Earnings Call Transcript - VIPS Q2 2023

Operator, Operator

Ladies and gentlemen, good day, everyone, and welcome to Vipshop Holdings Limited Second Quarter 2023 Earnings Conference Call. At this time, I would like to turn the call over to Ms. Jessie Zheng, Vipshop’s Head of Investor Relations. Please proceed.

Jessie Zheng, Head of Investor Relations

Thank you, operator. Hello, everyone and thank you for joining Vipshop second quarter 2023 earnings conference call. With us today are Eric Shen, our Co-Founder, Chairman and CEO; and Mark Wang, our CFO. Before management begins their prepared remarks, I would like to remind you that discussion today will contain forward-looking statements made in the Safe Harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from our current expectations. Potential risks and uncertainties include, but are not limited to those outlined in our Safe Harbor statements in our earnings release and public filings with the Securities and Exchange Commission, which also applies to this call to the extent any forward-looking statements may be made. Please note that certain financial matters used on this call, such as non-GAAP operating income, non-GAAP net income and non-GAAP net income per ADS are not presented in accordance with U.S. GAAP. Please refer to our earnings release for details relating to the reconciliation of our non-GAAP measures to GAAP measures. With that, I would now like to turn the call over to Mr. Eric Shen.

Eric Shen, Co-Founder, Chairman and CEO

Good morning and good evening, everyone. Welcome and thank you for joining our second quarter 2023 earnings conference call. We delivered strong second quarter results on the top line with profitability well ahead of expectations. Our value proposition in discount retail is resonating with brand partners and customers, led by the well-executed merchandising strategy, which has been the key to driving the growth. The second quarter performance continued to be fueled by the apparel category, which delivered over 30% GMV growth, reflecting broad-based strength. At the time when consumers are making more regional decisions based on value for money, customers are coming back more and shopping with us more often. Paid membership growth remained robust. By the end of the second quarter, active Super VIP members increased by 23%, contributing to about 44% of our online spending. We are also pleased with the build-out of merchandising capability and the optimization of business processes throughout our organization. They have helped drive great efficiency; profitability hit another new record high in the second quarter. More people look to us for value, and more partners want to work with us to target their desired customers. This provides new levels for us to capture great mind share. In everything we do, we put the customer at the center. We hope that discount retail for branded products is what Vipshop stands for. And when people feel like buying clothes online, Vipshop is the first place to go. With that in mind, we are committed to enhancing our core competence to offer a reach and the diversity selection of greater value, as well as wallet-free customer service and experience. On merchandising, we have secured much more quality supply from co-brands. We are constantly adding new brands, more popular products, and a range of trendy categories; more high-end international brands are becoming available. Our ability to present new, fresh, and fashionable items, which our customers long expect from us, has meaningfully improved as a long-standing discount retailer. We were able to provide great pricing across every category, giving our best-in-class service to brand partners. But it's far beyond that. Differentiated merchandising is also pivotal to creating value for customers. We are doing so through unique and customized offerings, which have better conversions. And there's a lot more we can do with a made-for-Vipshop line. Our buying team continues to deepen that knowledge and expertise. They have put in place a set of rules and processes making it more efficient for brand partners to increase quality supply at competitive pricing to cater to customer needs. We are moving steadily towards our goal to help every customer find what they need on our platform. On service commitment, we keep listening to our customers, analyzing and understanding their evolving needs. We are determined to deliver a worry-free experience by leveraging our merchandising, customer service, and supply chain capabilities. For example, we are enhancing our merchandising efforts to make sure that everything is reliably sourced, every product is of our guaranteed quality, and every step along the value chain is properly monitored. We want every customer to feel that the experience of shopping with us is worry-free enough to prioritize their spending here. Then we keep looking at where we can deepen engagement with our customers; personalized experience, channel efficiency, and quality customer growth are our top priorities. We have been deep mining customer and product insights to improve accuracy and the prediction in personalized recommendations. We have also made several upgrades to our App to increase efficiency across different channels. Engagement with SVIP customers has been quite encouraging. Penetrations into different cohorts of spending have improved year-over-year. As we navigate the external changes, we believe that our business model is structurally sound; the discipline and the dedication inherent in our day-to-day execution allow us to stand firm as a unique player in e-commerce. As long as we continue to optimize our merchandise portfolio, putting the customer at the center of every decision we make, we will attract quality customers and benefit from deeper customer loyalty and engagement. That will result in sustainable revenue and earnings growth for the long term. At this point, let me hand over the call to our CFO, Mark Wang, to go over our financial results.

Mark Wang, CFO

Okay. Thanks, Eric, and hello, everyone. We are pleased to finish another quarter with strong profitable growth. During the second quarter, total net revenue increased by 13.6% year-over-year, and non-GAAP net income attributable to Vipshop shareholders increased by 15.8%, leading to margin expansion across the board. This set of results was achieved through our enhanced merchandising capabilities to offer quality products at adequate value. Our diligent execution to grow customer engagement, as well as company-wide efforts to optimize the efficiency of our business, led to overall gross margin expanding to over 22% for the first time in three years, benefiting from much stronger momentum and a greater contribution from apparel and very healthy category margins. With a continuous focus on managing controllable costs and achieving expense collaboration where we could, profitability took a meaningful step up, and non-GAAP net margin attributable to Vipshop shareholders hit another record high at 8.6%. In addition, we continued to unlock value for our shareholders with $348.5 million of our ADS being repurchased during the quarter. We will keep executing the remaining amount of our $1 billion buyback program from time to time. Looking ahead, as Eric mentioned, we are operating in a retail environment where consumers place value at the top of their list, and we see the opportunity to gain customers' mind share. Our team is working hard to ensure our operations are ready to deliver on our long-term goals in addition to addressing near-term priorities. We're committed to maintaining quality and healthy growth in both top and bottom lines. Now moving to our detailed quarterly financial highlights. Before I get started, I would like to clarify that all financial numbers presented below are in renminbi, and all percentage changes are year-over-year changes unless otherwise noted. Total net revenues for the second quarter of 2023 increased by 13.6% year-over-year to RMB27.9 billion from RMB24.5 billion in the prior year period, primarily attributable to the growth in active customers and spending driven by the recovery in the consumption of discretionary categories. Gross profit increased by 23.4% year-over-year to RMB6.2 billion from RMB5.0 billion in the prior year period. Gross margin increased to 22.2% from 20.5% in the prior year period. Total operating expenses increased by 13.7% year-over-year to RMB4.5 billion from RMB3.9 billion in the prior year period. As a percentage of total net revenues, total operating expenses remained flat at 16.1% as compared with the prior year period. Fulfillment expenses increased by 22.8% year-over-year to RMB2.2 billion from RMB1.8 billion in the prior year period. As a percentage of total net revenues, fulfillment expenses were 7.8% as compared with 7.2% in the prior year period. Marketing expenses increased by 60.86% year-over-year to RMB892.5 million from RMB555.6 million in the prior year period. As a percentage of total net revenues, marketing expenses were 3.2%, as compared with 2.3% in the prior year period. Technology and content expenses increased by 7.6% year-over-year to RMB443.0 million from RMB411.8 million in the prior year period. As a percentage of total net revenues, technology and content expenses decreased to 1.6% from 1.7% in the prior year period. General and administrative expenses decreased by 19.4% year-over-year to RMB963.1 million from RMB1.2 billion in the prior year period. As a percentage of total net revenues, general and administrative expenses decreased to 3.5% from 4.9% in the prior year period. Income from operations increased by 51.1% year-over-year to RMB1.9 billion from RMB1.3 billion in the prior year period. Operating margin increased to 6.9% from 5.2% in the prior year period. Non-GAAP income from operations increased by 48.2% year-over-year to RMB2.3 billion from RMB1.6 billion in the prior year period. Non-GAAP operating margin increased to 8.2% from 6.3% in the prior year period. Net income attributable to Vipshop's shareholders increased by 63.5% year-over-year to RMB2.1 billion from RMB1.3 billion in the prior year period. Net margin attributable to Vipshop's shareholders increased to 7.5% from 5.2% in the prior year period. Net income attributable to Vipshop's shareholders per diluted ADS increased to RMB3.75 from RMB1.97 in the prior year period. Non-GAAP net income attributable to Vipshop's shareholders increased by 50.8% year-over-year to RMB2.4 billion from RMB1.6 billion in the prior year period. Non-GAAP net margin attributable to Vipshop's shareholders increased to 8.6% from 6.5% in the prior year period. Non-GAAP net income attributable to Vipshop's shareholders per diluted ADS increased to RMB4.30 from RMB2.45 in the prior year period. As of June 30, 2023, the company had cash and cash equivalents and restricted cash of RMB18.3 billion and short-term investments of RMB1.5 billion. Looking forward to the third quarter of 2023, we expect our total net revenue to be between RMB21.6 billion and RMB22.7 billion, representing a year-over-year increase of approximately 0% to 5%. Please note that this forecast reflects our current and preliminary view of the market and operational conditions, which are subject to change. With that, I would now like to open the call to Q&A.

Operator, Operator

Thank you. Our first question comes from Thomas Chong from Jefferies. Please go ahead with your question, Thomas.

Thomas Chong, Analyst

Hi, good evening. Thanks management for taking my questions. I have two questions. The first question is regarding consumer sentiment. Can management comment about how we think about it and the monthly GMV trend recently, as well as our expectations in coming quarters? And my second question is about our margin outlook. Given the strong margin in Q2, how should we think about it in coming quarters? Thank you.

Eric Shen, Co-Founder, Chairman and CEO

In terms of GMV trend as we enter the third quarter, everything is on track and aligns with our guidance of 0% to 5% revenue growth. We are confident that total GMV will continue to stay on course, especially for Q4, where we see a great opportunity to increase GMV growth. Q3 is generally a slow season for apparel, and summer apparel has a lower ticket size. However, entering Q4, when consumers look for winter clothing, which typically has a higher ticket size, provides a better opportunity for us to enhance GMV growth, mainly due to the strength in apparel categories. Over the long term, we are optimistic about consistent and sustainable GMV growth since we no longer face COVID disruptions and operations have normalized. We are confident in our merchandising capabilities to drive GMV growth long-term. Regarding the margin trend in Q2, we performed well and feel we have strong control over all margins, including GP margin, OP margin, and NP margin. This capability is a result of the discipline and dedication in our daily operations. We are confident in maintaining consistent earnings growth and keeping order margins at a healthy level.

Operator, Operator

Right. Thank you, Thomas. Our next question comes from Alicia Yap from Citigroup. Please ask your question, Alicia.

Alicia Yap, Analyst

Hi, good evening, Eric, Mark, and Jessie. Thanks for taking my questions. I have two questions. First, can management share with us the reason for the improved gross margin this quarter? I mean, usually, during the promotional period, gross margins tend to trend a little bit lower. But this quarter, it's actually exceptionally good. So could this improved margins be sustainable, and this is a new gross margin level going forward? And then second question is regarding the consumption pattern. Specifically within your apparel, what type of fashion or design or anything that is particularly doing well? Just kind of wanted to get a sense of what the consumers are spending. Are they more catered towards apparel that has a deep discount, or actually more on the sportswear, or any color you can share within the apparel category would be appreciated. Thank you.

Jessie Zheng, Head of Investor Relations

Can you confirm if this is the new gross margin level going forward? Additionally, I'm curious about the consumption patterns in your apparel line. What fashion or design aspects are performing particularly well? I'm interested in understanding consumer spending—are they leaning more toward apparel that is heavily discounted, or are they favoring sportswear? Any insights you can provide about the apparel category would be appreciated. Thank you.

Eric Shen, Co-Founder, Chairman and CEO

Okay. Going back to your first question on GP margin, we had a very good performance in this area even during the promotional period in Q2. We have implemented strong cost control measures that have helped our GP margin grow. For example, we do not simply participate in every industry-wide subsidy campaign, and we avoid wasting money on unnecessary coupons or vouchers for our customers. Despite this, we have achieved a strong gross margin profile and are confident in maintaining this level over the long term. We do not expect significant fluctuations from quarter-to-quarter, regardless of whether there are major promotions. Regarding our apparel categories, we experienced robust growth in the second quarter, partly due to pent-up demand compared to last year. With COVID no longer a significant concern, people are engaging in activities like travel and dining out. This increased social activity has resulted in strong momentum across our apparel categories, including women's wear, men's wear, kids' wear, and underwear. Additionally, consumers are spending more on shoes and bags for mix-and-match purposes, contributing to overall sales. We believe that consumers are more inclined towards deep discount products as they prioritize value, making more rational purchasing decisions. Within the apparel categories, the fashion sportswear trend that began a few years ago continues to thrive. In women's wear, we observe diverse trends in styles and designs, with several designer brands performing well. Overall, we are witnessing excellent momentum in the apparel category.

Operator, Operator

Thank you. Our next question comes from the line of Natalie Wu from Haitong International. Please ask your question, Natalie.

Natalie Wu, Analyst

Hi, thank you for taking my question. I have one regarding the future growth outlook. So for the 0% to 5% year growth guidance of the quarter. Is it mainly affected by macro or competition, or simply the base effect? If the latter, is it safe to say this number could indicate a similar normalized growth rate entering into 2024? Or will you shift your strategy to increase sales and marketing for better growth by then?

Eric Shen, Co-Founder, Chairman and CEO

Okay. Regarding our Q3 guidance of 0% to 5% revenue growth, it's linked primarily to the slower season in apparel categories. While we have a strong presence in apparel, we anticipate lower growth as we enter Q3. On the other hand, our GMV growth is showing much more promise, although apparel typically has higher return rates. This increase in return rates is partly due to our worry-free return and exchange service, which many customers value. Our commitment to providing excellent long-term service is integrated into our business model, and we do not focus heavily on its short-term effects. For Q4, we expect to achieve a stronger growth rate. The previous year's COVID impact also plays a role, making comparisons challenging. Looking ahead, we aim for a healthier long-term growth rate while leveraging our value proposition in discount retail for branded products. In this quarter, we are cautiously increasing our marketing expenditures to attract more customers, and we are confident in our ability to exceed our initial guidance.

Operator, Operator

Thank you. Our next question comes from Eddy Wang from Morgan Stanley. Please ask your question, Eddy.

Eddy Wang, Analyst

Thank you, management, for taking my question. I would like to inquire about the return rate. Can you provide the trend of the return rate for the first, second, and third quarters so far? We've noticed that the fulfillment rate in the second quarter is slightly higher than in the first quarter. Should we anticipate that the fulfillment rate expense ratio will be a bit higher moving forward? Thank you.

Eric Shen, Co-Founder, Chairman and CEO

In terms of the gap between revenue and GMV, we have noticed the return rate beginning to rise since the first quarter, with a significant increase in the second quarter. We anticipate that Q3 will remain at a similar level to Q2, and Q4 could potentially be higher, although not by much, as we have initiated some steps to normalize the return rate. However, the gap between our revenue and GMV observed over the past several quarters could serve as a benchmark for future estimates, differing from levels seen in previous years. The return rate contributes to the reasons customers enjoy shopping on our platform, as they appreciate the ability to try items and return or exchange them through our worry-free services. Additionally, consumers might be more cautious with their spending and managing their household budgets. Regarding fulfillment expenses, higher return rates also affect fulfillment costs, which increased in the second quarter. The costs associated with returns or exchanges primarily include delivery fees both ways. This is simply part of the business model we are creating. In the long run, we believe the fulfillment expense ratio remains manageable; it might be higher during slower seasons, but it is entirely manageable during peak seasons, especially in the apparel sector.

Operator, Operator

Thank you. Our next question comes from the line of Andre Chang from JP Morgan. Please ask your question, Andre.

Andre Chang, Analyst

I have a question regarding shareholder return and share buyback. I noticed that the company has repurchased $350 million in ADS this quarter compared to the current program of $1 billion over two years. This pace is significantly faster than the average rate of the program. Additionally, the buyback amount matches our free cash flow. My question is about the philosophy and strategy behind our share buyback and shareholder return. Could management explain the principles for deciding the level and pace of these buybacks so that investors can understand the potential returns? Thank you.

Eric Shen, Co-Founder, Chairman and CEO

Yes. We don't have a specific philosophy or set of rules for the buyback program. We initiate buybacks when the share price is significantly undervalued compared to its fair value. Therefore, we do not follow a strict pace, but we are committed to the program.

Mark Wang, CFO

Okay. This is Mark. Thanks for your question. Yes, we would like to return value to our shareholders. So we have been steadily executing our buyback programs. As of the second quarter, we have utilized around $435 million of our current $1 billion share repurchase program. This means that starting from the second quarter of 2021, we have returned a total of about $2 billion to our shareholders as of the second quarter of 2023. I think we will continue to execute this program from time to time. Additionally, as mentioned by Eric, we will also focus on share price and our enterprise values. If we believe that the market cap is significantly below its value, we will conduct share buybacks from time to time. Thank you.

Operator, Operator

Thank you. Our next question comes from Jialong Shi from Nomura. Please ask your question, Jialong.

Jialong Shi, Analyst

Thank you very much, Eric, Mark, Jessie for taking my questions and good evening. I have two questions. The first one is a follow-up regarding the return rate. I am curious about how the bps return rate for the apparel category compares to that of peers or the average return rate for the apparel industry in China during the same period. Additionally, concerning the increase in return rate this year, besides consumer cautiousness, I wonder if competition has also contributed to this rise in the return rate for the apparel category. My second question pertains to the Super VIP member. I'm interested in the latest number of quarterly super VIP members and the percentage of your GMV in the second quarter that was driven by Super VIP. Thank you.

Eric Shen, Co-Founder, Chairman and CEO

In terms of return rates, Vipshop's business model stands out as a shelf-based e-commerce player that focuses on discounts and flash sales, requiring consumers to make quick purchase decisions. If items are added to the cart, customers have just 20 minutes to complete their purchase. Unlike our peers, who typically use incentives like coupons to reduce return rates, we operate differently. Our return rate is generally estimated to be 2 to 3 percentage points higher than that of our competitors. We are currently researching the overall trend of increasing return rates in the industry due to insufficient data from all players. Although we believe that consumer sentiment is leading to more cautious spending, we lack solid methods to verify this. Our estimates indicate that consumers are becoming more rational in their purchasing decisions. We do not think competition is significantly impacting the rising return rate; rather, consumers decide to return or exchange items based on their satisfaction after placing them in the cart. As of June 30, we have 6.7 million Super active VIP members, who account for 44% of our online spending, and this percentage might be slightly higher concerning GMV. Particularly, our SVIP members experience a higher return rate than non-SVIP members because of the worry-free return exchange service that they value, which contributes to the overall trend in return rates.

Operator, Operator

Thank you. Due to time constraints, that concludes today's question-and-answer session. At this time, I will turn the conference back to Jessie for any closing remarks.

Jessie Zheng, Head of Investor Relations

Thank you for taking the time to join us today. If you have any questions or follow-ups, please don't hesitate to contact our IR team. We look forward to speaking with you next quarter.

Operator, Operator

Thank you. This concludes today's conference call. Thank you for participating. You may now disconnect.