Earnings Call Transcript - VNET Q3 2021

Operator, Operator

Good morning and good evening, ladies and gentlemen. Thank you, and welcome to VNET Group, Inc’s Third Quarter 2021 Earnings Conference Call. At this time, all participants are in a listen-only mode. We will be hosting a question-and-answer session after management's prepared remarks. With us today are Mr. Samuel Shen, Chief Executive Officer and Executive Chairman of Retail IDC; Mr. Tim Chen, Chief Financial Officer; and Ms. Xinyuan Liu, Investor Relations Director of the company. I’ll now turn the call over to the first speaker today, Ms. Liu, IR Director of VNET Group, Inc. Please go ahead, ma'am.

Xinyuan Liu, Investor Relations Director

Hello, everyone. Welcome to our third quarter 2021 earnings conference call. Our earnings release was distributed earlier today and you can find a copy on our website as well as on newswire services. Please note that the discussion today will contain forward-looking statements made under the safe harbor provision 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 obligations to update any forward-looking statements except as required under applicable law. 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, Samuel.

Samuel Shen, CEO

Thank you, Xinyuan. Good morning, and good evening, everyone. Thank you all for joining us on our earnings call today. Despite regulatory uncertainties, we delivered a milestone financial performance this quarter achieving historical highs for both revenue and adjusted EBITDA, with both figures exceeding the high-end of our guidance. Our results demonstrate the strong momentum we have generated through the execution of our dual-core strategy. By leveraging our integrated strengths in both wholesale and retail IDC services, we were able to unlock additional demand from the ongoing migration towards digitalization and capitalize on more growth opportunities across diverse industry sectors. Since 2019, we have implemented our dual-core growth engine strategy, utilizing our foresight on market trends and our competitive edge in providing carrier-neutral and cloud-neutral IDC services. By executing the strategy, we have continuously expanded our market reach and diversified our customer base to better position ourselves from managing the regulatory changes spanning across various industry sectors. We successfully expanded capacity while driving significant improvement in utilization rate for our ramp-up and newly-built cabinets. We added 2,388 cabinets on a net basis during the third quarter. Utilization rate for our ramp-up and newly-built cabinets increased by 5.5 percentage points to 34.7% and compound utilization rate remains stable at around 60%. With our track record of success over the last three quarters, we are confident in our ability to continue delivering strong operating results and expect to achieve our full-year target of delivering 25,000 standard cabinets and a compound utilization rate of 60% in 2021. Now, let me provide more detailed business updates for the third quarter. As companies across the nation continue their migration towards digitalization, we have seen growth in overall demand for IT infrastructure from both existing and new customers across all of our business segments. For our Wholesale business, we achieved healthy momentum as some of our Internet and cloud service customers increased cabinet utilization to serve their increasing data processing needs. Meanwhile, we also saw some new add-on orders from these customers for their business expansion. In terms of our Retail business, we continue to expand our client base across diverse industry sectors. We forged several notable new customer relationships during the quarter, augmenting their industry leadership and deepening their reach in their respective markets. For instance, in the third quarter, we began providing IDC services for China Chengxin Credit Rating Group, a leading credit rating agency in China, and Real AI, a leading enterprise-level AI security platform in China. At the same time, we continue to secure add-on orders from many of our existing customers. This includes Shiseido, the Japanese multinational cosmetic company; Liepin, a leading talent service platform in China; and Meiya, a healthy and beauty information sharing platform, just to name a few. Our customer base has become far more diverse, encompassing cutting-edge technology companies as well as companies from traditional industries, such as financial services, consumer goods, automotive manufacturing, home decoration, and many more. As we further diversify the customer base and industry verticals we serve, we not only actualize continuous service improvements but also better insulate ourselves from sector-specific market fluctuations and macro risks. Turning to our Cloud business. We have started to generate additional interest beyond our cooperation with Microsoft. Cegid, a global unified commerce and POS platform for specialty and luxury retailers, engaged us to assist with its cloud lending in China initiative. Going forward, we will continue to expand our cloud operations service offerings to attract more customers. Finally, I'd like to provide some updates on the progress we are making with our ESG initiatives. Sustainable development has always been at the core of what we do. As a result, our plans generally align with the recent regulatory announcements driving progress in energy efficiency. During the quarter, our Boxing data center in Beijing and Nantong data center in Jiangsu province were awarded the 5A Green Data Center rating at the 2021 Open Data Center Summit hosted by the Open Data Center Committee. This is the highest rating for environmental sustainability performance for data centers in China. At the Summit ceremony, our Foshan Data Center was also recognized with the Innovative Data Center for Carbon Emission Reduction award. We plan to remain at the forefront of green development through our continued effort and investment in energy efficiency, energy-saving technology, green management, and green innovation. In conclusion, by persistently executing our dual-core growth engine strategy, we were able to unlock additional demand from ongoing business digitalization, capitalize on more growth opportunities across diverse industry sectors, and achieve another quarter of solid financial performance. Going forward, we will further deepen our market penetration, diversify our sector coverage, broaden our customer base, and enhance our technological capabilities to capture the tremendous growth opportunity borne out of the rising tide of digital transformation. By maintaining a precise focus on our dual-core strategy execution, we should be able to further expand our market share and augment our leadership position in the carrier and cloud-neutral IDC sector. With that, I will now turn the call over to Tim Chen, our CFO, who will discuss our financial results for the quarter and his thoughts on our future growth. Hi, Tim.

Tim Chen, CFO

Thank you, Samuel. Good morning, and good evening, everyone. Before we start our detailed financial discussion, 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 included in our press release. Please also note that, unless otherwise stated, all the financial numbers we present today are for the third quarter of 2021 and in renminbi terms, while percentage changes are on a year-over-year basis. We delivered stellar revenue growth and improving operating margins in the third quarter, driven by our organic business development, dual-core growth engine, diversified customer base, and strong IDC market demand. Our net revenues and adjusted EBITDA rose by 25.3% and 22.2% respectively, both exceeding the high-end of our previously announced guidance range. Net revenues in the third quarter of 2021 increased by 25.3% to RMB1.56 billion from RMB1.25 billion in the third quarter of 2020. This increase was mainly due to increased customer demand for highly scalable carrier and cloud-neutral IDC solutions from both wholesale and retail IDC customers, as well as the notable growth of our cloud business. Gross profit in the third quarter of 2021 was RMB375.2 million, representing a year-over-year increase of 36.4% from RMB275.1 million in the same period of 2020. Gross margin in the third quarter of 2021 was 24% as compared to 22.1% in the same period of 2020. The year-over-year increase in gross margin was primarily attributable to our continued efforts in optimizing our operating efficiency. Adjusted cash gross profit, which excludes depreciation, amortization, and share-based compensation expenses, was RMB674.5 million in the third quarter of 2021, compared to RMB526.2 million in the same period of 2020. Adjusted cash gross margin in the third quarter of 2021 was 43.2%, compared to 42.2% in the same period of 2020. Adjusted operating expenses, which exclude share-based compensation expenses and compensation for post-combination employment in an acquisition and impairment of loan receivable to potential investees, were RMB244 million in the third quarter of 2021, compared to RMB180.5 million in the same period of 2020. As a percentage of net revenues, adjusted operating expenses in the third quarter of 2021 were 15.6%, compared to 14.5% in the same period of 2020. Adjusted EBITDA in the third quarter of 2021 was RMB450.4 million, representing an increase of 22.2% from RMB368.5 million in the same period of 2020. Adjusted EBITDA in the third quarter of 2021 excluded share-based compensation expenses of RMB4.6 million and adjusted EBITDA margin in the third quarter of 2021 was 28.9% as compared to 29.6% in the same period of 2020. Our net profit attributable to ordinary shareholders in the third quarter of 2021 was RMB156.2 million, compared to a net profit of RMB97.1 million in the same period of 2020. Basic profit and diluted loss were RMB0.18 and RMB0.03 per ordinary share respectively and RMB1.08 and RMB0.18 per ADS respectively. Each ADS represents six Class A ordinary shares. As for our balance sheet, the aggregate amount of the company's cash and cash equivalents, restricted cash, and short-term investments as of September 30, 2021 was RMB3.94 billion, increasing by RMB0.54 billion from December 31, 2020. Meanwhile, net cash generated from operating activities in the third quarter of 2021 was RMB134.7 million compared to RMB210 million in the same period of 2020. Looking forward, we will continue to execute our dual-core growth strategy and further diversify our customer base to capitalize on growing IDC market demand. We are confident in our ability to build on our leading position in the IDC market to deliver continued growth for our shareholders. For the fourth quarter of 2021, we expect net revenues to be in the range of RMB1.75 billion to RMB1.77 billion, and adjusted EBITDA to be in the range of RMB450 million to RMB470 million. For the full-year of 2021, we anticipate net revenues to be in the range of RMB6.19 billion to RMB6.21 billion, and adjusted EBITDA to be in a range of RMB1.74 billion to RMB1.76 billion. The midpoints of the company's updated estimates imply year-over-year increases of 28.5% and 32.2% in net revenues and adjusted EBITDA respectively. This forecast reflects the company's current and preliminary views on the market and its operational conditions, which do not factor any of the potential future impacts caused by the COVID-19 pandemic and are subject to change. This concludes our prepared remarks for today. So operator, we are now ready to take questions.

Operator, Operator

Thank you. We will now begin the question-and-answer session. Our first question comes from Yang Liu from Morgan Stanley. Please go ahead.

Yang Liu, Analyst

Thanks for the opportunity to ask a question. First, congratulations on the good results. I have two questions here. The first one is regarding the customer demand because we see quite unfavorable regulation towards most of your customers, especially on the wholesale side. Would you please share with us the demand outlook going into the fourth quarter and next year? Especially, we see the overall wholesale under MoU or – and service number stay at 230 megawatts this quarter. So I would like to hear what is your expectation in the wholesale sales momentum going into next quarter and the next year? The second question is do you see any risk on margin from the utility costs? Because with your liberalization of the industrial electricity in October, whether it will bring some margin pressure to VNET? Thank you.

Samuel Shen, CEO

Okay. Yang, thanks so much. This is Samuel. I may just take the first question and then – and see whether Tim you want to chime in to provide the comments for the second question. So first of all from the high-level perspective, there are several trends for investors and analysts to pay attention to. Number one, I would say the datasets. The datasets continue to double in an 18-month period. At the same time, I think COVID-19 accelerated enterprise digital transformation. So, more and more businesses or even their business models are moving from the pure physical world to both physical and digital worlds. So that's number one. Number two, the cloud adoption is becoming a standard practice for most enterprises. Unlike the rest of the world, which was predominantly served by three different cloud service providers, in China, we have more than a dozen cloud service providers providing services. What we've seen in China is a lot of dedicated cloud adoption, both from the on-ramp and off-ramp opportunities. The trend basically indicates that given the number of clouds in China, government policies, data sovereignty concerns, and total cost of ownership, many customers, when they start to adopt public cloud services, will consider dedicated cloud services as they grow their businesses. The third thing is the regulatory impact. As Yang mentioned earlier, China’s economy is highly regulated. Therefore, there are general concerns about government policy regulations on platform companies and some vertical impact and power tariff. From our point of view, however, kudos to our dual-core strategy because we already have a long track record from an operational standpoint. We also have a very comprehensive service offering and plus our diversified customer base. So from our standpoint, we are bullish about the demand in the quarters to come. That being said, we also want to be cautious about potential regulatory impacts. But net-net, I would say we are optimistic about the upcoming quarters and we will be ready to meet customer needs. For the second question, Tim, do you want to provide your input?

Tim Chen, CFO

Yes. Sure, Samuel. Yang, thanks for the second question. I think the second question related to power tariffs. To date, there have been no increases in power tariffs. There have been some power control measures. But as you correctly pointed out, there is an expectation that some tariffs will increase in 2022. In terms of the impact on the overall business, I would say the impact on the wholesale side of the business will actually be limited. These are mainly pass-through costs, or the utilities are paid directly by the customer. For our retail customers, a number of our contracts have automatic adjustment clauses. For the rest, we expect to have those discussions during the normal course of business, and adjustments will be made upon renewal. These are shorter contracts. Just like an increase in tax or any other basic costs of providing a service, these are things that we fully expect will be pass-through. So again, we're expecting very limited impact on our margins in relation to potential tariff increases in China.

Yang Liu, Analyst

Thank you, Sam, and thank you, Tim.

Tim Chen, CFO

Thank you.

Operator, Operator

Our next question comes from Edison Lee at Jefferies. Please go ahead.

Edison Lee, Analyst

Hi. Actually, this is Edison. Hi. Congratulations on the results. I have two questions. Number one is on your CapEx. So you're guiding 2021 CapEx of RMB1.8 billion roughly. I think previously you were talking about potentially RMB5.5 billion. So can you explain why it has come down so much from your previous soft guidance? And my second question is on your retail MRR. Can you explain why it has been pulling up? Because I think the year-on-year and quarter-on-quarter growth in 3Q was actually pretty big. So if you can talk about the trends and what investors should expect to see in 4Q and 2022, that would be great. Thank you.

Tim Chen, CFO

Sure. Well, I’ll take the first one, and then maybe Samuel, if you want to comment on the MRR part. So Edison, good morning to you. In terms of the CapEx, the question about what are the key drivers of the CapEx. For us, there are two parts. One is the delivery of the cabinets and as we deliver our data centers, there are CapEx-related expenses there. Then there's also another portion, which I would put in the securing resources for future years, whether that's 2022, 2023, or even beyond that, the land and the power resources related to those, including the power infrastructure and the build-out of that. So I would say for this year, as investors would know, we had more stringent delivery schedules in the second quarter and in the fourth quarter. We expect those to be areas where there would be a more substantial increase in CapEx. We did guide a general soft guide in terms of overall CapEx, but at the end of the day, it boils down to especially the second part, which is on the future resources for 2023, 2024, and beyond. There haven't been as many of those that have popped up. Also, we tried to factor in opportunistic M&A, and again, there hasn't been anything in the first three quarters of the year. We'll keep our investor base closely informed. We would expect to end up somewhere close to the total amount of CapEx for last year. But again, some of this could slip into January and then be addressed in the first quarter of next year. I hope that helps. I'll pass to Samuel on the MRR question. But before that, I would say that we have had related questions in previous quarters about fluctuations in MRR. I think some of it is product mix. But Samuel gave you a little bit more. So I would say, trend-wise, is something that we would encourage investors to focus on rather than quarter-to-quarter fluctuations. That's all. I’ll pass it to Samuel now.

Samuel Shen, CEO

Yes. Thank you, Tim. Yes. Thank you, Edison, for the question. I think that's an excellent question. As Tim pointed out, when investors and analysts look at our retail MRR, we wouldn't recommend looking at it quarter-by-quarter. But rather, over a half-year or year-over-year, you're going to see that number continue trending up, for sure. Part of the reason is that we're not just providing customers co-location services. We offer many value-added services on top of that, including networking bandwidth, value-added services in bare metals, and hybrid multi-cloud solutions. Especially today, hybrid multi-cloud has become the new norm. Many customers, not just from the Internet sectors, but also from different vertical industries are coming to us, requiring full-stack services. This gives us great opportunities because we have a large customer base, and since we have a full-stack service and a strong ecosystem, we can provide hardware, software solutions, and management-type services, with most activities happening within our data center. This allows us to glue them together and provide customers peace of mind, allowing them to focus on their business innovation. Part of our value-added services contributed significantly to our retail MRR this quarter. So hopefully, that addresses your question, Edison.

Edison Lee, Analyst

Okay. Yes. That's good. Thanks, Samuel and Tim.

Tim Chen, CFO

Thanks, Edison.

Operator, Operator

Our next question comes from Tina Hou at Goldman Sachs. Please go ahead.

Tina Hou, Analyst

Hi, management. Thanks for the time. So I have two questions. The first one is that actually in the third quarter of last year's earnings call, management laid out a plan to add 25,000 cabinets each year in 2021, 2022, and 2023. I’m wondering if we are at this point still maintaining that guidance. If yes, maybe because we're at the end of this year now, I think we probably already have some insight into the type of resources that we have secured next year. So wondering if you could share some of that information with us. The second question is a follow-up to a previous analyst’s question. So looking at your fourth quarter guidance, the implied EBITDA margin is around 26%, which is lower by about 2 percentage points year-over-year and quarter-over-quarter. I’m wondering, why is that? Thanks.

Tim Chen, CFO

Sure. Thank you. Thanks for the question, Tina. Let me take these two questions. First, on the 25,000 cabinet guidance. I would say, we provided that number, and I think going forward that number will change a little, but that's really a matter of projects being finalized. When you look at our mix of wholesale and retail customers, they have different power density requirements, so you'll end up with different numbers of cabinets. However, I would say that we maintained the 25,000 for next year as well. As for the resources secured for 2022, we have secured about 80% of the resources towards that 25,000 cabinet target for next year. In terms of margin and the reason for the reduction in margin in the fourth quarter, that’s really with the company deliveries that we have in the fourth quarter, resulting in the scale-up of costs to support cabinet delivery. Those costs will then be mitigated over time as those cabinets ramp up. We have many cabinets for delivery in the fourth quarter. So that's the main reason.

Tina Hou, Analyst

Thank you, Tim. So does that mean that our utilization rate in 4Q is likely to trend down as well?

Tim Chen, CFO

I would say we would still keep it around 60%, but there may be a small trend down, you're correct.

Tina Hou, Analyst

Okay. Thanks.

Operator, Operator

Our next question comes from Ethan Zhang at Nomura. Please go ahead.

Ethan Zhang, Analyst

Thanks for the opportunity for me to ask a question. My question is also around the utility cost. So I just wonder, what's the impact of the power restriction on our margin during the third quarter, and what's our outlook for the power supply situation for the fourth quarter and next year? I also want management to give us more view on our outlook for migrating to green power and our current penetration rate of the green power utilization? Thank you.

Tim Chen, CFO

Hi, Ethan. Let me take the first question, and then I'll take a stab at the second and see if Samuel has anything to add as well. In terms of the power control, those were some of the power control measures throughout parts of China. The impact on our IDCs or IDCs in general was that they had to burn diesel in the areas affected, but the impact on VNET was relatively limited and we don’t expect any long-lasting impacts. Regarding our outlook, we expect these power control measures to be largely eased as the government has been actively tackling issues around thermal coal supply and pricing. Again, we don't expect this to be a continuing trend or problem in terms of power control. As I mentioned before, there is an expected power tariff increases in 2022, but the impact on margins should be relatively limited given how the IDC business runs and our contracts with customers. Regarding green power, as of now, the ability to increase the proportion of green power is limited by the fact that we purchase power from the grid. Thus, we are actively addressing this while also complying with local requirements. We have not pursued building our own power generation, as we do not believe that is a core competency for VNET. Instead, we seek partners to help towards the country’s overall goals. Samuel, do you want to add anything to that?

Samuel Shen, CEO

Yes. A couple of things. Again, Ethan, thanks for the questions. I believe everyone knows that China strives to peak carbon dioxide emissions before 2030 and achieve carbon neutrality by 2060. From a renewable energy usage perspective, Tim, I think we can do well. We would generally increase the usage of renewable energy and ensure compliance with local requirements. However, because operators are limited to purchasing electricity from the grid, the percentage of renewable energy will vary based on the province and grid's own sourcing of renewable energy. For example, at our data centers, we currently have about 30% renewable energy usage, due to the Shanghai grid energy mix. That said, we continue to make efforts on improving our PUE because energy consumption in data centers is rising, and society is paying great attention to their environmental performance. Therefore, we will focus on optimizing our IT power, optimizing the data center space, cooling, and eliminating inefficiencies by utilizing tools like data center infrastructure management and AI-controlled air conditioning for more efficient operations. While partnering with the grid to adopt renewable energy, we will emphasize our PUE efforts. Hopefully, that answers your question, Ethan.

Ethan Zhang, Analyst

Okay. Thank you very much.

Operator, Operator

Our next question comes from Arthur Lai from Citi. Please go ahead.

Arthur Lai, Analyst

Hi. Good morning, Samuel and Tim. Congratulations to VNET and the whole team for delivering strong results even in the third quarter. We know that quarter three saw a lot of pickup from the power side. So I have two questions. The first question, I want to quantify the impacts from the power supply. We see your competitors reaching significant costs while using bigger power. I wonder if we also had a similar one-off cost. That's my first question. Thank you.

Tim Chen, CFO

Hi, Arthur. Yes, I would say that the power control did impact data centers needing to burn diesel. That said, it varied tremendously region-to-region and even data center to data center. So it was not a one-off impact, but not enough to materially affect EBITDA margin. Thankfully, we do not expect these power control measures to continue, as the government has seemingly tackled underlying issues surrounding thermal coal. So yes, I did see similar remarks from peers, but it didn't significantly impact us in the third quarter.

Arthur Lai, Analyst

Okay. Cool. Secondly, you mentioned that we should invest in AI-controlled AC and try to improve PUE. Can you also let us know how much or the scale of these investments and how we can see the results and when we can expect to see them?

Samuel Shen, CEO

Okay. I can tackle that question, Arthur. Essentially, as I indicated earlier, due to rising energy consumption in data centers, it is a significant topic. Currently, we operate over 32 data centers across the country. The beauty of AI control revolves around data-driven, machine learning-type technologies. In the past, we relied on labor for managing air cooling and air conditioning control. Now, we employ tools and systems. For example, Tencent is a solution we invested in. It’s something referred to by the industry as data center infrastructure management. It combines operational needs of physical IT equipment alongside the physical facilities, mainly building environment controls. This allows us to control air conditioning through data-driven techniques. We initiated this process with four pilot data centers, and as we have 32, we aim to iterate improvements. We anticipate rolling out these improvements across all data centers nationwide. Early results show promise, and I will share more updates in the coming quarters.

Arthur Lai, Analyst

Okay. Thank you. I do have some follow-up questions, but I will stand by for the queue and maybe ask later. Thank you.

Tim Chen, CFO

Thank you, Arthur.

Samuel Shen, CEO

Thank you, Arthur.

Operator, Operator

Our next question comes from an unidentified analyst at CICC. Please go ahead.

Unidentified Analyst, Analyst

Hi, management. Thank you for taking my questions. My question is regarding the acquisition of Tencent Cloud. How is the development of the cloud service business? Can you share the revenue and growth based on your cloud and IDC business? Thank you.

Samuel Shen, CEO

I can probably take the questions and definitely welcome Tim to chime in with additional input. Yes, I think early July, we announced that we acquired one of the leading cloud-native companies in China, Tencent Cloud. Tencent Cloud is working closely with our team to provide customers better solutions from a cloud-native perspective. Today, if we look at the whole industry, as I said earlier, cloud adoption has now become standard procedure for every single enterprise embarking on digital transformation. Based on faster trend analysis, it shows 30% of enterprises implementing digital transformation will adopt cloud-native technology, notably container-based microservices or even serverless computing. We're seeing growth in that trend as well. Ever since Tencent Cloud joined us, we’ve observed great synergy between the two, as we once had strong cloud migration solutions, primarily virtual machine-based. Now, with Tencent Cloud, we have additional coverage for cloud-native services. Unlike the cloud migration, which is more of a lift and shift with less re-architecture needed on the customer side, cloud-native solutions require customers to undertake re-architecture of their solutions to fully realize benefits. We’ve seen positive synergy from this acquisition. Based on the latest internal reviews, the revenue is on target to meet end-of-year expectations, but we don't provide breakdown numbers for specific value-added services, so I don't have any detailed numbers to share. I'm not sure, Tim, if you have any additional input?

Tim Chen, CFO

Yes, Samuel. I'd add that while we don't provide breakdowns of the respective value-added services within the retail enterprise piece, as this is a relatively recent acquisition, it is additive to our overall business and we expect it to become an increasing part of the value-added service solution set for our customers. So again, it will be a driver of MRR growth and help solidify our business position even further for our end customers. Thank you.

Unidentified Analyst, Analyst

Okay. Thank you.

Operator, Operator

Our next question comes from Clive Cheung from Credit Suisse. Please go ahead.

Clive Cheung, Analyst

Hi. Thank you, management for taking my question. My question is also on power. I think, Tim, mentioned earlier that a portion of the future utility costs can be passed through to the customers. Can I get a sense of what portion of current existing contracts have these pass-through clauses? That's number one. And number two, for those that do not have these pass-through clauses, what is the strategy? With the price hike uncertainty for next year, are we looking to renegotiate with these customers? At what point will we evaluate resigning and re-negotiating with them? Thank you.

Tim Chen, CFO

Sure. Let me take the first part, and I know Samuel has some live examples in terms of customer strategy too. Overall, you can assume that all wholesale contracts have either a pass-through mechanism or the utilities are paid directly by the customer as I mentioned earlier. For our retail enterprise customers, it varies significantly. Generally, longer contracts will have adjustment clauses, while shorter contracts may not have automatic adjustments. Those will be discussed upon renewal. Ultimately, like tax or other basic service costs, these are non-discretionary costs that we expect to be passed through. As for how that discussion works regarding renegotiation or renewal, I’ll let Samuel elaborate.

Samuel Shen, CEO

Yes. As Tim pointed out, if we break down by customer taxonomy for wholesale, that’s a pass-through. For the retail, where there is potential for one to three-year contracts with building clauses, negotiating with customers is usually straightforward. For the retail contracts, even in the first year, we include clauses for unforeseeable reasons allowing us to engage in discussions with customers when contracts are due. So, our balance is on customer experience versus margin. If the issue becomes material, we’ll engage customers. The conversations are typically easy since the cost elements are non-discretionary and therefore quite transparent. We haven't seen any impact on our customer discussions regarding this.

Clive Cheung, Analyst

Okay. Thank you very much. That's very clear.

Tim Chen, CFO

Thank you.

Samuel Shen, CEO

Thank you, Clive.

Operator, Operator

Our next question comes from Albert Hung from JPMorgan. Please go ahead.

Albert Hung, Analyst

Yes. Hi, management team. Thank you for taking my question. My first question is your peers commented that it is getting more difficult to get power quotas for new expansions. I'm wondering whether you see a similar trend. If so, what will be the alternative way to grow top-line in the future? My second question is a follow-up on the 25,000 cabinet addition commentary for next year. I wonder if there’s any slowdown in the moving rate and how fast the local VNET expansion point can mitigate margin impact. Thank you.

Samuel Shen, CEO

Okay. I will take the power quota question and then...

Tim Chen, CFO

I will take the second part, Samuel.

Samuel Shen, CEO

For the power quota question, it is true that it would be an overarching statement. China's economy is highly regulated, and given the fact that the government has a national policy driving to peak carbon dioxide emissions before 2030 and achieve carbon neutrality before 2060, acquiring power quotas can vary by location. The good news is that we have a long history in this industry, over 25 years. We have credible clients with significant workloads. Kudos again to our dual-core strategy; thus, despite challenges in obtaining power quotas, we believe we can continue moving forward to get what we need. So, while it may be challenging, we are confident in our ability to secure them. Tim, do you want to take on the second part?

Tim Chen, CFO

In terms of part two regarding the 25,000 cabinets for next year and the adaptability to slowdown if there is a change in customer ramp-up, yes, we have’s the flexibility to adapt. If a customer needs their request sped up or delayed we have the capability to accommodate that. The focus remains on maintaining a 60% utilization rate to ensure we're not just building cabinets but also ensuring filling IDCs. We monitor multiple operational variables to ensure our investments generate returns for us and our stakeholders. I hope that answers your question.

Albert Hung, Analyst

Thank you. That's helpful.

Operator, Operator

Our next question comes from Guohan Wang at Daiwa. Please go ahead.

Guohan Wang, Analyst

Thanks, management for the opportunity to ask a question. I’m Guohan Wang from Daiwa Capital. We noticed that capacity ramp-up for mature IDC has seen an increase for those built before 2019 and 2020. I want to know the reason behind this ramp-up. Additionally, we know that due to power quota limitation in Beijing and Guangdong, does management foresee any potential acquisitions for high-quality access in Tier 1 cities in 2021 or 2022 considering the reduced CapEx for this year? I want to better understand our competitive strategy amid potential oversupply in certain regions due to emerging players entering the market in 2020 and 2021. Thanks.

Tim Chen, CFO

I guess the question was around a ramp-up of the mature cabinets utilization rate. I would say we continue to deliver cabinets, and as IDCs pass the two-year mark, you will see some small fluctuations in this regard. However, we have not seen a substantial difference in the ramp-up of our customers for these mature data centers. In relation to your second point on CapEx and competition, I would say our spending is primarily twofold. One concerns delivery of data centers along with associated power infrastructure. So, it relates to our current rollout. Meanwhile, we are also focused on acquiring land and resources for future growth. We account for ongoing competition, but primarily look for locations where demand is based on future trends. We want to avoid overly investing in locations without needed infrastructure or customer demand. Hence, our current spending reflects our strategic focus in this area.

Guohan Wang, Analyst

Thank you.

Operator, Operator

Thank you so much. Ladies and gentlemen, this will conclude our conference for today. Thank you all for participating. You may now disconnect.