NetEase: "Fearless of the Cycle, Maintaining Steadiness" (3Q22 Conference Call Summary)
The following is the summary of the Netease.US Q3 22 conference call. For a financial review, please refer to "Netease: What gives Netease the confidence to break up with Blizzard, despite the latter's strong growth?"
1
Management remarks
Overall: we saw healthy and steady growth in each of our core business units in Q3. During this period, our total net revenue was RMB 24.4 billion, which still achieved a year-on-year growth of over 10% under high base conditions. This reflects Netease's resilience and operational efficiency under different macroeconomic cycles.
1. Gaming-related businesses
(1) Online games remain our main growth driver - net revenue from games and related value-added services in Q3 was RMB 18.7 billion, an increase of 9% year-on-year.
(2) As for flagship games, we are pleased to see continued strong growth in Q3. Our traditional PC-side games - "Fantasy Westward Journey" and "Westward Journey II" - which have been in operation for over 20 years, still maintain a considerable user stickiness with the release of new summer expansion packs.
(3) "Diablo Immortal" received tremendous response in domestic and foreign markets after its release in July and topped the download charts on iOS in many regions.
(4) In September, we released the first major update - "The Forgotten Nightmare" - and introduced a series of new content and gameplay, maintaining the game's high popularity and attractiveness.
(5) "Eternal Crusade" maintained strong popularity in Q3 - benefiting from the new map and content updates released on the game's one-year anniversary, the game's active user base reached a historic high in August this year.
We are developing more novice-friendly mechanisms to seek more incremental players and continuously releasing content updates to retain existing players.
We are actively developing a mobile version of Eternal Crusade, and the progress is going well.
On the console side, we released Eternal Crusade on Xbox Series XS, and the adaptation situation is quite satisfactory. Next, we are committed to making it compatible with Xbox One, in order to further expand the fan base of this IP.
(6) New games
- We conducted the first round of testing for the "Justice" mobile game in October and achieved quite exciting results - over 10 million players pre-registered. We hope that its technological innovation and artistic design can represent the development trend of the next generation of games.
- The launch of the Chinese version of "Harry Potter: Magic Awakening" has made Chinese players addicted to it. We are learning from the experience and lessons of the past year in operating the game in China, optimizing game mechanics, and preparing to expand content packages in advance, making tremendous efforts for the global version's release.
- "Harry Potter: Magic Awakening" is expected to be launched globally in 2023, and we have high expectations for it, believing that this highly anticipated game will stand the test of time. (7) Blizzard
As we have previously disclosed, we have reached some licensing agreements with Blizzard, which involve several Blizzard games published in mainland China. These agreements will expire in January 2023 and will not be renewed. The net revenue and net revenue contribution from these affected games account for low single digits in our total net revenue and net revenue contribution for 2021, so the expiration of these game licensing agreements will not have a significant impact on our financial performance.
The code development and release of Diablo Immortal mobile game are covered by a separate and long-term independent agreement and are not affected by this incident.
(8) Acquisition
We announced the acquisition of Quantic Dream in August, a studio headquartered in Paris. This is also our first wholly-owned studio in Europe. This acquisition reflects our vision to support global innovation and game development. We will continue to fulfill our commitment to support Quantic Dream in realizing its full potential.
(9) Talent Change
We are pleased to announce that Jonathan Morin has joined us as the new Creative Director in Montreal this quarter. With more than 24 years of experience in AAA game production, he will work with Samuel Young and the team to create the next exciting game.
(10) Overseas Strategy
- This month, we announced the establishment of GP track 50 in Japan. The studio will mainly focus on producing high-quality console and PC games, with the goal of providing original entertainment content from Japan to global customers.
- We also announced investments in liquid swords in Sweden and something wicked games in the United States, both led by industry veterans.
- After years of strategic planning, we have overseas studios in multiple regions including Japan, North America, Europe, and plan to have more in the future in other countries.
- Educational Business (Youdao)
(1) Driven by the growth of new services and smart device sales, Youdao's total net revenue continued to improve in Q3, reaching a record high of RMB 1.4 billion.
(2) Youdao's net revenue from smart devices in Q3 reached RMB 356 million, a year-on-year growth of 40%. Its contribution mainly comes from flagship products, including Youdao Dictionary Pen and Youdao Listening Treasure.
(3) We will continue to provide customers with more AI-based education tools. In August this year, we launched the Youdao Dictionary Pen X5, which uses a self-developed operating system that can accommodate various external programs. This new product is very popular among users-the first-sale product was quickly sold out; Youdao Smart Tablet X10, which we released in October, provides a variety of customized functions for customers to better serve the learning needs of different age groups. We are optimistic about the growth opportunities of this product. (4) Our course learning service had a net income of 888 million yuan in the third quarter, and the net income of STEM courses doubled compared with the same period last year, accounting for more than a quarter of the total revenue of the department. In addition to content upgrades, we also partnered with local chess associations to hold open tournaments for students.
3. Cloud Music Business
(1) Our main business trends and financial performance were good in the third quarter-
- MAU remained stable; DAU/MAU ratio remained above 30%.
- Total revenue increased by 22% year-on-year.
- Gross profit margin 14.2%
- The proportion of paid users remained stable
(2) Due to the rapid growth of advertising performance and strong momentum in social entertainment services, the advertising business has gradually recovered.
(3) Continue to expand and diversify our copyright library-including Modern Sky, China Record Corporation, Fenghua Qiu Shi, Lehua Group, SM Entertainment, and other large brands have returned.
(4) New features such as "style recommendation" and "Dolby Atmos" have been added to improve the user experience.
4. Strict Selection Business
Continuous creation of high popularity products to continuously establish brand awareness;
In the third quarter, we saw steady growth in sales from external e-commerce platforms-especially short video platforms.
5. Conclusion
The company's prospects are worth looking forward to, and the company is confident in achieving strategic growth in various business lines.
The diverse and long-term revenue channels created by the company in China provide a solid foundation for the company's globalization strategy.
The company will continue to use strong cash flow to repurchase stocks, pay dividends, and thus return to the company's shareholders.
Two
Dolphin Analyst Q&A
Q1: Can you reveal the reasons and subsequent arrangements why your company terminated its cooperation with Activision Blizzard?
A1: The difficulty of negotiation with Activision Blizzard over the past period far exceeded expectations. Although we intended to continue the agency, the terms proposed by Activision Blizzard regarding the sustainable operation of the game and the core interests of Chinese market players involved in this cooperation were unacceptable. Therefore, we cannot accept the renewal of this agreement. We regret this but at the same time we are committed to being responsible for Chinese players until the last moment and doing a good job of follow-up work to ensure the rights and information security of players.
Q2: How does your company view the development trend of future multi-terminal games?
A2: In fact, many mobile game players have had demands and expectations for multi-terminal versions during the previous product operation process—for example, the PC version can conveniently provide them with a more immersive game world through a larger screen. Based on this demand, we have launched PC emulator versions and PC versions for some mobile game products, partially satisfying the multi-terminal needs of players. We have also noticed that many users in some regions have the habit of playing games on multiple terminals at the same time. Therefore, in the future, we will consider launching game products that support all platforms, including consoles.
Currently, we do not have any technical obstacles to developing and operating multi-platform games, so in the future, we will consider developing multi-terminal versions of games by comprehensively considering the characteristics of each game and market feedback based on the needs of players. Q3: Besides "Harry Potter", what is the progress of the approval process for other overseas IPs? How does the company position local IPs and overseas IPs? How can they help the company's business in the long term?
A3: Currently, not many applications for overseas IP products have been submitted for approval, those that have been submitted are being processed in an orderly manner according to the procedures. The virtual worlds presented to players by overseas IPs and our local IPs differ greatly. The introduction of overseas IPs greatly enriches the background themes of our virtual world, meeting the diverse needs of players. Of course, due to the differences in the game's worldview background and cultural themes, the specific types of games will be very different. In the long term, overseas IP games will further enrich our company's product line.
Q4: What is the company's overseas strategy plan for 2023?
A4: The overseas market will be tackled with a "two-pronged" strategy.
The first strategy is to promote self-developed games overseas, such as Fifth Personality entering Japan. Overall, overseas games are mainly divided by terminal type, with PC games as the main focus. In the future, more PC games will be exported overseas.
The second strategy is to invest in a considerable number of overseas game studios, just like what you see. We hope that these studios can develop successful games in close collaboration with us, so that we can expand our overseas efforts with a combination of self-developed and invested products.
Q5: What are the prospects for the long-term recovery and development of the gaming industry?
A5: The gaming industry is a content-driven market, and the overall consumption situation is largely dependent on the quality of game content itself. If a blockbuster game comes out, the entire market will be driven. If the game content lacks creativity, the market will gradually become stable or decline. Our understanding is not that the market is fluctuating downwards, but that currently, there is no refreshing and innovative content emerging in the market. Overall, the development of the gaming industry relies heavily on the content itself.
Q6: What is the player feedback and lifecycle of overseas games? Will more games be developed to meet the needs of overseas players?
A6: Core PC players and console players in foreign countries are very satisfied with the unique gameplay and overall experience of the games. At the same time, we have found that more players on lower-end platforms are equally eager for the games. Currently, we are seeking solutions to optimize the performance of the game at the platform level to meet the needs of more players; in addition, we will strive to optimize the new player tutorial of overseas games, and design better content solutions to cover the needs of more overseas players.
Q7: What is the company's employee headcount and future operating cost trends in terms of cost?
A7: In the long term, our total employee headcount will remain relatively stable at over 30,000 people. At the end of last quarter, due to the cyclical effects of campus recruitment, our total employee headcount exceeded 31,000 people. On the topic of operating expenses, we place a very strong emphasis on cost awareness and investing in ourselves effectively. Our priority is return on investment, so when you see our sales or R&D expenses increase, it actually indicates that we are building a strong pipeline or about to release an exciting new game. If you have enough patience, you'll see the huge returns on our investment. Looking to the future, I am confident that we will continue to grow, even as our absolute operating expenses increase. When we see our next round of products launch in domestic and overseas markets, we hope to achieve investment returns through operating leverage.
Q8: What are the specific conditions of NetEase's overseas game market? What are the focus areas for the studios they invest in in terms of release market and categories?
A8: The overseas version of "Harry Potter" will be launched soon. In addition, there will be three products launching in Japan in the coming months, including card games, racing games, and MMOs, with four products launching in the European and American markets, including TPS, MOBA, and card battles.
At present, we mainly focus on the Asia-Pacific market, represented by Japan, and then the European and American markets.
Q9: Can you introduce the specific situation of "Diablo" in terms of player activity and game scale?
A9: The data for the overseas launch of "Diablo" has been very stable for nearly half a year. Currently, the revenue generated domestically and abroad are roughly the same, despite the game launching domestically more than a month later than abroad. We plan to balance the demands of mainland and overseas users through version updates, new expansion pack development, and other measures in the future.
In mainland China, the main users of this game are middle-aged users from third and fourth-tier cities, while the user group in Europe and America mainly consists of single-player users. The issue of breaking out of the circle for potential users needs to be solved urgently. In the future, we will further explore the needs of more users and continuously optimize the game to help it break through further.
Q10: Did terminating the contract with Blizzard have a long-term impact on the company's operations?
A10: We can focus on the company's pipeline.
Risk disclosure and disclaimer for this article: Dolphin Analyst Disclaimer and General Disclosure
