Hurray! Q2 2007 Earnings Call Transcript

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Hurray! Holding Co., Ltd. (HRAY)
Q2 2007 Earnings Call
August 16, 2007 9:30 pm ET

Executives

QD Wang - Chairman and Chief Executive Officer
Sean Wang - President, Acting Chief Financial Officer, Chief Operating Officer

Analysts

Alicia Yapp - Citigroup
Michael J. Olson - Piper Jaffray
Hia Goh - Susquehanna Financial Group
George Martinez - Ti Crest
Helena Qiu - SBI E2-Capital
Eddie Leung - Deutsche Bank
John Schwartz - ParVest Asset Management

Presentation

Operator

Thank you and welcome to the second quarter 2007 earnings conference call. During this call, QD Wang, our Chairman and Chief Executive Officer, and Sean Wang, our President and Acting Chief Financial Officer, will discuss Hurray!'s financial results for the second quarter of 2007 and business operations. After their remarks, we will open the call for questions.

Before we begin, I would like to remind you that during the course of this call, we will be making forward-looking statements which are subject to risks and uncertainties. You can also identify forward-looking statements by terminology such as will, expects, anticipates, future, intends, plans, believes, estimates, and similar statements. The accuracy of these statements may be impacted by a number of business risks and uncertainties that could cause our actual results to differ materially from those projected or anticipated. Such risks and uncertainties include, but are not limited to, those outlined in our filings with the Securities and Exchange Commission, including our registration statement on Form F-1. We do not undertake any obligation to update this forward-looking information except as required under applicable law.

Now I would like to invite QD Wang, our CEO, to address you. Please proceed, sir.

QD Wang

Good evening and good morning to those from Asia. Welcome to Hurray!'s Q2 2007 earnings announcement. First of all, we would like to share with you the business highlights in Q2 2007, following with the details and business highlights by Sean Wang, our President and CFO. Now let’s start from the business financial highlights.

Total revenues for Q2 2007 was $14.6 million, a decline of 12.3% quarter over quarter 20.4% year over year, and slightly below our previous guidance of $15 million to $16 million.

Wireless value-added services revenues was $12.7 million, a decline of 14.7% quarter over quarter and 23.1% year over year.

Recorded music revenues, which are from our record label businesses, were $1.8 million, a growth of 20.6% quarter over quarter and 33.5% year over year.

Software and system integration services revenues was $0.02 million, a decline of 89.8% quarter over quarter and 95.3% year over year.

Net income was $0.2 million, a decline of 79.8% quarter over quarter and 88.7% year over year.

Adjusted EBITDA was $0.9 million, a decline of 45.5% quarter over quarter and a decline of 60.3% year over year.

Diluted earnings per ADS was $0.01.

In summary, despite the current volatile market conditions and constantly changing regulatory environment, we got through the quarter in reasonable shape, which is very encouraging. Going forward, we will strive to maintain stability in our WVAS operations while in the meantime continuing our efforts to carry out our strategy of developing proprietary content and diversifying distribution channels. Our goal is to transform Hurray! into a leading entertainment content production and distribution house in China.

Now, I would like to turn to Sean for financial details and business highlights.

Sean Wang

Thank you, QD. Hi, everybody. I’ll give a quick review of the financial details and our business highlights.

Total revenues for the second quarter ended June 30, 2007 were $14.6 million, representing a 12.3% decrease from $16.6 million for the preceding quarter, and a 20.4% decrease from $18.3 million for the second quarter in 2006.

Total wireless value-added services revenues were $12.7 million for the second quarter of 2007, a decline of 14.7% as compared with $14.9 million in the previous quarter and decline of 23.1% as compared with $16.6 million in the second quarter of 2006.

Recorded music revenues, which represent revenues of our controlled music companies Freeland Music, Huayi Brothers Music and Hurray! Secular Bird, were $1.8 million, a growth of 20.6% as compared with $1.5 million in the previous quarter and growth of 33.5% as compared with $1.4 million in the second quarter of 2006.

Software and system integration services revenues were $0.02 million for the second quarter of 2007, a decline of 89.8% compared with $0.2 million for the previous quarter and a decrease of 95% compared with $400,000 for the second quarter of 2006.

Total gross margin was 32.8% for the second quarter of 2007 as compared with 32.8% for the previous quarter and 37% for the second quarter of 2006.

Gross margin for wireless value-added services was 30.1% for the second quarter of 2007, pretty much stayed the same as compared with the previous quarter but a slight decline from second quarter 2006.

Recorded music gross margin was 51.7% for the second quarter of 2007 as compared to 51% in the previous quarter and 45.7% for the second quarter of 2006.

Software and system integration services gross margin was 10% for the second quarter of 2007, as compared to 30.4% for the previous quarter and 49% for the second quarter of 2006.

Total gross profit was $4.8 million for the second quarter of 2007, representing a decline of 12.1% as compared with $5.4 million for the previous quarter and a decline of 29% as compared with $6.8 million for the second quarter of 2006.

Total operating expenses were $5 million for the second quarter of 2007, a growth of 5.4% as compared to $4.7 million for the previous quarter but a decline of 9% as compared to second quarter 2006, which was $5.5 million.

Interest income for the second quarter of 2007 was $0.6 million, the same as the previous quarter. Income tax was $0.02 million in the second quarter 2007, a decrease compared to $0.2 million in the second quarter of 2006, and a decrease compared to $0.3 million in the previous quarter.

Net income was $0.2 million for the second quarter of 2007, a decrease of 80% as compared to $1 million for the previous quarter, and a decline of 89% as compared to $1.7 million for the second quarter 2006. Net margin was 1.3% for the second quarter of
2007 as compared to 5.8% for the previous quarter and 9% for the second quarter of 2006.

EBITDA was $0.9 million for the quarter, a decline of 45% as compared with $1.6 million in the previous quarter and a decline of 60% as compared with $2.2 million in the second quarter of 2006. Reconciliations of net income under U.S. GAAP and adjusted EBITDA are included at the end of this release.

Fully diluted earnings per ADS were $0.01 based on a weighted average of 21.8 million diluted ADS for the second quarter of 2007. This figure compares to $0.04 based on a weighted average of 21.8 million diluted ADS for the previous quarter and $0.08 based on a weighted average of 22.5 million diluted ADS for the second quarter of 2006.

As of June 30, 2007, the company had outstanding 21.7 million basic ADS shares and 21.8 million fully diluted ADS, excluding share options granted above the average market value of Hurray! stock for the quarter as their effect would have been anti-dilutive.

As of June 30, 2007, the company had $67 million in cash and cash equivalents.

Next I’m going to talk about some of the business highlights for the quarter.

Hurray!'s WVAS operations showed resilience while we continued to develop proprietary content and diversify distribution channels. Some of the recent highlights are Hurray! successfully launched a new IVR radio interactive program in partnership with another company. IVR revenue increased by 165% to $4.5 million as compared to $1.7 million in Q1.

Hurray! also successfully negotiated and signed the JV agreement with a subsidiary of Beijing TV station after signing a Framework Agreement three months ago. The new JV company has the rights to the wireless application for 10 BTV channels and programming for 10 years.

Our newest division, Enterprise Services, which provides customer relationship management wireless solutions to companies, achieved major results, signing up Air China and P&G China. Though the revenue for such service at this point is not yet significant, it shows promising growth potential.

Hurray! also released a series of new songs in the quarter, including six albums, two EPs, one single, and launched successful marketing programs to promote the releases simultaneously over Internet and wireless platforms.

Consequently, "Floating Bridge of Dream" by Meng Zhi Fu Qiao, and "Love To Death" and "What's Your Name" became popular hits in the second quarter and ranked in the top 10 for several consecutive weeks in the second quarter on both China Mobile's music portal and Baidu's music search platform.

Hurray! signed up a number of new artists, including: Wenjie Shang, the number one Super Girl finalist in 2006 by Huayi Brothers Music; Zhenzhen Lin and Yanbing Li by Freeland Music; Xue Sun, Mei Shi and Rui Chen by New Run Entertainment.

Hurray! launched 13 new titles on China Mobile's game portal, including Honeycomb Crisis, Banquet II, Magma Three Kingdoms strategy, and Magic Space.

So now I would like to return back to QD Wang for closing remarks.

QD Wang

In summary, the stability of our WVAS business gives us the opportunity as well as the resources to execute our strategy despite the very challenging wireless value-added services operating environment, and we are confident about our long term prospects.

That is all for our presentation. Now let’s open for Q&A.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Alicia Yapp from Citigroup. Please proceed.

Alicia Yapp - Citigroup

Good morning. Thank you for taking my questions. I have two quick questions. Can you tell us what was the main reason why your second quarter revenues were light off your guidance? What happened in the past six weeks since your last earnings that you did not anticipate when you gave out your second quarter guidance?

My second question is regarding your 3Q guidance. How do you feel about your visibility into this number? Thank you.

QD Wang

Thank you, Alicia. To answer your questions, yes, our Q2 results were slightly below our guidance. The main reason for that is a couple of things. One is MII had a new regulation on the SMS programs on TV and some of our popular programs, like name reading and romance and fortune telling programs, which generated a lot of income for us last year and also for the first quarter, had to be stopped. As you can see in our financial report, our SMS income dropped dramatically. So that’s the main reason.

Another one is China Unicom also changed their revenue confirmation policy and instead of based on statistical data to confirm revenue for us, now they confirm revenue based on their actual collection. So that affected our revenue from China Unicom.

These are the two major reasons why the Q2 numbers are below our guidance.

Looking forward to Q3 and even the first half of Q4, we don’t expect there is too much regulatory environment improved and Hurray! got ready for such -- and like Sean mentioned, start from Q1 they have a new policy coming out for the specified product, especially in the SMS product. But we grow our IVR products since the middle of the Q2 and we will continue to grow our IVR business in the whole quarter of Q3, as well as new products growing out for the SMS business.

So we do expect our revenue will grow in Q3 compared to Q2, and also we have cost and expense optimization plans and we believe we can manage our costs and expenses and deliver the right bottom lines in Q3.

Alicia Yapp - Citigroup

I apologize. I didn’t catch the first question when you answered the Q3 guidance. It was not very clear. Can you just repeat a little bit?

QD Wang

Sure. The first part is about the top line and we will continue to grow our IVR business, this new IVR business start from the middle of Q1 and they will actually deliver better results in Q3. Since Q1 and some of our SMS business was stopped, and Q2 we didn’t grow our SMS, SMS dropped significantly. But we actually got some new products ready to launch in Q3. We also expect some SMS business growth in Q3. So put all of the product lines together and we believe Q3, we will have some growth compared with Q2 revenue.

Alicia Yapp - Citigroup

I see. Now what about your music business? Because you had a pretty good quarter this quarter, do you expect it to be even better into the second half of this year?

QD Wang

Basically slightly better than Q2. We are very confident and we have a good investment in the music business, and also actually we built in our financials operation, legal system into the music labels and it turned out to be a very successful cooperation between Hurray! and music labels and we expect greater growth in Q3 for the music business.

Alicia Yapp - Citigroup

Okay. Thank you. I will get back in the queue. Thank you.

Operator

Your next question comes from the line of Mike Olson with Piper Jaffray. Please proceed.

Michael J. Olson - Piper Jaffray

Thanks a lot. Just a follow-up question on these last few questions; do you think we are at the bottom here for WVAS revenue, or is there a chance that it will fall farther from this point?

QD Wang

Mike, could you repeat your question again?

Michael J. Olson - Piper Jaffray

Sure. I was just wondering, do you think we are at a bottom for WVAS revenue or do you think there’s a chance that it will fall farther from what we saw in Q2?

QD Wang

Well, for us, as you can tell from our guidance, at least for our company, for Hurray!, we expect some growth from our Q2 in Q3. So in that sense, we feel Q2 is our worst quarter in terms of revenue.

Michael J. Olson - Piper Jaffray

Okay, and can you tell us what percent of revenue was from China Mobile in the quarter?

QD Wang

From China Mobile, 61%.

Michael J. Olson - Piper Jaffray

Okay, and one last question regarding the deal that you announced, the Beijing TV joint venture; when do you think that we could start seeing meaningful revenue from that?

QD Wang

The Beijing TV deal, if we take it as a long-term strategic operation for us and it’s a 10-year deal and we expect some meaningful revenue towards the end of this year and early next year, especially in the first half of next year, we expect we should have some significant contribution from Beijing TV deal as Beijing TV is going to launch full-blown the Olympics programs and other shows associated with the Olympic Games, so that’s our chance to really launch all the wireless applications on Beijing TV.

Michael J. Olson - Piper Jaffray

Thanks a lot.

Operator

Your next question comes from the line of [Hia Goh] with Susquehanna Financial Group. Please proceed.

Hia Goh - Susquehanna Financial Group

Good morning, QD and Sean. I have a few questions. The first one is about there was an increase in your general and administration expense in the second quarter. May we know why?

QD Wang

Hia?

Hia Goh - Susquehanna Financial Group

Yes?

QD Wang

Okay, just now your voice was very weak. We couldn’t hear, so repeat your question again.

Hia Goh - Susquehanna Financial Group

Sure. I’m sorry. My question is about we saw there was an increase in your general and administration expense in the second quarter. May we know why?

QD Wang

Okay, the expense, some expense increase in the second quarter basically is from employee welfare, employee welfare and also from our acquisition, we have some amortization being accounted, and a little increase in our professional services. Basically these three items.

Hia Goh - Susquehanna Financial Group

Okay, I see. And my second question is since we saw a big drop in your software business, so we are just wondering, is Hurray! going to discontinue this business?

QD Wang

Actually, the software business is pretty related to the carriers construction cycle and in the past almost year-and-a-half or two years, we got almost no contract from China Unicom, as well as China Telecom and China Net. It’s only because actually the 3G license was not issued during the time period and the carriers are wondering if they need to expand their 2.5G wireless value-added service platform or wait until the 3G come in. That’s why we faced a more difficult time period in the past year-and-a-half.

But the good news is we just got a notice, but not the final contract, from China Telecom and Hurray! has got the new 3G wireless value-added services portal software for China Telecom, and we’ve got the written notice from China Telecom. That’s the beginning of the new project coming from China Telecom, and I suppose in the future two or three years, such kind of project will happen in the 30 provinces of China Telecom. That is we call it a breakthrough deal in China Telecom, and you may expect we have a formal announcement half a month later or one month later for this new deal.

Simultaneously, we are very confident and we will actually have the best opportunity because the new face of the -- we call it comprehensive wireless value-added service provisioning and management platform from China Unicom again by the end of this year. That simply means the new software construction will start to resume by the end of this year and we can expect more and more software contracts and revenue come in in the first half and second half of next year.

I would like to say here is that the winter time for software is almost past and spring is coming by the end of this year.

Hia Goh - Susquehanna Financial Group

Okay, that’s good. The last question, if I may, would you mind breaking down each segment of your WVAS?

QD Wang

In terms of product line or channel?

Hia Goh - Susquehanna Financial Group

Product line, please, like 2.5G, MMS --

QD Wang

Yes. Sean.

Sean Wang

In terms of revenue, going by product line, in Q2, our revenue from SMS is $1.9 million, almost $2 million, $1.97 million; and WAP is $2.6 million; IVR is $4.5 million; and CRBT is $888,000; and Java, which is mobile games, is $313,000; MMS is $389,000. So that’s the breakdown of the revenue by product line.

Hia Goh - Susquehanna Financial Group

Okay. Thank you.

Operator

(Operator Instructions) Your next question comes from the line of George Martinez with [Ti] Crest. Please proceed.

George Martinez - Ti Crest

Hello. I wanted to go over the [operation] of Shanghai information technology. Can you tell us how that fits into our strategy going forward?

QD Wang

You are talking about the operation of the Shanghai information -- okay, okay. Actually, this operation has increased our new IVR billing code and certifications. We actually have a significant IVR business growth in Q2, and that’s what been by this company. You can call this company sort of the sales company, have a license and two per minute high IVR billing code. Once we actually finish operation on this company, we can use this high billing code and certifications to adapt this new IVR service, basically the music related IVR service and distribute it through the TV advertising channels, as well as interactive TV and Internet channel alliance.

George Martinez - Ti Crest

Thank you very much.

Operator

Your next question comes from the line of Helena Qiu with SBI E2-Capital. Please proceed.

Helena Qiu - SBI E2-Capital

Hello, this is Helena. Thanks for taking my call. I want to ask two questions. The first one is before you explained your decline was affected by some new restriction on the policy or something -- I didn’t quite catch that. Could you please repeat about that again? Thank you.

QD Wang

Okay, certain programs, services like name reading or romance, [fortune] telling, those kinds of services we provided before through TV advertising. Those services were deemed by MII as superstitious, so such programs were not allowed to be promoted anymore. So that is why we have to stop this service.

Helena Qiu - SBI E2-Capital

Okay, so how about the policy regarding the interactive TV program?

QD Wang

This one actually, there is something during the interactive TV program. It’s a -- sometimes they ask all of the people to interact with the TV program but this TV program is not a real-time show. Actually, they produce this program before but they still ask some of the mobile users to interact with the pre-recorded programs, that kind of thing and it was [prohibited], but for the real interactive, real-time shows, those are still protected by the MII policy, as well as by the TV station’s policy.

Like Sean mentioned before, Hurray! has the exclusive rights to work with the BTV Beijing TV stations and we will focus on two major parts. The first part is actually building the interactive way into the existing almost 300 programming in the Beijing 10 channels. And the second part is actually we are going to roll out a real interactive game and we would like to work with the Beijing TV stations to produce this real interactive game and broadcast it and distribute it through the TV. Such kind of program is still protected by the MII policy.

Helena Qiu - SBI E2-Capital

Okay. Thank you.

Operator

Your next question comes from the line of Eddie Leung with Deutsche Bank. Please proceed.

Eddie Leung - Deutsche Bank

Good morning. Can you talk about your music strategy in terms of whether you would still focus on more acquisitions or you want to basically monetize on your music operations in the coming six months?

QD Wang

The coming six months?

Eddie Leung - Deutsche Bank

In the coming six months -- in the near term, do you plan to acquire more music companies or do you want to focus on your existing operations first?

QD Wang

Basically in the six months, we would like to emphasize to focus on our organic growth and operation of the music business and you see our music business in Q2, they actually have 30% of the growth compared with last year and 25% growth, if I remember correctly, compared with the previous quarter. Now we actually feel confident that we can achieve a 15% to 25% annual growth for existing music business.

Simultaneously, we always keep an eye on the potential music companies and we are also in negotiation, discussing and in negotiation with quite a few potential music companies but I don’t think we want to rush. We want to take a very, very cautious and careful approach to make sure each individual deal we acquire can deliver us sustainable growth and profitability in this time.

Simultaneously, like you mentioned, we are focused on how to monetize the existing music business through not only traditional channels but also the new digital channel, including both wireless and traditional Internet.

Eddie Leung - Deutsche Bank

Understood. I have one follow-up question regarding the paid acquisition costs on your balance sheets; which deals are they related to?

QD Wang

That’s actually the IVR company we acquired.

Eddie Leung - Deutsche Bank

Okay, thank you. No more questions. Thank you.

Operator

(Operator Instructions) Your next question comes from the line of John Schwartz with ParVest Asset Management. Please proceed.

John Schwartz - ParVest Asset Management

Thanks for taking the question. Just a follow-up on the previous question; I just wanted to be sure I understand how to think about the prepaid acquisition costs and the acquisition payable liabilities. Is it appropriate for future cash use to think of the prepaid acquisition cost asset as partially offsetting the acquisition payables?

QD Wang

The prepaid is our BTV deal, the joint venture deal. As far as payables, acquisitions or other acquisitions, is for the -- we mentioned the [inaudible] deal and prepayment for our BTV.

John Schwartz - ParVest Asset Management

Okay, so I’m just trying to think about future cash use. Is it appropriate to think of these outflows as being $7.8 million in aggregate related to acquisitions?

Sean Wang

I think our cash, we have managed our cash so far quite well. I think we should be able to maintain our cash level at $75 million, or between $75 million and $80 million.

QD Wang

Yes, and like you see from our earnings announcement, we actually already have -- just hold on a second. Currently we actually have $67 million in cash and we actually have around $12 million net cash receivables. Based on our past five years money collection experience and record, it implies 3% or 5% for the bad debt for the accounts receivables. So put the accounts receivable and cash together, you see we have $98 million -- $80 million cash, cash equivalents and account receivables.

And then our strategy’s worked clearly and we want to actually manage our cost and expense structure in a very tight way, make sure we can achieve break-even or even profitable bottom line through this most difficult time period. As long as we keep our cash flow positive and we keep our cash and cash equivalents in hand, and we do believe we can keep our value, company value for all of the investors.

Simultaneously, in our strategy it explores continue growing our music business, as well as exploring a diversified carrier independent channel, including the right TV advertising, interactive TV programming, as well as enterprise applications. And whenever we have any strategic breakthroughs or growth in any one of these directions, we will resume sustainable growth at that time.

John Schwartz - ParVest Asset Management

Okay, just two quick follow-up questions; the first, so you have $67 million in cash now. I believe you just said you wanted to maintain cash at the $75 million to $80 million level. Can you just help me out with that? You are obviously below that level now.

QD Wang

Well, we have cash -- it’s a $75 million to $80 million as cash and cash equivalents. We also have $12 million accounts receivable.

John Schwartz - ParVest Asset Management

Okay, so you are talking about the cash plus accounts receivable?

Sean Wang

Cash and cash equivalents, yes.

QD Wang

Yes, the two put together.

John Schwartz - ParVest Asset Management

Okay, that’s fine. And then my last question was around the comments you made about increasing your non-carrier channel WVAS revenue. Can you just tell me in Q2 what percentage of your WVAS revenues were through non-carrier channels?

QD Wang

In Q2, let me see -- our non-carrier channel revenues, just a quick add-up -- so we had roughly 65% from non-carrier channels. Hello?

John Schwartz - ParVest Asset Management

Yes, what was that equivalent figure in Q1?

QD Wang

It’s pretty much -- there’s not much difference. Small, slightly higher. Basically, I remember actually the revenue come from the non-carrier channels increased from Q2 to Q1.

John Schwartz - ParVest Asset Management

Okay, and just one more question; based on your comments around where you want to see your cash and cash equivalents sort of stabilize in this $75 million to $80 million range, but you don’t see a lot of cash used going forward on new acquisitions. Is that a fair statement, that you guys don’t see a lot of acquisitions going forward?

QD Wang

Let’s put it this way -- our strategy is very clear and we want to actually, from an operations point of view, we really would like to manage our WVAS business cost structure and expenses very tightly, and make sure we don’t lose money in the SP business. Simultaneously, we would like to grow our music business steadily and like I mentioned before, our music business, we would actually like to generate 15% to 25% annual growth in top line as well as the bottom line.

And [doing the work about the mergers and acquisitions], let’s make sure we actually take the shareholder and invest value for this company for any acquired and merged acquisition targets. We would like to take a careful review and make sure any individual deals, like we acquired the music company before, they have to deliver the profitable growth.

That does not mean we are not going to do any acquisition, but any acquisition must be very carefully selected, reviewed and analyzed and make sure they actually contribute positive value to this company, otherwise we would like to actually make sure we maintain our cash levels and get through this most difficult time period, Q3 and probably part of Q4.

John Schwartz - ParVest Asset Management

Great. Thank you.

Operator

At this time, there are no further questions. I will now turn the call over to QD Wang, our CEO, for closing remarks.

QD Wang

I would like to say thank you all for your attention to Hurray!'s business and in some ways, Q2 probably is the most difficult time for the SP business, but Hurray! knows how to actually maintain the stability of the SP business as well as actually grow our new business, like the music business. Simultaneously, we are exploring quite a few strategic directions, including diversifying non-carrier channels, as well as enterprise applications.

We are very confident we can manage our current SP business better and simultaneously explore and find new growth for this company in the future. Anyway, we are confident about our long-term growth prospects. Thank you all for your attention to Hurray!. Bye-bye.

Operator

Thank you for your participation in today’s conference. This concludes your presentation. You may now disconnect and have a good day.

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