uCloudlink Group Inc. Q1 FY2021 Earnings Call

Good morning and good evening, everyone. Thank you for joining us for the uCloudlink Group Inc. First Quarter 2021 Earnings Conference Call. I would like to introduce your host today, Mr. Bob Shen, the Deputy Investor Relations Director of the company. Please proceed.

Thanks, everyone, for joining us on our first quarter 2021 earnings call today. The earnings release is now available on our IR website at ir.ucloudlink.com, as well as via news wire services. Here, I'll give a brief introduction to our uCloudlink's team. Zhiping Peng is our Co-Founder and Chairman of 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 overview of our company and business highlights, which will cover section one of the earnings presentation posted on our IR website. And then our CFO, Yimeng Shi, will discuss our operational highlights and the financial results in section two and 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, or 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 unaudited 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.

Yeah. Thank you, Bob. There are similar contents as to the earnings presentation of the fourth quarter of the year 2020. I will focus on Page 8, 9, and our recent developments on Page 14. Let's move to Page 8. The definition of hyperconnectivity, basically, includes level one, which is the evaluation of connection quality of various wireless access network, including Wi-Fi, 3G, 4G, or 5G; level two, which is network selection and optimization based on the Cloud SIM technology; and level three, which is optimizing and acceleration of application routing. Our Hyper-Connectivity solution would redefine the mobile network user experience and facilitate data traffic marketplace. Data connectivity user experience is affected by various factors such as signal interference and routing, bandwidth and delays, and the server location. We innovatively applied Navigation + Electronic Toll Pass concept over wireless network to our users and business partners in mobile data connectivity market via our Hyper-Connectivity technologies through PaaS and SaaS platform. We focus on establishing a stable, reliable, safe network connection with security for our business partners and users. uCloudlink's Hyper-Connectivity would aim to connect across networks and technology systems across various SIM form factors such as e-SIM and soft-SIM; across wireless physical boundaries, such as Wi-Fi and various radio technologies, by countries and regions. We will achieve the goal by identification, monitoring, and optimization to further elevate user experience in the data connectivity market. Hyper-Connectivity technology such as millisecond multi-network reselection technology provides user applications with better connection experiences, which have real-life Navigation + Electronic Toll Pass. Hyper-Connectivity solution would guarantee safer connectivity and network security. We are a high-tech data connectivity service solution company dedicated to crossing and connecting with all global networks and technology systems, improving the user experience by optimizing all layers including access, routing, and application layers. We will also officially release our new Hyper-Connectivity product and service in the near future. Let's move to Page 9. Our innovative Hyper-Connectivity solution will provide industries and users with robust network connections that mean reliable, speedy, and safe through our PaaS and SaaS platform. We focus on establishing stable, reliable, safe, and efficient network connections for our business partners, operators, and users, which is a fundamental requirement of wireless network connection. Our Cloud SIM technology, such as smart multi-network reselection, has developed to the Hyper-Connectivity technology stage, which facilitates the realization of Navigation + Electronic Toll Pass across wireless networks. For industries application, Hyper-Connectivity solution is highly compatible with industries requiring high-quality data connectivity such as cargo and logistics, internet of vehicles, autonomous driving, AR/VR, 5G cloud computing, trains and yachts, emergency response, power monitoring, etc. Apart from the telecom industry, we anticipate more business opportunities in most industries. For users, Hyper-Connectivity solution can elevate data connectivity user experiences, such as education, remote working, video, entertainment, home broadband, mobile broadband, indoor coverage, and reliable fixed broadband Wi-Fi coverage, etc. Our innovative Hyper-Connectivity technology guarantees data connectivity and network security for various industries and users. Let's move to Page 14, which is the most important page, showing the progress of the first quarter of year 2021 and updates on the changes we made. Despite the lingering impact from the COVID-19 pandemic, we recorded uplifted revenue of $17.7 million during the first quarter of 2021 versus the fourth quarter of 2020, in line with our quarterly budget. The launch of the 5G-related products and services, multi-network millisecond reselection technology, and the Hyper-Connectivity solution allows Navigation + Electronic Toll Pass to elevate user experiences with better data connection and facilitates us to enter and expand to new industries requiring high-quality data connectivity such as education, remote working, video, internet of vehicle, emergency response, electronic power monitoring, and surveillance industries. We expect that the technologies would help us acquire more users, establish cooperation with more mobile network operators and mobile virtual network operators, and expand PaaS and SaaS ecosystem. In the Chinese market, we made progress through Hyper-Connectivity solution with mobile and the fixed broadband businesses, under various application scenarios such as home broadband, and received positive feedback on our 4G/5G millisecond multi-network reselection technology. In the Japanese market, we formed a new alliance with one of the mobile network operators and plan to cooperate with business partners in the education industry, which we believe will contribute to our continued growth momentum. In the U.S. market, we had fast growth and record a high sale of GlocalMe mobile Wi-Fi hotspots via Amazon for the past 12 months ending in March of year 2021. After winning the patent litigation and excluding patent-related interference, we applied our innovative technology in the United States such as 5G millisecond network reselection and hyper-connectivity solution. In Europe, we invested in iQsim, the leading provider of open virtual SIM, VSIM, platform and VSIM-enabled mobile device based in France, which is an important component of our global investment. We will also officially release our hyper-connectivity product and service in the near future and are proactively exploring opportunities in new industries such as internet of vehicles and education. We expect that widespread vaccination will continue to increase recovery of cross-border activities and international tourism, which we expect will benefit our international business. Leveraging our innovative technologies, we will continuously develop our local business and various IoT application scenarios with new industries that require high-quality data connectivity. I will now turn it over to our CFO, Yimeng Shi, who will go through the business and financial highlights section.

Thank you, Mr. Chen. Hello, everyone. Let us turn to Page 16 for our business highlight. The data for the first quarter of 2021 shows that the impact from COVID-19 is becoming stable. The left-hand side of the slide shows daily active terminals (DAT) as of March 31, 2021. The uCloudlink 2.0 service accounted for around 66% of the total DAT here in the first quarter of 2021. Average daily data usage per terminal was 1.98 gigabytes in March of 2021. Let us turn to Page 17, which shows global diversification of our business. Mainland China's revenue as a percentage of total revenues increased to 6% during the first quarter of 2021, compared to 5% during the fourth quarter of 2020. We had 94% of total revenue from outside Mainland China. During the first quarter of 2021, Japan contributed to 57% of total revenue and it continued to be the single largest market for our business. For other countries, the U.S. market had the largest contribution to our business. In the first quarter of 2020, we had 19% of total revenue coming from Mainland China, 53% from Japan, and 28% from other countries and regions. Let us turn to Page 19. So we will go through our financial highlights for the first quarter of 2021. Service-related revenue as a percentage of total revenue decreased from 52% in the first quarter of 2020 to 47.4% during the first quarter of 2021. The development of our local data connectivity service business through our PaaS and SaaS platform contributed to the demands of the sales of products. Revenue from PaaS and SaaS service increased 18.3% from $1.9 million in the first quarter of 2020 to $2.3 million in the first quarter of 2021. This increase was primarily due to the increase in business partners using our PaaS and SaaS service to provide local data connectivity service. Revenue from PaaS and SaaS as a percentage of total revenue increased to 13% during the first quarter of 2021. Let us move to Page 20, which shows revenue breakdown of our two business segments, namely revenue from service and sales of products. During the first quarter of 2021, revenue from service and sales of products accounted for 47.4% and 72.6% of total revenue, respectively. Our total revenue decreased by 47.2% from $33.5 million in the three months ended March 31, 2020, to $17.7 million in the three months ended March 31, 2021. Revenue from service was $8.4 million, representing a decrease of 51.9% from $17.4 million for the same period in 2020. This decrease was primarily attributable to the decrease in revenue from international and local data connectivity service due to the prolonged impact of COVID-19 pandemic. Our total revenue increased 3.9% compared to $17 million in the first quarter of 2020. Let us turn to Page 21 for gross margin of our business. Our service gross margin and overall gross margin decreased to 35.9% and 31.3% in the first quarter of 2021, compared to 51.1% and 35.3% in the first quarter of 2020, respectively. The COVID-19 pandemic impacted our service gross margin during the first quarter of 2021, and our overall gross margin was relatively stable during the past three quarters. Let us move to Page 22, which shows a breakdown of our operating expenses, excluding share-based compensation and others. Excluding share-based compensation, operating expenses as a percentage of total revenue decreased from 83% to 71% during the first quarter of 2021 compared with the fourth quarter of 2020. Also, R&D expense as a percentage of total operating expense increased to 29% in the first quarter of 2021, compared to 27% during the fourth quarter of 2020. G&A expenses accounted for 47% of total operating expenses, which consisted of expenses like professional service charges. Let us turn to Page 23. Operating cash flow was negative $6.7 million during the first quarter of 2021, compared to positive $6.7 million in the first quarter of 2020. Our cash flow was normal with sufficient cash and cash equivalents as of March 31, 2021. Our CapEx was $0.1 million during the first quarter of 2021, compared to $1.0 million during the first quarter of 2020. CapEx as a percentage of total revenue decreased from 3% during the first quarter of 2020 to 0.6% in the first quarter of 2021. Let's now move to Page 24. Net income during the first quarter of 2021 was negative $15.4 million, compared to positive $0.2 million during the first quarter of 2020. Adjusted EBITDA was negative $6.7 million during the first quarter of 2021, compared to positive $1 million during the first quarter of 2020. With that, let me conclude today's presentation. Thank you. And then we will start our Q&A session.

Thank you. We will now begin the question-and-answer session as mentioned. The first question comes from Vivian Zhang with Diamond Equity Research.

Hello, this is Vivian from Diamond Equity Research. Thank you, management, for taking my question. So we have seen the COVID-19 third wave hitting globally, especially in India, Japan, and Southeast Asia since April. So my first question is how will this affect your overseas business? Will the company adjust your international strategy and growth expectations for the second quarter? Do you provide any guidance on revenue or net income? My second question is could you please give us more color about your 5G-related technology and business? And how will this contribute to your future growth while overseas traveling is still down with too many restrictions? Thank you.

Thank you, Vivian. Regarding the impact of COVID-19, we have been affected so far and we anticipate that the effects will continue for the rest of the year. We expect to see growth from local connectivity services and increased demand for local mobile broadband. The primary drivers of growth in the Japanese market were also our key strengths in the first quarter. We believe that the main contributors to growth in the second quarter will similarly come from the Japanese markets. Mr. Chen will address your question related to 5G.

I'm Chen. Let me answer your 5G questions. Because we understand 5G radio frequency is higher than 4G. This means that the same coverage like 4G, 5G needs around four times the number of base stations. That's a huge investment. We understand that while coverage may improve, the main challenges relate to indoor coverage; this is especially significant because 5G may often need to replace fixed broadband. Indoor coverage improvements are a challenge. Our hyper-connectivity technology will enhance this aspect. For example, certain areas are easy to block, and alternative carriers may have coverage. With our multi-network capabilities, we can improve indoor coverage significantly. The goal is to enhance 5G coverage nationally; better multi-carrier network connectivity can lead to improved overall 5G coverage. Currently, we believe the 5G's most remarkable applications will be powered by cloud technology, which requires good coverage. The second part is about 5G roaming globally. We understand that 5G roaming has many challenges. Unlike 4G roaming, ours will enable 5G roaming to happen more seamlessly. Our technology will help mitigate good roaming costs. Devices that embed our hyper-connectivity solution can operate anywhere in the 5G network without complex roaming arrangements. You only need a low-cost SIM card for this purpose. We believe we are set to accelerate the 5G era significantly ahead of others. We plan to launch our hyper-connectivity solution embedded in 5G MiFi devices very soon, and we have considerable plans around this.

Hi, Vivian. This is Bob Shen. Let me add some color to your second question. As we mentioned, we are continuing our investment in R&D, particularly around 5G-related products. As our CEO just mentioned, products like 5G mobile Wi-Fi or customer premises equipment and our 5G millisecond multi-network reselection technology. We believe all these devices and technologies will establish our leading technological position in our PaaS and SaaS platform in the early stage of 5G. Thank you.

Good evening. So I have a number of questions about the quarter. First off, I see that you had a very good improvement in product sales, and the gross margin looks like it might have been a record high. What is causing that? Is that the first time you're shipping 5G devices? What happened in the quarter?

The gross margins in the first quarter have remained stable over the past three months. Product sales, particularly in the Japanese market, achieved good pricing and performance. This stability in gross margins is linked to product sales in Japan. However, we experienced a decrease in service gross margin due to a mix of service categories. The revenue mix is crucial, as a higher proportion of PaaS and SaaS services will enhance our gross margins over time, especially when service volumes normalize.

So the 1.3 million incremental in product, is that U.S. and Japan? Where did that come from? 5G or where is it?

5G is a new product that was just launched this quarter; the volume is small. It’s not a major contribution yet, but we expect it to drive margin growth in the next quarters as 5G revenue increases. The cost of 5G devices is typically higher, and we anticipate the margin will benefit as adoption increases. We’re also focused on optimizing SIM card usage and data packages, which will further enhance our margins.

That helps. I was wondering if the 5G was brand new this quarter. What's your feeling on services? It was down again sequentially. Is that going to bottom anytime soon? Are we going to see sequential improvement there?

The service revenue is, yes, struggling; there's a lingering COVID-19 impact. However, our PaaS and SaaS sources of revenue are increasing. This business model provides consistent opportunities in the local market. So as we recover from the pandemic, service revenues should improve in the coming quarters. We’ll see better service margins with more PaaS and SaaS revenue contributing.

So do you think in Q2 service revenue will be over 8.4 million or not?

Yes, something similar, but the driving force might come from selling more products to our business partners.

Okay. And as far as operating expenses, for the last two quarters, you've had between $5 and $6 million in stock-based compensation. Should we expect that every quarter?

The second quarter's share-based compensation is expected to be smaller than the first quarter's. It will not be as significant as the first quarter's amount. However, we anticipate some upgraded share-based compensation in the following quarters.

What should I put in for that? $4 million a quarter, or what do you expect going forward since that's something under control?

I can provide this information after this conference call.

Okay, great. Thank you.

So far, we’ve kept our guidance for the second quarter, which is $18 million to $19 million, and the full year range remains $107 million to $130 million. We will review these projections quarterly and update you if necessary.

Okay, great. Thank you. Those are all my questions.

Sorry, I can't provide exact figures for stock-based compensation for the second quarter. I expect it to be around $1.8 million.

Okay. And should I throw that in for Q3 and Q4 also, or we don't know?

I will provide that information later if that's okay.

Good morning. This is Kong Gao from Tigress Financial Partners. I think most of my questions have been answered. So, two additional questions. Can you give us any updates on the strategic cooperation with the Chinese Vehicle company? And next, can you provide more detail on the new strategic alliance with Japanese mobile network operators in the education industry?

The Chinese Vehicle company is currently undergoing financial reorganization, so we are waiting for the completion of this process to start our contract deliveries. Regarding the Japanese market, we are collaborating with a Tier 1 telecom operator and have a contract to deliver products within the education sector. We expect our delivery plan to commence in Q3.

With our focus on hyper-connectivity, we are geared towards mobile Wi-Fi and handset solutions in education.

Hi. Good evening. I have just one more question. Many of my questions have been answered previously. Can you discuss the internet of vehicles and education? Anything you can tell us on potential products, competition in those sectors, or is it still too early to provide additional guidance?

Yes, we offer a unique hyper-connectivity solution for the IoT industry, which is crucial for industries like autonomous driving, energy monitoring, and emergency response. We've received positive feedback and signed many contracts in these areas. The demand for a reliable connection is increasing in education and remote working solutions as our system can back up Wi-Fi and maintain reliable connectivity. We're exploring collaborations with leading technology providers for R&D solutions that enhance connectivity. Our hyper-connectivity solution, launching soon, supports both 5G and 4G applications, ensuring reliable and speedy connections.

Great. Thank you very much for the additional details, and congratulations on the quarter.

Thank you. Since there are no questions at the moment, this concludes our question-and-answer session. I would now like to hand the conference back over to management for any closing comments.

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