NetDragon Websoft Holdings Limited (777) Earnings Call Transcript & Summary

Good morning. Thank you for joining us for our NetDragon Websoft Holdings Limited today for our 2024 interim result presentation. We also live-streamed it on Roche China, Futu and Tiger platform. Presentation PowerPoint is currently available under the webcast, News and Event tab on NetDragon's IR website. If investors on webcast wish to raise question, please feel free to enter your questions in the text box. Management will answer your questions during the Q&A section. [Foreign Language] Good morning. Thank you for joining us for our NetDragon Websoft Holdings Limited today for our 2024 interim result presentation. [Foreign Language] First, please allow me to introduce the management who are joining us today. [Foreign Language] Dr. Simon Leung, Group Vice Chairman and Executive Director; Mr. Ben Yam, Group CFO; Mr. Lin Chen, Group Senior Vice President. Now please allow me to pass the time to Dr. Simon Leung. [Foreign Language]

[Foreign Language] Okay. Thank you. Let me see [Foreign Language] good morning. No, no, no, that's not what I was expecting. Sorry, you have to get you working on a Friday, I guess. But anyway, it's good to be here. It's actually -- I'm going to take you through some so-called highlights. It's going to -- well, it's an eventful year for us. It's actually some challenges, some headwinds. But nonetheless, there's a lot of opportunity ahead of us. So from a company standpoint, from a management standpoint and for the Board, we're as optimistic and enthusiastic as before. But that said, we need to hunger down and work on some of the issues. So I'm going to go through that -- some of that today. Now before I do that, I need to remind everybody is like the education company, Mynd.ai is a separately listed company on the New York Stock Exchange under a very different governance. Even though we own a big chunk of the company, we have a separate board running it. It's listed on the U.S. It's actually under the governance of the New York Stock Exchange rules. So I can only talk about it in kind of directional -- with directional comments. I cannot go into the details because I'm the non-Executive Chairman of the company. In anticipation of that, actually, we're going to arrange a separate capital day for everybody to call in and ask the management team very specific questions about -- what are the challenges? What are the opportunities going forward, okay? With that, some of you or most of you are very familiar with the agenda, so I'm not going to say anything. So just hit some of the highlights. I'm not going to go into detail. For gaming, the good news is actually we are growing. Actually, we have some short-term challenges, which Lin Chen will talk about. We have a lot of them addressed already. Some of them like forex exchange issue is something that we cannot do. And then don't forget the worldwide economy is actually is under some interesting, I would say, transformation from that standpoint. But I guess the good news is actually there's a -- there's a new game called Wukong that came out that's kind of like a shot in the arm, not only for China but also for around the world. I happen to be on the Board of Directors of a Swedish gaming company. So a lot of people are talking about it. They are very enthusiastic about the gaming business going forward. Okay. On the Mynd side, its actually, like I said before, we're seeing some headwinds. For example, like inflation is actually hitting the U.S. As you may or may not know, U.S. is our largest market in education. So we're dealing with that. So -- and Europe is actually -- we are also seeing economic downturn. I mean you've been reading the news with the war in Ukraine and with Russia and all that stuff. But the good news is actually we are growing in places like Germany. So that's -- I can delve a little bit more into the detail later on. The other good news is that we're working on improving a lot of our metrics, for example, like our cost, our margin, everything. Ben is going to highlight it at a very high level. Again, the upcoming capital days for Mynd.ai, we will go into much more detail. Last but not least, for education. I think with the advent of AI, with challenges, with inflation and everything and schools around the world or school districts around the world are looking for opportunities to, number one, to enhance the productivity of the teachers and maybe also for the students, so that allow us to create services that we can help them out. So SaaS is going to be a term that you're going to be hearing a lot going forward. It's actually, we also point term called CaaS, which is actually Classroom-as-a-Service because it's of what we have. I can assure you we have a lot of activities going on to address that issue. But unfortunately, a lot of them are work in progress. I cannot disclose a lot of the activities that we are doing. We are very confident about moving from a pure hardware play into really a hardware and services plan. Our biggest asset in education with Mynd.ai is a 1.5 million classroom around the world, and we keep adding to it every year. So with that, I'm going to tee it up. I think Ben is going to spend a couple of minutes to go through the financials and then followed by Lin Chen. I will come back and talk a little bit more about Mynd.ai, and then we'll give you a view of what we think in the next -- well, actually it's not 6 months, even though this is interim for the next few months and then how does it lead up to 2025, and then we open up for Q&A. Okay? Thank you.

Thank you, Simon. Good morning. All right. So I'm going to go through a couple of slides of financials. And as Simon mentioned, the first half is full of challenges and also opportunities. And specifically, I think we're seeing some challenges on the top line on the revenue side. But I think we've been doing a lot to manage sort of the bottom line. So I think we've done a lot of in terms of cost savings and also investment income, which really mitigate a lot of the decrease in revenue. So if I look at this overall P&L here, we're seeing stable Gaming and Application Services revenue. While Mynd.ai also experienced a decrease in revenue, and I'm going to go into that in the next slide with a little bit more details. But the good news, the positive news is that we're seeing an increase in the gross margin percentage from 62% to 66.6%. So we're seeing an increase in gross profit margin. And also on the overhead side, we are doing a lot of -- we're implementing a lot of the cost savings measures, a lot of measures to improve our operational efficiencies. So as you can see, for Selling And Marketing expenses, we're seeing a 20% decrease year-over-year in sales and marketing as we really try to optimize our sales force and also trying to use our resources more efficiently. And then if you look at admin expenses, it decreased a little bit sort of a smaller number, 3.3%. But if you exclude sort of the Singapore Learning Center operation that we acquired last year, that reduction in admin expense is actually about 11% year-over-year. And by the way, the Singapore operation is a positive EBITDA business. So just to put that on record. And then in terms of R&D, we're -- obviously, we'll continue to invest in R&D because we have to continue to put resources to develop new offerings in terms of gaming and also in education. And then on the bottom line, as I mentioned, we -- driven by sort of cost efficiencies and also partially by investment income, we're actually seeing a positive growth in EBITDA by 12.9% and also non-GAAP EBITDA as well is actually a larger 33% increase in EBITDA. And as well as profit before taxation also a 21% increase in profit before taxation. And if you look at sort of the net profit attributable to owners of the company, that's the sort of the Bloomberg number, right. So it's a decrease of 20% to RMB 400 million. But I want to point out that, I believe you guys can see this. There's actually a onetime deferred tax provision of roughly about USD 40 million, which we have to record in the first half. What that is, is really a provision on the deferred tax asset that we have to record on the books of Mynd.ai. The reason for recording that is because it's according to accounting principles, you have to record it just in case Mynd.ai does not have enough income to sort of offset the tax loss carried forward because that's what that is. That's tax loss carried forward, that actually can be carried forward for 7 years. So unless we can be profitable in the next 4 to 7 years, otherwise, we actually can reverse that provision in the future years. I think that's really a onetime non-cash non-operating item that you guys should take note as. If you exclude that item, our net profit actually increased by 24%. Actually, if I look forward a little bit, so if I look forward at the net profit figure for the full year, I think what we're looking at is actually our number, that's actually very much in line with many of the sell-side estimates and also the Bloomberg consensus. I think, I hope you guys can take note of that, that we're confident of the full year sort of the bottom-line performance. And then, on the balance sheet, I guess, I'll just highlight the cash balance. We want to include liquid investments as a cash and liquid investments as a more proper metric because we do invest in very liquid investments. We invested in some Ethereum and some of you guys would know, and we're actually sitting on a pretty profitable position right now on that. Yes, and so if you look at our cash and liquid investments balance as of the end of the first half its actually increased by 11% compared to the end of last year. Okay, so this is the segmental financial highlights. So first of all, the top line going through the Gaming & Application Service segment first. If you look at the gaming, it's a stable performance, a little bit slight 0.8% negative growth. I would attribute that to a couple of reasons. One is, and this is something that Lin Chen is going to highlight it. We had a little bit of a short-term issues on the overseas gaming side, and that led to sort of a material decrease in our overseas gaming. The second thing is that it's, I think the overall, the gaming spending, I think if you look at the industry gaming spending, looking at the research report, like the gamers actual report is first half is roughly about 2% growth for the entire gaming industry domestic. If you take out the mini games, it's actually a reduction of, I think it's 2.8%. I think it's a very stable performance for us in line with the market. We did not launch any new games in the first half. That's also part of the, what we have to consider and yes, I'll let Lin Chen go more into that. And then the gross margin decreased a little bit. I think that's mainly sort of a mix issue because gaming is a slightly lower percentage of the whole segment revenue so that led to a little bit of a lower gross margin. But if you look at the gaming gross margin per say, then it's actually pretty stable. And then. yes, on the SG&A side, I think it's pretty much in sync with what I just sort of highlighted in the last slide. We decreased our sales and marketing, and we decreased our admin expense. A lot of that is driven by sort of cost efficiencies, cost rationalization. What we did in the first half is actually we did a head count review, and we actually rationalized some of the headcounts, and in the meantime, also upscale our resources and our people. And then on the Mynd.ai side so I just—yes, on the Mynd.ai side I think we're seeing a 23.5% decrease in our revenue. I think there are a couple of factors, right? First is we're still seeing a lot of normalization of sort of the demand of the hardware sector because of the after the sort of the very large COVID funding that we saw in the past. I think that's one factor and the other factor is really sort of inflation, sort of also playing a role in that as well because inflation really affected teacher salaries, affected some of the recurring overhead of the schools, and that sort of squeezed the budget a little bit for some of our customers, and that affected our hardware revenue. I think the good news is that we're, honestly, we're not really focused on sort of hardware. I mean, yes, we are focused on hardware because that's our bread and butter from a revenue standpoint, but we're more really going, moving into sort of the software and service-based model. That's what Simon mentioned. This is something that we're really going to dive into that when Mynd.ai has its own Capital Markets Day. And therefore, gross margin side, we increased by 4.3 percentage points and I think that's, again, cost savings efficiencies. We experienced a decrease in the component cost, a lot of work on that. And also, we had a decrease in the freight cost. We also moved part of our contract manufacturing into Mexico, to reduce all of the tariffs and some of the savings. And also, we reduced our warranty expense as well. That's also part of the cost of goods sold. Because our failure rate actually is lower, so which is good. That's why we saw an increase in the gross margin percentage. And then on the SG&A side, Sales and Marketing decreased by 26% as we optimized our sales team while we continued to deepen the reach of our customer base, right. So, we're now reducing our sales force to get a lower revenue. We're reducing, we really rationalizing our sales force to get better revenue in the future. And therefore, like Admin expense, you'll notice that there's a 37.9% increase, which sounds a lot. Again, remember, we acquired the Singapore Learning Centre business last year, and that business actually contributed a lot of sort of admin expense. It's a positive EBITDA business, but it contributed a lot of admin expense. If you look at that line item individually, you're seeing a very large increase. If you exclude that Singapore operation item, sorry, the Singapore entity, that admin expense only increased by 11%. Hopefully, that sort of give you guys a clear picture of the segmental financials. And that's it for my part. I pass the stage to Lin Chen.

[Foreign Language]

What I'm going to do is actually go through Mynd.ai very quickly at high level. I think I'm not going to go into detail because it's actually Ben talked quite a bit about some of the numbers. But directionally, I'll tell you where we're going. So, I mean, we have some challenges in terms of the revenue, but the good news is actually a lot of metrics is actually up. It's actually I've another slide on it. So, what we are doing is actually we are optimizing everything and also be prepared for the future. So, it's actually -- this is actually our advantage. I said -- but the biggest one is still 1.5 million classrooms around the world. We're adding to it, not as the same pace. But I think one thing I'd like to mention very quickly is actually we have a new product coming out towards the end of the year. I can't go into detail, but that's actually very, very exciting and actually a very suited for where we are today and also go into the future in terms of services, in terms of embracing AI. So again, I mean, some of the metrics. Gross margin up is actually -- we are managing the sales and marketing expenses and EBITDA and all the good stuff. So -- but it's just like a life in a company, we need to manage this whether we are growing or we're facing headwinds. So just kind to sum it up is actually -- I mean, we do have some challenges, some headwinds, but we are continuing. We believe this is a tremendous market for us going forward. The fact that we have AI coming in with services, we will start to embrace. And that will only -- that will take us also outside the classroom and possibly into people's home for learning. So, to sum it up, is I think it's much better for us to have the management team of Mynd.ai to talk to all of you. So, we decided to do our Capital Days for Mynd.ai later on in the year. So, I'm sure you'll be hearing about it. Okay. Very quickly on the outlook. Actually, Lin Chen talked about the gaming already. So, we are excited because it's actually -- I think -- I mean, unfortunately, it's not our game, Wukong, but actually, that gives you a view of where the market is going. I think one of the things we talk about, and we've been doing it for a long time, and we did not highlight it well enough on gaming. It's actually global south in which a Middle East is actually is part of it. So, the fact that we've been in the Middle East for a while. And if you look at a lot of the activities, especially in Saudi Arabia, that's going to be -- that whole area is going to be an opportunity for us. Now not only for gaming, but also over to education. We're doing a lot of work. A couple of kind of comments on how we are addressing going forward in the education market. So, we're doing it the same way, which is actually organically, we grow organically, it means we're going to create our own product and do that. We're going to also do it inorganically, which is actually we'll find some other way whether we partner or we maybe do some acquisitions. So that's the direction. That's the strategy. So, it's not -- I'm not saying we will do some tomorrow. So, but that's what we're going to be doing. So, with that, just got to finish for the year, we are cautiously optimistic about both businesses but we have to be cautious and recognize there is some economic kind of challenges for the U.S. and also for Europe and also certainly for this part of the world. So, we are very cautious about how we approach the market to make sure we do all the right things for the business, both in the short term and also in the long term. With that, so why don't we open it up? So, what do we do? [Foreign Language]

Thank you Dr. Leung and management. Now it's time for our Q&A section. [Operator Instructions] [Foreign Language] Let's welcome our first question on the floor. [Foreign Language] Thanks for the presentation today. Regarding the team’s in-business segment, please elaborate how does NetDragon balance the need to attract and retain best employees, such as developers and testers, et cetera, ensure timely and consistent quality of game and upgrades? For example, meeting KPI, yet also keeping the salary competitive and not overpaying for talent. Thank you.

Well, that's a lot of question. How much time do we have? Like.. I think we need to spend the rest of the day tackling it.

[Foreign Language] So let me do this. So I'm going to talk about it in general, I have to apologize to the gentlemen, he is a gentleman who asked the question. So I think what we do is we'll summarize what Lin Chen has said and then we will send it to him. But in general, it's actually -- it's kind of like a dynamic process. We don't have a one set of rule addressing everything. So what he's saying is actually we're going to be looking for different people for different parts of our businesses. We want people to be creative, which is a core group, but we also need a lot of foot soldiers to help us to kind of implement what we want to do. I think the salary part is it's quite simple. We need to be market competitive, right? So actually we're going to have a mix of people in terms of skill set. And also, like, I mean, we want to give them meaningful job so they can be satisfied with what they're doing. So I want to bring AI back in here. I think that's part of the whole strategy. With AI, we can kind of have AI doing a lot of the less interesting job of -- repetitive job of everybody and allow people to focus on being more creative, being more entrepreneurial. So actually, that's kind of the overall direction. Again, not just for gaming but also for our other businesses, too.

[Foreign Language] Any questions from our floor? This concludes the presentation today. We wish you have a very good day today. Thank you very much. [Foreign Language]