Qutoutiao Inc.
Q1 2019 Earnings Call Transcript

Published: 21 May 2019

[Operator:]

Hello, ladies and gentlemen. Thank you for standing by for the First Quarter 2019 Earnings Conference Call for Qutoutiao Inc. At this time, all participants are in a listen-only mode. After management's remarks, there will be a question-and-answer session. Today's conference call is being recorded. I will now turn the call over to your host, Fionna Chen. Thank you. Please go ahead, Fionna.

[Fionna Chen:]

Thank you. Hello, everyone, and welcome to the first quarter of 2019 earnings conference call of Qutoutiao Inc. The company's financial and operational results were issued via Newswire services earlier today and are available online. You can also view the earnings press release by visiting the IR section of our Web site at ir.qutoutiao.net. Participants on today's call will include Mr. Eric Tan, our Co-Founder and Executive Chairman; Mr. Jingbo Wang, our Co-Chief Financial Officer; and Mr. Xiaolu Zhu, our Co-Chief Financial Officer. Before we continue, please note that today's discussion will contain forward-looking statements made under the Safe Harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements involve inherent risks and uncertainties. As such, the company's results may be materially different from the views expressed today. Further information regarding these and other risks and uncertainties is included in the company's prospectus and other public filings as filed with the U.S. Securities and Exchange Commission. The company does not assume any obligation to update any forward-looking statements, except as required under applicable law. Please note that Qutoutiao's earnings press release and this conference call include discussions of unaudited GAAP financial information as well as unaudited non-GAAP financial measures. Qutoutiao's press release contains a reconciliation of the unaudited non-GAAP measures to the unaudited most directly comparable GAAP measures. I will now turn the call over to my colleague, Sai Chi [ph] who will read the prepared remarks on behalf of Mr. Tan. Please go ahead.

[Unidentified Company Representative:]

Thanks very much for joining the call. I’m very pleased to our Chairman and CEO, Mr. Eric Tan and our CFO, Jingbo Wang here with us. And I will read Eric's comments on the business first.

[Eric Tan:]

Today, I’d like to share my thoughts on three subjects; the business, our team and organization and strategy for the rest of the year. First of all, I will provide some updates on the business. Our business continues to grow in the first quarter of 2019 with combined average DAUs reaching 37.5 million, representing almost a four-fold increase year-on-year. Our combined average MAUs have reached 111 million, also a four-fold increase from the same period last year. Compared to the previous quarter, our DAU have increased 21% and MAU increased 19%. For Qutoutiao, the focus in the first quarter of 2019 was to enhance user experience and optimize unit economics. We kick-started our Trusted Source Program which aimed at offering high quality and reliable information on key subjects such as health, fitness and parenting. For example, we invited doctors from reputable institutions onto live streaming to interact with users. We also encouraged more articles to debunk health myth. We started a distribution partnership with UFC, the Ultimate Fighting Championship, whose content very much appealed to our male users. We opened a dedicated mini video section to respond to the rapidly increasing user appetite for it and we will soon allow users to upload mini videos. To the improved user stickiness we have added social features to our applications such as following and tipping [ph]. We further reduced user engagement expenses on a per DAU per day basis without much impact on user stickiness and retention, which shows that our users stay for the white content and not so much for the monetary reward. Given the first quarter is a low season for ARPU we made the conscious decision to reduce the volume of user acquisition. Although this means that user growth will slow in a short term, it benefits the company from an ROI perspective. Moving on to Midu, based on QuestMobile data, Midu has consistently ranked number one in free literature apps in terms of DAU and was getting very close to the top paid for literature apps as of the end of April 2019. To enhance the value proposition of Midu, we established a strong in-house editor team and we’ll soon launch a proprietary platform to work directly with writers to produce original content. AI has played an important part in the success of Midu by dynamically recommending books to users and helping them explore new titles and genres. AI has been key as a user engagement and retention. In terms of new products, we have been testing a short video app for a few months. It has reached more than 1 million DAUs and user engagement and retention data have been promising. We are looking to further optimize the product and promote it to the wider market in the coming months. E-commerce wise, we have been exploring collaboration opportunities with Alibaba [ph], Alipay and JD and conducting feasibility tests. We are optimistic that over time it will make a meaningful contribution to the bottom line by either becoming a new revenue stream or if we let users exchange loyalty points for goods, it will reduce our engagement expenses. To further diversify our monetization, we are also exploring other avenues such as casual games and live streaming which currently generates a small amount of revenue, albeit rapidly growing. Secondly, there have been some new developments to management team and organizational structure. My partner Lei Li has resigned from the CEO position and will take on the new role of Vice Chairman of the board. Lei and I founded Qutoutiao together in June 2016 and we have worked very closely together day-in, day-out. Lei is a serial entrepreneur for many years and I totally understood when he said that he wanted to spend more time with his family. As Vice Chairman he will continue to provide important support and guidance to the company and I’m grateful for that. I will take on the CEO position and be fully committed to leading the company through its next stage of development. I will like to also introduce Mr. Xiaolu Zhu, our newly appointed Co-CFO. He has a lot of experience with the capital markets and the Internet industry having held senior management positions in various leading tech companies. He will be responsible for Investor Relations and capital markets related activities. Our CFO, Jingbo Wang, who is hosted this call with me today will be responsible for the overall financial management of the group. Our overall organization has expanded tremendously over the past two years and our headcount has grown from 200 then to 2,000 plus today. When a team is growing so rapidly, the biggest challenge is to maintain agility which has been important to our competitiveness from day one. Over the past quarter we have thoroughly gone through the various teams and functions we have and redesigned the structure. We are building a service-oriented architecture to make innovation faster and more cost effective. Many common functionalities are being made modular and their ongoing improvement will be leveraged by all the commercial and product units, hence avoiding reinventing the wheel and minimizing the lead time for app rollout, an improvement. We are also building full function teams incorporating personnel from commercial to technical so that there could be a comprehensive assessment of the task at hand, a swift decision process as to what needs to be done. This will make innovations easier, responses faster and decisions smarter. These internal organizational initiatives are key in determining the long-term competitiveness of our company even though it is hard to observe or to have a feel from the outside. Turning to strategy, in the long run I believe total mobile content is a constantly growing pie. We want to play an important part in offering people high quality mobile information and entertainment. In the near-term, however, we’re seeing some irrational competitive behaviors in the market that affect Qutoutiao. Certain competitors are burning through a lot of cash to ramp up user base without regard to return on capital. We have chosen not to join the crowd. Instead, we will take the opportunity to push through product improvement such as in-housing content recommendation algorithms and further developing social features. Our goal is to create an information and entertainment platform that has a unique value proposition and a user community which will give us a much stronger base to drive future growth. For me the focus for the rest of the year will be building content ecosystem and the strengthening social features. We will encourage interactions between readers and also between writers and readers such as commenting and discussing. Recently, we have also introduced the social-based user referral program to Midu which we believe will be a valuable addition to the growth and strategy of Midu at this stage. Our objective is for Midu to be the number one to see online literature platform by the end of the year if not earlier. We’re also facing a lot of challenges, notably the weaker than expected advertising market. The recent excess supply coming from various companies has put a lot of pressure on pricing. We believe for us the cure is technology. As we have operated our proprietary advertising platform for only slightly more than a year, our vetting system and targeting algorithms are not as fine-tuned as the established players but the flipside is that there is a lot of room for improvement. Recently, we are seeing encouraging results and we will continue to focus on growing and optimizing our app platform. This concludes Eric’s remarks. Now I will read the prepared remarks from our CFO, Jingbo.

[Jingbo Wang:]

We generated RMB1.1 billion revenues in the first quarter of 2019 which is typically the weak quarter of the year due to the seasonality of the advertising industry. Our e-commerce advertisers which contribute a significant percentage of our revenues tend to go through a quieter time. Meanwhile, our users tend to be less active and spend less time reading news and watching videos during this period into which the Chinese New Year falls. Therefore, we saw a sequential decline which was consistent with our expectation as well as the trend we saw in the first quarter of last year. On a year-on-year basis, our revenues are close to 5x higher driven by DAU growth and higher ARPU. Our ARPU which is defined as net revenues per DAU per day was RMB0.33 in the first quarter of 2019 compared to RMB0.48 in the fourth quarter of 2018 and RMB0.23 in the first quarter of 2018. The sequential decline was partly due to seasonal top line weakness partly due to the faster growth of Midu and new products which at their relatively early stage of development have lower than average ARPU. Turning to costs and expenses, I will focus on non-GAAP financial measures which exclude stock-based compensation. For the first quarter of 2019, our gross margin was 75.2% which was a 2% improvement year-on-year, although sequentially it has shown a contraction given the decline in top line. Our largest expense is sales and marketing which consists of three elements; user acquisition, user engagement and others. On a per DAU per day basis, our user engagement expense has seen meaningful improvement which has come down to RMB0.17 comparing to RMB0.20 in the fourth quarter of 2018. Among the many contributing initiatives is our individualized loyalty points mechanism which uses AI to vary the amount given to different people based on their sensitivity towards monetary reward. New products we have launched such as Midu do not offer loyalty points, so as they grow to constitute a bigger part of the overall business there will also be a positive mix impact. We expect to see further unit engagement cost reduction in the second quarter of 2019. As a percentage of revenue, our user engagement cost in the first quarter of 2019 were 52% versus 81% in the first quarter of '18 and 43% in the fourth quarter of '18. Given a seasonally weaker Q1, we dialed back user acquisition to protect ROI mainly on the Qutoutiao side where total new installations decreased 26% quarter-on-quarter. Overall, user acquisition costs per installation were RMB6.21, generally flat compared to the first quarter of 2018 and lower than the RMB6.57 in the fourth quarter of 2018. As a percentage of revenue, it was 60% in the first quarter of 2019 higher than the 56% in the fourth quarter of 2018, but meaningfully improved year-on-year from the 65% in the first quarter of 2018. Other sales and marketing expenses amounted to RMB33.8 million which was 3% of revenue compared with 4.1% revenue in the fourth quarter of 2018 and 6.7% in the first quarter of 2018. R&D expenses were 12.4% of revenue in comparison to 8.7% in the fourth quarter of '18 and 7.8% in the same quarter last year. This was the result of 20% absolute sequential increase in R&D spending as we have continued to invest in talent and our core technological capability which are key to our long-term competitive advantage. G&A expenses were relatively stable at 3.5% of revenue in line with history. Overall, our non-GAAP net loss were RMB618 million representing a net loss ratio of 55%, a significant improvement from a year ago which was 92%, albeit larger than the fourth quarter of 2018 mainly due to the seasonally weaker ARPU. Looking forward in terms of guidance based on our view of the market and operating conditions which are subject to change, we expect revenues to be between RMB1.38 billion to RMB1.42 billion for the second quarter of 2019, representing a 23% to 27% quarter-on-quarter growth or 187% to 195% year-on-year growth. ARPU will improve but it will take a little time before returning to the peak levels of last year, mainly as a result of the recent incremental supply in the digital advertising market which has had downward pressure on pricing. We expect the net loss ratio for the second quarter of 2019 to be lower than for the first quarter of 2019 as a result of the improving ARPU and our cost of discipline. Our balance sheet has remained strong with RMB1.6 billion cash, cash equivalents and short-term investments. This doesn’t include the US$171 million proceeds received from the convertible loan issuance to Alibaba and the US$31 million proceeds from issuing new shares in the follow-on share offering, both of which were received in early April. Thank you very much. We’d like to open up to questions. Operator, please proceed.

[Operator:]

Ladies and gentlemen, we will now begin the question-and-answer session. [Operator Instructions]. Your first question comes from the line of Zhijing Liu of UBS. Please ask your questions.

[Zhijing Liu:]

Hi, management. Thank you for taking my questions. I have two questions. Firstly, I see our second quarter revenue implies 4% to 7% increase over first quarter number. Does this weakness of revenue imply a guidance of four-year revenue target of RMB7.5 billion to RMB8.5 billion? Second question is how do you see the challenge from emerging competitors with the same model, say, short video app [indiscernible] and free reading apps like [indiscernible]? How do you expect those apps can impact our user gross and margin profile? Thank you very much.

[Jingbo Wang:]

Hi, Zhijing. Thank you for the question. This is Jingbo speaking. So on your first question, first of all I want to clarify that our guidance range for the second quarter of this year is 1.38 billion to 1.42 billion that represents q-on-q gross rate of 23% to 27%. So that’s still a pretty fast increase. And on the revenue guidance, I’d like to say that so far in 2019 in terms of the advertising market, the demand side has been a little soft and given the overall macro environment. On the other hand there has been a lot of incremental supply from various companies and therefore putting a lot of pressure on pricing. For the rest of 2019 I think there is still a lot of uncertainty on the overall – in terms of the overall market condition. But we are pretty sure that our own operating efficiency was steadily improved on the video platform side and also on the algorithm side. That will mitigate some of the pricing pressure. So with that being said, I think overall for the full year of 2019 we currently think revenue will fall in the range of RMB6 billion to RMB7 billion. That’s the first question. On the second question on competition, we do notice that presently certain products as you mentioned have been competing with irrational models, for instance, a short video app was already programmed similar to Qutoutiao is giving users significantly higher incentives while having almost no advertisement. And in some other examples we see free literature apps with also almost no advertisement. In our view these models are economically unsustainable and they will have to change or disappear. In fact, we saw very similar products in early 2018 last year which were going very rapidly at first and eventually it became pretty marginalized. As we already explained in the prepared remarks, we have chosen not to participate in such irrational competition at this point but rather to focus on optimizing our own products and user experience. Also these products will cause some temporary slowdown in our gross and put pressure on our margin in the short term. We believe as they pull back from such irrational behavior which is just a matter of time where we’ll be in a stronger position to take market share.

[Zhijing Liu:]

Okay. Thank you very much.

[Operator:]

Your next question comes from the line of Alicia Yap from Citi. Please ask your questions.

[Alicia Yap:]

Good morning, management. Thank you for taking my questions. I have two questions. The first is that you mentioned you’ll be starting proprietary writer program for Midu Novels. With that, how should we think about the content course and revenue share incentive? And my second question is can you elaborate more on Ali cooperation and when should we start to see some renewable synergies from the partnership? Thank you.

[Jingbo Wang:]

Okay. So Alicia for your first question, we believe the proprietary writer program as a platform is very important for its long-term value proposition and competitiveness of the Midu product and that’s why in the initial stage we intend to – we plan to build a few successful cases of writers joining the program and in order to track more writers to join and therefore we will be giving slightly higher revenue share to the initial writers. However, as our DAU continue to grow very rapidly we believe in the mid to long term, the content cost from the proprietary platform will be similar to the current level which is at about 20% of our revenue. That’s for the Midu product and not for the overall company level, because the revenue share for Qutoutiao is lower. So for your second question, our cooperation with Alibaba, I think there are mainly three aspects. Firstly on the advertising side, Ali has been the single largest advertiser for some time already and we are working very closely with Banma [ph] and Alipay to develop more native ways to drive user traffic to these platforms and this will bring additional revenue to us. Most recently Ali is already increasing their spending platform and it is already 70% higher compared with previous months. And secondly on the loyalty point redemption side, so we’re testing, allowing users to redeem their loyalty points for coupons or merchandize from Alibaba’s platform. This hopefully will further reduce user engagement experiences. Currently user engagement expenses account for more than 40% of our revenue and we hope the cooperation with Alibaba will help us to significant reduce that expense. And lastly on the content side, [indiscernible] is now already our largest contributor of short video content and Qutoutiao is one of the biggest distributor of [indiscernible] videos and we are also discussing with the various other businesses within Alibaba on the content side.

[Alicia Yap:]

Thank you.

[Operator:]

[Operator Instructions]. Your next question comes from the line of Hans Chung from KeyBanc Capital Markets. Please ask your questions.

[Hans Chung:]

Hi. Good morning management team. Thank you for taking my questions. So a couple of questions. One, so regarding the user acquisition costs, what’s the implication for the trend going forward? As we have mentioned, we may just pull back the user growth because of the irrational competition. And then should we think about the overall acquisition costs to be maybe lower than our previous forecast? And then secondly, what’s the trend for maintenance costs going forward? It seems like if we back out the Midu – if you just look at the Qutoutiao newsfeed, it seems like the maintenance costs per DAU per day remained flat quarter-over-quarter. So what should we think about the trend, like how much we can continue to lower from a per user per day perspective going forward? Thank you.

[Jingbo Wang:]

Sure. Give us one second. So in terms of the acquisition costs, I think you’re right. We are being very cautious in terms of how much we spend and the user we acquire. That would have some cost benefit and we expect in the second quarter the acquisition costs per user will be generally flat with the level you see in Q1. For mid to longer term I think that still depends on growth strategy in case we accelerate this growth, we might see the – you may see slightly increase. And in terms of the maintenance costs, first of all, the data is – in Q4 user maintenance costs per DAU per day for Qutoutiao alone was about RMB0.23 and in Q1 it is between RMB0.19 and RMB0.20. There is still quite a significant increase q-on-q. And for Q2 we see some further decline on the Qutoutiao side and also that will be further – was made to have no such expense. And for the slightly longer term we think the maintenance costs overall will continue to decline but it’s just not going to be an indefinite decline. It will stabilize at a level around RMB0.15 for this year. Hans, do you have other questions?

[Hans Chung:]

Sorry, I was on mute. So yes, actually just on the RMB0.13, it’s overall or Qutoutiao as only you just mentioned for the full year?

[Jingbo Wang:]

So that’s for the end of the year, not full year average. It’s RMB0.15 overall.

[Hans Chung:]

Okay, got it. Thank you.

[Operator:]

Your next question comes from the line of Xueru Zhang of 86Research. Please ask your questions.

[Xueru Zhang:]

Good morning, management. Thank you for taking my questions. I have some questions about your app business. So how do you see the current app sentiment changing from Q1 to Q2? And how should we think about the trend of our key advertising categories that we have into the rest of this year and what can we do to improve the app price for [indiscernible] Qutoutiao ad product? Thank you.

[Eric Tan:]

Sure. So normally Q1 is a weak season for advertising and we see a pretty significant improvement from Q1 to Q2. However, this year as we said in the prepared remarks the overall advertising market in China has been weaker than expected. So the recovery from Q1 to Q2 is not as significant as we previously expected. And in terms of the key advertising categories, overall speaking has been similar to previous quarters. Comparatively e-commerce has been stronger but the overall market pricing is still under a lot of pressure overall for all categories. So I think what we can do is really on the platform side, so we cannot control the market pricing but what we can do is to improve our own billing platform and also the targeting algorithm. In that regard we think we are in a better position compared with many competitors exactly because we are a younger platform. For a more mature platform they have been operating for a very long time. All the internal optimization has been pushed to the limit. So what affects their pricing is really the market. For us the optimization is far from perfect and therefore we think on optimization in the coming months we’ll make up a lot of shortfall from the market pricing pressure.

[Xueru Zhang:]

That’s very helpful. Thank you.

[Operator:]

Your next question comes from the line of [indiscernible] of TH Capital. Please ask your questions.

[Unidentified Analyst:]

Good morning, management. Thanks for taking my questions. My question is of Midu. Can management share more color about the MAU or DAU about Midu? At the same time can management share more color about Qutoutiao? Thanks.

[Eric Tan:]

So on Midu I would like to refer you to the question about data given this is difficult [ph] competition. So according to QuestMobile, the most recent data I think it’s 6.2 million DAU and close to 220 million MAU. The actual internal data is slightly – is a bit higher than that but that can be used as a reference. And we are seeing still pretty rapid growth on the Midu side. For the short Midu app, as we said, we have been testing that app for a few months. In Q1, DAU is more than 1 million and in Q2 it’s already significantly higher. But we don’t think the product is perfect at this point, so we are continuing to optimize that product and we will push that product to the wider market and also with more aggressive growth strategy in the coming months once the [indiscernible] becomes more fine tuned.

[Unidentified Analyst:]

Thank you.

[Operator:]

[Operator Instructions]. There are no further questions. Now I’d like to turn the call back over to the company for closing remarks.

[Fionna Chen:]

Thank you so much for joining today’s call. If you have other questions or concerns or comments, please don’t hesitate to reach out to the Qutoutiao IR team. This concludes the call. Have a good day.

[Operator:]

This concludes the conference call. You may now disconnect your lines. Thank you.