KongZhong Q2 2007 Earnings Call Transcript

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KongZhong Corporation (KONG)
Q2 2007 Earnings Call
August 20, 2007 8:30 pm ET

Executives

Yunfan Zhou - Chairman of the Board, Chief Executive Officer
Nick Yang - President, Chief Technology Officer, Director
Sam Sun - Chief Financial Officer

Analysts

Michael Olson - Piper Jaffray
Adele Mao - SIG

Presentation

Operator

Good day, ladies and gentlemen and welcome to the Q2 2007 KongZhong Corporation earnings conference call. My name is Antoine and I will be your coordinator for today. (Operator Instructions) I would now like to turn the call over to Mr. Sam Sun, CFO of KongZhong Corporation. Please proceed, sir.

Sam Sun

Thank you. Hello, everyone. Welcome to KongZhong Corporation’s second quarter 2007 earnings conference call. You can find our Q2 2007 earnings press release at our website, ir.KongZhong.com. This is Sam Sun, Chief Financial Officer of the company. We also have Yunfan Zhou, our Chairman and CEO, and Nick Yang, our President, on the line. I will first go through our financial highlights. After my discussion, I will turn it over to Yunfan who will review our operations and talk about our business outlook.

Overall, our Q2 financial results are in line with what we expected in May. Our Q2 total revenues were $16.96 million, in line with our guidance of $16 million to $18 million. Our operating cash flow in Q2 was a positive $2.4 million. As such, our cash and cash equivalent position increased from $115.4 million to $118.7 million.

In Q2, our mobile advertising revenues demonstrated strong growth and reached $223,000, a 92% increase from Q1. This is the fourth consecutive quarter that we have achieved double-digit Q-over-Q mobile advertising revenue growth since Q3 of last year.

Our WVAS gross margin in Q2 was 49%, about five percentage points lower than the previous quarter. This is largely due to IVR revenues requiring higher revenue share percentage with telephone operators, ranging from 30% to 60%. In Q2, our IVR revenue increased by 112% from Q1.

Total WVAS operating expenses in Q2 2007 were $6.5 million, about 12% lower. This mainly resulted from the cost controlling efforts we have taken.

We continue our efforts in the wireless Internet business. In Q2, we spent $2.37 million related with our wireless Internet sites. We expect a similar level of spending in Q3.

Our U.S. GAAP net income was $39,000 in Q2. Diluted U.S. GAAP earnings per ADS were $0.00 in Q2.

Second quarter non-GAAP income was $0.94 million, which excluded share-based compensation costs of $691,000 and amortization of intangibles of $207,000. Diluted non-GAAP income per ADS was $0.03.

With that, I will now turn it over to Yunfan for his remarks.

Yunfan Zhou

Thank you, Sam. The second quarter was a challenging quarter for us, given a tough WVAS operating environment, but our revenues reached $16.96 million and met our guidance. Due to the continuous impacts from the regulatory changes in the first half of 2007, we expect our Q3 revenue to be between $16.5 million and $17.5 million.

In addition to the WVAS business, we are pleased about our good progress in the wireless Internet business. We are happy to announce that our mobile advertising revenue in Q2 increased 92% sequentially to $223,000. We are still increasing our mobile advertising sales efforts in the second half of 2007. We believe we will be able to achieve our $1 million mobile advertising revenue target this year.

In June, we signed a cooperation with MSN China to be the sole content provider for the news and information channel and mobile games channel for the Mobile Messenger 3.0.

In July, we signed a partnership with Opera to develop a KongZhong Opera browser solution for Chinese mobile phone users with Kong.net as the default home page. The KongZhong Opera browser is expected to be offered for downloading at no charge and can enable mobile phone users to browse both traditional Internet sites and WAP sites through their mobile phone.

We hope we will deliver more good content partnerships to you.

Given the fact that there are over 480 million cell phone users and over 140 million Internet users in China, the current about only 40 million WAP user base has a very big growth potential in the next few years, thus we are confident about the future of our wireless Internet business. We will continue to make our best efforts to increase our brand awareness, traffic, and mobile advertising revenue.

To summarize, although we are facing a difficult time in the WVAS business, KongZhong's management firmly believes that a continuous investment in our wireless Internet business is the right strategy for us to achieve our objective, which is to build Kong.net to be the largest wireless Internet portal in China. Thank you.

Sam Sun

Thank you. Operator, we will open the line for Q&A, please.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Michael Olson with Piper Jaffray. Please proceed with your question.

Michael Olson - Piper Jaffray

Thank you very much. I just had one question about the Microsoft, or the MSN China deal. When do you think you are going to start to see material revenue from that deal?

Sam Sun

Hey, Mike. Thanks for calling in. I think the deal with Microsoft, the very first part is the traffic to Kong.net. Under the cooperation, we provide the content to MSN 3.0 users so they have the choice to browse the news provided by Kong.net and they could click the link and then the traffic will be directed to Kong.net. I think the number one is really the traffic to Kong.net and then the users through MSN 3.0, a lot of users may well be more and more familiar with the Kong.net product. This was our number one concern when we signed the deal with MSN 3.0.

Of course, there will be some revenue, especially on the game downloading part but so far, we haven’t seen any significant revenue contributed by this MSN 3.0 deal. Of course, we hope with the development, with the spreading of MSN 3.0, the game downloading revenue directly from MSN 3.0 will become significant.

Michael Olson - Piper Jaffray

Okay, that makes sense. So basically the key is more traffic.

Sam Sun

Yes.

Michael Olson - Piper Jaffray

Are you -- regarding WVAS revenue for Q3, are you expecting that it will be essentially flat quarter over quarter?

Sam Sun

Yes, pretty much flat quarter over quarter.

Michael Olson - Piper Jaffray

Okay, great. That’s all the questions I had. Thank you.

Operator

Your next question comes from the line of [Adele Mao] with SIG. Please proceed with your question.

Adele Mao - SIG

Good morning, Yunfan, Nick and Sam. I have a couple of questions. The first one is what kind of product did contribute to your IVR growth in the second quarter? And will this growth be sustainable in the next quarter?

Sam Sun

For the IVR revenue, we actually set up a few cooperations with -- because in the past, KongZhong was not a big player in this IVR field. So starting from Q2, we signed a few cooperation agreements with some other companies in this field, in this IVR field. They helped us promote the IVR part. They actually also helped us develop new IVR products so that we can increase our IVR revenue.

We think with this IVR revenue of over $2 million per quarter, this is at least according to our current estimate, this is about the fair amount we can get from this IVR market. So according to our estimates, Q3 IVR revenue will remain at the similar level.

Adele Mao - SIG

I see. The second question is there was a double-digit sequential growth in your mobile advertising. Do you expect such growth rates to trend down for the next quarters? Also, would you please share with us what’s the status of the current mobile advertising business is?

Sam Sun

In terms of the mobile advertising revenue, we think at least we can have double-digit mobile advertising revenue growth throughout this year, because mobile advertising in China is still at the very early stage. So what we have seen from the mobile advertising market is that a lot of companies want to take their chance, to test the water -- they are trying the mobile advertising.

Some of them may feel that they don’t know exactly what mobile Internet is, what mobile advertising is, so they are a little bit reluctant to really spend a lot of dollars on this. And some other companies, they are bold enough, they spend some money, they receive the benefit so they would like to spend more or they would like to test the water for a couple more quarters. This is what we have seen from the mobile advertising market.

Just looking at the customers we have had over the quarters, what we have seen is that we have more and more customers in the mobile advertising, in our mobile advertising revenue and they come from all walks of life. For example, they are handset manufacturers, they are financial institutions, they are car manufacturers, they are hospitals, they are pharmaceutical companies -- the list grows longer and longer.

So this is what we have, you know -- of course, another thing is that right now we haven’t seen a significant increase in ARPU, total ARPU. Each company just spends maybe a similar level of dollars every quarter, so our guess is that they are still testing the mobile advertising market and we believe after a few quarters and after more and more people understand better the wireless Internet, the mobile advertising dollars they can spend on us will increase.

Adele Mao - SIG

I just have a follow-up question. May we know the amount of mobile advertisers, what percentage of them give you positive feedback?

Sam Sun

I don’t have the exact number because we don’t do the survey every time but just to give you -- but according to my understanding, overall the feedback should be pretty positive because normally if the customer tries us for one quarter, normally they continue to spend on us.

Adele Mao - SIG

I see. Okay, the last question, if I may; given a flat third quarter guidance, will you further cut down expenses in order to maintain a positive operating income for the next quarter?

Sam Sun

We always try to balance the profit and the cash flow we can get from the WVAS business and the spending we make on the wireless Internet business, so again, for Q3 we will also try to balance this too, to make sure that first we will have enough cash flow and enough profit. Second, we will invest, we will spend enough on wireless Internet so that we can catch the wireless Internet opportunity.

Right now, we think overall speaking, the level of spending in Q3 on wireless Internet should be a similar level compared to Q2. Maybe the marketing spending, sales and marketing spending on wireless Internet will decrease a little bit, since we already did a lot of sales and marketing activities in Q1 and Q2.

Adele Mao - SIG

Okay. Thank you.

Operator

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

Sam Sun

All right. If there are no more questions, thanks to everyone for calling in and we look forward to talking to you again next quarter.

Operator

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

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