Earnings Call Transcript - PDD Q1 2023

Operator, Operator

Ladies and gentlemen, thank you for standing by, and welcome to PDD Holdings, Inc. First Quarter 2023 Earnings Conference Call. I must advise you that this conference is being recorded today. I would now like to hand the conference over to your host today.

Chen Lei, Chairman and Co-CEO

Hello, everyone. Thank you for joining our earnings call for the first quarter of 2023. I will start by giving a brief overview of our first quarter results. We achieved a total of RMB37.6 billion in revenue this quarter, representing a 58% year-on-year increase. During the past quarter, we saw consumer sentiment continue to improve. We have seen a surge in demand across various categories, reflecting consumers' eagerness to explore a wide range of products we offer. The quarterly results also show that our long-term strategic focus on high-quality development is starting to pay off. We are glad to see that the focus on quality development not only sets us on a solid footing for the future but also delivers immediate gains for consumers and sellers. We are encouraged by the strong backing from our stakeholders. We work hard to create a limited marketplace where consumers can find what they are looking for and where high-quality values can drive success. Technology is very important to our mission to build a healthy and vibrant platform ecosystem. It is also a vital catalyst to drive efficiency and opportunities in the manufacturing and retail sectors. That is why we are putting more time and resources into R&D to foster sustainable progress. Our engineers make up about half of our total employees. R&D helps us meet the unique needs of consumers, provide merchants with a deeper understanding of shopping trends, and allow manufacturers to respond swiftly to evolving demand. Finally, when supply and demand come together, we can help unlock the potential in different industries. We will continue to step up our investment in R&D. And now let me talk about our globalization efforts. Last year, we launched Temu to offer quality products at affordable prices to consumers around the world. By working closely with sellers and manufacturers, Temu offers a wide selection of merchandise, reduces supply chain inefficiencies, and passes savings to consumers. As we move forward, we will keep seeking ways to meet diverse consumer needs. We are still in the early stages of exploration. We will always start from the fundamental needs of consumers, adapt quickly, and drive to create our unique value. As we continue to grow, we are finding more ways to generate a positive impact on society. A vibrant and sustainable e-commerce ecosystem can only be achieved by encouraging broader engagement in a digital economy. For instance, the advent of mobile Internet has created a space for female entrepreneurs in e-commerce, enabling them to balance work and family. By providing opportunities, we have enabled women to utilize their unique skills in managing successful e-commerce enterprises. Many of our platform's female entrepreneurs are starting their first business with us. They have created new jobs and injected new vitality into their communities. We are committed to providing more opportunities for individuals to become entrepreneurs through training and broader market access. We believe that nurturing a passion for reading can open doors to knowledge. To this end, we hold regular reading events, donate books, and invite reputable authors to talk with students in rural areas. We hope this will help young students broaden their horizons. We are also looking to promote agricultural digital inclusion. We are helping young people who are passionate about agriculture bring new technology from lab to field. We are working with top universities and institutes to encourage innovation. We also hold competitions for young people to realize their skills and ideas, which help create innovative and sustainable farming practices. As a young company still in the development stage, we believe that through the increasing business opportunities facilitated by us, we can help uplift communities and contribute to society. We will do more as we grow. Finally, I want to introduce my long-time colleague, Mr. Zhao Jiazhen, who was recently appointed as Co-CEO and Executive Director by our Board. Jiazhen concentrates more on supply chain management and China operations, while my focus is more on globalization efforts. Jiazhen is a founding member of our company. He led the team to launch and expand our grocery business and also led our supply chain efforts. Jiazhen and I have been working closely together for over a decade. We have established deep trust in each other. His new leadership role shows that our team is full of vitality and our next generation of leaders are ready to take on more changes. And now I will hand over to Jiazhen.

Zhao Jiazhen, Co-CEO and Executive Director

Thank you, Lei. Hello, everyone. I'm glad to join this earnings call. In Q1, many places introduced measures to promote consumption. We see clear recovery trends. Online retail continues to pick up. Users on Pinduoduo show a higher willingness to shop. Consumption vitality is becoming increasingly evident. These favorable trends lay a solid foundation for the steady growth of consumption for the whole year. We are very optimistic about the process of the consumption market. Over the past quarter, we actively mobilized platform resources to stimulate and realize consumption potential. As always, we provide users quality merchandise with more savings. During various large-scale promotional campaigns in Q1, such as the Chinese New Year promotion and the New Year sales, we stepped up discounts and issued extra coupons to benefit as many users as possible. Recently, in this year's Double Five shopping festival in Shanghai, we invested over RMB4 billion in coupons and discounts, marking a new high. During this event, we partnered with China Central Television and Oriental TV on live streaming sales, showcasing a wide range of products to viewers in an interactive and direct manner, enhancing consumer trust in online shopping. Furthermore, our growth team actively explores innovation by creating new consumption scenarios and deepening the spillover effect of nearby consumption pickup points. We hope this can further promote development and integration of online and offline consumption. With our strong suite of more savings, we have further improved our ability to provide better services to optimize the consumer experience. We launched an electronics shopping season in advance in April and introduced the concept of 'Every day is June 18'. We not only ensure good prices but also upgrade services on many fronts to improve the consumer experience. In the Pinduoduo reading month, which kicked off in late April, we invested hundreds of millions of RMB to promote high-quality and universal access to reading. A third-party evaluation report shows that across five dimensions, including price, authenticity, after-sales support, logistics efficiency, and promotion levels, the Pinduoduo platform's overall shopping experience for books ranked among the best in e-commerce. Against the backdrop of consumption recovery, we aim to further improve the platform ecosystem through impactful measures, including increasing discounts, upgrading services, and fully protecting consumer rights. We hope to further boost consumption vitality through our focus on the quality development of the platform ecosystem. However, as consumption rebounds, it also brings about more intense industry competition. Some competitive behaviors have gone beyond normal business activities. For example, since late March, numerous flagship stores on Pinduoduo faced malicious orders that disrupted normal operations clearly organized and purposeful way, resulting in significant losses. We immediately provided protection to the affected stores and upgraded our defense strategy. They returned to normal operations very soon. We believe that competition can motivate us to learn more efficiently and innovate more quickly, accelerating the iteration of our services. We will continue to be consumer-oriented and react positively to all types of competition. Even when we face malicious attacks, we will maintain a positive outlook. We will turn attacks from competitors into motivation to move forward by continuously improving sales, innovating with a clear direction, and guiding the platform toward higher quality development. For example, we have upgraded the shipping processing time for most categories from 72 hours after placing the order to no later than 48 hours. We will provide preferential after-sales services for elderly consumers in remote areas. We are also taking a proactive approach in customer service, such as offering consumers the option to receive a refund without returning the item. Additionally, we will step up our support for quality supply and investment in the supply chain. We are launching the 10 Billion Ecosystem Initiative to offer resources and support to quality sellers and products, promoting the quality growth of SMEs and quality sellers while improving overall service efficiency. For supply chain, we have rooted ourselves deeply in major production areas and industrial belts, connecting products directly with end consumers, reducing distribution layers, and lowering procurement and sales costs. We will continue to increase investments, optimize our supply chain capabilities, and further deepen our competitive advantages. This year, Pinduoduo has continuously optimized platform governance and taken on social responsibilities. We strive to embody more responsibility. Recently, we launched several dedicated initiatives such as initiatives to protect miners and our initiative on authentic books to establish a positive ecosystem for sustainable development. We also promote digitization in agriculture, having launched the agriculture cloud initiative. To date, our dedicated team has engaged deeply with various production regions. We provide specialized e-commerce training for sellers and help connect them with logistics infrastructure suitable for agricultural products, reducing transportation spoilage and improving product competitiveness. To support brand building in agriculture, we search for high-quality specialty products, provide strong traffic support, and assist them in gaining recognition through our 10 Billion program. Through initiatives like the agriculture cloud initiative, we hope to empower local production regions as leaders of specific products and drive the digital transformation of the entire industry value chain. We continue to deepen our cooperation with top economic institutes to leverage agritech's role in agricultural transformation and promote agritech adoption. We have hosted numerous events focusing on agricultural development, such as the Pinduoduo Crop Growing Competition, the Smart Agriculture Competition, and the Global Agricultural Innovator Competition. These competitions foster innovation and inspire young people to join agriculture. They also aid research by leveraging market sales to bring more funding. As part of our 10 Billion Agriculture Initiative, we recently donated RMB100 million to establish a research fund at China Agricultural University to support fundamental research in agritech innovation. We are proud to have received the FAO 2022 Innovation Award from the United Nations Food and Agriculture Organization, recognizing our innovation in the agricultural supply chain. We were the sole recipient of this award globally in 2022. We will continue to push hard to support digital transformation and technology adoption in agriculture while upholding our tech-focused principles. We will remain dedicated to our quality-first principle, do our part, and proactively take on more significant social responsibilities. Additionally, we will remain grounded in the real economy, increasing our supply chain investments and exploring strong driving forces toward high-quality development. We will expedite building a healthy ecosystem featuring more savings and better services. I look forward to collaborating with the team to promote high-quality development and achieve a healthy win-win outcome for our platform ecosystem. Now let me hand it over to Jun to provide an update on our financial performance.

Jun Liu, VP of Finance

Thank you, Jiazhen. Hello, everyone. Let me walk you through our financial performance for the first quarter ended March 31, 2023. Our total revenues in the quarter were RMB37.6 billion, up 58% from RMB23.8 billion in the same quarter of 2022. This increase mainly came from positive trends in consumer sentiment and favorable responses from consumers and merchants towards our high-quality development focus. Revenues from online marketing services and others were RMB27.3 billion this quarter, up 50% compared with the same period of 2022. Revenues from transaction services this quarter were RMB10.4 billion, up 86% versus the same period of 2022. Moving on to costs and expenses, our total costs of revenues increased by 55% from RMB7.2 billion in Q1 2022 to RMB11.1 billion this quarter, mainly due to increased fulfillment and payment processing fees. Our total operating expenses this quarter were RMB19.6 billion on a GAAP basis, versus RMB14.5 billion in the same quarter of 2022. On a non-GAAP basis, our total operating expenses increased to RMB18.1 billion this quarter from RMB13 billion in Q1 '22. We energized several large-scale promotional campaigns to boost user sentiment and continue investing in our long-term focus areas to support our high-quality development. Our total non-GAAP operating expenses as a percentage of total revenues this quarter were 48%, compared to 54% in the same quarter last year. In terms of specific expense items, our non-GAAP sales and marketing expenses this quarter were RMB15.8 billion, up 47% versus the same quarter of 2022. On a non-GAAP basis, our sales and marketing expenses as a percentage of revenue this quarter was 42% compared with 45% for the same quarter in 2022. In Q1, we actively leveraged platform resources to facilitate consumption recovery. Our non-GAAP general and administrative expenses were RMB338.3 million, versus RMB208.8 million in the second quarter of 2022. Our non-GAAP research and development expenses were RMB2 billion this quarter. R&D is a top priority and a long-term focus for us. We are committed to strengthening our R&D capabilities and will continue to increase investment in this area. Operating profit for the quarter was RMB6.9 billion on a GAAP basis, compared with an operating profit of RMB2.2 billion in the same quarter of 2022. Non-GAAP operating profit was RMB8.5 billion, versus operating profit of RMB3.7 billion in the same quarter of 2022. Net income attributable to ordinary shareholders was RMB8.1 billion compared to RMB2.6 billion in the same quarter of 2022. Basic earnings per ADS was RMB6.13 and diluted earnings per ADS was RMB5.55 compared with basic earnings per ADS of RMB2.06 and diluted earnings per ADS of RMB1.84 in the same quarter of 2022. Non-GAAP net income attributable to ordinary shareholders was RMB10.1 billion compared with RMB4.2 billion in the same quarter last year. Non-GAAP diluted earnings per ADS was RMB6.92 versus RMB2.95 in the same quarter of 2022. We will continue to increase investments and focus on creating a sustainable and vibrant ecosystem to support long-term high-quality development. That concludes the income statements. Now let me move on to cash flow. Our net cash flow generated from operating activities was RMB1.3 billion compared with the cash outflow of RMB9.1 billion in the same quarter of 2022, mainly due to the increase in net income and changes in working capital. As of March 31, 2023, the company had RMB157 billion in cash, cash equivalents, and short-term investments.

Unidentified Company Representative, Representative

Thank you, Jun. Next, we will move on to the Q&A session. For today’s Q&A session, Lei, Jiazhen, and Jun will take questions from analysts on the line. We could take a maximum of two questions per analyst. Lei and Jiazhen will answer questions in Chinese, and we will handle the translations for easier reference. Operator, we may now take questions on the line.

Operator, Operator

Your first question today comes from Joyce Ju with Bank of America.

Joyce Ju, Analyst

My first question is: noting PDD recently implemented the Co-CEO structure, how does the change affect your group strategies? What are your key growth drivers going forward? Per your announcement, post the Co-CEO structure change, Lei will focus more on the globalization side. Does that mean your globalization strategy now has a higher priority? My second question is related to top line growth. Your online marketing services revenue increased by 50% year-over-year this quarter, accelerating from the last quarter. How should we think about this reaccelerated momentum, and what has PDD done this quarter to contribute to this?

Lei Chen, Chairman and Co-CEO

Hi Joyce, thank you very much for your question. I can take your first question on strategies. Jiazhen and I have been working together for many years, and we have established deep trust. With our goal of high-quality development in mind, we have constructed very clear long-term strategies, and we will continue to lead our team in terms of execution. On top of that, we will leverage our different backgrounds and ideas and be efficient in decision-making. Over time, we are steadily shifting our strategic focus from the speed of growth towards the quality of growth. We have seen positive feedback from both consumers and sellers on this shift, which is reflected in this quarter's results. Under our long-term strategies, we are continuously strengthening our supply chain capabilities and expanding the supply of high-quality merchandise. We will further increase our support for quality sellers by launching our 10 Billion Ecosystem Initiative and push forward the overall quality of our platform. We will also continue to optimize our platform ecosystem. As a tech-driven company, the value we create is inseparable from our R&D capabilities. So we are also strengthening our R&D capabilities and increasing our R&D investment. Our R&D team currently comprises about half of our total employees. The China market is huge, and we see big potential for further growth. We believe that the China market will be our largest market for the foreseeable future. At the same time, we note that it is changing very fast and competition is intense, presenting both challenges and opportunities. This is why our Board appointed Jiazhen as Co-CEO to design and execute strategies together with me and further strengthen our China operations team.

Zhao Jiazhen, Co-CEO and Executive Director

Thank you, Lei. First, it is an honor that our Board has put their trust in me. I am very excited about my new role. At the same time, I feel our responsibilities and challenges. As the industry recovers, we are also entering a new stage. In the past few years, we successfully shifted from marketing-driven to R&D-driven, laying a solid foundation for our development. Now we've reached the gate of another stage, which is dedicated to promoting holistic, high-quality development. In this new stage, we are further improving our platform ecosystem, upgrading our consumer services, increasing support for quality supply, and deepening our supply chain expertise. We constantly optimize platform governance to further build a socially responsible platform. We believe that investing in our platform ecosystem, supply chain, and R&D can create long-term value, and we will lead our team to execute these strategies with determination, accelerating our steps into this new stage of high-quality development. Regarding revenue growth, in the past quarter, many places introduced policies to support consumption, and we see a continued improvement in consumer sentiment, which represents a good beginning for 2023. Our platform consumption vitality is further boosted. To support consumption recovery, we start from consumer demand and actively mobilize our resources. By organizing several large sales events in a row and providing actual coupons, we have boosted consumer sentiment. Additionally, we strive to give better services by upgrading consumer protection and enhancing the shopping experience, such as cutting down the shipping processing time from 72 hours to within 48 hours. Our virtual ecosystem of more savings and better services has earned us positive feedback from consumers and sellers. Our Q1 growth is an early testament to our progress.

Unidentified Company Representative, Representative

Hi, operator, I think we are ready to take the next question on the line.

Operator, Operator

The next question comes from Natalie Wu with Haitong International.

Natalie Wu, Analyst

Thanks for taking my question. So I have two questions here. First, with June 18 approaching, we see that many of your peers have rolled out this year's promotions, which seem very aggressive. Just wondering what's your response, and how do you plan to maintain your competitive advantage, specifically for pricing? Do you think there will be an endless spiral of increasing discounts in the short term or the list price? And secondly, we noticed that your profitability margin this quarter is another sequential decrease. Just wondering what the major reasons are behind this. Is it because of seasonality or competition? Does it mean that you are now actively spending extra for growth?

Zhao Jiazhen, Co-CEO and Executive Director

This is Jiazhen here, and thank you for your questions. I will share my views on competition. Instead of focusing too much on what competitors are doing, we pay more attention to how we grow within competition. We view competition as a testing ground, motivating us to iterate quickly. As I mentioned in my remarks, we are always consumer-oriented and actively embrace all types of competition. We are accelerating the establishment of a healthy ecosystem of more savings and better services. Our ability to deliver savings mainly stems from our retail efficiency improvements. We will continue enhancing our R&D to better match supply with demand. Additionally, we will ground ourselves deeply in production regions to connect quality products with consumers directly. For instance, initiatives like our agriculture cloud initiative leverage our supply chain expertise to provide consumers with quality and affordable agricultural products. We hope to enhance our efficiency and turn this into a sustainable price advantage for consumers. We will also continue to increase discounts and issue more coupons to return value directly to consumers. Furthermore, improving services is another area we optimize. For example, we provide extra care to the elderly and consumers in remote areas and give them preferential customer service. We've also upgraded our post-sales service, allowing consumers the option to receive refunds without needing to return items. The dedicated 10 Billion Ecosystem Initiative aims to channel more resources towards quality sellers to support SMEs and elevate platform service efficiency and quality. We will continue focusing on sales growth in a competitive environment and strive to create more value for our consumers.

Jun Liu, VP of Finance

This is Jun. Thanks, Nat, for your questions. I'll address your question on profitability. As Lei pointed out, we have clear long-term strategies and see many areas for further improvement. We're executing these strategies with determination. We will continue to nurture the development of a healthy, more savings-driven, and service-oriented platform ecosystem. We firmly believe that our patient investment can generate value for consumers, sellers, and the platform ecosystem. Feedback from consumers and sellers intensifies our determination to pursue quality development. Thus, we plan to step up our long-term investments. As a result, our profitability level decreased in the past two quarters on a quarter-to-quarter basis, which we consider normal for profitability to fluctuate.

Unidentified Company Representative, Representative

Operator, we may take questions from the next analyst on the line.

Operator, Operator

The next question comes from Kenneth Fong with Credit Suisse.

Kenneth Fong, Analyst

I have two questions. First, for your global business, may management share the level of financial impact from Temu? How many users do you serve now? Could you perhaps provide an update on metrics such as order volume? My second question is: we see more sellers opening stores across multiple platforms. So it seems the merchant selection is becoming increasingly similar across different platforms. Can management share what's differentiating your supply side, especially for your agricultural products?

Jun Liu, VP of Finance

Thanks, Kenneth. I’ll take your first question about the financial impact of Temu. This business is currently in its early stage. Compared to our overall scale, its revenue contribution is minimal. For Temu, as we've previously mentioned, our focus is on understanding consumer needs and satisfying these needs. Financial metrics will naturally follow from our value creation. We will adhere to our financial discipline and ROI-driven approach when evaluating each investment opportunity.

Zhao Jiazhen, Co-CEO and Executive Director

This is Jiazhen, addressing your questions on supply chain and agriculture. In many categories, we recognize considerable potential for expanding and optimizing supply. The digitization rates of agricultural produce remain low, while there's significant demand, and high-quality agricultural products often suffer inefficient distribution. We are committed to leveraging our resources to increase supply chain efficiency, connecting quality produce to the nationwide market. We provide e-commerce training and help farmers connect with agri-focused logistics resources, enhancing their distribution capabilities and preserving quality and nutrition during transport. Additionally, our grocery business continues exploring innovations, helping consumers access convenience and a broader selection of fresh produce. We're also driving agritech innovation and adoption, deepening our partnerships with leading economic institutes. For instance, we've recently donated RMB100 million to support cutting-edge research at China Agricultural University. Our platform also allows research findings to reach the market rapidly, helping ensure consumers receive quality products. We proactively support every seller with platform resources, including traffic to extend the reach of quality produce to end consumers. Through this approach, both quality sellers and our platform can grow together healthily and continually improve product and service quality. Agriculture remains our long-term strategy, and we will mobilize platform resources to invest deeply in the supply chain, bringing high-quality produce to our consumers.

Unidentified Company Representative, Representative

Okay. It's about time, and thank you, everybody, for joining us on the conference call today. Thank you, and have a great day.

Operator, Operator

Ladies and gentlemen, that does conclude our conference for today. Thank you for participating. You may all disconnect.