Why Shares of GDS Holdings Surged Today

What happened

Shares of GDS Holdings (NASDAQ: GDS) jumped on Wednesday after the company denied claims made by a short-seller. Shares of the Chinese data center solutions provider had tumbled on Tuesday when a report from Blue Orca Capital was published that accused the company of reckless borrowing to enrich insiders.

GDS stock was up 14.1% at 3:25 p.m. EDT, but it’s still well below Monday’s closing price.

So what

Blue Orca claimed on Tuesday that “GDS is borrowing crippling amounts of debt to enrich insiders by acquiring data centers from undisclosed related parties which are not nearly as valuable as the Company claims.” At least 696 million Chinese renminbi (RMB) has been pushed to insiders by inflating purchase prices of acquisitions, according to the report. Blue Orca values GDS at just $4.32 per share, far below the current price around $25 per share.

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GDS issued a statement on Wednesday calling the allegations false and the conclusions incorrect. “We ask that our investors be aware that the Report reflects the opinions of an acknowledged short-seller, whose sole interest is in profiting from a decline in the price of the Company’s shares. I have full confidence in our management team and their abilities to continue to serve our customers without being distracted by these baseless allegations,” said GDS CEO William Wei Huang.

Now what

GDS does have a significant amount of debt. At the end of the first quarter, the balance sheet showed $1.2 billion of debt, including short-term debt, capital leases, and other financing obligations. The interest on that debt ate up almost all of the company’s gross profit in the first quarter. GDS posted a net loss of $13.7 million.

Regardless of whether Blue Orca is right, shares of GDS trade at a sky-high valuation. As of market close on Monday and prior to the report, the company was valued at about $4 billion. That’s more than 14 times trailing-12-month sales, despite interest costs that eat up more than 20% of revenue.

I don’t know if GDS is doing anything wrong. But I do know that I have absolutely no interest in owning this stock.

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Timothy Green has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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