Xiaomi Corp

HKEX:1810

Earnings Call Transcript 2020-Q2

[Operator]

Ladies and gentlemen, thank you for standing by, and welcome to Xiaomi 2020 Interim Results Announcement Conference Call. Today's conference is being recorded. If you have any objections, you may disconnect at this time.

I'd like to hand the conference over to your host today, Mr. Steve Lin. Thank you. Please go ahead, sir.

[Steve Lin, executive]

Thank you. Good evening, ladies and gentlemen. Welcome to the investor conference call hosted by Xiaomi Corporation regarding the company's 2020 interim results. I'm Steve Lin, Director of Board Finance and Company Secretary.

Before we start the call, we would like to remind you that this call may include forward-looking statements which are underlined by a number of risks and uncertainties and may not be realized in the future for various reasons. Information about general market conditions is coming from a variety of sources outside of Xiaomi.

This presentation also contains some unaudited non-IFRS financial measures that should be considered in addition to, but not as a substitute for, the company's financials prepared in accordance with IFRS.

Our President, Mr. Wang Xiang, will be presenting in the call. To start with, Mr. Wang will share some strategic initiatives of the company, and he will discuss the business segment and financial performance. We will then move on to Q&A after Mr. Wang's presentation.

I will turn the call over to Mr. Wang.

[Xiang Wang, executive]

Hi. Good evening, everyone. Thank you for joining our second quarter 2020 earnings call. In the first half of 2020, despite the impact of COVID-19 pandemic and macroeconomic uncertainties, our business continued to expand demonstrating the strength and the resilience of our business model. In the first half, our total revenue was RMB 103.2 billion, up 8% year-over-year. Adjusted net profit for the period achieved RMB 5.7 billion. In the second quarter, our total revenue was RMB 53.5 billion, up 3%. IFRS net income was CNY 4.5 billion and adjusted net profit for the period was CNY 3.4 billion, up 47% quarter-over-quarter.

Before I go over business performance of each segment, I'd like to share some of key business updates. The first point I would like to talk about is the impact of COVID-19 on our business. In the second quarter, the COVID-19 pandemic affected our operations in different overseas markets to varying degrees. In April and May, several of our key markets implemented strict lockdown measures, and our sales were greatly impacted. As businesses restrictions gradually lifted, our sales volume has recovered tangibly.

In July, the average daily number of smartphone activations in overseas markets surpassed the pre pandemic level in January 2020. In India, for example, the strict lockdown measures were imposed since late March, and our sales were significantly impacted during the lockdown period. As India gradually lifting the restrictions during the second quarter, consumer demand started to rebound. However, as production capacity has not yet resumed to the normal level, our sales were still limited by the production constraints. In July, the average number of smartphone activations in India returned to 72% of the pre pandemic level in January. In July, excluding India, the average daily number of overseas smartphone activations has reached to 120% of the average pre pandemic level in January.

Despite the pandemic, we have performed well in overseas market. One market to highlight is Europe. We continue to gain share, and we ranked top 3 for the first time, with a market share of 17%. And our smartphone shipment in European market grew by 65% year-over-year, which was the highest growth among major players.

The second point I'd like to talk about is our relentless effort on pursuing advanced technologies. On August 11, we launched our Mi 10 Ultra including numerous revolutionary features, including 120x AI super zoom, 120 hertz refresh rate with 10-bit color depth as well as 120 watts wired and 50 watts wireless fast charger. Mi 10 Ultra achieved DxOMark score of 130 for overall camera performance, once again, the first place globally.

Our innovation has been globally acknowledged. In August, we made our second entry on the Fortune 500 list, ranked 422nd, up 46 places from last year. As a global leading innovator, we run 24 on BCG's 50 Most Innovative Companies of 2020 and have made Derwent Top 100 Global Innovators 2020 list as one of the only 3 companies for Mainland China on the list.

Now I'd like to discuss the performance of our smartphone business. So our smartphone revenue reached RMB 31.6 billion, down 1.2%, but up 4% quarter-over-quarter against the overall smartphone market downtrend, with the smartphone shipments totaling 28.3 million units. In the second quarter, our premium smartphones were well received by the market in Mainland China. During JD's 618 Shopping Festival, our Mi 10 was the best seller in the price range of RMB 3,500 to RMB 4,500. Our Redmi K30 Pro was the best-selling 5G smartphones.

The overseas market, our premium smartphones have also been popular among consumers, including our high-end smartphones, Mi 10, Mi 10 Pro, Mi Note 10 and Mi 10 Lite. The overseas shipments of premium smartphones with retail price at EUR 300 and above went up by 99% year-over-year in Q2 2020.

Driven by higher proportion of sales from premium smartphones, the ASP of our smartphones increased by 12%. The exact number is 11.8% year-over-year and 7.5% quarter-over-quarter.

In the first half of 2020, we launched a series of products across different price ranges. Firstly, we have strengthened our position in premium smartphone market. Following the success of our Mi 10 and Mi 10 Pro, we introduced our Mi 10 Ultra in August. Secondly, we continue to broaden our smartphone offerings to bring 5G technology to the mass market. Followed by launch of K30 earlier this year, we introduced our Redmi 10X series in May, which brought the 5G smartphone to an affordable RMB 1,500 price range.

Thirdly, to fulfill the needs of global customers amidst the macroeconomic uncertainties, we also introduced highly competitive entry-level smartphones, including Redmi 9A series with pricing starting from RMB 499, which set a new standard for entry-level smartphone worldwide.

Now let's move on to IoT and lifestyle products. IoT revenue. Our IoT and lifestyle products revenue was RMB 15.3 billion in the second quarter of 2020, up about 2% year-over-year, up 18% quarter-over-quarter.

At Xiaomi, we are powered by our smartphone, now we call Smartphone x AIoT core strategy, which is upgraded from Smartphone + AIoT. It means smartphone is the cornerstone of our business, while the -- our IoT platform will revolve around smartphones to build up a smart living ecosystem. Smartphone and AIoT will create multiplier effect to strengthen economic moats for our business.

In the second quarter, Xiaomi continues to expand our global AIoT user base, solidifying our leading consumer AIoT platform position. The number of connected IoT devices further grew to 271 million units as of June 30, 2020, up 38% year-over-year. Moreover, the number of users who have 5 or more devices connected to our IoT platform reached 5.1 million, up 64% year-over-year. In June 2020, our AI assistant had 78.4 million MAU, up at 57%. In June 2020, our Mi Home app had 40.8 million MAU, representing an increase of 34%.

Moreover, our analysis showcases a clear synergistic effort between smartphones and AIoT. Our smartphone users with connected IoT devices showed higher smartphone retention rate than users' result.

Our AIoT platform also demonstrated user stickiness. For our IoT users as of June 30, 2019, the average number of connected devices increased by over 25% in the subsequent 12 months.

To enhance the connectivity and the interaction among devices, we launched a few new functions for our AIoT platform. First, if you are using Xiaomi smartphone with our updated MIUI 12 operating system, you can easily control the smart devices at your home. Secondly, supported by our Mi Wi-Fi router, new IoT products can be connected to Wi-Fi easily with one single click.

Thirdly, we enabled our IoT platform with Xiaomi Share to strengthen the interaction among smart devices, including smartphone, laptop, smart TV, smart watch and AI speaker. For example, Xiaomi Share supports always on access to music, video, voice calls when switching across multiple devices.

We not only maintain the #1 position by shipments in Mainland China, but also strive to innovate. In the second quarter, we introduced 2 flagship products under the new Mi TV Master Series, further expanded our footprint into premium market. We launched Xiaomi Mi TV LUX 65-inch OLED and our groundbreaking Mi TV LUX OLED Transparent Edition. The world's first mass-produced transparent TV with edge-to-edge transparent self-luminous display transmitting images that seem to be suspended in the air, the TV brings an unprecedented visual experience.

In the second quarter of 2020, despite the global TV shipment fall off, our global TV shipment is amounted to 2.8 million units, maintaining a year-over-year growth. In Mainland China, we ranked #1 by shipments for 6 consecutive quarters.

Overseas market is also a key growth driver for our IoT business. We debuted our market TVs in several new markets, including Italy, Poland and France. To meet increasing needs from a global consumer on our IoT products, we held the first global Xiaomi Ecosystem Product Launch in July. In the launch event, we introduced a series of products, including Mi Smart Band 5, Mi True Wireless Earphones 2 Basic, and Mi Electric Scooter Pro 2, which collaborated with the Mercedes F1 Team.

Let's move on to the Internet services segment. In the second quarter, our Internet services revenue reached RMB 5.9 billion, representing an increase of 29% year-over-year. Revenue from advertising, online gaming and other Internet value-added services grew by 23%, 55% and 27%, respectively.

Our user base also grew strongly in the second quarter. In July, our global MIUI MAU increased by 23% to 243.5 million (sic) [ 343.5 million ] while Mainland China MAU of MIUI was 109.7 million. The MAU of smart TV and TV box, meanwhile, increased by 42% to 32 million.

Our advertising business achieved solid growth despite the challenging environment in the second quarter of 2020. Our advertising revenue reached RMB 3.1 billion, up 23% year-over-year and 16% quarter-over-quarter. The growth was mainly driven by: firstly, rapid growth of overseas Internet advertising revenue; second, the gradual recovery of advertising budget as businesses gradually recovered from the impact of the pandemic in Mainland China.

Our Internet services have been increasingly diversified. In the second quarter, 39% of our Internet service revenue came from Internet services outside of advertising and gaming from Mainland China smartphones, including fintech, Youpin e-commerce, TV Internet and overseas Internet services, up by 39% over -- year-over-year.

Among them, I'd like to highlight our TV Internet services. In the second quarter, our TV Internet services grew strongly year-over-year driven by the expansion of user base, increasing premium brand advertisers, diversified TV memberships and a broadened TV Internet service offerings such as TV karaoke. We also upgraded our TV operating system, MIUI for TV 3.0. We improved our user interface and recommendation algorithm to further enhance our smart TV ecosystem.

Next, let's move on to our overseas business. In the second quarter, despite the impact of the pandemic, revenue from overseas market in the second quarter amounted to RMB 24 billion, representing an increase of 10% year-over-year, contributing to 45% of the total revenue.

In the second quarter, our smartphone shipment achieved solid growth in major countries and in regions around the world. According to Canalys, our market share were the top 5 in 50 countries. And the regions in terms of smartphone shipments ranked top 3 in 25 markets.

A few markets to highlight. In Spain, our smartphone market share ranked #1 for 2 quarters in a row. Moreover, we became #1 smartphone in Poland, #2 in France and #4 Netherlands for the first time.

In particular, Western Europe, our smartphone shipments ranked top 5 -- top 4, grew by 11 -- 16% (sic) [ 116% ] year-over-year in the second quarter, was a 12.4% market share. The growth in Western Europe was driven by strong performance in certain -- in key countries. During the quarter, our smartphone shipment ranked first in Spain with a market share of nearly 27%, a year-over-year growth of 151%. We also ranked #2 in France and #4 in Germany and Italy with robust year-over-year growth.

Lastly, during this quarter, India, we were -- in the Q2, we were the market leader with a market share of 30.7% according to IDC. Our smartphone shipment maintained the #1 position for the 12th consecutive quarter.

In the following, I'd like to go over the financials. We have witnessed upward trend year-over-year in our overall gross margin of 14% in the second quarter of 2019 to 14.4% in the second quarter of 2020. In the past quarter, gross margin of our smartphone was 17 -- 7.2%, which is slightly lower than the previous quarter because of the enhanced promotion efforts during the shopping festival in Mainland China. The gross margin of our IoT and lifestyle products was 11.4%, which maintained steady -- maintains steady compared to same period of last year. And the gross margin of our Internet services was 60.3%, which was lower year-over-year due to high credit allowance to our Fintech business. However, the gross margin of Internet services has been improved quarter-over-quarter.

The OpEx. Our operating expense ratio grew from 8.8% in the second quarter of 2019 to 11.2% in the second quarter of 2020, mainly due to: number one, our continuous investment in the R&D and brand building; number two, lower operating leverage during the pandemic. In the second quarter, our R&D expenses increased 26% year-over-year.

Our working capital also maintained healthy this quarter compared to Q2 2019. Our account receivable turnover days increased from 12 days to 14 days. Our account payable turnover days increased from 85 days to 11, 12 (sic) [ 112 ] days. While our inventory turnover days increased from 53 days to 72 days. The increase of inventory turnover days was mostly caused by a long inventory cycle for overseas smartphones and the impact of the pandemic. For example, because of the production disruption in India, we are importing smartphones from China to India, which led to a longer inventory cycle.

At June 30, 2020, the cash resources were amounted to RMB 64.4 billion. In the second quarter of 2020, we have also witnessed a strong cash flow performance. The net cash generated from operating activities was RMB 4.3 billion. If we exclude the impact from our Fintech business, we have adjusted operating cash flow was RMB 6.7 billion.

Investment has been important part of our business. In addition to investments in our ecosystem companies, we are also actively investing to supply channel companies. This investment has strengthened the partnership with key component suppliers, enhanced our sourcing and manufacturing abilities in advanced technology and facilitated development of a key industry, in particular, around 5G, IoT, AI and other areas. In the second half of 2020, we have invested over 20 upstream supply chain companies. And the book value of investment reached to RMB 36.8 billion as of June 30, 2020.

Before I end my presentation, I'd like to reiterate our 3 guiding principles that Mr. Lei Jun, our Chairman and CEO, mentioned in Xiaomi's 10-year anniversary speech. Firstly, never cease to explore and innovate and bring everyone the most innovative technologies; second, continue to offer product with the best price-to-performance ratio; third, always makes the coolest product.

We firmly believe that no matter what the pursuit of technological innovations will always be driving force for Xiaomi's competitiveness, offering amazing products at accessible and honest prices is an evergreen strategy throughout the economic cycles, and making coolest product is an inherent to our engineering culture. These 3 principles guarantee Xiaomi's high-quality growth ahead, and they are our manifesto for the next decade.

This ends my prepared remarks. Now we are open for Q&A. Thank you.

[Steve Lin, executive]

[Operator Instructions]

[Operator]

[Operator Instructions] Our first question comes from Peter Wu (sic) [ Thompson Wu ] with UBS Hong Kong.

[Thompson Wu, analyst]

I think they're asking for me. This is Thompson Wu from UBS. First question, recent restrictions from the U.S. has impacted some of the major smartphone players in China. Can you share with us how this may have changed your smartphone strategy, if it has? That's my first question.

And then my second question is on India. I understand activations are now roughly about 70% of January, and production has been slower to come back than expected. Can you talk a little bit about the app span, the recent tensions between the 2 countries? And how are you thinking about the competitive environment in India going into the back half of the year?

[Xiang Wang, executive]

Okay. Yes, thank you for the question. Actually, we will not change our strategy. We have been executing our strategy very, very effectively, which is -- we call it dual-engine strategy. But we will continuously invest into the technology of 5G and AIoT, number one. Number two, we'll continue to grow our business in China, in India and in many other markets like Europe and Latin America and Asia Pacific region. We are we are gaining a lot of traction in the global market. As you have seen our growth even during the pandemic, during the very difficult challenging time of Q2, we still maintain a healthy growth in most of the regions. We will continue to do that to execute the strategy. I think that strategy is the right strategy. We also established a very strong partnership, not only in China but outside of China as well. We'll continue to strengthen our partnership with the technology partners in U.S., in Europe, in Asia Pacific. So we will continue to do that. So in summary, we don't see any change in our strategy. We continue to execute on our strategy. That is question #1.

Number two is regarding to the Indian market. Yes, we have -- we are facing a very, very serious challenge in the Q2 in Indian market because of the pandemic. Right now, still, the infection rate in India is still very high. But after the lockdown, we see the recovery of the Indian market. Right now it's 72% compared to the normal level in January. In the second half, I think we will see the same challenge, which is the pandemic. We'll continue to work with our Indian team closely. And also, we will do our best to support our Indian partners and the community to fight against the pandemic. But also we see an opportunity in the second half because there is a big festival -- a selling season in India, we call it Diwali, which is a big festival. We are working very hard to prepare the opportunity.

And also, we believe that the smartphone is a very, very important product for the consumer, especially in the very difficult challenging time. People -- our Indian consumer -- or fans, they are using the smartphone to have a better communication with their family and the community. I think we'll continue to offer a very, very cost-effective and high-performance and very accessible, honest prices product to the market. And as a company, actually, we have been promoting the mutual trust and the friendship between the people in India and China. We have a lot of local employees there. They are also working very hard. And also, we support each other. We are -- we feel very good about the performance in India.

[Operator]

Our next question comes from Leping Huang with CICC.

[Leping Huang, analyst]

So the first question is about your smartphone business. You delivered a very strong performance in the last few quarters. So can you share more color to what you have done in the past to achieve this result? And where are you in terms of the products or the channel in Europe? So do you have enough channel and product offering in Europe? This is the first question.

And the second question is about your Internet business. I think you changed your strategy from the -- what should I say, of the Smartphone + AIoT to Smartphone x AIoT. So I think AIoT is a key strategy for you for, I think, more than 1 year. Do you see any financial benefit in terms of either the Internet service? Or which is driven by our Internet AIoT business -- the investment? Yes.

[Xiang Wang, executive]

Yes. Thank you. Thank you for the question. Regarding to the European market, actually, we have been in European market for, I think, almost 3 years, more than 2.5 years, almost 3 years. Actually, in European market, actually, we go all channels. We started from the open market. We established through the years, established a very strong partnership with the traditional off-line channels, including the big players like media market and others. We opened Xiaomi authorized stores across the major European countries, major cities. And also, we have we are operating mi.com in many of the European markets, including France, Spain, Germany. And also, we partnered with the online players, local online players like Amazon, like Cdiscount in France. Amazon in almost every market. So that's the traditional existing channel in Europe, which are the major channel.

The European market is very, very different from the Asian market -- or from the China market. They also have 50% of the smartphone are sold through carrier channels. Through the years, actually starting from year 2019, late '18 and '19, we have established a strong partnership with the major European operators, including almost everyone, Vodafone, Telefónica, Orange, everyone, now we see the strong growth from that segment as well.

So thirdly, I think our brand has been gradually accepted or become a well-known in many of the Western European market, including -- especially in Spain, now in France, Italy and Germany, not only in smartphones, but also we are offering many, many -- we call it Ecosystem Product, including the scooters, the air purifier, the wristband, many, many others, even the rice cookers. So we make a lot of friends or make a lot of people using our products. So that help us to generate a lot of traction and also brand recognition. That's the, I think, the major reason for the growth.

Now if you look at the market share number, we grew from -- in Q1, I still remember, our market share in Western European market was about 10%, now become 12.4%. Within 1 quarter, actually, we grew about 2%. The overall European market, including Eastern Europe and Western Europe, now our market share is close to 17%. So you see the potential. We are still -- I still see a lot of potential to grow in the second half and also next few years. So we are very, very excited about the future opportunity. That's the European market.

Now let's talk about the strategy. Our strategy is 5G smartphone, Smartphone + AIoT. This strategy was developed or defined in the last year in 2019. Now we do a little bit upgrade. We call it Smartphone x AIoT. I think it means we emphasize the connection between those two, technology and product. So we emphasized the multiplier effect of that. We have numbers to show that our users, our smartphone users is they also -- if they are also our IoT product users, so the retention rate is higher. So people would like to enjoy the user experience -- the experience using our smartphone and AIoT together. So that's very important to us. We'll continue to build, how do say it, to improve the user experience, invest into that area of technology.

That's why we just launched a new feature in our MIUI OS, we call it Mi Share. So with Mi Share, you can easily access to different devices around you, around your family, and around in the house with your smartphones, with your AI speakers in different size of screens, TVs, laptops. So it makes life even easier.

We'll continue to do that. I don't know if Steve and others have other comments.

[Steve Lin, executive]

No. I have nothing further to add.

[Operator]

Our next question comes from Piyush Mubayi with Goldman Sachs in Hong Kong.

[Piyush Mubayi, analyst]

Could we just return to the China market and assess 2 things? First, your Internet MAU and the progression of that number through 2Q and how you think that could accelerate into 3Q and into 2021.

And the second question, again, about China smartphones is, could you assess the strengths and weaknesses of your distribution network in the country in contrast that with the other markets that you may have done? You may have gained market share, that's probably better than what changes could be made in place ahead of potentially major structural change in the smartphone market share.

[Xiang Wang, executive]

Yes. Thank you for the question. The first question is related to the future of Internet service revenue, right? So I think the -- we see some -- there are several reasons for the Q2 revenue. I think we see a strong growth in the advertising revenue, gaming and also the Internet revenue generated from the TV and the content business segment. So we -- actually, we were facing a little challenge on the Internet financial Fintech business because of the pandemic. That's the challenge. That's one of the biggest challenges we are dealing with. I think in the long run, after the recovery from the pandemic, we see -- we will see a better opportunity in the future, number one.

Number two. Actually, if you look at the number, actually, the -- we -- how do I say, we diversified our Internet revenue. Now our Internet revenue generated from outside of the smartphone-related Internet revenue from China, actually, we see a new growth area. For example, in the TV content area. We see a growth and also overseas Internet service revenue also grew significantly because of the -- our installation base, our market -- smartphone market share have increased globally. That's also a good signal for us for the future.

So I don't know, Steve, if you can have anything to add.

[Steve Lin, executive]

Yes. So on the user base part, I think if you look at the global MIUI and the units of the smartphone, we grew 23% year-over-year. So it's growing robustly. And outside of the smartphone, if you look at our TV MAU growth, 42% of growth. All these growing users are actually bringing us more monetization, which contributed a lot to a lot of the growth that Xiang Wang mentioned about. China MAU has been stable over the past few quarters. And I think the MAU is a big function of the market share of the China market.

So I think as we talk about how we want to progress and continue to gain share with the strategy, including to -- or statistical entry in the high-end market, including using our efficiency to make 5G technology more accessible. So I think as a company, we are confident as the [ price batching ] continues for this array, we'll be able to have a better opportunity to gain more share in China, which will drive -- which will identify the growth in MAU.

[Xiang Wang, executive]

The second question is related to the China distribution channel. Actually, we are working very hard to build or establish or further establish our off-line channel. We are now building our Xiaomi stores and also Xiaomi authorized stores. And also, we are building our partnership with our carrier partners as well. At the same time, because we are coming from an online company, right? We will continue to strengthen our business performance in the mi.com and also the third-party online channels like JD.com and Tmall, Tmall market. So still working in progress in the off-line channels. So we see a pretty good signal.

So different than the other market in Europe because the off-line market has been strong for many, many years. Their off-line market is very, very mature. The market structure actually, it's very different than the Chinese domestic market. So we will use a different strategy. We are -- keep exploring which is the most efficient way of distributing our product and service in China domestic market.

[Operator]

Our next question comes from Gokul Hariharan with JPMorgan in Hong Kong.

[Gokul Hariharan, analyst]

My first question is on the Internet finance side. Could you talk a little bit about what you have done to kind of control some of the exposure, given some of the challenges that we have faced in the Internet finance business? You also talked about changing the nature of that business towards more supply chain finance, et cetera. So can you talk a little bit about what you're doing in that front? As well as maybe add a little bit on any impact from some of the regulations and the consolidation that we are seeing in the consumer finance side.

My second question is on the MIUI user base, especially on the AIoT front. I think you did mention that the retention rate is really rising for users who are -- smartphone users who are also using Xiaomi AIoT devices. Are there any early examples of monetization or some kind of cross-marketing that you're able to offer and increase your Internet service revenues from this AIoT user base? I know that we are doing a fair bit of TV monetization with the rising installed base. But beyond the TV side, are we seeing -- could you give some examples of the early efforts on that front?

[Xiang Wang, executive]

Yes. I'd like to let Steve answer the question for you.

[Steve Lin, executive]

Okay. Thanks a lot for the question. So I'll first start with the first question which is in relation to the Internet finance. So first, I just want to clarify, we're sort of not shifting focus from consumer to the industry finance. I think when we look at our Xiaomi Finance business, we always see a long-term potential. And that center around 2 parts. One part is providing service to our user. So this is on the retail side. The second part is leveraging our value chain to develop supply chain financing solutions. So this has always been the 2 key part that we are currently developing. I think one part on the retail side that people are very focusing on is because we mentioned during the results announcement that our Internet service gross margin was impacted by the increase in provision of consumer loans.

I think from a long-term perspective, we continue to feel like Xiaomi as a platform with data for users and with the strength in balance sheet, we feel like this finance is a good and long-term business for us. Unfortunately, I think in the short term, what we're facing is the whole industry is facing headwinds. And on top of that, there's a pandemic impact. So for the past few quarters, we have been proactively strengthening our risk control, meaning we are raising the bar and trying to only serve the more high-quality users. So despite that you're seeing like in the first quarter and the second quarter, I think we have increased the credit loans for the provision. But I think overall, the trend, as we've been controlling the risk for a couple of quarters already, I think that from a trend perspective, it's positive.

And then on the other side, we continue to very actively developing the supply chain solutions. So I think the idea is to be able to leverage a large supply chain, both for ourselves and also a lot of ecosystem companies and we develop supply chain finance solutions. So these solutions will empower all the supply chain companies, not only the supplier, but all suppliers' supplier to enable everyone to be able to get finance and credit more easily. So it's not entirely a balance sheet business. It's part of the balance sheet, but a lot of it is actually the technology solution, which we are developing right now. So that was the first question regarding Internet finance.

Second question was sort of on the user base of IoT, right? So on IoT, I think -- so I'm going talk about more emphasis on smartphone-type AIoT because we see a very clear synergetic effect between the products. So I think one example we talked about is retention, right? So people or smartphone users who have also connected IoT devices on their smartphone from the data that we're seeing, the retention is much higher. And then we're also saying that people who buy IoT devices, they're buying more and more, right? So if you look at last year's users and look at the average number of IoT devices, over 12 months, that number actually increased by over 25%. So I think these are very positive and synergetic effect.

But if we look at the real like smartphone experience, I think we're still at the very, very early stage. I think we talked about that more for a time. And I think it's easy to understand a majority of people in this call, right? I don't think we have a smartphone experience yet. So the clear focus for us is really executing a Smartphone x AIoT strategy and to continue to strengthen our leadership in IoT, this AIoT space, meaning having more and more people buy IoT device, connected them to the smartphone and start to use a smartphone to connect to devices. We believe long term, this should have a very good monetization potential.

I think one number we showed, right, is for AI system actually reached -- I mean, we actually reached 78 million and grew at a rate at 57%, right? So I think the idea is once we connect everything, a lot of different entry points, including smartphone, including AI, including TV, with the time spent with the user engagement, it should bring a monetization opportunity. But the focus at the moment is really to have everybody to start having a small leading experience.

[Operator]

Our next question comes from Yunchen Tsai with Morgan Stanley.

[Yunchen Tsai, analyst]

So my question is really regarding the expenses, the OpEx. So I just wonder, is there a priority where you want to spend those resources? I'm also more interesting in knowing whether there is a direction more towards the domestic or to the overseas? Because it sounds like throughout the call, you are planning to do more of the off-line channel in the China market as well. And also because if we look at this simply on the second quarter, it looks like in the overseas market, there is ongoing spending as well. So how should we think about this? And could you also let us know how should we think about the trend going forward, too?

[Xiang Wang, executive]

We will continue to focus the technology areas, for example, the 5G technology and also the AI technology and also camera fast-charging kind of technology a lot. The -- with this year, actually, our spending on R&D probably will be more than CNY 10 billion. So over 25% growth actually in Q2. our R&D expenses in Q2 was 25% growth year-over-year. So we continue to spend more R&D dollars on those key technology areas. This is the number one.

And also, the China market, no doubt, China market is a very important market. It's the most important market for us. We will continue to invest into the Chinese domestic market. But at the same time, actually, we will continue to expand our business, our footprint to the major market, for example, Europe, Asia Pacific and also the Turkey and other markets. Also well, actually from '19, year 2019, we entered new markets like Africa and Latin America. Right now, they are doing well. So we'll continue to grow in because that market, actually, the potential is very big. It's 1.5 billion -- 1.6 billion smartphones shipment every year. So that's a big market for us. We have that strategy a couple of years ago, 3 or maybe 4 years ago. So we'll execute that strategy firmly. So this is what I see the trend is.

[Steve Lin, executive]

I'll just simply -- I think -- I'll just simply add quickly one point. I think what you see this quarter is the operating expense ratio has increased quite a lot. I think quite have been happening is because of the pandemic or revenue slowdown. But if you look at the investment we're making, the R&D investment we're making, the sales and marketing investment we're making, branding investment we're making, we did not slow down. I think we continue to see great market opportunity. So we're continuing to maintain our pace as original for future growth.

[Yunchen Tsai, analyst]

Okay. So just a bit follow-up on this. So despite of the recent changes in the macroenvironment, is it fair to say you haven't really switched like the resources that you are willing to put? I mean the allocation of resources you are willing to put into the overseas versus the domestic model market?

[Xiang Wang, executive]

Yes. Despite the environment, actually, we'll execute our strategy. Even in the very difficult time period like Q1 and Q2, actually, we see a slowing down of the smartphone market or -- but we still keep our spending, our investment in R&D and also in sales and marketing channel. That's a proof for our, I would say, determination to grow further.

So the overseas market is the same thing, we will continue to grow that market. Actually, because of the -- we are -- we have a very diversified market opportunities that helped us actually a lot during the pandemic environment. So for example, Q1, China was hit, right, by the pandemic. But we -- the overseas market helped us. In Q2, actually, we had a bigger challenge in the overseas market. So we have a diversified market alternative, which is good for the long term, long-term growth.

[Steve Lin, executive]

Due to the time constraint, we will now take the last question.

[Operator]

Our last question comes from Kyna Wong with Crédit Suisse in Hong Kong.

[Kyna Wong, analyst]

So I have 2 questions. The first one is about the IoT business because the second quarter seems like the growth that you saw in March due to the pandemic impact. But I would like to know is about the domestic market as well if the recovery is in progress. And what's the outlook in the second half that could we see the momentum to come back? Or like do we need to like generate more promotion or like advertisement to push the IoT in domestic market and also the overseas recovery. This is the first question.

And the second one is about the gross margin in smartphone business. So because we also expect like company could gradually gain share in China market with the dual engine and also the multiplied synergy -- strategy going forward strengthen the China market presence. But this will -- this may also affect the gross margin going forward because the competitions in the market are still very severe. So what should we like expect going forward? How the company can manage the gross profit margin in smartphone business?

[Xiang Wang, executive]

Yes. Thank you. The first question is related to the IoT business. In Q2, actually, the -- actually, the IoT business grew slightly, right? It's slower than our original plan. This is, I think it's mainly due to the pandemic. The market was gradually recovering but still, we had many challenges in the Q2. For example, the TV business, right? The market -- the total market was in the very, very -- in the downtrend, actually in Q2. The TV installation was an issue for many families or consumers in Q2, still. And also both this market the same thing. So that's the major challenge we have been facing.

In the future, actually, you see there still are uncertainties because of the pandemic, right? The India market, the European market and the Latin market, still those areas or countries, there's still uncertainty on the pandemic. We still see that's a potential risk for us. But we will -- we are working very hard. We have monitored the progress very, very closely for the second half, but we're also being very conscious about the pandemic -- impact from the pandemic.

Now the gross margin in smartphone, actually the -- in my opinion, in our business model, we should maintain -- we can maintain a high single digit, right, the gross margin. In the -- actually Q1 or Q2, we want to push smartphone -- 5G smartphone very aggressively. So we invest a lot in the marketing. We want to drive the cost out so that we can have as many people as possible to use 5G devices. So that could impact our gross margin in Q1 and Q2.

In the second half, actually, you see we'll have more 5G models. But also, we have a very strong entry-level devices. For example, in the presentation I mentioned, there is a very strong product, we call it Redmi 9A is entry-level device. I think at that can be -- should be the fast entry-level device ever. So I think we'll ship a lot, not only to China domestic market, but globally -- global market as well. The ASP of that phone is only RMB 499. With that model, actually, you will see the big volume, but also the gross -- will impact the gross margin. Do you agree?

[Steve Lin, executive]

Yes. Yes. So thank you all for joining today. We will now conclude the call. Thanks, again, for joining the call. Good night.

[Xiang Wang, executive]

Yes. Thank you. Thank you very much for taking the call.

[Operator]

Thank you. This concludes the conference call today. Thanks again for joining us. You may now disconnect. Goodbye.