KRAFTON, Inc. (A259960) Earnings Call Transcript & Summary

[Foreign Language] Good afternoon. This is Claire Lee from KRAFTON's IR team. I first thank the investors and analysts for taking part in our Q1 2022 earnings release session. Please note that the results presented today are based on consolidated tentative numbers and is based on K-IFRS and could be subject to changes upon an independent auditor's review. First, CFO, Dong-geun Bae, will brief us on major business and financial results.

[Interpreted] Good afternoon. This is CFO, Dong-geun Bae. Q1 2022 marks the fifth anniversary of PUBG PC launch and third anniversary of Mobile launch. To expand the game life cycle, we have given a lot of thought to enhance user bases and loyalty, differentiated content and strengthen profit this quarter. Despite the -- a very difficult-to-predict business conditions, KRAFTON's accumulated development capabilities and live service know-how shown through. And as a result, consolidated revenue recorded the best ever quarterly number. KRAFTON's business is still growing and evolving. Our quarterly operating profit now exceeds yearly operating profit of 2018. Going forward, KRAFTON will further cement the growth of PUBG and expedite our efforts to introduce a second global mega IP. Investors and analysts who support KRAFTON, such challenge and beliefs, members of KRAFTON and in the studios who dedicate their passion and efforts, I sincerely thank you all. Now I will present to you the details of our major business results. PC and Console transition to free-to-play this January greatly influenced new user attraction and also the return of existing users. In the case of returning users, a significant number of users who were dormant for over 120 days have returned with our measures. This is quite encouraging. With that, PC and Console MAU traffic has almost tripled compared to the previous quarter and paying users have more than doubled. After the free service, new users have soft-landed and we are continuing various challenges to expand user bases. We aim to create a recognition that PUBG is created together with the users. The recent restoration of large version of Sanhok [indiscernible] was well received by the users. Large-scale new map Kiki is scheduled for the third quarter, and Vikendi map renewal is to be readied by the end of the year. Robust large-scale updates and continued collaboration and event modes will continue. In terms of revenue, the growth-type weapon skin that was launched last year and Your Shop has established themselves as a stable revenue source. The growth momentum will continue in the second half with the addition of new profit models. Now on the results of the mobile business. Our IP collaboration with the movie, Spider-Man, in January led to increase in average traffic and new user traction. The IP collaboration with Lamborghini at the end of March clearly showed that collaboration with supercars is still well received by the users. To mark the fourth anniversary effect-enhancing items and growth-type skin upgrade level expansion were introduced and received positive responses. The newly adopted visual production and effect this year will present new gameplay to PUBG Mobile users and add fun in personalization. Battlegrounds Mobile India, or BGMI, stood out in mobile this quarter. With KRAFTON, directly servicing India, we are successfully pursuing a localization strategy. QuickVoice with the voice of a famous local influencer proved effective. And the INR 10 goods for price-sensitive Indian users are some localization strategy examples. With these approaches, profitability indices such as paying users are rapidly growing, and we expect to see the best revenue in April since the BGMI relaunch. The game addiction prevention [indiscernible] campaign that BGMI launched in India has received 6 prizes in international advertisement competitions. We proved that KRAFTON basically fulfills corporate social responsibility. Our strategic partnership investment in capable IT and media companies in India has led to more than 500 direct and indirect employment in the past year. KRAFTON is not a simple game company in India. KRAFTON has become a household name and as a game industry leader is contributing to local game and eSports industry development. An aggressive repositioning effort for NEW STATE Mobile in Q1 led to positive results from communities and in user loyalty indices. With that, per person play time in Q1 increased 34% Q-o-Q and per person play count has increased 37% Q-o-Q. A new map update is being readied for the summer high season. We are preparing so that the users will feel a new type of Battle Royale. NEW STATE will present to the global audience, a thrilling experience for both experienced and new users in a single session where everyone can enjoy. Now on our new titles and new business researches. This year, we expect launches of multi-platform bound new titles of genres that are popular in the West that has been developed in 2 AAA independent studios located in North America. Project M from Unknown Worlds is expecting a launch in the second half, as is The Callisto Protocol by Striking Distance. The 2 new titles have focused on quality and mobility and profit model improvement and have shown clear results. Launch marketing will begin in earnest for The Callisto Protocol with date announcement. It is one of the most anticipated titles in the global market. From the marketing stage onwards, analysts and investors will recognize the difference of a AAA game launch from a North American studio in both scale and hype. Special Project 2 that started in 2020 April, is an experimental project incubating organization based on deep learning and seeks new [ gamephony ] and new user experience. 2 titles in Batch 1, Wish Talk and Foonda, are currently undergoing a public test on Steam platform. There are currently 3 batches running and Batch 1 was fresh to start. Users and [indiscernible] that uses deep learning language model becomes friends and searches hidden stories in Wish Talk. It is attracting social simulation game that allows free conversation. FOONDA is a social puzzle game that provides infinite puzzles created by AI. This is the first of its kind in the world. AI Nanda creates maps on a real-time basis and new maps are continuously created according to how the user solved the puzzle in the previous map. Such deep learning game technology is still in its infancy but will be applied to real games in various ways in the near future. Such deep learning technology could lessen game production time and labor cost, but more than that, it will provide new fun that we have never experienced before. It will allow the creation of an innovative game IP and the birth of new genres. It will give gamers an immersive game experience that evolves according to user response and play patterns. Lastly, as for the Web 3.0 Metaverse platform announced last February, we are currently in the process of establishing a joint venture with NAVER Z that operates ZEPETO. A 50% strong separate team comprised of in-house talent who have been researching NFT and unreal engine specialists who have developed various titles, including Battleground, is developing mini-games and sandbox editing tool that could run it. We aim for an alpha test in Q1 '23. And with that, we'll -- in earnest introduce a create-to-earn ecosystem that we strive for.

[Foreign Language] That completes our presentation on major business results. And now we'll move on to talk about our financial results for Q1 2022.

[Interpreted] Yes. The aforementioned business results are [indiscernible] to our financial results as well. Yes. First, I will brief you on our revenue. On a consolidated basis, our Q1 revenue increased Q-on-Q 18%, Y-o-Y 14% at KRW 523.0 billion. If I may talk about our PC business first, our consolidated revenue in Q1 recorded KRW 106.1 billion, which is a 61% increase Y-o-Y. The Starter Pack that was launched after free-to-play and also the compensation package and free G-Coins had their influence on the numbers. However, even with those influences, our PC business recorded a revenue number of around KRW 100 billion and recorded a 61% growth rate over the previous year. However, if we may compare this to our previous quarter numbers because of the free G-Coin usage increase, our revenue numbers show a slight decrease on a Q-o-Q basis, but this is a temporary thing. And with the free G-Coins being digested and with more payments taking place, we believe that our revenue numbers will expand going forward. Now on our Mobile section. On a consolidated basis, Q1 revenue for Mobile increased 30% Q-on-Q and 5% Y-o-Y at KRW 395.9 billion. While COVID-19 has been -- become a new norm nowadays and the traffic accordingly shows more signs of stability. And based on our sturdy live service basis for PUBG and thanks to our efforts to enhance user interest and loyalty, our revenue for mobile has increased both on a Q-o-Q and a Y-o-Y basis. And in particular, for BGMI, we have targeted a tailored products targeting both the low-paying users and the high-paying users. And these introductions gained a lot of attraction and surrounding or centering around the high-brow loyal users, we are seeing our revenue numbers rapidly increase. Now on our Console business, on a consolidated basis, our revenue from console recorded KRW 15 billion. It's a 124% increase Q-o-Q and 274% increase Y-o-Y. And with transition to free-play, we saw Console traffic for PUBG increase very rapidly. And with the increasing effect of Unknown Worlds that was included starting December last year, we saw the number increased both on a Q-o-Q basis and on Y-o-Y basis. And lastly, for other revenues, well, due to the lack of large-scale e-sports events, we saw the number decreased 70% on a Q-o-Q basis, 51% on a Y-o-Y basis, standing at KRW 5.9 billion. Now I will talk about our consolidated operating expenses and operating profit. In Q1, our operating expense was decreased KRW 190 billion over the previous quarter and KRW 22.7 billion over the previous year at KRW 211.1 billion. If I may talk about our labor cost first, with the growth of our business, we saw our headcount grow. And with the consolidation of our subsidiary, we saw the labor cost increase KRW 15.7 billion compared to the previous quarter. And on a yearly basis, it saw a rise by KRW 25.8 billion. After the merger of PUBG and KRAFTON, the people who were entitled to incentives increase. And with that, we saw a rise in the number. As for apps, commissions and fees and COGS, with the-free play for PC services, we saw this number decreased KRW 6.1 billion over the previous quarter. But on a year basis, with PC revenue and enough publishing lineup increase, we saw the number increase by KRW 15.8 billion. Now on fees and commissions paid. We had 2 global eSports events, PGI.S and PGC taking place in the first quarter and the fourth quarter last year. However, this first quarter, we did not have this event and related cost or expense has seen a decrease. So on a quarterly basis, we saw a decrease by KRW 62.1 billion. And on a Y-o-Y basis, we saw a decrease by KRW 20.2 billion. As for advertisement and promotions, well, with free-play for PC and Console and with the launch of new games in the previous quarter, well the largely executed marketing expenses were eliminated. And with that, our number compared to the previous quarter, decreased by KRW 28.9 billion. And on a Y-o-Y basis, we saw increase by KRW 10 billion. As for stock compensation cost, well, in the last quarter, we had the one-off costs related to [ share graph ] for employees. And with the share price decrease at the earlier part of this year, we saw a reversal effect. So compared to the previous quarter, well, the number changed by KRW 112.2 billion and on a Y-o-Y basis, the number decreased by KRW 63.3 billion with KRW 53.2 billion. So in conclusion, Q1 OP, well, thanks to our normalization of cost that was supported by a strong revenue and sales number, well the OP number grew 626% Q-o-Q. And on a Y-o-Y basis, the growth was at 37%, recording KRW 311.9 billion. Lastly, our net profit for Q1. On a Q-o-Q basis, it was the growth of 3,830% and on a Y-o-Y basis, it was a growth by 26% at KRW 245.2 billion.

[Foreign Language] That concludes our presentation on 2022 Q1 results. Now we will entertain your questions. Due to time constraint, we will be receiving 2 questions per person.

[Foreign Language] [Operator Instructions] The first question will be provided by Soyun Shin from Credit Suisse.

[Interpreted] Yes, I have 2 questions. First is on your PUBG business. Well, I believe that your Mobile business has grown largely thanks to your PUBG title. And you've mentioned your stellar performance in India. What about the other regions? Well, were there other players when it comes to PUBG Mobile? And could you talk about those regions Q-on-Q growth? And I believe that traditionally, Q2 is a low season for PUBG. And even including the low seasonality effect, would you be seeing further growth when it comes to PUBG title in terms of profitability? And now on to my second question, you did mention your new projects, including Project M and Callisto Project? And what is the level of expected profit from these new projects?

[Interpreted] Yes. If I may address your question. Well, you talked about which region performed better. Well, PUBG Mobile, we service it on a global basis, and there were no real differences in terms of performance according to geographies. So all regions that we are present in grew as we have expected. So all the regions met our expectation. However, it was -- as was mentioned during my presentation, we saw quite good, a strong growth in India with BGMI. And then the first quarter is the high season for China, China also gave us good results. And your second part, PUBG related question, can it grow further given that Q2 is rather low season for PUBG. Well, we do believe that's possible. We are looking at tentative April numbers and the numbers are quite promising. BGMI ones -- is doing quite well. And we are also paying close attention to user traffic. And we have built a very -- many years of experience with our PUBG title in servicing it. And our revenue, it really hinges on how we collaborate with major international brands and what kind of events that we engage in and what kind of growth items we could introduce to our users and how much these new offerings will appeal to a tentative audience and this will really create the numbers that we desire. And well, we will be continuously introducing these interesting products or offerings to our users. And in the second half, we are going to introduce a large-scale upgrade to our skin for the mobile platform. And we are thinking of further collaboration with supercar brands. And I cannot give you any specific brand names here, but we do have plans for further collaboration with international brands. And we are also thinking of having a virtual concert with Korean pop groups or Korean idols. So with all these activities in place, as you have mentioned in your question, we do see the possibility of PUBG title further improving. Yes. And now on to the last part of your question, which was related to our new projects, including Project M and Callisto. Well, I don't think I could give you any revenue-wise guidance here. I'm not in the position to give you any number-wise answer. But well, many studios, many companies talk about working with a AAA studio. That's their talk, that's their position. But KRAFTON, on the other hand, we are currently working with AAA students -- studios, and there will be 2 titles presented from such studios in the later half year. And I believe that as the analyst, you can do the calculations or you have the estimate on how much the Console packages itself for AAA products. So I dare say that we have big expectations for Callisto projects, and it's definitely a AAA title style launch. And we also have high expectations for Project M. It's from a AAA studio and it would provide the users with a very new game mobility. It's quite experimental. And if things go well, it could have great ripple effects in the market. So rather than talking about actual concrete figures, well, this is what I can tell you. It's a AAA studio title. And for the last few years, there has not being much of an introduction of such titles of even in the U.S. larger -- from even the larger U.S. studios due to the lockdown and also with the work-from-home policies implemented. So this is a real rare thing to come to the market. So we will be introducing 2 new titles from a North American studio, AAA studio. And we're getting active support from even the platform. So they have tested our offering, and they have expressed their expectations for them as well.

[Foreign Language] The following question will be presented by Stanley Yang from JPMorgan.

[Interpreted] Yes. My first question is related to Peacekeeper Elite China. What is the general trend for Peacekeeper Elite in the second quarter? Is it generating stable revenue? And you also talked about real estate repositioning and how it has led to the traffic increase. And has this traffic increase actually translated into revenue contribution as well? And if so, when was the contribution effect felt and how big was the effect? And my other question is to NEW STATE. Well, how much revenue contribution is this title bringing to you? How much has it brought in the first quarter?

[Interpreted] Yes. To address your first question, which was on Peacekeeper Elite. Well, please understand that we do not disclose per game revenue nor fees or commission. We also do not give out per publisher revenue nor fees. So I think it's best if Tencent would answer this question. Now to address your NEW STATE repositioning related question. Well, when we first introduced the title, we had big expectations it -- for it, but we weren't able to retain as much as we would have liked it. So we have to work on improving our retention rate. So we worked on core game mobility repositioning in the first quarter. And with that, we wanted to improve and restore user indices. So rather than working on how we could max our revenue, we worked on the restoration or the recovery of user indices. We wanted to ready the NEW STATE so that at PUBG or Battle Royale or PUBG loyal customers could really enjoy this title. So I believe the revenue will see a pickup starting July because we would be working on a new Battle Royale rule set. So the introduction will be some around July. And with that, we do expect to see dramatic changes. But once again, it would be in the high season during the summer holidays. So there will be map updates and also mass marketing activities that will follow. So real tangible results, we do expect to see them somewhere around July. And you wanted to know the revenue contribution from NEW STATE. Once again not disclose the title-wise numbers. So please, I ask for your understanding once again. But NEW STATE introduction was in the fourth quarter, and I can safely say that the numbers that we witnessed in the first quarter was quite similar to what we saw last quarter.

[Foreign Language] The following question will be presented by [ Jingu Kim ] from Kim Securities.

[Interpreted] Yes. My first question, after free-to-play transition, you have mentioned that you have seen a lot of new users that come to play your game. How have they been retained? And how will you see monetization or how would you get them to pay, the new users. And when will the new user payment really push up your PC revenue? So this is my first question. My second question is related to your Indian operation. You did talk about the success of BGMI, and also the success of your Mobile in the Indian market. So could you disclose some more information on your Indian performance number-wise? And while you talked about the growth potential in the Indian market and how much contribution from the Indian market would be to your revenue? And now thirdly, on your cost side, well, you did talk about your stock compensation. And well, how will this number influence your quarterly numbers?

[Interpreted] Yes. Your first question was related to user retention. Well, we have not studied with core comparison or so forth. But during our IPO, we did mention you the monthly average user number of somewhere around 7 million to 8 million. And with free-to-play, we did mention [ some of you ] a threefold increase. And with that, I believe that you could do your calculation on the type of MAU scale up. And we did not just [indiscernible] free-to-play. We wanted to introduce -- well we wanted to induce more new players to join this title. And while Battlegrounds, it was seen as a hard core game title for the PC platform and also the Console platform. And with the introduction of free-to-play, we wanted to have the new players come and join us. And then also, we wanted to attract them to a soft landing. And those of you who play games may know this, but we have readied a tutorial for the new players as well as AI training sessions and so forth so that the new players, the new users would stay longer with our titles and not be frustrated. And you asked also when we expect the PC revenue to really pick up. Well, we've readied the foundation another leap forward with our revenue with the reduction of free-to-play. And from the PC platform perspective, we see our user pool or user bases increase. And we've been working initially with character skins and after live service, we have also introduced last year growth-type skin, and this had stepped up our revenue numbers. And well, once again, we have readied the revenue growth basis with the enhancement of our overall user bases. And last year, it was not only the growth-type skin that we've introduced enhance our ultimate results. We also introduced new weapons and we also introduced unexpected plans such as vehicles and other tools. So we have readied once again a large user with free-to-play and how to actually translate this into our revenue using various revenue business models, well, you'll see. And lastly, to address your India-related question, how much of a revenue contribution is from the Indian market and how much of an expectation do we have from the Indian market. Well, the I can say that BGMI's growth is at a high single digit of a larger pie. And as you're well aware of, India's ARPU, it's relatively lower compared to other regions but with a well-executed localization strategy, we are seeing the financial results also being improved. I cannot give you any percentage-wise number here. But well, it's certainly improving and I can safely state with our services, well, our ARPU is growing at a 2-digit number. And how long can this trend last? Well, compared to advanced or mature markets, well, there is still much room for growth in India, but I cannot pinpoint or say for certain how long this growth trajectory will continue. However, I can say that we have high expectations for the market, and we do expect the revenue number to double. And your last question was on the stock compensation and our guidance. Well, I don't think I'm in a position to give you this compensation related guidance. Well, because everything hinges on the share price of KRAFTON. So should you give us the expected share price of KRAFTON as analysts and I could do the reverse calculation [indiscernible]. So all in all, it's much hinges on our stock price in the future. And it's not us that do the calculation we enlist the help of an external evaluating organization and the date of the calculation on the share price to be applied and over what term. So you -- many people are quite interested in how much we will be paying out in terms of stock compensation per quarter, and you would also like to know what normalized level of payment would be but while we have no idea where our share prices will be going. And we do some simulation in-house and with our simulation, we believe that the stock compensation would be under KRW 100 billion.

[Interpreted] Due to time constraint, we would entertain one last question.

[Foreign Language] The last question will be presented by Dong Hwan Oh from Samsung Securities.

[Interpreted] My question is related to your cost. Well, on the stock compensation side, you talked about spending under KRW 100 billion per year. And does this KRW 100 billion include the reverse number that you've mentioned for the first quarter? Or is it based on your assumption that the current stock price will continue for the some time being? And my second question is related to your app fee. Well, you've mentioned the decrease in app fee. Is it because of your free-to-play policy that the fee has gone down? Or is it because of your growth in the Chinese business that you see the app fee go down? This is my first question. And my second question is related to eSports related fees. But with normalization and reopening of eSports events, do you think -- how much do you think this fee would increase?

[Interpreted] So if you may recall, our share prices, it really peaked in November and start dropping since December, and the drop continued until the early part of this year, and we ran our simulation at the end of December. So you can say that the -- it had -- the influence has been -- the dropping influence has been included in our estimate of under KRW 100 billion. And the share price, as you know, has dropped even further, leading to a reversal in Q1. And now to address your second question related to the decrease in our app fee. Well, it's because of a multitude of reasons. Well, if you look at our PUBG PC performance in Q1, well it did see an increase on a Y-o-Y basis. But compared to the previous quarter, we actually saw a decrease mainly due to the free coins that were issued. And this was one of the influences. And for BGMI, there is a third-party settlement other than Google and Apple. And this type of settlement goes by a different market fee structure. So that is another reason. And well, did the app fee have anything to do with our performance in China, well, I'm not sure. Yes. So eSports events, they have become normalized once again. Last year was an abnormal year. The year before that, we had to cancel our events because of COVID. Last year, we had 2 large events take place. But now things are back to normal cycle. So our spending would be comparably lower than last year. And on a yearly basis, that will be somewhere around KRW 50 billion to KRW 60 billion.

[Foreign Language] Yes, this concludes our Q1 2022 earnings release session. Thank you, everybody, for taking time in our session. Thank you. [Portions of this transcript that are marked [Interpreted] were spoken by an interpreter present on the live call.]