21Vianet Group, Inc. (VNET) is one of the largest data center operators in China. The rising demand for data centers to host a wide range of servers to support the connectivity needs of a work-from-home culture has driven the stock to a 158.5% gain over the past year. Also, the stock’s recent inclusion in MSCI’s equity indices has helped it to gain 11.6% year-to-date.
VNET’s relatively consolidated operating region in a highly competitive Chinese market could restrict its growth, however. And rising concerns regarding its growth potential and recent downgrade in consensus EPS estimates have led to a 2.6% decline for the stock over the past month.
So, here’s what we think should drive the stock’s performance in the near term:
Limited Growth Potential
Moody’s recently published its periodic review report on VNET, giving its stock a B2 Corporate Family Rating. The company’s extensive data center operations show promise. However, its relatively limited scale, revenue concentration and increased investment requirements in the data center business have constrained its ratings.
Strained Inter-Country Relations
Highly contentious U.S.-China relations are expected to hold back the momentum of VNET’s ADRs. The Holding Foreign Companies Accountable Act. passed last December, requires Chinese entities listed on American exchanges to follow the United States’ auditing standards when publishing periodic financial results. Chinese companies have a long history of keeping their books private. This could lead to potential delisting of VNET’s stock from American exchanges.
The recent delisting of three Chinese companies from the NYSE sets the tone of the strained U.S.-Sino relations. Moreover, the increased potential of a crackdown on China by the Biden administration on several grounds is worrisome.
Premium Valuation
In terms of forward p/e, VNET is currently trading at -21511x. The company’s forward price/ sales of 7.01x is 69% higher than the industry average 4.15x. Its forward price/ cash flow and ev/EBIT ratios of 574.49 and 116.21, respectively, are significantly higher than industry averages.
Weak Profitability
VNET’s trailing 12-month return on equity and return on total assets are -39% and -9.07%, respectively. Its net income and levered free cash flow margins are also negative. The company’s trailing 12-month gross profit margin of 22.73% is 52.6% lower than the industry average 47.95%.
Despite generating $666.97 million as revenues over the past year, the company failed to report net profits. Its trailing 12-month net income is negative $251.89 million, while its trailing 12-month leveraged free cash flow is negative $121.79 million.
POWR Ratings Reflect Bleak Outlook
VNET has an overall rating of D, which equates to Sell in our proprietary POWR Ratings system. The POWR Ratings are calculated by considering 118 different factors, with each factor weighted to an optimal degree.
It has an F grade for Quality and D for Value. This is justified, given the stock’s negative profitability ratios and premium valuation.
Of the 80 stocks in the C-rated Technology – Services industry, VNET is ranked #62. Click here to check out additional POWR Ratings for Growth, Momentum, Stability and Sentiment here.
Check out the top-rated stocks in the Technology – Services industry here.
Bottom Line
VNET is a renowned data center operator in China. However, we think its weak fundamentals and limited market reach could curb the company’s growth, making its current valuation unsustainable. Thus, VNET is best avoided now.
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VNET shares were trading at $38.65 per share on Tuesday morning, down $0.07 (-0.18%). Year-to-date, VNET has gained 11.42%, versus a 4.19% rise in the benchmark S&P 500 index during the same period.
About the Author: Aditi Ganguly
Aditi is an experienced content developer and financial writer who is passionate about helping investors understand the do’s and don'ts of investing. She has a keen interest in the stock market and has a fundamental approach when analyzing equities.
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