Good morning, and good evening, ladies and gentlemen. Thank you and welcome to the 21Vianet Group's Second Quarter 2017 Earnings Conference Call. At this time, all participants are in a listen-only mode. We'll be hosting a question-and-answer session after management's prepared remarks. Before we begin, I will read the Safe Harbor statement.

This call may contain forward-looking statements made pursuant to the Safe Harbor provisions for the Private Securities Litigation Reform Act of 1995.

These forward-looking statements are based on management's current expectations and observations that involve known and unknown risks, uncertainties and other factors not under the company's control, which may cause actual results, performance or achievements of the company to be materially different from the results, performance or expectations implied by these forward-looking statements.

All forward-looking statements are expressly qualified in their entirety by the cautionary statements, risk factors and details of the company's filings with the SEC. 21Vianet undertakes no duty to revise or update any forward-looking statements for selected events or circumstances after the date of this conference call. With us today are Mr.

Steve Zhang, the company's Chief Executive Officer; and Mr. Terry Wang, the company's Chief Financial Officer. At this time, I would now like to turn this conference call over to Mr. Steve Zhang. Please proceed..

Thank you, operator. Good morning and good evening, everyone. Thank you for joining us for the earnings call today. Our business realignment continued to generate fruitful results in the second quarter of 2017.

Our core hosting and related services business continued its solid growth momentum during the quarter, as revenues increased by 11% year-over-year while our managed network service business continued to face competitive challenges and pricing pressure.

We continued to optimize this business by actively implementing various measures to control our costs and reduce expenses. Going forward, we will explore and evaluate strategic alternatives for our MNS business. Now let me update you on our core hosting and related services business which includes IDC, cloud and VPN services.

For our IDC business, we continued to see strong demand in this market driven primarily by increased computing power and the storage needs from the rights of big data, mobile Internet and Internet of Things.

For example, our enterprise clients are relying more and more on big data to support their business intelligence applications, which will create a lot of demand for computing and the storage capacity, resulting the need for more data centers.

To capture this growing demand, we’ll increase our data center capacity through a variety of channels including building cabinets ourselves and entering into strategic joint ventures. In the second quarter, we added 967 cabinets resulting in a total of 27,361 cabinets under management.

Our self-built cabinets which have higher gross margins increased by 1,453, at the same time our partner cabinets which have lower gross margins decreased by 486 in the second quarter. In addition, our hosting churn rate decreased from 0.48% to 0.24% this past quarter.

We were also able to expand our customer base in the second quarter through a new operation with the Payment and Clearing Association of China that operate an online payment clearing platform called WangLian, which clears payments made by non-bank third-party payment agencies such as AliPay and WeChat Pay.

Through this cooperation they have selected 21Vianet to host our servers in Beijing, Shanghai and Shenzhen. Furthermore, because of the growing popularity and usage of some of our client applications such as Elomar [ph] and the DB, we have seen increased demand for cabinet space from our existing client base.

In terms of our partnership with Warburg Pincus, as previously mentioned it is a long-term partnership and everything is progressing on track. During the second quarter, we almost completed transferring another one of the four high-quality data center assets into the initial joint venture.

In the long term, we still plan on reaching 80,000 to 100,000 cabinets within the next five to seven years to build out our digital real estate platforms.

Going forward, we want to expand our product offerings to include customized wholesale data center solutions as we expect this segment of the market to grow significantly and we want to be well positioned to capitalize on this trend. This past quarter, we continued our efforts in hybrid IT services to encompass all of our customer needs.

For example, by leveraging our partnership with public cloud providers and our strong technology advantages in cloud and data centers, we were able to deepen our business relationship with Xiaomi. For example, we strengthened our operation with both AliCloud and Tencent Cloud.

We now have fiber connectivity between 21Vianet data centers and those of Alibaba and Tencent. Those direct links allow us to offer more Internet security solutions to our clients with features such as Anti-DDoS. Moving on to the MNS business. In the past few years we have experienced increasing competition and pricing pressure.

I would like to give some more color on this current industry environment. For our Aipu business, it has become increasingly more challenging to compete in the last-mile fixed broadband industry since China Mobile entered this market.

China Mobile has issued a fixed line broadband license from MIIT [ph] in December 2013 and since then they have been employing aggressive strategies to gain market share from incumbent players such as China Telecom and China Unicom.

This has directly adversely affected our Aipu business as our subscribers have moved to cheaper more attractive plans offered by China Mobile. In the near term, we do not see any changes to this trend. For our CDN business, we have also faced increasing competition specifically from cloud providers such as AliCloud and Tencent Cloud.

They are taking aggressive measures to cut prices resulting in lower profitability for all CDN providers. This is causing a massive hiccup in the CDN industry. It’s also probably why [ph] providers being adversely affected.

Despite the unfavorable industry backdrop, we are moving forward with our restructuring plans as we implement strict cost control measures by reducing headcount and renegotiating various contractors, telecom operators to further optimize the network business. And we will continue to explore strategic alternatives for this business.

Overall, we are pleased with the solid results we achieved in the second quarter which once again demonstrates the effectiveness of our restructuring and the business realignment. I want to emphasize that we will continue to invest in our core based IDC business because of the strong demand from our existing and the prospective clients.

By focusing more on the core business, we have already seen robust business and the financial growth in this segment through improvements in our operating numbers, financial margins and cash flow. Going forward, we’ll continue our restructuring efforts and explore different strategic options and alternatives for the challenging MNS business.

With that, I will like to turn the call over to Terry, our CFO, to go through our financial results.

Terry?.

Thank you, Steve. First off, let me give you some financial highlights. Our total net revenues were RMB879 million, which met our guidance for the second quarter even though this was a decrease of 3.5% year-over-year, it represented an increase of about 2% quarter-over-quarter.

More specifically, revenues from our core hosting and related services increased by 10.9% year-over-year and 5.2% quarter-over-quarter even though we faced a challenging market conditions in our MNS business.

With our business realignment efforts we were able to control costs and reduce expenses resulting in improved profitability in the second quarter, our gross profit increased by 8.8% year-over-year to RMB188 million and our gross margins expanded to 21.4% from 19% a year ago.

Our adjusted EBITDA also increased to RMB108.6 million, a significant improvement year-over-year and an 8.3% increase quarter-over-quarter. Moreover, we intensified our cash collection efforts as a result of our accounts receivable decline sequentially and a year-over-year to RMB674 million as of June 30, 2017.

We were also able to generate RMB69 million of net cash from operating activities during the second quarter.

Going forward, we will remain committed to our business restructuring where we have continued to optimize our cost and expense structure whilst driving to revive our total revenue growth, I would like also to mention that we completed our three-year bond offering for US$200 million at an interest of 7%.

Given the challenging market conditions that we faced, we’re pleased with the final size and coupon, especially since we saw similar recent deals marquee pricing much higher or as much as slow smaller offering size. Now, let’s take a close look at our quarterly financial results.

Before I begin, I’d like to state that we will present non-GAAP measures today. Our non-GAAP results exclude certain non-cash expenses which are not a part of our core operations. The detail of these expenses may be found in reconciliation tables included in our press release.

Please note that all the financial numbers we are presenting today are in RMB and the percentage change is year-over-year, unless otherwise stated. Our net revenues were RMB879 million compared with RMB911 million in the prior year period and RMB862 million in the first quarter of 2017.

Net revenues slightly declined year-over-year due to the decrease in revenues from management network services which was partially offset by the increase in revenues from hosting and related services.

Net revenues from hosting and related services increased by 10.9% year-over-year to RMB743 million compared with RMB670 million in the prior year period and RMB707 million in the first quarter of 2017. The year-over-year increase was mainly due to the increase in revenues from our IDC and VPN business.

Our monthly recurring revenue for MRR per cabinets for second quarter was 8,311 compared with 8,366 in the first quarter of 2017. The decrease in monthly recurring revenue for cabinets was mainly attributable to lower bandwidth pricing. This quarter, we also began to disclose MRR for our hosting business.

Hosting MRR per cabinets for the second quarter was 7,697 compared to 7,746 in the prior year period and 7,598 in the first quarter. The main difference between hosting MRR and total MRR is that the latter includes revenues from CDN.

The net revenue from managed network services was RMB135 million compared with RMB240 million in the prior year period and RMB155 million in the first quarter of 2017. The year-over-year decrease was mainly due to increase in competition and the pricing pressure.

Our adjusted gross profit increased by 9.2% to RMB219 million compared with RMB201 million in the prior year period. Adjusted gross margin increased to 25% compared with 22% in the prior year period. Adjusted operating expenses decreased by 17.7% to RMB258 million compared with RMB313 million in the prior year period.

As a percentage of net revenues, adjusted operating expenses decreased to 29.4% compared with 34.4% in our prior year period. Sales and marketing expenses decreased by 15.1% to RMB71 million compared with RMB83 million in the prior year period. The decrease was mainly driven by a decrease in the third party sales commissions.

General and administrative expenses decreased by 10.1% to RMB139 million compared with RMB155 million in the prior year period. The decrease was primarily driven by a reduction in headcount. Research and development expenses were RMB43 million in the second quarter of 2017 compared with RMB33 million in the comparative period in 2016.

The increase was mainly driven by increase in research staff for our core data center business. Our adjusted EBITDA increased to RMB109 million compared with RMB15 million in the prior year period and RMB100 million in the first quarter of 2017.

Adjusted EBITDA margin increased to 12.4% compared with 1.7% in the prior year period and 11.6% in the first quarter of 2017. If we exclude bad debt provisions from our adjusted EBITDA, our adjusted EBITDA margin is 14.2% compared with 6.6% in the prior year period and 13.4% in the first quarter of 2017.

Adjusted EBITDA for our hosting and related services was RMB171 million compared with RMB108 million in the prior year period and RMB153 million in the first quarter of 2017.

Adjusted EBITDA for our MNS business was negative RMB63 million compared with negative RMB93 million in the prior year period and negative RMB52 million in the first quarter of 2017. Adjusted net loss narrowed by 20.1% to RMB84 million compared with RMB160 million in the prior year period.

Adjusted net margin in the second quarter of 2017 improved to negative 9.5% compared with negative 12.8% in the prior year period. Adjusted diluted loss per share for the second quarter of 2017 was RMB0.12 which represents the equivalent of RMB0.72 per ADS.

As of June 30, 2017, our cash and cash equivalents and short-term investment were RMB758 million equivalent to US$112 million. Now, let me provide you with our guidance for the third quarter of 2017. We expect our net revenues to be in the range of RMB860 million to RMB900 million compared with RMB968 million in the prior year period.

Adjusted EBITDA is expected to be in the range of RMB108 million to RMB122 million compared with RMB68 million in the prior year period. This concludes our prepared remarks for today. Operator, we’re now ready to take our questions.

Operator?.

[Operator Instructions]. Your first question is from Yang Liu from Morgan Stanley. Please ask..

Hi, Yang..

Good morning. Thanks for the opportunity to ask questions. I have two questions here. First is about MRR. Could you please share some update on MRR? We are glad to see that MRR start to stabilize sequentially and the hosting MRR increased sequentially.

What is the reason behind that kind of increase? Is it due to location mix or better competition, and how about the future outlook? The second question is on the guidance.

For the third quarter revenue guidance, could you please share more color on the divergence trend of hosting as the revenue guidance looks flattish quarter-on-quarter? And in terms of the full year guidance, given the current run rate, I see some downside to revenue guidance but upside to EBITDA guidance.

Will management revise the full year guidance? Thank you..

I will take the first MRR question and Terry will walk you through the guidance. As you mentioned, the MRR for our hosting business which is about the revenue we generate for our data center cabinets is roughly in the second quarter about 7,697 compared with 7,746 in the previous period and 7,598 in the first quarter.

The MRR for our hosting business has been relatively stable for the past six quarters. So it means we see stable environment for the data center business. And going forward we’ll focus roughly the same kind of stable MRR for the hosting business.

Terry, you want to talk about guidance?.

Okay. Thank you. Yang, I think that the guidance we gave to the third quarter guidance and if you look at the second quarter and the third quarter, relative flat. But I just want to point out even for the flat guidance but you can see our achievement in the second quarter versus the third quarter, two things I want to say. One is the revenue side.

As our MNS business decline from top line and even with the same guidance as revenue range but our hosting continues to grow. So our core business' revenue take a larger portion of the revenue pull [ph] top. The second point I want to make is the guidance for EBITDA.

The EBITDA, you can see how we see the quarter-over-quarter improvement from first quarter and second quarter. And third quarter, our guidance is pretty confident that we low – lower range is higher than our achieved second quarter.

So as a result and to answer the question you asked about the whole year guidance, I think we’re pretty confident that we can meet our whole year guidance. We don’t have any expectation to revise our new guidance – whole year guidance at this point..

Thank you..

[Operator Instructions]. We have a question from Stella Li from Citi. Please ask..

Hello, Steve and Terry. Thank you very much for this opportunity. I have three questions. The first one is about our MNS business. Just wonder if we have a guidance about when this business roughly may no longer continue to negatively affecting our revenue and EBITDA? The second question is about margins.

We see there are improvements in our both gross profit and also EBITDA margin. Just wonder how much more really there is that we can continue to increase this margin? The third question is about CapEx. Roughly what’s our CapEx expectation for third quarter and fourth quarter and what area are we going to spend the money? Thank you..

For the MNS business, as we stated, we are evaluating all the strategic options. And of course it’s our intention we want to find out some sort of solution to this as quickly as possible. And it’s our expectation certainly we’ll find a solution in the next three to six months.

For the margin improvement, the margin improvement was driven for our data center co-location business. It was driven by both revenue growth and our internal optimization, all the costing structure. For revenue growth, it was driven by both new customers and also the expansion of our existing customers.

Like I mentioned that in the third quarter we secured our contract with China Payment Clearing Association that’s mainly for payment clearing settlement for third party like AliPay and WeChat Pay settlement. We also got expansion contracts from DB and Elomar in the second quarter.

We also have signed contract with a lot of small to medium-sized Internet companies in the gaming industry in the big data industry. Another driver of our margin improvement in our core business is internal cost optimization. As we mentioned, we have reduced our inventory by close to 500 cabinets in the second quarter.

Those inventories were mainly partnered cabinets, because we are shifting more and more our customers’ contracts and others into our self-built data centers which have a higher margin versus the partner data centers. We are also implementing majors to internally optimize our utility usage to improve the efficiency in the operation of our data center.

All those measures are driving margin improvement. Going forward we see this trend will continue to drive both revenue growth and internal cost optimization. For the managed network service business, with rapid decline of revenue we are taking a lot of measures to renegotiate our various contracts to cut down the cost.

So we will see continual improvement and the stabilization in the margin for our network business. I think for CapEx looking forward in the third quarter and the fourth quarter is roughly about RMB100 million per quarter going forward and those are mainly for our new data center build up..

Let me add one thing. We have a joint venture with Warburg Pincus, so company’s strategy to move to sort of a tendency to asset-light to having investment for the land and building that we have, the joint venture to build for.

So going forward, our CapEx and if we look at the beginning of the year we gave to the Street, so this year the CapEx will be slower, will be smaller than what we’ll give to the Street beginning of the year, because of the strategy we changed with tape [ph] and asset-light approach..

Okay.

Is there a number guidance on roughly what’s the CapEx cite?.

CapEx guidance – and the beginning of the year we gave the Street that it’s about 600 million. But this year actually at this point, as Steve mentioned, and going forward and its couple of quarters and 100 million a quarter roughly. So this year approximately it’s about 400 million CapEx.

So that will be lower than what we gave out at the beginning of the year..

I see. Just follow-up questions on our joint venture with Warburg Pincus. You mentioned that the JV will be responsible for building the data centers and hence there will be lower CapEx at our side.

But then at the JV level when they are spending those CapEx and then when the JV incur additional debt or liability, do we provide certain guarantees for those kind of debts?.

No, because the JV is – in our opinion is well funded. It will have about RMB1.2 billion equity and I think the JV is roughly 50-50 split between us and Warburg Pincus. I think it has the necessary financing for all the new data center build up for going forward..

Okay.

So the JV will be responsible for their own funding and we don’t expect to provide any funding assistance for them?.

Yes..

Right, understand. Thank you very much..

[Operator Instructions]. We don’t have any questions as of the moment. Please continue..

Once again, thank you all for joining us today. Please don’t hesitate to contact us if you have any other further questions. We look forward to talking with you in the coming quarters. Thank you..

Thank you..

Ladies and gentlemen, that does conclude our conference for today. Thank you for participating. You may all disconnect..