My Thoughts on GDS and XIRR Update

 


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There is a broad imagination space brought about by the convergence and rise of the new economy and China's policy support. Large scale neutral data centers that is expanding rapidly through stable financing should have a long term positive outlook in China. Whenever we think about version 2 of ecommerce(decentralization), social apps(Douyin) or Enterprise software(Kingdee) we always think of more data, not small gradual increment but an increase by ten to twenty folds. 

Due to high barriers to entry, few supply/participants, the competition is not so fierce. Ideally, supply drive demand, therefore, companies in the market have strong pricing power, no need to lose profit margins to compete for customers. Leading companies, have resources and first-mover advantages that other competitors do not have, unable to copy. Therefore, even in the context of economic downturn or macro uncertainty, they can achieve more stable growth relative to the market

Why do data centers have this kind of potential?

1) High growth track, high certainty. China's current data center situation is optimistic due to 5G transformation + new infrastructure policies + rapid growth in online data traffic driven by the epidemic = continuous and stable data center demand. Global data volume will increase by more than 5 times from 2018 to 2025, compound growth rate of about 26%, China will achieve faster growth than the world, From 2018 to 2025, the compound growth rate of data volume will reach 30.4% , this means with the improvement of operational efficiency, EBITDA growth rate will be higher than revenue end, ideal conditions can be 40%+.

2) Low core supply, data centers with scarcity are mainly concentrated in first-tier cities or cloud service company headquarters, because of the need for high-speed data transmission(Like games, video requires high data transmission speed), data centers that are too far away will affect data reception time. therefore, in 2019, the data center resources in Beijing, Shanghai and Guangzhou accounted for about 65% of the national share. Data centers in first-tier regions are subject to policy supervision, Beijing, Shanghai, Shenzhen and other places have strict restrictions on cabinet indicators and energy consumption standards. The supply of land is low, lead to scarcity of data centers. Therefore, in the fast development track, IDC supply is less in first- and second-tier cities, supply drive demand. So the industry has a shelf rate(A mature data center can reach 90%+) Provide a moat for the leader to maintain a high profit margin.

3) High barriers to entry, needs a large amount of initial capital investment. China is still in the stage of rapid development of data centers, data center continues to be acquired through projects, self-built network, achieve economies of scale to consolidate the leading position. So it has not yet achieved a positive net profit. Due to the large upfront capital investment, they are unable to achieve profit in 3-5 years, leading to extremely high barriers to entry in the data center industry. The listed leader has better financing capabilities and channels, can integrate the market, consolidate and increase its market share.

4) Long-term income stability and stable cash flow. Data center, can be understood as high-end low-risk commercial real estate + high-tech track. Customers are technology companies and cloud service providers. From the existing mature business model. After the construction phase, investment in datacenters is to enjoy the rent, fees are long-term contracts, and compared with traditional commercial real estate, they are not subject to violent fluctuations in the business cycle, good cash flow.

5) Beneficiaries of the epidemic and policy support, China's data center scale ranks second in the world, but only 10% of the U.S. So there is huge room for growth. At the same time, data centers as beneficiaries of the epidemic, home office, online class, online demand such as cloud services has boosted the future capex of future technology companies and cloud services(Tencent Cloud, Ali Cloud). Given strong policy support(vs traditional real estate), it has substantially reduced the financing cost of the data center, further enhance the profitability of the data centers.

I recently took a tiny stake in GDS(HK:9698), its around 1.66% of my port and will continue to add if there is any price correction. 

GDS is is a leading developer and operator of high-performance data centers in China. The Company’s facilities are strategically located in China’s primary economic hubs where demand for high-performance data center services is concentrated. GDS also build-to-suits and operates data centers at lower-tier locations selected by its customers in order to fulfill their broader requirements. The Company’s data centers have large net floor area, high power capacity, density and efficiency, and multiple redundancy across all critical systems. 

GDS is carrier and cloud-neutral, which enables customers to access all the major PRC telecommunications networks, as well as the largest PRC and global public clouds which GDS hosts in many of its facilities. GDS offers colocation and managed services, including direct private connection to leading public clouds, an innovative service platform for managing hybrid clouds and, where required, the resale of public cloud services. The Company has a 19-year track record of service delivery, successfully fulfilling the requirements of some of the largest and most demanding customers for outsourced data center services in China. The Company’s customer base consists predominantly of hyperscale cloud service providers, large internet companies, financial institutions, telecommunications carriers and IT service providers, and large domestic private sector and multinational corporations.

It is the number one king of China's data center, it has a tier 1 city layout, located in Beijing and Shanghai and Guangzhou. The scale of data centers in the three cities and surrounding areas accounted for 30%, 29%, 24%, consistent with the distribution structure of the number of IDC racks nationwide in 2019(27% in Beijing, 25% in Shanghai and 14% in Guangzhou respectively). GDS has the fastest growth rate(In the next three years at least 40% + growth rate vs industry 30%), the best quality first-tier city layout(Beijing, Shanghai, Guangdong, Chengdu, Hebei, Kunshan, Jiangsu). Their customers breakdown, 72.6% are cloud service providers, 14.3% are Internet companies, 13.1% are Financial institutions and other large enterprises, Alibaba, Tencent and Huawei are also a reliable big customers of GDS.

Financing cost is an important factor to distinguish data centers. GDS secured the largest shareholders STT(ST Telemedia) and Hillhouse Capital investments totaled $505 million and has obtained credit from China CITIC Bank. It has been favored by international first-line capital in the past, it seems that money is not a problem. As long as it can continue to deliver result.

GDS 4 years top line CAGR of 33.3% and EBITDA of 68.6%. It has a market cap of around 19.6bil USD. Lets compare GDS with its American competitors.

1)Equinix market cap 67bil USD, 4 years top line CAGR 7.77% and EBITDA of 10.05%.

2)Digital Reality market cap 40.7bil USD, 4 years top line CAGR 9.89% and EBITA of 7.46%

As you can see all the established US data centers are at least double or quadruple GDS's market cap but yet have an extremely low CAGR relative to GDS. US has a population of around 331mil. China's middle class alone is already more than 700mil.

Do note that even though carrier neutral data centers are theoretically good long term track, there are risk involve such as restriction of capex leading to slow expansion, core customers reducing demand due to sanctions, strategic needs or fraud etc.

Full disclosure, I have vested interest in GDS and it is currently up 7.24%

Snap shot of my portfolio performance as of today: Total profit for 2021: S$78,984.05 due to 11% price increase for Chanjet and 37% price increase for Inspur today.




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