ChinaCache's (CCIH) CEO Song Wang on Q3 2016 Results - Earnings Call Transcript

ChinaCache International Holdings Ltd. (NASDAQ:CCIH)

Q3 2016 Earnings Conference Call

November 29, 2016 8:00 p.m. ET

Executives

Eric Zhou - SVP and Interim CFO

Song Wang - Founder, Chairman, and CEO

Analysts

Kevin Liu - Rosenblatt Securities

James Wang - Deutsche Bank

Tina Hou - Goldman Sachs

Operator

Ladies and gentlemen, thank you for standing by, and welcome to the ChinaCache Third Quarter 2016 Earnings Conference Call. At this time all participants in a listen-only mode. There will be a presentation followed by a question-and-answer session. [Operator Instructions] I must advise you that this conference is being recorded today, and I'd now like to hand the conference over to your first speaker, Ms. [indiscernible], Investor Relations Manager for the company. Thank you. Please go ahead.

Unidentified Company Representative

Thank you, Operator. Hello everyone, and welcome to the third quarter 2016 earnings conference call for ChinaCache. We distributed our earnings press release earlier today via newswire services. You can also download it from the Investor Relations portion of our Web site.

Today's call will consist of management's prepared remarks, followed by Q&A session. Leading to this call is Mr. Song Wang, ChinaCache Founder, Chairman, and Chief Executive Officer, who will provide updates on the business strategy. Mr. Eric Zhou, Senior Vice President and Interim CFO of ChinaCache will then review the company's third quarter 2016 financial results.

Before we begin, please allow me to remind you of the Safe Harbor statement. During today's conference call, we may make some forward-looking statements, statements that are not historical facts, including statements about future expectations, plans and prospects. Forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from our expectations. Potential risks and uncertainties include, but are not limited to, those outlined in our public filings with the SEC. ChinaCache does not undertake any obligation to update any forward-looking statements except as required under relevant laws.

Our earnings press release and this conference call includes discussion of certain unaudited non-GAAP financial measures. Our press release contains a reconciliation of the unaudited non-GAAP measures to the most directly comparable unaudited GAAP measures and is available on our Web site. As a reminder, this conference call is recorded. Finally, an archived webcast of the conference call will be available on our Web site approximately two hours after the call concludes.

I will now turn the call over to our CEO, Mr. Wang, who will deliver his remarks in Chinese, and then I will provide the English interpretation.

Song Wang

[Interpreted] Thank you everyone for attending today's ChinaCache third quarter 2016 earnings conference call.

During the third quarter, we took a number of measures to improve our operations. First, regarding the HPCC platform, we continued to make progress to optimize its performance. We have now completed most of the planned optimization tasks, and are seeing improved platform performance. For example, in terms of the scalability maintenance and in terms of product customization, the new platform has reached the performance of the old platform.

Second, we are upgrading our network capacity without increasing the number of the servers. When completed, we expect to double the bandwidth capacity per server or per node at selected locations. This upgrade strengthens our ability to serve our large customers. In some cases, we've seen the peak bandwidth to certain customers more than double. We are prioritizing our resources to serve our customers better. And today, we are setting customer satisfaction as our top priority, and winning our customers' support and business by delivering outstanding products and services.

Third, we believe we have one of the best recognized brands in the overseas markets we have driven many of the international companies and keep winning new overseas customers. Leveraging the strong brand awareness in third quarter, we invested approximately $3.5 million in the U.S. to expand our global R&D and support capacity. But to enhance our competitive positioning with the CDN industry, we are transforming ourselves from a pure CDN provider to a total solutions provider. We are building a new generation datacenter network.

With content and applications as the core of our network, we believe our new three-layer structured network consisting of the IDC, Internet, and cloud exchange centers and extensive CDN nodes, we'll emerge as one of the best business models in the Chinese CDN industry, and deliver superior value to our customers. We are in the process of deployment, and expect to expand our services shortly. In addition, to have our turnaround initiative we are considering a corporate restricting program. We plan to spin off a portion of our datacenter business. This consideration is detailed in our earnings release. When completed this restructuring would reduce our need for future capital expenditures, strengthen our balance sheet, and at the same time allow us to participate in the future upsides of the datacenter operations.

Next, I need to mention that following the U.S. District's Court of the Central District of California, August 15, 2016 dismissal of the previously announced class action litigation originally filed against ChinaCache. The plaintiff amended and resubmitted its complaint in September. The company has again moved to dismiss the amended complaint, and the hearing is set before the court on the company's motion in the first quarter of 2017.

Finally, as we turn the corner to 2017, our goal is regain market share and enhance our position as the leading CDN provider in China. We believe our focused turnaround efforts to further develop and enhance our innovative and leading three-layer network structure, that is ChinaCache datacenter network, Internet and cloud exchange centers and extensive CDN notes will be productive. We believe we are at a transition point in our turnaround plan and look forward to updating you on our programs in the future.

This concludes my prepared remarks. Now, I'd like to turn the call over to Eric. Thank you.

Eric Zhou

Hi, everyone, this is Eric. For the third quarter of 2016 financial results, net revenues were RMB261.6 million, a 0.1% increase from the previous quarter, and a 19.5% decrease from the corresponding period in 2015. Cost of revenues decreased by 3.9% quarter-over-quarter and a 2.3% [ph] year-over-year to RMB255.1 million.

Gross margin was 2.5% compared with negative 1.5% in the previous quarter, and 19.6% in the corresponding period in 2015. Non-GAAP gross margin, which excludes share based compensation was 4.6% [ph] compared with negative 0.7% in the previous quarter, and 19.8% in the corresponding period in 2015. The increase in gross margin in the third quarter of 2016 from the previous quarter was mainly attributable to improved bandwidth utilization.

Sales and marketing expenses were RMB23 million or 8.8% of net revenues, a 5.7% decrease over the previous quarter and 18.2% decrease from the corresponding period in 2015. The decrease in sales and marketing expenses in the third quarter of 2016 from the previous quarter was primarily attributable to cost of control measures.

General and administrative expenses were RMB62.2 million or 23.8% of net revenues, a 4.4% decrease from the previous quarter, and 86.6% increase from corresponding period in 2015. The decrease in general and administrative expenses in the third quarter of 2016 from the previous quarter was primarily attributable to a decrease in share based compensation expenses.

Research and development expenses were RMB24 million or 9.2% of net revenues, a 10.7% decrease from the previous quarter, and a 1% increase from the corresponding period in 2015. The decrease in research and development expenses in the third quarter of 2016 from the previous quarter was primarily attributable to cost of control measures.

Net loss was RMB94.3 million, compared with a net loss of RMB108.9 million in the previous quarter, and a net loss of RMB39.4 million in the corresponding period in 2015. Net loss per basic and diluted American Depository Shares or ADS for the third quarter of 2016 was RMB3.68 each. Each ADS represents 16 ordinary shares of the company.

Adjusted net loss defined as net loss before share based compensation expenses and the foreign exchange gain or loss was RMB86.6 million, compared with adjusted net loss of RMB91.4 million in the previous quarter, and adjusted net loss of RMB44.4 million in the corresponding period in 2015. Non-GAAP net loss per basic and diluted ADS for the third quarter of 2016 was RMB3.36 each.

As of September 30, 2016, we had cash and cash equivalents of RMB253 million compared with RMB606.8 million as of December 31, 2015. Capital expenditures excluding capital expenditures for the cloud infrastructure related construction in amount of RMB77 million for the third quarter 2016 were RMB58.1 million. And now turning to our outlook, we maintain our previously stated full-year revenue guidance. For the full-year 2016, we expect revenues to be between RMB1.04 billion to RMB1.1 billion. This outlook reflects our current estimate, which is subject to change.

This concludes my prepared remarks. Now, let's begin [ph] the Q&A session. Operator, please go ahead.

Question-and-Answer Session

Operator

Thank you. Ladies and gentlemen, we will now begin the question-and-answer session. [Operator Instructions] Our first question comes from the line of Kevin Liu from Rosenblatt Securities. Please go ahead.

Kevin Liu

Hi. I was representing Jun Zhang from Rosenblatt Securities. So my first question is what is the competitive landscape for CDN in China right now, any chance to regain shares back?

Song Wang

[Foreign Language]

[Interpreted] I do a quick translation. The CDN industry in China has become increasingly competitive. The size and -- some traditional CDN providers like [indiscernible] and a couple of other and the cloud providers, there are approximately 40 other CDN providers in China. And in addition, some large Internet companies are also setting up their in-house CDN, and so the industry is becoming more and more competitive, but on the other hand, we believe it illustrates the fact that the CDN industry in China has a huge market and is still project to grow.

[Foreign Language]

[Interpreted] And it's different from the CDN market in the U.S., in the U.S., the CDN providers like [indiscernible], they are transforming themselves from a pure CDN provider to a company providing, for instance, like Internet securities service and products.

[Foreign Language]

[Interpreted] And in China, most of the participants they are doing the traditional and simple CDN services.

Kevin Liu

Okay, thanks. I have another question. So what is the updates on datacenter and the Internet Exchange center? Could you give us more color on what revenue contributions it could be for the next two years? Thanks.

Song Wang

[Foreign Language]

[Interpreted] And this business is developing fast, and for instance, the [indiscernible] number three buildings in our datacenter, and it has already start operations, and is in a process of launching about 1,500 cabinets.

[Foreign Language]

[Interpreted] And in addition, our building number five and six we are started to provide services at the end of this year.

[Foreign Language]

[Interpreted] And for Internet and Cloud Exchange Centers, annually also growing, and have enjoyed very rapid growth, and for every month we have new customers coming.

[Foreign Language]

[Interpreted] And the customers, including some of the best internet companies in the world, they are connecting to our Internet exchange centers.

[Foreign Language]

[Interpreted] And I believe this market has huge upside potential in the future.

Kevin Liu

All right, thank you very much.

Operator

The next question comes from the line of James Wang from Deutsche Bank. Please go ahead.

James Wang

[Foreign Language]

Should I translate the question? Yes. So, the first question is, so you mentioned in the second quarter result that a lot of the customers -- some of the customers have moved their bandwidth out, their network usage back to ChinaCache, but we haven't seen any improvement in the revenue quarter-on-quarter. I'm just wondering what the reasons are. And the second question just your expectation on when the growth margin would return to prior period levels. Thanks.

Song Wang

[Foreign Language]

[Interpreted] Okay, I do the translation. And basically it's due to a couple of factors. One is, of course, pricing is a fact. We still see steady declines in CDN prices, which would offset some of our -- new revenues. Second is, because we are still in the platform transforming processes. And we still need to improve our network utilization and our bandwidth utilization, as well as we need to further adjust the customer structure for our business. And in addition, we need to take some -- a couple of other efforts to improve the overall efficiency of our business.

And what is the last question? Second question?

James Wang

[Foreign Language]

[Interpreted] So the next question just when you expect the gross margin will return to FY' 15 levels?

Eric Zhou

And right now I believe have many elements that are in place, for instance, we are continuing on optimizing our models [ph], and we have seen good performances. We also have in a process of optimizing our customer structure, and hopefully in the future we can keep more and high gross margin customers. And also we are in a process of launching our new so-called End-to-End Business Model, and we expect to pick up some volume in the future. So, even though at this time it's very difficult to pinpoint a specific point for the improved gross margins, but we are confident that in the coming quarters we are going to see stable or improved margins.

James Wang

Thank you.

Operator

[Operator Instructions] The next question comes from Tina Hou from Goldman Sachs. Please go ahead.

Tina Hou

Hi, management, thank you very much for the time. My first question is that, related to CDN, and how has the CDN competitors environment been in during the first [ph] quarter? Do you see the competition stabilizing, or is it still very aggressive price? Have you seen still very aggressive price cuts? And also how much has the CDN price declined this year?

Song Wang

[Foreign Language]

[Interpreted] The business is becoming more and more competitive because we have lot of cut [ph] based in our newcomers and also we have some start-up companies that are coming to the industry, and some of their pricing is not rational and they are providing services below cost, but we believe in these kind of things we are not sustainable.

[Foreign Language]

[Interpreted] And for us, our strategy in the coming days is try to selectively serve a few customers.

[Foreign Language]

[Interpreted] And we will be very cautious towards some of the low margin or net margin products such as video or large streaming.

[Foreign Language]

[Interpreted] Of course, we have seen huge demand for the CDN products.

[Foreign Language]

[Interpreted] And for these reasons, we try to using this opportunity to adjust our strategy.

And for the second question for the CDN pricing, the changes -- the cost changes basically vary from depending on the products from several percentages to as much as 20% to 30% for some like VOD, you know, Video on Demand or streaming products.

Tina Hou

Great, thank you very much. And just a follow-up on the live streaming and online video business; wondering how much of your revenue is composed of these two segments, and also if your strategy is to focus the -- used to focused away from the live streaming and online video business, how much growth does the rest of the space has in terms of CDN demand?

Song Wang

[Foreign Language]

[Interpreted] For the VOD and live streaming business, we have a percent today 25% to 30% of our revenue.

[Foreign Language]

[Interpreted] And it's not that we are not going to develop products or develop a business in these segments, and because in this business a lot of providers I think their services are quite so-called the priority because some companies have sustainable business model and some companies may not be profitable, so it's very risky to be in this segment of the CDN industry.

[Foreign Language]

[Interpreted] The risk for this segment is high because the pricing from some of the customers are extremely low, also the payment terms is not very good. The account receivables are quite long.

[Foreign Language]

[Interpreted] And of course the video segment, the products and the percentage in the revenue were becoming large and larger.

Tina Hou

Thank you very much, management. And just one more follow-up, so in the traditional CDN business, i.e. excluding the VOD and live streaming segments, have you seen on the cloud provider such as [indiscernible] and Cloud coming into the enterprise and the government segments for the big enterprise customers such as in finance?

Song Wang

[Foreign Language]

[Interpreted] And of course, you know, they may target these customers, but I believe as the public cloud provider such as [indiscernible] Cloud, and it will be difficult for them to compete in today's enterprise and government markets.

Tina Hou

Thank you very much, management

Eric Zhou

Thank you.

Operator

[Operator Instructions] There are no final questions. I will hand back to management for closing remarks.

Unidentified Company Representative

Thank you again for joining today's earnings conference call. If you have any further questions, please feel free to contact us through the information available on our Web site. Thank you.

Operator

Thank you very much. Ladies and gentlemen, that does conclude the conference for today. Thank you for your attendance. You may all disconnect.

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