Earnings Call Transcript - BILI Q2 2022

Operator, Operator

Good day, and welcome to Bilibili's Second Quarter 2022 Financial Results and Business Update Conference Call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Juliet Yang, Executive Director of Investor Relations. Thank you. Please go ahead.

Juliet Yang, Executive Director of Investor Relations

Thank you, operator. During this call, we'll discuss our business outlook and make forward-looking statements. These comments are based on our predictions and expectations as of today. Actual events or results could differ materially from those mentioned in today's news release and in this discussion due to a number of risks and uncertainties, including those mentioned in our most recent filings with the SEC and Hong Kong Stock Exchange. The non-GAAP financial measures we provide are for comparison purposes only. Definition of these measures and a reconciliation table are available in the news release we issued earlier today. As a reminder, this conference is being recorded. In addition, an investor presentation and webcast replay of this conference call will be available on Bilibili IR website at ir.bilibili.com. Joining us today from Bilibili senior management are Mr. Rui Chen, Chairman of the Board and Chief Executive Officer; Ms. Carly Li, Vice Chairwoman of the Board and Chief Operating Officer; and Mr. Sam Fan, Chief Financial Officer. And I will now turn the call over to Mr. Fan, who will read the prepared remarks on behalf of Mr. Chen.

Sam Fan, Chief Financial Officer

Thank you, Juliet, and thank you, everyone, for participating in our 2022 Second Quarter Results Conference Call. I'm pleased to deliver today's opening remarks on behalf of Mr. Chen. We confronted immense headwinds in the second quarter. During the period, we steadied our company by bringing users improved products, expanding our content, and implementing further cost control measures. With lockdowns in Shanghai lifted in June, we believe the worst impact is behind us. Importantly, we expect to recover our operating margin in the second half of the year while continuing to grow our users and narrowing our net loss. Our total MAUs reached a new record of 306 million in the second quarter, up 29% year-over-year, representing another exciting milestone. While we remain committed to our MAU target, we are putting additional focus on the quality of users, looking at metrics such as DAUs and engagement levels. In Q2, our DAUs grew by 33% year-over-year to 84 million, outpacing the growth rate of our MAUs. This brought our D/M ratio to 27.3%, up from 26.4% in the same period last year. Daily average time spent was 89 minutes, a 9-minute increase compared with the same period last year. Longer user time spent and high user activity increased our total user traffic, which grew by 48% year-over-year. We believe our growing matrix of products, expanding content library and quality-driven growth strategy will strategically position us to continue our growth momentum. Impacted by the challenging macro environment, our total net revenues were RMB 4.9 billion, up 9% year-over-year in the second quarter. NPUs increased by 32% year-over-year to 27.5 million, and our paying ratio was 9%. Followed by a slower April and May, our advertising business rebounded nicely when the lockdowns lifted in June. With increasingly popular advertising products, such as ads in Story Mode, we grew our ad revenue by 10% year-over-year. We expect to continue gaining market share in the second half of the year. During the second quarter, we also put further cost control initiatives into effect. Specifically, we cut sales and marketing expenses by 16% year-over-year. Sales and marketing expenses as a total percentage of revenue decreased to 24% from 31% in the same period last year. Server and cast per video views also declined by 37% year-over-year. Other adjustments we made to improve our organizational efficiency, including canceling underperforming projects and reallocating resources to core business. We expect a positive impact on our P&L to start to show in the second half of the year. In July, we also made some pivotal adjustments to our organization. Our goal was to be more congruent to our long-term sustainable growth. We have integrated the operations of live broadcasting with our video platform and made organizational changes that integrate our commercialization efforts across our content ecosystem, create synergies and improve efficiency. With that overview, I'd like to go through some details of our second quarter operations across our content, community and commercialization. We have seen many iterations of the online video space. Ours is the one that has remained expansive and trend-setting. The introduction of our different formats, such as Story Mode, PUGV, live broadcasting and Smart TV, significantly boosts our signal of all the videos you like anytime, anywhere. Looking at Story Mode as an excellent example. Story Mode is one of our newest verticals covering users' on-the-go entertainment needs, which is more efficient in distributing video in shorter lengths of time. While video views from PUGV grew 53% year-over-year, video views from Story Mode increased by over 400% year-over-year, bringing incremental traffic to our platform. This is an ongoing trend that we are seeing throughout the second half of the year. Moreover, Story Mode presents a parallel commercial prospect as a gateway to different monetization opportunities, such as advertising and live broadcasting. MAU penetration in live broadcasting continues to grow across our user base. In July, we began to fully integrate our live broadcasting and PUGV ecosystems. Over time, we expect the combination of these two ecosystems to result in more efficient traffic execution and allocation and inspire more content creators to become live broadcasting hosts. During the second quarter, our users primarily gravitated to lifestyle, games, entertainment, ACG and knowledge categories. We continue to accumulate a massive amount of content through a growing pool of talented creators. In the second quarter, we had 13.2 million total monthly average content submissions, up 56% year-over-year. Our growth stems from our 3.6 million monthly active content creators, an increase of 50% year-over-year. In the second quarter, the number of creators with 10,000 followers grew by 46% year-over-year, and creators with over 1 million followers grew even faster at 58% year-over-year. Notably, over 60% of the content creators who gained 1 million followers during Q2 benefited from the fast-growing Story Mode traffic. We continue to expand avenues to unleash content creators' monetization potential. In the second quarter, over 1.1 million creators received monetary rewards through live broadcasting, advertising programs or cash incentive programs, up 97% from the same period last year. Turning to our community. We continue to feature robust content that resonates with our users, along with a welcoming community environment. We saw this across our user metrics in the second quarter with impressive year-over-year gains. Daily video views grew by 83% to 3.1 billion, and the monthly interactions grew by 73% to 12.5 billion. As I previously mentioned, the average daily time spent also increased by 9 minutes year-over-year to 89 minutes. Now let's take a look at our commercialization efforts. Advancing our commercial prospects is one of our leading goals this year. In the second quarter, we continued to convert paying users and improved our advertising efficiency to gain more market share, maximizing our high-quality user base. Looking first at VAS business. Net revenues for VAS were RMB 2.1 billion, an increase of 29% year-over-year. We converted more traffic to paying users in the second quarter, driven primarily by our live broadcasting, where we hold unique advantages given this natural extension of our video universe. Despite the challenges of stricter regulations, our live broadcasting conversion rate remained strong in the second quarter. By integrating our PUGV ecosystem with live broadcasting, we have created a win-win solution. The number of active live broadcasters increased by 107% year-over-year in the second quarter. Our live broadcasting MAUs penetration rates continued to grow, and NPUs for live broadcasting increased by nearly 70% year-over-year. At the same time, we improved the live broadcasting's gross margin by optimizing revenue-sharing plans. Premium membership for the second quarter reached 21 million, up 19% year-over-year. The majority of our users continue to be annual or auto-renewal subscribers. Looking at our advertising services. Revenues from this segment reached RMB 1.16 billion, an increase of 10% year-over-year. Despite the macro headwinds, our top five verticals in the second quarter were games, digital and 3C products, skin care and cosmetics, e-commerce, and food and beverage. Optimizing our product offerings and the conversion efficiency remain our strategy for our ad business. In the second quarter, we continued to dedicate our resources to expand our advertising scenarios with diverse products and improved conversion modules. We also executed our integrated marketing campaigns as a selling strategy to realize more cross-selling opportunities. The Story Mode app we launched in April has also been welcomed by our advertisers. Lastly, on games business. Net revenues were RMB 1.05 billion in the second quarter. The lack of supply for new game content in the domestic market was the main challenge in the first half of the year. As the domestic game approval process returned to normal, we look forward to seeing the approval for imported titles. Nevertheless, our game strategy remains focused on in-house development and bringing exciting, high-quality games for both domestic and international markets. In the second quarter, our self-development game revenues contributed around 5% of total game revenue, mainly thanks to our successful launch of Artery Gear in many countries and regions. And for our pipeline. Domestically, we are actively applying for game licenses and have 4 titles approved for release. Six games in our pipeline, including two self-development titles, are ready to hit the overseas market in the second half of the year. As a 13-year-old company, our user numbers and revenues are still seeing robust growth, and we foresee a long runway of growth in this future. Our attention and resources are focused on improving both our top line and bottom line. With this in mind, we plan to further enhance our operational efficiency, tighten spending and strengthen our execution. We are committed to improving our gross margin and narrowing our operating loss in the second half of the year. This concludes Mr. Chen's remarks. I will now to provide a brief overview of our financial results for the second quarter of 2022 and outlook for the third quarter of 2022. Total net revenues for the second quarter was RMB 4.91 billion, up 9% from the same period of 2021. Our total net revenue broke down by revenue stream was approximately 21% mobile games, 43% VAS, 24% advertising and 12% e-commerce and other business. Cost of revenues increased by 19% year-over-year to RMB 4.2 billion. Revenue-sharing cost, a key component of cost of revenues, was RMB 2.1 billion, representing an 18% increase from the same period in 2021. Server and bandwidth cost, as part of a relatively fixed cost component, decreased 9% quarter-over-quarter. Server and bandwidth cost per video view decreased 37% year-over-year, demonstrating the impact of ongoing efforts and progress in cost savings. Our gross profit in the second quarter was RMB 738 million, and our gross profit margin was 15%. We are actively tightening our cost control measures and improving our operating efficiency. We expect our gross profit margin to start to recover beginning this quarter. Total operating expenses were RMB 2.9 billion, up 17% from the same period in 2021. Sales and marketing expenses were RMB 1.2 billion, representing a 16% decrease year-over-year. Sales and marketing expenses as a percentage of total revenue was 24%, down from 31% in the same period last year. The year-over-year decrease was primarily attributed to decreased promotional expenses for our mobile games as well as lower user acquisition costs. G&A expenses were RMB 626 million, representing a 44% increase year-over-year. The increase was primarily due to increased headcount in general personnel, higher rental expenses and nonrecurring expenses related to optimizing our organizational structure. R&D expenses were RMB 1.1 billion, representing a 68% increase year-over-year. The increase was primarily due to increased headcount in research and development, increased share-based compensation expenses and nonrecurring expenses related to adjustment of certain game projects. Net loss and adjusted net loss were RMB 2.0 billion and RMB 1.96 billion for the second quarter of 2022, respectively. Turning to our capital allocation and liability management. In aggregate, we repurchased a total of 2.6 million ADS for a total cost of USD 53.6 million at the end of June 30, 2022. In addition, we repurchased a total of USD 275 million 2026 notes for a total cost of USD 198 million with total future cash savings of USD 84 million at the end of June 30, 2022. And as of June 30, 2022, we had cash and cash equivalents, time deposits and short-term investments of RMB 24.9 billion, compared with RMB 13.2 billion as of December 31, 2021. As for our intent to convert to a dual primary listing on the Main Board of Hong Kong Stock Exchange. With respect to the proposed conversion, we successfully obtained all the necessary shareholders' approval at our company's Annual General Meeting, which was held on June 30, 2022. The Hong Kong Exchange has also acknowledged our application, setting October 3, 2022, as the proposed effective day. Our endeavor will expand our access to a wider investor base, and we expect to concurrently maintain our listing status on NASDAQ. With that in mind, we are currently projecting net revenues for the third quarter of 2022 to be between RMB 5.6 billion and RMB 5.8 billion.

Operator, Operator

We would now like to open the call to your questions. Operator, please go ahead.

Ley Zhang, Analyst

My question is mainly about the margin profile. We observed that we implemented some cost control measures in the first half, particularly regarding sales and marketing expenses. Is there potential for adjustments in other cost areas? Additionally, what can we expect regarding our gross margin and net profit margin trends in the second half?

Rui Chen, Chairman of the Board and Chief Executive Officer

Let me share some of my thoughts about cost control and efficiency improvement. We believe this slogan is not just about cost control. It's not about avoiding spending money but about using our funds more wisely and directing them to the right areas. In this current challenging macro environment, impacted by COVID, business has become difficult. I have been telling our employees that we need to stay more focused. Being focused means allocating our best resources to our core business to excel at what we do best. For areas that are non-core, we should minimize our efforts and concentrate on what matters most: our core, which is video and growth. Growth encompasses not just user growth but also our revenue growth. In the first half of this year, we have dedicated all our resources, including capital, to our core areas of video business and user growth, focusing on expanding our revenue. Even in this tough environment, I stress that growth remains a top priority for us because we believe it is essential for our community. Bilibili operates as a typical internet platform business, and the value of our platform comes from our users. While we value user growth, we are also focused on enhancing the efficiency of that growth and reducing its costs. For instance, our new user acquisition costs have consistently decreased, and our sales and marketing expenses fell by 16% year-over-year in the second quarter. The percentage of sales and marketing expenses relative to revenue dropped from 31% in the same period last year to 24% in the second quarter. Meanwhile, as our costs decline, both user engagement and retention have improved. Efficiency gains are also coming from the technology side. This quarter, we have optimized the allocation of our technical resources and centralized investment in our technology infrastructure, concentrating on solving key issues. For instance, our daily active users grew by 33% year-over-year, and our video views increased by 83% year-over-year. As you may have noticed, the quality of our videos has risen significantly. We are leveraging all available resources and improving our algorithms, which led to a 37% year-over-year reduction in unit video view costs. I expect that this year, given our substantial daily active user growth and an increase in time spent, our total investment in server and bandwidth costs will not exceed what we spent last year. This exemplifies how we leverage technology to enhance efficiency.

Sam Fan, Chief Financial Officer

Okay. I will take the question about the gross profit trend. We believe our Q2 results have already reflected the impact of the COVID lockdowns. We estimate our revenue will regain sequential growth momentum in the second half of this year in Q3 and Q4. So our gross margin will gradually improve to around 20% in Q4. We will continue to adopt strict expense control measures, as mentioned by Chairman Chen. At the same time, we expect our non-GAAP net loss ratio to narrow down from around 40% in Q2 to around 30% in Q4.

Operator, Operator

Our next question comes from the line of Daniel Chen from JPMorgan.

Daniel Chen, Analyst

I will translate myself. My question is about the user side. BILI's monthly active users have surpassed 300 million this quarter. We also observed that in the second quarter, the daily active users actually grew faster than the monthly active users, and the average time spent per user increased significantly. I'm curious about what is driving this growth. Additionally, what are management's expectations for the daily and monthly active user metrics for the second half of this year and into 2023?

Rui Chen, Chairman of the Board and Chief Executive Officer

I will share three points. There has been a significant change in the global macro environment, but we believe the fundamentals of Bilibili remain stable. First, videolization is a global phenomenon, and we expect this trend to continue for at least three years, supporting Bilibili's growth for more than just a few years. Second, the younger generation seeks their own culture and entertainment content, and we have a large portion of our users under 25 because we offer products that resonate with them. Third, the consumption upgrade continues to be the largest driving force in the sector, and content consumption plays a major role in this shift. The younger generations are increasingly willing to spend on cultural and spiritual products, and Bilibili is at the forefront of this trend, which is why these points support our sustainable growth moving forward. Over the past two quarters, our daily active user (DAU) growth rate has surpassed our monthly active user (MAU) growth rate. This is due to our focus on quality growth, prioritizing DAU, engagement levels, and time spent by users. Not only has our DAU exceeded the MAU growth rate, but our daily time spent by users has also increased year-over-year for many quarters. Our daily video views have grown over 80%, and user engagement, including multi-user engagement, has also significantly improved. This indicates a healthy model where video views and engagement are outpacing DAU, and the DAU is outperforming MAU, suggesting a more engaged community. In addition to being more strategic with our spending, we believe our content ecosystem-driven business model is becoming healthier. Our content categories are robust across various verticals, with traditional strengths in anime, music, and food all showing healthy growth. We are also seeing expansion into new categories, allowing for continuous discovery of new content creators and high-quality content. An example of this is the viral success of Second Uncle PUGV, illustrating our ability to produce high-quality content consistently. Our multi-scenario and multi-content category approach is also contributing to our healthy growth. Our goal is to reach 400 million MAUs by the end of next year, but we are committed to focusing on the quality of user growth rather than just hitting a numerical target. We are putting more emphasis on DAU growth and aiming for sustainable and healthy growth. Thank you.

Operator, Operator

Next question comes from Brian Gong from Citi.

Brian Gong, Analyst

I will translate myself. My question is about the progress on Story Mode. The viewership has shown strong growth. Can management provide more insight into the positioning and strategy of Story Mode? Additionally, how is the progress on Story Mode concerning its ecosystem and commercialization?

Rui Chen, Chairman of the Board and Chief Executive Officer

For the past two quarters, we have seen significant interest in Story Mode, which has resulted in impressive traffic expansion. We are building this from the ground up. However, I want to highlight that our overall traffic is also experiencing substantial growth. Story Mode adds incremental traffic to our total. For instance, total video views increased by 83% year-over-year, and PUGV video views grew by over 50% year-over-year. Story Mode alone rose 400% from a low starting point, contributing positively to our traffic growth. Our strategy focuses on expanding across various scenarios and content categories, with Story Mode embodying this approach. Bilibili's video ecosystem offers diverse and well-rounded content centered on PUGV, complemented by live broadcasting and smart TV applications, all extensions of our PUGV ecosystem. Story Mode serves as a vital addition, addressing users' need for quick entertainment through one- or two-minute videos. Many users encounter this need throughout their day, which adds up to a considerable amount of time. Importantly, Story Mode has helped engage less active users who might find longer videos challenging. This new feature aids them in becoming familiar with the Bilibili community, facilitating their transition. Moreover, Story Mode has proven advantageous for new or less-followed content creators. Previously, they needed to invest significant time in producing longer, high-quality PUGV content to gain followers. Now, they can create shorter content, helping them grow their audience more quickly. We are seeing that the launch of Story Mode benefits content creators who excel at short-form videos, providing them with more opportunities. In the second quarter, we found that 60% of content creators who reached 1 million followers benefited from Story Mode's traffic growth. I also want to emphasize that despite being shorter videos, the content is unmistakably high-quality Bilibili material. The algorithms behind Story Mode mirror those of PUGV, maintaining a strong emphasis on content quality and user feedback. Our users are highly engaged with Story Mode, and the engagement levels exceed the total revenue percentage generated by it. This indicates that users appreciate the quality of these videos. Looking ahead, I am confident that certain Story Mode videos will go viral, and we will see original Bilibili Story Mode content creators emerge. We are already observing this trend, with content creators like Shenchen Za Wuxing serving as prime examples of high-quality contributions to Story Mode.

Operator, Operator

Next question comes from Xueqing Zhang from CICC.

Xueqing Zhang, Analyst

My question relates to advertising. Given the macro headwinds and the resurgence of COVID-19, what measures do we take to foster growth in the advertising business? How does management view the advertising trends for the second half of the year? Additionally, I have a follow-up question regarding Story Mode. Since its launch of advertising in April, what has been the utilization rate in Story Mode? Could you provide more details about it?

Ni Li, Executive

A combination of global macroeconomic challenges and repeated COVID outbreaks in China are significantly impacting our advertising industry in the short term and will likely have lasting effects in the next one to two years. We're seeing a decrease in budgeting as advertisers become more cautious about investing in brand advertising, and emerging industries are facing similar struggles. Despite these challenges, we've observed that platforms with high user value and conversion efficiencies are standing out. However, it is still more difficult to do business in the advertising sector compared to 2021 or earlier years. In this tough environment, Bilibili's advertising business grew by 10% year-over-year in the second quarter, making us one of the few firms to achieve year-on-year growth and gain market share. We believe that every crisis presents an opportunity, so we've elevated our strategy for the next three years to focus on growth, prioritize community, and integrate our content ecosystem with commercialization as dual engines. This is the first time we are treating commercialization and community ecosystem with equal importance. We have fully integrated live broadcasting and video community into our organizational structure, creating a cohesive framework for both areas and allowing us to develop a closed-loop advertising strategy across multiple scenarios. We are also enhancing our commercialization system to align closely with our content ecosystem, creating two middle platforms and two business centers. One large platform will support our commercialization efforts, aiming to boost traffic-linked monetization efficiency, while a smaller platform will assist our content creators in increasing their earning potential and improving their overall earning experience. The Sparkle ad platform and live video e-commerce product are key elements of this strategy. We believe these adjustments will foster a strong collaborative environment focused on strategic thinking and execution, creating a positive cycle that enhances our content ecosystem, user growth, and business expansion. Our advertising methods will evolve further in the latter half of the year, with a continued emphasis on infrastructure, improving our algorithm, and data capabilities to boost product efficiency. We will also work on establishing a comprehensive solution for various industry verticals such as gaming, e-commerce, FMCG, and automotive, allowing us to capture key budgets from these sectors. For the second half of the year, we anticipate overall app grossing will increase by about 20% year-over-year in the third quarter, driven by improved advertising efficiency and the evolution of our integrated marketing solutions. However, brand advertiser budgets remain uncertain due to the macro environment. Our multi-scenario advertising strategies, including Story Mode ads and transaction-based ads, are aimed at helping us gain new market share. In Q3, we are working to expand our ecosystem with industry partners, having initiated partnerships with platforms like Taobao, Tmall, Jingdong, and Pinduoduo. We will trial models that integrate sales recommendations into our native ads and focus on transactional execution. In the short term, we expect revenue growth from products like Sparkle Story and Project Takeoff. Over the mid to long term, these partnerships will help establish a commercial landscape and promote the consumer behaviors we desire, ultimately driving a thriving commercialization environment within our content ecosystem. We will continue to focus on leading verticals like gaming, 3C and digital products, food and beverage, and skin care and cosmetics, with standout performance expected in mobile games, automotive, and digital products. In fact, we've seen mobile game advertising revenue grow nearly 90% year-over-year in the first half of this year, with automotive industry ad revenue up over 110% year-over-year.

Rui Chen, Chairman of the Board and Chief Executive Officer

You mentioned Story Mode. It's a new advertising scenario that is generating additional traffic growth for our company. We've observed that the eCPM for Story Mode ads is significantly higher than that of traditional text and image-based ads. This will assist us in increasing our advertising revenue in the short term. However, looking ahead from 2023 to 2024 and 2025, the expansion of our advertising business will largely rely on our capacity to build a comprehensive ecosystem that is both integrated and industrialized, along with offering integrated marketing solutions. Despite the current challenging macro environment, we remain hopeful and confident that our advertising revenue growth can be as robust and sustainable as our user and community growth. We also believe we can create mutually beneficial outcomes with our business partners.

Operator, Operator

Thank you. And that concludes the question-and-answer session. I'd now like to turn the conference back to management for any additional or closing comments.

Juliet Yang, Executive Director of Investor Relations

Thank you once again for joining us today. If you have further questions, please contact me, Juliet Yang, Bilibili Executive IR Director, or TPG Investor Relations. Our contact information for IR, both in China and the U.S., can be found in today's press release. Okay. Thank you.

Operator, Operator

Thank you. This concludes today's conference call. Thank you for participating. You may now disconnect.