Earnings Call Transcript - HUYA Q2 2020

Dana Cheng, Investor Relations

Hello, everyone, and welcome to Huya's 2020 second quarter earnings conference call. The company's financial and operational results were issued earlier today and are posted online. You can also view the earnings press release by visiting the IR website at ir.huya.com. A replay of the call will be available on the IR website in a few hours. Participants on today's call will be Mr. Rongjie Dong, Chief Executive Officer of Huya, and Ms. Catherine Liu, Chief Financial Officer. Management will begin with prepared remarks, and the call will conclude with a Q&A session. Before we continue, please note that today's discussion will contain forward-looking statements under the safe harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements involve inherent risks and uncertainties. As such, the company's results may be materially different from the views expressed today. Further information regarding these and other risks and uncertainties is included in the company's prospectus and other public filings as filed with the U.S. SEC. The company does not assume any obligation to update any forward-looking statements, except as required under applicable laws. Please also note that we have earnings press release, and this conference call includes discussions of unaudited GAAP financial information as well as unaudited non-GAAP financial measures. Huya's press release contains a reconciliation of the unaudited non-GAAP measures to the unaudited most directly comparable GAAP measures. I will now turn the call over to our CEO, Mr. Rongjie Dong. Please go ahead.

Rongjie Dong, CEO

Hello, everyone. Thank you for joining our conference call today. Huya has achieved outstanding results across our core businesses in the second quarter of 2020. Our total net revenues grew 34% year-over-year to RMB2.7 billion, continuously exceeding our previous expectations. Our gross profit grew 71% year-over-year to RMB575 million, further demonstrating our faster growth and improved profitability. With respect to user traffic, despite the fact that people in China have largely resumed their daily work and school schedules, we maintained the momentum that we built during the pandemic period in Q1 on the mobile end. We accomplished a year-over-year growth of 35% for the mobile MAUs of Huya Live, reaching 75.6 million in Q2, as China returned to normal activities. Many offline Internet cafes have also reopened, supporting the rebound of our non-mobile MAUs in Q2. As a result, the average MAUs of Huya Live increased by 17% year-over-year to 168.5 million in the second quarter, representing a net addition of over 17 million from Q1. The growth was primarily driven by our dedication to continuously enriching our content offerings while further improving content quality. Next, I would like to share some updates about the preliminary cooperation that we have started with Tencent since Tencent became our controlling shareholder in April. Huya's live streaming content is now available within an increasing number of Tencent games and products, which will help us tap into an extended pool of users. Users who watch our live streaming content within Tencent games and products such as WeGame, WeChat, game center, and QQ mobile game center, were not included in Huya Live MAUs. In addition to our Huya Live MAUs, average MAUs who watched Huya live streaming content on these external links within Tencent games and products increased by 16% in Q2 from Q1. We are also in the process of building exclusive one-click streaming services within some Tencent games to attract more broadcasters. With this new service, Tencent gamers can simultaneously stream their gaming experience with the click of a button and essentially become broadcasters. In terms of e-sports tournaments, we are also working together with Tencent in various dimensions, such as cooperation in e-sports tournaments content, traffic exposure for live streaming content, advertising opportunities, as well as retail products to improve users' viewing experience of the e-sports tournaments. Finally, but importantly, we have always been working to stay nimble to meet the ever-growing demand of users while continuously diversifying and expanding our product offerings for long-term growth. Most recently, in June, we launched our cloud gaming platform called Yowa, offering over 40 game titles. This platform provides easier access for a broader audience to enjoy gaming, and our long-term prospect for Yowa is to enable our users to play together with our broadcasters and enjoy unique interactive fun experiences. We have also strengthened our efforts for videos, mainly focused on medium-length game videos. In the same quarter, average MAUs who watched videos on our platform increased by 60% year-over-year to approximately 20 million. Our business is more diversified, and all of these efforts will help us seize future opportunities and emerge in an even stronger position in the game live streaming market. With that, I will now turn the call over to our CFO, Catherine, to share her insights on our operating metrics and financial details. Catherine, please go ahead.

Catherine Liu, CFO

Thank you, Mr. Dong, and hello, everyone. Following Mr. Dong's remarks, I will start with updates on content enrichment and diversification. From the broadcaster side, we have maintained the momentum built during the pandemic period in Q1. The number of average monthly active broadcasters remained at over 800,000, representing a 12% year-over-year increase. In the second quarter, we broadcasted 102 third-party e-sports tournaments. Among these, the top performers include LCK Spring Season, which we have gained three-year broadcasting rights for, as well as LPL Spring and Summer Season, PEL, and KPL. Total viewership for these tournaments reached a historical high of over 770 million in the second quarter, representing a 24% year-over-year increase. Another key part of our continued commitment is our self-produced content. In the second quarter, we organized 34 e-sports tournaments and entertainment shows, generating a total viewership of 112 million, representing a 36% year-over-year growth. During the first half of this year, the scale of new users attracted to our platform by the self-generated content was comparable to the third-party e-sport tournaments we broadcasted. Among the e-sport tournaments produced, Huya Destiny Cup and the fifth Huya Mobile Game Arena were top performers, with viewer scale and new users comparable to some leading third-party official e-sports tournaments. On the entertainment show front, we produced a series of original PGC shows aimed at content diversification this quarter. For instance, we produced 'Attitude', a reality show exploring the in-depth stories of the game live streaming industry; 'Spring Experts', a music talent show that attracted enthusiasm and participation among our broadcasters; and 'High Streaming', a news show focused on e-sports broadcasters and professional leagues. Thanks to our dedicated efforts in driving quality content offerings, in the second quarter our average mobile MAUs and total MAUs reached record highs of 75.6 million and 168.5 million, respectively. At the same time, our Huya Live Apps' next month retention rate remained over 70% in the second quarter. In line with the continued growth of our users, the paying users of Huya Live also increased by 27% year-over-year to 6.2 million in the second quarter. The live streaming revenue per paying user for Huya Live also increased year-over-year as we continued to unlock the monetization potential of our core user assets by effective operations of activities such as Huya Events Party, the online event we organized in June. As we continue to grow globally, we reached over 27 million MAUs for our overseas business in the second quarter. The growth was partially driven by increased internet usage as people were confined at home during the COVID-19 outbreak, similar to what we experienced domestically in the first quarter. Now let me walk you through our financial highlights. In the second quarter, our total net revenues grew by 34% year-over-year to RMB2.7 billion. This is the ninth consecutive quarter that we exceeded our expectations since our IPO. One aspect I would like to highlight is that our gaming companion business revenue is booked after deducting the revenue sharing fees for the broadcasters, while our virtual gifting revenue is booked before deducting the revenue-sharing fees for broadcasters. We started accounting for the gaming companion business in the second quarter of last year, and the difference in accounting treatment has had minimal impact on revenue growth previously. In recent quarters, it has become more tangible. In the second quarter, the gross billings generated from our businesses actually grew faster than our recognized net revenues. Our live streaming revenues increased by 34% year-over-year to around RMB2.6 billion in the second quarter. This growth was primarily due to the increased number of paying users and the increase in revenue per paying user, both of which have expanded year-over-year and quarter-over-quarter. Advertising and other revenues increased by 49% year-over-year to RMB132 million in the second quarter, driven primarily by the increasing and diversifying number of advertisers. There was a slight decrease in advertising revenue from Q1, mainly due to the higher user base set by COVID-19 for gaming advertisers in the first quarter. Our profitability continued to improve in the second quarter as we benefited from savings in optimizing our broadcaster signing fees while continuing to improve our operational efficiencies. Our non-GAAP gross margin improved to 21.9% compared with 20.3% in the first quarter and 16.9% in the second quarter last year. Our non-GAAP operating margin improved to 12.1% compared with 9.4% in the first quarter and 5.8% in the second quarter of 2019. Our non-GAAP net margin improved to 13%, compared with 10.9% in the first quarter and 8.5% in the second quarter of 2019. Now let me move on to our financial details with year-over-year growth rates. Cost of revenues increased by 27% to RMB2.1 billion for the second quarter, primarily attributable to the increase in revenue sharing fees and content costs, bandwidth costs, and personnel-related costs. Revenue sharing fees and content costs increased by 24% to RMB1.7 billion for the second quarter, mainly due to the increase in revenue-sharing fees in relation to higher live streaming revenues and increased spending on content creators, e-sports, and self-produced content. The year-over-year increase was partially offset by benefits from economies of scale. Bandwidth costs increased by 35% to RMB265 million for the second quarter, primarily due to an increase in bandwidth usage as a result of our larger user base and enhanced live streaming video quality. This was partially mitigated by improved efficiency in bandwidth utilization through continued technology enhancement efforts. Gross profit increased by 71% to RMB575 million for the second quarter, and gross margin increased to 21.3% for the second quarter. Research and development expenses increased by 71% to RMB180 million for the second quarter, mainly attributable to increased personnel-related expenses. Sales and marketing expenses decreased by 4% to RMB150 million for the second quarter due primarily to lower spending in marketing activities as a result of COVID-19, partly offset by increased personnel-related expenses. General and administrative expenses increased by 61% to RMB120 million for the second quarter, primarily due to accelerated share-based compensation expenses recognized in April 2020 in the event of a change of control. In terms of total share-based compensation expenses, we also have a recent update to share with you. In April 2020, we recognized RMB57.7 million of share-based compensation expenses in our cost of revenues and operating expenses from the accelerated vesting schedule of Huya's pre-IPO options in the event of a change of control, pursuant to our 2017 share incentive plan and option agreement. Operating income increased by 198% to RMB201 million for the second quarter, with operating margin increasing to 7.5% in the second quarter. Non-GAAP operating income, which excludes share-based compensation expenses, increased by 180% to RMB326 million for the second quarter. Non-GAAP operating margin increased to 12.1% for the second quarter. Income tax expenses increased by 137% to RMB51 million for the second quarter. Net income attributable to HUYA Inc. increased by 86% to RMB227 million in the second quarter. Non-GAAP net income attributable to HUYA Inc., excluding share-based compensation expenses, increased by 106% to RMB351 million for the second quarter. Diluted net income per ADS was RMB0.96 for the second quarter and non-GAAP diluted net income per ADS was RMB1.49. As of June 30, 2020, we had cash and cash equivalents, short-term deposits, and short-term investments of RMB10.7 billion compared with RMB10.3 billion as of March 31, 2020. This increase was primarily due to net cash provided by operating activities of RMB512 million for the second quarter. That concludes the review of our second quarter financials. As you may have noticed, we did not provide specific quantitative revenue expectations for the third quarter. This change is in line with the practices of our largest shareholder, Tencent, and its consolidated subsidiaries. However, directionally, we still expect our revenues to continue to grow in the third quarter, both year-over-year and quarter-over-quarter. I would also like to update you that we received a non-binding proposal letter from Tencent yesterday, proposing that Huya and DouYu enter into a stock-for-stock merger to be affected pursuant to applicable laws. As a result of such proposal, Huya or its subsidiary would acquire each outstanding ordinary share of DouYu, including ordinary shares represented by ADS in exchange for a to-be-agreed number of newly issued Class A ordinary shares of Huya, including ordinary shares represented by ADS. The independent and disinterested members of the Board will review and evaluate the proposed transaction. The Board just received the non-binding proposal letter from Tencent yesterday, and thus, no decisions have been made with respect to the company's response to the transaction. With that, I would like to open the call now to your questions.

Operator, Operator

Thank you. Your first question comes from Thomas Chong of Jefferies. Please go ahead with your questions.

Thomas Chong, Analyst

Thank you management for taking my questions, and congratulations on a strong set of results. I have two questions. My first question is about the cooperation with Tencent in the second half and any KPIs that can be shared in the next few years, given the solid progress made in live streaming and e-sports. My second question is about user trends. Can management provide insights on the MAU and the paying user outlook in the second half? Thank you.

Rongjie Dong, CEO

Okay. In terms of our partnership with Tencent, we had established operations with them even before they became our controlling shareholder, and since that time, our collaboration has expanded significantly. Firstly, we have already integrated Tencent's games and products starting in the second quarter, and we anticipate further integration in the upcoming quarters. Secondly, Huya's live streaming content is now available on Tencent’s WeGame, WeChat game center, and QQ mobile game center, and we have reported a 16% quarter-over-quarter growth in traffic from these channels. Thirdly, we are working with Tencent to test an exclusive one-click streaming service for their games, which would allow their gamers to easily live stream their gaming experiences. Fourthly, we are enhancing e-sports tournaments with Tencent, focusing on copyright licensing, commercialization, and improving the viewer experience through product upgrades. Lastly, we are also collaborating on advancing big data and artificial intelligence to provide personalized viewer experiences, and we recently introduced our cloud gaming platform called Yowa, with significant support from Tencent.

Catherine Liu, CFO

To your second question, regarding user growth and paying user growth, as Mr. Dong just mentioned, with the strengthened cooperation with Tencent, as well as our investments in content, such as broadcasters, third-party e-sports tournaments, and self-generated content, we believe that our users and paying users will continue to grow in the second half of this year. Hope this answers your question. Thank you.

Operator, Operator

Your next question comes from the line of Lei Zhang from Bank of America Merrill Lynch. Please ask your question.

Lei Zhang, Analyst

Thank you to management for addressing my questions and congratulations on the strong performance. My first question is about competition; could you provide an update on Yowa in relation to short video players, particularly regarding Qihoo, which has released some game streaming numbers, and Bilibili, which holds the broadcasting rights for the League of Legends Championship and Call of Duty? Are there any anticipated near-term or long-term effects on our business? Additionally, could you elaborate on the improved profitability seen in the second quarter? I'm interested in understanding the trends of your key cost items, such as content costs and revenue sharing. Thank you.

Rongjie Dong, CEO

Okay. In response to your question about the competitive landscape involving Qihoo and Bilibili, these companies have been active in the live streaming market for a while, and we have noticed they are increasing their investments in content production. However, I want to address your question from two angles. First, the data we have analyzed indicates that the impact from either Qihoo or Bilibili is quite limited for Huya. Second, they seem to be concentrating more on mobile game streaming. We excel in mobile game titles and are confident that our competitive advantage in this area, especially with popular games like Honor of Kings and Peacekeeper Elite, remains strong. Therefore, we do not believe the impact is significant. Regarding the broadcasting rights for the 2020 League of Legends Worlds Final, we are actively engaging with relevant parties to secure sublicensing rights for broadcasting these e-sports tournaments. If we are unable to secure these rights, we think the impact would be manageable, especially since our self-produced content has been attracting similar traffic and new users to our platform. We will continue working towards obtaining these sublicensing rights, but we believe we can operate effectively even without them. Catherine will provide insights on your second question.

Catherine Liu, CFO

Regarding margin improvement, our gross margin improvement mainly stems from savings made by optimizing our broadcaster signing fees. In the second quarter, we cut costs associated with broadcasters who had a relatively low price-to-performance ratio, both domestically and overseas, resulting in significant savings. The operating margin improvement was also due in part to enhanced operational efficiencies and an increase in government subsidies received in the second quarter compared to the first quarter. I hope this answers your question. Thank you. And next.

Operator, Operator

Your next question comes from the line of Yiwen Zhang from Citi. Please ask your question.

Yiwen Zhang, Analyst

Thank you, management, for taking my question. My first inquiry concerns the collaboration with Tencent on the user side. You mentioned that we have viewers on WeGame, WeChat game center, and QQ gaming center, which are not part of our reported MAU. Are there plans to convert these users into our app users? Also, regarding user behavior, do we notice any differences between these two user groups? My second question is hypothetical: if we set competition aside, how do we perceive the future of China's game live streaming in terms of engaging user bases and emerging business models? Thank you.

Rongjie Dong, CEO

Okay. Regarding your first question on the resources and traffic gained from Tencent external links, Huya's live streaming content is now connected to some of Tencent's games and products. The main difference in experience between these external links and our core app is that interactive features and virtual gifting are limited outside our app, resulting in a less comprehensive experience. Therefore, we did not include the traffic from these external links in our reported MAU. However, we are in active communication with related Tencent project teams to enhance and diversify the content ecosystem within Tencent's games and products, and there may be future opportunities to share revenue generated from these collaborations with Tencent. Regarding your question about the competitive landscape, hypothetically considering no competition, we have observed that the emergence of short-form video platforms in the game live streaming industry has actually contributed to new traffic and market growth. In the first half of the year, the total revenue generated by the gaming industry has shown significant growth rates, indicating strong prospects for the game live streaming sector. Additionally, e-sports tournaments have become extremely popular among gamers, which is likely to continue benefiting the game live streaming industry. We believe that Huya's commitment to providing quality content across various aspects of consumption will support our ongoing growth in the future. Thank you, that's all for the questions.

Operator, Operator

Your next question comes from the line of Alex Liu from China Renaissance. Please ask your question.

Alex Liu, Analyst

Could management provide more insight on our collaboration with Tencent, particularly in the area of cloud gaming and the possible commercialization model for cloud gaming in the future? Additionally, can management share their perspective on where they anticipate the game host sign-on fee stabilizing in the long run?

Rongjie Dong, CEO

Okay. On cloud gaming, the business for Huya and the industry is still in its early stages. Huya has started initiatives in this area. Firstly, we will monitor the industry's development and emerging trends closely. Secondly, we will aim to continually improve the user experience on our cloud gaming platform. Based on the current available data, we believe that significant monetization potential is still not fully realized for Huya or the industry. Regarding the trend of signing bonuses, the current signing bonus fees for broadcasters are not directly linked to the views they generate; rather, they are influenced more by content quality and viewer engagement metrics such as average concurrent users and retention rates. For top streamers in the industry who receive high signing bonuses, we are encouraging them to play a significant role in the platform's monetization.

Operator, Operator

Your next question comes from the line of Binnie Wang from HSBC.

Binnie Wang, Analyst

We noticed that Huya's monthly active users exceeded DouYu this quarter. Furthermore, margins have continued to improve with minimal additional costs. What are the main factors driving this strong user growth with low incremental costs? Considering your user acquisition strategy for this year, do you expect competition to stabilize, which might enable us to sustain improving margins in the near future? Thank you, management.

Catherine Liu, CFO

I will address the first question. The strong MAU growth in the second quarter was largely due to the pandemic subsiding domestically in China, resulting in the reopening of most offline Internet cafes. As mentioned in the first quarter's earnings call, the closure of these cafes led to a decline in non-mobile MAUs during that period. As for your question regarding the proposed merger between Huya and DouYu, we received the proposal yesterday, and the independent and disinterested members of the Board will review and evaluate the transaction. Thus, there has been no decision made yet. We will keep investors updated on any significant developments regarding this transaction. Thank you. Next.

Operator, Operator

Your next question comes from the line of Wendy Chen from Goldman Sachs. Please ask your question.

Wendy Chen, Analyst

Thank you to management for taking my question. I have a quick query regarding international expansion. Can management specify our current geographic focus areas for this expansion? Also, are there any updates on our global active-user strategy, especially considering the challenges faced by Chinese companies abroad? Furthermore, will this affect our margin profile as we invest in international growth?

Rongjie Dong, CEO

The overseas business initiatives we are implementing this year are different from our focus in 2018 and 2019. In the last two years, our main emphasis was on margin growth. However, as we enter 2020, we are assessing the health of the ecosystem while focusing on commercialization and return on investment. This change has influenced our decisions regarding which countries to enter this year. We are prioritizing reasonable ROI, which is why we did not enter the United States and have made limited investments in India due to perceived lower revenue potential. We are now concentrating on Southeast Asia and Latin America, which we believe have significant user and monetization potential. Additionally, we are exploring opportunities in the Middle East, aiming for a balance between user growth and monetization. Thank you. Can we move on?

Dana Cheng, Investor Relations

Operator, I think we have reached the end of our scheduled time, and I would like to thank you again for joining our conference call today. If you have further questions, you can reach the team at [email protected]. We look forward to speaking with you in the next quarter. Thank you, operator. We can conclude the call.

Operator, Operator

This concludes today's conference call. You may now disconnect your lines. Thank you.