Earnings Call Transcript - TUYA Q1 2023

Operator, Operator

Good morning and good evening, everyone. Thank you for joining us for Tuya Inc.'s First Quarter 2023 Earnings Conference Call. I will now hand the call over to Mr. Reg Chai, Investor Relations Director of Tuya. Please proceed.

Reg Chai, Investor Relations Director

Okay. Thank you, everyone. Hello, everyone. Welcome to our first quarter 2023 earnings call. Joining us today are Founder and CEO of Tuya, Mr. Jerry Wang; and our CFO, Mr. Jessie Liu. The first quarter 2023 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 well as we will make forward-looking statements. With that, I will now turn the call to our Founder and CEO, Mr. Jerry Wang. Jerry will deliver his remarks in Chinese, which will be followed by corresponding English translation.

Jerry Wang, CEO

Hello, everyone. Thank you for joining Tuya's Q1 2023 Earnings Conference Call. Our revenue in Q1 2023 was approximately $47.5 million, recording a sequential increase of 5% and a 14% decrease compared to the same period last year. This dip can primarily be attributed to three main influences: a persistent lag in overall consumer spending, the continued cycle of inventory correction downstream, and a comparably high base from the previous year. Furthermore, foreign exchange fluctuations accounted for a 6 percentage point year-over-year drop. Yet, in spite of these challenges, our Q1 revenue exceeded our initial expectations set at the start of the year. This is a milestone for us as it is the first time since going public that our Q1 revenue, despite incorporating the spring festival holiday period where most business and production activities were suspended, has outpaced that of the traditionally strongest Q4. Moreover, our blended gross margin maintained a steady level of around 44%, demonstrating the determination of our team, the resilience of our business operations, and the strength of our customer base in the midst of a challenging macroeconomic environment. Taking into account publicly available data, we have observed a consistent decline in inflation in both the United States and Europe. As of the end of March, the U.S. CPI reduced by 5% while Europe experienced a decrease to 6.9%. These figures indicate a tempering of the previously severe microeconomic climate, and an evolution which, when coupled with the ongoing inventory reduction, has begun to bolster the confidence of some brands and customers. On the China front, consumer expenditures saw a year-over-year uptick in Q1 2023. However, due to the carryover effects from the COVID-19 peak in Q4 of last year, this spending has been primarily focused on food, clothing, and pharmaceutical sectors. Contrarily, sectors such as home electronics and communication equipment experienced a year-over-year decline, highlighting the substantial and lasting impact the pandemic and economic climates have had on consumer habits and expenditure sectors. Elsewhere in emerging regions like Latin America and India, characterized by relatively low smart device penetration and smaller device spaces, we have witnessed promising year-over-year growth amid the easing of global economic pressures. In a broad view, the consumer electronics supply chain from upstream to downstream experienced periods of sustained pressure through Q1 and is expected to continue into the first half of 2023. We continue to navigate an environment of industry and economic uncertainties. Yet despite these challenges, the aforementioned early positive signals that we have observed in the right market bring hope for the potential of further industrial recovery in the second half of the year. Rest assured, we remain vigilant in monitoring these trends and committed to our execution of established strategies. Moving on to our business operations. We held our non-GAAP operating expenses in Q1 at the same level as Q4 of last year. Combined with our sequential revenue growth and steady gross margin profiles, this will help us further narrow our operating loss. This has led to a non-GAAP net loss of $3.7 million, a figure that marks a historic low for our company in recent years. It's evident that a year of committed adjustments has effectively steered us towards a more efficient and focused operational model. Now let's dig into the details. IoT PaaS revenue in Q1 was approximately $33.6 million, reflecting a sequential growth of 2.9% and a year-over-year decline of 19.6%. There are a few reasons for this stabilization in revenue. First, we are successfully executing our intensified customer-focused strategy. We served approximately 2,800 direct customers in Q1, among them the number of IoT PaaS customers for around 2,000, marking a sequential contraction of about 17%. Despite this decline in customers, revenue growth indicates increased efficiency in revenue generation per customer. Several brands provided a solid foundation for revenue. Apart from these core customers, the remaining customers can be broadly characterized into two main groups. The first category consists of brands that made significant IoT PaaS deployment contributions in Q1 last year. Due to their leading and scalable characteristics, these customers had higher baseline numbers last year and larger inventory levels. As a result, they have been prioritizing inventory adjustments and adopting a more conservative strategy this year. Consequently, their contribution in Q1 was down compared to last year, causing a notable impact to our business. However, we are not concerned about this group of customers for several reasons. Firstly, our well-implemented customer-focused service strategy has fostered closer relationships, collaborations, and planning with these customers. Secondly, we understood that the majority of them have achieved stable to growing end-user device activations, indicating healthy sales of consumer end products and progress in destocking. This is aligned with feedback we collected from brand customers in late February and early March. The second category encompasses growth from large customers that we have acquired from last year up to Q1. For instance, we've successfully onboarded a prominent Southeast Asia telecom operator through our comprehensive solution, which integrates hardware and software enhancements, combining IPC product solutions and value-added cloud storage services. This customer contributed several hundred thousand units of IoT PaaS deployments, nearly doubling year-over-year. Several brand customers in our incubated product lines such as robotic vacuum cleaners and outdoor products each contributed over 10,000 incremental units of deployment year-over-year, driving significant year-over-year growth. Incremental deployments from these high-quality new customers offset a portion of the overall decline and laid a solid foundation for future business. Furthermore, we see some signs of recovery among e-commerce customers who were previously impacted by stock closures. Additionally, some promising new players have emerged in overseas e-commerce following a market reshuffling, showcasing impressive growth potential, with year-over-year growth ranging from 30% to multiple times. Secondly, we are committed to investing in and incubating high-yield, cost-effective products. Looking at the consumer sector, dielectric and lighting categories still experienced significant pressure due to high inflation and destocking. In home appliance categories, the situation varies across different subcategories, but our strategy of expanding product offerings and focusing on high-value products contributed to Q1 revenue growth of approximately 10% year-over-year. In the safety and sensor category, a slight decline in revenue compared to the previous year was due to changes in the product mix, but the volume of deployments remains stable. Furthermore, I would like to share that we have seen positive results from our efforts in seizing opportunities in developing, expanding, and augmenting interest levels on core IoT product categories. In terms of product line performance, the revenue contribution from energy-saving and energy-related products in Q1 has already reached 50% of the total revenue for the full year of 2022. The revenue contribution from professional and industry-specific products such as smart switches, circuit breakers, water valves, and irrigators in Q1 has approached two-thirds of the total revenue for the full year of 2022. Our gateway product portfolio has become more diverse, covering wired and wireless options; supporting technologies such as 4G, Ethernet, WiFi, and Bixby; and catering to various application scenarios including home, SMB, commercial, and engineering. This, combined with our rich device ecosystem, has made us the preferred choice for many well-known brands and industry service providers. Our voice control products have experienced over 90% year-over-year revenue growth in Q1, and we will continue to target different market segments and regions with tailored products. We will enter the cost-effective market with our RTOS-based central control products, expand our downstream brand channels with smart voice products, and focus on smart commercial scenarios such as hotels, commercial lighting, and smart homes with our speaker capabilities. Taking smart voice-enabled solutions as an example, our voice solution with its core health and fitness monitoring software features and the integration of Tuya IoT OS and Alexa building capabilities can serve as a substitute for smart speakers in certain scenarios. In Q1, it received a positive response in the young brand market in Japan. Moving to our smart device distribution business, in Q1, our smart device distribution business generated revenue of approximately $5.4 million, representing a year-over-year decline of around 30%, which is in line with normal fluctuations in customer demand. However, it is worth mentioning that the gross profit amount reached approximately $1.14 million, showing a significant year-over-year increase of 61.1%. Thanks to the integration of hardware and software solutions, our smart taps, gateways, smart watches, and product solutions showcase their value. Notably, a portion of orders placed for this solution in the form of the finished goods business model contributed to more than 25% or even over 30% of the gross margin. As a result, we observed a structural year-over-year increase of 12 percentage points in the gross margin of our smart device distribution business, which amounted to approximately 21% for the entire segment. As an example, our smart tag product combines innovative capabilities such as Apple's 'Find My' network and our expertise in Bluetooth low energy, along with our extensive product ecosystem. This allows for simultaneous usage of both the Apple app and the Tuya-powered app, creating a smart tech device with high cost-effectiveness, excellent user experience, versatile usage scenarios, and strong differentiating barriers in terms of business and product dimensions. We have developed product-specific marketing strategies for such unique product solutions to support our global core brand customers who align with our product positioning, seizing opportunities in emerging sectors through differentiation and achieving breakthroughs. In the SaaS and other segments, we are committed to providing more integrated software and value-added service products with a focus on serving strategic-level customers. For instance, we have partnered with a leading real asset development group in Thailand, offering them an integrated solution that combines real asset, smart home sales capabilities, full device categories, and Cube smart private cloud deployment. Moving forward, we will support them in building their in-house independent and comprehensive IoT platform for their smart housing and community business. Our smart hotel service allows us to oversee the integrated customers leveraging our solutions to efficiently implement smart hotel projects through a unified hardware and software approach. Furthermore, our industry-specific editions of voice and essential control devices complement these efforts. In terms of Cube smart private cloud, several benchmark cases from last year have been successfully accepted by customers in Q1 2023, resulting in meaningful software revenue recognition. These projects have also established a bridge and created opportunities for further collaboration between Tuya and these large professional industry groups in the IoT business. As for the value-added services, the overall revenue scale of B2B value-added services and custom development under our customer-focused strategy remained largely stable compared to the same period last year. We have observed strong customer investment demand and confidence in IoT capabilities. On the other hand, OEM app and customer voice SKU revenue declined as expected due to the reduction in the number of customers. However, a range of products developed for more diverse and value-driven cloud development achieved over 60% year-over-year growth in Q1, aligning with our development strategy of focusing on IoT-developed platform models. Additionally, certification-related value-added services demonstrate a high growth rate of nearly five times year-over-year, mainly because of a small base in the B2C field. Cloud storage value-added services consistently contributed robust, high-quality earnings in the million-dollar range with a year-over-year growth exceeding 360%. That concludes our report on business for Q1. Lastly, let's touch on the hot topic of AIGC, since many investors show interest in AI. I would like to briefly discuss it. The key point is how to commercialize and implement the technology to address the pain points of customers, thus meeting their needs. Generative AI models are still in the early stages, but they have lowered the barriers to applying AI technology. We will explore using AIGC in developing applications and product implementations. For example, with applications developed by IoT developers such as energy-saving, efficiency, and fintech solutions, we can enhance the interaction experience and the practical application efforts of commercial and industrial solutions by incorporating AIGC. In terms of product implementations, AIGC primarily improves the voice interaction experience, which could potentially accelerate the acceptance and adoption of IoT products by customers, leading to increased IoT penetration. Currently, discussions regarding the commercial value and direct monetization of AIGC in IoT may still be premature. We will continue to explore the possibilities and will share substantial advancements when they happen. With that, I will now turn the call over to our CFO, Jessie, to provide everyone a closer look at our financial performance.

Jessie Liu, CFO

That concludes the remarks by Jerry. As I review our results, please note that all amounts are in U.S. dollars and all comparisons are on a year-over-year basis unless otherwise stated. In the first quarter of 2023, our total revenue was $47.5 million, down 14.2% compared to the same period of 2022. However, adjusting for the impact of foreign exchange rates, the year-over-year decline in total revenue would be more modest at 7.7%. It is important to note that the first half of 2022 set a relatively high revenue base as the adverse impact of inflation began in the late second half of 2021, and the overstocked inventory on supply chain players had not yet fully materialized at that time. Despite these challenges, our Q1 2023 revenue performance increased about 5% quarter-over-quarter, driven by ongoing inventory corrections, revenue generation from high-value products and services such as cloud storage, and the recognition of revenue from Cube smart private cloud projects. The distribution of revenue by category and region in Q1 2023 closely mirrors the pattern observed throughout 2022, with slight increases in revenue contributions from both Asia and Europe regions, while the U.S. region experienced a minor decline. Our blended gross margin for the first quarter was 44.3%, aligning with expectations. The gross margin of IoT PaaS experienced a minor decrease of 1.8 percentage points, mainly due to price adjustments on specific products based on market conditions, structural shifts in product mix, and negligible impacts from the accrual of inventory allowances in Q1. The gross margin of smart device distribution increased significantly from 9.1% in the same period last year to 21%, driven by certain innovative and strategic products such as the smart air tech and smart watch in the first quarter. Our focus on enhancing product strength and improving product strategy last year allowed us to capitalize on these vertical opportunities. For our SaaS and other business segments, the gross margin continued to remain stable. Moving on to our operating activities and the related expenses. We are presenting our operating expenses on a non-GAAP basis by excluding share-based compensation expenses from our GAAP numbers. This provides better clarity on the trends of our operating expenses, aligning with how our management team reviews our performance. In Q1 2023, our non-GAAP total operating expenses decreased by 40.6% to $36 million from $60.6 million in the same period of 2022. I will break down our costs and expenses further for additional clarity. Our employee-related costs, excluding share-based compensation, declined by 46.2% year-over-year in Q1, and the costs related to office and property leasing decreased by 38.4%. Maintaining a lean team of under 1,800 salaried employees at the end of the quarter was crucial for our cost-saving efforts as this cost constitutes over 75% of our total non-GAAP operating expenses in Q1. Marketing and promotion expenses decreased by 21.5% year-over-year, thanks to our strict budget control. Travel-related expenses increased by about 40% year-over-year due to the very low comparison base in Q1 2022 during the pandemic resurgence. But the expense amount remained well-controlled within expected ranges. Cloud infrastructure costs decreased by 17.7% year-over-year. This accomplishment is rather challenging, considering our ongoing innovation, the expansion of capabilities on the cloud platform, and the maintenance of a large, stable global operating system. Our team will continue to work on technological advances. Additionally, we've introduced new reliable cloud providers to respond to the cloud demand of both our R&D side and our customers. By choosing the most effective solutions, we managed to reduce cloud costs. Professional fees and G&A expenses increased by 22% year-over-year, resulting in an incremental expense of approximately $300,000. This increase was relatively minor and manageable considering our overall financial position and was primarily driven by the need for professional services such as legal, consultancy, and financial printing services to ensure the company's compliance with additional listing and disclosure requirements following our new primary listing in Hong Kong, in addition to those of the U.S. market. We will not elaborate on the remaining types of expenses as they are still not as significant to our overall financial performance. Our steadfast focus on cost reduction and efficiency enhancement since 2022 has led to our non-GAAP loss from operations narrowing by 60.4% to $15 million in Q1 2023, from $37.8 million in Q1 2022. Moreover, we generated approximately $11.5 million in deposit interest income as a result of our conservative capital strategy. The income was recorded as our financial income for the quarter. Consequently, our non-GAAP net loss shrank dramatically by 90% to $3.7 million in Q1 2023 from $37.3 million in Q1 2022, marking our lowest quarterly non-GAAP net loss since the beginning of 2019. Moving on to cash. As of March 31, 2023, our cash balance, comprising cash and cash equivalents as well as short-term investments, stood at $937.5 million, slightly down from $954.3 million at the end of 2022. The decrease was primarily due to the payment of annual bonuses, a customary matter in the first quarter of each year. While cash flow is subject to fluctuations in working capital changes, our net cash used in operating activities for Q1 2023 was $18.9 million, demonstrating a significant reduction of 67.1% compared to $57.4 million in Q1 2022. Finally, we continued our share buyback in Q1 2023. But due to various factors such as an extended blackout period for our annual results announcement and heavy mandatory cancellation procedures to be completed after the first stock repurchase, our buyback volume this quarter was relatively limited. However, we still have an active buyback plan with sufficient capacity and have submitted a new proposal for the approval of our new annual cycle of repurchase authorization at the upcoming Shareholders' Meeting. As articulated in Jerry's strategic outlook, we remain confident in the long-term perspective of our company. With that, operator, we are now ready to take questions. Thank you.

Operator, Operator

We now have our first question from Yang Liu of Morgan Stanley.

Yang Liu, Analyst

Just one question from my side. Based on the current customers' inventory and also the order placed to Tuya, when do you expect the demand will recover for the overall company, especially the trajectory for the potential demand recovery going forward?

Jessie Liu, CFO

Okay. Thank you, Yang. We'll update everyone on the knowledge gained from various public information and perceive insights from our customers. In the consumer electronics industry, where we continue to check representatives-listed companies throughout the supply chain, most reported year-on-year declines in Q1 revenues, with some companies achieving growth but at a slower pace. The signs of stress among upstream and downstream companies remained widespread and obvious in early 2023. We've observed upstream semiconductor and module companies, with market capitalizations ranging from tens of billions of RMB to hundreds of billions of USD. The Q1 revenues varied from a year-over-year decrease of about 40% to an increase of about 10%, averaging down about 10%. Many of these firms believe that Q1, especially for consumer spending, was still under pressure due to a slowdown in demand and the not-so-low inventory levels, suggesting a slow recovery and the bottoming out. Some companies express cautious optimism for the second half of the year, but emphasize that actual conditions still warrant observation. On the brand side, we observed representative-listed companies, except for a charging product company that saw year-over-year revenue growth of about 18% and three companies offering necessity products with minor year-over-year increases. The remaining 13 companies, spanning sectors like lighting, robot vacuum, kitchen appliances, outdoor products, and mobile phones, reported year-over-year revenue declines in Q1, ranging from negative 45% to negative 6%. They generally perceived some relief in their own and channel inventory pressure, expressing hopes for recovery beginning in the second half. From a product perspective, companies with more discretionary offerings faced greater pressure, while those closer to necessity products had a more positive outlook. In downstream retail channels, Best Buy, a specialty consumer electronics retailer, reported a year-over-year revenue decline of 10.3% and guided a further decline of about 6.4% year-over-year in Q2. Best Buy reviewed 2023 as the bottom for consumer electronics, with industry adjustments continuing in the first half of the year and potential recovery in the second half, leveling out for the year. General retailers like Walmart and Amazon mainly analyze robust demand for necessities such as food and consumer goods under inflation, pointing out that consumers still have a cautious attitude towards discretionary items, especially electronic products that focus on value. From a macroeconomic perspective, recent months' consumer economic data have shown some improvements. With three quarters of inventory destocking, the operational pressures on global downstream enterprises and consumer pressures should have eased to some extent. Most companies are still under performance pressure, however, highlighting the substantial continued impact of inventory adjustment. But on the other hand, the outlook for the second half of 2023 possibly starting to warm up reflects, to some extent, a hopeful industry recovery and signals that a bottom has been reached. For Tuya, our main brand customers are generally still cautious about placing orders, though they exhibit optimism for high-value, strongly demanded products in areas such as renewable energy-related home products, home appliances, consumer safety-related products, and outdoor products. There's considerable variation among different device categories, customers, and regions. We note a common trend aligning with the perception of those representative-listed companies in the industry, where our brand customers, in the context of weaker purchasing power, tend to be conservative with nonessential categories and instead strive to expand into more necessary and cost-effective categories. From a regional perspective, in Europe, brands involved in lighting products tend to have higher inventory, so they are more conservative. Brands in other categories, however, are more optimistic. In North America, sustained economic pressure persists, yet there are no signs of obvious recovery in discretionary spending, hence no signals at the brand level. In Latin America, limited IoT penetration in emerging markets and half-year inventory digestion has led to the inventory of some customers whose revenue declined last year returning to a manageable range, making brand customers relatively active now. Brand customers in the Asia Pacific region are cautious, facing different circumstances; for instance, Japanese customers, faced with soft consumer spending, high inventory, and currency depreciation prefer to focus on and promote popular and attractive products. In China, the focus of post-pandemic consumption is primarily on tourism and enjoyment. On the China OEM side, we continue to maintain communication with our major top-tier OEM customers; among them, 60% adopt a wait-and-see approach, about 20% are optimistic based on their own business conditions, and the remaining 20% believe it's hard to make a judgment about the rest of the year. Overall, different regions face varying market challenges and economic pressure. Under these circumstances, customer order volumes will not return to the aggressive levels seen in 2021. We are instead leaning towards arranging subsequent orders by closely observing sales performance month over month. Therefore, we still maintain a view similar to last quarter's: the first half of 2023 will see relatively mediocre market performance, while the second half may present turning points and opportunities. As such, we need to persist in the strategy of focusing on and intensifying efforts on key products and customers, and proactively expand efficient revenue to offset the revenue uncertainty caused by market downturns. Additionally, we will also understand and pay attention to market dynamics in different regions to seize business opportunities. Thank you.

Operator, Operator

Our next question comes from an unidentified analyst.

Unidentified Analyst, Analyst

My question is regarding the gross margin trend into the second half of this year and full year. I noticed that in the first quarter, the gross margin was impacted by product mix changes as well as inventory provisions and also foreign exchange. Just wondering if we look into the second half when there is less pressure from foreign exchange and potentially lower raw material costs, what is the margin outlook?

Jessie Liu, CFO

Thank you. Continuous improvement in gross margin is one of the most important goals of the company. We believe we will be able to maintain a stable gross margin around Q1 level for the rest of the year. If there are opportunities to improve the gross margin, we will pursue them. There are several factors affecting gross margin. First is the cost of chips. The chip shortage is now a thing of the past, while the semiconductor industry, aside from products related to AI such as GPUs and industrial scenarios, generally faces the challenges of sluggish demand for chip applications and excess production capacity. The financial impact of falling chip prices will be slower to manifest during the high inventory and destocking period, but it will indeed create some room for price adjustment in business, which will be transmitted downstream through the industrial chain, thus lowering costs for customers and users. As for gross margin, we largely ensure that gross margin targets for different periods through our pricing committee mechanism. While achieving our own gross margin, we will support our customers as much as possible to jointly face challenges or share price reduction dividends from upstream. In Q1, considering our own cost market conditions and customers' business situations, we adjusted the prices of some products to help our customers navigate slowing industry cycles while we maintained a gross margin above 40%, in line with our cost control expectations. Additionally, we are always committed to producing products with corresponding value propositions. Therefore, even if there are short-term fluctuations, it's not a major issue. Over an extended period, value will always be reflected in overall gross margin. That's my answer.

Unidentified Analyst, Analyst

My question is about strategy, specifically for the next two years. What's your plan on new products with higher investment priorities? Any color would be good.

Jessie Liu, CFO

Okay. We shared our core strategic themes and thoughts for the foreseeable future at the beginning of the year. Among these themes, regarding the product line, we're focusing on products that carry high value propositions, high revenue efficiency, and strong market demand with long-term potential. We will continue to commit to our strategy of seeking opportunities beyond consumer electronics fields. For example, in the European region, there are numerous reorders and promotions for energy-saving-related products such as power metering products and thermostats. There's an increasing demand for consumer safety products worldwide. IPC demand is becoming more robust, contributing to continued growth in cloud storage revenue. Sensor products, such as temperature and humidity sensors, are also seeing increased demand. Moreover, our Q1 smart tech products, which fall under the outdoor category, have seen very rapid demand growth with the resurgence of travel and outdoor activities. We can clearly see common value consumption trends across global markets. Energy-saving central control gateways and some outdoor categories will continue to be newer categories that we persistently invest in. For energy-saving products, categories including smart circuit breakers and inverters achieved nearly five times year-over-year growth in Q1, with very strong downstream demand. Of course, the lower base from the same period last year, as being a relatively new category, also contributed to a high growth rate. We will continue to build core hardware and software systems around energy saving to create central products and form a complete solution product system. We will expand overall revenue by rapidly promoting and expanding through leveraging our existing customer base and global business foundation. In reinvesting in existing categories and incubating new lines, we need to choose the right sectors, focus on the products, and avoid working in isolation. Thank you.

Operator, Operator

As a confirmation, there are no additional questions at this time. So I'll hand back to the management team for any closing remarks.

Reg Chai, Investor Relations Director

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. Thank you.

Operator, Operator

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