China Literature Limited (772) Earnings Call Transcript & Summary

Good evening, ladies and gentlemen. Welcome to China Literature's 2022 Interim Results Conference Call. A copy of the interim results announcement can be found and downloaded from its Investor Relations website at ir.yuewen.com. [Operator Instructions] I would now like to hand the conference over to your host today, Ms. Maggie Zhou, Head of Capital Markets and Investor Relations at China Literature. Maggie, please go ahead.

Thank you, operator. Ladies and gentlemen, welcome to our 2022 interim results conference call. Joining us today on the call are: Mr. Edward Cheng, our CEO; Mr. Monkey Hou, our President; and Mr. William Sun, our VP of Finance. For today's call, Edward will discuss the company's strategies and business highlights. Monkey will provide more operational details, and William will go through the financials. We'll then open the call for questions. Before we begin, I would also like to remind you that management's comments during the call will include forward-looking statements that are based on current expectations. All statements other than statements of historical facts during the conference call are forward-looking statements, which are subject to a number of risks and uncertainties and may not be realized in the future for various reasons. Information about general market conditions is coming from a variety of sources outside of the company. This presentation also contains some unaudited non-IFRS financial risk measures that should be considered in addition to, but not as a substitute for measures of the company's financial performance prepared in accordance with IFRS. So please, do take a minute to read the risk factors and non-IFRS measures discussion in China Literature's 2022 interim results earnings release. I will now turn the call over to our Chief Executive Officer, Edward.

Thank you, Maggie. Hello, everyone. Thank you for joining our earnings calls today. I'm pleased to share with you our business focus and achievements in the first half of this year, as well as our upcoming strategic and operational planning. During the first half of the year, the overall macro environment created different challenges for our industry and put pressure on us, which forced us to evolve. The changing market forced us to adopt a more forward thinking and a flexible approach, and to explore a healthier and a more sustainable growth trajectory. We believe that the short-term challenges have not changed the general trend and the long-term prospects on the contrary in the industry. In the first half of this year, the market responded to outstanding content. Our long-term strategy remains unchanged, which is to focus on the incubation, development and distribution of high-quality content, specifically, internal support in terms of the source of our IP in the online reading business. We continued to focus on incubation of the top-notch content and expand its influence. In terms of the legalization or the commercialization of IP, have made great progress in launching compelling content in a variety of media. Our continued ability to produce high-quality content reflects our strategic advantages and the ability to withstand macroeconomic risks. It also highlights our ability to build the core competencies and reinforces our confidence that we can create long lasting IP value. On the operation side, we quickly aligned with industry trends, focused on key business and long-term goals, and adopted a series of measures to control costs and improve operational efficiency. Our financials for this period reflect significant improvements in the company's operating efficiency. Non-IFRS operating profit increased by 8.2% year-over-year to RMB 694 million, and the non-IFRS operating margin increased from 14.8% a year ago to 17% in the first half of 2022. Next, let's look at the details of each business segment. First, the IP creation. As mentioned earlier, the online literature business is where our quality IP content begins. We focused on fundamentals of our online business in our core pay-to-read business, and it continued to strengthen our online literature IP ecosystem. During the first half of 2022, the number, quality and the influence of our IP, our online literature platform continued to increase. On the supply side, our online literature platform added approximately 300,000 writers and 600,000 novels, with an increase in word count of 16 billion Chinese characters. At the same time, we accelerated the development of high-quality content in specific categories by improving our system for incubation and operations. For example, at the beginning of this year, we identified through internal analysis, the rising potential of science fiction themes, leading us to organize 2 science fiction writing contests and a series of activities, incubating about 20,000 science fiction works. A number of well-known writers in other thematic areas has also -- have also started to create science fiction. During the first half of 2022, a total of 12 Platinum and Phenomenal Writers on our platform started to produce science fiction novels, making science fiction the fastest growing genre on our platform. While improving the quality and the quantity of our literary IPs, we also implemented cost control measures, proactively reduced certain sales and marketing costs and expenses, and shifted our focus from prioritizing short-term revenue growth to optimizing operational efficiency and the cost structure. As a result, we gave up a portion of our revenues for the current period, but we believe these measures will lay a solid foundation for the healthy development of our long-term business. At the same time, in order to protect the rights and interests of writers, China Literature has raised copyright protection to a strategic level. They deployed artificial intelligence, encrypted watermarks, piracy detection, risk controls and bans to improve anti-piracy capabilities, and continued to litigate against the piracy sites and IP infringements. China Literature's strong defense of copyright and IP has won the trust and recognition of writers, and is an important part of the ongoing improvement of our content ecosystem. And now, let's talk about IP visualization. Currently, IP visualization is the focus of our work, and the front -- In the first half of 2022, we achieved remarkable results. Continuous release of high-quality content, particularly blockbusters, reflected our strong capabilities in systematically recreating literary content in visual formats, and it supports our strategy to convert text-based IP into visual IP. In the live action TV and the film segments, we maintained a top-tier level and launched several compelling new works in the first half of the year. For example, the drama series, A Lifelong Journey [Foreign Language] adapted from the Mao Dun Literature prize-winning fiction by contemporary Liang Xiaosheng, was highly successful. This blockbuster series set an 8-year record for CCTV-1 prime time drama series ratings, and topped all charts across the internet. Another example is a drama series, Life is A Long Quiet River [Foreign Language]. The viewership of this family drama series ranked second in the popularity list of iQIYI during the first half of this year, only right after A Lifelong Journey, and also ranked first among local TV prime time drama series ratings nationwide in the first half of the year. We also launched the drama series, The Wind Blows from Longxi [Foreign Language], which was adapted from the novel by Ma Boyong. The drama series was an innovative exploration of the theme of ancient spycraft, with a score of 8.1 on the Douban platform. Additionally, our romantic drama series, Master Of My Own [Foreign Language], ranked first in local TV prime time drama series ratings nationwide, and first in the list of hot drama series on Youku during its broadcast period. In terms of films, Too Cool To Kill [Foreign Language] achieved the box office sales of RMB 2.6 billion, ranking second in the 2022 Spring Festival box office sales. At the same time, we continued to work on serial development of high value China Literature [indiscernible] and dramas, such as the Joy Of Life Season 2 [Foreign Language], My Heroic Husband Season 2, and Dafeng Guardian [Foreign Language]. We believe that the launch of these works will bring China Literature's IP brand appeal to a higher level. In the animation segment, we launched the new seasons of series, Stellar Transformations [Foreign Language] and the Martial Universe [Foreign Language]. At present, the Stellar Transformations and the Martial Universe series have had 4 billion and 3 billion video views respectively, and ranked #1 in terms of the average video views per episode among newly released animation series on Tencent Video at the time of their launch period in the first half of the year. According to drama -- according to data from Guduo, among the top 20 most watched domestic animation works released on Tencent Video in the first half of 2022, 11 out of 20 were adapted from China Literature's IP. In the comics segment, we continued to improve production capacity so as to accelerate the process of IP visualization, and incubate top IP. Our joint project with Tencent Comics to adapt 300 online literary works into comics in 3 years is making great progress. Right now, over 170 adapted comic works have been launched on the Tencent Comics platform. Some titles have become blockbusters, such as Dafeng Guardian, The First Sequence [Foreign Language], and Start With A Mountain [Foreign Language]. In the games segment, we strengthened the cooperation with quality game studios. In the first half of this year, popular IPs such as Battle Through The Heavens [Foreign Language], and The Naming Of Night [Foreign Language], have been licensed to game developers for adaptation. We expect to see the release of these adapted games in the next few years. Let me turn next to our progress with downstream commercialization of IP through theme characters and merchandise. In the first half of 2022, we continued to build a foundation for this business, shortening the conversion time from IP to offline products, expanding the number of IP and product formats, and achieving breakthroughs in theme, product style and design. We focused on opportunities in consumer goods, fashion toys and offline retail. We achieved initial success by cooperating with upstream and downstream partners in the industry. For example, one single edition of toy sculptures of "Medusa" in Battle Through The Heavens that we licensed, was sold out immediately after the pre-sale launch with a GMV of over RMB 5 million. In future, we will develop theme characters and merchandise adapted from more China Literature's IPs such as Joy of life, Lord of The Mysteries [Foreign Language], The King's Avatar [Foreign Language], and Candle In The Tomb [Foreign Language], and cooperate with the launch of relevant drama series, film, animation, comics, games and other content for joint promotion. Finally, I would like to share with you our outlook for the future. Online literature has begun to show value and the possibilities that go beyond [ print ]. The realization of such value will depend on our efforts. With online literature as a starting point, China Literature has already gradually expanded to various media formats, including drama series, film, animation, comics, games and offline merchandise. While meeting the diverse literary, entertainment and cultural needs of people, various works adapted from our original IP amplify the bandwidth of the original narrative and form a mutually reinforcing cycle. China's IP industry is still at an early stage, and will need sustained investments in both IP operations and creative talent. By strengthening our own IP resources, we hope to link with industry partners to create IP that spans the whole value chain, in the service of good stories that will live forever. And that concludes my session. Please welcome Monkey to provide further information on our business. Thank you.

Thank you, Edward. Edward has just spoken about our strategies and some of our operating results, next, I would like to add more details on our business performance. First, let's look at our online business. Total MAU for our online reading business was 265 million, up 13.8% year-over-year. MPU for our paid content was 8.1 million, down to 12.9% year-over-year, but remained stable on a half year basis. Monthly ARPU for paid reading content was RMB 38.8, up 6.6% year-over-year, as we continued to improve content operations, community features, and recommendation efficiency, driving paying users' demand for quality content. For our free reading business, average DAU in June this year was 14 million, up from 13 million a year ago. That's important part of our IP ecosystem. We will continue to focus on incubating high-quality reading content, providing better user experience, and improving our users' stickiness. We continued to expand in the global market with our overseas reading platform, WebNovel. As of this June, WebNovel had about 2,600 works translated from Chinese and 420,000 original works created locally. Turning to the IP business. In addition to the blockbuster titles released in the first half, as Edward just mentioned, we continued to roll out popular content in July and August. We released 2 new seasons for our animation series, Battle Through The Heavens [Foreign Language], and both were among the top 2 on the hot list of Tencent Video during their launch period. At present, the Battle Through The Heavens, [Foreign Language] series has altogether reached over 12 billion video views. We also launched drama series, Rose war [Foreign Language], a week ago, and it ranked #2 on the TV series hot list according to data from [ Yunhe ]. Looking ahead, we will continue to produce top-tier content to expand our IP influence and to release full IP value. This ends my session. William will provide more information on our financials. Thank you.

Thanks, Monkey. Hello, everyone. In the first half of 2022, our total revenues were RMB 4.1 billion compared with RMB 4.3 billion in the first half of 2021. Our online business revenues were RMB 2.3 billion, down 9.2% year-over-year, mainly due to a reduction in marketing spending for user acquisition as we took initiatives to control costs and improve operational efficiency. And revenues of our self-owned platform products decreased 6.3% year-over-year to RMB 1.8 billion accordingly. Revenues from our self-operated channels on Tencent products decreased 1.7% year-over-year to RMB 347 million, owing to the lower monetization efficiency of advertising which was impacted by the macro environment. We also saw a decline in revenues from third-party platforms from RMB 306 million to RMB 196 million as a result of suspending relationships with certain distribution partners. Turning to IT operations and other businesses. In the first half of 2022, revenues from our IP operations and others decreased 1.2% year-over-year to RMB 1.8 billion, among which revenues from IT operations were broadly stable year-over-year at RMB 1.7 billion, and revenues from the other categories consisting mainly of sales of physical books decreased 21.2% year-over-year to RMB 49 million, as we continue to adjust our offline physical books business [ independent ] with our business development strategy. Now let's look at costs and expenses. In the first half of 2022, our cost of revenues amounted to RMB 1.9 billion, down 5.5% year-over-year as a result of lower amortization of intangible assets of content copyrights, the decline in platform distribution costs for our online business and lower content costs. Our gross profit decreased 6.2% to RMB 2.1 billion. Gross margin was 52.5% in the first half of 2022 compared with 52.7% for the same period last year. We recorded net other losses of RMB 235 million for the first half of 2022 compared with net other gains of RMB 901 million for the same period last year. The net other losses for the current period were mainly generated from the changes in valuations of our investee companies and the change in the fair value of consideration liabilities related to acquisitions. Our selling and marketing expenses decreased 17.6% year-over-year to RMB 1.1 billion in the first half of 2022. The decrease was primarily due to reduced promotion and advertising expenses for our online business as a result of our cost control and efficiency improvement initiatives, partially offset by greater marketing expenses to promote our films and drama series during the first half of 2022. As a percentage of revenue, our selling and marketing expenses decreased to 27.2% from 31% a year ago. Our G&A expenses decreased 12.2% year-over-year to RMB 558 million in the first half of 2022, mainly due to a decrease in research and development expenses. As a percentage of revenues, our G&A expenses decreased to 13.6% in the first half of 2022 from 14.6% in the first half of 2021. As a result of factors mentioned above, our operating profit was RMB 251 million in the first half of 2022 compared with RMB 1.3 billion for the same period last year. The difference was mainly due to a gain of RMB 1.1 billion related to the sale of our equity interest of Lazy Audio during the first half of 2021. Non-IFRS operating profit, which excludes share-based compensation, M&A-related impacts, such as net losses or gains from investee companies and amortization of intangible assets, as well as related income tax effect, increased 8.2% year-over-year to RMB 694 million. Non-IFRS operating margin was 17%, up from 14.8% for the same period last year. Our profit attributable to equity holders of the company was RMB 229 million compared with RMB 1.1 billion for the same period last year. Non-IFRS profit attributable to equity holders of the company increased 0.2% to RMB 666 million. Non-IFRS net profit market increased from 15.3% to 16.3%. In conclusion, although our total revenues decreased in the first half of 2022, owing to several factors, including our cost control measure and the pressure from macro environment, we achieved significant improvements in our operating efficiency. We believe that our cost control and efficiency improvement measures will lay a solid foundation for a healthy development in the long run. That concludes the financial-related part. Let's move on to the Q&A session.

[Operator Instructions] Our first question will come from Xueqing Zhang with CICC.

[Foreign Language] And now I will translate myself. Thanks management, I have 2 questions. The first one is about cost control. In the first half of this year, the company has made some progress on cost control and the efficiency improvement. So could management share how the current progress is, and the outlook for cost control in the second half of the year? And my second question is about IP universe. Which IP universe do we think is rating mature among IPs operated by China literature, may be Soul Land? So could management share the current progress of the various forms of this IP, as well as the outlook for IP licensing derivatives?

[Foreign Language]

[Interpreted] Okay. So let me first quickly translate. As to your first question, in the first half of the year, we took several initiatives to control costs and improve operational efficiency. We focused more on ROI and efficiency of sales and marketing expenses and controlled G&A expenses strictly. In the first half, our selling and marketing expenses decreased by 17.6% year-over-year, and 17.9% sequentially. Selling and marketing expenses as a percentage of revenues decreased to 27.2%, down by 3.9 percentage points year-over-year and 4.1 percentage points sequentially. Our general and administrative expenses decreased by 12.2% year-over-year and 19.1% sequentially. G&A expenses as a percentage of revenues decreased to 13.6%, down by 1 percentage point year-over-year and 2.3 percentage points sequentially. We saw an improvement of operational efficiency during the first half of the year. Our non-IFRS operating profit reached RMB 694 million, up by 8.2% year-over-year and 5.4% sequentially. Non-IFRS operating margin increased to 17%, up by 2.2 percentage points year-over-year, and 1.8 percentage points sequentially. Our non-IFRS net margin reached RMB 670 million, up by 0.2% year-over-year, and 17.9% sequentially. Non-IFRS net margin increased to 16.3%, up by 1 percentage point year-over-year and 3.2 percentage points sequentially. In the second half of the year, in general, we will continue to implement the measures to control costs and improve operational efficiency with the quality of growth and efficiency of operations as our priority. In terms of sales and marketing expenses, we were spend -- advertising and marketing promotion expenses with a focus on ROI and efficiency. Regarding G&A expenses, we will continue to control our G&A expenses. We believe these measures are a timely response to the changes in the macro environment, and will lay a solid foundation for the healthy development of our long-term business and the improvement of our operational efficiency.

[Foreign Language]

[Interpreted] As to your second question, I would like to share with you our progress in establishment of our IP universe as well as the current status of several of our top IPs like the Soul Land [Foreign Language] and Battle Through The Heavens [Foreign Language]. Several of our IPs have been successfully converted into other media formats. For example, Soul Land has been adapted into a variety of media rich content, including comics, animation, drama series, games, et cetera. And the animation series of Soul Land is the most watched animation franchise on Tencent Video so far. The animation has established images of [ character ] for game adaptation, creating synergies between animations and games. The release of the hot drama series adapted from the same IP has further brought more user attention to exchange. As a result, multiple games adapted from Soul Land have achieved great success with total game growth in of all the Soul Land adapted games exceeding RMB 10 billion. But this is definitely not the ultimate status of this IP, as new chapters and episodes will continue to be released for its comics, animation and drama series. There is massive room for growth for the influence and the commercial value of this IP. Another IP, Battle Through The Heavens [Foreign Language] has also been adapted into multiple content formats, including drama series, comics and animation. The animation franchise has exceeded 12 billion video views. And in July, we further released a year-long season to be aired throughout the full year, and this new season is now the most popular animation on Tencent Video. The release of the year long season aims at keeping the popularity of the IP at a high level and further expanding the IP influence. In addition, one single edition of toy sculptures from the theme character "Medusa" in Battle Through The Heavens, sold out within 40 minutes after the pre-sale launch, with a GMV of over RMB 5 million. In the future, we will present more fashion toys based on the theme characters in this IP to users. In terms of drama adaptations, apart from Soul Land and Battle Through The Heavens, we have also successfully produced blockbusters, including Joy Of Life and My Heroic Husband, and serialized multi-season development of Joy Of Life, My Heroic Husband and Dafeng Guardian [Foreign Language] is also progressing well. Soul Land and Battle Through The Heavens are leading the IP market, thanks to their diversified adaptive formats and rich quantities. But in terms of the full release of IP value, they still have a long way to go, as the original novels have very rich content and a storyline that set a solid foundation for adaptation. Various formats of adaptations will continue to be launched, and we believe the IP value will be further enlarged through adaptation into different media-rich formats constantly. Lastly, it's worth mentioning that development of IP merchandise is one of our key top in our IP adaptation business, and the establishment of our IP universe. Considering the revenue structure of those top-tier global IP, a majority of the revenues are generated from IP merchandise. Therefore, we have much confidence in its massive long-term prospects. China's IP merchandise industry is still at an early stage, and the China Literature hopes to work with partners across the industry chain to promote the prosperity of China's IP merchandise market.

Our next question will come from Thomas Chong with Jefferies.

[Foreign Language] I have 2 questions. The first one is about the macro headwinds that we are facing, as well as the pandemic. How should we think about the impact to our different business line in the second half? And my second question is about our content release as scheduled in the second half, as well as our expectation on NCM revenue and profit for the year?

[Foreign Language]

[Interpreted] So despite the macro uncertainties and the pandemic impact in the first half, our management still holds a very positive view on our long-term prospects of our business. So we think, actually the challenges in the first half presented with us the opportunities to execute the measures to control costs and improve our operational efficiency. We focused more on our long-term targets and the key business in the first half. And in the second half, we will continue to carry on these measures to further improve the operational efficiency of our company. So as William just mentioned, we saw an improvement of operational efficiency during the first half of the year. Our non-IFRS operating profit reached RMB 694 million in the first half, up by 8.2% year-over-year and 5.4% sequentially. Non-IFRS operating margin increased to 17%, up by 2.2 percentage points year-over-year and 1.8 percentage points sequentially. And in general, in the second half, we will continue to implement the measures to control costs and improve operational efficiency, with the quality of growth and efficiency of operations as our priority. We believe, these measures are a timely response to the changes in the macro environment, and will lay a solid foundation for the healthy development of our long-term business and the improvement of our efficiency. And in terms of our IP strategy, we will continue to execute our IP [ metamorphic tactics ] in terms of the force of IP, that is our online reading business. We will continue to focus on incubating high-quality content and writers, and improving the content creation ecosystem and writers' experience with us. In terms of drama series -- in terms of visualization of IP, we have a very rich timeline for the second half as well. In terms of general period, in addition to the products already released in the first half, which are all very successful, including A Lifelong Journey [Foreign Language], Life is A Long Quiet River [Foreign Language], The Wind Blows from Longxi [Foreign Language], and Master of My Own [Foreign Language]. In the second half, so far, we have released the drama series, Rose War [Foreign Language]. And more NCM productions are expected to be released in this year, including, In Spite Of Strong Wind [Foreign Language], The Infiltrator [Foreign Language], New Life Begins, [Foreign Language] and so on. It is worth noting that there are 3 drama projects led by Tencent Pictures and co-produced by China Literature Pictures, including A Lifelong Journey [Foreign Language], Life Is A Long Quiet River [Foreign Language], and The Heart of Genius [Foreign Language]. All achieved great success, topping the video platform's popularity list during its broadcasting period, which once again proved the capability of China Literature's media production team. In the future, we will continue to further strengthen our capabilities and increase our involvement and exposure in the media industry, and to present users with even more blockbusters. In terms of animation, in July, we launched 2 new seasons for the Battle Through The Heavens [Foreign Language] animation franchise, including its new special season [Foreign Language] and its year-long season, as well as Cinderella Chef Season 3 [Foreign Language]. We will release more premium projects in the second half of the year. In terms of comics, our projects are well on track, and more products will be presented to users in the second half. And in terms of the commercialization of IP, we continue to build up and strengthen our infrastructure capabilities, shortening the conversion time from IP to offline products, expanding the number of IP and the product types, and achieving breakthroughs in theme, product style and the design. We focus on opportunities in consumer goods, fashion toys and offline retail. We achieved initial success by working together with upstream and downstream partners in the industry. For example, a single edition of toy sculptures of the theme character "Medusa" from Battle Through The Heavens sold out immediately after the pre-sale launch with a GMV of RMB 5 million. In the future, we will develop theme characters and merchandise adapted from more IP such as Joy Of Life, Lord of the Mysteries, The King's Avatar and Candle in the Tomb, and offer joint promotion for the launch of drama series, film, animation, comics, games and other content. So in general, despite all these challenges, we still hold a very positive view on the long-term strategy and the long-term prospects of China Literature.