Earnings Call
VNET Group, Inc. (VNET)
Earnings Call Transcript - VNET Q3 2022
Operator, Operator
Hello, ladies and gentlemen. Thank you for standing by for the Third Quarter 2022 Earnings Conference Call for VNET Group, Inc. At this time, all participants are in a listen-only mode. After the management's prepared remarks, there will be a question-and-answer session. Participants from our management include Mr. Jeff Dong, Chief Executive Officer; Mr. Tim Chen, Chief Financial Officer; and Ms. Xinyuan Liu, Investor Relations Director of the Company. Please note that today's conference call is being recorded. I’ll now turn the call over to the first speaker today, Ms. Xinyuan Liu. Please, go ahead.
Xinyuan Liu, Investor Relations Director
Thank you, operator. Hello, everyone, and welcome to our third quarter 2022 earnings conference call. Our earnings release was distributed earlier today. And you can find a copy on our IR website as well as our Newswire services. Please note that the discussion today will contain forward-looking statements made under the Safe Harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from our current expectations. For detailed discussions of these risks and uncertainties, please refer to our latest annual report and other documents filed with the SEC. VNET does not undertake any obligation to update any forward-looking statements, except as required under applicable laws. Please also note that VNET's earnings press release and this conference call includes the disclosure of unaudited GAAP financial measures, as well as unaudited non-GAAP financial measures. VNET’s earnings press release contains a reconciliation of the unaudited non-GAAP measures to the unaudited GAAP measures. As a reminder, this conference is being recorded. In addition, a webcast of this conference call will also be available on our IR website at ir.vnet.com. I will now turn the call over to our CEO, Jeff.
Jeff Dong, CEO
Thank you, Xinyuan. Good morning and good evening, everyone. This is Jeff. It’s a great pleasure to meet and speak with all of you today. I’m deeply honored to take on the role of CEO and excited to explore the great opportunities and prospects ahead for VNET. I look forward to leveraging my cross-industry expertise and working closely with our talented team to drive the company's dual core growth strategy and cement our commitment to delivering sustainable long-term value to our shareholders. I'd like to start with an overview of our third quarter performance against the backdrop of the mounting macroeconomic headwinds. We remain focused on fulfilling market demand for high-quality and reliable additional services. By the end of the third quarter, we had grown total cabinet on the measurement to 82,660 from approximately 65,300 one year ago, and same time cabinet utilized by customers increased sequentially by 1,027 to approximately 45,530 compared to approximately 38,300 one year ago. As a result, overall utilization rate remained flat at 55.1% as compared with the end of June. In addition, our retail MRR for the company went up to RMB 9,287 in the third quarter, compared with RMB 9,186 in the previous quarter. Our third quarter financial results reflect healthy progress in our wholesale and retail business, as well as our effective execution of our dual-core strategy. Our net revenues for the third quarter increased by 16.3% year-over-year to RMB 1.814 billion and adjusted EBITDA reached RMB 455 million. Today's world is preparing for digital transformation as a new norm for business. To thrive in this new era, digital transformation is paramount, as we witnessed at the 20th National Congress of the CPC. The central government's support for this transformation is part of China's high-quality growth trajectory, with policy guidelines fueling technological innovation and digital development across a wider spectrum of industries in place. We are excited to say that the digital infrastructure sector is at the forefront of this broad-based digitalization and believe that it will further fill the market demand for data center services. As a leading player in the IDC space, we are ideally positioned to capture this burgeoning demand and unleash new growth potential going forward. Despite a challenging and volatile near-term macro environment, we see long-term demand remains strong, with fundamentals surrounding cloud and digital transformation intact. In response to the short-term headwinds, we plan to adopt a more prudent approach to our capital delivery for the fourth quarter. Therefore, we are further revising our 2022 full-year company delivery plan to the range of 8,000 to 9,000 from a previous range of 9,400 to 12,400. The current outlook factors in macro softness and lower moving and COVID-related restrictions. Now let's take a closer look at our progress across our business lines during the third quarter. On a wholesale basis, we continued to gain sales momentum. In the third quarter, we signed a new contract of approximately 15 megawatts with a leading cloud service provider in China to build a network infrastructure in the Yangtze River Delta region. Moreover, we recently once again extended our wholesale data center services contract with one of our largest existing customers, a leading social platform in China. This new order will generate capacity of approximately 33 megawatts. Since the launch of our wholesale business in 2019, we have established a strong presence in this market segment, accumulating a total constructed capacity in service or under MOU of 283 megawatts by the end of the third quarter. Our in-depth industry know-how, methodical resource management, and sophisticated engineering capabilities are key to our success in this sector. On the regional business front, we are pleased to help deliver growth amid a challenging macro environment highlighted by an expanding customer base and exciting progress in value-added service offerings. In the third quarter, several existing customers in automobile, financial services, online gaming, local services, and many other sectors expanded their orders with us. At the same time, we also attracted more new customers among financial institutions, healthcare service providers, and local service platforms. Furthermore, our value-added services continued to attract new prospects to our retail business. In the third quarter, we won several prestigious customers for our interconnectivity services, including a world-leading consumer electronics tech brand, a leading insurer in China, and a well-known restaurant chain operator in China. In particular, for this restaurant chain operator, we began to offer our in-house developed interconnectivity solution built on our innovative SD-WAN technology. In addition, this solution will successfully provide deployment of secure, flexible, and reliable connectivity across a customer's national network with more than 2,000 stores. We view this project as a milestone in the cloud market for our state-of-the-art SD-WAN technology, as well as a good starting point to roll out a solution into different verticals. Turning to our Blue Cloud business, we have continued to make progress on our cloud landing internal business. In the third quarter, we partnered with a leading international IoT automation company to manage its cloud-based product offerings accessible to customers in China and are providing operation and maintenance service accordingly. This process illustrates our remarkable value proposition in helping international technology companies find a more efficient and effective way to enter and expand into the China market. In addition, this quarter we're extending a cloud solution to emerging Chinese smart EV enterprises by developing an integrated and efficient supply chain management system, which is seamlessly tailored to the customer's auto parts procurement process and deeply integrated with other module-based solutions in digital infrastructure. Going forward, we aim to assess our presence in the automotive ecosystem and explore more industry-specific cloud business opportunities across a wide variety of verticals by leveraging our unique status in IDC technology and cloud services. Before I wrap up my remarks, I'd like to take a moment to celebrate our valuable partnership with Changzhou Hi-tech Holding Group, a subsidiary of the CL Changzhou Hi-tech Group. We formed a joint venture with a total investment of RMB 3 billion. The capital contribution from VNET will be up to RMB 700 million, joining both companies' resources and expertise. This new joint venture will pursue new opportunities to acquire, develop, and operate IDC projects across the nation. The JV’s initial pipeline offers potential acquisition targets that include a number of high-quality data center assets located in multiple megacity clusters in China, such as the Greater Beijing area and the Greater Bay Area. This partnership represents an important step towards extending our business horizon and strengthening our presence in the digital infrastructure sector. In summary, we see strong long-term demand and a bright future for IDC services in China, despite short-term macro turbulence. With our effective dual core strategy and competitive service offerings, we are well equipped to navigate near-term challenges and capitalize on future demand prospects. We will continue to execute prudently yet decisively, strategically positioning the company to capture rising opportunities as more industries further their digital transformation, creating long-term value for our shareholders along the way. Thank you everyone. With that, I will now turn the call over to CFO, Tim, to discuss our financial performance for the quarter and our business outlook.
Tim Chen, CFO
Thank you very much, Jeff. Good morning and good evening, everyone. Before we start the detailed discussion of our financials, please note that we will present non-GAAP measures today. Our non-GAAP results exclude certain non-cash expenses, which are not part of our core operations. The details of these expenses may be found in the reconciliation tables, including in our earnings press release. Please also note that unless otherwise stated, all the financials we present today are for the third quarter of 2022 in renminbi terms. We're pleased to report another quarter of results that reflect the effectiveness and agility of our dual core growth strategy in a challenging macro environment. We remain confident in our distinctive growth strategy, outstanding value proposition, and a powerful suite of service offerings, which empower us to capitalize on long-term prospects of the data center industry in China. Next, let me walk you through our third-quarter financial results. Unless otherwise specified, the growth rates I will be reviewing are all on a year-over-year basis. In the third quarter, our net revenue increased by 16.3% to RMB 1.81 billion from the same period last year, mainly due to increased customer demand for our highly scalable carrier and cloud neutral IDC solutions from both wholesale and retail IDC businesses, as well as the continued growth of our cloud business and VPN business. Gross profit was RMB 316.6 million in the third quarter of 2022, representing a decrease of 15.6% from the same period of 2021. Gross margin was 17.5% in the third quarter of 2022 compared to 24% in the same period of 2021. Adjusted cash gross profit, which excludes depreciation, amortization, and share-based compensation expenses, was RMB 707.7 million in the third quarter of 2022, an increase of 4.9% from the same period of 2021. Adjusted cash gross margin in the third quarter of 2022 was 39.0% compared to 43.2% in the same period of 2021. Adjusted operating expenses, which excludes share-based compensation expenses and compensation for post-combination employment in an acquisition, were RMB 275.1 million in the third quarter of 2022 compared to RMB 244.0 million in the same period of 2021. As a percentage of net revenues, adjusted operating expenses in the third quarter of 2022 were 15.2% compared to 15.6% in the same period of 2021. Adjusted EBITDA in the third quarter of 2022 was RMB 455.3 million, representing an increase of 1.1% from the same period of 2021. Adjusted EBITDA in the third quarter of 2022 excluded share-based compensation expenses of RMB 35.2 million. Adjusted EBITDA margin in the third quarter of 2022 was 25.1% as compared to 28.9% in the same period of 2021. Our net loss attributable to ordinary shareholders in the third quarter of 2022 was RMB 425.2 million, compared to a net profit of RMB 156.2 million in the same period of 2021. Basic and diluted loss were both RMB 0.48 per ordinary share, and both RMB 2.88 per ADS. Each ADS represents six Class A ordinary shares. Turning to our balance sheet, as of September 30, 2022, the aggregate amount of the company's cash, cash equivalents, and restricted cash was RMB 3.76 billion. Meanwhile, net cash generated from operating activities in the third quarter of 2022 was RMB 607.4 million compared to RMB 134.7 million in the same period of 2021. Our CapEx in the third quarter of 2022 was RMB 580.5 million. Moving to our financial outlook, we are maintaining our outlook for the full year of 2022, with net revenues expected to be in the range of RMB 7,250 million to RMB 7,550 million, and adjusted EBITDA expected to be in the range of RMB 1,800 million to RMB 1,950 million. This concludes our prepared remarks for today. Operator, we're now ready to take questions. Thank you.
Yang Liu, Analyst
Hey, hello, can you hear me? I have one question regarding the future CapEx plan. Given the company has already decided to set up a JV with a partner, how do we think about the future CapEx split or the stakes in the JV for the future expansion? I just have this question. Thank you.
Jeff Dong, CEO
Okay. In terms of the CapEx plans, I'll leave the question to Tim to address the cooperation with the Changzhou joint venture. I will highlight that, as per my discussion, we will take 35% of the equity interest in the JV structure with Changzhou, which is a kind of strategic partnership between us and Changzhou Hi-tech Holding Group, a subsidiary of a state-owned group. We form a joint venture with a total investment of RMB 2 billion. This joint venture will utilize both companies' resources and expertise to pursue new opportunities in the future to acquire, develop, and operate certain projects across the nation. For VNET, the JV's initial pipeline includes a number of high-quality assets located in the Greater Beijing Area and the Greater Bay Area, which is especially strategic for us since we have less exposure there. This partnership represents an important breakthrough in expanding our business horizon.
Yang Liu, Analyst
Can you hear me?
Xinyuan Liu, Investor Relations Director
Yes.
Tim Chen, CFO
Okay. So basically, for the second part of the question, I think you're asking a little bit in terms of the CapEx and how it might impact the CapEx split. The company is looking at its overall CapEx spend. Obviously, the markets are challenging at the moment on the offshore side. But I would stress that overall, VNET continues to enjoy very strong support from the local onshore renminbi banks, which is project financing and other forms of financing available to us. But we are looking at the overall CapEx and cooperation, such as this joint venture, are important ways for us to continue to be able to secure the resources necessary for our customers while perhaps moderating our cash spent on-site. So ultimately, the split between these types of ventures and VNET will depend on the target projects. So Jeff has talked about some of the areas we're focusing on with Changzhou. And for those types of projects, we would have a smaller share or split. But that scale is also capped. So I'd say keep watch over the space. But at the moment, it is a way for us to diversify our funding sources. Thank you.
Yang Liu, Analyst
My follow-up is that the company will not put all the new pipeline in the JV, right?
Tim Chen, CFO
That's correct. That's correct. There are targeted projects that will be put in, so not the entire pipeline.
Yang Liu, Analyst
Is there any overall strategy or rule, what is the thought on what type of project will be put in the JV and what will be done by VNET itself or partnered with other potential funding partners or other peers? Thank you.
Tim Chen, CFO
I'll tackle this as well. So Jeff just mentioned, sort of Greater Beijing area, Greater Bay area. So those are two areas that we're looking at specific projects with Changzhou in the JV. Obviously, that could expand, but there is a limited pool of capital there as well. So that's the initial focus. And there are already targeted projects that we're looking at with them. So when we have more details, we'll be sure to disclose those to the market.
Yang Liu, Analyst
Thank you.
Tim Chen, CFO
Most welcome.
Operator, Operator
Thank you. One moment for the next question. Our next question comes from the line of Edison Lee from Jefferies. Your line is open.
Edison Lee, Analyst
Hi, thank you very much for taking my question. My first question would be very much targeting Jeff, and I want to congratulate Jeff on becoming the CEO. But, Jeff, can you share with us your near-term objectives in this position, and maybe also your longer-term vision for the company. And I think it's important for investors to also find out what your KPIs are. Also, because there's a privatization deal going on right now, I think investors definitely would like to find out where the company is headed under your leadership. So that's question number one. Question number two is about the Changzhou JV. I understand that VNET is going to manage all the projects that will be acquired by this Changzhou JV. So I want to know operationally how those RDCs that will be acquired by the Changzhou JV will actually be integrated with VNET and how does that work? Thank you.
Jeff Dong, CEO
Okay, thank you. For the first question, I would like to see my short-term goal actually in a couple of areas. The first thing is the strategy; I will continue to stress our wholesale and retail dual core growth strategy. Second, I aim to improve our operations and optimize overall operations while diversifying our customer base. We will seek to attract new customers, such as those in financial institutions and emerging sectors like EVs. Another focus is restructuring our mid-office to improve efficiency as well. For the long-term, we will focus on cost control and acquiring quality EBITDA. As for your second question regarding the Changzhou joint venture, I think most people are interested in this part. I would say that the Changzhou cooperation is more about teaming up to identify certain assets, with a view toward debt restructuring on target projects. Going forward, we aim to leverage the Changzhou platform to extend our AUM and exposure, which is key to strategically positioning ourselves.
Edison Lee, Analyst
Thank you, Jeff. I'd like to follow up with another question, which is, will VNET be selling your existing assets into this joint venture?
Tim Chen, CFO
These are new projects, Edison. So we would not be selling our existing pipeline into this entity. So there are new projects being identified and targeted. Jeff talked about debt restrictions; these are also projects where perhaps there is an opportunity with the current owners of some of these projects. Thus, we are teaming up with someone with the financial firepower to be able to seize these opportunities.
Edison Lee, Analyst
I see. So let me clarify that. So it seems that the Changzhou transaction will focus on brownfield projects, and so that's why we continue to focus on greenfield projects. Would that be an accurate interpretation?
Tim Chen, CFO
The current targets yes, would be potentially brownfield or otherwise, yes. So less greenfield projects.
Edison Lee, Analyst
Okay, thank you.
Tim Chen, CFO
Thanks, Edison.
Operator, Operator
One moment for the next question. Our next question comes from the line of Sara Wang from UBS. Your line is now open.
Sara Wang, Analyst
Hi, thank you for the opportunity to ask questions. So I have one question. I noticed that we have revised down the cabinet delivery plan. So what's our latest cabinet budget for this year and next year? And also, as Jeff just mentioned, cost control is one of the long-term targets. So I'm just wondering if there's any timeline for VNET to achieve positive free cash flow or self-financing? Thank you.
Tim Chen, CFO
Hey, Sara. Can you hear me?
Sara Wang, Analyst
Yes.
Tim Chen, CFO
Okay. Good. I'll take this one. So your first question was on cabinet delivery. We are, as we mentioned, revising our cabinet delivery into the range of 8,000 to 9,000. The outlook for the rest of this year into next year has already factored in the overall macro softness we’ve seen, as well as some slower moving and COVID-related construction delays. But those are, I would say, less of a factor but still a factor in terms of shifting perhaps this year into next. In terms of our outlook for 2023, we'll give some more color in the fourth quarter, but we're expecting that next year's delivery will be similar to this year, perhaps a little bit better. What was your second question, Sara?
Sara Wang, Analyst
So as cost control is one of the long-term targets, I'm just wondering if there's any timeline for VNET to achieve self-financing or positive cash flow.
Tim Chen, CFO
So I think overall, if you look at our financing plans, there are a couple of things we're focused on. One is on the CapEx side, and obviously, we're managing our cash out. I would say that we're increasingly selective with our CapEx. We continue to have very strong support from domestic banks onshore financing. Then we also explore alternative financing, such as the Changzhou cooperation, as well as onshore restructures. We expect to see our billable cabinets continue to increase. Given all these factors, we are probably targeting 2024 to achieve positive cash flow. I think next year will still be quite challenging, especially as we're looking at a range of RMB 3.5 billion to RMB 4 billion in CapEx, but again, some of it can be moderated through these cooperations.
Sara Wang, Analyst
Got it. Thank you.
Tim Chen, CFO
Most welcome.
Operator, Operator
One moment for the next question. Our next question comes from the line of Ethan Zhang from Nomura. Your line is open.
Ethan Zhang, Analyst
Oh, sorry. Thanks. My question is, I noticed that our third quarter EBITDA margin declined by three percentage points compared to Q3 of last year. Could management provide some breakdown or quantitative impacts of different macro factors that affected our EBITDA margin? Additionally, what is the outlook for the EBITDA margin for next year? Thank you.
Tim Chen, CFO
Hi, Ethan. It's Tim here. In terms of the overall EBITDA margin, the company has been working quite hard on controlling costs, as we have seen costs like utilities and others rise during the year. However, we've managed to moderate that with some cost controls and deferrals for the third quarter. Regarding next year's expectations, we expect that margin compression will flatten out. However, it will depend on the continued ramp-up of the business and if there are no further changes to our underlying cost of sales. We'll provide more details in the fourth quarter as we conclude this year.
Ethan Zhang, Analyst
Got it. Thank you.
Operator, Operator
Thank you. One moment for the next question. Our next question comes from the line of Alex Wang from Daiwa. Your line is open.
Unidentified Analyst, Analyst
Yes. Can you hear me?
Tim Chen, CFO
Yes, very clear.
Unidentified Analyst, Analyst
Okay. It’s a question from Daiwa. So the first two questions. First, can you provide an estimate of the CapEx for all our aggravating unfinished projects?
Tim Chen, CFO
Sure. Let me take your second question first. In terms of repayments, we have a small outstanding convertible note that's coming up next year, first half, around U.S.$70 million. Then our next maturity bump will be our $600 million in CD. This is something we've started planning for, which we'll be tackling in 2023. Now regarding your second question about the CapEx for our existing unfinished projects within our pipeline for the next three years: I probably won't be able to give you precise guidance. We have several of these Changzhou-types of projects under discussion. What I can tell you is that for next year, we're likely looking at a CapEx similar to this year, plus the remaining deliveries for this year, and preparations for next year's deliveries. We're awaiting the completion of some new MoUs, and once we secure those, we'll need to adjust our projections.
Unidentified Analyst, Analyst
Okay. Thank you.
Operator, Operator
Thank you. That's all the time we have for the Q&A today. Ladies and gentlemen, that concludes our conference for today. Thank you for participating. You may now disconnect. Everyone have a great day.