Kingsoft Corp Ltd

HKEX:3888

Earnings Call Transcript 2021-Q2

[Operator]

Good day, and thank you for standing by. Welcome to the Q2 2021 Kingsoft Corporation Earnings Conference Call. [Operator Instructions] Please be advised that today's conference is being recorded. [Operator Instructions]

I would now like to hand the conference over to our first speaker today, Ms. Francie Lu. Please go ahead.

[Francie Lu, executive]

Thank you. Ladies and gentlemen, good evening and good morning. I would like to welcome everyone to our 2021 second quarter and interim results earnings call. I'm Francie Lu, the IR Director of Kingsoft.

I would like to start by reminding you that some information provided during the earnings call may include forward-looking statements, which may not be relied upon in the future for various reasons. These forward-looking statements are based on our own information and information from other sources, which we believe to be reliable. Please refer to the other publicly disclosed documents for detailed discussion on risk factors, which may affect our business and operations.

Having said that, please allow me to introduce our management team who joined us today: Mr. Zou Tao, our Executive Director and CEO; and Mr. Francis Ng, our Executive Director and CFO.

Now I'm turning the call to Mr. Zou. Zou Tao.

[Tao Zou, executive]

[Foreign Language]

[Francie Lu, executive]

I'll do the translation. I'll do the translation for Mr. Zou.

[Interpreted] We maintained a steady performance in all businesses in the first half of 2021. Kingsoft Office Group seized the opportunity for digital transformation, and will continue to pursue the strategy of multiscreen, cloud, content, AI and collaboration. In the online game business, we continue to focus our strategy on premium games, increase our investment in R&D and continuously extend new game genres.

In the first half of 2021, our total revenue came in at RMB 3,039 million, up 17% year-on-year. And our office software and service business recorded a strong year-on-year growth of 70%. With the robust revenue growth of office software and service business, our total revenue in the second quarter was RMB 1,480 million, up 4% year-on-year.

Now I will turn the call to Francis, our CFO.

[Yuk Keung Ng, executive]

Thank you, Francie. Good evening, everybody. Kingsoft Office achieved outstanding performance during the second quarter. As the localization project has entered a mature period and customer demand increased significantly, Kingsoft Office Group continued to witness a strong revenue growth from the organization project during the quarter.

With the enhanced synergy between the subsidiaries, Beijing Suwell Technology Limited and Kingsoft Office Group, the fixed-layout document format standards have been increasingly adopted by the market, further optimizing the localization business ecosystem.

As a premium service provider of cloud and collaboration office solutions, we effectively promoted the cloud service migration and penetration in the government and enterprise market, and it brought us strong year-on-year revenue growth for the sustainable licensing business. Kingsoft Office Group has also continued to develop the micro, small and medium-sized enterprise market.

As of June 30, 2021, over 1 million of micro, small and medium-sized enterprise covering 19 industries are registered users of WPS+. Kingsoft Office group organized the 2021 Office Application Developer Conference in June and launched Document Open Platform, our first product, enabling global office application developers to facilitate a digital office as well as digital transformation in the government and enterprise market in China.

Meanwhile, Kingsoft Office Group has continued to optimize our user experience and improve its customer loyalty through the application of cloud and collaboration services. We continued to enhance the penetration within the public cloud market and promote the growth of subscription services business.

During the quarter, Kingsoft Office Group launched various new functions for WPS membership services and further optimize the user experience. In April, Kingsoft Office Group organized a content ecosystem conference in Wuhan and strived to promote the transformation of our core WPS products from office tools to office services.

In the first half of 2021, Kingsoft Office Group began the transformation of Internet advertising business. We took the initiative to further adjust the advertising strategy to reduce interruption from advertisement to users and enhance users' cross platform collaboration experiences.

During the second quarter of 2021, the Internet advertising and promotion services business maintain a steady year-on-year growth with the increase in user base, while its proportion in office software and services business revenue continued to decline.

In the second quarter, the online game business continued to enhance the IP value of JX series and expand the development of the new games genres. In April, the JX I Pocket mobile game was successfully released in Vietnam. Among all role-playing games, the JX I Pocket mobile game ranked first on both iOS and Android download charts in the first month of its debut.

In May, the First-Person Shooting game, Bullet Angel was first released in Southeast Asia and got recommended by Google Play. In June, War of the Visions: Final Fantasy Brave Exvius, the latest game of the Final Fantasy series developed by SQUARE ENIX was released in China, was recommended by Apple Store.

In the coming quarter, the online game business will continue to focus on the long-term development of classic IPs and promote the launch of new games. We will celebrate the 12th anniversary of JX Online III PC game and launch a new expansion pack to further strengthen the longevity and vitality of our core IP. In addition, JX World III mobile game will be launched within this year with a comprehensive upgrade in its visual design and game play.

I will now discuss the Q2 and first half of 2021 operation and financial results. I'm starting from Q2 using RMB as a currency. Revenue increased 4% year-over-year and decreased 5% quarter-over-quarter to CNY 1,480 million.

Development was 47% for the online game and others and 53% for the office software and services. You noticed that this is the first time that revenue of office software surpassed the revenue from our online game and others. Revenue from online games and other business decreased 22% year-over-year and 12% quarter-over-quarter to CNY 693 million.

The year-over-year decrease was mainly due to the decline in revenue from JX Online III as a large-scale expansion pack, successfully launched and a relatively high base following the increased cost by the pandemic in the second quarter 2020. The quarter-over-quarter decrease was largely due to the decreased revenue from existing game partially offset by the revenue contribution from the new launch mobile games.

Revenue from office software and services business increased 47% year-over-year and 2% quarter-over-quarter to CNY 786 million. The year-over-year increase was largely due to both strong growth of licensing business and sustainable growth of subscription services business.

The revenue growth of licensing business was driven primarily by increasing demand for localization as well as cloud and collaboration services from government and enterprise. The increase in subscription services business was mainly due to the growing demand for cloud and collaboration services and enhancement of user stickiness from personal users.

Cost of revenue increased 25% year-over-year and 11% quarter-over-quarter to CNY 272 million. The increases were mainly due to the good service and bandwidth courses as well as purchasing courses of services and products, in line with the expansion business of Kingsoft Office Group.

Gross profit cap flat year-over-year and decreased 8% quarter-over-quarter to CNY 1,208 million. The group's score -- the group's gross profit margin decreased by 3 percentage points year-over-year and 2 percentage points quarter-over-quarter to 82%. Our R&D expenses increased 36% year-over-year and 8% quarter-over-quarter to CNY 532 million. The increases were mainly attributable to the increased personnel-related expenses.

Selling and distribution expenses increased 61% year-over-year and 52% quarter-over-quarter to CNY 310 million. The increases were mainly due to the higher personnel-related expenses and an increase in marketing and promotion spending. Administrative expenses increased 31% year-over-year and decreased 10% quarter-over-quarter to CNY 133 million.

The year-over-year increase was primarily due to an increase in personnel-related costs. The quarter-over-quarter decrease was primarily attributable to a decrease in professional services suite. Share-based compensation costs increased 11% year-over-year and 28% quarter-over-quarter to CNY 441 million. And the increases were primarily reflected the new grants in awarded shares to the selected employees of certain subsidiary of the company in the second quarter 2021.

Operating profit, excluding the impact of eShop, decreased 54% year-over-year and 50% quarter-over-quarter to CNY 270 million. Net other gains were CNY 48 million compared with the losses of CNY 105 million in the corresponding period of last year and gain of CNY 33 million in the first quarter of 2021. The gains in the second quarter 2021 were mainly due to fair value gains on financial instruments and fair market through profit and loss.

The losses in the second quarter 2020 were primarily due to loss of pin disposal of an associate and impairment provisions for certain investee companies. We recorded share of losses of associates of CNY 211 million compared with share of losses of CNY 173 million for the second quarter of 2020 and a share of losses of CNY 225 million for the first quarter of 2021.

The losses in the second quarter of 2021 were mainly due to the losses recognized in Kingsoft Cloud and Cheetah Mobile. Losses in the second quarter of 2020 and the first quarter of 2021 were mainly due to losses recognized in Kingsoft Cloud in this quarter.

Income tax credit was CNY 26 million compared to the income tax expenses of CNY 83 million for the second quarter of 2020 and CNY 66 million for the first quarter of 2021.

The significant decrease was mainly attributable to the combined effect in the second quarter of 2021. First, the recognition of tax credit, a sudden subsidiary will qualify as selection of key software enterprises for the year 2020.

Second, the decrease in profit of online game business; and lastly, the specific deferral tax impact. As a result of the reason discussed about, the profit attributable to the owners of parent including those from continued operation and a discontinued operation, was CNY 49 million for the 3 months ended June 30, 2021 compared with the profit of CNY 9,151 million and a profit of CNY 117 million for the 3 months ended June 30, 2020, and March 31, 2021, respectively.

Profit to owners of parent, excluding eShop, was CNY 72 million, profit of CNY 9,194 million and a profit of CNY 140 million for the 3 months ended June 30, 2021, June 30, 2020 and March 31, 2021, respectively. And the net profit margin, excluding eShop was 5% -- 500%, 9% for the 3 months ended June 30, 2021, June 30, 2020, and March 31, 2021, respectively.

And now in the first half of 2021. Revenue increased 17% year-over-year to CNY 3,039 million. Online games and others make up 49% and decreased 12% year-over-year to CNY 1,482 million. Office software and services make up 51% and increased 70% year-over-year to CNY 1,557 million.

GP margin decreased by 1 percentage point year-over-year to 53%. As a result of the reason discussed about, profit attributable to the owner of parent, including those from operating -- continuing operation and discontinued operation was CNY 165 million and a profit of CNY 9,158 million for the 6 months ended June 30, 2021, and June 30, 2020, respectively.

Profit attributable to the owners of parent, excluding eShop, including those from continued operation and a discontinued operation, was CNY 211 million compared to a profit of CNY 9,249 million in the prior year period. The net profit margin, excluding eShop was 7% and 211% for the 6 months ended June 30, 2021 and June 30, 2020, respectively.

Our statement of financial position, we have cash resources of CNY 18 billion as at June 30, 2021. Net cash from operating activity was CNY 869 million and CNY 1,308 million for the 6 months ended June 30, 2021 and June 30, 2020, respectively. In the first half of 2021, we achieved a stable performance of our core business.

Looking forward to the coming quarters, we will continue to invest in R&D and technological innovation, enhancing technological capabilities and develop new products and services. We strive to bring the best experience to our user and customer. And we are committed to sustainable growth of our business bringing the long-term value in returns of our customers and achieving a win-win situation for our partner.

We may now start the Q&A.

[Francie Lu, executive]

Operator, we are ready for the Q&A session.

[Operator]

[Operator Instructions] We have the first question. This is coming from the line of Liping Zhao from CICC.

[Liping Zhao, analyst]

[Foreign Language] I have 2 questions here. My first question is related to the gaming business. What's the -- what's in the gaming pipeline in second half '21? And how was JX III -- Online III performing these days? And is there any update on the full year gaming revenue guidance?

And second question is about the R&D expenses. We noticed that WPS enhanced the R&D expenses and the revenue saw strong growth. Does the company still plan to further increase R&D headcount?

[Tao Zou, executive]

[Foreign Language]

[Francie Lu, executive]

I'll do the translation for Mr. Zou.

[Interpreted] So for the second half of the year, the game pipeline, right now, we have JX World III, which we will be launched this game in September this year. And the World Online and also MAU, these 2 games will not be launching in 2021, and they will be launched next year. We have already started a testing for JX III Yuan Qi. But for regulation matters, we have not received the license approval yet, and they've had a -- the most significant impact on our second quarter financial performance.

So there are still some uncertainties about the license approval. So we are not sure that we will be getting the license in August yet. And because of the license approval, there is a huge impact on overall year financial performance, and Francis will clarify on this matter later.

And for the question on the R&D for Kingsoft Office, because of the COVID situation, we have not hired enough people, enough R&D head -- headcount in 2020 for our cloud and collaboration business.

So now in the first half of 2021, we are catching up with the hiring of the R&D headcount. So we have accelerated the hiring pace in the first half of 2021. But in the second half and also going forward, the hiring rate will become more normalized. It will not be as aggressive as the first half of 2021. Thank you.

[Operator]

We have the next question. This is coming from Thomas Chong from Jefferies.

[Thomas Chong, analyst]

[Foreign Language]

[Yuk Keung Ng, executive]

Could I first respond to the earlier question by leaping regarding the revenue guidance for game this year. [Foreign Language]

[Francie Lu, executive]

Okay. I'll do the translation for Francis.

[Interpreted] So as the Liping's question on the gaming revenue guidance. Last time when we were releasing our earnings release, based on the pipeline and also the JX III Yuan Qi, we gave a guidance of over 10% top line growth for the gaming business. But like Zou Tao just explained that there is a couple of mobile games launch delay and also for the JX III Yuan Qi we have already started the testing, but we haven't received the license approval yet.

So now we will need to update the 2021 gaming guidance for the whole year. So preliminary guidance for now is that we will have a 5% to 10% decline in terms of the gaming revenue comparing with 2020. And this is a preliminary guidance and is still subject to the timing when we received the license approval for JX III Yuan Qi.

[Operator]

We have the next one coming from the line of Thomas Chong from Jefferies.

[Thomas Chong, analyst]

[Foreign Language] The first question is that how should we -- could management add more color in the overseas gaming revenue contribution? And how should we see the contribution of the massive period. The second one is could management provide more details about the OP margin trend given we are under investment cycle?

[Tao Zou, executive]

[Foreign Language]

[Yuk Keung Ng, executive]

[Foreign Language]

[Francie Lu, executive]

Okay. I'll translate for Francis. So for the gaming business, like our peers in the market, our R&D expenses have increased. In early this year, we have reached the salary for our R&D headcount for the gaming business. And this increase in R&D expense will reflect on the Q2 and also the annual margin performance for the gaming business.

And the second question is for the overseas gaming revenue contribution. Right now, our key focus is still on the domestic market. So the overseas gaming revenue is mostly as a single-digit contribution to the overall revenue.

But for this quarter, like Mr. Zou mentioned earlier, we had a very successful launch of JX I Pocket mobile game in Vietnam. So for this quarter, the overseas gaming revenue is slightly over 10%.

[Operator]

The next question comes from Xiangzhou Li from Fetix.

[Unknown Analyst]

[Foreign Language] How to understand the changes in our operating cash flow?

[Yuk Keung Ng, executive]

[Foreign Language]

[Francie Lu, executive]

Okay. I'll translate for Francis. Okay. So our margin is going to be narrowed, especially for the gaming business, and this is because our increase in the R&D expense for the game R&D sector, we had a review early this year and we raised the salary for our R&D sector early this year.

[Operator]

We have the next question. This is coming from the line of Yang Linlin from GF Securities.

[Linlin Yang, analyst]

[Foreign Language] The first question is about the whole game industry's growth help -- about how do you management think about the growth? And our game business growth in the coming years.

The second question is about JX III because the way for the decline of -- we have seen in this quarter. What -- how should we expect this growth in the second half year and the next year?

The third question is considering current distressed market, how do you -- management accounted the dividends and the repurchase plan as you said before?

[Tao Zou, executive]

[Foreign Language]

[Francie Lu, executive]

Okay. I'll translate for Mr. Zou.

[Interpreted] So for the gaming industry, my understanding is that going forward, there will be significant changes in the gaming industry. This doesn't mean that there's any problem with the industry overall. It's just that there are some uncertainties in the environment for the game industry.

So different gaming companies, their investment direction may be more conservative or more stable. So without these certain restrictions, I still have full confidence in the gaming industry overall. And for our own company's game, we -- the license approval for JX III Yuan Qi is much, much later than our original expectation.

And also, we have a couple of games that we have already got a license approval. But because of the changing in the environment, we decided to delay them to next year. So this is -- these 2 factors is the reason that our gaming revenue guidance changed from 10% to 15% growth rate to a negative 5% to negative 10%.

And for the JX III PC game, in the second quarter, we haven't received the license for the JX III Yuan Qi. And this does not only affect the game of Yuan Qi, but it also affects our current JX III PC game because some of the -- of users -- some of our users, they would like to try the new game Yuan Qi. So their spending in the current JX III PC game has declined.

And some of the other users who did not want to try the new game, but they have some worry that our focus in the gaming development will shift from the current JX III PC to Yuan Qi. So these 2 factors in total had a significant impact on the current JX III PC game in this quarter.

So starting from July, we have already adjusted our strategies in the gaming business. So overall, for the JX III game, we hope that the annual growth rate will be flat from 2020. Going forward, we hope the second half of 2021 for the JX III game performance, we will compensate the losses that we have incurred in the second quarter.

And for the next year, performance of JX III PC game is still subject to the license approval of JX III Yuan Qi. Our original expectations for the JX III series is that we want to achieve the result of 1 plus 1 is greater than 1. So then the current JX III PC game plus the JX III Yuan Qi. In total, we want the gross rate to be greater than 1. It could be 1.3 or 1.5. So if we can successfully get the license approval for JX III Yuan Qi, we still want to achieve this result in the coming years.

And the other question on the cash. We have considered a dividend and buyback and like the last quarter, I have already answered this question. But there are 2 factors right now. So in the short term, we are not going to start our buyback process or we're not going to significantly adjust our dividend policy.

The first factor is that we think that the market is not stable yet. I state an example for KC. KC disclosed our merger and acquisition earlier this quarter, and the stock price went up significantly. But in the following 1 to 2 weeks, the stock price went down. So that means the market is still quite unstable. So if we do start the buyback or the dividend adjustment, it may not be able to achieve the purpose that we expect.

And with our business development, the KSL business right now is quite stable. But for the KC business, because this year they have announced their strategy on cloud. So that means going forward, we may require to invest more cash in the cloud business. So due to these 2 factors, we are now going to start the buyback or dividend adjustment in the short term.

[Operator]

[Operator Instructions] We do not have any further questions at this moment. I would like to hand the conference back to our host for any ending remarks.

[Francie Lu, executive]

Thank you for your attendance, and this will conclude our presentation for the 2021 interim and second quarter earnings call. Thank you.

[Yuk Keung Ng, executive]

Thank you.

[Operator]

Thank you. That concludes our conference call for today. Thank you all for your participation. You may disconnect your lines now. Thank you.

[Portions of this transcript that are marked [Interpreted] were spoken by an interpreter present on the live call.]