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Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Ladies and gentlemen, good day everyone, and welcome to Vipshop Holdings Limited Fourth Quarter and Full Year 2017 Earnings Conference Call.
At this point, I would like to turn the call to Ms. Jessie Fan, Vipshop's Senior Manager of Investor Relations. Please proceed.
Thank you, operator. Hello everyone, and thank you for joining Vipshop's Fourth Quarter and Full Year 2017 Earnings Conference Call. Before we begin, I will read the safe harbor statement. During this conference call, we will make forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 that are based on our current expectations, assumptions, estimates and projections about Vipshop Holdings Limited and its industry. All statements other than statements of historical facts we make during this call are forward-looking statements. In some cases, these forward-looking statements can be identified by words or phrases such as anticipate, believes, continues, estimate, expect, intend, is and are likely to, may, plan, should, aim, potential, or other similar expressions. These forward-looking statements speak only as of the date hereof and are subject to change at any time, and we have no obligation to update these forward-looking statements. Joining us on today's call are Eric Shen, our Co-Founder, Chairman and CEO; and Donghao Yang, our CFO.
At this time, I would like to turn the call over to Mr. Eric Shen. Please go ahead.
Good morning, and good evening, everyone. Welcome and thank you for joining our fourth quarter and full year 2017 earnings conference call. We are pleased to have delivered a solid result in the fourth quarter. Our total net revenue increased by 27% year-over-year. Our fashion related categories has shown a steady growth year-over-year, further strengthening the foundation of our platform. This success where the result of our strong execution on the promotional events, more than 3,600 brands participate on December 8, 2017, representing a 122% year-over-year increase as compared to the annual sale in 2016. This is a testament of the power of our platform and an endorsement of our value to brands.
Our Super VIP Paid Membership Program and the Internet finance business also helped to improve the ARPU and enhance customer stickiness. Going forward, we will continue to optimize our operations so the positive trends can continue. On December 18, 2017, we announced the Tencent and JD's strategic investment in our company. Through this strategic partnership, the 2 companies will provide us with 3 powerful traffic increase; 1 in WeChat Wallet; 1 on JD's main page; and 1 on JD's WeChat Discovery shopping portal. We are delighted about the transaction and are excited about the opportunities ahead. Tencent's ecosystem is becoming even more powerful in recent years with many new functions and features.
For example, we launched our WeChat Mini Program in August of 2017, and are encouraged by its performance. Since then, the number of new customers that came in through the Mini Program has doubled on the monthly basis. Therefore, we believe WeChat traffic will be more important and relevant than many other traffic channels, which was the key reason behind our decision to partner with Tencent and the JD. Leveraging Tencent's robust social ecosystems and big data capability, we will be able to better understand the Chinese customers which will enable us to acquire new customers and better serve our existing customers. This partnership changes the fashion industry landscape, which increase our bargaining power with suppliers. Existing suppliers are working even more closely with us and the new suppliers will now be more willing to being working with us.
We opened the trial entry on WeChat Wallet in February and are on track to open the entry of JD's App and the JD's WeChat Discovery shopping portal in March. It will take a few quarters for top line and the customer growth to ramp up as it takes time for user to discover, browse and to try the new channels. We believe Tencent and the JD will help to bring new customers to our platform, enabling us to grow our top line and the core categories as fast as possible. At this point, let me hand over the call to our CFO, Donghao Yang, so that he may discuss our strategies in more detail and go over our operational and the financial results.
Thanks, Eric, and hello everyone. We delivered robust financial results in the fourth quarter with top line increasing by 27% year-over-year, which was above the high end of our guidance range. Driven by the strong 22% year-over-year increase in average number of orders per customer, our ARPU for the quarter improved by 22% year-over-year. In addition, we continued to make headway with the expansion of our warehousing capacity and the improvements of our logistics capability. During the quarter, we added a local warehouse in Quanzhou, China and currently have a total of 15 local warehouses nationally.
We further expanded our international warehousing capacity for the cross-border business by adding new locations in Italy and the U.K. As of the end of 2017, we have around 2.5 million square meters of total warehousing space, of which around 1.5 million square meters is owned by Vipshop. Our logistics efficiency also continued to improve. During the quarter, leveraging our proprietary last mile network, we delivered approximately 99% of our orders and handled more than 77% of customer returns in-house. On average, we delivered to our customers nationwide within 2 days in the fourth quarter. Turning to our Internet finance business. The spin-off was slightly pushed back due to the deal with Tencent and JD. However, we are currently working on the spin-off and aim to complete the process in the next couple of quarters. In the fourth quarter of 2017, the number of customers who used our consumer financing service increased by 107% year-over-year to 5 million from 2.4 million in the prior year period.
As of December 31, 2017, the total balance of credit outstanding to customers was approximately RMB 4.7 billion, and the total balance of credit outstanding to suppliers was RMB 1.5 billion. Looking ahead, we will continue to invest in our core categories and fulfillment capability, aiming to provide a superior shopping service to all of our customers. We look forward to working closely with Tencent and JD to strengthen all 3 parties marketing positioning. In particular, with the high quality traffic from Tencent and JD, we plan to grow our top line as fast as possible while maintaining a stable net margin; further strengthening our leadership in our core categories and solidifying our strong position in China's fashion industry. This will also enable us to achieve further operating leverage in the long run.
Now moving on to our quarterly financial highlights, before I get started, I would like to clarify that all the financial numbers presented today are in renminbi amounts and all the percentage change is referred to year-over-year changes, unless otherwise noted. Total net revenue for the fourth quarter of 2017 increased by 27.1% to RMB 24.1 billion, primarily driven by the growth in the number of active customers and average revenue per customer. Gross profit for the fourth quarter of 2017 increased by 17.3% to RMB 5.2 billion from RMB 4.5 billion in the prior year period. Gross margin was 21.7% as compared with 23.5% in the prior year period, primarily attributable to our investment in promotional activities for market share gain, which is balanced by reduced spending in our broader marketing efforts. Fulfillment expenses for the fourth quarter of 2017 were RMB 2.1 billion as compared with RMB 1.6 billion in the prior year period, primarily reflecting an increase in sales volume and number of orders fulfilled.
As a percentage of total net revenue, fulfillment expenses were 8.9% as compared with 8.7% in the prior year period. Marketing expenses for the fourth quarter of 2017 were RMB 1 billion as compared with RMB 920 million in the prior year period. As a percentage of total net revenue, marketing expenses decreased to 4.2% from 4.8% in the prior year period. Technology and content expenses for the fourth quarter of 2017 were RMB 486 million as compared with RMB 471 million in the prior-year period. As a percentage of total net revenue, technology and content expenses decreased to 2% from 2.5% in the prior year period. General and administrative expenses for the fourth quarter of 2017 were RMB 780 million as compared with RMB 624 million in the prior year period. As a percentage of total net revenue, general and administrative expenses decreased to 3.2% from 3.3% in the prior year period. Our income from operations for the fourth quarter of 2017 was RMB 884 million as compared with RMB 939 million in the prior year period. Operating margin was 3.7% as compared with 4.9% in the prior year period.
Non-GAAP income from operations, which excludes share-based compensation expenses and amortization of intangible assets resulting from business acquisitions was RMB 1.1 billion as compared with RMB 1.2 billion in the prior year period. Non-GAAP operating income margin was 4.6% as compared with 6.1% in the prior year period. Our net income attributable to Vipshop shareholders for the fourth quarter of 2017 was RMB 673 million as compared with RMB 768 million in the prior year period. Net margin attributable to Vipshop shareholders was 2.8% as compared with 4% in the prior year period, primarily attributable to our investment in promotional activities for market share gain. Net income attributable to Vipshop shareholders per diluted ADS was RMB 1.07 as compared with RMB 1.26 in the prior year period. Non-GAAP net income attributable to Vipshop shareholders, which excludes share-based compensation expenses, impairment loss of investments and amortization of intangible assets resulting from business acquisitions and equity-method investments was RMB 888 million as compared with RMB 970 million in the prior-year period. Non-GAAP net margin attributable to Vipshop shareholders was 3.7% as compared with 5.1% in the prior-year period. Non-GAAP net income attributable to Vipshop shareholders per diluted ADS was RMB 1.41 as compared with RMB 1.58 in the prior-year period.
As of December 31, 2017, our company had cash and cash equivalents and restricted cash of RMB 10.2 billion and held-to-maturity securities of RMB 246 million. For the fourth quarter of 2017, net cash from operating activities was RMB 0.9 billion. Looking at our business outlook. For the first quarter of 2018, we expect our total net revenue to be between RMB 19.1 billion and RMB 19.9 billion, representing a year-over-year growth rate of approximately 20% to 25%. With that I would now like to open the call to Q&A.
[Operator Instructions] Your first question comes from the line of Binnie Wong from Merrill Lynch.
Management, my question is on the user growth strategy. So with the addition of traffic channels from Tencent and JD to happen soon, I guess in March right, what is management's expectations on the user growth contributions and savings that we can have on our marketing spend. And besides, I think, more traffic channels any other areas Vipshop can deepen the cooperation with Tencent and JD. So any color would be greatly appreciated. And I also have a follow-up question on the margin trend.
[Foreign Language]
[Foreign Language]
So with the collaboration, our new customer acquisition costs will definitely go down and the new customer acquisition methods will be easier for us to acquire new customers. So as a result, our new customer number should also increase.
[Foreign Language]
And we also have a lot other ways of collaboration with Tencent and JD, for example, on JD outside of just opening the flagship store, we can also have many of the other collaboration methods which are in discussion.
Your next question comes from the line of Jerry Liu from UBS.
Could you talk a little bit about when we can start to see some of the benefits in terms of customers and in terms of ARPU with the deal that's going to start in March? Would it be a relatively slow ramp in the second half of the year and a bigger impact in 2019? Could you talk about the pace?
[Foreign Language]
[Foreign Language]
So Jerry, we actually opened the testing channel on WeChat Wallet in January, about 5% of user can see that right now. And then for JD's entries, we'll open that at the end of March. And after all the entries are opened, we will need some time to see traffic and [indiscernible] ramp up. So in the second quarter, we might see a little bit of contribution, and then in the third and fourth quarter, we will see more. This will be mostly on the user growth, but not necessarily on the ARPU side. We'll need to continue to monitor it.
Your next question comes from the line of Wendy Huang from Macquarie.
Can you shed some color on the economics with JD and Tencent, so what kind of take rate you would pay to JD? And for Tencent Wallet channel, so besides take rate on the payment, will you pay other fees to Tencent?
[Foreign Language]
[Foreign Language]
So Wendy, JD will be opening a Marketplace shop and we will need to pay a commission for that, but we don't disclose the details of exactly how much that would be and for Tencent, our WeChat Wallet traffic, we will also need to pay a fee and that is also confidential.
Just one more explanation on that one, because both JD and Tencent, they have got other partners or investment companies. So it's kind of a bit sensitive to disclose that information. So we do pay something, but the rates, well, we still want to keep it confidential.
Your next question comes from the line of Alicia Yap from Nasdaq (sic) [ Citigroup ].
Eric, Donghao, Millicent and Jessie, I have questions, also related to these upcoming integration linked with Tencent and JD. Could management share with us if there is any thoughts about your plans or any needs to change of strategy on ensuring the retentions of those new users and you could successfully convert them to become the new return and new repeat customer in the subsequent quarters? Will you think about change of the flash sales model for either the JD or Tencent channel to enable you to capture the different dynamic of the user base from those channels?
[Foreign Language]
[Foreign Language]
Okay. So Alicia, First, JD is already e-Commerce. We do believe that their customers are already on high quality. And for Tencent because of this WeChat Wallet entry, which means people are thinking of the payments section already, which also leads us to believe that their customers would be high quality. So we don't worry about the quality of the customers that will come through both channels. As regard to your question on the flash sale model, we will still maintain a flash sales model, but we will continue to adjust some features for JD and Tencent customers.
Your next question comes from the line of John Choi from Daiwa.
I have a question with regards to the margin trend going forward. So I think, Eric you mentioned during the prepared remarks that the customer acquisition costs should considerably come down. So could management give us some more color on what kind of customer acquisition cost decline we're talking about and hence, how will this benefit the margin? And secondly, just quick on Mini programs that you mentioned and it seem it doubled the users since its launch, so could we talk about a bit more about the benefits that you've seen for the Mini programs through Tencent WeChat and how this has abled to change the users engagement for us? And lastly, I think this quarter we also seen a pretty big step-up on the number of purchases, 22% year-over-year. So any details on that will be very helpful?
Well, thanks Choi for question. Let me take the first one and then I think -- I feel Eric will take the other 2. Well, as Eric just mentioned -- hopefully through working with both JD and Tencent, we can acquire a lot more new customers at a relatively lower cost. So hopefully this collaboration or this partnership will help us bring down the new customer acquisition cost, which will obviously be a benefit in terms of our margin improvement. But our strategy will continue to be the same as in the last several years, which is, we will try to grow our top line as fast as possible while maintaining a stable margin. So again, for the foreseeable future, we'll continue to reinvest our -- the benefits or the profits that we've got from either in the lower customer acquisition costs or high operating leverage to drive faster in the top line growth.
[Foreign Language]
[Foreign Language]
So John, regarding the Mini app, the user quality is actually quite high. The shopping frequency and the ARPU might be a little bit lower than the users that we see on the Vipshop app, but the quality is definitely there and we are seeing pretty robust new customer acquisitions as well, and so we do believe it will be a good channel to continue to explore in the future. [Foreign Language]
[Foreign Language]
So John, regarding your question on why ARPU and shopping frequency has increased, there are 3 major components. The first one is the Super VIP program which has been fully opened to all the customers enrolling for 4 months and we are seeing ARPU lift from that program which has contributed to the overall ARPU increase. And secondly, our Internet finance continued to contribute to the ARPU trend. And lastly, we did focus more on encouraging existing customers to buy more and buy more frequently, so that's also reflected in the increased ARPU year-over-year.
Your next question comes from the line of Alex Yao from JPMorgan.
[Foreign Language] So I have a question regarding your logistic strategy. So you guys made a lot of investment into the logistic in 2017 and also you talked about long-term ambition in building an independent third-party logistics services strategy in the past. Would this investment strategy and long-term plan change at all after the investment from JD. Given that they also have independent logistic developmental plan, will there be a redundant investment or efforts on this particular area? And then, very micro-level, Donghao, can you talk about logistic headcount as of the end of December quarter versus the end of the September quarter?
[Foreign Language]
So Alex, JD logistics is quite sizable right now and they offer to a lot of third-party orders, and we want to do the same. We do believe there is room for both of us in the marketplace as China's logistics needs are massive. And we're both solid, self-operated logistics teammates. So we do believe that there is enough market share for both of us. And given that we have the strategic collaboration relationship with JD, we are -- even though we are operating our own independent logistics unit and we're going to do our own last-mile, we are in certain discussions about potential ways of collaboration, such as warehousing, truck transport and so on. So we do want to reach an agreement where there -- it could be a win-win situation where we both lower our cost and improve our efficiency.
Okay. Well, Alex, let me take your second question. Well, as of end of 2017, we had about 30,000 employees in our last-mile delivery operations. For the vast majority -- well as of end of -- at the beginning of last year, we had about 20,000. So in the course of 1 year, last year we hired about, we added about 10,000 people to our last-mile delivery operations, but the vast majority of the addition, naturally, happened in the first half of last year. That's why if you look at our financials, fulfillment expenses as a percent of revenue in Q3 was a lot higher than that in Q4 because Q4 was our peak season and our top line grew by about 57% sequentially over Q3. So that's why our fulfillment expenses in Q4 last year came down quite a bit compared to the previous quarter.
Your next question comes from the line of Wayne Wang from HSBC.
I have a question regarding to the future cooperation with Tencent and JD. So is there any further potential for VIPS to further leverage on Tencent's social traffic? Will VIPS encourage users to like forward and [ post their ] Mini app with each other? [Foreign Language]
[Foreign Language]
So Wayne, we are actually having a lot of discussions with Tencent regarding the social collaboration, which is a key part of the strategic relationship, and we want to leverage their resources to learn how to be more social, which is why we are working quite closely on the Mini program. And we have switched a lot of the resources from H5 to Mini programs and are now exploring more opportunities.
Your next question comes from the line of Yufei Gao from 86Research.
So my question is about category expansion strategy. What's our plan for the category expansion this year? And also, on the balance sheet, it seems like the inventory balance increase a lot, so I wonder what's the reason behind that.
[Foreign Language]
[Foreign Language]
So [indiscernible] expands into new categories this year, and at the end of -- beginning of this year, we are largely down with expansion of ourselves. Going forward, we will look to open up a lot of Marketplace as discussed to bring in more big furniture -- category such as big furniture and some of the categories that are not our core.
And your question about inventory, you're right, the inventory was higher on our balance sheet as of the end of Q4 than the previous quarter because Q4 was the peak season, our sales went up by 56% -- 57% sequentially. And also, Q4 was the coldest season in the year. We sold a lot of heavy clothes, jackets and more expensive stuff, which also drove the value of inventory up.
Your next question comes from the line of Nicky Ge from China Renaissance.
I have a question on the supply side. As Shen san mentioned in the beginning that VIPS and JD are discussing cooperation on the supply side, I just wonder what kind of cooperation we are talking about here. And is there a differentiation between merchandise we can get and JD can get from here?
[Foreign Language]
[Foreign Language]
Because of our strategic relationship, Nicky, that we will be able to have some synergies on the merchandising side and our relationships with the supplier.
Your next question comes from the line of Ronald Keung from Goldman Sachs.
I see 2017 as the investment year, particularly for your finance business and logistics. Just wondered if you could share just how much of a drag that was for the full year of 2017? And what I'm thinking is, as we head into this year, do we expect this drag to be smaller i.e. your 30,000 staff in logistics now may be of the right scale to realize operating leverage. And whether the finance business with scale being much larger over the past 4 quarters, do you expect the drag to be smaller and I'm thinking of your expectations for 2018 net margin as a Group overall because of potentially, maybe through a drag on these 2 new businesses?
Well, thank you very much for your question. Yes, you're right, in 2017 Vipshop or company did invest heavily in the 2 businesses that you've just mentioned; our last-mile logistics network and Internet finance. As I just mentioned earlier, we added about 10,000 people to our last-mile delivery unit, which substantially drove up our fulfilling expenses as a percentage of revenue, especially in Q3. And also, we invested in our Internet finance business, on one hand, as you just mentioned, it was a drag to our bottom line, but on the other hand, the Internet finance business also helped company to increase ARPU and shopping frequency of our customers. So net-net, it's really hard to tell, but going forward in 2018, as the 2 business grew larger and also the revenue of the company, as a whole, will become much bigger business and I would believe the drag would become a lot smaller than in 2017.
Your next question comes from the line of Monica Chen from Credit Suisse.
I have a question regarding our 1Q guidance, which I noticed is actually stronger than we expected. Can management provide a breakdown for the strong guidance, like by user growth and ARPU? Just wondering how do we think about the sustainability of the high ARPU growth like 22% in this quarter, can it be sustainable in the upcoming quarters?
Let me take this question. Thank you very much for your question. Well, typically we only provided guidance for the revenue -- top line for the following quarter and we don't provide a detailed breakdown for that guidance, because it's only a range and it's only an estimate at this point of time by the management. Well, our best estimate, as Jessie just mentioned in the Safe Harbor statement. And if you look at our Q4 2017 top line, we grew by 27% year-over-year, and for Q1, 2018, our forecast is between 20% and 25% and I think which is quite reasonable.
Your next question comes from the line of Jialong Shi from Nomura.
We know JD recently has a setback in the apparel category as quite a few of the top apparel brands left JDs marketplace. Given that you guys officially joined JDs camp, I just wonder, if we should worry that you guys may eventually face the same kind of situation. And also, we noticed from Chinese media that you guys recently opened convenience stores in Guangzhou, just wonder how many offline stores VIPS plan to open in 2018? How should we assess the margin impact? Lastly, how many logistic people you aim to add in 2018?
[Foreign Language]
[Foreign Language]
So Jialong, regarding the first question on the apparel side, we believe actually supplier will be pleased to see that there is more choices for [ both us and JD ]. [Foreign Language]
[Foreign Language]
So regarding the second question Jialong on the -- about offline stores, currently we have 6 stores that are opened under Tianjin which is our logistics units, and because they have 3,700 stations nationwide, they can have many uses for them outside of just delivery. So they are in trial to see if they can use the delivery stations for convenience store, some convenience services and so on. Currently we have 6 stores and we'll need to evaluate whether the performance are good before we make the next step plan.
And to your last question, I think the impact on our margins would be minimal because there are just only less than 10 of them and it's still in the very early pilot trial period and we still haven't decided if we want to expand that business or not. So at least for 2018, the impact on margin would be very, very small.
[Foreign Language]
[Foreign Language]
So Jialong, on the logistics side, we currently, as of the end of December 2017 have around 30,000 people and in 2018 we will likely need to add a minimum of 10,000 people because our business will be growing and our third-party logistics business will also be growing.
Your next question comes from the line of Mitchell Kim from Kim Eng Securities.
I have 2 questions; 1 is on your strategy. Now does your overall strategy change as a result of Tencent/JD investment. And does it really affect your customer acquisition strategy. By that I mean, do you think these are completely new customers that you will be targeting through JD and Tencent platforms or these will be a lower cost -- lower acquisition cost way of acquiring customers? And secondly, for your longer-term growth in terms of category, do you expect there is more room for growth within the -- your strong core category that is apparel or do you think you growth will depend on expanding into other categories more, such as cosmetics?
[Foreign Language]
[Foreign Language]
So Mitchell, on your first question regarding the customer, we are constantly adding in new customers from different channels. So there might be some overlap from Tencent's new customers, JD's new customers and our new customers, but we believe that it will be small and it will just give us more channels and room for growth. [Foreign Language]
[Foreign Language]
So Mitchell, on your second question regarding our long-term growth and where that will come from. Our core category is apparel and our focus in the future will still be on apparel categories and we're pleased to see that in the fourth quarter actually, our apparel growth was quite strong, ahead of the overall top line growth.
Well, just one more thing on your first question, since -- both JD and Tencent are much bigger than Vipshop in terms of total traffic and customers. We believe that the new customers that we will acquire from both Tencent and JD will be just entirely new -- it will be from new customer pools that would be difficult for us to reach otherwise so -- meaning, those other channels would be very, very important -- would be very important.
Your next question comes from the line of Tian Hou from T.H. Capital.
The question is really related to your expansion in international brands. So when we look at the website, there are lots of international high-end brands are introduced or are sold on your platform. So I wonder, going forward, if we look at GMV per order, will the GMV per order increase better -- higher than before? That's my question.
[Foreign Language]
[Foreign Language]
Tian, so we are actively adding more luxury items and also into more international brands, but the contribution is actually still quite low probably low-single-digit from the overall apparel category. So in the short term, we don't expect to see notable changes on ticket size, but in the long term, it is definitely positive, given that the average ticket size on people who buy these -- from these brands are around 3,000 but our normal -- the mass customers, our ticket size around $300 -- RMB 300, sorry.
Your last question comes from the line of Natalie Wu from CICC.
My question is regarding the Mini program. You mentioned that the new user's number doubled on monthly basis. Just wondering what exact scope are you referring to and also what's the current user acquisition cost related with that channel. And lastly, what's your strategy to operate and manage those customers coming from Mini program? Will you do anything to transform those users into your own app?
[Foreign Language]
[Foreign Language]
So Natalie, our own user actually share their purchases with their friends through WeChat with the Mini program. So it's actually a tool that Tencent provided to us and so we don't have any strategy to try to acquire those customers into our own app unless if they find the app actually very interesting that they go themselves. But they will be, most likely, staying in WeChat themselves. And as for the fee, it's very minimal.
Okay. Well, time is up. Thank you for taking the time to join us and we look forward to speaking with you next quarter.
Ladies and gentlemen, that does conclude our conference for today. Thank you for participating. You may all disconnect.