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Executives

Michael Tao Song – Chairman and Chief Executive Officer

Carl Yeung – Chief Financial Officer

John Harmon – CCG Investor Relations

Analysts

Andy Yeung – Oppenheimer & Co.

Sky-mobi Limited (MOBI) F2Q13 Earnings Call November 12, 2012 8:00 AM ET

Operator

Good morning. My name is Felicia and I will be your conference operator today. At this time, I would like to welcome everyone to the Sky-mobi’s Second Quarter Fiscal Year 2013 Earnings conference call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. (Operator instructions).

Thank you. Ms. Harmon, you may begin your conference.

John Harmon

Thank you, operator. Good morning, and good evening everyone, and welcome to Sky-mobi’s Fiscal Second Quarter 2013 Earnings conference call. With us today are Sky-mobi’s Chairman and Chief Executive Officer, Mr. Michael Song, and Chief Financial Officer, Mr. Carl Yeung.

Before I turn the call over to Mr. Song, I would like to remind our listeners that in this call, management’s prepared remarks contain forward-looking statements, which are subject to risks and uncertainties, and management may make additional forward-looking statements in response to your questions. Therefore, the Company claims the protection of the Safe Harbor for forward-looking statements that is contained in the Private Securities Litigation Reform Act of 1995. Actual results may differ from those discussed today and therefore we refer you to a more detailed discussion of the risks and uncertainties in the Company’s filings with the Securities and Exchange Commission.

In addition, any projections as to the Company’s future performance represent management’s estimates as of today, Monday, November 12, 2012. Sky-mobi assumes no obligation to update these projections in the future as market conditions change.

To supplement its financial results presented in accordance with IFRS, management will make reference to certain non-IFRS financial measures, which the Company believe that provide additional information to understand Sky-mobi’s operating performance. A table reconciling non-IFRS financial measures to the nearest IFRS equivalent can be found in the earnings press release issued yesterday.

For those of you unable to listen to the entire call, a recording will be available via webcast at the company’s Investor Relations section of Sky-mobi’s website.

And now it’s my pleasure to turn the call over to Sky-mobi’s Chairman and CEO, Mr. Michael Song.

Michael Tao Song

Thank you, John. Welcome everyone, and thank you for joining us today to review our Fiscal Second Quarter 2013 results. We are pleased that our results came in within guidance. With the market transitioned to the mass market smartphones continue to accelerate and it is reasonable to expect that our feature phone revenue continue to decline, against the background, we have been able to increase our ARPU business and continued introduction of new social games.

More importantly, we are executing well in our plan to build 70% presence in smartphone market. We are putting the ecosystem in place to be one of the very sizable user-base which enable us to build a profitable business as this market is getting scaled. Our revenues for the third quarter were $22.3 million down about 19.3% year-over-year, with this trend feature phone market declined by about 30% or more year-over-year for the quarter.

Confirming that, we continued to outperform to the macro-market, app store downloads were $650,000 million downloaded by 22% year-over-year. Mobile community carrier independent revenue throughout the third party channels, including concurrency, increased by 14% to $5.9 million representing 26.3% of total revenue.

Beyond the feature phone revenue the primary business focus of Sky-mobi capture the growing mass consumer smartphone market. Our strategy is simple, to build a large-scale user traffic across the smartphone products and then monetize this traffic user again. The mainstream market of Chinese mobile users, often do not have regular access to a PC or a (inaudible), for these users their phone is their primary source of communication and entertainment.

This market is just starting to take off as the next generation of low-priced smartphone begin to hit the market. We expect that, the next few quarters we’ll see dramatic growth in this market and that we target. The new generation of low-priced smartphone in the RMB 300 to RMB 1000 range is scheduled to hit the market in volume around the Chinese New Year and accelerate in growth into the second quarter of next year.

We have positioned ourselves by building a comprehensive ecosystem around the specific players serving the mainstream mobile market. We now have partnership with 78 partners in place including mobile phone manufacturers, design houses, and distributors.

We are committed to pre-install our app store on their phones, this include a major player such as the Lenovo, [Genair], [Dovi] and et cetera. As a whole over 80% of handset manufacturer partner that worked with us in the past that are now producing low-cost smartphone are pre-installed on smartphone products.

Another important component in building our user traffic in addition to pre-installed is offline retail store. There are three main channel for the handset sales in China, namely carrier, large consumer electronic retailers and nationwide mobile phone retail chains. The 500,000 of household retail store located throughout china are (inaudible) for the over 60% of our handset sales. Well carrier retail capture about 14%. We are penetrating this offline network of retail partner who will enable us to position Sky-mobi directly at the point of scale, where we can enable consumer to directly load their new phone with app and games outside.

We’re expecting to make announcement in the near future on partnership with one of the largest and the most recognized electronic chains in China. And make way to 60% of Chinese handset sales which top mobile carrier to make way into the remaining 40 of the handset sales. With this retail footprint, we believe there are future possibilities around those online to offline model other than distributed apps including location-based e-commerce service.

As of today, we have successfully acquired 3 million smartphone users, we are using our app store and their number is growing. In September we are adding 20,000 users per day, by October we are adding 40,000 per day and in December we’re targeting over 100,000 new users per day. Our target is reaching the stable base of 20 million quickly. At which point we believe we are going to be one of top mobile application distributor in China, and it can begin to effectively monetize our user base, primarily through the mobile social games.

On the monetization side the games will continue to be primary way users are willing to spend money. Our mobile monetization model is one of combined [start] development and operate games with (inaudible) model with leading game developers as distributor, operator, a well [prom] model in PC game market.

We now have 150,000 apps available on our smartphone app store. With the new apps added every day, we found that there is a very high degree of interest from apps developers in beginning on our platform given our strong track record in app distribution and the payment, which generated over RMB 1.5 billion revenue, shared from our partners in the last five years. Expecting (inaudible) to realize this highlight smartphone (inaudible), 80% of our employee are now dedicated to smartphone opportunities, up from 60% in the previous quarter.

In summary, we believe that Sky-mobi doing the best position job of the transition from the feature phone to smartphone in China. We help you with a strong ecosystem to spot our position in smartphones and we (inaudible) press for the mass market to begin shipping in the December, January timeframe, which will expand the market. Moreover we expected a major (inaudible) in the app market where many current smartphone app store in China will leave the market. And we think the social game will begin the primary source of revenue. We believe our payment platform and the distribution, a major competitive advantage and we are building our game portfolio to drive revenue as these markets scales.

With that, we will turn the call over to Carl Yeung. He will discuss the fiscal and business overlook in more detail. Carl, please.

Carl Yeung

Yeah, thanks a lot Michael. As Michael commented Sky-mobi business model is currently in the state of transition, as the installed base of feature phones where we are the number one player, is being rapidly replaced by the next generation of smartphones.

In the early stages, smartphones were primary target of higher to middle income consumers, as prices have declined to the range of below RMB 1,000 we have started to see more mainstream market penetration. We believe that we have done a great job in managing the transition in our legacy business, given the nearly doubling in upcoming community ARPU over the past 12 months.

We launched four new social games in the second quarter, which helped us to increase our committee ARPU from RMB 1.60 in second quarter last year to RMB 2.69 in the first quarter to now in the second quarter RMB 3.17. We believe this progress validates our strategy of focusing on social game-based revenue model and underscores our ability to effectively monetize our user base.

We are minimizing further resource allocation into the feature phone business, while using the cash-flow generated to finance the growth market in smartphones. Our first stage was to build a comprehensive ecosystem and product offerings for smartphones. We believe we have been successful.

Our second stage is to scale-up the user base rapidly, which we expect to see over the next few quarters. Our first stage with will then be to monetize this user base. We believe that we have unique ability to accomplish this given our payment platform, which is very difficult for competitors to replicate. While we execute this strategy, we are being financially responsible in how we run the business and to minimize our cash burden. We have a very strong financial position to sustain the business as we move towards these new revenue streams.

Now turning over to our financials for the quarter, as a reminder, we disclose revenue from two perspectives, by sources and by business unit. In the interests of time, I will limit my discussion today to revenues by source. As we believe, it is a more useful way for investors in analyzing and understanding our collection model.

The breakdown of revenue by business units can be found in the press release issued earlier. In addition in the discussion and analysis of cost of revenues and operating expense which are primarily focus on non-IFRS results, as we feels this is more useful for investors in understanding our operations and performance.

Our total revenue for the second quarter of 2013 declined 19.3% to RMB 139.8 million or approximately $22.3 million compared to RMB 173.2 million in the second quarter of 2012. Revenues collected from carrier channels were RMB 99.4 million or $15.8 million in the second quarter of 2013 representing 71.1% of total revenues. These revenues decreased 30.9% year-over-year. Sky-mobi had 3.1 billion user visits and 657.2 million downloads of applications and content from the Maopao application store in the second quarter, down 37.8% and 22.2% respectively compared to the same quarter last year.

The decrease in application store user activity and downloads were primarily due to the shrinking market share of feature phones, as a percentage of overall mobile devices in China. Our average number of concurred online members remained stable at about 142,000, slightly up from 140,000 in the first quarter of 2013. Revenue collected from third party channels grew by 39.8% to RMB 36.8 million or $5.9 million and contributed 26.3% of total revenues. Sky-mobi’s mobile community had 15 million active members and 778.4 million member log-ins in the second quarter of 2013, compared to 16.7 million active members and 1.4 billion member log-ins in the same quarter last year

The reduction in log-ins reflected our transition away from social media functions which we found did not generate meaningful revenues towards social games which we can monetize successfully. Revenues from the Maopao community increased due to increased spending per active member deriving from two of our most popular mobile social games again Fantasy of the Three Kingdoms and Fairy Magic World.

We expect that revenues collected from third party channels will contribute a steady and increasing percentage of total revenues in future quarters as we focus on growing our active mobile community member base and on diversifying revenue collection methods away from traditional carrier based payment channels.

Total cost of revenues in the second quarter of 2013 decreased 8.5 % to RMB 105.5 million or $16.8 million as compared to RMB 115.2 million a year ago. Total non-IFRS cost of revenues in the second quarter of 2013 decreased 8.6% to RMB 104.5 million or $16.6 million as compared to RMB 114.3 million in the same quarter last year.

Cost associated with payment to industry participants decreased by 10.7% to RMB 93.9 million or $14.9 million primarily due to decreased channel costs in line with the decline in revenue collected from carrier channels, partially offset by increased revenue sharing percentage with mobile service providers and handset manufacturers and increased spending on higher quality mobile content to realize improved customer retention in the Maopao Community.

Approximately RMB 9 million of accrued costs payable reversed into cost of sales in second quarter 2012. There were no such reversal occurred in second quarter 2013. Such accrued costs are not expected to recur in the current fiscal year. Non-IFRS direct costs including salary benefits, depreciation, office expenses and utilities directly related to the operation of the Maopao application store and the Maopao Community increased 15.4% to RMB 10.6 million or $1.7 million as compared to RMB 9.2 million in second quarter of 2012. The increase was primarily due to increased costs in connection with greater efforts to maintain proactive operations in the feature phone business, as well as developing overseas markets and other revenues.

Gross profit in second quarter of 2013 decreased 40.7% year-over-year to RMB 34.4 million or $5.5 million. Non-IFRS gross margin in second quarter 2013 was 25.3%, down from 34% in the second quarter 2012, mainly due to the increased revenue share percentage with mobile service providers and handset manufacturers, and higher costs involved in acquiring high quality mobile contents.

Total operating expenses, primarily consisting of employee salaries and benefits, training expenses, travel, entertainment and office related expenses, decreased 4.2% year-over-year to RMB 49.7 million or $7.9 million. Non-IFRS research and development expenses, sales and marketing, and general and administrative expenses, and other expenses increased 6.6% year-over-year to RMB 42.6 million or $6.8 million. The increase in non-IFRS operating expenses was primarily due to an increase in headcount. The Company’s focus on research and development of the Android platform and products to participate in the competitive smartphone market and sustainable business development of the Maopao Community.

Total headcount increased 2.1% to 685 employees as of September 30, 2012, up from 671 employees as of September 30, 2011. The increase in headcount was mainly due to our business strategy to expand the Maopao Community, as well as in connection with higher staffing levels on the Android platform and Android product development. Non-IFRS operating loss was RMB 7.3 million or $1.2 million compared to non-IFRS operating income of RMB 18.9 million a year-ago.

Net loss in second quarter 2013 was RMB 11.7 million or $1.9 million as compared to net profit of RMB 7.1 million a year-ago. Non-IFRS net loss for second quarter 2013, RMB 3.6 million or $579,000 as compared to RMB 19.8 million a year-ago. Basic and diluted loss per common share in second quarter 2013 were RMB 0.04 or $0.01. And basic and diluted loss per ADS were RMB 0.36 or $0.06. Non-IFRS basic and diluted loss per common share in the first quarter of 2013 were RMB 0.01 or $0.00 and non-IFRS basic and diluted loss per ADS were RMB 0.11 or $0.02. Sky-mobi ended the fiscal second quarter, with approximately $95 million in cash equivalents and term deposits with no debt, this is about 2.9 fold per ADS.

In August, we announced a RMB $10 million share buyback program, reflecting the board’s belief that the stock is currently under valued. Today, we repurchased approximately 730,000 ADS at an average price of $2.20. We intend to continue to purchase shares while a complying of applicable regulations regarding in volume and blackout periods.

Turning over to outlook, we continue to expect that Sky-mobi will focus on maximizing revenue in a declining feature phone market, by improving payment efficiency and increasing monetization. We have deployed the vast majority of our employees to work on smartphone opportunities, so as to be well positioned for a rapid expansion in that market.

A financial strategy is to invest responsibly in smartphone and to maintain a strong cash balance by using cash flow generated from our feature phone business to support the growth and development for smartphones. For the fiscal third quarter 2013 ending December 31, 2012, we expect total revenues to be in the range of RMB 120 million to RMB 130 million. We are also maintaining our full fiscal year revenue guidance of RMB 545 million to RMB 560 million.

Okay. With that we like to open the call for questions please. Operator?

Question-and-Answer Session

Operator

(Operator Instructions) And your first question comes from the line of Andy Yeung with Oppenheimer.

Andy Yeung – Oppenheimer & Co

Hi, good evening, Michael and Carl. Thank you for taking my question. I have a couple of questions today. My first question is about your smartphone strategy as you’ve indicated currently the smartphone app market in China is pretty competitive. So can you give us your view on competitive landscape and how would you differentiate your smartphone app store from your competitors in the marketplace?

Carl Yeung

Yeah, Andy, Thank you for your first question. The Chinese smartphone app store is indeed very competitive. There are more than a dozen players in this market including names of very well-known internet companies like [Chifu] et cetera, et cetera. But there is a clear differentiation in terms of the market segment that each are targeting. The current successful smartphone app store so far are mainly the PC based smartphone market and they target the higher-end smartphone segment, which we believe will be only 30% or so of total smartphone shipment next year.

The real opportunity in Chinese Smartphone market is the mainstream market of the device price between RMB 300 to RMB 1,000. These are the users that mainly do not have 3G or PC access therefore the PC app stores have limited reach in this market. How we differentiate from them is, number one, we have a clean store strategy that they don’t have. Again, we’ve made significant progress and today we have 78 partners that are working with us to clean store app store. But the most interesting part of our strategy is our off line component. There are – all the Chinese handsets are sold either via the carrier retail channel or the large nation-wide retail chain. Of the 500,000 retail stores around China, it comprises about 60% of all mobile shipments. Now the carrier comprise of the other 40. Now you will see that shortly we’ll be announcing several partnerships in these key areas, with the hot players, especially, with the retail channels. Therefore, we have a very differentiated approach to get into users.

The other and most important part to attracting developer is monetization. We have been monetizing the Chinese mobile app market for last five years. We’ve shipped over RMB 1.5 billion to our partners in the past, and this a very attractive composition. This has been built upon a carrier based, as well as third-party based collection model that our competitors simply do not have to scale. Therefore, we’ve been able to attract 160,000 apps on our app store so quickly and we can have a app store filled with app that’s are interesting and users willing to pay.

Hold on a second.

Michael Tao Song

No further details.

Carl Yeung

And of course Michael wanted to supplement that. We’ve been doing this app store business for the past, since 2005. These are new market interests. We know how the user demand and we know what the user demand is, we know how to manage and rack the stores. This is an experience that our competitors do not have. We have very sophisticated data analytical systems to know how to basically put the right goods on the right shelf at the right time to generate stronger future interests.

Andy Yeung – Oppenheimer & Co.

Okay, got it. So my next question is about your game revenue, since games representing a pretty big portion of your overall revenue right now. So can you give us some colors on how much of your revenue is coming from games and what is your view on the emerging mobile game market?

Carl Yeung

Sure Andy.

Operator

(Operator instructions).

Carl Yeung

Yeah Andy of the current app store of course today’s revenue is mainly generated from feature phones, we have a significant revenue from smartphones yet. Of the feature phone app store are over 70 plus percent of our revenue are from games which also underpin our experience and our know-how in managing, publishing of games and collection of monetization for games. In the next year, we believe that the – in smartphones the sales of games will basically explode. We have very strong and convincing evidence that since most of the games are adopting to this premium model there is a very strong demand for user in having a very long time spending on games and as the device getting more powerful, the screen is getting bigger; there are more opportunities for games to generate revenue.

I can tell you today that [Foreign Language]. I can tell you that on smartphones today currently there are companies that are generating over RMB 10 million in game sales on smartphones and there will be a dozen or more of these companies next year and we’ll be definitely be part of that.

Operator

(Operator Instructions) And there are no further questions at this time.

Carl Yeung

Okay, thank you operator. Thank you all for the attention and interest in Sky-mobi. We expect that the next few quarters will be very important as we work to transition our business model. We are excited about the smartphone opportunity and achievements we had so far in the short five months and believe we are uniquely positioned to execute on our strategy.

So with that I would like to thank everyone for joining the call today and wish everyone well for the week.

Operator

Thank you. This concludes today’s conference call. You may now disconnect.

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