Zhihu Inc. (ZH) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you for standing by and welcome to the Zhihu Inc. First Quarter 2023 Financial Results Conference Call. [Operator Instructions] Today's conference call is being recorded. At this time, I'd like to turn the conference over to Ms. [ Iris Liu ], IR Manager. Please go ahead, ma'am.

Thank you, operator. Hello, everyone. Welcome to our first quarter 2023 financial results conference call. Participants on today's call will include Mr. Zhou Yuan, Founder, Chairman, and Chief Executive Officer of Zhihu; Mr. Li Dahai, Chief Technology Officer; and Mr. Henry Sha, our Chief Financial Officer. Before we continue, please note that today's discussion will contain forward-looking statements made under the Safe harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements include inherent risk and uncertainties. As such, the company's results may be materially different from the views expressed today. Further information regarding these and other risks and uncertainties is included in the company's prospectus and other public filings as filed with the U.S. Securities and Exchange Commission. The company does not assume any obligation to update any forward-looking statements except as required under applicable law. During today's call, management will also discuss certain non-GAAP financial measures for comparison purpose only. For a definition of non-GAAP financial measures and a reconciliation of GAAP to non-GAAP financial results, please see the earnings release issued earlier today. In addition, a webcast replay of this conference call will be available on our website at ir.zhihu.com. I will now turn this call over to Mr. Henry Sha, CFO of Zhihu.

Thank you, Iris. I'm pleased to deliver today's opening remarks on behalf Mr. Zhou Yuan, Founder and CEO of Zhihu. Hello, everyone. Thank you for joining Zhihu's first quarter 2023 earnings call. We are delighted to start 2023 with a solid first quarter highlighted by sustained revenue growth and a significantly narrowed net loss, both beating the market consensus. While continuously expanding our user base over the past 2 years, we have also been closely following and capturing the evolving demand for short form online reading, including both knowledge sharing and novels. In addition to the various Yan Selection membership services, we launched a new app Yanyan Story in major app stores recently, to serve the broader users' content demand. As a part of Zhihu's product matrix, Yanyan Story will not only contain content generated from the Zhihu community, but also provide more differentiated content. Moreover, Yanyan Story will cover users from different tier cities and support more audio books, by offering more effective different content for content creators. Yan Selection has bounced into premium content paired with our widely recognized brand name, [ propelled ] the number of average monthly subscribing members to a record high of 14.9 million in the first quarter, representing 116% year-over-year and 14.5% sequential growth respectively. We also continued to advance our technological development during the quarter through a combination of internal initiatives and joint development efforts as we actively explore the possibilities and potential of revolutionary AI technology. Zhihu is now equipped with large language model technology that has 20 billion parameters. We launched our first large language model or LLM through AI in April aiming to enable our content creators to generate high quality content more efficiently. Additionally, our users may utilize our LLM memorization function to consume more content and accelerate their readings in a more enjoyable way. At the beginning of 2023, we optimized our organizational structure by combining advertising and accounts and commerce solutions for EPS to enhance the overall competence and operational efficiency of our combined marketing services business. This upgrade has empowered us to better utilize the resources within the Zhihu community and to provide our clients with more effective and comprehensive marketing solutions. As we optimize our marketing services business, I will personally spend more time on the segment and monetary execution. Starting from the recent months, we have already seen a revival of advertisers' engagement in e-commerce and 3C factors. We are confident that our marketing services will achieve sequential growth in the second quarter and a pickup of growth momentum in the second half of the year. Now let me move on to our users and content where we have made a remarkable progress especially in our short form content. In the first quarter, we continued to broaden our content coverage and deepen our penetration across our cornerstone verticals optimizing our content composition and format to better satisfy users evolving needs to use their fragmented time efficiently and obtain information quickly. To that end, we significantly upgraded our [ idea tab ] on app ,making it a short-form content improvement to complement the long-form knowledge-based content currently available in Zhihu's community. We also expanded our short-form content library to cover more lifestyle and consumption scenarios in response to users' needs. By upgrading an array of tools and functions such as the picture editor and video caption, among many others, we provided a more efficient scenario to inspire creativity for new content creation. This exciting progress in content successfully drove an increase in the number of users in our community driving our MAUs in March to more than 110 million. We achieved reacceleration in MAU growth in the first quarter and expect MAUs will grow up to 120 million within 2023 to mark another historical high. While we remain dedicated to further solidifying throughputs in leading position as a platform for users to discuss and exchange ideas, we are also looking for ways to enhance our offerings by incorporating AI technology within our community. At the Zhihu Discovery Conference in April, we introduced our AI strategy along with our first LLM, Zhihaitu AI. Through investment and a joint development effort, we are accelerating our progress in integrating AI technology across various applications' scenario throughout our ecosystem. The trending topic summary is our first trial AI function. By leveraging AI's language learning ability to collect thoughts and integrate answers, the trending topics summary is able to summarize answers and present them to our users in an intuitive and a clear manner. We are now opening this LLM summarization function to more users via the Zhihu mobile app. By further capitalizing on our unique advantages in both the data layer and the application layer, Zhihu is committed to becoming an important developer and ultimately a leading contributor to the industry's overall development in this area of AI technology. Next, our membership business. Driven by our premium content offerings and continuously expanding brand influence, our paid membership business grew rapidly during the quarter, delivering robust increases on both an annual and a sequential basis. Paid membership revenue for the first quarter increased by 105.2% year-over-year while average monthly subscribing members grew by 116% year-over-year to 14.9 million in this quarter. We streamlined content creation procedures to improve efficiency and enforce the community compliance to protect the content creators' rights and benefits. As a part of our multi-brand strategy, we launched our new app Yanyan Story, featuring numerous user favorite functions such as story search, audio books and recommended reading list. This new app will help us attract more memberships and subscribers to get into the Zhihu community while building a distinctive user base [ seeking ] for a more concentrated reading experience inside the Zhihu community cohort. We hope Yanyan's differentiated content will also penetrate the massive Internet users from Tier 2 and Tier 3 cities in China. Now moving on to our vocational training business. Revenue from vocational training business increased by 117.6% year-over-year to RMB 107 million in this quarter. We grew our footprint in the vocational training industry value chain by organic growth and business acquisition. To see the greater potential in the graduated students' entrance examination market, we recently completed the acquisition of MBA Master, a training institution specializing in preparation for MBA entrance examination in China. Completing the integration of MBA Master has further enhanced our industry competence with an improved business structure and enriched service offerings. Additionally, we continue to expand our vocational training services across major categories by developing programs that are in high demand in this evolving market including civil service examination ESG, judicial examination and story writing, among others. As I mentioned earlier, we are integrating AI technology into our course offerings as we look to enhance the overall quality and user experience. Encouraged by the positive feedback we have received on our first new AI empowered program, we will continue to deepen our exploration of innovative technologies. Before I conclude, I'd like to provide a brief update on our ESG efforts. We published our ESG annual report for 2022 last month presenting Zhihu's longstanding commitment to social responsibility. As a leading online content community in China, our top priority and greatest asset is and will always be our people; our employees, our content creators, our users and our society. Therefore, we strove to holistically improve our ecosystem for each of these stakeholders throughout 2022. With the initiatives including an upgraded leadership development system for employees, our high-end campaign 4.0 incentive plan for content creators, an array of programs to protect and serve our most vulnerable users including minors, those with disabilities and seniors. We also leveraged our wealth of knowledge content to promote childhood education, particularly in new areas as we believe education equality and the growth and development of China's young generations are critical to societal progress. Going forward, we will remain committed to our stakeholders, improving their lives as we seek new ways to create value for our society and our planet sustainably. Looking ahead to the rest of 2023, we will remain focused on both monetization and user growth. Marketing services and paid membership have become our major revenue drivers during our continued expansion of the vocational training business and an LLM development. We will further expand the discussion under such scenarios in the Zhihu community as we leverage our resources and refine experience to study and respond to the evolving needs thereby better serving both users and clients. Thanks to our organizational optimization and operational efficiency improvements, in the first quarter our non-GAAP net loss narrowed to RMB 120 million with adjusted net loss margin narrowed to 12.1%. We expect our business growth will continue accelerating and we are confident we will achieve 20% year-over-year increase in MAU as we strive to make innovative breakthroughs. We also believe our passion for progress and dedication will continue to empower our strength and resilience as we grow in this exciting and dynamic industry. This concludes Mr. Zhou Yuan's remarks. I will now turn to our financial details in the first quarter for review of our first quarter 2023 results. Please see our press release issued earlier today. We were excited to commence 2023 with a strong first quarter. Both our top line and bottom line beat the Street consensus while our operating cash flow turned positive for the first time since our initial public offering. Total revenue for the first quarter increased by 33.8% year-over-year to reach RMB 994.2 million effectively beating the market consensus. Our paid membership and vocational training services continued to exhibit robust growth during the quarter, increasing their contribution to total revenue to 46% and 11%, respectively. However, as a variety of macro factors continue to affect the overall online advertising market, advertising spending remained sluggish in the first quarter. To mitigate the impact, we optimized our organizational structure during the quarter enabling us to better utilizing our community resources and enhance our service capability by integrating brand advertisement and CCS. Starting from the first quarter, our advertising business is now combined with CCS into marketing services to align with our new strategy and upgrade the business structure. Our paid membership revenue for the quarter was RMB 454.8 million, up 105.2% year-over-year from RMB 221.7 million in the same period of 2022. Our average monthly subscribing members grew by 116% year-over-year to 14.9 million, which is a record high. Our appealing premium content and outstanding user experience continue to attract the broader user base even beyond our Zhihu community. The company’s marketing services revenue for the quarter was RMB 392.1 million. We are encouraged to see some recent signs of recovery in our marketing services in the recent months and we expect our marketing services business to gain faster recovery during the second half of this year. Our vocational training business revenue for the quarter reached RMB 107 million representing year-over-year increase of 170.6% from RMB 39.5 million in the same period of 2022. Moving forward, we will continue to enhance our service capabilities and advance our footprint in the industry through both organic growth and business acquisition. Gross profit for the first quarter increased by 52.7% year-over-year to RMB 512.2 million. Gross margin expanded to 51.5% from 45.1% in the same period of 2022, representing more than 6 percentage points expansion thanks to our enhanced monetization efforts and the improvement of our cloud services and bandwidth utilization efficiency. We were particularly happy to see our investment in research and development rewarded us with savings in cloud service utilization. Total operating expenses for the first quarter were RMB 729 million, down by 25.9% from RMB 983.7 million in the same period of 2022. Selling and marketing expenses decreased by 12% to RMB 445.6 million from RMB 506.6 million in the same period of 2022. The decrease was primarily due to our disciplined promotion spending and the decrease in salaries and welfare expenses for sales and marketing related personnel. In the meantime, the number of Zhihu MAUs recovered significantly to 110 million in March. We will remain dedicated to driving user growth through our ongoing content ecosystem first strategy. Research and development expenses increased to RMB 183 million from RMB 166.5 million in the same period of 2022. The increase was primarily attributable to the increase in salaries and welfare of research and development personnel as well as the increased expenditure in Zhihu's large language model training for this year's largest technology upgrades. Our large language model will gradually serve a broader user base in the Zhihu community going forward. General and administrative expenses decreased by 67.7% to RMB 100.4 million from RMB 310.6 million in the same period of 2022, primarily due to the lower share-based compensation expenses recognized and decrease in professional service fees. Benefiting from our ongoing operation efficiency improvements and cost control strategy, we greatly narrowed our net loss in Q1. Our GAAP net loss in the quarter was RMB 179 million narrowing by 17.9% year-over-year. Our adjusted net loss on a non-GAAP basis, which primarily excludes the share-based compensation expenses and amortization of intangible assets resulting from business acquisitions, was RMB 120.2 million for the first quarter, down by 67.3% from the same period of last year with an adjusted net loss margin of 12.1%. In this quarter we generated RMB 59.9 million operating cash flow marking the first time we have achieved positive operating cash flow since our IPO. This milestone demonstrates Zhihu’s revenue diversification and business model and similarly generate positive cash flow from its operations and represents an additional step towards becoming a profitable company. Now moving to our balance sheet. As of March 31, 2023 the company had cash and cash equivalents, term deposits and short-term investments of approximately RMB 6,258 million compared with RMB 6,262 million as of December 31, 2022. Also as of March 31, 2023, we have repurchased approximately 6.9 million Class A ordinary shares at an aggregate price of USD 17.8 million. This concludes my prepared remarks on our financial performance for this quarter. Let's turn the call over to the operator for the Q&A section. Thank you.

[Operator Instructions] And the first question comes from Vicky Wei with Citi.

[Foreign Language] Congrats on a stronger than expected quarter. Will management share some color on the company AIGC technology strategy and how should we think of the AI investment and the future monetization potential?

I think your AIGC related strategy questions will be answered by our Chief Technology Officer and I will help answer your question about the budget.

[Foreign Language] [Interpreted] This is Li Dahai, CTO of the company, to answer your question. Zhihu is having unique positioning in terms of Chinese based database in China and we are uniquely positioned in the artificial intelligence revolution in China especially in a lot of different verticals for professional content accumulation. Zhihu is open minded towards AI revolution and in early April we have released Zhihaitu AI, our large language model. We released Zhihaitu AI through both internal investment and strong development with other companies. These have largely enhanced our speed of development and also brought along team and knowledge flow between different teams. Now we are having about 20 billion parameters in terms of our related LLM and we are planning to reach about 100 billion parameters for our large language model towards the end of this year.

Vicky, your second question about our investment in this area. Still I think we are in the progress of doing the new plan for this large language model training. This is one of the most important technology development projects for this year. But I think the impact on the P&L will be no more than RMB 300 million. [indiscernible]

And the next question comes from Steve Qu with Goldman Sachs.

[Foreign Language] Congrats on the positive operating cash flow as well as the MAU crossing the 110 million milestone. Could you please share with you the driving forces behind our strong MAU growth as well as our strategy and changes in user behavior and your outlook for the future MAU growth?

[Foreign Language] [Interpreted] This is Zhou Yuan, CEO of the company. In the past year, we have made a lot of remarkable progress in terms of content ecosystem first strategy. This also helped us to grow our MAU through a robust growth and during the first quarter of this year, MAU has also experienced steady growth. [Foreign Language]

I will help translate Mr. Zhou Yuan's answer to you. So first one that our user acquisition strategy was executed well. The efficiency of the user acquisition improved in the past quarter. And second, we have some like adjustment on the product and on the content as I presented during the remarks in the call before. We are now focusing on the short form content as you may know. So we have a very large base of the long form knowledge language and now we are going to provide more short form content, which is very welcomed by our users. Third one that we are now focusing on the people within the age between 18 to 35 years, in maybe Tier 1, 2, 3 cities in China. This large group of users we estimated will be around like 300 million or 400 million people population. That's a large potential for us. Lastly, but importantly, we believe the AI driven technology, the large language model technology will be applied to more scenarios on Zhihu's mobile app. We believe will help improve our user experience and drove our user growth going forward. Thanks for the question. And back to your question about the user behavior changing and the reason. I have some numbers to be shared with you. The first one about the user engagement and user time spent on our mobile app has been unchanged in comparison with Q4 last year. We're still between 27 to 28 minutes during the day. And our membership, the people who subscribing our membership spend even more longer time like 50 minutes per user per day. This is my answer to your question.

[Foreign Language]

So the users beyond 30 years old is growing the cohort according to our internal statistics. And the second is the female users is also increasing in terms of the percentage of the total user cohort. That answers your question.

And the next question comes from Xueqing Zhang with CICC.

[Foreign Language] Could management share with us the recovery progress of marketing venues? What time does management expects to return to positive growth? And we noticed that the revenue from advertising and CCS has been merged into the marketing services business this quarter. So just wondering the company's consideration for the adjustment?