Earnings Labs

NetEase, Inc. (NTES)

Q2 2013 Earnings Call· Thu, Aug 15, 2013

$112.11

+0.67%

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Transcript

Operator

Operator

Good day, ladies and gentlemen, thank you for standing by. Welcome to the NetEase Second Quarter 2013 Earnings Conference Call. [Operator Instructions] This conference is being recorded today, the 15th of August, 2013. I would now like to turn the conference over to Brandi Piacente. Please go ahead.

Brandi Piacente

Analyst

Thank you, operator. Please note the discussions today will contain forward-looking statements, relating to future performance of the company and are intended to qualify for the safe harbor from liability as established by the U.S. Private Securities Litigation Reform Act. Such statements are not guarantees of future performance and are subject to certain risks and uncertainties, assumptions and other factors. Some of these risks are beyond the company's control and could cause actual results to differ materially from those mentioned in today's press release and this discussion. A general discussion of the risk factors that could affect NetEase's business and financial results is included in certain filings of the company with the Securities and Exchange Commission, including its annual report on Form 20-F. The company does not undertake any obligation to update this forward-looking information, except as required by law. As a reminder, this conference is being recorded. In addition, a webcast replay of this conference call will be available on the NetEase corporate website at ir.netease.com. I will now turn the conference over to Mr. Onward Choi, acting Chief Financial Officer, who will read the prepared remarks on behalf of Mr. William Ding, Chief Executive Officer of NetEase.

Onward Choi

Analyst

Thank you, Brandi. Before I begin, please note that for the purposes of this discussions, all percentages are based on Renminbi. We made exciting progress in the second quarter to expand and diversify our portfolio of internet games, products and services. Through the introductions of new games, applications and online services, as well as enhancements to our existing offerings, we are reaching a growing community of traditional online and mobile users. Our strong results for the quarter were driven once again by our popular self-developed games and advertising services. Our total revenues increased by 20.4% year-over-year, and 6.9% sequentially to RMB 2.4 billion. Led by a number of advancements with our self-developed games, including new game launches, expansion packs and upgrades to attract current and new users, revenues from our online games segment increased by 18.2% year-over-year. This year, we have already introduced several new games that diversify and expand our portfolio. Most recently, in April, we introduced our 3D realtime strategy game, Heroes of Three Kingdoms. We plan to launch a major marketing campaign for this game in the third quarter. We are very excited about this game and believe this is an opportunity for Heroes of Three Kingdoms to set a new benchmark for success among China's realtime strategy games market. In August, we also launched our next-generation 3D MMORPG, Dragon Sword. We look forward to growing Dragon Sword's user base and introducing players to this thrilling gaming experience. We are also excited to have introduced 2 comprehensive upgrades of the popular predecessor games Ghost II in April, followed by Fantasy Westward Journey II in July. These compelling new additions are already demonstrating early success as goes to reach record high PCUs in April and achieve record revenue for the quarter. With Fantasy Westward Journey II, we are…

Operator

Operator

[Operator Instructions] And the next question comes from Dick Wei from Credit Suisse.

Dick Wei

Analyst

I have 2 questions. First one is on the new game Crisis 2015, wondering what is the latest situation and what kind of market share can the game get within the first-person shooter segment? And the second question is on the mobile game development. I wonder if management can discuss some of the new pipeline within the mobile game space? [Chinese]

Lei Ding

Analyst

[Chinese]

Onward Choi

Analyst

Okay, so basically, for the first question regarding our FPS game, basically what we expected is by the end of this year, we will launch the closed beta testing for this game, and we also got high expectations on this game and believe that with the launch of this new game genres to the China market, we would be getting certain market share in this segments. And for the second question regarding the mobile game developments and pipelines, basically, the whole R&D team are currently working smoothly. Basically, the whole progress are well underway and following our milestones and our expectations.

Operator

Operator

And the next question comes from Alicia Yap from Barclays.

Alicia Yap - Barclays Capital, Research Division

Analyst

My first question is regarding your online advertising revenue. So you achieved a [indiscernible] very strong growth this quarter. So can you share reverse of -- is there any percentage after at revenues currently come from mobile devices?

Lei Ding

Analyst

[Chinese]

Onward Choi

Analyst

[Chinese] So basically, with regard to the proportions of our advertising revenues coming from our mobile fronts, I think basically at this stage, at this point of time, the portion would still be relatively small, but on the other hand, I think that we will put more emphasis on the experiences, the user experiences of our users using their mobile devices. And for now, products like our mobile news applications or our Youdao Dictionary and other similar applications, although they are building up their tractions and also we've got a very good popularity there, but at the moment, we do not set aside too much areas for placings the ad stairs. [ph] But we do host a positive route going forward to this.

Alicia Yap - Barclays Capital, Research Division

Analyst

Second question I have is, I wanted to get some color in terms of the performance or the traction on some of your new games. So how would you rank or compare the initial results or the user interest in like the Heroes of Three Kingdoms and Dragon Sword to your other new games, like Tianxia, Ghost, or Kung Fu Master? And among all these successful new games, is there any one of them actually stand out to be more like a blockbuster hit?

Onward Choi

Analyst

[Chinese]

Lei Ding

Analyst

[Chinese]

Onward Choi

Analyst

So basically, with regard to the examples that Alicia has brought up just now for Heroes of Three Kingdoms, basically, this would be a DotA kind of games or the new sport kind of games. And so in terms of the game genres, it can not be compared directly with our other games like the Tianxia II or III, or even the Kung Fu Master. But and we also will that for Heroes of Three Kingdoms by the game itself. It would be focusing to a special group of players who would go for the new sport or DotA kind of gaming experiences. And so far, we believe that the competitions in this part of the market is intense. That's a fear. But we do believe that with the good qualities of games that we develop and launch so far, we would be able to set up a new benchmark in this special part of the market segment. And on the other hand, going forward, we will be rolling out another new game, which is called the Dragon Sword, which is a 3D MMORPG game, and we also term it as a next-generation 3D MMORPG game with a special focus on action type of game. And we do look forward that the role of this game was targeted to a special spending group or a special group of players who are looking for different kind of gaming experiences. And having said that, by far, we still can't tell how much or how successful those games will be contributing in terms of revenues. But we do believe that as we follow our philosophy so far in our games development, targeting towards good quality and good user experiences, we will be able to excel in this part of the market. Thank you.

Operator

Operator

And the next question comes from Timothy Chan from Morgan Stanley.

Timothy Chan - Morgan Stanley, Research Division

Analyst

My question would be also on the mobile game. I understand that you have just launched the mobile version for Fantasy Westward Journey. I wonder if you would be able to talk about the reception so far. Are you attracting new gamers to this mobile game? Or whether you're just being some PC gamers migrating to your mobile version of this game? And separately, I think the recent focus in the China Internet space is for the -- I mean the basing [ph] strong mobile game platform performance recently. Would you be able to comment on that as well?

Onward Choi

Analyst

[Chinese]

Lei Ding

Analyst

[Chinese]

Onward Choi

Analyst

So far, we have a satisfactory responses by launching the new mobile versions of the Fantasy Westward Journey II in the market. And on the other hand, we do see that the role of this game is that -- would be complementary to what we are currently working on both the PC end and also the mobile end. And we believe that those 2 will be supplement to one another.

Lei Ding

Analyst

[Chinese]

Onward Choi

Analyst

Okay. So basically, we also -- we were quite positively that the ratings has also impacted the game centers on its racing platforms and basically, this will be just following what the Korean counterparts has been doing so far.

Operator

Operator

And the next question comes from Eddie Leung from Merrill Lynch.

Eddie Leung - BofA Merrill Lynch, Research Division

Analyst

I have 2 questions. The first one is about the PC online gaming market. From your observation, is the overall PC online game market user base still growing? And if not, how NetEase can take market share from the competitors? And then my second question is related to your sales and marketing expenses. There were some fluctuation in the sales and marketing expenses in the second quarter. So wondering if there would be any indication for the near-term spending in sales and marketing?

Onward Choi

Analyst

[Chinese]

Lei Ding

Analyst

[Chinese]

Onward Choi

Analyst

So basically, our will [ph] on the PC online game market is that in China, basically, the Internet market is very vague and very latched, [ph] and we still believe that there are immense room for launching different kinds of products and services, as long as they are of good qualities and can meet or surpass the expectations of our users or the players alike. And in general, we still believe that for NetEase, we do got the growth potentials in this area. And because not only that on the PC front, but also on the mobile front, and we believe that with the launch of more new products and services in the market that can better diversify ourself in this segment, we would be able to prove that we do got a very good ground for further growth in the upcoming futures. And so -- [Chinese] -- so Eddie, regarding your second question about the S&M spending in Q2, you are quite right in saying that the amount has been quite large as compared with the first quarter, but this is mainly due to the fact that there would be quite some new game titles that we have launched during the quarter where we have put in more efforts to do the marketing and promotions, like the Heroes of Three Kingdoms, the World of Warcraft, Heroes of Tang Dynasty II and other game titles like that. But still, we do believe that going forward for this year, on an annualized basis, we do still target to upkeep our current expectations that the total S&M spending for the whole year would be somewhere around 10% out of our total net revenues. And we do see that in different quarters would be the peak seasons [ph] over the year, where we would also put in more efforts in promoting our other games.

Operator

Operator

And the next question comes from Jialong Shi from CLSA.

Jialong Shi - CLSA Limited, Research Division

Analyst

I have 2 questions. First question is about mobile, about your mobile games. Management mentioned NetEase has -- you guys have few mobile games in the future, in the pipeline. Can you quantify how many mobile games you plan to launch this year and what are their role is. And for mobile games, it seems that most of the existing blockbuster titles are developed by small studios, so just wondering what are the ages of PC game developers like NetEase in mobile? [Chinese]

Onward Choi

Analyst

[Chinese] So basically, with regard to the exact numbers of mobile games that we are going to roll out in the upcoming periods, first of all, for now, we do not got any specific numbers to talk about yet, but we do definitely will rollout our new games in a progressive manner. And in regard to how the big online game companies like NetEase could excel in this part of the market, basically, we have accumulated quite a lot of experiences in the markets of developing successful games so far, and for each game title that we are going to develop or to roll out, before we actually do anything, we would first have to think seriously on how well we could succeed in the market, or -- before we actually go ahead on the development process. Say for example on the type of games that we are going to roll out and how -- what will be the features and the special things that we would like to add in before the development cycles. And we also got a very strong team of planning people to gather different ideas and to facilitate the whole development process. And as such, we believe that we do got a good competitive edge in this area in expanding our footprints in the mobile games area.

Jialong Shi - CLSA Limited, Research Division

Analyst

My second question is that, according to media report, your competitor, Tencent, recently acquired certain stake in Activision Blizzard. So just wondering if that would have any impact on your current partnership with Blizzard. And also, NetEase has been very much focused on in-house developed games in the past. Your few licensed games are all from Blizzard, while some of your competitors have a more diversified license in-sources. So just wonder, if NetEase might also consider licensing games from other developers, such as Korean developers in the future. With the other one, can you just -- [Chinese].

Onward Choi

Analyst

[Chinese] So basically, with regard to your first question on the potential impact on business, Tencent stake on ATVI, basically, we did not see there would be any significant impact as such because we do maintain a very strong relationship with the Blizzard side. And at the same time, we both share the same visions to serve the market in China. And one more point to supplement on William's remarks is that, if you take note on our latest or the recent announcements that have been made regarding our latest cooperation with the Blizzard side, we have entered into an agreement to license another new free-to-play strategy card games for PC and iPad called Hearthstone: Heroes of Warcraft. And again, this would prove that we have further and deepens our relationship with the business, other than the existing license game titles like the World of Warcraft or the StarCraft II, which is very encouraging. On the other hand, with regard to your questions about our potential or the possibilities of licensing games from overseas, basically, we would -- we will positively, because we do see that there would be -- whenever there would be any good titles that can fit in our criteria in terms of the game channels or the game play, the features, as in terms of the qualities and also, how well they could fill in the user experiences as such, we are quite open to license game, as such, no matter it is from overseas or in China.

Jialong Shi - CLSA Limited, Research Division

Analyst

May I have a quick follow-up? How much of your game revenue came from Warcraft in 2Q? [Chinese]

Onward Choi

Analyst

[Chinese] The market shares of -- the contributions of World of Warcraft to our overall online game revenue will be less than 15%.

Operator

Operator

And the next question comes from Alex Yao from JPMorgan. Alex Yao - JP Morgan Chase & Co, Research Division: I have 2 questions. Number one is on the gaming revenue growth, you guys delivered a very robust 18% year-over-year growth. Would you be able to share with us to what extent the gaming revenue growth is driven by usage growth? And to what extent is the ARPU -- ARPU growth? And my second question is a followup to one of the previous questions. From the company's perspective, are you seeing total number of active users and total time spent on your platform growing or remain flattish or declining over the past 4 quarters? [Chinese]

Lei Ding

Analyst

[Chinese]

Onward Choi

Analyst

[Chinese] So basically, for the first question about the game revenue growth, basically because by now, the -- we have quite a wide array of game portfolios that possess different kind of features, and so basically, we do not specifically divide it, how much of them would be contributors from usage or from the ARPUs, but definitely, we focus more on the experiences on the money that they are going to spend and making sure that they could get the values that they are expecting in order to keep them with us to enjoy the entertainment within our games. And for the second question, basically, for the total active paying users, so far from our observations, this has been growing in the past 4 quarters.

Operator

Operator

Next question comes from Tian Hou from T.H. Capital.

Tian X. Hou - T.H. Capital, LLC

Analyst

I have a question related to your mobile game. And as you guys started to put up more and more mobile game, so what is a mobile game distribution channel? So are you going to use your mobile apps, such as your news -- such as your mobile dictionary? And also, mobile game, what is the margin outlook for mobile game? And my understanding is a lot of developers of mobile game, they have to spend significant amount of money on the channel distribution. So what is NetEase's outlook in that front? [Chinese]

Onward Choi

Analyst

[Chinese] So basically, with regard to -- on the potential cost of distributing to mobile games, our worry is that potentially this might be lesser as compared with the traditional PC front. First of all, because the size of each client-based applications will be much smaller than what we are experiencing on the PC front. And as such, the user or the players would use less time to download the new applications. And at the same time, we also expect that for the mobile games, the server consumptions would also be lesser as with the traditional PC front. And we do believe that with the introductions of the mobile games to the market, we can better take into this part of the market by utilizing the fragmented times that the people might have. And on the other hand, in terms of the potential market outlook,, because there would be various factors that we need to take into account. And just now, we may talk about that, and maybe they will be using a little bit less of actually the server or the downtimes would be lesser. This would be a positive factors. On the other hand, we do also need to take into account the potential other costs. And one more thing to supplement is that on distributing the mobile games, definitely, we have already got some popular mobile applications like the news and also the dictionary, and those will be the good places for us to distribute our various mobile game titles as well.

Operator

Operator

And the next question comes from Mark Marostica from Piper Jaffray. Sorry, there is no response, so I'll move to the next question. And that comes from Jiong Shao from Macquarie.

George Meng - Macquarie Research

Analyst

This is George calling on behalf of Jiong. I have 2 questions, the first one is regarding your mobile games. We see that you have this mobile or pocket version of Fantasy Westward Journey already online, but I think it's more -- like, as you said, it's more supplementary, it's more like a plug-in for the PC version of the original game. So I just wonder, because some of your competitors already put out some full version of MMORPG games on the mobile side. So what's your thought on this, and are you going to launch also this mobile -- a long version, or a cross-platform version of bigger games going forward? And how are you going to assure the fairness between different platforms? And -- [Chinese].

Lei Ding

Analyst

[Chinese]

Onward Choi

Analyst

[Chinese] So basically, for the first part of your first question, basically, we do believe that the introduction of the pocket versions of the Fantasy Westward Journey II would be quite an innovations for NetEase in the sense that we can extend the gaming experiences of the players from PC to the mobile phones. And at the moment, we do see that this will be quite a good expansion and the presence of these 2 platforms will be complementary to one another. And regarding the second part about the potential cross platform or the potential fairness issues. Basically, we do worry [ph] that the gaming experiences of users on the PC front and the mobile front would be quite different. And we do not see that there would be an immediate needs to pool the 2 group of people together on one service to play or to compete. And we do see that by having 2 platforms, one on the PC front and the other one on the mobile front, would be a more good things for the people to experience the happiness of playing the games itself.

Operator

Operator

Thank you, ladies and gentlemen. We'll now hand back the conference call to management and closing remarks. Thank you.

Brandi Piacente

Analyst

Thank you, once again, for joining us today. If you have further questions, please feel free to contact Cassia Curran, NetEase's IR Manager, based in Hong Kong, or the Piacente Group Investor Relations. Have a wonderful day.

Operator

Operator

Ladies and gentlemen, this concludes the NetEase Second Quarter 2013 Earnings Conference Call. This conference will be available for replay after 11:00 a.m. today, 3:00 till midnight, 29th of August, 2013. You may access the replay system at any time by dialing U.S. local plus 1 (303) 590-3030, U.S. toll-free 1 (800) 406-7325 and entering the access code. Thank you for your participation. You may now disconnect.