Xunlei Ltd Q1 FY2022 Earnings Call

Thank you, and good morning, everyone, and thank you for joining Xunlei's 2022 First Quarter Earnings Conference Call. On the call with me today are Eric Zhou, Chief Financial Officer; and Lee Hu, Senior Vice President of Finance. Now you can find our earnings press release on our IR website, which is intended to supplement our prepared remarks during today's call. For today's agenda, I will read a prepared opening remark by our Chairman and CEO, Mr. Jinbo Li, on the highlights of our first quarter operations. Then Mr. Eric Zhou, our CFO, will go through the details of financial results and wrap up with our guidance for the second quarter of 2022. We'd like to welcome any questions from you after the management's remarks. Today's call is recorded, and you can replay the call from our Investor Relations website. Before I get started, I would like to take this opportunity to remind you that the discussion today will contain certain forward-looking statements made under the safe harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Such statements are based on management's current expectations under current market conditions that are subject to risks and uncertainties that are difficult to predict, which may cause actual results to differ materially from those made in the forward-looking statements. Please refer to our SEC filings for a more detailed description of the risk factors that may affect our results. Xunlei assumes no obligations to update any forward-looking statements, except as required under applicable law. On this call, we will be using both GAAP and non-GAAP financial measures. A reconciliation of non-GAAP to comparable GAAP measures can be found in our earnings press release. Please note that all numbers are in U.S. dollars unless otherwise stated.

Good day, everyone, and thanks for your participation in our first quarter earnings conference call. We're thrilled to see our operating and financial results have kept the momentum we saw in the previous quarter. Even as we had to operate our business when the city was temporarily locked down in mid-March due to the Omicron outbreak in Shenzhen, where our headquarters is located, we were able to cope with the challenges and continued to serve our customers without interruption. In the first quarter, our total revenues reached $79 million, an increase of 11.1% compared to that of the previous quarter. This is also the sixth quarter in which we reached consecutive quarterly revenue growth. Further, we achieved a net income of $5.4 million in the first quarter compared with a net loss of $0.5 million in the fourth quarter of 2021. We had a good start for 2022, and I'm grateful to our diligent employees and management for their dedication and for successfully controlling costs and implementing our strategy of focusing on our competitive strengths. Our major line of products and businesses achieved solid growth during the first quarter. Cloud computing continues to be competitive in the market where we strive to provide reliable, scalable, and cost-effective services to our clients. It achieved a 7% sequential growth and generated $30.2 million in revenue in the first quarter of 2022. It is especially encouraging that this growth was built upon the momentum we achieved during the previous quarters. We also made progress on our subscription business, which realized $25.3 million in revenue, an increase of 7% from the previous quarter. In general, the number of our subscribers has been growing since we launched the Cloud Drive function in summer 2020. The total number of subscribers grew to 4.61 million in the first quarter of 2022 from 4.39 million in the previous quarter. We're seeing stable member activities and looking forward to building a more engaging member community to retain and increase our user base. In the first quarter, our live streaming and other Internet value-added services made a significant improvement too, generating $23.5 million in revenue, an increase of 22.1% from the last quarter. In particular, our live streaming business realized an impressive 32.9% sequential increase compared to the previous quarter, driven by increased demand and market expansion. However, our Internet advertising was especially hit by strict regulatory policies, affecting the Internet advertising, Internet services, and gaming sectors. We expect our advertising business will continue to face headwinds in the coming quarters. We will closely monitor regulatory policies and industry trends and adopt business strategies to turn this business around if possible. Finally, we recently launched our digital collectible product line. Thus far, it is a significant part of our product portfolio. We are largely relying on our existing resources to explore this new and exciting industry development, and we will strictly comply with relevant laws and government regulations. We understand it is an emerging business with an untested business model and an evolving regulatory environment, and we also face tremendous competition. In closing, I would like to say that at Xunlei, we're constantly exploring new and innovative products and services. Our strong performance in the first quarter of 2022 further supports our confidence about the sustainability and promising outlook of our business. With a strong balance sheet, stable cash flows, and improving business, we believe our revenue growth and near-term trajectory will remain optimistic. With that, I will turn this call over to Mr. Eric Zhou, our Chief Financial Officer. Eric will cover the financial results in detail and share our outlook.

Thank you, Anne. Hello, everyone, and thank you again for joining Xunlei's 2022 first quarter earnings conference call. I will now go through the details of our financial results and wrap up with our revenue guidance for the second quarter of 2022. For the first quarter of 2022, total revenues were $79 million, representing an increase of 11.1% from the previous quarter. The increase in total revenues was mainly attributable to increased revenues from our live streaming, cloud computing, and subscription business. Revenues from cloud computing were $30.2 million, representing a sequential increase of 7% as compared with $28.2 million in the previous quarter. The increase was primarily driven by increased demand for our cloud computing products. Revenues from subscriptions were $25.3 million, representing an increase of 7% from the previous quarter. The number of subscribers was 4.61 million as of March 31, 2022, compared with 4.39 million as of December 31, 2021. The average revenue per subscriber for the first quarter was RMB 34.9 compared to RMB 34.3 for the previous quarter. Revenues from live streaming and other Internet value-added services (IVAS) were $23.5 million, representing an increase of 22.1% as compared with $19.2 million in the previous quarter. The increase of live streaming and other IVAS revenues was mainly attributable to increased demand for our live streaming services, partially offset by reduced advertising revenue. Cost of revenues was $43.9 million, representing 55.5% of our total revenues compared with $37.6 million, or 52.8% of the total revenues in the previous quarter. The increased cost of revenues was mainly attributable to increased sales of our cloud computing and other IVAS services. Bandwidth costs, included in the cost of revenues, were $26.9 million, representing 34% of our total revenues compared with $22.8 million or 32.1% of the total revenues in the previous quarter. The increased bandwidth costs were chiefly due to increased sales of cloud computing products as well as additional bandwidth usage for the Cloud Drive feature, which has been added to a subscription product since summer 2020. The remaining cost of revenues mainly consisted of costs related to revenue sharing for our live streaming business and depreciation of servers and other equipment. Gross profit for the first quarter was $34.9 million, representing an increase of 4.9% from the previous quarter. Gross profit margin was 44.1% in the first quarter compared with 46.7% in the previous quarter. The increase in gross profit was mainly due to increased live streaming, cloud computing, and subscription revenues. The decrease in gross profit margin was mainly due to the increasing portion of live streaming revenues to total revenues, which have a lower gross profit margin. Research and development expenses for the first quarter were $16.3 million, representing 20.6% of our total revenues compared with $16.6 million or 23.3% of our total revenues in the previous quarter. Sales and marketing expenses for the first quarter were $5.3 million, representing 6.8% of our total revenues, compared with $6.6 million or 9.3% of our total revenues in the previous quarter. The decrease was primarily due to decreased marketing and promotional activities carried out for our major products during the quarter. General and administrative expenses for the first quarter were $9.6 million, representing 12.2% of our total revenues, compared with $11.1 million or 15.6% of our total revenues in the previous quarter. The decrease was primarily due to reduced legal and consulting expenses. Operating income was $3.9 million compared with an operating loss of $1.7 million in the previous quarter. The increase in operating income was primarily due to increased gross profit and decreased operating expenses, as discussed above. Other income was $1.2 million compared with other income of $1 million in the previous quarter. Net income was $5.4 million compared with a net loss of $0.5 million in the previous quarter. Non-GAAP net income was $7.2 million in the first quarter of 2022 compared with a net income of $1.7 million in the previous quarter. The increased net income and non-GAAP net income were primarily due to improved gross profit and decreased operating expenses, as discussed above. Diluted earnings per ADS in the first quarter of 2022 was approximately $0.08 compared with a diluted loss per ADS of $0.01 in the fourth quarter of 2021. As of March 31, 2022, the company had cash, cash equivalents, and short-term investments of approximately $269.9 million compared with $239 million as of December 31, 2021. The increase of cash and cash equivalents was mainly due to increased bank borrowings to support the construction of our new headquarters and research and development building as well as net cash generated from operations. Turning to our revenue guidance, for the second quarter of 2022, Xunlei estimates total revenues to be between $77 million and $82 million. The midpoint of the range represents a quarter-over-quarter increase of approximately 0.6%. This estimate represents management's preliminary view as of the date of this release, which is subject to change and any change could be material. Now, we conclude the prepared remarks for the conference call. Operator, we are ready to take questions.

The first question comes from Wendy Kang from Industrial Investor.

The midpoint of the range represents a quarter-over-quarter increase of approximately 0.6%. This estimate reflects management's initial perspective as of the date of this release, and it may change, with any alterations potentially being significant. We now conclude the prepared remarks for the conference call. Operator, we are ready to take questions. The first question comes from Wendy Kang from Industrial Investor.

His question is besides Xunlei's traditional business, what other businesses may Xunlei develop in the future? I will answer in English first and then Yuanyuan will translate into Chinese. The fast cloud computing and subscription business, we strive to seek additional growth opportunities by exploring new and innovative products and services to speed up corporate development. Xunlei has its unique competitive edges and years of operating experience. We hope to incubate and invest in exciting products and services that will meet customer needs and ensure long-term and sustainable development of the company. For instance, we have lately added Cloud Drive function to a membership subscription product, expanded live streaming services to new markets, and launched digital collectibles products. All these products and services are extensions of our value chain centered around our core competitive strengths. Thank you for asking.

We hope to incubate and invest in exciting products and services that will meet customer needs and ensure long-term and sustainable development of the company. For instance, we have lately added Cloud Drive function to a membership subscription product, expanded live streaming services to new markets, and launched digital collectibles products. All these products and services are extensions of our value chain centered around our core competitive strengths. Thank you for asking.

The question is that recently, the company's stock price reached a historically low level. The company announced a share buyback program to purchase up to 20 million Xunlei stock. Could you please provide some updates? Thanks for the question. The Board of Directors announced a share repurchase program on March 31. The company has also signed an engagement letter with a securities firm to conduct transactions based on a predetermined trading algorithm. However, for the time being, we cannot disclose specific information. The Board will review the share repurchase program periodically and adjust its size and terms if needed. Thank you.

Thank you for the question. The Board of Directors announced a share repurchase program on March 31. The company has signed an engagement letter with a securities firm to conduct transactions based on a predetermined trading algorithm. However, we cannot disclose specific information at this time. The Board will review the share repurchase program periodically and may adjust its size and terms if necessary. Thank you.

The next question comes from Jun Gao, an individual investor.

I'm quite interested in the non-fungible token, so there's a difference of opinion about NFTs. Some may regard it as an important project while others may see it only as a short-term hype. I know that many top-tier Chinese companies are already participating in the NFT market. Could you please explain what Xunlei's assets in NFT artworks are, both in China and overseas?

His question is about NFT. He mentioned that there are different opinions about NFTs. Some people are very positive, while others may not be. In China, there are some big players in this market, and he wants to know what Xunlei is doing and what our outlook is for the future. Thank you for asking, and it's a good question. First, I'd like to clarify that overseas people use NFT to describe the product, while at home we often refer to this as digital collectibles. They are similar but different in several aspects. Xunlei recently launched its digital collectibles product line, which is an insignificant part of our product portfolio so far. We understand that it's an emerging business with an untested business model and an evolving regulatory environment. We are largely relying on existing resources to explore this new and potentially exciting opportunity. Furthermore, we will strictly comply with relevant laws and regulations of the government. In several respects, domestic digital collectibles differ from NFTs in overseas markets, and these differences may determine that they may have different development trends and prospects. Some of the differences include that overseas NFTs use public chains, while domestic digital collectibles utilize alliance chains. Overseas, cryptocurrencies can be used as a means of payment; at home, people use RMB or equivalents. In overseas markets, NFTs may be traded freely, while at home, there are restrictions on trading and exchanging. Lastly, depending on the host country of the NFT platforms, government oversight is typically open and transparent, while at home, we still need to develop or improve relevant laws and regulations, particularly for this new development. Despite the differences, I think there are opportunities for this digital collectibles market at home. Among us, some individuals enjoy collecting stamps, coins, and antiques. In a digitalized era, especially the younger generation, we believe there are individuals who will want to collect digital assets, and the potential market could be enormous, of course. This is an emerging market and it necessitates cultivation as well as the support of pertinent regulations and reasonable oversight. Personally, I view it as an opportunity worth exploring and potentially rewarding for the participants in this development.

In a digitalized age, particularly among the younger generation, we believe there are individuals interested in collecting digital assets, creating the potential for a substantial market. This emerging market requires nurturing along with appropriate regulations and oversight. I see it as an opportunity that is worth pursuing and could be beneficial for those involved in its growth.

The next question comes from Lee Dang, a private investor.

I want to collect digital assets, and the potential market could be enormous. This is an emerging market that requires cultivation, as well as the support of relevant regulations and reasonable oversight. I see it as an opportunity that is worth exploring and could be rewarding for those involved in this development. The next question comes from the line of Lee Dang, a private investor.

His question is whether the domestic COVID policies will affect the company's operations and costs. In mid-March, there was a large-scale one-week lockdown in Shenzhen. Since Xunlei is an Internet company, we had ample time to prepare for that event. We didn't see any material adverse impact on our operations. In fact, during the early phase of the COVID-19 outbreak in 2020, our subscription business actually grew due to increased customer demand during extended spring holidays when people had more time to surf the Internet. Therefore, generally speaking, we don't expect the current Omicron pandemic will have any material adverse impact on our operations unless something extreme and unforeseen happens. Thank you.

We prepared for that event and did not experience any significant negative impact on our operations. In fact, during the initial phase of the COVID-19 outbreak in 2020, our subscription business grew due to higher customer demand during the extended spring holidays when people had more time to browse the Internet. Therefore, we generally do not anticipate that the current Omicron pandemic will have any major adverse effects on our operations unless an extreme and unexpected situation arises. Thank you. During the early phase of the COVID-19 outbreak in 2020, our subscription business actually grew due to increased customer demand during extended spring holidays when people had more time to surf the Internet. Therefore, generally speaking, we don't expect the current Omicron pandemic will have any material adverse impact on our operations unless something extreme and unforeseen happens. Thank you.

He noticed the company had declining gross margin rates over the past several quarters and wants to know our forecast for gross margin in the coming quarters. Thank you for your question. In the past, our subscription business, which has a higher gross margin than other products, was the major revenue component of the company. In the last several quarters, our new live streaming business has become a significant contributor to total revenues. Since our live streaming business has a lower gross margin than the subscription business, the overall gross margin has declined. However, our gross profit grew to $34.9 million, which marks an increase of 4.9% from the previous quarter. The increase in gross profit was primarily due to increased live streaming, cloud computing, and subscription revenues. In the coming quarters, we expect the trend may gradually stabilize. Thank you.

Our live streaming business has become a significant contributor to total revenues. Since it has a lower gross margin compared to the subscription business, the overall gross margin has declined. However, our gross profit grew to $34.9 million, marking an increase of 4.9% from the previous quarter. This increase in gross profit was primarily due to higher revenues from live streaming, cloud computing, and subscriptions. We expect the trend may gradually stabilize in the coming quarters. Thank you.

The next question comes from Marcel Munch from Dong.

Congratulations on a good quarter. I've got several questions. The first one is about the company having very large cash reserves. What is the reason for borrowing more cash for the new headquarters? The second question would be the growth guidance looks quite stable for the next quarter. What's your view for the entire year? Do you think growth has already peaked? And the third and last question is about the steps you are taking for the potential event of a delisting. Is there any possibility for a secondary listing or anything else that helps current shareholders?

Thanks for the question. I'll try to address them one by one. Regarding the question of why we have healthy cash flows but still choose to borrow, it basically comes down to leverage. We believe this allows us to use the owner's capital for better returns and better investment opportunities. The borrowing rate for us is very low; we are paying less than 5% in interest for the construction loans. I believe most would agree that the cost of equity is much higher than 5%. Regarding growth outlook, for the second quarter, we forecast a revenue growth rate of about 0.6% for several reasons. Most crucially, the second quarter is typically seasonally weak, with the first and fourth quarters being the strongest. We take this seasonality into account when providing our forecast. Additionally, we are currently working to adjust and optimize our operations. The Chinese industry is undergoing changes, and many companies are taking action. Therefore, we are taking a conservative approach to ensure our company grows steadily rather than making drastic moves in an unstable environment. The third question, regarding delisting, the potential for delisting is due to the Holding Foreign Companies Accountable Act passed by the U.S. Congress. Xunlei is audited by a renowned auditor. If a firm is unable to be audited or examined by the PCAOB fully, it could result in delisting. If this continues for the next three years, we'll still be on that list. For now, we are closely monitoring this development and the negotiations between Chinese and U.S. regulatory agencies. Depending on the outcome, we might take appropriate actions and will keep the market informed in the future. Thank you.

We are closely monitoring the situation regarding the recent developments in U.S. regulations. If a firm cannot be fully audited or examined, it risks delisting, which could affect us if this continues over the next three years. We are keeping an eye on the negotiations between Chinese and U.S. regulatory agencies and will take necessary actions based on the outcomes while ensuring the market is updated. Thank you.

The next question comes from Yushe Zang, a retail investor.

If this continues for the next three years, we'll still be on that list. For now, we are closely monitoring this development and the negotiations between Chinese and U.S. regulatory agencies. Depending on the outcome, we might take appropriate actions and will keep the market informed in the future. Thank you. The next question comes from the line of Yushe Zang, a retail investor.

His question revolves around the lower stock price and he wants to know, in addition to the share buyback program, what other actions the company may take, such as giving out a dividend. First, the management recognizes that stock prices are influenced by multiple factors, some beyond our control. That said, we remain committed to our operating strategies and will strive to grow our business to create value. As for cash usage, there are different ways to deploy it. Paying dividends is one option, but other alternatives can include acquisitions, investment in new opportunities, and research and development of innovative products. These options will be evaluated carefully. As for the dividend, I appreciate the suggestion, and I will bring this up at the next Board of Directors meeting. Ultimately, it is not within my authority to make the decision. Thank you for your question.

There are various ways to use cash to create value. Paying dividends is one option, but there are also alternatives such as acquisitions, investing in new opportunities, and developing innovative products. We will consider these options thoroughly. I appreciate the suggestion regarding dividends, and I will raise it at the next Board of Directors meeting. Ultimately, the decision is not mine to make. Thank you for your question.

Paying dividends is one option, but other alternatives can include acquisitions, investment in new opportunities, and research and development of innovative products. These options will be evaluated carefully. As for the dividend, I appreciate the suggestion, and I will bring this up at the next Board of Directors meeting. Ultimately, it is not within my authority to make the decision. Thank you for your question.

His question is about the rental status of the Xunlei headquarters building under construction. Currently, the building is still in the final stage of internal finishing. Due to some delays experienced in spring this year, the moving date has been delayed, and we expect to move in around September or October. Since the building is not completed or ready for rental yet, we have no tenants at the moment. Keep in mind, this building is largely for internal use. However, we are in the process of identifying potential tenants for the excess spaces in the building and will provide some market updates in the next several months. Thank you.

Due to some delays experienced in spring this year, the moving date has been postponed, and we expect to relocate around September or October. Since the building is still under construction and not ready for rental, we currently do not have any tenants. It is important to note that this building is primarily for internal use. However, we are actively seeking potential tenants for the additional spaces in the building and will provide market updates over the next several months. Thank you.

In spring this year, the moving date has been delayed, and we expect to move in around September or October. Since the building is not completed or ready for rental yet, we have no tenants at the moment. Keep in mind, this building is largely for internal use. However, we are in the process of identifying potential tenants for the excess spaces in the building and will provide some market updates in the next several months. Thank you.

Basically, he mentioned that it's difficult to forecast Xunlei's operating expenses. He noted an increase in employee headcount and employee-related expenses last year. He wants to know if we will have a large increase in headcount this year. The increase in headcount is primarily due to our exploration of new products and services, leading us to hire additional personnel for research and development and marketing, which resulted in an increase in operating expenses. Furthermore, we maintain annual salary increases for the majority of our employees. We treat our employees well and respect their contributions and hard work. Therefore, if feasible, we will try to compensate our employees well in hopes of encouraging them to contribute to the company and our shareholders. Regarding headcount this year, as of now, we do not have plans for a substantial increase in headcount. On the contrary, we will work diligently to control expenses and optimize our operations this year. Thank you.

We are committed to providing annual salary increases for most of our employees as a recognition of their contributions and hard work. If possible, we aim to offer competitive compensation to motivate them to contribute positively to the company and our shareholders. Currently, we do not anticipate a significant increase in headcount this year. Instead, we will focus on controlling expenses and optimizing our operations. Thank you.

We treat our employees well and respect their contributions and hard work. Therefore, if feasible, we will try to compensate our employees well in hopes of encouraging them to contribute to the company and our shareholders. Regarding headcount this year, as of now, we do not have plans for a substantial increase in headcount. On the contrary, we will work diligently to control expenses and optimize our operations this year. Thank you.

Basically, his questions pertain to our shared economy model, and he wants to know if there's any regulatory pressure. So far, we haven't received any government sanctions on our business model. We strive to comply with existing government regulations while operating based on the shared economy. That being said, we will monitor future developments, both in the industry and regulatory landscape, and take appropriate actions to maintain our operations.

Dear speakers, there are no further questions at this time. Please continue. I would like to hand the call back to the speaker for closing remarks.

Thank you again for your time and participation. If you have any questions, please visit our website at ir.Xunlei.com or send emails to our Investors Relations. Have a good day. Operator, we conclude today's conference call. Thank you.

Thank you. That does conclude our conference for today. Thank you for participating. You may all disconnect. Have a nice day.