iQIYI Inc

NASDAQ:IQ

Earnings Call Transcript 2022-Q4

[Operator]

Thank you for standing by, and welcome to the iQIYI Fourth Quarter and Fiscal Year 2022 Earnings Conference Call. All participants are in a listen-only mode. There will be a presentation followed by a question-and-answer session. [Operator Instructions].

I would now like to hand the conference over to Ms. Chang Yu, Investor Relations Director. Please go ahead.

[Chang Yu, Director of Investor Relations]

Thank you, operator. Hello everyone and thank you for joining iQIYI's Fourth Quarter and Fiscal Year 2022 earnings conference call. The Company's results were released today and are available on the Company's Investor Relations website at ir.iqiyi.com. On the call today are Mr. Yu Gong, our Founder, Director and CEO; and Mr. Jun Wang, our CFO; Mr. Xiaohui Wang, our CCO, Chief Content Officer and Mr. Wenfeng Liu, our CTO, Chief Technology Officer; Mr. Youqiao Duan, Senior Vice President of our Membership business; and Mr. Xianghua Yang, Senior Vice President of Movie and Overseas business; and Mr. [indiscernible], Senior Vice President of Print Advertising business.

Mr. Gong will give a brief overview of to the company's business operations and highlights followed by Jun who will go through the financials. After the prepared remarks, Xiaohui, Wenfeng, Youqiao, Xianghua and Gong will join Mr. Jun in the Q&A session.

Before we proceed, please note that the discussion today will contain forward-looking statements, made under the safe harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from our current expectations. Potential risks and uncertainties include, but are not limited to, those outlined in the 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 will now turn the call over to Mr. Gong. Please go ahead.

[Yu Gong, Founder, Director and Chief Executive Officer]

Hello everyone. We left out the macro year of [indiscernible] with outstanding performance in 4Q '22, our market share reached historical high solely on membership revenue, operating profits and a free cash flow to be perfect pick in Q4 with fifth Block Master with subscribing members, time spend growing by over 40% annually under 30% sequential rate, which is unprecedented.

As a result, we continue to gain market share. Our leadership in terms of effective bills in the general category remained challenging according to Enlightent data, a strong content performance brought the highest content membership revenue in our history up 15% annually and the 13% sequentially in Q4. Our average daily number of total subscribing members was 111.6 million reference sequential net addition of more than 10 million.

The number of subscribing members as of the end of December was 119.7 million represents a addition of over 13 million compared with the September. In the meantime, the advertising index continue to recover with sequential growth rate of 25%. Now move on to profit. We had cost effective quarter of RMB979 million non-GAAP operating profit of 87% compared with last quarter. The non-GAAP operating margin continues to expand for the fifth consecutive quarter and reached 13% in Q4, a showcase of operating leverage embedded in our business model.

In Q4, free cash flow reached over RMB840 million grow by 4.7 times compared with Q3. We are -- we have been generating positive free cash flow for two consecutive quarters. The outstanding Q4 performance is not a surprise. In fact, our Q4 performance may just be the start if we look ahead for two -- for one or two years. The driving force behind our current and the future success is our ability to produce and deliver high quality, popular or real content, which is our unique core competence. iQIYI is now The Master of Cheongsam, iQIYI brand presentation has been evaluated from capable of creating blockbusters to iQIYI is blockbuster powerhouse and perfect footnote tool [indiscernible] right after the closing of 4Q '22 we launched original drama, the Knockout has become another magic hit, broke records across every key metrics, the fastest to break iQIYI popularity in depth of 10,000 highest peak popularity in that highest daily user.

That is the daily audience and the highest membership revenue. The Knockout also generated tremendous social balance and become a true nationwide phenomenon. The success of the show demonstrates that the production and the operation of our original content had entered into, what true cycle of flywheel effect have been released. The [indiscernible] premium common supply drive user growth improved cost efficiency and profitability, which supports the company to create more premium content.

Therefore, we firmly believe the success is replicable and we could exceed our past performance in the future. Slide 2, why do we believe that our original term of production comparability is unique and cannot be easily covered because creating Blockbuster has no cost to get where we are today. We invested numerous resourcing including time, capital, talent and technology.

We initiated our original content strategy back in 2014 and made substantial performance in 2022 after almost a decade of persistent efforts. In the most recent two years, our investment in original content almost which R&D, billing [indiscernible] we have established in-house studios that bring together the industry's most creative talent. We have also gradually established our complex data driven and highly efficient, efficient making system that can capture very critical moment in the health lifecycle of company production.

As a result we have witnessed the gradual record of high quality or renewal dramas among the key dramas we launched each year, the propulsion of original prevention increased from 20% in 2018 to over 15% in 2022. For 2022, the original content accounted for over 60% of blockbuster dramas and also contributed over 60% of the revenue during the new release window in Q4. The total subscribing members times on original content doubled year-over-year, and we conclude that we enjoyed the structure advantage that are very difficult to others to emulate. The entry barrier is terminate high.

In the past 12 months, we have completed three rounds of capital raising with pre fleet total around $1.3 billion to remove debt overhang. We truly appreciate the general support of our investors who are as confidence as to be higher in the future of iQIYI. With a healthier balance sheet and cash generating business, the management will be able to focus on how accelerating the company's growth, creating more value for our investors.

Looking ahead to 2023, we worked at our brand new journey. We have upgraded our 2023 annual goal to achieve the high-quality growth. Under this strategy of goal is to achieve growth in brand new and operating profit to realize high-quality growth. We will continue to invite in our core business, while the main caution, while assessing material new business alternative. We will continue to invite in top premium content to maintain our high-quality, yet worthy the common pipeline and to invest in high ROI marketing and the members benefits.

Also, we keep a close eye on industry alternatives powered by technical advancement such as artificial intelligence, generative content, AIGC and other innovative technologies. We will install AIGC application and scenarios in the long-term. We do inventory together with our strategy partner by two in the era such as improving content production efficiency, content distribution and promotion. We believe the AIGC strategy will help it to unlock even more potential, further improve our overall business efficiency and generate greater value.

Now that goes from the detailed performance of our business segments. Starting with membership services. Membership services revenue was RMB4.7 billion, the highest in our corporate history, representing an increase of 15% annually and the 13% sequentially. As we had a very strong quarter of blockbuster content. We utilized the opportunity to attract and grow our subscriber base with a marginal increase environment.

Our subscriber base have a strong growth in Q4, the average daily user of total subscribing members was 111.6 million and an addition of 10.6 million compared with Q3. The total number of subscribing member was 119.7 million as of the end of December, a net of 13.5 million compared with the end of September.

Very importantly, we are allowed to see the improvement in membership structure with the proportion of annual subscribers increasing significantly in Q4 compared to the thin per parallel last year. We believe the higher subscription rate for annual packages were helped to improve sickness and the long-term monetization.

In Q4 our monthly ARM was RMB14.17 up 2% sequentially with further increase of our membership pricing in December, which will drive our increase in the future. For our membership business, we are committed to grow revenue. In the long-term, we believe our ARM will have plenty of room to grow when we continue to aggregate content quality and bringing more value to our users. In the short-term we strategically choose to optimize the growth of subscriber base and the membership duration so that more people can enjoy our content and the relationship between the platform and then the user becomes more enduring. A good example is that as the monthly ARM of the annual package is lower than the monthly package, will we enroll more annual subscribers, our average ARM might be impact in the short-term.

However, we value the relationship with subscribers and we believe the long-term trust we built with subscribers will be -- will bring more strategic value. In Q4 we continue to expand our inclusive membership benefits package, including inclusive iQIYI business linear and limited time discounted offers inclusive bank events.

Moving onto content in Q4, we continue to lead the market with dominant market share. According to in license data, we remain number one in terms of a factory we will built for both overall dramas and inclusive dramas categories, which new highs in the past two years. For variety shows will also number one in terms of effective video bills with launch of popular or remote program including super natural tool [indiscernible] 2022.

2022 was the hardest year of our dramas. We had most number of blockbusters that covered the worst thing and even released across the year. First we launched the five dramas with popularity in depth over -- of over 10,000 in a single year. Well, four of them are originals. Not only we brought our content of iQIYI to the next level. We significantly improved our financial performance and generated profitability and large scale. Second, our content releases convert that works, since including modern A Lifelong Journey [Foreign Language], the Asian cartoon epics [Foreign Language].

The Strange Tales of [indiscernible] Inspiration, The Heart of Genius. Third the timing of all releases was even late throughout the year. The five blockbusters with popularity index of 10,000 were released at the beginning of year during summer vacation and during winter. Other high quality dramas well related as regular intervals during the year. Users can turn to it and virtual most current case shows at any time.

We also make 10 the best of the war of month in the industry. Among the top 10 highest rated Chinese dramas [indiscernible] in 2022, seven were iQIYI's inclusive dramas and four were original production. Our original title Ordinary Greatness and Wild Bloom went first and the third with [indiscernible].

As we move on to 2023, we will maintain our strong momentum and plan to launch number of highly and anticipated dramas, original production and change and The Knockout were launched in Q1 and [indiscernible]. The Knockout become another market, nationwide phenomenon just to name a new highlight first, it has the highest popularity in net score and dramas that drove the popularity index of 10000 again generated a huge social brand and high reward of month score was 9.1 only very selective Chinese dramas have such high score.

The dramas was broadcasted on national TV network including CCTVs and PRTVs, all of which had outstanding bill. Just on CCTV network alone, The Knockout has been watched by over 300 million audience so far. During 2023, variety of key dramas will be launched such as Asian dramas, the [indiscernible] dramas such as to now to go take us home [indiscernible] and we are clearly in no place what to do and et cetera, for original birthday shows, we continue to launch multi-sets and shows and introduce new programs. We will focus on building brand values and enhancing synergy between dramas and the variety shows. Please also anticipate to see a slate of well craft original movies, children content and animations.

And our advertising business recovered sequentially in Q4, total ad revenue was RMB1.6 billion in Q4, up 25% sequentially and 7% annually, which was significantly narrowed from the 25% annual decline in Q3 exceeding all expectations at the beginning of the quarter in particular for Q4, brand ads return to double-digit sequentially both and year-over-year decline continues to narrow better than our expectation. The sequential growth was benefited from first, dramas and variety shows attract various, second the domestic reopening boosted advertising, advertisers confidence and increased ad demand for growth in sectors such as the Internet services, communications and healthcare.

In 2023, we believe we are opening both economy recovery. We are positive about brand for the full-year 2023 and it path to healthy growth compared with 2022. For performance, we achieved strong revenue growth both sequentially and driven by algorithm of the optimization and the tailor of various initiatives for advertising from e-commerce, internet services and online game sectors.

We believe that IT core user growth is highly attractive for advertising, advertisers and our appealing content and advance the technology. We will be able to effectively help advertisers to increase their brand improve. In the future, we will adopt multiple strategies to improve our ads business. We will focus on growing our brand new scale and offer tailor campaigns on large screens. Meanwhile, we will continue to develop the ads supported basic subscription package on [indiscernible] which is similar to Netflix, low craft ad supported initiative.

We believe the solid growth in IT basic subscription package will drive ad inventory rate on our platform and leads to ad revenue growth. Moving onto technology and the products, technical innovation is one of our core values. Our continuous promote video industrialization and improve efficiency in terms of production and distribution. So innovative technologies, we start to explore AIGC related alternatives I think May mid-2022 and have seen missing with results. We believe rich video entertainment results combined with cutting edge technologies will empower iQIYI to further improve efficiency in content production, distribution and other areas.

On February 15th, we announced the strategy called operation and both company will jointly following the AIGC application scenario soon Baidu's Ernie Bot, we anticipate that company's future and promotion are one of the earliest areas to be in placement and this obviously will further accelerate our program in AIGC related areas.

We look forward to improvement, more applications as we are stressing our technology advancement in the future.

Moving on to new business first, iQIYI in Q4, reached broke even -- breakeven for the first time and you call it solid revenue growth both annually and sequentially. We continued to develop business model of iQIYI and the new ad supported basic subscription package was well received by user.

Moving onto overseas business. In Q4, overseas membership revenue increased 30% year-over-year and the growth rate in America and Canada exhibit 70%, original content is especially original dramas performed as well, original Chinese dramas, New Life Begins achieved the top ranking in Thailand, Philippines, Indonesia and South Korea only treated after that. We are also delighted that our original dramas released in Q4 attract advertising budgets. In 2022, we successfully completed an iconic turnaround with substantial improvement in financial performance, business operations and market share of unique content production methodology helped us to produce a continual stream of blockbusters increasing our core barrier.

Our industry leading original content production ability and super operational capability are our core competitive strengths and the key to our rapid growth in the long-term. As we move from 2023, we are committed to delivering high quality growth. We formerly believe our best days are yet to come. We will further release the flywheel effects of our business and bring higher value to our users, partners, and stakeholders.

Now let me pass on to Jun to go soon on our financial performance.

[Jun Wang, Chief Financial Officer]

Thanks Mr. Gong, and hello everyone. Q4 was a record sales quarter, were our membership revenue, operating profits, operating cash flow and free cash flow. The operating margin continued to expand driven by operating leverage. In addition, we raised around $1.3 billion over the past 12 months to remove the debt overhang. With operational and financial performances in great conditions, in significant capital structure enhancement, the management will be able to focus on delivering high quality growth in the long run.

Now I will also like to take this opportunity to review the overall performance for the year 2022 for iQIYI. First, we delivered what we promised earlier in the year. We set a goal of reaching non-GAAP operating profit, an operating breakeven for the full-year of 2022 and ended up with non-GAAP operating profit of RMB2.2 billion far exceeding our expectation. Then we shifted our operational focus from cost down in Q1, Q2 to scale up in Q3 and Q4 and roll out our common growth strategy in the middle of the year, which resulted a very healthy expansion on large share, membership services revenue and profit in the second half.

The momentum continues beyond the December 31, 2022. And in addition, we also promised to protect the interest of all the stakeholders and fixed the immense challenge of debt overhang despite the streaming extremely volatile market and then we made that as well.

Secondly, we humbly ask our investors to look beyond IT specific achievement and revalue the long-form media industry as a whole. iQIYI continued to outperform to deliver alpha, but our entire industry was quickly recovering for the entire 2022 as well to deliver beta driven by the structural change on the supply side, less quantity, more quality, more concentrated supply of platform originated content leads to high hit ratio and more efficient cost control.

On the demand side, as Mr. Gong mentioned, long-form media remains the fundamental entertainment meeting for the mass market. Over time, the higher quality of content naturally lead to the higher willingness to pay, hence the higher arm. And we are in a merchant cycle and we'll see a more promising future. Certainly we would like to thank everyone who supported us in a very dramatic 2022, including our users, employees, company partners, our shareholders, and supported bondholders and creditors.

Our commitment in achieving healthy business growth remains on change and we are more confident than ever in ability to generate value of our stakeholders in the long run. For detailed financial data for Q4 and fiscal year 2022, please refer to our press release on our IR website.

Now we will open the floor for Q&A.

[Operator]

Thank you. [Operator Instructions]. The first question is from Xueqing Zhang from CICC. Please go ahead.

[Xueqing Zhang, CICC]

[Foreign Language]

And I'll translate it myself. Thanks for taking my question. And congratulations to your remarkable performance, which means that [indiscernible] in general. So how management think about overall content stream in the first quarter. And as you mentioned in the [indiscernible] people you actually a broadcaster tool house. Can management show us that how to make more and more reginal blockbusters in the future? And last how should we think about the number of subscribing members in the longer term? Thank you.

[Yu Gong, Founder, Director and Chief Executive Officer]

[Foreign Language]

First of all, the Q1 content was excellent, exceeded our expectations and for the overall content performance, I will invite our CCO, Xiaohui, to answer the question. And in regards to the membership business, we will invite our Senior Vice President, Youqiao Duan, to answer the question.

[Xiaohui Wang, Chief Content Officer]

[Foreign Language]

As a media platform, one of the main goals for iQIYI, in the past 10 years is to systematically encrypt the success rate of creating blockbusters. Looking at the content, our performance in the past year, whether it's the drama Love Between Fairy and Devil, Wild Bloom, New Life Begins, [indiscernible] Homesick are the recent knockout. We can see the continuity and diversity of iQIYI blockbuster content.

[Foreign Language]

The first core competitiveness is talent. Under our in-house studio strategy, we have established a number of diverse and distinctive in-house studios, which gathered the most creative talents in this industry. These talents are also in line with the distinctive characters, characteristics of the creative industry. At the same time, we have also established a strong supporting leader platform, which provides a sophisticated mechanism that is conducting -- conducted to improving the efficiency in content production and increasing the probability of hit ratios.

[Foreign Language]

The second is our internal development content management system. We have established complex data driven and efficient decision making content production management system, which covers every critical moment in the entire cycle of content production.

[Foreign Language]

The third one is operations. We have one strong content operation capability, which runs through contemplation, production, scheduling, promotion, and et cetera.

[Foreign Language]

The fourth is innovative and intelligent chronology, we use intelligent production technology to effectively improve production efficiency and save cost, which provides strong guarantee for our content production.

[Foreign Language]

The third is industry insight. After years of experiences in the industry, we have clear insights in terms of the content creation and accurate graph of the appetite of the Chinese entertainment consumer market. These are definitely our core competitive advantages.

[Foreign Language]

Therefore, our current content protection mechanism and strong operational capabilities will guarantee us with a stable and continuous supply of top premium content in the future. Thank you.

[Foreign Language]

In 2022, [indiscernible] develop our membership business operations, membership sales and subscriber base has achieved healthy growth momentum. In 2022, Q4 the subscriber base made a breakthrough of the fluctuating subscriber range of the past two years, we are optimistic that the subscriber base will continue to grow in 2023.

[Foreign Language]

Our number of subscribers reached nearly 120 million by the end of December. Thanks to the high quality content, our subscriber base continue to maintain a high level and continued growth since the beginning of the year.

[Foreign Language]

The structure of our subscriber base has optimized the annual membership, membership package and the large team subscribers are growing well, which will help improving the platform's membership stickiness and long-term monetized desirability.

[Foreign Language]

In the long run, domestic subscriber base depends on the number of people consuming the long-form video content, the number of families, and the industry's competitive landscape. Currently, the number of subscribers still have a lot of room for growth compared with the number of Internet population and the number of families in China.

[Foreign Language]

In the future, the membership business has two prospects in both direct-to-consumer sales, but also channel sales market. In the direct-to-consumer sales market, there's a fundamental demand for long form video membership in the mass entertainment market. In the channel sales market, video membership package has also become one of the preferred products favored by our partners, the telecommunication Internet services and financial sectors.

[Foreign Language]

Last but not least, as our content quality continues to improve, it will definitely increase subscribers willing to pay and the improvement of our monetization ability in the future. Thank you.

[Operator]

Thank you. Your next question comes from Lei Zhang from Bank of America Merrill Lynch. Please go ahead.

[Lei Zhang, Bank of America Merrill Lynch]

[Foreign Language]

Thank you management for taking my question and congrats on the strong results. My question is mainly on the online industry, we notice that the major player have focusing on ROI and content quality in 2022. Wondering how should we see the industry development in the future? Thank you.

[Yu Gong, Founder, Director and Chief Executive Officer]

[Foreign Language]

I think right now is the industry that we believe there's a fundamental demand for long form video membership in the mass entertainment market. Maybe a few years ago, there are some players who doubted this, but I think right now everybody in this market reached a common consensus.

[Foreign Language]

At the end of 2021, we think we were the first to foresee that there are changes in the online video market that will lead to a new stage of rational development for the entire industry. The focus of the long-form video competition will shift from competing on company quantity to content quality and more players will presume the improvement in operational efficiency and probability. And based on the past one year and more experience, we can witness that increasing quality of video content leads to higher ROI. And I think based on that, we think the results in 2022 also prove that our insight of the structural change of the industry is correct.

[Foreign Language]

Our account turnaround business performance last year I think was attributable to the improvement in original content production. And the same for the industry peers, I think there are more sufficient supply of content and also a higher hit ratios and better efficient cost control and we think the high quality content effortlessly leads to higher willingness to pay which enables us to form a virtuous cycle for content production and monetization. And then we also believe eventually there's the chances for one single users to subscribe to multiple membership packages among the video industry peers.

[Foreign Language]

We believe our -- we achieved iconic turnaround last year as we continue to lead industry. And also at the same time, our goal for next year is achieving high quality growth, meaning that we'll achieve quality of growth in terms of revenue and also for profit as well. I understand that this brings some of the pressure for our peers in the industry, but I think as a leader, industry is a good sign. And then increasing ROI will also lead the entire industry to recover better ROI performance quickly and driven by the structural changes as we mentioned earlier. And then I think this will eventually lead to a healthier industry, and eventually every player in the industry will benefit from it.

[Lei Zhang, Bank of America Merrill Lynch]

That's all. Thank you.

[Yu Gong, Founder, Director and Chief Executive Officer]

Thank you.

[Operator]

Thank you. Your next question comes from Lincoln Kong from Goldman Sachs. Please go ahead.

[Lincoln Kong, Goldman Sachs]

[Foreign Language]

So my question is about AIGC generated content. So especially the application in the video space. So how do management think about the potential 10 and the potential applications going forward in this space. Especially we also notice, recently, company has reaching corporation with [indiscernible]. So in that sense, what aspects should we expect more concrete, plant related to this collaboration?

[Yu Gong, Founder, Director and Chief Executive Officer]

I'd invite our CTO, Wenfeng, to answer this question. Please go ahead.

[Wenfeng Liu, Chief Technology Officer]

[Foreign Language]

Our iQIYI corporate vision is to be a technology-based entertainment giant. We believe that technology innovation is also -- always one of the key factors to promote the evolution of the video industry. We have been investing in artificial intelligence, cloud computing, audio and video technology and others to improve the efficiency and quality of content production and user experience.

[Foreign Language]

AIGC is powerful engine for data processing and also content production using the AI technology. By applying the AIGC technology, it can further expand iQIYI's capabilities in content creativities in improve content production, efficiency, and quality and user experience. We have been exploring the application of AIGC in the video space since mid-2022.

[Foreign Language]

We have been exploring in the following aspects. For the creative stage in the future. Content creators can use iQIYI's intelligent production system during the scripting process. Not only that, it will trigger more creative inspirations, but it will also improve efficiency and reduced cost in the production stage in the future. iQIYI intelligent production system can intelligently analyze and process the script through the use of AIGC to efficiently analyze the script and extract the story outline. In addition, such technology not only can help the content producers in planning the project, but it could also provide more valuable information regarding filming process, for post-production and marketing, improving the overall efficiency and quality of the video content production.

[Foreign Language]

In terms of content marketing and promotion, AIGC can produce a large number of marketing videos and marketing materials to improve the efficiency and effect of content marketing. In the future, content recreators can also use AI to automatically generate, video commentary script further improve the efficiency and quality of video [indiscernible]. This can greatly enrich short form video content that promote our promise, variety shows, films, et cetera, attracting more users to watch iQIYI's content. It will also especially benefit in promoting our extensive selection of library content effectively in extending the life cycle of these content.

And also, AIGC can produce personalized poster images for any content, help content to find its audience and a user will have improved content recommendation experience. The video search experience will also be improved through the conversational AI capabilities. Users can search a spot, find out the story of a particular scene or since watching recommendation, et cetera. Helping the users, they can help the users to find content more effectively.

[Foreign Language]

We believe that the combination of AIGC technology and iQIYI's switch online video entertainment resources can further promote the development of the video industry and improve user experience. We'll continue to increase our investment in this area. February 15, 2023, we announced a strategic cooperation with Baidu and both companies were generally explored the AIGC application scenarios through Baidu's ERNIE Bot. In the area such as content creation rules, content distribution and promotions, content search, novel creation, et cetera. We believe it will further expand iQIYI's production capability in content creativity, production, efficiency, and user experience. Thank you.

[Operator]

Thank you. This is the last question for today. I'll now hand back to iQIYI management for closing remarks.

[Chang Yu, Director of Investor Relations]

Thanks to everyone for joining the call today, and please do not hesitate to reach out to us if you have further questions. Thank you.

[Yu Gong, Founder, Director and Chief Executive Officer]

Thank you. Bye-bye.

[Operator]

Thank you. That does conclude our conference for today. Thank you for participating. You may now disconnect.