Cheetah Mobile Inc. (CMCM) Q1 2017 Earnings Report, Transcript and Summary

Good day and welcome to the Cheetah Mobile First Quarter 2017 Earnings Conference Call. [Operator Instructions] Please also note that this event is being recorded. I would now like to turn the conference over to Helen Zhu, Director of Investor Relations. Please go ahead.

Thank you, operator. Welcome to Cheetah Mobile’s first quarter 2017 earnings conference call. With us today are our CEO, Mr. Fu Sheng and our CFO, Mr. Vincent Jiang. Following management’s prepared remarks, we will conduct a Q&A session. Before we begin, I refer you to the Safe Harbor statement 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 and hi, everyone. 2017 is a very transformational year for Cheetah Mobile. We will continue to enhance our AI-based technology platform that brings new opportunity to the mobile utility space and drives the rapid progress of our mobile content products. In addition, AI is the core of our mobile content strategy, enable us to connect our over 600 million users with highly personalized content. Recently, our company reached our three year anniversary as a publicly listed company in the US. In just three years, our total revenue grew by almost three times. Our mobile MAU surpassed 600 million. We achieved our goal to transform into a mobile and global company. In Q1, 2017, mobile revenues accounted for almost 85% of our total revenues and overseas revenues accounted for over 70% of our total revenues. We’ve made significant progress on our content driving apps, which already contribute to 19% of our total revenues in the quarter. And we have a very healthy balance sheet. We understand there is still a lot of work ahead of us in order to transform into a mobile content platform. With our rich experience in mobile internet industry and our proven track record, we are very confident in achieving our new target. Today, I would like to first discuss the progress we have made in the development of content driving products. On the revenue side, our content driving products are becoming important driver of our total revenue growth. In Q1, revenues from content driving products grew by 65% [ph] quarter-over-quarter, which pushed our overseas revenues to an all-time high. Live.me was a key contributor for this growth. On the other side, we have made strong demand for live broadcasting platform in developed markets. Users in Europe and North America have to express themselves and as they say live broadcasting is a efficient channel to have them express their thoughts and the lifestyle. That’s why the organic live broadcasting ratio is very high in this market. With a number of our top broadcasting hosts becoming fully performers, for example, one of our top broadcasting host used to be construction worker in the US. He considers Live.me as a social platform and accretive way to earn significant income. He has created interesting live broadcasting content to attract followers. Currently, he has more than 220,000 followers and he has received virtual gifts starting towards more than USD170,000. Going forward, we will continue to encourage our users to generate more content and actively interact with other users on our platform through either touch or voice messages. In addition, we are experimenting real time interpretation service for our top broadcasting hosts speaking in different language, which have improved user experience and user engagement. On the content side, we have used AI to prove the Live.me platform. For example, Live.me is committed to building our healthy social platform without violent or obscene content as more than 200,000 hours of live video are broadcasted daily on Live.me. We would have to spend a lot of time and resource to review the content if done manually. At the same time, it would be hard to reduce human error and ensure content quality. Therefore, we have applied AI technology for image recognition, which enabled us to review real time video content more efficiently and vastly reduced our workload. Live.me platform recently reached USD60 million from several well-known funds, which is endorsement of strong future market potential. With the outside investment will enable Live.me to execute its growth strategy more efficiently. We look forward to seeing continued growth. News Republic, another well-known content driving product also made solid progress in the first quarter. After we acquired News Republic in June last year, we began to utilize AI technology to deliver personalized news content to our users. Since then, the DAU in US market has increased by more than 10 times. AI is transforming the way of news delivered. People no longer receive news just by actively searching keywords or being exposed to what’s shared on social media. Instead, they can receive highly relevant content automatically recommended to them based on the interest and the reading habit. This is the model that has been proving very successful in China as a pioneer among Chinese Internet company winning in the overseas market. Cheetah is again taking their motto abroad. We believe that AI will better drive News Republic’s product improvement and growth in the coming quarters. In addition, News Republic recently has a content portfolio including news from more than 2500 top global media outlets, which will also help us achieve this goal. In terms of monetization, news-led app is popular among brand advertisers as they have much higher value than tool-led apps. This is a key reason why we remain focused on investing in News Republic. Moving on to our mobile utility products, our utility products and related service continued to generate a strong profit, which form a solid foundation from our mobile content transformation. For the first quarter, non-GAAP operating margin from our utility business remained stable at around 22%. In addition, AI allowed us to further expand our utility products portfolio. For example, we launched Panda Keyboard, a AI enabled app early this year. This app is able to predict the words or phrases users want to type based on the context and their typing preferences. Recently, Panda Keyboard has been recognized as one of the top five personalized apps in the US on Google Play. Panda Keyboard enables us to better leverage our users’ preferences and deliver more personalized content to them. Another example is PhotoGrid, leveraging AI enabled facial recognition technical. PhotoGrid has added more than interesting dynamic features, which have been well received by our users who upload millions of photos daily. Looking ahead, we will continue to invest in our AI technology platform, which recently has been driving growth of most of our products. We will continue to implore new product opportunities that might be divided from our AI technology platform. We will also optimize our cost structure on the utility products side to manage profitability. Okay.

Thank you, Sheng and hello, everyone. This is Vincent just joined the company about 1.5 months ago. For the first quarter of 2017, we reported solid financial results with total revenues beating the high end of our guidance. Non-GAAP net income increased to RMB116 million. Now, let me walk you through the details of our first quarter financial performance. All financial numbers are in RMB unless otherwise noted. For the quarter, total revenues increased by 7% year-over-year to RMB1.19 billion, driven by the fast growth of our content-driven products. As our various business lines are in different phases of growth, starting this quarter, we will report our revenues according to business lines in order to help investors better understand our businesses. We expect to provide more transparency in the performance of this business lines in the coming quarters. Revenues from content-driven products increased by 55% quarter-over-quarter, which contributed to 90% of total revenues in the first quarter of 2017 as compared to 11% in the first quarter of 2016. The growth was primarily driven by Live.me, a popular live video streaming app serving overseas users, particularly in developed countries. In the second quarter of 2016, we introduced the virtual gift function aiming to enhance our user engagements and interaction. This function has been well received by our users, who purchased virtual gifts to support in appreciation for their favorite broadcasting hosts. The increase in Live.me in the first quarter was driven by both paying user growth and the increase in ARPU. The paying user growth was a result of DAU expansion and the paying ratio increase. And the ARPU growth was driven by an increased number of live broadcasting events during Valentine’s Day. Revenues from utility products and related services decreased by 13% year-over-year and 18% quarter-over-quarter to 827 million in the first quarter of 2017. The year-over-year decrease was primarily due to the decline in PC revenues as Internet traffic migrated from PC to mobile in China. In the first quarter of 2017, PC revenues decreased to 15% of total revenues as compared to 26% in the prior year period and 19% in the prior quarter. Mobile utility products and related services remains relatively stable year-over-year in the first quarter of 2017. Specifically, advertising revenues from mobile utility products and related services continued to improve year-over-year in overseas markets primarily driven by the increase in total impressions. Other revenues from mobile utility products and related services decreased year-over-year in China, primarily due to the decline in eCPMs. The sequential decrease was due to seasonality. Our utility products business has been a stable source of revenues and operating cash flows. It also allows us to invest in content-driven products. In addition as Mr. Fu Sheng just mentioned earlier, we believe that the AI will bring new opportunities to the mobile utility space in the future. Revenues from mobile games decreased by 16% year-over-year, but increased by 15% quarter-over-quarter. The year-over-year decrease was primarily due to a decline in the revenues from Piano Tiles 2 as the user number was at its peak in early 2016. The quarter-over-quarter increase was primarily due to our continued efforts to introduce more mobile games in the first quarter of 2017 further enriching our mobile game portfolio. Cheetah Mobile was ranked as one of the top four game publishes in the US on Google Play and three of its games were listed in the top 10 most downloaded games in March 2017. Moving on to our cost expenses, for utility products and related services, we will continue to optimize our organizational and cost structures to maintain profitability. For content driven products, the largest cost and expense components for the content driven products are first, the revenue sharing with live broadcasters and payment channel costs associated with Live.me, which was the primary driver of our year-over-year cost of revenues increase in Q1. R&D personnel costs, that’s the second one, which is associated with the development of AI technologies. Our previous investments in AI translated into our progress in a technology platform, which has supported our initial success in content driven products. And lastly, new user acquisition costs of content driven products in overseas markets. This investment in content driven products decreased our operating margin by approximately 14.4 percentage points in the first quarter. In addition, we reported approximately 68 million of other income net as a result of gains from the disposal of certain investment assets in the first quarter. We have significant long term minority investments in the portfolio of companies. Most of these assets were booked with a cost method and the remaining with equity method. The total book value of this investment was approximately RMB955 million as of March 31, 2017. We plan to gradually dispose this investment of assets to focus more on our core businesses. Turning to our balance sheet items, as for March 31, 2017, we had net cash and cash equivalents, restricted cash and short-term investments of approximately RMB1.47 billion. Our strong cash position enables us to form our mobile content transformation. Looking into our revenue guidance, for the second quarter of 2017, we expect total revenues to be between RMB1.19 billion and RMB1.24 billion, representing a 14% to 18% year-over-year increase and 0 to 4% quarter-over-quarter increase. Looking ahead and the rest of 2017, we expect revenues from content driven products to continue to grow. In addition, we will continue to refine Live.me products, expanding its user base and experimenting with monetization and operational models that had been proved effective in China. We expect our revenues from utility products and related services to decrease year-over-year as certain ad formats have been recently discontinued by some of our overseas third party advertising partners. And the resulting other inventory may not be fully filled up by our other advertising partners for some period. Please know that we are still working with these advertising partners from other ad formats. In addition, we are exploring new initiatives in our mobile utility products. For example, as just mentioned by Mr. Fu Sheng, we have been successfully applying AI technologies to new products such as Panda Keyboard and to existing products such as PhotoGrid. Going forward, we expect this new initiative to drive a recovery of our mobile utility app revenues. For mobile games, we expected more titles to be released in the second half of 2017. Please note that this forecast reflects the company’s current and preliminary view and is subject to change. This concludes our prepared remarks. Operator, we are now ready to take questions.

[Operator Instructions] Our first question comes from Tian Hou of T.H. Capital. Please go ahead.

[Foreign Language] So congratulations on good Q1 results. My question is related to user acquisitions for Live.me going forward, so what’s the plan to acquire more users for Live.me and also the traffic on Live.me, what’s the synergy between Live.me and News Republic and utility apps? That’s my question. Thank you.

[Foreign Language]

Okay. I’ll translate. Although Live.me has finished external investments and, but it’s still the majority owned subsidiary of Cheetah Mobile and they still operate as a same company. So although it has certain independence in its operation, but we restored the operation as a same company. In that sense, Cheetah Mobile will find the way to effectively convert its current user into Live.me users.

[Foreign Language]

Okay. Although we have seen many successful models such as normal and they have attracted significant user traffic using live broadcasting model, but they also have other approaches and we will, using the same approaches such as social platforms and shorter video content to attract more user traffic to the platform.

[Foreign Language]

Okay. Cheetah Mobile is using, is developing its AI technologies and we believe that when we achieved certain level of the current technology excellency, we will be able to using AI technologies to bring traffic. So we will be able to using AI technology to find out the current users preference and interest and then we will recommend the appropriate user traffic to the Live.me platform.

Our next question comes from David Sun of Morgan Stanley. Please go ahead.

[Foreign Language] So I will translate the question by myself. So the first question is regarding the reclassification of the revenue reporting lines. So we have reclassified the revenue into utility app content products and mobile games, so just want to get a sense what do the marketing profile look like for these three key segments and also the revenue outlook for this year? So the second question is that, we see the company currently has three key business options, core utility apps such as Clean Master and Battery Doctor, second one is content apps such as Live.me and News Republic. And last one is AI or robotic related initiatives. So just want to know how the management view the short term and mid to long term opportunities of these different businesses and how do company allocate resources accordingly. Thanks.

[Foreign Language]

Well, you can consider those products in this way. The utility is Cheetah’s today and the content product is for tomorrow and the robotics product is for the day after tomorrow in the future.

[Foreign Language]

Okay. In the past three years, Cheetah Mobile has two utility apps into a global products and it has the refinancing business model and although it has reached a relatively mature phase of its lifecycle, they continue to maintain its profitability.

[Foreign Language]

Okay. Today, the two apps is still the best approach to acquire users and a quickest approach to acquire users.

[Foreign Language]

It also helps us create a significant amount of user data.

[Foreign Language]

Yeah. It also generates a lot of user traffic that can support our product once the AI technology is.

[Foreign Language]

Okay. The content product can help our more than 600 million users to spend more time with our products to increase the user engagement and user stickiness and also helps our monetization model.

[Foreign Language]

Using the content we have acquired that helps to refine our AI technologies and that’s the first, that will be a foundation for our next stage which is the robotics business. So that’s the second question. Now, I’ll answer the first question about the segments and margins. Okay. Starting, well, in this quarter, we still view the company as a single segment, but we start to divide the revenues into three parts, which is the three business lines. For the second quarter, we plan to present the company’s financial into three segments, which will not only have revenues for each business lines, it will also have operating cost and expenses. So that -- with that, we will have better visibilities for the three segments. In terms of profit margin, we expect that the margin for the utility products will decrease year-over-year next quarter. And the margin for the content products right now is still in a loss, but the relative amount of loss will narrow in the next quarter as we have starting to see economy of scales for our content products. For the game, we expect we will, that the profit margin probably was similar. We will not see a significant change, at least in the next quarter.

Our next question comes from Joyce Ju of Citi. Please go ahead.

[Foreign Language] I will translate my questions. We have seen this quarter R&D costs actually reduced year over year and quarter on quarter. So my question is, we saw in the press release that is due to the personnel reduction, so I’m wondering how many like R&D personnel now have in the R&D department and in the future, how these numbers will change while we add more R&D investment to continue to grow our AI technology or content products? Thank you.

[Foreign Language]

Okay. So right now for R&D personnel, we have more than half of them are still in the utility apps segment. In the past two years, we have seen that we just see some room that we can help the R&D people to increase their productivity. So I think we still have some room for improvement.

[Foreign Language]

Okay. So in the past year, we have already invested heavily in the AI technology and we have significant high in the last year. So right now, the workforce for the AI technology is, while even though, we may not be able to compare to those super large company, but comparable to many other so called AI companies. So we do not expect we will have a larger headcount increase in the next year, instead we will be focused on to improve the productivity and have more products to go to the markets.

[Foreign Language]

Okay. So there will be something such as Live.me, they may still increase their R&D strength and skillset. So they might add other headcounts, but overall, for a company, we will probably not see a large R&D fee increase, we’ll be more focused on the productivity again.

Our next question comes from Thomas Chong of BOCI. Please go ahead.

Hi. Good evening. Thanks for taking my questions. I have two questions. The first question is about Live.me. When should we expect the business to be profitable? Should we expect it to happen in the fourth quarter? And my second question is about the second quarter guidance on the utility apps revenues, about our relationship with advertisers. Can management talk a little bit more about the ad formats and why we have to see this year-on-year decline? Should we expect it to happen in the third and the fourth quarter? [Foreign Language]

Okay. Hello, Thomas. Let me answer your first question. For the Live.me business, although it’s approaching a breakeven point right now, seeking profitability is not the focus with business right now. So we will be more focused on increasing the user base at this stage. Hold on just a second. So I’ll come back. For the second question, which is about the certain ad formats and see this is what happens, there are a lot of utility app companies, they have various type of ad formats and certain formats may not be considered to be user friendly by some advertising platforms. So some of our third party advertising platforms, they decide to discontinue to deliver apps to those type of formats. So that will impact us as well. And we will see some other inventory, which now may not be filled up immediately by our other advertising platform partners. So that’s what’s happening right now.

Our next question comes from Andrew Orchard of Nomura. Please go ahead.

[Foreign Language] So just a quick question on the investment structure of the robotics business, can you give us some updates or some color on how this investment is going to be structured? Thanks.

Hello, Andrew. I’ll answer that question. Right now, the robotics business, it is still, it has not been, let me put it this way, it’s still in the progress. It hasn’t been signed or closed yet. So, but we expect to have a public release pretty soon. But today, we’re probably, we’re not able to talk too much about this.

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

[Foreign Language] So my question is also about some of your investment items in the first quarter, it looks like there is a RMB67 million gain from other income, I’d like to know what investment that gain is coming from? Thank you.

[Foreign Language]

Okay. Let me translate. Well, we have two exits in this quarter. One is for a company that has been listed in Asia markets, in China and the other one is a normal VC investment exit. Cheetah Mobile has invested in a portfolio about more than 40 companies right now. And from time to time, we make exits, because the portfolio is actually performing pretty well.

[Foreign Language]

Okay. So when we decide that the investee, the investor company is not strategically significant to our business, we may want to make an exit when the timing is appropriate. So this time, the two companies we exit, one is a gaming company and the other one is advertisement platform and actually we had a pretty good return on this. Thank you.

[Operator Instructions] There are no further questions at this time. I would like to turn the conference back over to management for any closing remarks.

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