uCloudlink Group Inc. Q3 FY2020 Earnings Call

Good morning, and good evening, ladies and gentlemen. Thank you for standing by and welcome to uCloudlink Group Incorporated, Third Quarter 2020 Earnings Conference Call. At this time, all participants are in a listen-only mode. After prepared remarks by the management team, there will be a question-and-answer session. Today's conference call is being recorded. I would now like to turn the call over to your host today, Mr. Bob Shen, Senior IR Manager of the Company. Please go ahead.

Thanks everyone for joining us on our third quarter 2020 earnings call today. Our earnings release is now available on our IR website at ir.ucloudlink.com as well as via newswire services. Here I give a brief introduction to our uCloudlink Inc. team. Zhiping Peng is our Co-Founder and Chairman of the Board of Directors; Chaohui Chen is our Co-Founder, Director, and Chief Executive Officer; Zhigang Du is our Director and Chief Operating Officer; Yimeng Shi is our Chief Financial Officer; Xinquan Xu is our Chief Sales Officer. Our CEO will begin with an introduction of our company overview and the business highlights. This will cover section one and section two of the earnings presentation posted on our IR website. And then our CFO, Yimeng Shi will discuss our financial results in section three. Before we proceed, please note that this call may contain forward-looking statements made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are based on management's current expectations and observations that involve known and unknown risks, uncertainties, and other factors not under the Company's control, which may cause actual results, performance, and achievements of the Company to be materially different from the results performance or expectations implied by these forward-looking statements. All forward-looking statements are expressly qualified in their entirety by the cautionary statements, risk factors, and the details of the Company's filing with the SEC. The Company does not assume any obligation to revise or update any forward-looking statements as a result of new information, future events, changes in market conditions, or otherwise except as required by law. Please also note that uCloudlink's earnings press release and this conference call include discussions of unaudited GAAP financial information as well as audited and non-GAAP financial measures. uCloudlink'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 Co-Founder and CEO, Mr. Chaohui Chen. Please go ahead.

Yes, I'm Chaohui Chen. So let's turn to Page 4 of our similar contents also earnings presentation of our second quarter of year 2020. I will now repeat in detail and I will pass through quickly. Please turn to Page 4; this is about our vision and mission. So our company, basically I think we are working to let people and consumers connect anytime anywhere for the best network so this is our mission and vision. On Page 5, we use the Cloud SIM technology to be the world's first and leading mobile data traffic sharing marketplace because our technology is vital to build this marketplace. Also, please turn to Page 6; it is about our Cloud SIM instant switching technology, so in Q3 we launched it, and this technology is becoming the engine of the 5G Cloud Era, accelerating 5G Cloud computing development. For Page 7, it is about the evolution of our Cloud SIM business model; we normally have three business models in stage one, which assists the business of our own and the flow of technology and the business model involves our partners and agenda. We are coping with this business model worldwide. Some of our partners have become very mature and are very expert in our PaaS/SaaS management. We go to the PaaS/SaaS model. So let's see the model in three stages. For Page 8, it is about our innovative Cloud SIM technology. You can look at the information on this page. Page 9 is about our clear growth strategy across our business model. We have three business models for different stages. In history, we have seen perceptible growth in uCloud 1.0 business, which focuses on international roaming services. We provide global local medium service for our users who travel outside. And uCloud 2.0 business is about local business, local mobile app, local 4G, 5G. Nonetheless, we will move to uCloud 3.0, which is a full marketplace including second-hand and fourth-hand mobile devices worldwide. So, moving from Page 4 to Page 9 is similar to quarter two. So please turn to Page 10, which shows our strategic investments and 5G opportunities for our business. Page 10 is the most important page, which shows the progress of the third quarter of the year 2020 and the updates we made. The COVID-19 pandemic continued to linger longer and steeper than anticipated, having a negative impact on international tourism and consequently our third quarter year results. However, we expect international travel will recover with the launch of the COVID-19 vaccine and effective testing measures. Our uCloud 2.0 local data connectivity service continues to be a very important business for us. The sales of mobile Wi-Fi terminals and service were steady during the second and third quarters of the year, owing to both online and offline distribution channels alongside our business partners. So from quarter two to quarter three, the mobile Wi-Fi 2.0 business has stabilized. Mobile network operators, which we refer to as MNO, are major players in the local data connectivity service market, and our uCloudlink 2.0 business has great potential through global alliances and cooperation with MNOs and business partners globally. We have already established an alliance ecosystem with wireless mobile network operators such as NTT in Japan, major mobile network operators in Mainland China, and various regional wireless carriers in the United States. We further invested in Beijing Huaxiang Lianxin Technology Co, Ltd, which is an MVNO and one of the licensed mobile virtual operators in Mainland China. We believe the alliance with mobile network operators and mobile virtual network operators will further increase the scale of users connected to our platform as we leverage from the carrier's vast number of service subscribers. We will continue to develop strategic alliances with more mobile network operators, mobile virtual network operators, and local business partners in regions such as Europe, the United States, and Asia. As we enhance our PaaS and SaaS platform ecosystem, we aim to provide superior data connectivity service to carriers and business partners. 5G provides great opportunities for us; we can help carriers improve their coverage, connectivity service, and investment efficiency in 5G networks. The recent launch of our instant switching network technology of uCloud or Cloud SIM accelerates the 5G Cloud Era, enabling applications such as autopilot and AR/VR in cloud computing. Our range of 5G Mobile Wi-Fi, CPE, and solutions for various trends in 5G mobile device connectivity are under development for commercial trials in the near future. We believe there is significant potential for low latency and extensive network coverage for end users with 5G capabilities. We also believe these advancements facilitate our leading technological position in the PaaS and SaaS platform in the early stages of 5G. To elevate our local service, we are enhancing our e-commerce efforts in key markets with high growth potential such as the United States and Europe, optimizing our website and streamlining our SaaS functions to continue improving user experience and satisfaction. The recent launch of our instant switching network technology, known as uCloudlink or Cloud SIM 2.0, has significantly reduced mobile network switching time from over 30 seconds in Cloud SIM 1.0 to just 2.0 milliseconds, contributing to the establishment of our leading position. Our Cloud SIM technologies, including our instant switching network technology, are highly compatible and provide unique advantages in various Internet of Things (IoT) applications. We are collaborating with business partners in different aspects of IoT applications, such as cargo vehicles and cross-border transportation, where we see high business potential. We are making progress with a well-known Chinese railway transportation company. I believe all these efforts and advancements present us with greater opportunities in the future, especially for the growth anticipated next year. Please turn to Page 11, which discusses the new appointment of our CSO and the restructuring of the senior management team. Recently, we appointed Mr. Xinquan Xu as our Chief Sales Officer and President of Marketing and Sales. Mr. Xu has a strong track record in developing strategic global marketing for consumer goods, including mobile phone products, alongside his extensive cross-industry experience in the Internet, telecommunications, and mobile phone sectors. He previously held senior executive roles at renowned corporations, including Huawei Technology and JD.com. Zhu Tan assumes the role of Vice President of Marketing and Sales while Wen Gao takes the position of Chief Strategy Officer. These changes took effect on September 25, 2020. The restructuring of management roles was designed to align senior leadership positions with our strategic business development as we strive to improve operational efficiency, explore marketing opportunities, and deliver sustainable growth. Yes, please turn to Page 13. This is about our business performance and operating highlights. The data from the second and third quarters of the year 2020 shows that the impact of COVID-19 is stabilizing. The left side of the slide shows daily active terminals (DAT) as of September 30, 2020. A portion of the DAT and data usage per terminal are derived from our business partners. The slide also shows a breakdown of DAT by uCloudlink 1.0 and 2.0 data connectivity services. The decrease in total DAT during the third quarter is mainly attributable to the reduction in uCloudlink 1.0 services due to COVID-19. We expect the launch of the vaccine in China and other regions will benefit our business. Both 5G and IoT drive growth for uCloudlink 1.0 as well. On the other hand, uCloudlink 2.0 local mobile data traffic has shown steady development and has been less impacted by COVID-19. Our uCloudlink 2.0 service accounted for approximately 74% of the total DAT during the third quarter of the year 2020, with average daily data usage per terminal being 2.13 gigabytes in September 2020. Please turn to Page 14, which discusses our global business diversification and revenue increase. Page 14 shows that the revenue from Mainland China as a percentage of total revenue continued to decrease as we diversified our global business. As of the third quarter of 2020, 95% of our total revenue came from outside Mainland China. During this quarter, revenue from international operations continued to contribute 50% of the total revenue. Following our investment in the mobile virtual network operator Huaxiang Lianxin in China and our cooperation with mobile network operators, we believe market share in China will continue to grow. Looking ahead, we expect the launch of vaccines from clinical Phase 3 trials to the market in China and other regions, which will lead to recovery in international travel, benefiting our business overall. We expect all these new opportunities in the uCloudlink 2.0 business will further enhance our business potential in 2021. We are also committed to R&D on innovative technologies, backed by further investment in sales and marketing to present greater prospects for sustainable growth in the future. I will now turn it over to our CFO, Yimeng Shi, who will discuss the financial highlights section.

Thank you, Mr. Chen. Hello everyone. Let's now turn to Page 16. Our total revenue decreased by 59.2% from $44.1 million in the three months ended September 30, 2019 to $18 million in the three months ending September 30, 2020. Revenue from services was $9.8 million, representing a decrease of 60.8% from $25.1 million for the same period in 2019. This decrease was primarily attributable to the decline in revenue from international data connectivity services and PaaS/SaaS services to some extent, mainly due to the prolonged impact of the COVID-19 pandemic. Service-related revenue as a percentage of total revenues increased from 46.9% in the second quarter of 2020 to 54.7% during the third quarter of 2020. On the other hand, our 2.0 local data connectivity service was not impacted by COVID-19, with revenue increasing around threefold from $0.7 million in the third quarter of 2019 to $2.5 million in the third quarter of 2020, partially offsetting the decrease from our 1.0 international data connectivity service. So far, we have initiated our 2.0 local data connectivity service in China and Japan, and we plan to expand into other potential markets such as Asia, the United States, and Europe. Revenue from PaaS and SaaS services was $1.5 million, representing a decrease of 30.3% from $2.1 million in the same period last year. This decrease was primarily due to the negative impact of COVID-19 on our partners that used our PaaS/SaaS services for international data connectivity. Meanwhile, the demand for our local data connectivity services from business partners remains unaffected. Revenue from sales of products was $8.2 million, a decrease of 57.1% from $19 million in the same period last year. This decline was mainly due to the ongoing negative impact of the COVID-19 pandemic. Our total revenue decreased by 30.7% from $104.7 million in the nine months ended September 30, 2019 to $72.5 million in the nine months ended September 30, 2020. Revenue from services decreased by 44.2% from $56.6 million in the nine months ended September 30, 2019 to $37.1 million in the nine months ended September 30, 2020. Revenue from sales of products decreased by 7.1% from $38.1 million in the nine months ended September 30, 2019 to $35.4 million in the nine months ending September 30, 2020. Moving on to Page 17, we show the revenue breakdown of our two business segments: service revenue and sales products. During the third quarter of 2020, revenue from service and sales of products accounted for 55% and 45% of total revenue respectively. Compared with the second quarter of 2020, we see that the percentage of our revenue from services has increased as we have more business partners transferring to local data connectivity business connected to our PaaS/SaaS platform. The increasing demand from our PaaS/SaaS service partners also reflects in the sales of terminals. Now let's move to Page 18, for the gross margins of our business. Our service gross margins and overall gross margins increased to 36.6% and 31.3% in the third quarter of 2020 compared to 35.1% and 26.1% in the second quarter of 2020, respectively. This improvement was mainly due to enhanced revenue efficiency and a more optimized cost structure during the third quarter of 2020. The pandemic has impacted our service gross margins, along with the overall gross margins. To mitigate the prolonged uncertainty caused by COVID-19, we have comprehensively reviewed our costs during this pandemic. We will continue to implement measures to optimize our cost structure going forward. Let us turn to Page 19, which shows a breakdown of our operating expenses. Excluding share-based compensation and other expenses, total operating expenses decreased by 17.5% from $14.3 million in the third quarter of 2019 to $11.8 million in the third quarter of 2020. We implemented comprehensive mitigation measures, such as risk and cost control, and managed liquidity and cash flow to offset the negative impact of COVID-19. Total operating expenses as a percentage of total revenue increased from 32% in the third quarter of 2019 to 75% in the third quarter of 2020, primarily due to the decrease in overall revenue. Compared to the second quarter of 2020, the increase in operating expenses in the third quarter was mainly attributed to a bad debt provision due to deferred payments from a couple of customers affected by the pandemic, along with a special bonus for certain systems. We continue to dedicate resources to R&D while optimizing efficiencies in key project outputs to maintain our leading position in the long run. Excluding share-based compensation and others, our R&D expenses accounted for 24% of overall operating expenses during the third quarter of 2020. General and administrative expenses made up 44% of total operating expenses, including a $1.3 million account receivables bad debt provision. Moving on to Page 20, our operating cash flow was negative $0.4 million during the third quarter of 2020, compared to positive $0.3 million during the same quarter in 2019. Our cash flow remains normal, with sufficient cash and cash equivalents as of September 30, 2020. Our CapEx was $0.14 million during the third quarter of 2020, compared to $1.2 million during the third quarter of 2019. CapEx as a percentage of total revenue decreased from 2.7% in the third quarter of 2019 to 0.8% in the third quarter of 2020, primarily due to decreased expenditures in uCloudlink 1.0. Moving to Page 21, net income during the third quarter of 2020 was negative $9.7 million, compared to positive $3.8 million during the third quarter of 2019. Adjusted EBITDA was negative $1.0 million during the third quarter of 2020 compared to positive $4.6 million during the same period last year. Looking ahead, we are cautiously optimistic. We will continue to increase investment in R&D and sales marketing, such as e-commerce and promotional campaigns in key markets with the intention of opening more business opportunities globally. We will also focus on optimizing our revenue cost structure to improve operational efficiency, in line with the aforementioned growth prospects to enhance our overall business performance moving forward. With that, we conclude today's presentation, and we will start our Q&A session.

Thank you. The first question today comes from Aaron Ju with Tigress Partners. Please go ahead.

Hi, this is Aaron. Thank you management team for taking my questions. I had two questions. The first question is about the international side of the business. How does this pandemic change your international strategy and what is your outlook on the pace of recovery in outbound travel? And my second question is about the 2.0 local data connectivity services business. How has this business performed sequentially in China post-COVID-19 outbreak compared to prior to COVID-19, and are there any metrics you can share? Thank you.

I’m Chaohui Chen, CEO of uCloudlink. Regarding 1.0 as I mentioned before, it is impacted by COVID-19. Currently, you can see the second and third wave having a heavy impact on global travel. So that's good news and bad news. On a positive note, we see the release of a vaccine coming from China and the U.S. which now seems more imminent. Therefore, I believe that during the next year, under certain conditions, we may see improvement in the recovery from COVID-19 effects. Our expectation is for the second half of next year, where COVID-19 impacts will reduce, and global travel will gradually recover. For example, recent developments like the travel bubble between Hong Kong and Singapore that allows for travel without quarantine is encouraging. Regarding 2.0 business in China, due to our investments and partnerships with mobile network operators, we are confident that we can actualize growth, overcoming regulatory barriers. Our focus on local business and working with key players in the domestic market will help us regain business growth in China.

Hi, Aaron. This is Bob Shen. I would like to add some comments regarding your two questions. First, concerning international travel, we have noticed encouraging news beyond the vaccine developments. For instance, reports indicate international pricing for travel has begun gradually increasing from the third quarter compared to the second quarter of 2020. Furthermore, hotel occupancy rates are rising, indicating that international travel is warming up. Countries and regions are working on establishing cross-border activities; for example, Hong Kong and Singapore are developing a travel bubble. The establishment of more such travel bubbles will be beneficial for our 1.0 international business. Regarding your second question on our local business in China, our 2.0 local business is expansive. We are actively engaged in negotiations, including with mobile phone manufacturers for 5G-related products, with developments for commercial trials underway. All these efforts are expected to boost our growth prospects in Mainland China; we believe our market in China will regain growth, marking 2021 as a milestone for our business.

Thank you.

It seems there are no further questions. I would now like to hand the call back to management for any final comments.

Okay, thank you once again for joining us today. If you have any further questions, please feel free to contact uCloudlink Investor Relations through the contact information provided on our website.

This concludes the earnings conference call. You may now disconnect your lines. Thank you.

Thank you.

Thank you.