iQIYI Inc

NASDAQ:IQ

Earnings Call Transcript 2021-Q1

[Operator]

Good day and thank you for standing by. Welcome to the iQIYI First Quarter 2021 Earnings Conference Call. At this time, all participants are in listen-only mode. After the speaker's presentation, there will be a question-and-answer session. [Operator Instructions]. Please be advised that, today's conference is being recorded. [Operator Instructions].

I would now like to hand the conference over to your speaker today, Ms. Fan Liu. Investor Relations Director of iQIYI. Please go ahead.

[Fan Liu, IR]

Thank you, operator. Hello, everyone, and thank you for joining iQIYI's first quarter 2021 earnings conference call. The company's results were released earlier today and are available on the company's Investor Relations website at ir.iqiyi.com.

On the call today are Mr. Yu Gong, our Founder, Director and CEO; Mr. Xiaodong Wang, our CFO; Mr. Xiaohui Wang, our CCO, Chief Content Officer; and Mr. Xianghua Yang, Senior Vice President of our Membership business.

On behalf of Mr. Gong I will give a brief summary of the shareholder letter, we sent out earlier today, followed by Xiaodong, who will go through the financials and guidance. After our prepared remarks, Xiaohui and Xianghua will join Mr. Gong and Xiaodong in the Q&A session.

Before we proceed, please note that the discussion today will contain forward-looking statements made under 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 public filings with the SEC. iQIYI does not undertake any obligation to update any forward-looking statements except as required under applicable law.

With that, I will kick start the call with a brief summary of our shareholder letter. As you may have noticed, we have sent out a shareholder letter earlier today. This is the first time since our IPO for Mr. Gong to communicate with our shareholders with this format. In this letter, Mr. Gong shares some of his thoughts on the online video industry, a competitive landscape and our content strategy.

To start with the industry dynamics and our competitive advantage. From the perspective of user's mindset, video content can be defined as delicious, entertainment and interest based video, of which iQIYI mainly focused on the latter two.

Our iQIYI app focuses on entertainment videos, and our Suike app on interest-based videos. The entertainment video market has extremely high entry barriers, including the economies of scale, the overall understanding of the industry and its talents, as well as the industries capital intensive nature. Empowered our technology and the database, our knowledge in the industry and our affiliation with the key content talents, iQIYI has established a solid leadership. For interest-base videos, we will continue to invest in Suike and expand that it will contribute to our core entertainment business.

Next, about our approach to current challenges. Though we are currently facing some challenges in our membership business, we still firmly believe that this business has huge potential. Two supporting data; First, as of the end of the first quarter 2021 the number of accumulative paid accounts has exceeded 490 million. And two, in first quarter 2021 the monthly average number of subscribing members who have membership benefits for any given day has reached nearly 116 million.

Volatility of membership business, we believe lack of high quality content is the primary reason. We believe the solution lies in the increase of our in-house production capacity, and the industrialization of video production. To establish enough and highly productive in-house studios is an important prerequisite for the improvement of our content quality.

We have now established over 50 in-house studios within two years. Most of these internal studios are focusing on original dramas and the variety shows, and a few are concentrating on movies and animations. As the capacity of our in-house studios is still far from enough, we will continue to expand our in-house production capacity and diversify the dramas of our in-house studios.

Through our in-house studios, we can amass outstanding talents in the content production industry, and obtain more premium IPs and productions. The industrialization of video production includes the restructuring of industry rules and intelligent production techniques. Thanks to the development of new technologies, our intelligent production system and the tools are gradually improving. This enables us to enhance the controllability of production schedule, content quality and financial risks, and to further reduce costs and improving efficiencies.

Now I would like to turn over to Xiaodong, for our first quarter update.

[Xiaodong Wang, CFO]

Morning, everyone. We kicked off the year with a solid quarter. Our revenue increased both sequentially and year-over-year in the first quarter, which is above our previous guidance. Besides, in recent quarters the revenues have been relatively stable, our content costs have been effectively controlled and losses have continued to narrow. We continue to lead the market by launching a consistent stream of premium content. According to QuestMobile, our MAU, DAU and monthly time spent all ranked first in the industry in the first quarter of 2021.

For our Membership business, as of March 31, 2021, we had 105.3 million subscribers, with 3.6 million net additions during the quarter. Membership services revenue increased by 12% sequentially to RMB4.31 billion.

Subscriber growth was driven by several factors, one, our top content, in particular premium dramas, performed very well. For instance, our top drama, My Heroic Husband, was a blockbuster during the Spring Festival. Two, users spent more time on long-form video during major holidays such as Spring Festival, driving up the overall traffic on our platform. Three, we introduced various innovative marketing initiatives during the holiday season.

In addition to overall membership growth, our sequential growth in membership services revenue was also due to two factors including, one, an increased willingness to pay among users. Two, ARPU growth driven by the headline pricing adjustment in November 2020, which is well accepted among users in the industry.

Meanwhile, we strived to expand our total addressable market; we launched a new VIP plan for iQIYI Lite, and expanding our footprint to overseas. Though we still expect short-term volatility in our subscriber numbers, we remain confident in the mid- and long-term development of our membership business. This is based on our dedication to premium content, as well as ongoing improvements to our original content ecosystem and in-house production capabilities.

Moving on to advertising business. During the quarter, the overall advertising market continued to recover. Our online advertising services revenue increased by 25% year-over-year. Even though the first quarter is traditionally a slow season for our advertising business, we were able to achieve decent sequential and year-over-year growth. Like the trend in the fourth quarter of 2020, growth was mainly attributable to strong content marketing revenue. Our content marketing revenue recorded decent growth driven by major variety shows and dramas. The content marketing revenue accounted for around 64% of our brand advertising revenue in the first quarter, which was a peak for the last few quarters. This again validated advertisers' recognition of our premium content.

Next for content. We continued to lead the industry in terms of total number of top titles and viewership across the categories, including drama, variety shows, animation, children and other content. For dramas, our exclusive costume drama My Heroic Husband became an instant hit after its launch. Its innovations in theme and style provided a whole new way of creating good costume drama which will have an impact on our future productions.

In original movies. Our original movie Underworld Crashed has been screened in theaters, reached a box office of over RMB300 million, and has received high ratings from various platforms.

For the second quarter, key dramas in our pipeline including A Love for Dilemma, Court Lady, Crossroad Bistro, The Rebel, The Lion's Secret and others. Love for Dilemma and Court Lady were aired in April and well-received by our users. We kept promoting short drama theater brands with a brand featuring romantic content scheduled to launch on May 20th this year. We will also launch new content in Mist Theater later this year. In animation, new content to be aired including No Choice but to Betray the Earth, The Tales of Wonder Keepers and the light animation Immortal Father As a Son-in-law 3 as well as others.

Despite some expected uncertainties in our content schedule in the coming months, we believe that the impact will be mitigated by our diversified content pipeline, especially self-produced dramas.

With over ten years of iQIYI's growth, we strongly believe that long-form video is irreplaceable as an entertainment format. In the meantime, through continuous technology innovations that empower content production, we will have the capability to increase our hit ratio, generate greater commercial value, and expand the imagination for the next generation of entertainment. As well, we look forward to bringing more good news to all shareholders.

Now let me review our key financial highlights, for the first quarter. For the first quarter total revenue reached RMB8.0 billion. Membership business continued to be our largest business, which accounts for 54% of our total revenue.

Our advertising business recorded [indiscernible] of 25% increase on a year-over-year basis. Both content distribution business and other business achieved solid growth on a year-over-year basis.

Our cost of revenues decreased 10% year-over-year, mainly due to the 9% year-over-year decline of content costs. A decrease was probably due to the decline of licensed content costs. Our operating loss margins on GAAP basis continue to narrow about 15% year-over-year to 13% for the fourth consecutive quarter.

As of March 31 2021 the company had cash, cash equivalents, restricted cash and short-term investments of RMB13.3 billion. For details on our financial data please, refer to our press release on our website.

For the second quarter of 2021, we expect the total revenue to be between RMB7.21 billion and RMB7.65 billion a 3% decrease to a 3% increase year-over-year. This forecast to reflect this forecast reflects iQIYI's current and preliminary view, which may be subject to change.

I will now open the floor for Q&A.

[Operator]

[Operator Instructions] Your first question comes from Thomas Chong from Jefferies. Please ask your question.

[Thomas Chong, Jefferies]

Thanks, management, for taking my questions. My question is about the regulatory environment in China. How should we think about the regulations regarding the long form video and on the other hand, how we should think about our short form video strategy - I mean the mid-form video strategies for Suike and any KPI that can be shared, that will be great. Thank you.

[Xiaodong Wang, CFO]

Okay, over the past two years, as you may have observed that the regulation intensity is almost a stable you can observe that before there's some kind of a freedom for example, and the upcoming July 1 day they will be intensified or enhanced regulation policy guidelines by management. It will directly impact our content pipeline in the short term and of course some uncertainties.

Okay, [Indiscernible] ATP right now don't have a very quantitative KPI. Over the past one year, we have been able to find as because value proposition which is based on the interest based video, our community. All the things are including, like user interaction system is doing the progress of the upgrading.

And in terms of the content community ecosystem, it's still far from satisfactory; we still need to work hard on this. Until it has been quite satisfactory before like year end, we won't have a very big promotion. In terms of the user data, it won't be growing very rapidly in the near term. We do have a very elaborate evaluation internal way. Thank you.

[Operator]

Your next question comes from Piyush Mubayi from Goldman Sachs. Please ask your question.

[Piyush Mubayi, Goldman Sachs]

Thank you for taking my question. My first question concerns the content costs spending, which is look solid in this quarter in terms of control. I wondered if you could talk through the expectation for the rest of the year and whether these levels can be continuing to improve on as we look forward for the rest of the year? That's the first.

The second is, as we look at ARPU at this stage, following the competitions joining you with raising pricing or raising effective ARPU, what is the outlook for where this number could go through for the rest of the year as you as roll that higher price through? And where can you think - where do you expect this to go?

And the third is we've spoken in the past about your move into the international markets; could you just give us a brief feel for the scale that you are likely to be able to attain and where you are at this stage? Thank you.

[Xiaodong Wang, CFO]

This is Xiaodong. I will answer the first question about the content costs than I'll let Xianghua to comment on ARPU trend and overseas business.

For the content cost, I believe the total content costs we spend this year, we will continue to be optimized in the next few quarters, which means the percentage of revenue, our sales definitely you will continue to see the trend of decreasing of the content costs. That we discussed before. I think we're thinking about like the - in short term we're thinking about like expand to original content through different category, including movies and animations, which could have unlike the short-term volatility of the total content costs.

For a longer period the hit ratio improved. I think as we discussed before, the total spending on our content costs even from like the absolute dollar amounts perspective, I believe we'll continue to be optimized in the next few years. Thank you.

[Yu Gong, Founder and CEO]

We are actually very welcome our peers to follow our suit. For the detailed information, I will turn over to Xianghua, for the detailed information.

[Xianghua Yang, SVP, Membership Business]

Okay. So as you know, we actually adjusted our pricing last November. For this quarter in terms of ARPU growth on a sequential basis and also on a year-over-year basis is around the 10% and we expect this trend will continue.

Our international business is still in a very early stage and it's definitely it's still in a very rapid growth stage. In terms of the future direction for the business, I think ASEAN region will be major location we are looking at.

Our current strategy for our international business is still very disciplined. We are cautiously looking at opportunities. The major concern here is that we don't have enough in-house original content, particularly in TV dramas and also variety shows. The capacity is far from enough it's more of a case for overseas expansion because in terms of the content it has actually very strong characteristics for polar regions is more also more like case that in terms of the production capacity for the films and animation is also far from enough in terms of the capacity and the diversity.

So we will continue to increase expanded capacity for our in-house production, particularly when for in terms of the acquisition content. The marginal cost for the acquisition content is still too high. So it's the major approach is in-house production capacity

[Yu Gong, Founder and CEO]

I want to add one point that. Since IPO our earnings is mainly focusing on this quarter and the next quarter is quite short term, we haven't been able to have a chance to talk about our long-term strategy or the thematic view. So this time is - the first time since our IPO to use a shareholder letter to communicate with our shareholders. I understand that most of our analysts haven't been able to get some time to really read the shareholder letter. I want to stress that the major challenge here is actually not that short form video or other entertainment format to grabbing our timespan, our biggest challenging for us is still the content itself on our platform.

[Xianghua Yang, SVP, Membership Business]

In terms of the licensed content on the TV drama categories, as you may know, the content for satellite TVs content has been lawfully free. This has caused the same issue for the content we can get on our platform.

On the films category, because of the COVID-19 pandemic outbreak and also because of the change of the broadcasting rules of how Hollywood feels. We also have [Indiscernible] in terms of the unique content supplies in our platform.

Because of the fringing TV drama content for satellite TV, we need to focus on our in-house production capacity to more mass audience in this market, just because they need more contents on our category.

So as a result, we need to enhance investment in terms of the numbers of in-house studios we have. And in addition, we need to increase our budgets on the investments on the films and also animation categories.

We want to share some data with you guys. In terms of the membership time spent, 60% of the time spent on the drama TV drama. In terms of the video viewership or the user topic. The first category is drama. Second, films and for animation and a variety shows as much less than raw material [ph].

In addition to increase the numbers of in-house studios, we also need to improve the industrialization magnitude of the video production. The solution is meant to take advantage of the technology. This includes three parts. First, we need to increase the forecast correctness of the financials and also user traffic's about certain business intelligence techniques.

Second, we need to take advantage of the AI or other technologies to systemize the video production system in terms of reducing the cost and improve the efficiency. And third, we need to take advantage of the intelligence tools to reduce the cost and also improve the efficiency outline.

Over the past several years we have already developed certain functions or certain tools. In terms of the industrialization of video production, we haven't been able to systemize this work. We want to improve this over the next one or three years. So put it in a word, our increasing numbers of the in-house studios is the most important supporting pillar for us.

[Operator]

The next question comes from Zhijing Liu from UBS. Please go ahead.

[Zhijing Liu, UBS]

Thank you, management, for taking my question. I have two questions. We have seen greater fluctuation of subscriber growth since last year. How can we mitigate such volatility?

Secondly, we are supposed to see more original content launched in second half. Can we expect a prominent improvement of content quality in short term? Thank you.

[Xiaodong Wang, CFO]

The primary reason behind the volatility of our subscribing members is that the content on our platform. We have observed clearly that if we have good content, we will have incoming users falling into our problem. If we don't have the good content, the users will leave [Indiscernible]. So this is a very clear phenomenon. So the key solution here is that improve the content quality, which will be mend in the second half.

I recommend that you look at our ATP, we have a new feature here, which is calling the upcoming new content which include the contents which have already specify launching date and also including some more contents with the uncertain launching date. If you look at our feature right now, you will find that we have 78 new titles, which will be launched in the coming quarters.

[Zhijing Liu, UBS]

Thank you.

[Operator]

Your next question comes from Eddie Leung from Bank of America Merrill Lynch. Please ask your question.

[Eddie Leung, Bank of America Merrill Lynch]

I just have three quick questions. The first one is a follow-up question on Dr. Gong's comment about original content. So just wondering, in the upcoming years spending, how much of the budget is for the original content?

And then the second question is about the so called a large screen strategy, wondering if there is any update on the user metrics from Smart TV? And then finally, we noticed that there was an acquisition of a chocolate brand, like two months ago so we're wondering any rationale behind it? Thank you.

[Yu Gong, Founder and CEO]

So I will turn over to Xiaodong, for the question of the content costs. I will answer the connected TV question first. Well-connected TV, if we view out the seasonal volatility, our user turn spends and also user traffic on the connectivity is still steadily increasing.

In terms of the user content transparent connect TV has already surpassing the mobile side when I say mobile side it includes both cell phone and tablet.

Right now we don't have the authorized third-party data. But I believe that in terms of the DAU and MAU our connectivity is still smaller than mobile side. But in terms of the daily time spent on the TV side is higher than the mobile side. And we believe this kind of challenge continues. And in a long run the TV side in terms of the user time spent it might contribute 60% to 70% of our total user time spent.

[Xiaodong Wang, CFO]

And I need to add one point in that, the Connect TV will be having more ample potential in terms of the membership and also PVOD monetization, just because of the connect TV has much better user experience. And it's easier for users in terms of the willingness for paying for the users it's much higher.

In terms of the [Indiscernible] you have mentioned previously is [Indiscernible]. It's not a merger or it's not a consolidation business investment, it's just a minority equity investment. And simply our investment, it's the total valuation of major hit has doubled, more than doubled. Thank you.

[Eddie Leung, Bank of America Merrill Lynch]

I think, the total content costs it's around like 30%. But if you look at across different categories it varies. For drama categories it comes over 40%. For variety shows, it is a higher I think for some [Indiscernible] to get away in the next few quarters. But I think the focus will be the quality likely to improve the quality of the original content in these two categories.

And in the coming year, I think we will try to understand how we are going to expand our original content strategy to other categories, including drama, including movies and animations, as we said before, we are going to do some small experiments in these two categories. So overall, I think you will still see some increase of the original content as a total content cost in the next year.

But I think idea for stable level of content which close before will be around like 40% to 60% if you look at the penetration mix between original content versus licensed copyright. Thank you.

[Operator]

Your last question comes from Alex Xie from Credit Suisse. Please ask your question.

[Alex Xie, Credit Suisse]

My first question will be - thank you management for taking my questions. My first question will be about the new VIP program for iQIYI Lite. Will you please share with us the differences from the original VIP programs? And how should it help you penetrate into low tier cities?

And secondly, would you please share with us the impact of a new regulation on the reality shows after the event of Youth with You. Would it impact your advertising revenue from reality shows in the future? Thank you.

[Yu Gong, Founder and CEO]

We apology, we are sorry that we haven't been able to broadcast the last episode of Youth with You. And as you have already observed that the Beijing Municipal Bureau of radio and television has issued a new guidance that we cannot vote through the purchasing goods or buying membership plans. So this means that the voting in the future would be only for free. And in terms of being passed in terms of our advertising revenues we are still evaluate internally.

Okay, so as he likes ATP. As you know, it's many catered to lower tier city users, it's much more simplified in terms of the user interface versus our main app. In terms of the membership plan on IT like ATP for this kind of members, they need to watch certain advertising format. But in terms of the membership pricing is much lower than our main app memberships. Just because for this kind of subscribers their willingness to paying for the content is not that high, so we want to leverage some certain kinds of operation tactics to penetrate them.

[Alex Xie, Credit Suisse]

Thank you.

[Fan Liu, IR]

Thank you.

[Operator]

I will now pass the call back to management for closing remarks.

[Fan Liu, IR]

Okay, so thank you for joining our call. We look forward to talk with you guys in the next quarter. Thank you.

[Operator]

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