Cheetah Mobile Inc. (CMCM) Q3 2016 Earnings Report, Transcript and Summary

Good day. And welcome to the Cheetah Mobile Third Quarter 2016 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation there will an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Helen Jing Zhu, IR Director. Please go ahead.

Thank you, operator. Welcome to Cheetah Mobile’s third quarter earnings conference call. With us today are Mr. Fu Sheng, CEO and Mr. Andy Yeung, CFO. Following management’s prepared remarks we will conduct a Q&A session. Before we begin, I refer you to the Safe Harbor Statements in our earnings release, which also applies to our conference call today, as we will make forward-looking statements. At this time, I would now like to turn the conference call over to our CEO, Mr. Fu Sheng. Please go ahead, Fu Sheng.

Thanks, Helen. Hello, everyone. We are delighted to report solid financial result for the third quarter of 2016. This result was driving by solid performance of our comps utility products which continued to produce steady growth and steady profitability. More importantly, our content child product, namely Live.me and News Republic continue to gain popularity in the third quarter, especially in the US market. Our content strategy is to connect our massive user base namely over 6 million MAUs with more personalized content. We are confident that our content strategy was strengthening our user experience, user engagement and provide a new growth engine for Cheetah Mobile. Firstly, our utility app continued to provide solid revenue growth and steady and growing profitability. According to App Annie, Clean Master has remained number one in the US tool application category. Our MAUs for core utility apps remained strong in key developer market despite our reduced promotional activities for our utility apps, driving by the solid performance of this utility products, total revenue – total revenues resumed sequential growth. In addition to our mobile and overseas revenues hitting all time record high in the quarter. Notably, mobile revenues accounted for 8% total revenues, and overseas revenues accounted for 4% this quarter. Additionally, we aim to further improve the profitability of our utility products in the coming quarters as the segment continues to mature. In fact, our overseas – our overall utility app segment had steady and growing profit margins, excluding our investment in the content driving product, non-GAAP operating margin were exceeded 28% in the third quarter. This solid performance of our utility product gives us tremendous financial and operational leverage to continue funding our investment in new content driving products. Secondly, our content driving product Live.me and News Republic continue to gain popularity, particularly in the US market. Our initial success in content driving app is a important step for Cheetah's Mobile content strategy, continue our users with personalized content through our utility apps. Live.me is a popular live gaming app in the US and has made significant progress since launch in April. According to App Annie's October data, Live.me was a number growth in social app in the US on Google Play and it was ranked as one of top five social app in Apple App Store. The apps was rated 4.5 out of 5 of both Google Play and Apple App Store showing users strong support and approval for this platform. Most Live.me users are under 25 years old. The enjoy sharing videos of their activities, life style and general attitude. Therefore we are working to build Live.me into our social community that enable more users to generate more content across the platform, and make new friends with other users with similar interest and habits. In the meantime, we will continue to experience – experiment with the brand monetization models, including the ones that are proving - growing to be successful in China. For News Republic, we recently launched an upgraded version that will deliver new content that are more personalized to its users and this has further enhanced user experience, user engagement and the time spent on the app. Similar to Live.me, News Republic continue to deliver robust result in US. According to App Annie, News Republic maintained its top three news app ranking in the US on Google Play in October with our over 600 million users and is the big data generates by our massive user base we are able to – we were able to deliver more personalized and richer content to all of our users. So we have begun to deliver personalized news content to some of our utility app user as well. Lastly, although we are encouraged by our initial success in content child products, we understand there is still a lot of work ahead of us. We are confident that with focus, determination and our start up trend we will be successful with our content strategy as well. In the third quarter of 2016 we managed to resume sequential revenue growth and retained profitability, while we also continue to make large investments in the mobile content. Our company recently reached our 6th years anniversary, in just 6 years our total revenues grew over 30 times, our mobile MAU reached 600 million and we became a pioneer among Chinese Internet companies winning in the overseas market. Two years ago we successfully became a publicly listed company in the US. Our recent determination and start up trends lays a strong foundation for this achievement in the past 6 years and it does not stop here. Recently we opened our US headquarter and R&D center in Silicon Valley with about 100 employees working to advance our mobile content strategy. Despite the challenge ahead of us, we are confident that we have right team and are on the right track to connect our massive user base with increasingly personalized and richer content. Looking ahead, we remain focused on the mobile content and its overseas market and believe that this key strategic areas were driving our long-term growth. With that, I will hand over the call to our CFO Andy?

Thank you, Sheng. Hello everyone. We delivered solid financial results in the third quarter 2016. During the second quarter, we set a clear goal to rejuvenate revenue growth and expand profitability of our utility apps. We have delivered on those promises in the third quarter driven by steady and sustained revenue growth generated by our utility apps. Total revenue we assume is sequential growth and mobile and overseas revenues have hit all-times record high. In addition, we further expanded the profitability of our utility apps, which contribute to our financial recovery. Going forward, we will continue to improve the profitability of our utility apps to fund our investment in new content-driven apps. Our goal is to connect our mobile users with more personalized content through our utility apps and big data analytics. We believe that consistent, strong operational and financial performance of our utility apps will continue to lay a solid foundation for another round of strong growth in the coming quarters. Now, let me walk you through the detail of our financial performance. In September - all financial numbers are in RMB unless otherwise noted. In September, the number of mobile MAUs were RMB612 million, increased by 8% year-over-year and decreased by 2% quarter-over-quarter. The sequential decrease was mainly attributable to declines in mobile MAU, [indiscernible] which have entered into mature state of its product life cycle. In the third quarter total revenues grew by 10% year-over-year and 8% quarter-over-quarter to RMB1.13 billion slightly above the mid point of our guidance range, the growth was primarily driven by a steady and sustained revenue growth from our utility application and a contribution from our new content-driven apps, namely Live.me and News Republic, which accounted for approximately 4% of our total revenues in the quarter. By platform, mobile revenues grew by 27% year-over-year and 16% quarter-over-quarter to RMB898 million for the third quarter. Mobile revenue accounted for 80% of our total revenues in the quarter, up from 69% in the prior year period and 74% last quarter. PC revenues declined by 28% year-over-year and 16% quarter-over-quarter, which was mainly due to migration of Internet traffic from PC to mobile. By region, overseas revenues were RMB720 million for the quarter, up 29% year-over-year and 28% quarter-over-quarter. Overseas revenues accounted for 64% of total revenues and 80% of mobile revenues in the quarter. China revenue declined by 13% year-over-year and 16% quarter-over-quarter, which was mainly due to decline in PC revenue. By segment, revenues from online market services were RMB986 million for the quarter, up 9% year-over-year and 5% quarter-over-quarter, driven by increased demand from mobile advertisers including direct customers, as well as monetization of light causal games through in-game advertising. Revenue from IVAS for the third quarter were approximately RMB111 million, which increased by 11 year-over-year and 39% quarter-over-quarter. The increases were primarily driven by our initial monetization of Live.me in overseas market. Going forward, we will continue to experiment with different monetization model for Live.me, including the one that are proven to be successful in China. Revenues from Internet security services and other for the quarter were approximately RMB32 million, which increased by 32% year-over-year and 13% quarter-over-quarter. The increases were primarily driven by high mobile Internet software licensing revenue. Moving to our costs and expenses. SBC [ph] expenses for the third quarter decreased by 37% year-over-year and 19% quarter-over-quarter to RMB72 million. Now to help facilitate the discussions of our company's operating performance, the following discussion will be on a non-GAAP basis, which excludes stock-based compensation expenses. For financial information presented in accordance with US GAAP, please refer to our press release, which is available on our website. Non-GAAP cost of revenues for the third quarter were at RMB404 million, up 48% year-over-year and 14% quarter-over-quarter. The increases were primarily due to the step up investment in content for our content-driven app and an increase in bandwidth and Internet data center costs associated with increased user traffic and data analytics. Non-GAAP gross profit for the third quarter decreased by 4% year-over-year, but increased by 5% quarter-over-quarter to RMB725 million. Non-GAAP gross margin was 64.2% in this quarter compared to 73% in the prior year period and 66.1% last quarter. Non-GAAP R&D expenses for the third quarter were RMB200 million, up 43% quarter-over-quarter and 12% quarter-over-quarter, which was primarily due to increased headcount associated with our step-up investment in big data analytics and new product development. At the end of the quarter, we had approximately 1800 R&D personnel. Non-GAAP sales and marketing expenses for the third quarter were RMB385 million, relatively flat year-over-year and down 5% quarter-over-quarter. The sequential decline was mainly due to lower expenses on promotional activities, as well as our strategy to implement cost control for our utility application, which was only partially offset by increased product promotion activity for our content-driven app and to a much less extent an increase in direct sales personnel. Now, non-GAAP G&A expenses for the third quarter were RMB112 million, up 25% year-over-year and down 9% quarter-over-quarter. The year-over-year increases was mainly due to increased headcount in G&A function, the quarter-over-quarter decline was mainly due to a decrease in professional service fee. Non-GAAP operating profit for the third quarter decreased by 77% year-over-year, but increased 49% quarter-over-quarter to RMB38 million. Non-GAAP operating margin was 3.4% in the quarter compared to 16% in the prior year period and 2.4% last quarter. The year-over-year decrease was mainly attributable to increased investment in content-driven app. In fact, excluding investment in content-driven app [Technical Difficulty] around our marketing effort which help expand the profitability of our utility applications. Non-GAAP net income for the third quarter was RMB73 million, a decrease of 50% year-over-year, but a significant improvement from a non-GAAP net loss of RMB62 million in the previous quarter. Non-GAAP diluted net income per ADS for the third quarter was RMB0.51 or US$0.08, as compared to RMB1 for the same period last year and non-GAAP diluted loss per ADS of RMB0.44 in the previous quarter. Adjusted EBITDA decreased by 61% year-over-year but increased by 18% quarter-over-quarter to RMB80 million in the third quarter. Now, let me provide you with our fourth quarter revenue guidance. We currently expect and estimate total revenues for the fourth quarter to be between RMB1.2 billion and RMB1.24 billion, representing a 4% to 8% year-over-year increase and 6% to 10% quarter-over-quarter growth. Please note, this forecast reflect the company's current and preliminary view and is subject to change. Lastly, before we start the Q&A session, I would like to remind investors and analysts that in March 16, 2016 the Board of Directors authorized a one year share repurchasing plan allowing the company to buyback up to US$100 million in aggregate value of its own ADS. As of November 18, 2016 the company had repurchased a total of 2.54 million ADS representing 25.4 million Class A ordinary shares at an average price of $10.75 per ADS. The share repurchase program reflects our belief that our shares are presently undervalued and demonstrate our company's long-term outlook for our business. This concludes our prepared remarks for today. Operator, we are now ready to take questions.

[Operator Instructions] The first question comes from Wendy Huang of Macquarie. Please go ahead.

[Foreign Language] So my first question is about your social networking product like Live.me, we understand the operating environment standard, so the usage behavior are quite different in China versus the US. So can you share with your view about the Live.me's future business model and then monetization pan and also can you give us update on your sales and marketing budget for Q4 and the next year? Thank you.

[Foreign Language]

Okay. So I will address the Live.me question. So I think at this point at least we have proven that live streaming is viable not only in the Chinese market but also in market like the US and other markets. Not only that, I think if you look at lot users data you will find that Live.me is actually more social viable in the US market, particularly in terms of number of live streaming broadcast by our user.

[Foreign Language]

So if you look at in the US market for example, the user’s willingness to actually pay is actually better than what we have expected. So I think at least you know, that demonstrate that the pay model actually is quite viable for live streaming. And in term of our forward-looking strategy, you know, we will like to view Live.me into not only for live streaming on video app, but more into a social community. I think that we see a lot of work ahead of us, but we are hoping that you know, we will be successful in that endeavor as well.

[Foreign Language]

So regarding the marketing budget, cost control initiative for the company, I think our effort recently have demonstrated that – performed quite well with our new cost control, next year we don’t expect vertical [ph] marketing strategy. Our objective is to really dip in our current content strategy. We will make that into a successful content platform. So regarding more specific about marketing budget, I think we have taken pretty strong action since the second quarter and third quarter, especially for utility application. So I think our going forward-strategy really is to maintain start like this kind of minimum marketing expenditure for the two application and that should help us to continue to drive incremental profitability improvement, but probably not to the extent that we have seen in the second and third quarter because we continue to – we will continue to invest in our content strategy. But overall I think next year for the two application itself at least should be maintaining at or about current level in their profitability. For content strategy I think you know, you already see some monetization over there, so if we are successful in amassing a large user base, successful in our content strategy view at Live.me and in the community – household community I think we should see with those applications reach a critical user base some time next year and as we ramp up monetization that should help the overall margin improvement. So I think next year the margin improvement mostly coming from steady rapid growth and operational leverage, not as much as you know more dramatic cost cut. So hopefully that answers your question Wendy. Okay. Next question then?

[Operator Instructions] The next question comes from Eric Wen of Blue Lotus. Please go ahead.

[Foreign Language] So first of all, could management share with us their DAU, MAU and average time user spend of News Republic or the trends in the past three months? Second question, what is management's view on the rising competition in the news industry overseas, do you have any concerns regarding Total's aggressive investment in the US market? In other words, how News Republic will remain its competitive advantages in the market?

[Foreign Language]

Okay. Thank you for the question. So regarding News Republic operational data MAU, DAU, Transcend [ph] et cetera, I think this time we will not disclose it for commercial reasons. But as we mentioned in our prepared remarks that News Republic have made very good progress, if you look at App store ranking, one of the top news app in the overseas market, especially the US market. So I think we'll continue to see that progress as we have rolled out our upgraded version of News Republic. In terms of you know, competitive landscape, I would just mention one area. When we acquired News Republic, one of the main reasons that we made the acquisition was due to its licensed content, we have more then thousand - close to two thousand live licensed content from news organization. I think that alone is significantly ahead of their competitor, it is around one of the top three in the overseas market. So I think that’s one of the very strong competitive advantages for us.

[Foreign Language]

And the second point is that, we as a company have more then 600 million mobile MAUs globally, 80% of that in the overseas market. And so one of the key thing about personalized content delivery is that we do had to generate enough personal data to provide personalized services. So of course, like from content perspective the reading habits, the search habits could provide that information, but with our 600 million MAU we can generate a lot of information on how on our users and also provide very personalized services product users and all 600 million of our users can professionally become our content user as well. So I think that’s the main – I think that’s another very strong competitor advantage for us in the content and specially news application side.

[Foreign Language]

So you know, I think in short we have the opportunity to really provide those personalized content to the application users from the very beginning because while our other competitors they would not be able to provide that kind of personalized content before the user generate the reading habit. So I think that’s that's a very good competitive advantage for us as well.

[Foreign Language]

So thirdly, if you look at us, I think a lot of people still think about us a company that produced two applications, but you know as you probably know couple of years ago we have begin to invest very heavily in big data analytics and now we have set up a team R&D team in Silicon Valley. We have hired Charles Fan who is a very experienced tech and data analytics reference in Silicon Valley and we have a team of more than 100 people now producing on data analytics. So we have accumulated a lot of experience and technology in the big data area that should help us very significantly in delivering personalized content to our users. So I think you know if will combine those three area we clearly have a unique competitive advantage in delivering personalized content to our users. Thanks.

The next question comes from Robert Cowell of 86 Research. Please go ahead.

Sheng, Andy, thank you for taking my question. I may just ask in English, if you can help me translate Andy?

No problem, Robert.

Thanks. I guess my first question is about the sources of mobile advertising revenue. In the first quarter this year, there was a bit of an impact from Facebook. Audience Network changed some of their policies and I am wondering whether, I guess, what the trend is in terms of cooperation with Facebook, Google, your other big partners and maybe also if we could get any details on the Cheetah ad platform? And then my second question is about the Silicon Valley office. I'm just wondering if the US presidential election or any, I guess the policy outlook there has had any impact on your thinking about investment in Silicon Valley in the US or the way you are operating that office? Thank you.

Okay, Robert. So I will translate those questions and then [indiscernible] okay, hold on a second. So Robert, thank you for questions. So regarding our relationship with Facebook and Google and other third party platform, I think we continue to work very well with all our third party platform provider. Obviously see some platform provider we have change their strategy or they way we operate the third party, I think the platform themselves, but overall I think we continue to work very well with all of them and we continue to diversify our revenue stream. I think obviously at the beginning of the year it seems like we have been impacted by some of the changes out of one our third party advertising platform partner. But I think as you can see from our third quarter results we have delivered very strong, solid recovery in the third quarter and we continue to expect the trend in the fourth quarter, despite sometimes there is some rumor in the market that may be another round of change with some of our partners. And the key reason for that because we continue to strengthen our overall working relationship with different advertising platform and we continue to have very good relationship with Facebook, Google and all the other platform. So I think unless a competitor drastically changes, I think we would be able to maintain relatively steady trajectory. Obviously you know, I would remind folks that in the first quarter generally is a weak season for advertising industry, so don’t be surprised if we do experience first quarter sequential decline, that’s normal and - but we will like to maintain a steady year-over-year improvement. And then in regard to our share platform, I think our direct salesforce strategy is part of our effort to continue to diversify our revenue stream and I think that’s making very strong progress. And we will like to see more of that. We have added more personnel in the direct salesforce. In addition we also see the rough percentage of revenue coming from our direct sales also increased in the quarter, we'll actually continue to see that trajectory as well. In terms of your second question regarding you know, if there is an impact from the President election result in US and how would that impact our investment strategy in the US, I think you know, we as a company we do not pay as much attention or participate in the political environment in our country. What we want to be focusing on is delivering the best application for our mobile users and make sure that they continue to enjoy a safe and speedy internet experience and with our new strategy connecting them with personalized content, make the online experience more personalized, more fun. So that’s our main goal, so we – I don’t think the Presidential election really have impacted our investment strategy in Silicon Valley at this point. So we continue to hire more people and looking forward to hire more permanent people in the US to help support our content strategy over there as well. So hopefully that answers your question.

Thanks.

This concludes our question-and-answer session. I would like to turn the conference back over to Helen Jing Zhu for any closing remarks.

Thank you all for joining our call today. If you have any questions, please do not hesitate to contact us. Thank you. Bye.