, many companies in the industry are consolidating, which could further increase the market power of our competitors. As a result, some of our competitors may be able to:
• offer space at pricing below current market rates or below the pricing we currently charge our customers;
• bundle colocation services with other services or equipment they provide at reduced prices;
• develop superior products or services, gain greater market acceptance and expand their service offerings more efficiently or rapidly;
• adapt to new or emerging technologies and changes in customer requirements more quickly;
• take advantage of acquisition and other opportunities more readily; and
• adopt more aggressive pricing policies and devote greater resources to the promotion, marketing and sales of their services.
We operate in a competitive market, and we face pricing pressure for our services. Prices for our services are affected by a variety of factors, including supply and demand conditions and pricing pressures from our competitors. We may be required to lower our prices to remain competitive, which may decrease our margins and adversely affect our business prospects, financial condition and results of operations.
Furthermore, mergers, combinations and consolidations in our industry could result in existing competitors increasing their market share and may result in stronger competitors, which in turn, could have a material adverse effect on our business, financial condition and results of operations. We may not be able to compete successfully in an increasingly consolidated industry and cannot predict with certainty how industry consolidation will affect our other competitors or us.
The occurrence of a catastrophic event or a prolonged disruption may exceed our insurance coverage by significant amounts.
Our operations are subject to hazards and risks normally associated with the daily operations of our data center facilities. Currently, we maintain various insurance policies for business interruption for lost profits, property and casualty, public liability, commercial employee insurance, worker’s compensation, personal property and auto liability. Our business interruption insurance for lost profits includes coverage for business interruptions, our property and casualty insurance includes coverage for equipment breakdowns and our commercial employee insurance includes employee group insurance. We are self-insured for medical insurance. We believe our insurance coverage adequately covers the risks of our daily business operations. However, our current insurance policies may be insufficient in the event of a prolonged or catastrophic event. The occurrence of any such event that is not entirely covered by our insurance policies may result in interruption of our operations and subject us to significant losses or liabilities and damage our reputation as a provider of business continuity services. In addition, any losses or liabilities that are not covered by our current insurance policies may have a material adverse effect on our business, financial condition and results of operations.
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Our leases for self-developed data centers could be terminated early and we may not be able to renew our existing leases and agreements on commercially acceptable terms or our rent or payment under the agreements could increase substantially in the future, which could materially and adversely affect our operations.
A few of our facilities are located on properties for which we have long term operating and finance leases. In some instances, we may elect to exercise an option to purchase the leased premises and facilities, or in other instances, elect to extend the term of certain leases, in each case, according to the terms and conditions under the relevant lease agreements. However, upon the expiration of such leases (including any extension terms), we may not be able to renew these leases on commercially reasonable terms, if at all. Even though the lessors for most of our data centers generally do not have the right of unilateral early termination unless they provide the required notice of a breach of the lease and opportunity to cure (as applicable), the lease may nonetheless be terminated early if we are in material breach of the lease agreements. We may assert claims for compensation against the landlords if they elect to terminate a lease agreement early and without due cause. If the leases for our data centers were terminated early prior to their expiration date, notwithstanding any compensation we may receive for early termination of such leases, or if we are not able to renew such leases, we may have to incur significant costs related to relocation. Our leased facilities are located in properties that are subject to master ground leases. If the landlords under such master ground leases elect to terminate the respective master leases in case of default or breach by the master lessees thereunder or otherwise pursuant to the terms and conditions of the relevant master lease, we may not be able to protect our leasehold interest, and may be ordered to vacate the affected premises. Any relocation could also affect our ability to provide continuous uninterrupted services to our customers and harm our reputation. As a result, our business and results of operations could be materially and adversely affected.
The loss of one or more of our key personnel, or our failure to attract and retain other highly qualified personnel in the future, could seriously harm our business.
We depend to a significant degree on the continuous service and performance of Rob Roy and our experienced senior management team and other key personnel, any of whom could resign or be terminated for any reason at any time. Mr. Roy has been responsible for our company’s strategic vision and the development of our technology and business. If he stopped working for us for any reason, it is unlikely that we would be able to find a suitable replacement immediately. The loss of Mr. Roy, a member of our senior management team or any other key employee could disrupt our business operations and create uncertainty as we search for and integrate a replacement. If any member of our senior management or key employee leaves us to join a competitor or to form a competing company, any resulting loss of existing or potential customers to any such competitor could have a material adverse effect on our business, financial condition and results of operations. In addition, we do not maintain key man life insurance for any of the senior members of our management team or our key personnel.
Competition for employees is intense, and we may not be able to attract and retain the qualified and skilled employees needed to support our business.
We believe our success depends on the efforts and talent of our employees, including data center design, construction management, operations, engineering, IT, risk management, and sales and marketing personnel. Our future success depends on our continued ability to attract, develop, motivate and retain qualified and skilled employees. Competition for highly skilled personnel is frequently intense. We may not be able to hire and retain these personnel at compensation levels consistent with our existing compensation and salary structure. Some of the companies with which we compete for experienced employees have greater resources than we have and may be able to offer more attractive terms of employment.
In addition, we invest significant time and expenses in training our employees, which increases their value to competitors who may seek to recruit them. If we fail to retain our employees, we could incur significant expenses in hiring and training their replacements, and the quality of our services and our ability to serve our customers could diminish, resulting in a material adverse effect to our business.
We have entered, and expect to continue to enter, into joint venture, strategic collaborations and other similar arrangements, and these activities involve risks and uncertainties. A failure of any such relationship could have a material adverse effect on our business and results of operations.
We have entered, and expect to continue to enter, into joint venture, strategic collaborations and other similar arrangements. These activities involve risks and uncertainties, including the risk of the joint venture or applicable entity failing to satisfy its obligations, which may result in certain liabilities to us for guarantees and other commitments, the challenges in achieving strategic objectives and expected benefits of the business arrangement, the risk of conflicts arising between us and our partners and the difficulty of managing and resolving such conflicts, and the difficulty of managing or otherwise monitoring such business arrangements. A failure of our business relationships could have a material adverse effect on our business and results of operations.
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Our business could be adversely affected due to risks related to our acquisitions and the subsequent integration of the acquired businesses.
We may seek to make strategic acquisitions to further expand our business. If we are presented with appropriate opportunities, we may acquire additional businesses, services, resources, or assets, including data centers that are complementary to our primary business. We cannot be certain that we will be able to identify, consummate and successfully integrate acquisitions, and no assurance can be given with respect to the timing, likelihood or business effect of any possible transaction. Transactions that we pursue and/or consummate, including our June 2021 acquisition of all of the equity interests of Data Foundry and certain real property interests used in connection with Data Foundry’s operations, would involve risks and uncertainties to us, including:
• mispricing the inherent value of the acquired entity or business;
• the disruption of our operations or the operations of the acquired entity or business and diversion of management’s attention;
• an adverse effect on our ability to manage our business due to the diversion of our management’s attention and any difficulties encountered in any integration process, including integrating people, systems and customers;
• the impact of COVID-19 and any variant thereof on the business operations, employees and customers of the acquired entity or business;
• the impact of COVID-19 and any variant thereof on the vendors and suppliers of the acquired entity or business, including disruptions and inefficiencies in the supply chain;
• the loss of customers or key employees;
• the absence of expected benefits or results for us, the acquired entity or business, or our customers as a result of a transaction;
• undisclosed or unknown liabilities that could be material or become subject to litigation;
• unanticipated integration and restructuring costs; and
• less cash availability for other purposes, including for use in acquisitions or the development of other technologies or products.
Any of these risks, whether with respect to current or future acquisitions, could have a material and adverse effect on our ability to manage our business, our financial condition and our results of operations.
Our current international operations through our joint venture, or future international operations, may expose us to certain operating, legal and other risks, which could adversely affect our business, results of operations and financial condition.
Our joint venture’s international operations, or any future international operations, may expose us to risks that we have not generally faced in the United States. These risks include:
• challenges caused by distance, language, cultural and ethical differences and the competitive environment;
• heightened risks of unethical, unfair or corrupt business practices, actual or claimed, in certain geographies and of improper or fraudulent sales arrangements that may impact financial results and result in restatements of, and irregularities in, financial statements;
• foreign exchange restrictions and fluctuations in currency exchange rates;
• application of multiple and conflicting laws and regulations, including complications due to unexpected changes in foreign laws and regulatory requirements;
• new and different sources of competition;
• different pricing environments, longer sales cycles and longer accounts receivable payment cycles and collections issues;
• management communication and integration problems resulting from cultural differences and geographic dispersion;
• adverse tax consequences, including multiple and possibly overlapping tax structures, the complexities of foreign value-added tax systems, restrictions on the repatriation of earnings and changes in tax rates;
• greater difficulty in enforcing contracts, accounts receivable collection and longer collection periods;
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• the uncertainty and limitation of protection for intellectual property rights in some countries;
• increased financial accounting and reporting burdens and complexities;
• lack of familiarity with local laws, customs and practices, and laws and business practices favoring local competitors or partners;
• public health emergencies, including the global COVID-19 pandemic; and
• political, social and economic instability abroad, terrorist attacks and security concerns in general.
The occurrence of any one of these risks could harm our international business and, consequently, our results of operations. Additionally, operating in international markets requires significant management attention and financial resources. We cannot be certain that the investment and additional resources required to operate in other countries will produce desired levels of revenue or profitability.
Our facilities may not be suitable for uses other than as data centers, which could make it difficult to sell or reposition them and could materially adversely affect our business, results of operations and financial condition.
Our data centers are designed primarily to house and run IT equipment and, therefore, contain extensive electrical and mechanical systems and infrastructure. As a result, our facilities may not be suitable for uses other than as data centers, or may require major renovations and expenditures before they can be re-leased or sold for uses other than as data centers.
Risks Related to Our Customer Base
We are continuing to invest in our expansion efforts but may not have sufficient customer demand in the future to realize expected returns on these investments.
We expect to continue to expand our data center footprint. In connection with our expansion plans, we may be required to commit significant operational and financial resources, but there can be no guarantee we will have sufficient customer demand in those markets to support data centers once built. This risk may be greater in a market where we have not operated previously. Once development of a data center facility is complete, we incur certain operating expenses even if there are no customers occupying any space. Consequently, if any of our properties have significant vacancies for an extended period of time, our results of operations and business and financial condition will be affected adversely, the impact of which could be material. In addition, unanticipated technological changes could affect customer requirements for data centers, and we may not have built such requirements into our new data centers. If any of these developments or contingencies were to occur, it could make it difficult for us to realize expected or reasonable returns on our investments.
A significant portion of our revenue is highly dependent on a limited number of customers, and the loss of, or any significant decrease in business from, these customers could adversely affect our financial condition and results of operations.
Our top 10 customers accounted for approximately 36.7% of our revenue for the year ended December 31, 2021.
A number of factors could cause us to lose customers. For instance, because many of our contracts involve services that are mission-critical to our customers, any failure by us to meet a customer’s expectations could result in cancellation or non-renewal of the contract. Our service agreements usually allow our customers to terminate their agreements with us before the end of the contract period under certain specified circumstances, including our failure to deliver services as required under such agreements, and in some cases without cause as long as sufficient notice is given. In addition, our customers may decide to reduce spending on our services or demand price reductions due to a challenging economic environment or other factors, both internal and external, relating to their business such as corporate restructuring or changing their outsourcing strategy by moving more facilities in-house or outsourcing to other service providers. In addition, our reliance on any individual customer for a significant portion of our revenue may give that customer a degree of pricing leverage against us when negotiating contracts and terms of services with us.
The loss of any of our major customers, or a significant decrease in the extent of the services that they outsource to us or the price at which we sell our services to them, could materially and adversely affect our financial condition and results of operations.
Additionally, if any customer becomes a debtor in a case under the U.S. Bankruptcy Code, applicable bankruptcy laws may limit our ability to terminate our contract with such customer solely because of the bankruptcy or recover any amounts owed to us under our agreements with such customer. In addition, applicable bankruptcy laws could allow the customer to reject and terminate its agreement with us, with limited ability for us to collect the full amount
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of our damages. Our business could be adversely affected if any of our significant customers were to become bankrupt or insolvent.
Our customer contract commitments are subject to reduction and potential cancellation.
Some of our customer contracts allow for early termination, subject to payment of specified costs and penalties, which may be less than the revenue we would expect to receive under such contracts. Our customer contract commitments could significantly decrease if any of the customer contracts are terminated either pursuant to, or in violation of, the terms of such contract. In addition, our customer contract commitments during a particular future period may be reduced for reasons outside of our customers’ control, such as general current economic conditions. If our customer contract commitments are significantly reduced, our results of operations could be materially and adversely affected.
Even if our current and future customers have entered into a binding contract with us, they may choose to terminate such contract prior to the expiration of its terms. Any penalty for early termination may not adequately compensate us for the time and resources we have expended in connection with such contract, or at all, which could have a material adverse effect on our results of operations and cash flows.
Our customer base may decline if our customers or potential customers develop their own data centers or expand their own existing data centers.
Some of our customers have in the past, and may in the future, develop their own data center facilities. Other customers with their own existing data centers may choose to expand their data center operations in the future. One of our business strategies is to sell or lease our single-user data centers. In the event that any of our key customers were to develop or expand their own data centers, we may lose business, fail to execute on our strategy of our single-user data centers or face pressure as to the pricing of our services. In addition, if we fail to offer services that are cost-competitive and operationally advantageous as compared with services provided in-house by our customers, we may lose customers or fail to attract new customers. If we lose a customer, there is no assurance that we would be able to replace that customer at the same or a higher rate, or at all, and our business and results of operations would suffer.
Our churn rate may increase or we may be unable to achieve high contract renewal rates.
We seek to renew customer contracts when those contracts are due for renewal. We endeavor to provide high levels of customer service, support and satisfaction to maintain long-term customer relationships and to secure high rates of contract renewals for our services. Nevertheless, we may not be able to renew service contracts with our existing customers or re-commit space relating to expired service contracts to new customers if our current customers do not renew their contracts. In the event of a customer’s termination or non-renewal of expired contracts, our ability to enter into service contracts so that new or other existing customers utilize the expired existing space in a timely manner will affect our results of operations.
If we do not succeed in attracting new customers for our services and growing revenue from existing customers, we may not achieve our anticipated revenue growth.
Our ability to attract new customers and grow revenue from existing customers depends on a number of factors, including our ability to offer high quality services at competitive prices, the strength of our competitors and the capabilities of our marketing and sales teams to attract new customers. If we fail to attract new customers or grow revenue from existing customers, we may not be able to grow our revenue as quickly as we anticipate or at all.
Future consolidation and competition in our customers’ industries could reduce the number of our existing and potential customers and make us dependent on a more limited number of customers.
Mergers or consolidations in our customers’ industries in the future could reduce the number of our existing and potential customers and make us dependent on a more limited number of customers. If our customers merge with or are acquired by other entities that are not our customers, they may discontinue or reduce the use of our data centers in the future. Additionally, some of our customers may compete with one another in various aspects of their businesses, which places additional competitive pressures on our customers. Any of these developments could have a material adverse effect on us.
We have government customers, which subjects us to risks including early termination, audits, investigations, sanctions and penalties.
We derive some revenue from contracts with U.S., state and local governments. Some of these customers may terminate all or part of their contracts at any time, without cause. There is increased pressure for governments and their agencies to reduce spending. Some of our contracts at the state and local levels are subject to government
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funding authorizations, which may be adversely affected by a U.S. federal government shut-down or budget sequestration.
Additionally, government contracts are generally subject to audits and investigations that could result in various civil and criminal penalties and administrative sanctions, including termination of contracts, refund of a portion of fees received, forfeiture of profits, suspension of payments, fines and suspensions or exclusion from future government business.
Risks Related to Technology and Intellectual Property
Any failure in the critical systems of the data center facilities we operate or services we provide could lead to disruptions in our customers’ businesses and could harm our reputation and result in financial penalty and legal liabilities, which would reduce our revenue and have a material adverse effect on our results of operation.
The critical systems of the data center facilities we operate and the services we provide are subject to failure. Any failure in the critical systems of any data center facility we operate or services that we provide, including a breakdown in critical plant, equipment or services, such as the cooling equipment, generators, backup batteries, routers, switches, or other equipment, power supplies, or network connectivity, whether or not within our control, could result in service interruptions and data losses for our customers as well as equipment damage, which could significantly disrupt the normal business operations of our customers and harm our reputation and reduce our revenue. Any failure or downtime in one of the data center facilities that we operate could affect many of our customers. The total destruction or severe impairment of any of the data center facilities we operate could result in significant downtime of our services and loss of customer data. Since our ability to attract and retain customers depends on our ability to provide highly reliable service, even minor interruptions in our service could harm our reputation and cause us to incur financial penalties. The services we provide are subject to failures resulting from numerous factors, including:
• power loss;
• equipment failure;
• human error or accidents;
• theft, sabotage and vandalism;
• failure by us or our suppliers to provide adequate service or maintenance to our equipment;
• network connectivity downtime and fiber cuts;
• security breaches to our infrastructure;
• improper building maintenance by us;
• physical, electronic and cyber security breaches;
• fire, earthquake, hurricane, tornado, flood and other natural disasters;
• extreme temperatures;
• water damage;
• public health emergencies, including pandemics such as the spread of COVID-19 and its variants; and
• terrorism.
We provide service level commitments to our customers. As a result, service interruptions or equipment failures in our data centers could result in credits to these customers. We cannot provide assurances that our customers will accept these credits as compensation for service interruptions and equipment failures. Service interruptions and equipment failures may also damage our brand image and reputation. Significant or frequent service interruptions could reduce the confidence of our customers and cause our customers to terminate or not renew their licenses. In addition, we may be unable to attract new customers if we have a reputation for significant or frequent service disruptions or equipment failures in our data centers.
Moreover, service interruptions and equipment failures may expose us to legal liability. As our services are critical to many of our customers’ business operations, any disruption in our services could result in lost profits or other indirect or consequential damages to our customers. Although our customer contracts typically contain provisions that limit our liability for breach of the agreement, including failing to meet our service level commitments, there is always a risk that a court may decline to enforce such contractual limitations on our liability in the event that a customer brings a lawsuit against us as the result of a service interruption that it may ascribe to us. The outcome of
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any such lawsuit would depend on the specific facts of the case and any legal and policy considerations that we may not be able to mitigate. In such cases, we could be liable for substantial damage award which may have a material adverse effect on our revenue.
If we fail to protect our proprietary intellectual property rights adequately, our competitive position could be impaired, and we may lose valuable assets, generate reduced revenue and incur costly litigation to protect our rights.
Our success depends, in part, on our ability to protect our proprietary intellectual property rights, including certain methodologies, practices, tools, technologies and technical expertise we use in designing, developing, implementing and maintaining applications and processes used in providing our services. We rely on a combination of patent, trademark, trade secrets and other intellectual property laws, non-disclosure agreements with our employees, consultants, customers and other relevant persons, and other measures to protect our intellectual property, including our brand identity. However, the steps we take to protect our intellectual property may be inadequate, and we may choose not to pursue or maintain protection for our intellectual property in the United States or foreign jurisdictions. We will not be able to protect our intellectual property if we are unable to enforce our rights or if we do not detect unauthorized use of our intellectual property. Despite our precautions, it may be possible for unauthorized third parties to copy our technology and use information that we regard as proprietary to create technology that competes with ours. In addition, the laws of some countries do not protect proprietary rights to the same extent as the laws of the United States, and mechanisms for enforcement of intellectual property rights in some foreign countries may be inadequate. To the extent we expand our international activities, our exposure to unauthorized copying and use of our technologies and proprietary information may increase. Accordingly, despite our efforts, we may be unable to prevent third parties from infringing upon or misappropriating our technology and intellectual property.
We rely in part on trade secrets, proprietary know-how and other confidential information to maintain our competitive position. Although we enter into non-disclosure and invention assignment agreements with our employees, enter into non-disclosure agreements with our customers, consultants and other parties with whom we have strategic relationships and business alliances and enter into intellectual property assignment agreements with our consultants and vendors, no assurance can be given that these agreements will be effective in controlling access to and distribution of our technology and proprietary information. In addition, these agreements do not prevent our competitors from independently developing technologies that are substantially equivalent or superior to our products.
To protect our intellectual property rights, we may be required to spend significant resources to monitor and protect these rights. Litigation may be necessary in the future to enforce our intellectual property rights and to protect our trade secrets. Such litigation could be costly, time consuming and distracting to management and could result in the impairment or loss of portions of our intellectual property. Furthermore, our efforts to enforce our intellectual property rights may be met with defenses, counterclaims and countersuits attacking the validity and enforceability of our intellectual property rights. Our inability to protect our proprietary technology, as well as any costly litigation or diversion of our management’s attention and resources, could disrupt our business, as well as have a material adverse effect on our financial condition and results of operations.
We may in the future be subject to intellectual property disputes, which are costly to defend and could harm our business and operating results.
We may from time to time face allegations that we have infringed the patents, copyrights, trademarks and other intellectual property rights of third parties, including from our competitors. We may be unaware of the intellectual property rights that others may claim cover some or all of our technology or services. Patent and other intellectual property litigation may be protracted and expensive, and the results are difficult to predict and may require us to stop using certain technologies or offering certain services or may result in significant damage awards or settlement costs.
Even if these matters do not result in litigation or are resolved in our favor or without significant cash settlements, these matters, and the time and resources necessary to litigate or resolve them, could divert the time and resources of our management team and harm our business, our operating results and our reputation.
We rely on the proper and efficient functioning of computer and data-processing systems, and a large-scale malfunction could have a material adverse effect on us.
Our ability to keep our data centers operating depends on the proper and efficient functioning of computer and data-processing systems. Since computer and data-processing systems are susceptible to malfunctions and interruptions, including those due to equipment damage, power outages, computer viruses and a range of other hardware, software and network problems, we cannot guarantee that our data centers will not experience such
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malfunctions or interruptions in the future. Additionally, expansions and developments in the products and services that we offer could increasingly add a measure of complexity that may overburden our data center and network resources and human capital, making service interruptions and failures more likely. A significant or large-scale malfunction or interruption of one or more of any of our data centers’ computer or data-processing systems could adversely affect our ability to keep such data centers running efficiently. If a malfunction results in a wider or sustained disruption to business at a property, it could have a material adverse effect on us.
We may be vulnerable to security breaches, including cyber security breaches, which could disrupt our operations and have a material adverse effect on our financial condition and results of operations.
We face risks associated with unauthorized access to our computer systems, loss or destruction of data, computer viruses, malware, distributed denial-of-service attacks, or other malicious activities. These threats may result from human error, equipment failure, or fraud or malice on the part of employees or third parties. A party who is able to compromise the security measures on our networks, or the systems of our third-party service providers, could misappropriate either our proprietary information or the personal information of our customers or our employees, or cause interruptions or malfunctions in our operations or our customers’ operations. Additionally, we provide the infrastructure and physical security for our customers’ IT equipment, which often contains highly confidential and mission critical data. A party who is able to compromise the physical security measures protecting our data center facilities could misappropriate our or our customers’ proprietary information or cause interruptions or malfunctions in our operations. As we provide assurances to our customers that we provide the highest level of security, such a compromise could be particularly harmful to our brand and reputation and result in potential liability. We may be required to expend significant capital and resources to protect against such threats or to alleviate problems caused by breaches in security. As techniques used to breach security change frequently and are often not recognized until launched against a target, we may not be able to implement new security measures in a timely manner or, if and when implemented, we may not be certain whether these measures could be circumvented. Any breaches that may occur could expose us to increased risk of lawsuits, regulatory penalties, loss of existing or potential customers, harm to our reputation and increases in our security costs, which could have a material adverse effect on our financial condition and results of operations.
In addition, any assertions of alleged security breaches or systems failure made against us, whether true or not, could harm our reputation, cause us to incur substantial legal fees and have a material adverse effect on our business, reputation, financial condition and results of operations. Whether or not any such assertion actually proceeds to litigation, we may be required to devote significant management time and attention to its resolution (through litigation, settlement or otherwise), which would detract from our management’s ability to focus on our business. Any such resolution could involve the payment of damages or expenses by us, which may be significant. In addition, any such resolution could involve our agreement with terms that restrict the operation of our business.
If our or our customers’ proprietary intellectual property or confidential information is misappropriated or disclosed by us or our employees in violation of applicable laws and contractual agreements, we could be exposed to protracted and costly legal proceedings, lose customers and our business could be seriously harmed.
Our employees could disclose or use our technical knowledge, practices or procedures without authorization. We have entered into confidentiality agreements with our employees that contain nondisclosure covenants that survive indefinitely as to our trade secrets. Pursuant to these confidentiality agreements, our employees are required to assign any of their inventions that are developed or reduced to practice during their employment with us that pertain to any of our lines of business activity, that are aided by the use of our time, materials or facilities, or that relate to any of their work with us. However, we may not be able to enforce the confidentiality agreements we have with our personnel.
Additionally, our customers occasionally provide us and our employees access to proprietary intellectual property and confidential information, including technology, software products, business policies and plans, trade secrets and personal data. Many of our customer contracts require us not to use or disclose such intellectual property or information and to indemnify our customers for any loss they may suffer as a result of any unauthorized use or disclosure. We use security technologies and other methods to prevent employees from making unauthorized copies, or using or disclosing such intellectual property and confidential information without authorization. The confidentiality agreements we enter into with our employees limit access to and distribution of our customers’ intellectual property and other confidential information as well as our own. However, these steps may not be adequate to safeguard our and our customers’ intellectual property and confidential information. Moreover, some of our customer contracts do not include any limitation on our liability with respect to breaches of our obligation to keep the intellectual property or confidential information we receive from them confidential. In addition, we may not always be aware of intellectual property registrations or applications relating to source codes, software products or other intellectual property belonging to our customers. As a result, if we or our employees misappropriate our
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customers’ proprietary rights, our customers may consider us liable for such act and seek damages and compensation from us.
Assertions of infringement of intellectual property or misappropriation of confidential information against us, if successful, could have a material adverse effect on our business, financial condition and results of operations. Protracted litigation could also result in existing or potential customers deferring or limiting their purchase or use of our services until resolution of such litigation. Even if such assertions against us are unsuccessful, they may cause us to lose existing and future business and incur reputational harm and substantial legal fees.
The migration from colocation data centers to the public cloud may have a material adverse effect on our results of operations.
In response to rapidly growing demand for public cloud solutions, we have introduced a hybrid cloud ecosystem service with the anticipation of a continuously strong demand for colocation data centers. If our assumptions prove to be incorrect, the migration from colocation data centers to the public cloud could harm our financial condition and results of operations.
Our investments in new offerings and technologies are inherently risky and may not succeed.
We plan to grow through the development of new offerings such as multi-cloud edge infrastructure services, physically secured cloud storage environments and autonomous security robots. To be successful, we need to cultivate new industry relationships with customers and partners. The development of these offerings requires significant investment, does not always grow as projected or at all, and we may not realize an adequate return on our investments. There is no guarantee that we will achieve or maintain market demand or acceptance for our offerings. If we fail to realize an adequate return on our investments, we may not be able to grow our revenue as quickly as we anticipate or at all.
If we are unable to adapt to evolving technologies and customer demands in a timely and cost-effective manner, our ability to sustain and grow our business may suffer.
The markets for the data centers we own and operate, as well as certain of the industries in which our customers operate, are characterized by rapidly changing technology, evolving industry standards, frequent new service introductions, shifting distribution channels and changing customer demands. As a result, our data center infrastructure may become less marketable due to demand for new processes and technologies, including, without limitation: (i) new processes to deliver power to, or eliminate heat from, IT equipment; (ii) customer demand for additional redundancy capacity; (iii) new technology that permits higher levels of critical load and heat removal than our data centers are currently designed to provide; and (iv) an inability of the power supply to support new, updated or upgraded technology. In addition, the systems that connect our data centers to the internet and other external networks may become insufficient, including with respect to latency, reliability and diversity of connectivity. We may not be able to adapt to changing technologies or meet customer demands for new processes or technologies in a timely and cost-effective manner, if at all, which would adversely impact our ability to sustain and grow our business.
In addition, new technologies have the potential to replace or provide lower cost alternatives to our services. The adoption of such new technologies could render some or all of our services obsolete or unmarketable. We cannot guarantee that we will be able to identify the emergence of all of these new service alternatives successfully, modify our services accordingly, or develop and bring new services to market in a timely and cost-effective manner to address these changes. If and when we do identify the emergence of new service alternatives and introduce new services to market, those new services may need to be made available at lower profit margins than our then-current services. Failure to provide services to compete with new technologies or the obsolescence of our services could lead us to lose current and potential customers or could cause us to incur substantial costs, which would harm our operating results and financial condition. Our introduction of new alternative services that have lower price points than our current offerings may also result in our existing customers switching to the lower cost products, which could reduce our revenue and have a material adverse effect on our results of operation.
Potential future regulations that apply to industries we serve may require customers in those industries to seek specific requirements from their data centers that we are unable to provide. These may include physical security requirements applicable to the defense industry and government contractors and privacy and security regulations applicable to the financial services and health care industries. If such regulations were adopted or such extra requirements demanded by certain customers, we could lose some customers or be unable to attract new customers in certain industries, which would have a material and adverse effect on our operations.
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We depend on third parties to provide internet, telecommunication and fiber optic network connectivity to our customers, and any delays or disruptions in service could have a material adverse effect on us.
Our products and infrastructure rely on third-party service providers. In particular, we depend on third parties to provide internet, telecommunication and fiber optic network connectivity to the customers in our data centers, and we have no control over the reliability of the services provided by these suppliers. Our customers may in the future experience difficulties due to service failures unrelated to our systems and services. Any internet, telecommunication or fiber optic network failures may result in significant loss of connectivity to our data centers. A significant loss of connectivity to our data centers could reduce the confidence of our customers and impair our ability to retain existing customers or attract new customers, which could have a material adverse effect on us.
Similarly, we depend upon the presence of internet, telecommunications and fiber optic networks serving the locations of our data centers in order to attract and retain customers. The construction required to connect multiple carrier facilities to our data centers is complex, requiring a sophisticated redundant fiber network, and involves matters outside of our control, including regulatory requirements and the availability of construction resources. Each new data center that we develop requires significant amounts of capital for the construction and operation of a sophisticated redundant fiber network. We believe that the availability of carrier capacity affects our business and future growth. We cannot guarantee that any carrier will elect to offer its services within our data centers or that once a carrier has decided to provide connectivity to our data centers that it will continue to do so for any period of time. Furthermore, some carriers are experiencing business difficulties or have announced consolidations or mergers. As a result, some carriers may be forced to downsize or terminate connectivity within our data centers, which could adversely affect our customers and could have a material adverse effect on us.
Risks Related to Our Liquidity and Indebtedness
The data center business is capital-intensive, and our capacity to generate capital may be insufficient to meet our anticipated capital requirements. Failure to obtain the necessary capital when needed may force us to delay, limit or terminate our expansion efforts or other operations.
The costs of constructing, developing, operating and maintaining data centers and growing our operations are substantial. While we strive to match the growth of our facilities to the demand for services, we still must spend significant amounts before we receive any revenue. Moreover, the anticipated demand may not materialize and we could be left with over-capacity. In addition, we may encounter development delays, excess development costs, or delays in developing space for our customers. Moreover, the costs of constructing, developing, operating and maintaining data centers and growing our operations may increase in the future, which may make it more difficult for us to expand our business and to operate our data centers profitably. We are required to fund the costs of constructing, developing, operating and maintaining our data centers and growing our operations with cash. We may also need to raise additional funds through equity or debt financings in the future in order to meet our operating and capital needs. Additional debt or equity financing may not be available when needed or, if available, may not be available on satisfactory terms. Our access to external sources of capital depends, in part, on general economic and financial market conditions, the market’s perception of our growth potential, our then current debt level, our historical and expected future earnings, cash flow and cash distributions and the market price per share of our common stock. In addition, our ability to access additional capital may be limited by the terms of our existing indebtedness. Our inability to generate sufficient cash from operations or to obtain additional debt or equity financing may require us to prioritize projects or curtail capital expenditures and could adversely affect our results of operations. If we cannot generate sufficient capital to meet our anticipated capital requirements, our financial condition, business expansion and future prospects could be materially and adversely affected.
If we raise additional funds through further issuances of equity or equity-linked securities, our existing stockholders could suffer significant dilution in their percentage ownership of our company, and any new equity securities we issue could have rights, preferences and privileges senior to those of holders of our Class A common stock. In addition, any debt financing that we may obtain in the future could have restrictive covenants relating to our capital raising activities and other financial and operational matters, which may make it more difficult for us to obtain additional capital and to pursue business opportunities, including potential acquisitions.
Our outstanding indebtedness may limit our operational and financial flexibility.
As of December 31, 2021, we had total indebtedness of $1.63 billion under our senior unsecured notes and credit facilities (excluding debt issuance costs and original issue discount) and we had $363.1 million in availability under our revolving credit facility, net of outstanding letters of credit. Our leveraged position could have important consequences, including:
• impairing our ability to obtain additional financing for working capital, capital expenditures, acquisitions or general corporate purposes;
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• requiring us to dedicate a substantial portion of our operating cash flow to paying principal and interest on our indebtedness, thereby reducing the funds available for operations;
• limiting our ability to grow and make capital expenditures due to the financial covenants contained in our debt arrangements;
• impairing our ability to adjust rapidly to changing market conditions, invest in new or developing technologies, or take advantage of significant business opportunities that may arise;
• making us more vulnerable if a general economic downturn occurs or if our business experiences difficulties; and
• making us more vulnerable to increases in interest rates because of the variable interest rates on our borrowings.
Additionally, our credit facilities are secured by a first-priority security interest in substantially all of the assets of Switch, Ltd. and its wholly-owned material domestic subsidiaries. Both our amended and restated credit agreement and indentures governing our senior unsecured notes also contain a number of covenants that, among other things, restrict our ability to incur additional debt, incur additional liens or contingent liabilities, make investments in other persons or property, or sell or dispose of our assets.
We may not generate sufficient cash flow to meet our debt service and working capital requirements, which may expose us to the risk of default under our debt obligations.
We will need to implement our business strategy successfully on a timely basis to meet our debt service and working capital needs. We may not successfully implement our business strategy, and even if we do, we may not realize the anticipated results of our strategy and generate insufficient operating cash flow to meet our debt service obligations and working capital needs.
In the event our cash flow is inadequate to meet our debt service and working capital requirements, we may be required, to the extent permitted under our amended and restated credit agreement, our indentures governing our senior unsecured notes, and any other credit facilities, to seek additional financing in the debt or equity markets, refinance or restructure all or a portion of our indebtedness, sell selected assets or reduce or delay planned capital or operating expenditures. However, any insufficient cash flow may make it more difficult for us to obtain financing on terms that are acceptable to us, or at all. We could also face substantial liquidity problems. If we are unable to generate sufficient cash flow or otherwise obtain funds needed to make required payments under our indebtedness, or if we breach any covenants under our indebtedness, we would be in default under its terms and the holders of such indebtedness may be able to accelerate the maturity of such indebtedness, which could cause defaults under our other indebtedness.
Changes in the method of determining the London Interbank Offered Rate (“LIBOR”) or the replacement of LIBOR with an alternative reference rate, may adversely affect our financial condition and results of operations.
Certain of our financial obligations and instruments, including our credit facility and interest rate swap agreements, are calculated by reference to LIBOR. LIBOR is the subject of recent national, international and other regulatory guidance and proposals for reform. These reforms and other pressures may cause LIBOR to disappear entirely or to perform differently than in the past. The potential consequences cannot be fully predicted and may result in, among other things, increased volatility and illiquidity in markets for instruments that currently rely on LIBOR, increased borrowing costs, reductions in the value of certain instruments or the effectiveness of related transactions such as interest rate swaps, difficulty and costly processes to amend applicable contracts and instruments and difficulties, complications or delays in connection with future financing and hedging efforts. Any of these consequences could materially and adversely affect our results of operations, cash flows, and liquidity.
Risks Related to Legal, Governmental Regulation and Tax Matters
Unanticipated changes in the tax rates and policies of the states in which we operate could materially and adversely affect our results of operations.
We strategically choose the locations of our U.S. campuses. One of the factors we consider is the favorable tax rates and policies that provide zero or low-tax environments for our customers to deploy IT equipment. If the tax rates and policies of the states in which our data centers are located expose us or our customers to higher taxes, our results of operations could be materially and adversely affected directly or by making our data centers less attractive to our existing and potential customers.
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Environmental problems are possible and can be costly.
Environmental liabilities could arise on the land that we own or lease and have a material adverse effect on our financial condition and performance. Federal, state and local laws and regulations relating to the protection of the environment may require a current or previous owner or operator of real estate to investigate and remediate hazardous or toxic substances or petroleum product releases at or from the property. In addition, we could incur costs to comply with such laws and regulations, the violation of which could lead to substantial fines and penalties.
We may have to pay governmental entities or third parties for property damage and for investigation and remediation costs that they incurred in connection with any contamination at our current and former properties without regard to whether we knew of or caused the presence of the contaminants. Even if more than one person may have been responsible for the contamination, each person covered by these environmental laws may be held responsible for all of the clean-up costs incurred.
Some of the properties may contain asbestos-containing building materials. Environmental laws require that asbestos-containing building materials be properly managed and maintained, and may impose fines and penalties on building owners or operators for failure to comply with these requirements.
Future legislation and regulation, either domestic or international, concerning networking, data privacy or other aspects of Internet business could have an adverse effect on our business operations.
Various laws and governmental regulations, both in the United States and international, governing internet related services, related communications services and information technologies remain largely unsettled, even in areas where there has been some legislative action. For example, in 2018, the Federal Communications Commission (the “FCC”) overturned network neutrality rules, which may result in material changes in the regulations and contribution regime affecting us and our customers. Furthermore, the U.S. Congress and state legislatures are reviewing and considering changes to the new FCC rules making the future of network neutrality and its impact on us uncertain. There may also be forthcoming regulation in the United States in the areas of cybersecurity, data privacy and data security, any of which could affect us and our customers. Similarly, data privacy regulations outside of the United States continue to evolve. Future legislation could impose additional costs on our business or require us to make changes in our operations, which could adversely affect our operations.
We may incur significant costs complying with other regulations.
Our properties are subject to various federal, state and local regulations, such as state and local fire and safety regulations. If one of our properties is not in compliance with these various regulations, we may be required to pay fines or private damage awards. We do not know whether existing regulations will change or whether future regulations will require us to make significant unanticipated expenditures that may adversely affect our business, financial condition and results of operations.
Fluctuations in our tax obligations and effective tax rate and realization of our deferred tax assets may result in volatility of our operating results.
We are subject to taxes by the U.S. federal, state, local and foreign tax authorities, and our tax liabilities will be affected by the allocation of expenses to differing jurisdictions. We record tax expense based on our estimates of future payments, which may include reserves for uncertain tax positions in multiple tax jurisdictions, and valuation allowances related to certain net deferred tax assets. At any one time, multiple tax years may be subject to audit by various taxing jurisdictions. The results of these audits and negotiations with taxing authorities may affect the ultimate settlement of these matters. We expect that throughout the year there could be ongoing variability in our quarterly tax rates as events occur and exposures are evaluated. Our future effective tax rates could be subject to volatility or adversely affected by a number of factors, including:
• changes in the valuation of our deferred tax assets and liabilities;
• expected timing and amount of the release of any tax valuation allowances;
• tax effects of stock-based compensation; or
• changes in tax laws, regulations or interpretations thereof.
In addition, a variety of factors could materially affect our effective tax rate in a given financial statement period, including changes in the mix and level of earnings, varying tax rates in the different jurisdictions in which we operate, fluctuations in valuation allowances, deductibility of certain items, or changes to existing accounting rules or regulations. In addition, tax legislation may be enacted in the future, which could negatively affect our current or future tax structure and effective tax rates. We may be subject to audits of our income, sales, and other transaction taxes by U.S. federal, state, local, and foreign taxing authorities. Outcomes from these audits could have an adverse effect on our operating results and financial condition.
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If we were deemed to be an investment company under the Investment Company Act of 1940, as amended (the “1940 Act”) as a result of our ownership of Switch, Ltd., applicable restrictions could make it impractical for us to continue our business as contemplated and could have a material adverse effect on our business.
Under Sections 3(a)(1)(A) and (C) of the 1940 Act, a company generally will be deemed to be an “investment company” for purposes of the 1940 Act if (i) it is, or holds itself out as being, engaged primarily, or proposes to engage primarily, in the business of investing, reinvesting or trading in securities or (ii) it engages, or proposes to engage, in the business of investing, reinvesting, owning, holding or trading in securities and it owns or proposes to acquire investment securities having a value exceeding 40% of the value of its total assets (exclusive of U.S. government securities and cash items) on an unconsolidated basis. We do not believe that we are an “investment company,” as such term is defined in either of those sections of the 1940 Act.
As the manager of Switch, Ltd., we will control and operate Switch, Ltd. On that basis, we believe that our interest in Switch, Ltd. is not an “investment security” as that term is used in the 1940 Act. However, if we were to cease participation in the management of Switch, Ltd., our interest in Switch, Ltd. could be deemed an “investment security” for purposes of the 1940 Act.
We and Switch, Ltd. intend to conduct our operations so that we will not be deemed an investment company. However, if we were to be deemed an investment company, restrictions imposed by the 1940 Act, including limitations on our capital structure and our ability to transact with affiliates, could make it impractical for us to continue our business as contemplated and could have a material adverse effect on our business.
Risks Related to Our Organizational Structure
Our principal asset is our interest in Switch, Ltd., and, accordingly, we depend on distributions from Switch, Ltd. to pay our taxes and expenses, including payments under the TRA. Switch, Ltd.’s ability to make such distributions may be subject to various limitations and restrictions.
We are a holding company and have no material assets other than our ownership of Common Units. We have no independent means of generating revenue or cash flow. We have determined that Switch, Ltd. is a variable interest entity (“VIE”) and that we are the primary beneficiary of Switch, Ltd. Accordingly, pursuant to the VIE accounting model, we have consolidated Switch, Ltd. in our consolidated financial statements. In the event of a change in accounting guidance or amendments to the Switch Operating Agreement resulting in us no longer having a controlling interest in Switch, Ltd., we may not be able to consolidate its results of operations with our own, which would have a material adverse effect on our results of operations. Moreover, our ability to pay our taxes and operating expenses or declare and pay dividends in the future, if any, is dependent upon the financial results and cash flows of Switch, Ltd. and its subsidiaries and distributions we receive from Switch, Ltd. There can be no assurance that Switch, Ltd. and its subsidiaries will generate sufficient cash flow to distribute funds to us or that applicable state law and contractual restrictions, including negative covenants in our debt instruments, will permit such distributions.
Switch, Ltd. is treated as a partnership for U.S. federal income tax purposes and, as such, is not subject to any entity-level U.S. federal income tax. Instead, taxable income is allocated to holders of Common Units, including us. Accordingly, we incur income taxes on our allocable share of any net taxable income of Switch, Ltd. Under the terms of the Switch Operating Agreement, Switch, Ltd. is obligated to make tax distributions to holders of Common Units, including us. In addition to tax expenses, we will also incur expenses related to our operations, including payments under the TRA, which we expect could be significant. As the manager of Switch, Ltd., we intend to cause Switch, Ltd. to make cash distributions to the owners of Common Units in an amount sufficient to (i) fund their tax obligations in respect of taxable income allocated to them and (ii) cover our operating expenses, including payments under the TRA. However, Switch, Ltd.’s ability to make such distributions may be subject to various limitations and restrictions, such as restrictions on distributions that would either violate any contract or agreement to which Switch, Ltd. is then a party, including debt agreements, or any applicable law, or that would have the effect of rendering Switch, Ltd. insolvent. If we do not have sufficient funds to pay tax or other liabilities or to fund our operations, we may have to borrow funds, which could materially adversely affect our liquidity and financial condition and subject us to various restrictions imposed by any such lenders. To the extent that we are unable to make payments under the TRA for any reason, such payments generally will be deferred and will accrue interest until paid; provided, however, that nonpayment for a specified period may constitute a material breach of a material obligation under the TRA and therefore accelerate payments due under the TRA. In addition, if Switch, Ltd. does not have sufficient funds to make distributions, our ability to declare and pay cash dividends will also be restricted or impaired. See “Risks Related to Ownership of Our Class A Common Stock.”
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The TRA with the Members requires us to make cash payments to them in respect of certain tax benefits to which we may become entitled, and we expect that the payments we are required to make will be substantial.
Under the TRA we have entered into with Switch, Ltd. and the Members, we are required to make cash payments to the Members equal to 85% of the tax benefits, if any, that we actually realize, or in certain circumstances are deemed to realize, as a result of (i) the increases in the tax basis of assets of Switch, Ltd. resulting from any redemptions or exchanges of Common Units from the Members and (ii) certain other tax benefits related to our making payments under the TRA. Although the actual timing and amount of any payments that we make to the Members under the TRA will vary, we expect those payments will be significant. Any payments made by us to the Members under the TRA will generally reduce the amount of overall cash flow that might have otherwise been available to us. Furthermore, our future obligation to make payments under the TRA could make us a less attractive target for an acquisition, particularly in the case of an acquirer that cannot use some or all of the tax benefits that are the subject of the TRA. Payments under the TRA are not conditioned on any Member’s continued ownership of Common Units or our Class A common stock.
The actual amount and timing of any payments under the TRA will vary depending upon a number of factors, including the timing of redemptions or exchanges by the holders of Common Units, the amount of gain recognized by such holders of Common Units, the amount and timing of the taxable income we generate in the future, and the federal tax rates then applicable.
Our organizational structure, including the TRA, confers certain benefits upon the Members that will not benefit holders of Class A common stock to the same extent as it will benefit the Members.
Our organizational structure, including the TRA, confers certain benefits upon the Members that will not benefit the holders of our Class A common stock to the same extent as it will benefit the Members. We have entered into the TRA with Switch, Ltd. and the Members and it will provide for the payment by us to the Members of 85% of the amount of tax benefits, if any, that we actually realize, or in some circumstances are deemed to realize, as a result of (i) the increases in the tax basis of assets of Switch, Ltd. resulting from any redemptions or exchanges of Common Units from the Members, and (ii) certain other tax benefits related to our making payments under the TRA. Although we will retain 15% of the amount of such tax benefits, this and other aspects of our organizational structure may adversely affect the future trading market for the Class A common stock.
In certain cases, payments under the TRA to the Members may be accelerated or significantly exceed the actual benefits we realize in respect of the tax attributes subject to the TRA.
The TRA provides that upon certain mergers, asset sales, other forms of business combinations or other changes of control or if, at any time, we elect an early termination of the TRA, then our obligations, or our successor’s obligations, under the TRA to make payments thereunder would be based on certain assumptions, including an assumption that we would have sufficient taxable income to fully utilize all potential future tax benefits that are subject to the TRA.
As a result of the foregoing, (i) we could be required to make payments under the TRA that are greater than the specified percentage of the actual benefits we ultimately realize in respect of the tax benefits that are subject to the TRA, and (ii) if we elect to terminate the TRA early, we would be required to make an immediate cash payment equal to the present value of the anticipated future tax benefits that are the subject of the TRA, which payment may be made significantly in advance of the actual realization, if any, of such future tax benefits. In these situations, our obligations under the TRA could have a substantial negative impact on our liquidity and could have the effect of delaying, deferring or preventing certain mergers, asset sales, other forms of business combinations or other changes of control. There can be no assurance that we will be able to fund or finance our obligations under the TRA.
We will not be reimbursed for any payments made to the Members under the TRA in the event that any tax benefits are disallowed.
Payments under the TRA are based on the tax reporting positions that we determine. The Internal Revenue Service (“IRS”) or another tax authority may challenge all or part of the tax basis increases, as well as other related tax positions we take, and a court could sustain such challenge. If the outcome of any such challenge would reasonably be expected to materially affect a recipient’s payments under the TRA, then we will not be permitted to settle or fail to contest such challenge without the consent (not to be unreasonably withheld or delayed) of each Member that directly or indirectly owns at least 10% of the outstanding Common Units. We will not be reimbursed for any cash payments previously made to the Members under the TRA in the event that any tax benefits initially claimed by us and for which payment has been made to a Member are subsequently challenged by a taxing authority and are ultimately disallowed. Instead, any excess cash payments we make to a Member will be netted against any future
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cash payments that we might otherwise be required to make to such Member under the terms of the TRA. However, we might not determine that we have made an excess cash payment to a Member for a number of years following the initial time of such payment. If a taxing authority challenges any of our tax reporting positions, we will not be permitted to reduce future cash payments under the TRA until such challenge is finally settled or determined. As a result, we could make payments under the TRA in excess of the tax savings that we realize in respect of the tax attributes with respect to a Member that are the subject of the TRA.
Risks Related to Our Proposed REIT Conversion
Although we have chosen to pursue conversion to a REIT, we may not be successful in converting to a REIT effective January 1, 2023, or at all.
In November 2021, our board of directors approved the pursuit of a REIT conversion with a target of electing REIT status for the taxable year beginning January 1, 2023. There are significant implementation and operational complexities to address before we can convert to a REIT, including, without limitation, completing internal reorganizations, modifying accounting and information technology systems, and receiving any necessary stockholder and other approvals. Even if we are able to satisfy the existing REIT requirements or any future REIT requirements, the tax laws, regulations and interpretations governing REITs may change at any time in ways that could be disadvantageous to us.
Additionally, several conditions must be met in order to complete the conversion to a REIT, and the timing and outcome of many of these conditions are beyond our control. Even if the transactions necessary to implement REIT conversion are effected, our board of directors may decide not to elect REIT status, or to delay such election, if it determines in its sole discretion that it is not in the best interests of us or our stockholders. We can provide no assurance if or when conversion to a REIT will be successful. Furthermore, the effective date of the REIT conversion could be delayed beyond January 1, 2023, in which event we could not elect REIT status until the taxable year beginning January 1, 2024, at the earliest. Failure to timely convert to a REIT or maintain REIT status could result in dissatisfaction in our stockholder base.
We may not realize the anticipated benefits to stockholders, including the achievement of significant tax savings for us and regular distributions to our stockholders.
Even if we convert to a REIT and elect REIT status, we cannot provide assurance that our stockholders will experience benefits attributable to our qualification and taxation as a REIT, including our ability to reduce our corporate level U.S. federal income tax through distributions to stockholders and to make regular distributions to stockholders. The realization of the anticipated benefits to stockholders will depend on numerous factors, many of which are outside our control. In addition, future cash distributions to stockholders will depend on our cash flows, as well as the impact of alternative, more attractive investments as compared to dividends.
We may not qualify or remain qualified as a REIT.
Although we plan to operate in a manner consistent with the REIT qualification rules if we convert to a REIT, we cannot provide assurance that we will, in fact, qualify as a REIT or remain so qualified. REIT qualification involves the application of highly technical and complex provisions of the U.S. Internal Revenue Code of 1986, as amended (the “Code”), to our operations as well as various factual determinations concerning matters and circumstances not entirely within our control. There are limited judicial or administrative interpretations of these provisions.
If we fail to qualify as a REIT in any taxable year after the REIT conversion, we will be subject to U.S. federal income tax, including any applicable alternative minimum tax, on our taxable income at regular corporate rates with respect to each such taxable year for which the statute of limitations remains open. In addition, we will be subject to monetary penalties for the failure. This treatment would significantly reduce our net earnings and cash flow because of our additional tax liability and the penalties for the years involved, which could significantly impact our financial condition.
Legislative, administrative, regulatory or other actions affecting REITs, including positions taken by the IRS, could have a negative effect on us.
The rules dealing with U.S. federal income taxation are continually under review by persons involved in the legislative process and by the IRS and the U.S. Department of the Treasury (the “Treasury”). New legislation, Treasury regulations, administrative interpretations or court decisions could, with retroactive effect, significantly and negatively affect our ability to qualify to be taxed as a REIT. Further, such actions could, with retroactive effect, also significantly and negatively affect the U.S. federal income tax consequences to our stockholders and us.
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Complying with REIT qualification requirements may limit our flexibility or cause us to forego otherwise attractive opportunities.
To qualify as a REIT for U.S. federal income tax purposes, we must continually satisfy tests concerning, among other things, the sources of our income, the nature and diversification of our assets, the amounts we distribute to our stockholders and the ownership of our common stock. For example, under the Code, no more than 25% of the value of the assets of a REIT may be represented by securities of a taxable REIT subsidiary (“TRS”), and other nonqualifying assets. This limitation may affect our ability to make large investments in other non-REIT qualifying operations or assets. In addition, in order to maintain qualification as a REIT, annually we will be required to distribute at least 90% of our REIT taxable income, determined without regard to the dividends paid deduction and excluding any net capital gains. Even if we maintain our qualification as a REIT, we will be subject to U.S. federal income tax at regular corporate rates for our undistributed REIT taxable income, determined without regard to the dividends paid deduction and including any net capital gains, as well as U.S. federal income tax at regular corporate rates for income recognized by our TRS. Because of these distribution requirements, we will likely not be able to fund future capital needs and investments from operating cash flow. As such, compliance with REIT tests may hinder our ability to make certain attractive investments, including the purchase of significant nonqualifying assets and the material expansion of non-real estate activities.
We may restructure or issue debt or raise equity to satisfy our conversion costs and our cash needs following conversion.
Depending on the ultimate size and timing of the cash outlays associated with our conversion to a REIT, we may restructure or issue debt and/or issue equity to fund these disbursements, even if the then-prevailing market conditions are not favorable for these transactions. Whether we issue debt or equity, at what price and amount and other terms of any such issuances will depend on many factors, including alternative sources of capital, our then existing leverage, our need for additional capital, market conditions and other factors beyond our control. If we raise additional funds through the issuance of equity securities or debt convertible into equity securities, the percentage of stock ownership by our existing stockholders may be reduced. In addition, new equity securities or convertible debt securities could have rights, preferences, and privileges senior to those of our current stockholders, which could substantially decrease the value of our securities owned by them. Depending on the share price we are able to obtain, we may have to sell a significant number of shares in order to raise the capital we deem necessary to execute our long-term strategy, and our stockholders may experience dilution in the value of their shares as a result. Furthermore, conversion costs may increase the financing we need to fund capital expenditures, future growth and expansion initiatives. As a result, our indebtedness could increase.
We will incur increased costs associated with implementing the REIT conversion and maintaining REIT status.
We will incur significant implementation costs to convert to a REIT, as well as annual compliance costs. Our estimate for such costs, however, may not be accurate, and such costs may actually be higher than our estimates due to changes in our business support functions and support costs, the unsuccessful execution of internal planning, including restructurings and cost reduction initiatives, or other factors.
Restrictive loan covenants could prevent us from satisfying REIT distribution requirements.
If we are successful in converting to a REIT, restrictions in our credit facility and our indentures may prevent us from satisfying our REIT distribution requirements, and we could fail to qualify for taxation as a REIT. If these limits do not jeopardize our qualification for taxation as a REIT but nevertheless prevent us from distributing 100% of our REIT taxable income, we would be subject to federal corporate income tax, and potentially a nondeductible excise tax, on the retained amounts.
We have no experience operating as a REIT, which may adversely affect our business, financial condition or results of operations if we successfully convert to a REIT.
We have no experience operating as a REIT, and our senior management has no experience operating a REIT. Our pre-REIT operating experience may not be sufficient to prepare us to operate successfully as a REIT. Our inability to operate successfully as a REIT, including the failure to maintain REIT status, could adversely affect our business, financial condition or results of operations.
Risks Related to Ownership of Our Class A Common Stock
The Members have the right to have their Common Units redeemed or exchanged into shares of Class A common stock, which may cause volatility in our stock price.
As of February 1, 2022, we have an aggregate of more than 600,000,000 shares of Class A common stock authorized but unissued, including 95,773,471 shares of Class A common stock issuable upon redemption or
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exchange of Common Units. Subject to the restrictions set forth in the Switch Operating Agreement, the Members may have their Common Units redeemed for shares of our Class A common stock. We have also entered into the Registration Rights Agreement pursuant to which the shares of Class A common stock issued to the Members upon redemption of Common Units are eligible for resale, subject to certain limitations set forth therein.
We cannot predict the timing or size of any future issuances of our Class A common stock resulting from the redemption or exchange of Common Units or the effect, if any, that future issuances and sales of shares of our Class A common stock may have on the market price of our Class A common stock. Sales or distributions of substantial amounts of our Class A common stock, including shares issued in connection with an acquisition, or the perception that such sales or distributions could occur, may cause the market price of our Class A common stock to decline.
An active trading market for our Class A common stock may not be sustained.
Our Class A common stock is listed on the New York Stock Exchange (“NYSE”) under the symbol “SWCH.” However, we cannot ensure that an active trading market for our Class A common stock will be sustained. In addition, we cannot ensure that the liquidity of any trading market will provide the ability to sell shares of our Class A common stock when or at desired prices.
If our operating and financial performance in any given period does not meet the guidance that we provide to the public, our stock price may decline.
We provide public guidance on our expected operating and financial results for future periods. Such guidance is comprised of forward-looking statements subject to the risks and uncertainties described in this report and in our other public filings and public statements. Our actual results may not always be in line with or exceed the guidance we have provided, especially in times of economic uncertainty. If, in the future, our operating or financial results for a particular period do not meet the guidance we provide or the expectations of investment analysts or if we reduce our guidance for future periods, the market price of our Class A common stock may decline as well.
If securities analysts do not publish research or reports about our business or if they publish negative evaluations of our Class A common stock, the price of our Class A common stock could decline.
The trading market for our Class A common stock relies in part on the research and reports that industry or financial analysts publish about us or our business. If one or more of the analysts covering our business downgrades their evaluations of our stock, the price of our Class A common stock could decline. If one or more of these analysts ceases to cover our Class A common stock, we could lose visibility in the market for our stock, which in turn could cause our Class A common stock price to decline.
The trading price of our Class A common stock may be volatile or may decline regardless of our operating performance.
Volatility in the market price of our Class A common stock may affect the ability to sell shares at or above the price paid for such shares. The market price of our Class A common stock may fluctuate significantly in response to a number of factors, most of which we cannot control, including:
• our operating performance and prospects and those of other similar companies;
• actual or anticipated variations in our financial condition, liquidity or results of operations;
• changes in financial projections we may provide to the public or our failure to meet these projections;
• change in the estimates of securities analysts relating to our earnings or other operating metrics;
• publication of research reports about us, our significant customers, our competition, data center companies generally or the technology industry;
• recruitment or departure of key personnel;
• new laws or regulations or new interpretations of existing laws or regulations applicable to our business;
• changes in market valuations of similar companies;
• announcements by us or our competitors of significant technological innovations, acquisitions, strategic partnerships, joint ventures, or capital commitments;
• actual or anticipated developments in our business or our competitors’ businesses or the competitive landscape generally;
• developments or disputes concerning our intellectual property or our services, or third-party proprietary rights;
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• adverse market reaction to leverage we may incur or equity we may issue in the future;
• actions by institutional stockholders;
• actual or perceived accounting issues, including changes in accounting standards, policies, guidelines, interpretations or principles;
• failure to comply with NYSE requirements;
• speculation in the press or investment community about our company or industry or the economy in general;
• adverse developments in the credit-worthiness, business or prospects of one or more of our significant customers;
• lawsuits threatened or filed against us;
• other events or factors, including those resulting from war, incidents of terrorism, or responses to these events;
• the realization of any of the other risk factors presented in this report;
• the overall performance of the equity markets; and
• general market and economic conditions.
Anti-takeover provisions in our organizational documents and Nevada law could prevent or delay a change in control of our company, even if such change in control would be beneficial to our stockholders.
Provisions of our amended and restated articles of incorporation and amended and restated bylaws, as well as provisions of Nevada law, could discourage, delay or prevent a merger, acquisition or other change in control of our company, even if such change in control would be beneficial to our stockholders. These provisions include:
• authorizing the issuance of “blank check” preferred stock that could be issued by our board of directors to increase the number of outstanding shares and thwart a takeover attempt;
• prohibiting the use of cumulative voting for the election of directors;
• removal of incumbent directors only by the vote of stockholders with not less than two-thirds of the voting power of our outstanding stock;
• prohibiting stockholders from calling special meetings;
• requiring that our board of directors adopt a resolution in order to propose any amendment to our articles of incorporation before it may be considered for approval by our stockholders;
• limiting the ability of stockholders to amend our bylaws and approve certain amendments to our articles of incorporation, in each case by requiring the affirmative vote of holders of at least two-thirds of the votes that stockholders would be entitled to cast in any annual election of directors;
• requiring all stockholder actions to be taken at a meeting of our stockholders; and
• establishing advance notice and duration of ownership requirements for nominations for election to the board of directors or for proposing matters that can be acted upon by stockholders at stockholder meetings.
These provisions could also discourage proxy contests and make it more difficult for our stockholders to elect directors of their choosing and cause us to take other corporate actions they desire. In addition, because our board of directors is responsible for appointing the members of our management team, these provisions could in turn affect any attempt by our stockholders to replace current members of our management team.
In addition, we are subject to Nevada’s statute on combinations with interested stockholders (Sections 78.411-78.444 of the Nevada Revised Statutes), which prohibits us from entering into a “combination” with an “interested stockholder” for up to four years, unless certain conditions are met (such as, in some circumstances, approval by our board of directors before such person became an interested stockholder, or by both our board of directors and a supermajority of disinterested stockholders). Under the statute, an interested stockholder is a person who beneficially owns (or, if an affiliate or associate, did, within the prior two years, beneficially own) stock with 10% or more of the corporation’s voting power. The inability of an interested stockholder to pursue the types of combinations restricted by the statute could discourage, delay or prevent a merger, acquisition or other change in control of our company.
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Finally, a person acquiring a significant proportion of our voting stock could be precluded from voting all or a portion of such shares under Nevada’s “control share” statute (Sections 78.378-78.3793 of the Nevada Revised Statutes), which prohibits an acquirer of stock, under certain circumstances, from voting its “control shares” of stock acquired up to 90 days prior to crossing certain ownership threshold percentages, unless the acquirer obtains approval of disinterested stockholders or unless the issuing corporation amends its articles of incorporation or bylaws within 10 days of the acquisition to provide that the “control share” statute does not apply to the corporation or the types of existing or future stockholders. If the voting rights are not approved, the statute would allow us to call all of such control shares for redemption at the average price paid for such shares.
Our articles of incorporation designate a specific Nevada court as the exclusive forum for certain litigation that may be initiated by our stockholders, which could limit our stockholders’ abilities to obtain a favorable judicial forum for disputes with us or our directors, officers or employees.
Our amended and restated articles of incorporation require that (i) any derivative action or proceeding brought on our behalf, (ii) any action asserting a claim of breach of a fiduciary duty owed by any of our directors, officers or other employees to us or our stockholders, (iii) any action asserting a claim against us or our officers, directors or employees arising pursuant to any provision of Nevada law regarding corporations, mergers, conversions, exchanges or domestications, or our amended and restated articles of incorporation or amended and restated bylaws or (iv) any action asserting a claim against us or any of our directors, officers or other employees governed by the internal affairs doctrine, will have to be brought only in the Eighth Judicial District Court of Clark County, Nevada (the “Nevada Forum Provision”); however, such provision is not expected to apply to claims arising under the Exchange Act, or to any other claim for which the federal courts have exclusive jurisdiction.
Section 27 of the Exchange Act establishes the exclusive jurisdiction of federal courts located in the State of Nevada for suits brought to enforce any duty or liability arising under the Exchange Act. Therefore, the Nevada Forum Provision may not be upheld for claims arising under the Exchange Act. In addition, Section 22 of the Securities Act of 1933, as amended (the “Securities Act”), provides that federal and state courts have concurrent jurisdiction over lawsuits brought pursuant to the Securities Act or the rules and regulations thereunder. To the extent the Nevada Forum Provision restricts the jurisdiction for claims arising under the Securities Act to a Nevada court, there is currently uncertainty as to whether or to the extent such a provision would be enforced. Although we believe the Nevada Forum Provision benefits us by providing increased consistency in the application of Nevada law in the types of lawsuits to which it applies, the provision may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers or other employees, which may discourage lawsuits against us and our directors, officers and other employees. Alternatively, if a court were to find the Nevada Forum Provision to be inapplicable or unenforceable in an action, we may incur additional costs associated with resolving such action in other jurisdictions, which could harm our business, financial condition or results of operations. Any person or entity purchasing or otherwise acquiring any interest in our shares of capital stock shall be deemed to have notice of and consented to the Nevada Forum Provision, but investors cannot waive compliance with the federal securities laws and the rules and regulations thereunder.
We may issue shares of preferred stock in the future, which could make it difficult for another company to acquire us or could otherwise adversely affect holders of our Class A common stock, which could depress the price of our Class A common stock.
Our amended and restated articles of incorporation authorize us to issue one or more series of preferred stock. Our board of directors has the authority to determine the preferences, limitations and relative rights of the shares of preferred stock and to fix the number of shares constituting any series and the designation of such series, without any further vote or action by our stockholders. Our preferred stock could be issued with voting, liquidation, dividend and other rights superior to the rights of our Class A common stock. The potential issuance of preferred stock may delay or prevent a change in control of us, discourage bids for our Class A common stock at a premium to the market price, and materially and adversely affect the market price and the voting and other rights of the holders of our Class A common stock.
We are subject to securities class action litigation and may be subject to additional litigation in the future, which may harm our business and operating results.
We are, and may in the future become, subject to various legal proceedings and claims that arise in or outside the ordinary course of business. For example, in 2018, several putative class action complaints were filed against us, certain current and former officers and directors and certain underwriters of our IPO alleging federal securities law violations in connection with the IPO. In addition, certain lawsuits were filed against current and former officers and directors of Switch, Inc. alleging breaches of fiduciary duty, unjust enrichment, waste of corporate assets, abuse of control, and gross mismanagement. These plaintiffs also named Switch, Inc. as a nominal defendant. These lawsuits were brought by purported stockholders of Switch, Inc. and arise generally from the same allegations.
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We may be subject to similar lawsuits in the future. We may also be called on to defend ourselves against lawsuits relating to our business operations. Some of these claims may seek significant damage amounts due to the nature of our business. Due to the inherent uncertainties of litigation, we cannot accurately predict the nature or ultimate outcome of any such proceedings.
Regardless of their merits, these lawsuits or future lawsuits could subject us to substantial costs, divert resources and the attention of management from our business and harm our business, results of operations, financial condition, reputation and cash flows. These factors may materially and adversely affect the market price of our Class A common stock.
Substantial future sales of our Class A common stock, including such stock received upon redemption or exchange of Common Units, or the perception in the public markets that such sales may occur, may depress our stock price.
Sales of substantial amounts of our Class A common stock in the public market, or the perception that these sales could occur, could adversely affect the price of our Class A common stock and could impair our ability to raise capital through the sale of additional shares. As of February 1, 2022, we had 148,449,136 shares of Class A common stock outstanding and 95,773,471 authorized but unissued shares of Class A common stock that would be issuable upon redemption or exchange of Common Units.
All of the shares of Class A common stock held by our directors, executive officers and holders of substantially all of our outstanding common stock (including shares of Class A common stock issuable upon redemption or exchange of Common Units) may be sold in the public market, subject to applicable limitations imposed under federal securities laws. Sales of a substantial number of such shares or the perception that such sales may occur, could cause our market price to fall or make it more difficult for our stockholders to sell their Class A common stock at a time and price that they deem appropriate. We have entered into a Registration Rights Agreement pursuant to which the shares of Class A common stock issued upon redemption or exchange of Common Units held by the Members will be eligible for resale, subject to certain limitations set forth therein.
In the future, we may also issue additional shares of Class A common stock, or securities convertible or exchangeable for shares of Class A common stock, to raise capital, which could constitute a material portion of our then-outstanding shares of common stock.
We cannot predict the impact our capital structure may have on our stock price.
In July 2017, S&P Dow Jones, a provider of widely followed stock indices, announced that companies with multiple share classes, such as ours, will not be eligible for inclusion in certain of their indices. As a result, our Class A common stock is not currently eligible for these stock indices. Many investment funds are precluded from investing in companies that are not included in such indices, and these funds would be unable to purchase our Class A common stock. We cannot predict whether other stock indices will take a similar approach to S&P Dow Jones in the future. Exclusion from indices could make our Class A common stock less attractive to investors and, as a result, the market price of our Class A common stock could be adversely affected.
We incur costs as a result of being a public company and in the administration of our complex organizational structure.
As a public company, we incur significant legal, accounting, insurance and other expenses, including costs associated with public company reporting requirements. We also have incurred and will continue to incur costs associated with the loss of our emerging growth company status and related exemptions from certain disclosure obligations, Sarbanes-Oxley Act and related rules implemented by the SEC that have not been reflected in our historical consolidated financial statements for periods prior to the IPO. We also incur ongoing periodic expenses in connection with the administration of our organizational structure. The expenses incurred by public companies generally for reporting and corporate governance purposes have been increasing. We expect these rules and regulations to increase our legal and financial compliance costs and to make some activities more time-consuming and costly, although we are currently unable to estimate these costs with any degree of certainty. In assessing these costs, we will take into account expenses related to insurance, legal, accounting, and compliance activities, as well as other expenses not currently incurred. These laws and regulations could also make it more difficult or costly for us to obtain certain types of insurance, including director and officer liability insurance, and we may be forced to accept reduced policy limits and coverage or incur substantially higher costs to obtain the same or similar coverage. These laws and regulations could also make it more difficult for us to obtain certain types of insurance and to attract and retain qualified persons to serve on our board of directors, our board committees or as our executive officers. Furthermore, if we are unable to satisfy our obligations as a public company, we could be subject to delisting of our Class A common stock, fines, sanctions and other regulatory action and potentially civil litigation. Our organizational structure, including our TRA, is complex, and we require the expertise of various tax, legal and accounting advisers
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to ensure compliance with applicable laws and regulations. We have incurred and will continue to incur significant expenses in connection with the administration of our organizational structure. As a result, our expenses for legal, tax and accounting compliance may be significantly greater than other companies of our size that do not have a similar organizational structure or a tax receivable agreement in place.
We may fail to maintain an effective system of internal control over financial reporting in the future and may not be able to accurately or timely report our financial condition or results of operations, which may adversely affect investor confidence in us and the price of our Class A common stock.
As a public company, we are required to maintain internal control over financial reporting and to report any material weaknesses in such internal controls. Section 404 of the Sarbanes-Oxley Act of 2002 (the “Sarbanes-Oxley Act”) requires that we evaluate and determine the effectiveness of our internal control over financial reporting and provide a management report on internal control over financial reporting.
The process of designing and implementing internal control over financial reporting required to comply with Section 404 of the Sarbanes-Oxley Act has been and will continue to be time consuming, costly and complicated. If, during the evaluation and testing process, we identify one or more material weaknesses in our internal control over financial reporting, our management will be unable to assert that our internal control over financial reporting is effective at a reasonable assurance level. Even if our management concludes that our internal control over financial reporting is effective at a reasonable assurance level, our independent registered public accounting firm may conclude that there are material weaknesses with respect to our internal controls or the level at which our internal controls are documented, designed, implemented, or reviewed. If we are unable to assert that our internal control over financial reporting is effective at a reasonable assurance level, or when required in the future, if our independent registered public accounting firm is unable to express an opinion as to the effectiveness of our internal control over financial reporting, investors may lose confidence in the accuracy and completeness of our financial reports, the market price of our common stock could be adversely affected, and we could become subject to litigation or investigations by the NYSE on which our Class A common stock securities are listed, the SEC, or other regulatory authorities, which could require additional financial and management resources, and cause investor perceptions to be adversely affected and potentially resulting in restatement of our financial statements for prior periods and a decline in the market price of our Class A common stock.
Our ability to pay dividends on our Class A common stock is subject to the discretion of our board of directors and our debt agreements as well as future agreements.
Although we intend to pay quarterly cash dividends on our Class A common stock, the declaration, amount and payment of any future dividends on shares of Class A common stock will be at the sole discretion of our board of directors, and will depend upon results of operations, financial condition, contractual restrictions, restrictions imposed by applicable law and other factors our board of directors deems relevant. The continued operation and expansion of our business will require substantial funding. We are a holding company, and substantially all of our operations are carried out by Switch, Ltd. and its subsidiaries. Under our amended and restated credit agreement and indentures governing our senior unsecured notes, Switch, Ltd. is currently restricted from paying cash dividends or making certain other restricted payments, and we expect these restrictions to continue in the future, which may in turn limit our ability to pay dividends on our Class A common stock. Our ability to pay dividends may also be restricted by the terms of any future credit agreement or any future debt or preferred equity securities of ours or of our subsidiaries. Accordingly, realization of a gain on an investment in our Class A common stock may depend on the appreciation of the price of our Class A common stock, which may never occur.
Provisions of our articles of incorporation, limitations on director and officer liability and our indemnification of our officers and directors may have the effect of discouraging lawsuits against our directors and officers.
Our amended and restated articles of incorporation require that (i) any derivative action or proceeding brought on our behalf, (ii) any action asserting a claim of breach of a fiduciary duty owed by any of our directors, officers or other employees to us or our stockholders, (iii) any action asserting a claim against us or our officers, directors or employees arising pursuant to any provision of Nevada law regarding corporations, mergers, conversions, exchanges or domestications, or our amended and restated articles of incorporation or amended and restated bylaws or (iv) any action asserting a claim against us or any of our directors, officers or other employees governed by the internal affairs doctrine, will have to be brought only in the Eighth Judicial District Court of Clark County, Nevada. Although we believe this provision benefits us by providing increased consistency in the application of Nevada law in the types of lawsuits to which it applies, the provision may have the effect of discouraging lawsuits against our directors and officers.
In addition, our amended and restated articles of incorporation also provide, pursuant to Nevada corporation law, that a director or officer shall not be personally liable to us or our stockholders for damages as a result of any
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breach of fiduciary duty as a director or officer, except for acts or omissions which involve intentional misconduct, fraud or knowing violation of law. In addition, a director or officer will not be liable unless presumptions in his or her favor are rebutted. These provisions may discourage stockholders from bringing suit against a director or officer for breach of fiduciary duty and may reduce the likelihood of derivative litigation brought by stockholders on our behalf against a director or officer. In addition, our amended and restated articles of incorporation and bylaws require indemnification of directors and officers to the fullest extent permitted by Nevada law.
General Risks
Uncertain economic environments may have an adverse impact on our business and financial condition.
An uncertain economic environment, such as that which prevailed during much of 2021, may have an adverse effect on our business and financial condition. While we believe we have a strong customer base, if market conditions change, some of our customers may have difficulty paying us and we may experience losses in our customer base and reductions in their commitments to us. We may also be required to make allowances for doubtful accounts and our results would be negatively impacted. Our sales cycle could also be lengthened if customers reduce spending on, or delay decision-making with respect to, our services, which could adversely affect our revenue growth and our ability to recognize revenue. We could also experience pricing pressure as a result of economic conditions if our competitors lower prices and attempt to lure away our customers with lower cost solutions. Finally, our ability to access the capital markets may be severely restricted at a time when we would like, or need, to do so, which could have an impact on our flexibility to pursue additional expansion opportunities and maintain our desired level of revenue growth in the future.
Our business and those of our customers and suppliers may be adversely affected by epidemics, pandemics or other outbreaks, including the COVID-19 pandemic.
The effects of epidemics, pandemics or other outbreaks of an illness, disease or virus are uncertain and difficult to predict. The global health crisis caused by the COVID-19 pandemic and its resurgences has and may continue to negatively impact global economic activity, which, despite progress in vaccination efforts, remains uncertain and cannot be predicted with confidence. In addition, new highly transmissible variants are spreading globally. Our customers’ businesses could be disrupted by the COVID-19 pandemic, which would affect their ability to make payments to us, and our revenues could be negatively affected. Additionally, global economic disruptors like COVID-19 could negatively impact our supply chain and cause delays in the construction or development of our data centers due to disruptions in the supply of materials, issuance of permits, or products or the inability of our contractors to perform on a timely basis or at all. It may not be possible to find replacement products or supplies and ongoing delays could affect our business and growth.
The impact of variants cannot be predicted at this time, and could depend on numerous factors, including vaccination rates among the population, the effectiveness of COVID-19 vaccines against COVID-19 and any variant thereof, the response by governmental bodies and regulators, the severity of the disease or any variant, the duration of the outbreak, and the future impact to the business of our customers, partners and vendors. Given the ongoing and dynamic nature of the circumstances, it is difficult to predict the impact of the COVID-19 pandemic on our business.
Many countries around the world have continued to impose quarantines, restrictions on travel and mass gatherings and mask mandates to slow the spread of the virus. Such events may result in a period of business and equipment supply disruption, and in reduced operations, any of which could materially affect our business, financial condition and results of operations. In response to COVID-19, we implemented remote working and employee vaccination requirements and thus far have not experienced a significant disruption or delay in our business operations. Such government-imposed precautionary measures may have been relaxed in certain countries or states, but there is no assurance that more strict measures will not be put in place again due to a resurgence in COVID-19 cases, including those involving new variants of the coronavirus, which may be more contagious and deadly than prior strains. New developments, and any increased restrictions on operations, may adversely impact our results of operations.
These and other potential impacts of epidemics, pandemics or other outbreaks of an illness, disease or virus, including the COVID-19 pandemic, could have a material adverse effect on our business, financial condition and results of operations.
