Tuya Inc. Q3 FY2024 Earnings Call

Okay. Thank you, Emma. Thank you. Hello, everyone. Welcome to our Third Quarter 2024 Earnings Call. Joining us today are Founder and CEO of Tuya, Mr. Jerry Wang; and our CFO, Ms. Alex Yang. The third quarter 2024 financial results and webcast of this conference call are available at ir.tuya.com. A replay of this call will also be available on our website in a few hours. Before we continue, I refer you to our safe harbor statement in our earnings press release, which applies to this call as we will make forward-looking statements. With that, I will now turn the call to our Founder and CEO, Mr. Jerry Wang.

Hello, everyone. Thank you for joining Tuya's Third Quarter 2024 Earnings Call. In the third quarter, we achieved our performance goals by prioritizing practical strategies and focusing on execution, revenue growth accelerated to a 34% year-over-year increase. We maintained high operating efficiency, thus achieving a non-GAAP operating margin of around 9%. Our substantial interest income added to the bottom line resulting in a non-GAAP net profit margin of around 25%. These results were underpinned by the effective execution of our business strategies, coupled with ongoing efficiency initiatives that tightly controlled budgets and expenses, sustaining operating leverage as we did in last quarter. Next, I will delve into some details on our business performance in the quarter. In the third quarter, all three of our business segments delivered solid revenue performance. IoT PaaS revenue increased by over 26% year-over-year, maintaining a steady recovery momentum. The Smart Solutions segment achieved over 100% year-over-year revenue growth. This was driven by strong market demand, particularly in the Home Appliance category, where we have consistently observed robust global demand throughout the year, aligning well with our product planning and market expectation. Our focus on energy-efficient products and solutions has significantly contributed to this revenue growth. Additionally, our close collaboration with key customers has enabled them to align their product planning and launches with market trends. Lastly, revenue from the SaaS and other segments grew by approximately 17% year-over-year with our core cloud software value-added services increasing by over 50% year-over-year. In the consumer market, it is imperative for businesses to build thoroughly, understand and capture the core needs of end users. We are dedicated to continuously launching innovative and competitive products, understanding our customers' business objectives and building even closer partnerships. At the recently concluded 2024 EFA in Berlin, we unveiled numerous new product capabilities. By leveraging cloud-based dynamic algorithms and generative AI, we aim to significantly enhance the user experience and value of smart products in terms of interaction, efficiency, and functionality. Additionally, in line with our philosophy of cultivating and understanding the industry, we have iterated and expanded a wide range of solutions and product portfolios across various homes and commercial use cases. This encompasses home energy efficiency, comfortable living spaces, pet care, security and protection, sports and healthcare, entertainment and education, convenient mobility, and more. Our global customer collaborations and expansion efforts progressed steadily in the third quarter. Our dollar-based net expansion rate, which measures growth among existing customers, stood at 124%, a healthy and stable level. Our largest market, Europe, exhibited stable demand with smooth progressing partnerships with both new and existing clients. In other regions, we secured several key regional customers, including a leading private label brand in Canada, covering categories such as seasonal lighting and pet products, a top home appliance group in emerging markets like Brazil, and well-known consumer safety brands in Chile. All of these are leveraging the Tuya platform for their strategic initiatives. Furthermore, in more mature markets, the Tuya platform remains the preferred choice for enterprises aiming to enhance operational efficiency or transitioning from traditional systems to third-party platforms. We believe these customer-level developments amplify the value and capability of the Tuya platform and reflect the favorable competitive landscape in which we operate. We are also committed to building our developer community by striving to ensure that every developer interested in smart technology has access to the latest cutting-edge information. In the third quarter, we hosted two major developer conferences. The first was the inaugural European edition of the Tuya Global Developer Conference held at the Berlin Exhibition Center during the EFA event themed 'Smart by Nature', exploring the synergy of AI and sustainability. Partners such as AWS and Think, which is a well-known European e-commerce platform for comprehensive smart home solutions, discussed innovative applications of generative AI and practical implementation of sustainability. These discussions garnered significant attention from developers. Vestel, as one of Turkey's largest home appliance manufacturers, also shared success case studies. At the end of September, during our global developer conference in Suzhou, industrial leaders such as Siemens and Haier Smart Home shared their visions of the future. They showcased how to leverage the Tuya Cloud development platform to build intelligent ecosystems, bringing green digital and smart home living experiences to users. By the end of the third quarter, the number of registered developers on the Tuya platform further increased, reaching approximately 1.26 million. Moving forward, we will continue to gain insights into market demands, consistently empower developers, and deliver more smart products that meet consumer expectations. In the industrial and specialized channel markets, we continue to make progress as planned by developing and replicating benchmark projects. For example, our business model for telecom operators this year involves leveraging our Cube Intelligent Private Cloud solution to initiate collaborations combined with the delivery of core smart device categories. This approach is aligning with our expectations and has begun to see continuous implementations. The development among our telecom operator customer base is advancing steadily. We have signed new agreements with two leading operators in Thailand and Vietnam, and we are receiving consistent reorders for smart devices from existing customers who have already deployed our solutions. Additionally, our home energy management system business has achieved substantial progress. We successfully secured a benchmark project with the Singapore Housing and Development Board. Over the next few quarters, we will officially enter the product implementation and delivery phase for this project. Overall, the third quarter of 2024 was the period of steady progress for Tuya as we executed our established growth strategies to deliver robust financial results. This commitment has also brought us shareholder level recognition. You may have seen yesterday's announcement over the weekend, where 65 Equity Partners at an independently managed wholly owned investment platform of Temasek entered into an agreement with New Enterprise Associates, one of Tuya's key shareholders since our founding in 2014, to purchase approximately 13% of Tuya's total issued shares. This investment reflects their strong confidence in Tuya's vision and aligns closely with our international expansion strategy. The Asia Pacific region, particularly Southeast Asia, is a rapidly growing emerging market, presenting enormous opportunities for us. We remain committed to seizing growth opportunities in international markets, advancing global AIoT, smart devices, and commercial and industrial applications, and delivering value to our long-term shareholders. We are thrilled to welcome 65 Equity Partners, the investment platform of Temasek, as a significant shareholder of Tuya. Lastly, we welcome our current Vice President of Financial, Claire Yan Zhang, to the Board of Directors as an Executive Director. With her extensive experience in financial management at a Big 4 accounting firm, Ernst & Young, Claire will bring valuable expertise to the Board, aligning with Tuya's commitment to diversity. Now I will hand over to Alex to provide further financial details.

Thank you, Jerry, and hello, everyone. This is Alex. Now I will discuss our financial results and provide more details on the numbers that are covered by Jerry. Please note that all the figures are in U.S. dollars, and all the comparisons are year-over-year unless stated otherwise. In the third quarter of this year, our total revenue reached USD 81.6 million, up to 33.6% year-over-year. Most importantly, our P&L continued the trends established in Q2. Each business segment maintained a solid gross margin, reflecting the value of our products. This led to attractive gross profit growth alongside revenue growth. At the same time, we executed our business operations and product strategies with streamlined and limited operational costs and expenses. As a result, we achieved a solid non-GAAP operating margin, expanding from the breakeven level of Q2. Our IoT PaaS revenue in the third quarter was $57.9 million, representing a year-over-year growth of 26.4%. Looking at the product categories, our focus on home appliances enabled impressive year-over-year growth of around 40%, while other categories remained stable. Geographically, our global revenue structure was well balanced. However, driven by increased energy-saving orders, Europe's revenue contribution saw a slight uptick this quarter. On the customer side, the scale of customers we served increased slightly compared to the same period last year, aligned with our focused strategy on customer expansion and service. As of the end of Q3 2024, our dollar-based net expansion rate stood at a healthy 124%. We believe this demonstrates strong demand from our existing customer base for Tuya's products, providing a solid foundation for revenue growth and allowing us to confidently pursue new customers. Q3 gross margin was 46%, remaining at a stable and healthy level compared to the same period of 2023. Since overall gross margin reflects the structural mix of margins across our business segments, it is influenced by the revenue composition of each segment. Looking at the components, the gross margin for all three of our revenue segments remained constant with the previous level. The slight increase in PaaS gross margin and a slight decline in Smart Solutions gross margin were primarily due to product mix changes. We will consider that as a regular one. Regarding operational activity and expenses, I will provide a detailed view on a non-GAAP basis, which excludes certain non-business-related items to give a clear picture of our operational efficiency. We continue to present our operating expenses primarily on a non-GAAP basis. Before discussing non-GAAP operating expenses, I'd like to mention that in early September, following our Q2 operational profitability milestone, we adjusted the exercise prices of our options held by all the employees to the current value of our shares. We did this to thank our colleagues for their unwavering support as we navigated through cycles and reached new milestones. This one-time adjustment resulted in approximately USD 10 million in additional one-time equity incentive expenses, of which $9.5 million was recognized in this quarter's operating expenses, with the remainder to be amortized over the coming quarters. Turning to operating expenses. In Q3, our non-GAAP total operating expenses decreased by 5.9% to USD 30.1 million from $32 million a year ago. Following the near comparison of team structure adjustments in the second half of 2023, our non-GAAP expenses have since stabilized year-over-year. Sequentially, our operational expenses in Q3 increased by approximately $2.3 million compared to Q2, primarily due to typical fluctuations in items on the expenses side and the income side, such as tax refunds. As revenue grows year-over-year, we will adjust the budget as needed. Other non-personnel operating expenses such as marketing and travel have remained at a relatively balanced level. Overall, we remain committed to efficient and focused business expansion to maximize and stabilize Tuya's profitability at this stage. This quarter, we achieved a non-GAAP operating margin of 9.1% and non-GAAP net margin of 24.7%. Net margin exceeded operating margin due to the contribution of interest income, which is substantial due to our large net cash balance. While fluctuations in operating expenses may cause slight profit margin variations, we are pleased with our current profit level and optimistic about achieving improving operating leverage in the future. In terms of cash, Q3's operating cash flow was a net inflow of $23.9 million, reflecting our strong cash leverage. Our net cash balance increased to $1,023.9 million, further strengthening Tuya's financial reserves and preparing us for future shareholder returns. This concludes my presentation on the company's financial performance. So with that, operator, Emma, we are now ready to take questions. Thank you.

We will now take our first question from the line of Tom Tang from Morgan Stanley.

Congratulations on a very strong result for the quarter. So I have two questions. First one is on the outlook for the fourth quarter. So if we can share some more color on it and if we have seen any changes in the customer behavior after potential tariff increases in the U.S.? And the second question is on the GPM. So our smart solution is a quite sizable amount in terms of our total revenue now. So do we expect the GPM to stay stable over the next few quarters? Or if there's going to be some further changes due to the product mix change?

Yes, thank you for that. So for the first question, firstly, we will mention that for Q3 for us, it will be a steady season, a steady growing season, which proves that our strategy on the business side and also the efficiency of our operations. We’ll continue to do that. For Q4, right now, we see that it's positive season, but it’s only been 40 days past for Q4. Also, we have a long vacation in China, so that influenced the majority of the manufacturers. Therefore, I will not have clear visibility over our entire Q4. But when we see that Q4, it’s a stable, regular season for us. We continue to chase that, so we are optimistic about what we can accomplish in Q4, even without precise visibility. Speaking of the tariff issues for the United States, what we see here is that it’s not the first time about the tariff. This situation has already been ongoing for a couple of years. There are maybe two key points. The first is that in the past few years, even with the geopolitical situation, customers have already started to relocate their supply chains. We're already supplying that, which means that we’re not impacted directly, but the customers always need to trade, always need to source, and purchase products from wherever they need in the world. We are just fulfilling that. That will be one aspect. The second point is that despite the relocation of the supply chains, the world still needs China significantly. So no matter what, any substantial amount of Chinese components is still shipping to the global supply chain. So that will be another aspect; we just follow the flow and keep serving our customers either locally or remotely, depending on where their suppliers are located. I think this is relevant because demand remains steady as end users continue to utilize these products; thus, they will purchase wherever they can to find the best cost point for locating their supply chain. That answers question one. For question two, you see that our three business segments operate in totally different verticals. We have to follow different business models and common practices within this industry. So for the Smart Solutions segment, its margins are closely tied to hardware, which means I can’t directly compare gross margins with software. However, we believe that Smart Solutions are exceptionally valuable since we help our customers provide differentiation and deliver very competitive, cutting-edge products and experiences to the market, enabling them to remain leaders in the industry. We will certainly expand the portion of Smart Solutions and we genuinely see the potential. Therefore, while the overall gross margin of the company may gradually decrease, we consider that a healthy scenario because each of the segments is competitive. Our main concern remains with segment performance, not the overall gross margin. Simultaneously, the growth of each segment doesn’t require a significant increase in our expenses and costs, which means we still maintain a very favorable leverage point to grow our overall business. So even though the gross margin rate may decline slightly in the long run, the total amount of gross margins will be sufficient to provide adequate benefits and profitability for the company.

Our next question comes from the line of Timothy Zhao from Goldman Sachs.

I have two questions here. The first one is regarding the IoT PaaS business. Just wondering if you can give us any color on your outlook on the downstream demand for the IoT PaaS business and any demand difference across different vertical segments? And secondly, I'm pretty glad to see that we have anchor investors coming in this quarter and given that your margin is already quite stable and the company also has pretty ample cash resources. Just wondering if you can share some ideas about the future shareholder return policies.

Yes, thank you for that. For the IoT PaaS, the momentum we see here is that this year will be a rebounding year because the majority of the consumer electronics players or companies in the world are starting to work through their inventory issues that began in 2021 and 2022. So it’s a rebounding year. What we see is that the momentum among our customers indicates they are starting to reinvest and kick off multiple projects among every customer within the IoT fields. This positions them for future competition and expansion. As a result, we are optimistic about the demand continuing to grow on our customer side. On the Tuya side, we continue to provide two key drivers for our business. The first driver is our products and packages. We continue to expand into new use cases and scenarios across our various categories. However, more importantly, we are beginning to deploy and provide some AI-based services to our customers, enabling them to build AI-empowered devices or applications for end users. This can become a key differentiator and generate new features in the market. So that’s one perspective. The second driver for Tuya revolves around customer expansion, especially at the enterprise level. For that part, as you can see, we have been incubating our SaaS business for around three years. This solution is predominantly focused on the enterprise level. Beyond consumer-related companies, we’re also targeting industrial solution providers among diverse players in the market. Consequently, we continue to add more customers in that field, including telecom carriers and recent projects, such as the Singapore HDB for public apartments, et cetera. Such industrial players and enterprise-level clients will become new growth forces and drivers for Tuya as we continue deeper expansion. Thus, we maintain optimism in this area because we have a very steady customer base, as demonstrated by our dollar-based net expansion rate (DBNER) and premium customer accounts. Meanwhile, we are working to broaden our reach into new enterprise solution markets. That addresses question one. Regarding question two, yes, for sure, throughout the past ten years since Tuya's inception, we have always prioritized returning value to shareholders as a significant focus in our operations. Q2 was the first time we issued a dividend. It was a special dividend for our shareholders. As I mentioned in the last quarter, this is not a regular dividend because we haven’t achieved annual profitability yet. Nonetheless, we did not want our shareholders to wait another two quarters. Therefore, we issued a special dividend. We plan to treat dividends as a regular offering, based on non-GAAP profitability levels that we use as a benchmark to evaluate how much we can reclaim for dividends to our shareholders.

Our next question comes from the line of Kai Xiao from CICC.

So this is Ben from CICC Research, and I have two questions. The first question is about the SaaS sector, whose revenue growth accelerated in Q3. Could you give us some color on the growth drivers and future outlook for the SaaS sector? And another question is regarding artificial intelligence. Could you provide us some updates on the Gen AI monetization and future plans? If possible, some revenue contribution guidance would be great.

Thank you for that. For the SaaS sector, the key part for us is that we continue to identify potential verticals where AIoT can add value by addressing pain points with reasonable cost levels. We consider this the proof-of-concept stage, meaning we continually evaluate the market to figure out the appropriate solutions that fit. Currently, we see several very promising and scalable market directions, including hospitality. For example, the recent project we signed with HDB in Singapore is a hospitality solution we provided, combined with energy management. Energy will be another critical sector, while outdoor solutions and logistics also hold potential. These represent verticals where we find we have viable standard solutions and we are working with strategic customers in pilot programs. That’s a significant driver for SaaS growth. In terms of AI, we are currently working on providing two types of services through AI. One option involves integrating AI capability along with the hardware. In essence, a standard smart device transforms into an AI device. A typical use case includes a bird feeder with a camera and food container that you can place in your backyard. Whenever a bird comes, it captures a picture or selfie of the bird—combined with AWS recognition algorithms—to identify the species and behaviors of the bird. This offers an engaging platform for education or enjoyment for users. Another direction we’re pursuing involves offering AI services as a software-based layer atop the existing device. For instance, in pet care, incorporating AI into pet feeders allows them to capture footage of pets and automatically generate engaging videos with music, producing delightful moments to share. These developments are still in pilot testing and we are running proofs of concepts with specific customers. Additionally, we carefully evaluate how we can monetize these innovations within our business model. By the end of this year or early 2025, we expect to present more use cases demonstrating how we can apply AI effectively. We believe these developments represent one of the catalysts for Tuya and our broad IoT innovations. One of Tuya's key unique selling propositions is addressing the challenge of AI in terms of identifying commercially viable applications. We have substantial experience building devices, meaning that when we commercialize those devices, we can naturally incorporate AI to improve pricing models. Thus, we are excited to explore different use cases and commercial avenues. That summarizes our current position.

Our next question comes from the line of John Roy from Water Tower Research.

Congratulations on a very strong quarter. If we could take a step back for a second, obviously, the revenue growth has been solid for the last couple of quarters and a lot of talk about enterprise. I was kind of wondering how long do you think this can continue? In other words, how much runway do you kind of see given the current markets you have?

I would like to take a moment to reflect on the vision we had when we started this company. We believe that in the long run, technologies like IoT and AI could become as fundamental as the Internet, where everything is interconnected. When we look at the current adoption of IoT and AI, it's still very low, sitting at single-digit percentages. If you ask me about the future, I would predict that in the next decade or two, almost everything will be expected to be smart and connected by default. We envision our role as helping early adopters in their industries to transition to IoT or AI technologies, which I see as a crucial growth driver for us. For this reason, our investments are focused on identifying promising use cases across various sectors while also quickly providing standardized, user-friendly toolkits for developers at scale.

Right. And as a follow-on to that, the investments you're making, do you feel like they're at a good level right now? Or do you feel like there’s going to be a possible need to accelerate R&D in the coming years?

Yes. In the past two years, we faced a challenging cycle. As a result, we adjusted our strategies to shift from aggressive investments and expansion to a more reasonable approach we refer to as micro management. For this reason, we've been able to stabilize our expenses and investments. Internally, we continue to invest in new use cases, but we do so at a very reasonable, strategic level. We look forward to maintaining stable profitability while keeping a close eye on expenses.

There are no additional questions at this time. I'll now hand back to the management team for any closing remarks.

Okay. Thank you again for joining our call today. If you have any further questions, please feel free to contact us or request through our IR website. We look forward to speaking with everyone in our next earnings call. Have a good day today. Thank you.

Thank you for your participation in today's conference. This does conclude the program. You may now disconnect.