51Talk Online Education Group (COE) 2017 Q2 法說會逐字稿

Hello, ladies and gentlemen. Thank you for standing by for China Online Education Group's Second Quarter 2017 Earnings Conference Call. (Operator Instructions) Today's conference call is being recorded. (Operator Instructions)

I will now turn the call over to your host, Ms. Hanyu Liu, Investor Relations Manager for the company. Please go ahead, Hanyu.

Hello, everyone, and welcome to the Second Quarter 2017 Earnings Conference Call of China Online Education Group, also known as 51Talk. The company's results were issued via newswire services earlier today and are posted online. You can download the earnings press release and sign up for the company's distribution list by visiting the IR section of this website at ir. 51talk.com. On today's call, Mr. Jack Huang, our Chief Executive Officer; and Mr. Jimmy Lai, our Chief Financial Officer, will start with the prepared remarks. Our Chief Operating Officer, Mr. Liming Zhang, will also join in for the Q&A session letter.

Before we continue, please note that today's discussions 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 involve inherent risks and uncertainties. As such, the company's results may be materially different from the views expressed today. Further information regarding this and other risks and uncertainties is included in the company's Form 20-F 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.

Please also note that 51Talk's earnings press release and this conference call include discussions of unaudited GAAP financial information as well as unaudited non-GAAP financial measures. 51Talk's press release contains a reconciliation of the unaudited non-GAAP measures to the unaudited most directly comparable GAAP measures.

I will now turn the call over to our CEO, Jack Huang. Please go ahead.

Hello, everyone, and thank you for joining our quarterly earnings conference call today. We are pleased to report another quarter of solid progress on our stated initiatives. With strong year-over-year growth and our net revenues exceeding the high end of our guidance, we also saw a number of foreign teachers on our platform exceed 10,000 for the first time in the company's history, growing to about 12,600 at the end of the quarter, which is further proof of 51Talk's wide market appeal.

Rapidly expanding our K-12 student enrollment remains our most important growth driver. This program contributed 72% of gross billings in the quarter, up from 49% in the year-ago quarter. This swift growth continues to confirm the increasingly strong demand for our platform. As mentioned in the previous call, quality growth is our key theme this year. We continue to strengthen our technology infrastructure, reinforce our teacher training and enhance student service to further increase student satisfaction and the learning effectiveness.

Our investment in industry-leading technologies is paying off. Currently, over 95% of our active students use our proprietary next-generation technology, which delivers superior audio and video quality with extremely low latency. This is an improvement from about 50% since our last call. Leveraged by this best-in-class technology and our curriculum development capabilities, we started developing a new small class study format for K-12 students.

Towards the end of second quarter, we were able to successfully pilot this small class offering that allows small group of students to simultaneously study and interact with each other and the teacher. We believe that it can significantly widen our existing market reach for K-12 students. This small class offering is an exciting and a significant new addition to our portfolio. And we believe it will be a key component of our product offering alongside our one-on-one format.

With that, I will now turn the call over to our CFO, Jimmy Lai, who will talk about our key operating metrics and the financial results.

Thank you, Jack, and hello, everyone. Growing rapidly so as to capitalize on the enormous growth opportunities that lie ahead of us while at the same time improving the operating leverage of our operation, remain guiding directives for the company. I'm happy to report that our second quarter result shows continued progress on both fronts.

We reported another strong year-over-year growth in gross billings, which increased 82% versus last year. And our net revenue exceeded the high end of our guidance, growing 98% versus last year's second quarter result. We also saw continued improvement in our operating efficiency in the quarter, notably non-GAAP sales and marketing expenses as a percentage of gross billings fell to 43% from 56.6% in the year-ago period quarter.

I'm also very pleased to report that our net operating cash flow for the second quarter reached a record-high RMB 53 million. As we look into the second half of 2017, we are optimistic about the rollout of our small class offering as this bodes well for margin improvement, especially within our American Academy program, which currently have a lower gross -- lower margin proposition than our one-on-one offering taught by Filipino teachers. For the expansion of our American Academy program, our attention will be more on this format versus our existing one-on-one format.

With that said, for the second quarter of 2017, net revenue [for the quarter] RMB 191.8 million, a 97.9% increase from RMB 96.9 million for the same quarter last year. The increase was primarily attributed to an increase in the number of active students and to a lesser extent, an increase in average revenue per active students. The number of active students was 152,300, a 76% increase from 86,600 for the same quarter last year.

Cost of revenue was RMB 71.2 million, a 109% increase from RMB 34 million for the same quarter last year. The increase was primarily driven by an increase in total service fee paid to teachers due to the delivery of an increased number of paid lessons as well as increased cost per lesson with the expansion of Western teachers.

Gross profit was RMB 100.6 million (sic) [RMB 120.6 million], a 91.9% increase from RMB 62.8 million for the same quarter last year. Gross margin was 62.9% compared with 64.9% for the same quarter last year. The decrease was mainly related to more student in our American Academy program, which has a lower gross margin profile than our Filipino teacher-led study offering.

Total operating expenses were RMB 258.4 million, a 29.4% increase from RMB 199.7 million for the same quarter last year. The increase was mainly the result of increase in sales, marketing, product development and general and administrative expenses. Before I continue, I would like to remind everyone that our non-GAAP financial measure excludes share-based compensation expense. Total share-based compensation expenses were RMB 6.1 million for the second quarter 2017 compared to RMB 28.8 million in the year-ago period.

Excluding share-based compensation expenses, non-GAAP sales and marketing expenses were RMB 152.8 million, a 40.8% increase from RMB 108.5 million for the same quarter last year. The increase was mainly due to the higher expenses related to an increase in the number of sales and marketing personnel as well as a higher marketing and branding promotional expenses.

Non-GAAP product development expenses were RMB 51.9 million, a 72.5% increase from RMB 30.1 million for the same quarter last year. The increase was primarily the result of newly added technology and course development-related personnel to further strengthen technology platform and expand curriculum offering as well as technical services fee.

Non-GAAP general and administrative expenses were RMB 47.6 million, a 47.2% increase from RMB 32.4 million for the same quarter last year. The increase was primarily due to additional personnel necessary to support expanded operation as well as higher recruitment costs and costs related to the compliance and reporting obligation as a public company.

Loss from operation was RMB 137.8 million compared with RMB 136.9 million for the same quarter last year. Non-GAAP loss from operation was RMB 131.7 million compared with RMB 108.1 million for the same quarter last year. Because of the ongoing -- foregoing, net loss was RMB 139.3 million compared with 107 -- RMB 137.9 million for the same quarter last year. Non-GAAP net loss was RMB 133.2 million compared with RMB 109 million for the same quarter last year.

Basic and diluted net loss per ADS attributable to ordinary shareholders was RMB 6.90 compared with RMB 21.97 for the same quarter last year. Each ADS represents 15 Class A ordinary shares. Non-GAAP basic and diluted net loss per ADS attributable to ordinary shareholders was RMB 6.60 compared with RMB 18.40 for the same quarter last year.

As of June 30, 2017, the company had total cash, cash equivalents and time deposits of RMB 701.5 million compared with RMB 647 million as of December 31, 2016. The company had a deferred revenue, current and noncurrent, of RMB 988.2 million as of June 30, 2017, compared with RMB 687.1 million as of December 31, 2016.

For the third quarter of 2017, we currently expect net revenue to be between RMB 220 million to RMB 225 million, which would represent an increase of approximately 82% to 86% from RMB 121 million for the same quarter last year; and gross billing to be between RMB 350 million to RMB 360 million, which would represent an increase of approximately 50% to 54% from RMB 233.2 million for the same quarter last year. This outlook is based on current market conditions and reflects the company's current and preliminary estimate of the market, operating condition and customer demand, all of which are subject to change.

Now this will conclude our prepared remarks. We would now open the call to questions. Operator, please go ahead.

(Operator Instructions) The first question comes from Ivy Luo of Macquarie.

So I have about three questions here. The first one is regarding the gross profit margin, we see it like declined sequentially because you're saying there's higher percentage of the AA courses. So just wondering, what's the percentage of that when you're currently coming from our American Academy program? I remember in 1Q, it's around 16%. Also just want to know like what's the percentage right now? And what's the percent of teacher that is based in North America currently? And second question is related to our non-GAAP sales and marketing expense. It is about 44.6% -- 43% this quarter. Remembering management guided that it could go decline or drop like about 3 percentage points each quarter, just wondering what's the trend going forward because it kind of like slowed down a bit this quarter. And my last question is regarding the guidance. Can management give more color on like why our gross billing guidance like for 42%, 45% is significantly lower than our net revenue year-over-year growth guidance? Yes, that's my three questions.

Okay. Ivy, thank you for raising the questions. I will take the first two questions. And I'll have Liming and Jack to address the last question. Regarding the gross margin, as we said in the press release, the decline was primarily due to the increased percentage of American Academy. In terms of gross billings in Q2 2017, the reporting quarter, gross billing contribution from American Academy is approximately 20%. And if you look at the revenue, the net revenue percentage is probably around 18%. And because the American Academy, the teacher cost is more expensive and the price level is a -- so as a result, the gross margin is lower, actually significantly lower compared with the Filipino teachers. So the decline in gross margin is primarily due to this reason. Regarding the second question on sales and marketing efficiency, yes, we did say that our expectation is that kind of refined by 3%. But it's not each quarter going to be 3%. Like in Q2 this year, we spent a little bit more in the branding expenses in anticipation of the summer quarter. So we didn't reach the 3% efficiency improvement as we said we would. So it's going to fluctuate from quarter-to-quarter.

(foreign language)

Okay. Let me just translate Jack's remark. We've been saying that this year, our initiative, our direction is quality growth. Quality growth in many aspects means that we want to get more students come to the platform as a result of this service. And as a result, we will drive the word-of-mouth referral. So we are asking ourselves, people to spend a lot of time in the sales -- on the service. In short term, this might work a little bit counter clock against the gross billing growth. But we believe in the long term, this is a more healthy situation. So we have a short term -- in terms of gross billing, the short term not growing that fast. But we believe in the long term, this is better for the company.

Can I just follow up on that? So does that mean like after 3Q, we are going to see our revenue growth also slowing down to about like 52%, 55% level? Is that correct to say that?

Ivy, we really don't want to give out guidance beyond the next quarter.

(Operator Instructions) As there are no further questions now, I'd like to turn the call back over to the company for closing remarks.

Thank you once again for joining us today. If you have further questions, please feel free to contact 51Talk Investor Relations. So we have contact information provided on our website or The Piacente Group Investor Relations. Thank you.

Thank you, everybody.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.