Massive Expenditures!
In the arena of cloud computing, the financial plans of the international giants Microsoft, Amazon, Google, and Meta have made headlinesNotably, Microsoft has announced an astonishing intention to invest approximately $80 billion into the construction of AI-dedicated data centers by the year 2025.
This monumental investment underscores a critical aspect of the burgeoning AI industry: the insatiable demand for computational power, which is intrinsically linked to the performance and capacity of data centers.
Among the various costs incurred, hardware expenses, particularly pertaining to servers, dominate the landscapeAccording to projections, the global market value of AI servers is estimated to reach around $205 billion in 2024, soaring to approximately $298 billion by 2025, representing an impressive growth rate of 45.37%. This striking trend presents a wealth of opportunities for AI server manufacturers, particularly in China.
Prominent players in the Chinese AI server market include Inspur Information, H3C (a subsidiary of Unisplendour Corporation), Huawei, Sugon, ZTE, and Foxconn Technology Group, each carving out a niche in this competitive landscape.
But who among these AI server companies has the potential to rise above the rest?
To analyze this, we set aside Huawei (as a non-public entity) and focused on two key metrics: profitability and growth potential.
1. Profitability Analysis
Profitability is assessed from two perspectives: product profitability and capital profitability.
First, we scrutinize product profitability by examining the gross profit margin and net profit margin across these companies.
The companies can be categorized into three tiers based on their gross profit margins
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Leading the pack is ZTE, boasting a remarkable gross margin of approximately 40%. This is primarily attributed to its extensive suite of telecommunications equipment offerings beyond mere server products.
In the second tier are Sugon and Unisplendour, although their margins diverge significantly, with Unisplendour showing a declining trend in recent years.
The third tier, consisting of Inspur Information and Foxconn, exhibits gross margins falling short of 10%. While Foxconn can reasonably justify its low margins as a global ODM manufacturer, Inspur, despite being a market leader, struggles to demonstrate a distinct advantageThis indicates that the structural costs associated with AI components impact profitability considerably.
Additionally, the net profit margins of these firms present varying narratives.
Surprisingly, Sugon has outperformed ZTE to claim the title of the company with the highest net profit marginSugon has established a comprehensive value chain in its "cloud core" technology and has benefitted from the profitability of its affiliate, Haiguang Information.
Conversely, ZTE's relatively high research and development expenditure, roughly 20% of revenues, has somewhat diluted its profit.
In comparison to Foxconn, Inspur's higher cost structure results in an even lower net profit margin.
Unisplendour emerges as the least favorable performer in terms of profitability, hampered by inefficient expense management relative to its many subsidiaries.
Next, capital profitability, or return on equity (ROE), serves as another crucial measure of a company's comprehensive profitability.
Data shows that both Foxconn and ZTE are at the forefront, aligning closely with the standard benchmark of 15% ROE, representing different business models; ZTE focuses on product profitability, while Foxconn is more turnover-driven.
In addition, Sugon maintains stable but modest ROE numbers; on the lower end, Unisplendour and Inspur show insufficient ROE figures despite high leverage levels.
2. Growth Potential Analysis
Given that the AI server segment is still in its growth phase, evaluating growth potential involves analyzing revenue growth and free cash flow growth.
For historical revenue growth, examining the performance from 2020 to 2023 reveals that Sugon, ZTE, and Inspur have demonstrated solid growth, especially Sugon, which has maintained double-digit increases in revenue and net profit
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However, it’s important to note that some of this profit boost is attributable to non-recurring government subsidies or tax incentives.
As such, analyzing the growth of net profit excluding these effects offers a clearer picture of a company's growth trajectoryUsing this refined metric, Inspur's performance declines markedly.
Furthermore, assessing revenue growth during the first three quarters of 2024 allows for a snapshot of current growth trajectoriesRemarkably, bolstered by the rapid advancements in AI and its strong ties with major internet enterprises like Alibaba and Baidu, Inspur has reported substantial increases in server demand in early 2024, catalyzing significant revenue growth.
By the third quarter of 2024, Inspur's revenue and net profit exhibited year-on-year growth rates of 72.26% and an astonishing 169.00%, substantially outpacing its competitorsA significant increase of about 60% year-on-year in accounts receivable reflects a robust expansion in orders.
It’s worth noting that as a global ODM manufacturer, Foxconn's substantial size naturally results in milder revenue growth ratesAdditionally, currency exchange fluctuations pressure profit growth, impacting performance metrics.
The other three companies’ revenue growth remains comparatively tepid, revealing a potential deficiency in market competitiveness, particularly against the backdrop of the internet cloud server sector.
It is well-known that the primary downstream markets for servers encompass internet services, telecommunications, and finance, with the internet sector alone comprising a larger share than the combined demands from telecommunications and finance.
As of 2023, in China's server market, market shares are distributed as follows: Inspur 21.8%, Unisplendour 4.3%, Sugon 4.1%, with ZTE holding the top position specifically in the telecommunications server market.
On the subject of free cash flow growth, analyzing this alongside revenue growth can provide insight into the quality of a company's growth while neutralizing seasonal revenue impacts
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