Ladies and gentlemen, thank you for standing by, and welcome to the iQIYI First Quarter 2018 Earnings Conference Call. [Operator Instructions] I must advise you that this conference is being recorded today, 27th of April 2018. I would now like to hand the conference over to your first speaker today, Ms. Dahlia Wei. Thank you, and please go ahead.

Thank you, operator. Hello, everyone, and thank you for joining iQIYI's First Quarter 2018 Earnings Conference Call. The company's results were released earlier today and are available on the company's Investor Relations website at ir.iqiyi.com. On the call today are Dr. Yu Gong, our Founder and Chief Executive Officer; and Mr. Xiaodong Wang, our Chief Financial Officer. Dr. Gong will give a brief overview of the company's business operations and highlights; followed by Xiaodong, who will go through the financials and guidance. After their prepared remarks, Dr. Gong and Xiaodong will be joined by our Vice President of Investments during the Q&A session to take your questions. Before we continue, please note that discussion today will contain forward-looking statements based under the safe harbor provisions for the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements are subject to risks and uncertainties that can cause actual results to differ materially from our current expectations. Potential risks and uncertainties include but not limited to those outlined in our public filings with the SEC. iQIYI does not undertake any obligation to update any forward-looking statements except as required under applicable law. With that, I would now turn the call over to Dr. Gong. Please go ahead.

Hello, everyone, and thank you for joining us for our first earning call as a public company. I would like to take this opportunity to thank our shareholders as we are now publicly listed on the NASDAQ. The successful listing was a monumental milestone in our history and also marks the beginning of a new journey for us. We will continue to work tirelessly to fulfill our vision, which is to become a technology-based entertainment giant that brings fine and -- brings fun and joy to people and their families. Let me now turn to our performance for the first quarter of 2018. In the first quarter, both of our 2 major business categories, advertising services and membership services, delivered strong growth. In particular, we have continued to see significant growth momentum from our in-feed advertising business unit. Total revenues for the first quarter was RMB 4.9 billion, up 57% year-over-year. Online advertising services revenue was RMB 2.1 billion, an increase of 52% from the same period in 2017. We saw improved efficiency in our advertising business as we launched several very successful self-produced variety show during this quarter. Advertisers are increasingly recognizing our content production strength at various creative advertising formats that we have developed on our platform. For example, we integrated advertisement into the content of our shows so that viewers perceive the app as a well-connected component of the content itself. We are continually developing new formats and options to enable advertisers to substantially improve the effectiveness of their ads with significant ROI enhancement. This showcases our deep understanding of our content and how we are able to apply this deep understanding into better serving our user, clients and partners. As I mentioned earlier, another driver in the advertising categories is our in-feed advertising, which saw robust…

Hello, everyone. I'm pleased that we delivered a very good first quarter after our IPO. Let me go through our financial highlights. We use net revenue to calculate all percentage changes in the margins from this quarter to exclude VAT impact, the new GAAP requirement, the detail of which can be found in our earning release issued earlier today. At the first quarter of the year 2018, iQIYI's total revenue was RMB 4.9 billion, representing an increase of 47% (sic) [ 57% ] from the same period last year. The increase was primarily due to the robust growth of membership and advertising services. Membership service revenue was RMB 2.1 billion, up 67% from the same period in the year 2017. The increase was primarily driven by significant growth of subscribing members. Our subscribing members reached 61.3 billion -- 61.3 million, with a paying ratio of over 97.4% as of March 31 year 2018, increased by 71% from 35.8 million as of March 31 year 2017. The growth was driven by a series of premium content titles as well as various initiatives we rolled out with the Chinese New Year. Online advertising service revenue was RMB 2.1 billion, representing an increase of 52% from the same period in the year '17. The increase was driven by both brand and in-feed advertising. In terms of brand ads, the number of subscribers and average spending per customers continued to grow, benefiting from hot content primarily this quarter. On the in-feed advertising, we have seen a strong momentum continuing this quarter ever since we started the initiative in late 2016. Content distribution revenue was RMB 266.7 million, an increase of 44% from the same period in the year '17. Other revenues were RMB 405 million, an increase of 51% from the same period in…

[Operator Instructions] The first question is from Thomas Chong from Credit Suisse.

I have 3 questions. The first question is about the membership services. Can management comment about the paying subscribers' market size as well as our competitive landscape? Are we actually seeing we are creating or enlarging the market size with our peers? And my second question is about the monetization of original contents. How do we see the monetization potential? And are we seeing better-than-expected monetization on our contents? And my final question is about the overall online video competitive landscape. How would we see the trend going forward, in particular, the content cost of licensed contents?

[Foreign Language] Okay, translate for us.

Yes. So I'll probably translate for the first question first. Yes, your question is about paying members and the landscape and also the total market size. I think on the competition and competing -- [ grabbing ] for the paying members are mostly between iQIYI and Tencent. I think for the competition in the -- for the paying members have significantly higher barrier compared with [indiscernible] services. Looking at the paying membership, if you want to attract paying members, you need to have more premium content. At the same time, you also need to have more systematic design of the technology and the product, including, for example, the diversified source of the traffic as well as a well design of the privilege for members. So trend-wise, I think we are seeing more and more members -- paying members purchasing more than 1 membership across the platform -- video platforms. And overall, this increase of the paying members are driven by the increase of the original premium content because the original premium content are mostly exclusive -- are kind of being provided by the video platforms at the exclusive content and which is a catalyst for driving the conversion of the membership. As a result, for iQIYI, it's our sales strategy to further enhance our original content production as our key strategy.

[Foreign Language]

Your second question is about monetization for the original content. And it is certain that the original content have better monetization capability compared with the licensed content. Comparatively speaking, the main revenue source for the -- the main monetization format for the licensed content is the pre-rolls and post-rolls. And this, with the increase -- for the increase of the members, we believe the growth of this revenue will be -- the growth of this monetization format is perceived to be limited compared with the way we can monetize the original content. Looking at the original content, we can introduce the advertisers at a very early stage of the content production and using various formats to put the advertisement into the production as the -- in a way such as the product placement. And this will be perceived as the integral part of the content itself. And in addition to that, for original titles, we will be -- we will have the flexibility of making different monetization arrangement to maximize the output. For example, for our original shows, we cut it into 3 airing windows. For the first window, we put in the member-only zone, so that we can convert the paying members. For the second window, we actually make it available for all the users so that we can generate advertisement revenue. Then for the third window, we put it back to the membership-only zone to encourage the member retention. And in addition to that, the third thing I would like to highlight is that, for the original content, we have the full rights, which actually help us to monetize the content in manageable ways. For example, we can cut a long-form video into a series of short-form video; and for the short-form video and display it in our app in a format of the feed, we can actually generate in-feed advertisement leveraging the same content.

[Foreign Language]

The third question is about market landscape. As you know, there are 3 major players in this market, and it is our belief that the online video market in China is not going to be monopolized by any of the one players. Instead, we see each could have its own unique position similar to what happened in the U.S. cable market. But there are 3 conditions for that. I think in the U.S. market, what we have seen is that each cable operators actually provides exclusive unique content, and it's the uniqueness of the content which helps them to build the differentiated market positioning. And it tells us that in order to compete effectively, we need to enhance our capability to provide the original content. And so that this strategy will also offering additional merits. For example, by creating more of our unique original content, it will help us actually to initiate -- it will help us to be less reliant on purchasing of the external content and to avoiding the pure price wars. So the second reason, in addition to the content, the origin -- the differentiated content, the second reason for us to believe that the market will not be monopolized is that this market has been experiencing the exponential growth in the past. And in order to get more users and access more market share, each of the dominant video platform has invested significantly, including the capital and the resources. And with the market being matured over time, we do believe that in the mature -- when the market is approaching a mature stage, each of the player will be more focused on the efficiency, and the focus on operating efficiency will help -- will require them to develop their own set of strategies to be effectively differentiated. Then the third reason is that when the market is growing, the business model in this space is actually evolving as well. We do believe that as you probably are aware, our business model has been evolving, and evolving this model can bring differentiations across video platforms over time.

Your next question comes from the line of Ella Ji of China Renaissance.

Ella, due to time limit, can we limit the questions to one? And if you can speak Chinese, can you ask the question in Chinese first and then repeat the question in English? That will be very helpful. Thank you.

[Foreign Language] So just a quick follow-up is I wonder if Mr. Gong can share with us. In terms of the original exclusive content, how long do you think will it take for the 3 major platforms to produce a meaningful amount of the exclusive content by themselves? And then my question is actually about the content spending. I wonder if you can share with us the schedule of your content spending for the rest of the year. I understand that because we see that in the first quarter, the content spending is a little bit like comparing to our expectation. And also, if you could kindly share any color regarding the breakdown between drama series and variety shows and also maybe between original and licensed? [Foreign Language]

[Foreign Language]

I'll answer the first question. I think our satisfactory target is to have the original content accounting for 1/3 of the total content spending, which probably will contribute to something around 20% to 25% for the traffic. And this is a mid- to long-term goal, and we believe it's somewhere achievable in about 3 to 5 years.

I'd add also something about the different number you asked, but I'm not quite sure I heard all your questions. I'll just try to answer your question, but if I missed something, just let me know. You mentioned like a certain breakdown of different types of content, for example, original versus licensed content. I think that still because it's only 1 month after IPO, we don't see like major change from what we said during that period. As you see now, original content, they account for a small percentage of the total content cost. It's somewhere between like 10% to 20%. Unlike for [ certain ] category, for example, variety shows, original content and for something that already exist like 50% to 60%, so majority of the variety show already account for majority of the ones. So basically, that's, I think, the first part. And second, between like a variety show and a drama series, drama series definitely is a much, much bigger one. As you know, we sell like -- it's the biggest traffic source. And we also mentioned before that we might need only like, say, 6 to 7 top-tier variety shows for the whole year. But for drama series, the demand will be like somewhere between like 10 to 20 titles. I know you know the difficulties. And the variety show, they only have like 10 to 12 episodes per season unlike the drama series. And here in China, it's like, say, 50. But even like the shortest ones would likely have 12 to 24 episodes. So basically, to give you some idea why drama series, they account for a very big part of the total content costs. And the outlook of the whole year on content spending, yes, you're right, due to the various reasons, you see like somehow the revenue growth in the first quarter is faster than the content expenditure. But I think still, the way we said before, I still think this is very important year as we plan to invest heavily on the original content while it peaks to a certain level of licensed content [indiscernible]. So basically, I would say still, I would expect the total content cost increase this year to be faster than the total -- the revenue increase [indiscernible]. So that, I think, could have some more idea of the total content outlook for the rest of the year. And did I miss something else?

No, it's very good, yes. And congratulations on your first successful public quarter.

The next question is from Eddie Leung of Merrill Lynch.

[Foreign Language] So my question is about the potential competition and impact from the emerging short-form video platforms in China on our industry.

[Foreign Language]

So thanks, Eddie. As you know, the long form -- the online video sites for the long-form video actually has traditionally been taking time of the user time spent from TVs and from offline entertainment services. This has happened historically. And looking at short-form video in recent years, we believe the same trend applies to them as well. They are also taking the user time spent from TV and more offline entertainment services. So this is -- we are clearly aware of this. And for iQIYI, this is -- for iQIYI, since we are strategically positioned as the one-stop entertainment service provider for Chinese users, we are dedicated to do both the long-form video and also the short-form video. In the script, as I mentioned, we launched, for example, a few independent apps, including Na Dou, which is positioned providing the short-form video services for the users. And the same happened to Paopao, our social network. Most of the feeds in Paopao are also short-form video.

The next question is from Alicia Yap of Citigroup.

[Foreign Language] Congrats on the first public quarter results. My question is actually related to the membership subscription business. Given the strong additions that we saw in the February and also the entire quarter, what could be the new membership sub growth that we should expect for the second quarter and also the rest of the year? And with your recent promotional package of 1 year free with subscriptions for 1 year package, how has the tractions from users so far? And how should we be thinking of the membership growth versus the ARPU trend for the rest of this year? [Foreign Language]

I think, first, what I want to address here is like, let's say, what we saw in the first quarter definitely, I think, the subscriber market is bigger than we have seen before. So we see huge market potential. That's why you see we launched several [ market content ] to seize the market opportunity to be more aggressive in attracting the members. And I'm not actually -- not quite sure what you would call like, say, by 1 year to get a 1 year free. I'm not quite sure what are you actually referring with. I think the major content we're launching in the first quarter is we have a discount for the new members for RMB 6 per month for the first month for the new users, similar to what Netflix did in North America. They have like a trial period. We don't offer like a free trial period but with some discount for those new members. That content actually, I think, has helped a lot. And it helped us to accumulate some of the members, why we see the churn rate and other metrics related to the membership are still very good. We don't see any deteriorations on those metrics. So we think it is helping. So probably, we will continue this kind of activities in the next few quarters. So potentially, you are right, the ARPU could have been lower than what you saw last year. But I don't think it would be like, say, significantly lower than what you have already seen in the first quarter. So I think first quarter could be a guide for the ARPU in the remainder of the year. And what's your next question actually?

[Foreign Language]

Yes, I would also like to comment on what you have mentioned earlier, buying 1 year for the next year free, that free membership for the next year. I think that this is probably the case where we have been making a lot of highlights across a wider spectrum of demographics to understand the consumer behavior. For example, we have been providing [indiscernible] program such as the first month free and enjoying the free trial. We also are encouraging users to pay only RMB 0.01 for the first month to get a free -- almost free member and get the rest of the year -- paying for the rest of the year if you're happy with the content. We also encourage the users to pay, for example, only RMB 6 for the first month. And then if you're happy with the content, stay with us and pay for the rest of the year. And when we are doing all the pilots, we were [ sending them ] the users across different regions, across different terminals, et cetera. But we will continue to do that. Most likely, we have seen in certain, for example, geographic area, et cetera, you could have seen such tests. But this will not be a major component of most of our members. So just to add on that.

Your next question comes from the line of Ming Xu of UBS.

[Foreign Language] So basically, I have 2 questions. First is on the revenue contribution from the in-feed ad. So could management share the contribution inside the total advertising revenue? And is there any target to share? And secondly is on the content cost side. We know that competitors are spending more like niche content, sport-related content. So just want to know our plan on this.

I think -- this is Xiaodong. I will answer your first question and then let Dr. Gong come and answer your second one. I think we said before that in-feed ad accounts for like, say, over 10% of the total advertising service revenue last year. And now I think this year, that is definitely higher because the growth pace of the increase has been much, much faster than, in particular, the branding ones. I would expect -- I think at least it will be over 15%, maybe close to 20%, depends on how fast we can generate today in this ads revenue as well as how the branding advertisement is going in the next few quarters. Just to give you some ideas.

[Foreign Language]

Yes. I will comment on the second question regarding the original content such as the nonfiction [ regular ] films as well as the sports. For the nonfiction [ regular ] films, we have been working with BBC and have rolled out a series of titles as well. And so far, the ROI for this particular category of the content is not -- has not reached our satisfactory level. We will continue to do more tests. But so far, we do not have the plan to significantly increase the investment in this category. And the second is the sports. Actually, we shared a view with Netflix, I think, that basically the sports content for the Internet is -- and it cannot be -- we do not have the original capabilities to produce, for example, a sports category. As such, I think the online, generally speaking, is not as high as what we could see in other categories. And we do not have a strategy to increase investment in this segment either.

[Foreign Language]

And I would like to add that the ROI is not satisfactory, and the advertisement revenues generated from these 2 categories of the content is also -- on the -- actually, underperformance compared with other categories, and they are not key components for membership conversion as well.

[Foreign Language]

[Foreign Language] Yes, for entertainment and films.

I just want to add one thing. One thing I would say is we are focused to invest on others. Actually, generally speaking, we're managing like this original content schedule where we mainly have those categories. But as we've discussed during the road show and other analyst meetings, we took apart how we are going to cover the long-term content through our IT partner account. I think we let some of our partners to help us to cover those long-term content so we can further like build our content library. I think that is our strategy on how are we going to build the entire content network.

And we'll take the final question from Alex Yao of JPMorgan.

[Foreign Language] So my first question is about the long-term content cost upside and versus the monetization upside because the top in-house producer content in China currently, they're running at roughly RMB 10 million per episodes versus the top original content in the U.S. hitting almost USD 13 million. That suggests a potential 10x increase in terms of content cost per episode. If that's the case, how do you think about the monetization potential? Will we be able to increase the monetization by 10x to offset the long-term cost increase? The second question is about the regulatory environment. Apparently, the online regulatory environment is tightening since earlier of this year. What are the potential implication to our content operation and sourcing strategy? For example, last year, [Foreign Language] was a big hit in the market. But this year, will content like those, not super mainstream, be gaining a lot of traction?

[Foreign Language]

Regarding your first question, I would like to distinguish 2 concepts. The first concept is the purchase price and the second concept is the production cost. And these concepts are actually not the same. For us, looking at our sales, if we are doing original content, then the best-in-class -- for the best-in-class titles for each episode, the production cost will be somewhere between RMB 7 million to RMB 8 million [indiscernible], which includes the best-in-class actors, actresses, et cetera. And looking at the U.S. side, the average cost for the average drama episode is about 3 million to 4 million. And for the best-in-class -- the production cost for the best-in-class dramas is -- range between USD 6 million to USD 8 million per episode. And when you're referring to the fact that price for each drama episode has reached as high as RMB 10 million per episode, this actually refers to the purchase price. And the purchase price for the content, generally speaking, refers to the purchase of third party owned drama IPs. So in this context, what we would like to happily to see is that if we can increase the percentage of the original production, actually, they help us on the cost control because the in-house original production starts with an idea and then further evolves into the script and the screenplay. And during this creation process, it does not invite bidding, and as a result, this will not be a pure price war. And this is the case when at least for the short term, when 3 platforms collectively identify, for example, a hot title and bid for that. This explains the difference between the production cost and the price war and the -- sorry, the production cost and the purchase price. And in addition to that, you also asked us about the monetization capability. I will say that in short term, you probably will not see monetization go as high as 10x growth. However, as I explained before, the increased percentage of the original production also brings better monetization power. So the -- our strategy actually looks on the original production, on one hand, help us control the cost, and on the other hand, actually increase -- helps on the monetization. And this strategy can help us in achieving our business goals.

[Foreign Language]

So with -- the second question is about the government regulation. I think this regulatory framework has been in place for over 10 years for us as the long-form video platform. Actually, it starts from ever since our inception. And actually, we have been very adaptive to the regulatory requirements. And comparatively speaking, I think other apps such as the news, the short-form videos and also the social apps, probably they are facing more regulatory pressure if they want to be in compliance. And giving one example, I think people -- the audience are aware of The Rap of China. And I think The Rap of China has been here and enjoyed a huge success. And this also brings some of the difficulties for -- after the show was aired. And we have been adaptive. We introduced a new format. And for this year, we are going to launch the season 2. But it will have the same English name, The Rap of China, but it will have a new Chinese name. And it gives us the -- introduce the new formats.

Thank you.

I think we can conclude the call. Thank you.

Ladies and gentlemen, that does conclude our conference for today. Thank you for participating. You may all disconnect.